In Business, Risk-Taking Doesn't Always Start at the Top

Fortune 500 companies may have a useful lesson for small business owners. New research has found employees — not executives — are the ones most responsible for risky decisions at companies.

To prove this, Charles Whitehead, a professor at Cornell University Law School, looked at the relationship between executive compensation at financial firms and recent economic turbulence. In his study, Whitehead found no correlation between the pay of top executives and the risks taken at those firms.

Instead, risk in those companies could be tied to junior executive compensation and the demand for talent in the labor force. Whitehead found that junior executives were more likely to make risky trades to improve immediate performance in order to cash in on a new higher position at another company. Those workers were then able to move on before the consequences of those trades were felt at their old companies.

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"We often think of competition as benefiting the marketplace. It forces companies to keep prices low and quality high or, in the case of staffing, it helps in allocating the best employees to the most profitable firms," Whitehead said. "But competition can also have its costs."

The takeaway for small business owners is significant, but business owners are far from powerless in their ability to prevent risks at their companies.

First and foremost, small business owners can curb the risky decisions of their employees by ensuring their employees are happy in their jobs. Though many small business owners may not be able to offer their employees big cash bonuses, they can use perks to make up for the lack of cash. Companies can also try to avoid bonuses tied to performance, since many of the workers in the research were driven to make riskier investments to improve short-term performance.

Additionally, small business owners can also protect their businesses from rogue employees by ensuring there are checks in place at their business. In the research, many of the financial decisions made by junior executives cost those firms billions of dollars. Small business owners can try to prevent losses by having a system of checks and balances to limit the power and decision-making ability of certain employees.

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