Using Game Theory to Negotiate Win–Win Payment Terms between Contractors and Subcontractors

Abstract

The construction business is known for its fierce competition among contractors and intensive outsourcing to subcontractors. Contractors compete for projects from owners by offering the lowest bid prices based on the lowest subcontractors’ quotes. However, interactions between contractors and subcontractors are typically adversarial, with contractors imposing stringent contract terms and subcontractors raising their prices in response. This dynamic prevents both parties from achieving mutual gains and inflates overall construction costs. Consistently, subcontractors stressed the significant impact the payment terms have on the consistency of their cash flow. Thus, the demands of both parties open opportunities for mutual negotiations, wherein the contractors offer better payment terms for subcontractors in exchange for subcontractors offering subsidized quotes. However, there are limited studies modeling these interactions to demonstrate their potential to achieve win–win outcomes. To this end, this study introduces a prebidding negotiation process between contractors and subcontractors to establish win–win payment terms employing a nonzero-sum, noncooperative, and dynamic game-theory method. A case study that describes a two-party game between the contractor and one subcontractor illustrates the proposed method. The outcomes demonstrate the method’s ability to significantly increase the payoff for the two parties. The results also highlight the benefits of negotiating flexible payment terms between contractors and subcontractors in reducing the overall construction costs.