Strategic alliances are pivotal in industries like biopharmaceuticals, where collaboration can make or break innovation and success. A key yet under-explored element of these alliances is good faith provisions – clauses that require parties to act with good intentions and fairness but that are often ambiguous and unpredictably enforced. In a new study, we explore when and why they are used in strategic alliances.

Understanding Good Faith Provisions

Good faith provisions are rooted in “honesty in fact and the observance of reasonable commercial standards of fair dealing” (United States Uniform Commercial Code, Section 1-201(20)). They allow parties to maintain flexibility in contracts – and make changes easier, faster, and cheaper – while navigating future uncertainties. However, their vagueness can result in costly disputes, as seen in the prolonged legal battle between pharmaceutical companies SIGA Technologies and PharmAthene from 2006 to 2015, which ultimately led to SIGA’s bankruptcy.

The Role of Cognitive Frame Similarity

Our study introduces a novel perspective by examining the role of cognitive frame similarity – the degree to which organizations share values, beliefs, and cognitive orientations – in determining whether they include good faith provisions in alliance contracts.

Our central hypothesis is that partners with greater cognitive frame similarity are more likely to incorporate good faith provisions into their contracts. This similarity provides a social cue that the partners will likely align in their interpretations of contingencies, reducing the need for detailed, explicit contractual terms.

Technological Uncertainty and Alliance Experience

Our study also explores two conditions that influence the relationship between cognitive frame similarity and the use of good faith provisions:

1. Technological Uncertainty: In cases of high technological uncertainty, such as early phases of drug development in the biopharmaceutical industry, the reliance on cognitive shortcuts like social cues increases. Consequently, alliance partners are more affected by the social cue of cognitive frame similarity, and the relationship between cognitive frame similarity and the use of good faith provisions is amplified when it is especially difficult to foresee what will happen.
2. Alliance Experience: Conversely, as alliance partners accumulate more experience, they tend to rely on established routines and templates, reducing the influence of cognitive frame similarity. Experienced partners are less likely to let the degree of cognitive frame similarity affect their use of good faith provisions, as their negotiations are more structured.

Methodology and Results

We analyzed 1,225 biopharmaceutical alliance contracts to reveal that cognitive frame similarity significantly influences whether good faith provisions are put into contracts. This effect is amplified under conditions of high technological uncertainty but diminishes with increased alliance experience. Our study also introduced a novel, text-based measure of cognitive frame similarity, using the language of organizations’ “About Us” web pages to quantify this similarity.

Genuine vs. Guarded Good Faith Provisions

Our study further distinguishes between what we term genuine and guarded good faith provisions. Genuine provisions rely entirely on the partners’ ability to resolve issues in good faith, while guarded provisions include fallback options if good faith negotiations fail. Our results suggest that cognitive frame similarity has a stronger impact on the use of genuine good faith provisions, where interpretative alignment is critical, compared with guarded provisions, which provide more interpretative certainty.

Implications for Practice and Future Research

Our study offers important implications for both theory and practice. First, it contributes to the understanding of interorganizational governance by highlighting good faith provisions as an intermediate form between relational and contractual governance. Second, it offers a socio-cognitive perspective on strategic alliances by introducing cognitive frame similarity as a key factor in governance decisions.

For practitioners, our findings underscore the importance of understanding the cognitive dynamics at play in contract negotiations. Negotiators should be aware of the subtle influences of cognitive frame similarity and its potential impact on contract design. While good faith provisions offer flexibility, they also carry the risk of misaligned expectations, which could lead to costly disputes.

Conclusion

As strategic alliances in innovation-driven industries become increasingly important, so does understanding the cognitive underpinnings of contract negotiations. By focusing on cognitive frame similarity, our study provides insights into how organizations can navigate the complexities of good faith provisions, potentially leading to more effective alliances.

This post comes to us from Lorenz Graf-Vlachy at TU Dortmund University and ESCP Business School, Marvin Hanisch at the University of Groningen, Carolin Haeussler and Andreas König at the University of Passau, and Theresa S. Cho at Seoul National University. It is based on their recent article, “Kindred spirits: Cognitive frame similarity and good faith provisions in strategic alliance contracts,” available here.