Contract management does not stop at mastering the contract. Like many other professions rooted in the human sciences, the contract manager must understand the mechanisms, thought patterns and subtleties that shape the way we manage and negotiate contracts. In this article we explore seven cognitive biases and key psychological principles that have a direct impact on contract management practice, and how recognising and working around them can lead to better contractual decisions.
A. What is a cognitive bias?
A cognitive bias is a systematic, involuntary thought mechanism that distorts our perception of reality, and in doing so influences our judgements and decisions in often unpredictable ways.
These biases are the product of a brain that, in its quest for efficiency, uses mental shortcuts to process at speed the vast amount of information we face every day. Useful as they are for navigating complex situations with an economy of mental resources, they can also lead us into errors of judgement, hasty conclusions, or a lack of objectivity in our analysis.
They are embedded in our thought processes by evolutionary, cultural and educational factors, and they surface in many areas of life, including professional fields such as contract management (you can see where this is going...), where they can significantly influence our negotiation strategies, our risk assessment and our decision-making.
Recognising and understanding these biases is therefore crucial to developing a more balanced and rational approach to managing contracts and to other important decisions.
B. 7 biases that affect contract management
1. Confirmation bias
Confirmation bias is the tendency to seek out (and therefore find), interpret and favour information that supports our own ideas and confirms our pre-existing beliefs.
Application to contract management:
In a contract management context, this can lead us to ignore contractual risks or to overrate the strength of an agreement on the basis of our expectations rather than an objective assessment. To counter this bias, it is essential to adopt a critical and open approach, actively looking for contradictory information and questioning our assumptions, not least by talking to a project's stakeholders.
2. Framing bias
This refers to a person's tendency to be influenced by the way a situation or an issue is presented. Put more simply, this bias is close to the idea of seeing the glass as half full or half empty.
Application to contract management:
To illustrate with a concrete example applicable to contract management: presenting the outcome of a negotiation as a combination of risk probability indicators, financial provisions and deviations from a contract policy, or conversely presenting that same contract by highlighting the concessions obtained from a counterparty, the measures taken to reduce risk and, more broadly, the opportunities arising from the contract, will not produce the same effect on an executive team or, more generally, on a signatory.
3. The frequency illusion
This illusion, a.k.a. the deja vu syndrome (or Baader-Meinhof phenomenon), is the tendency to overestimate the frequency or the importance of events that catch our attention or that we have recently experienced.
Application to contract management:
In contract management, this phenomenon can lead to an excessive focus on specific risks or opportunities, simply because they are fresh in our memory or because they have been widely discussed or reported.
Since the COVID crisis, for example, many contract managers have tended to be disproportionately vigilant about pandemic risk, at the expense of other aspects of the contract that are just as crucial but less "visible".
To counter the frequency illusion, it is essential to rely on a systematic and objective analysis of risks and opportunities, based on historical data and statistics rather than on impressions or recent events. It also means diversifying our sources of information and our perspectives in order to obtain a fuller, more nuanced view of the contractual issues at stake, and so avoid falling into the trap of selective attention.
4. Optimism bias
Optimism bias makes us believe we are less likely to experience negative events than we reasonably should. Its opposite is negativity bias, which leads us to see a situation through the reverse prism.
Application to contract management:
In contract management, this can lead us to underestimate risks and to place too much confidence in positive scenarios. A balanced approach, acknowledging both the upside potential and the risks, is essential to managing contracts effectively.
5. Loss aversion
This bias shows up in many contract managers, whether in negotiations or in risk analysis. It was brought to light by a study (Tversky & Kahneman, 1992) which demonstrated that the pain felt at losing something can be up to twice as strong as the pleasure of gaining its equivalent, a bias that can lead individuals to misjudge the probability of a risk occurring.
Application to contract management:
In contract negotiations, this can translate into a reluctance to explore more advantageous options because of the risks perceived. Overcoming risk aversion often means reframing decisions in a long-term perspective and considering risks within a broader framework of risk management and mitigation.
6. The Dunning-Kruger effect
Also known as the "overconfidence" effect, the Dunning-Kruger effect (a phenomenon demonstrated by David Dunning and Justin Kruger) is a cognitive bias in which people with little skill in a given field overestimate their ability and their knowledge, while highly qualified individuals tend to underestimate their competence, on the false assumption that tasks they find easy are just as easy for others.
Application to contract management:
The Dunning-Kruger effect is particularly visible in contract management. Who has never come across a colleague claiming to be "very experienced in contract management" or "very good at negotiating", with no specific training and no particular aptitude? The consequence is generally the same: too superficial an approach to the discipline, poorly run negotiations, underestimation of the complexities or the risks involved, and so on.
7. Anchoring bias
In a negotiation, the anchor is a reference point. Once that anchor is set in someone's mind, it becomes the starting point, or at the very least the benchmark, for the whole negotiation that follows. The anchoring effect occurs when we rely too heavily on the first piece of information we receive in order to make decisions.
Application to contract management:
In contract negotiations, this can mean that the first offer put on the table unduly influences the final outcome. One strategy for avoiding this effect is to prepare thoroughly, setting your own estimates and limits in advance on the basis of objective criteria.
There are many ways of creating an "anchor" or reference point for each point in a contract negotiation.
Conclusion
Awareness and understanding of cognitive biases and psychological effects can greatly improve contract management practice.
By recognising these innate tendencies and adopting strategies to mitigate them, contract managers can navigate the complexity of contract negotiations more effectively, avoid decision-making traps, and steer their organisations towards more strategic and more beneficial agreements.