In professional service firms, the difference between partners and employees is often illustrated in their degree of “Skin in the Game,” as coined by Nassim Nicholas Taleb. Partners bear both the upside and downside of their decisions, while employees typically enjoy a compensation program, shielded from the firm’s potential losses.
Not everyone should, or indeed can, ascend to the partnership. Employees often harbor the hubris that they are entitled to partnership status. However, once they understand that becoming a partner means sharing in the downside, the luster of partnership often dulls. A partner’s decision to invest in a risky venture, for instance, could lead to significant profits (first-order consequence). But if the investment fails, the firm could suffer substantial financial loss (second-order consequence), and in the worst-case scenario, the firm could face bankruptcy (third-order consequence).
The analogy of a dog versus a wolf is insightful in this context. An employee, like a domesticated dog, feels safe and comfortable, with a stable supply of resources. But without its owner, a dog may struggle to survive. In contrast, a wolf, akin to a partner, is trained to survive in the wild, adapting to changing circumstances, weathering hardships, and hunting for its sustenance.
Another example of the contrast between partners and employees in a professional service firm is the “tragedy of the commons”. This refers to the exploitation of shared resources due to individual self-interest. In a professional service firm, this could manifest when employees overly focus on their individual success, neglecting the firm’s long-term strategic interests.
Partners and employees differ because of skin in the game. However, partners also differ from Founders.
Founders of boutique professional service firms are like artists as they have soul in the game, not just skin. They create for the love of creation, putting their reputation on the line with each piece. In contrast, partners take calculated risks. Founders often make better risk-takers because they are driven by passion, not just profit.
A concept to keep in mind when contrasting partners and employees is the agency problem. This arises when the decision-maker doesn’t bear the consequences of their decisions. For instance, a manager with no skin in the game might decide to cut costs by reducing staff, boosting short-term profits and their bonus. However, this decision could lead to lower service quality, damaging the firm’s reputation in the long run.
No amount of compensation can alleviate the feeling of shame when one’s decisions lead to negative outcomes. This is particularly pertinent in professional service firms, where the firm’s reputation is often closely tied to the individual’s reputation.
Long-term employees can become akin to housebroken dogs. They might be loyal, dependable, but often lack the hunger and drive needed in a partner. This is an issue in today’s market, where employees are loyal not to a company, but to their employability. They are often more concerned about maintaining a pristine reputation to keep their options open with potential employers.
Finally, it’s important to note that partners can inadvertently create a form of ‘slavery’ by overpaying employees. High salaries can make employees feel trapped, unable to leave due to the golden handcuffs. This aspect is often communicated to employees to ensure they understand the trade-off. It’s a stark reminder that a dog may feel safe with its owner, but without the owner, it may struggle to survive, while a wolf, like a partner, is always prepared to fend for itself.
If you are considering an employee for partnership, be careful.
Here is a tool to help when facing this decision. It can be used as a self-assessment by the employee or as a guide for performance reviews by the Founder. It’s not a definitive measure of an employee’s potential for partnership, but it provides a comprehensive view of the qualities and skills required.