The agency problem and having skin in the game

Never trust a vegan butcher

My favourite book (in the last 10 years at least) is Antifragile. Taleb identifies ‘the agency problem’ as one of his pet hates: Never get on a plane if the pilot is not on board. The agency problem is simply translated: there is a problem when a person has no ‘skin in the game’.

In (large) corporations this is an obvious and major problem because the decision-maker suffers no/little negative consequences for the decisions that they make. Modern executive compensation options superficially attempts to address this, but when the shares are only ever given (never taken away once ‘earned’) and the shares are allocated (via non-recourse loans) there is only upside and no downside.

The problem extends of course to other spheres in life. A stockbroker who recommends a stock but suffers no consequences from his/her error is an example of the agency problem. A doctor will perform an operation or prescribe pharmaceuticals that they may not willingly take up themselves.

By the same token, consultants advise businesses on strategy and execution with absolutely no skin in the game. And this is an issue (retail) executives  must deal with.

Right now retailers are faced with many decisions and particularly decisions that are driven by technology and the internet. They feel compelled to act and they are inundated with advice. There has never been a more important time in our generation for retailers to effect a real step-change in their operations.

To overcome this problem, consider these three steps:

#1. Ignore all unsolicited advice.

Whoever gave it has no skin in the game. If a vegan is manning the barbecue, run. (How is that for some free advice?). Free advice is worth what you pay for it, so there is really no harm.

You have to learn to trust your own judgement, experience and intellect. Corporate managers find this scary. They use market research as a substitute for thinking, because whatever they decide has to go into a board paper which is an exercise in political judgment, not strategic thinking.

#2. When you procure advice, make sure the outcome is tied to the advisor’s remuneration. 

On personal note, we offer this to clients but more often than not they are more comfortable to pay a lesser, fixed amount than potentially paying much more even if there is more upside. 

Businesses often insist on knowing an hourly rate when it is clearly not in their interest to buy services based on an INPUT. This is a classic example of the agency problem in action when they prefer certainty of the cost (input) to the potential of positive upside (output).

I am not suggesting you don’t use consultants; there is a time and place for that, but HOW you structure the relationship is very important.

#3. When you do decide to act on advice, consider whether acting is the right decision at all. 

Taking no action – purposefully and mindfully – is a legitimate form of action and very often it is a more informed strategy with a higher chance of success.

Of course, if you do nothing, nothing gets done. We all know and we all agree. But when you act is arguably more important than the act itself. Timing is really everything. And THINKING is a prerequisite for getting your timing right. Action for the sake of the action is worse than no action at all.

The agency problem is an insidious one. The people (executives and managers) who must recognise the problem and mitigate its effects are actually the agents! It is extraordinarily difficult to manage because it means making decisions that might not be in your personal interest and that is a big ask. Involving smart, ethical consultants can prove invaluable but only if executives also manage the agency problem of the consultant who does not have skin in the game.

Dennis Price

GANADOR: Conceiving and implementing SMART solutions to create high-performance retail environments. (Get your free eBook – 101 uncomfortable truths about marketing you don’t want to know on our website or like the Facebook page for more ideas like that.)