In this article I have discussed 5 key takeaways from the book. But before that let’s understand what does "Skin in the Game" mean ? Why is it important and how does it help us in life and business ?
What is Skin In The Game ?
Skin In The Game is about SYMMETRY. If you are able to reap positive outfits of any event then you must also be responsible to take risks for it and pay a penalty for the negative outcomes and losses if the event fails to deliver and this risk shouldn’t be transferable to others, only then will you have skin in the game. This also means, THOSE WHO DO NOT TAKE RISKS SHOULD NEVER BE INVOLVED IN DECIISON MAKING.
What can be 3 implications of skin in the game in our daily life ?
1. It allows minority to rule over majority
The minority rule which means that due to rigid stubborn minority the flexible majority adopts. We can see examples of this everywhere. Most decisions made at the top, in government now or by community/clan heads earlier, are by minority then followed by the majority who are not stubborn and also not willing to fight or question it. While this is arguable as it brings inequality, in life survival of the fittest and the strongest has been the way. Does it mean exploitation of the lesser privileged ? Well, not at all. There is another way to look at it. This stubborn minority can also make rules that can be of greater good and bring prosperity. In an ideal world we would want this. What is happening today, well we see a mix of all kinds of stubborn minorities, some want to revolutionise the world for better, some work in their self interest alone.
2. Makes you smarter
When you have something at stake, when you will have to pay a penalty if you fail you will have to be smarter and you cannot afford mistakes. You have your reputation and money on the line. Skin in the Game pushes you to be smarter. It doesn't leave you with much choices.
3. Turns employees into an asset
If we see employees vs a contractor to get the job done, a contractor can be much cheaper but has no skin in the game. They have multiple projects and thus even if something goes wrong and they lose the job they will not have a major loss, they will get another contract work but in the case of employees there only source of income is your company so they will be more obedient and they also carry a risk that if they don’t perform they lose the job, that will make them pay a penalty of losing their stable source of income. Thus Skin in the Game makes these employees dedicated and devoted, thus an asset for the company.
Skin in the Game and Inequality
The risk an entrepreneur takes to earn vs. a banker/management level employee takes to earn is not equal. The latter's risk is far low. It is usually seen that people resent those who have a stable job and make a lot of money then someone who takes a lot of risk to make the same. Also, we must remember someone who has a risk also has more probability to go higher as the there is no upper limit to moving up, which exists in the case of a stable job. The inequality clearly favors those who are ready to take the extra risk.
How can Investors use Skin In the Game to their advantage ?
To both passive and active investors it is important. Let us see how ?
How does it apply to the passive investor ?
For a passive investor where you are getting your portfolio managed by someone else, like a manager, it is very important to have their Skin in the Game. They should both be a part of your success and well as the failures that happen in investments, only then will they put a 100% effort because if there is a loss they too have a penalty they have to pay. Warren Buffet applied this formula in his firm. If they do not have Skin in the Game, chances are that they will only work to get the job done.
How does it apply to the active investor ?
In big companies the investors/owners and management are different. The people running the company might not be the owners of the company. Without having the management’s skin in the game, the company can face a lot of trouble. The top management executives often have a very high salary and they will work towards short term goals like pay rise, bonuses and better services to employees, unless they have a stake/equity in the company and that equity will give them skin in the game where the profit and the loss the company shares are at will affect them. Thus giving top management level employees a stake in the company, is shares is very important.
Thus to sum up Skin In The Game is about SYMMETRY. Reaping the benefits for positive outcomes should come with a penalty to pay if the outcomes become negative. Those ready to take this risk has a Skin in the Game.
How does it apply to the VC world ?
When Venture Capitalists invest in the founders they have a huge Skin in the Game which means they would reap the benefits of the exponential growth as well as in times of failure be ready to lose all that has been put into the startup. The Venture Capitalists have a far bigger Skin in the Game than banks who give loans and reap the benefit of interest but in case of failures they would move to the secured assets they used for the guarantee. The banks, in most cases will recover the defaulted loan through other secured assets. But a Venture Capital has a lot more to gain than just the interest rate amount but also has far more to lose in case the startup fails. This is Skin in the Game that VC has.
My Experience
As an entrepreneur I feel people who have skin in the game are the people who can make revolutions happen. Unless you have a risk and your reputation, money on the line you will not push the boundaries. We all work towards making our investments and life's risk minimum but that responsibility that if something goes wrong you will be the one accountable and subject to penalty is a huge push to move to extraordinary in life.
With my personal life's example. after college when I decided to jump into entrepreneurship. my parents had a contrasting view where they wanted me to take up a stable job and thus at that time I did many part time jobs, one of them was writing for a Bollywood online blog and made some money to fund my venture but having the risk that I will have to lose my own hard earned money if I do not push myself was a motivation to constantly evolve, to pivot but to not give up and over the time the more time and energy you invest the more skin you have in the game because a lot is on stake, not just money but your time and your reputation and thus I feel for anything you do in life it is incomplete without the Skin in th Game.
This is also the reason I feel people who have a lot of protection and very less risk to lose, seldom make it big. It is those who have high risks who make high returns happen, at least try their best for it. People who have their risks transferred to family or to the company they work in lead a mediocre smooth life which can never see the extraordinary.
" Failures are the best teachers and if you fear the risk of failing you can never succeed. " - Hurratul
Rise and Shine in all you do,
Hurratul Maleka Taj
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