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Using Game Theory to Optimize the Pace of New Technology Adoption
  • How do you encourage speedier adoption of your product or service?
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  • How do you extract more of the value created by your product or service for yourself?

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risk management

  • An Example of Game Theory in Risk Management

    This analysis was co-authored with Norman Marks, CPA, CRMA and originally posted on his blog.

     

    Many liked the post on Risk and Game Theory with Ruth Fisher (my co-author on the piece). We were asked for more, especially an example or two.

    As with the last post, I will set the stage and then Ruth will share how game theory can be used.

    This is more an article than a blog post, as the explanation of how to solve the problem takes a while. It is also, at times, complex. If you want, you can skip some of the technical stuff (equations and so on).

    The main thing, for me, is to understand that the optimal action to address the identified risk has to consider not only the perspective of the ‘owner’ of the risk (Management) but also the perspectives of the other two parties (the Employees and Competitors). Game theory factors how the other parties will react into the process of making the decision of how to respond to the risk.

    Your comments and reactions are welcome.

    One of the risks identified by many organizations as significant and included in the risk disclosures required in corporate filings, such as the annual and quarterly filings with the U.S. Securities and Exchange Commission, is the loss of key personnel.

    Here is an extract from IBM’s 2016 Annual Report on Form 10-K:

    The Company Depends on Skilled Personnel and could be impacted by the loss of Critical Skills: Much of the future success of the company depends on the continued service, availability and integrity of skilled personnel, including technical, marketing and staff resources. Skilled and experienced personnel in the areas where the company competes are in high demand, and competition for their talents is intense. Changing demographics and labor work force trends may result in a loss of or insufficient knowledge and skills. In addition, as global opportunities and industry demand shifts, realignment, training and scaling of skilled resources may not be sufficiently rapid or successful. Further, many of IBM's key personnel receive a total compensation package that includes equity awards. Any new regulations, volatility in the stock market and other factors could diminish the company's use, and the value, of the company's equity awards, putting the company at a competitive disadvantage or forcing the company to use more cash compensation.

    Assessing this risk is not simple.

    Arguably, the risk is different for different groups of personnel such as:

    • The CEO
    • The direct reports to the CEO
    • Their direct reports
    • Middle management
    • Individuals with critical skills or knowledge, such as those leading innovation and product development
    • Other personnel where the loss would be significant but replacements might be found within a reasonable period

    So let’s focus on the risk of losing people in the critical skills or knowledge category.

    IBM’s discussion focuses on losses due to others offering greater compensation. No mention is made of losses due to employee morale problems and so on – so I will focus on compensation.

    At first blush, this may seem fairly straightforward. But in real life identifying the risk, assessing its level, and evaluating whether it is acceptable is only a start.

    It can be quite complicated, even for what seems a simple risk like the potential to lose people, to figure out what to do about it.

    Most risk managers, unfortunately, don’t pay enough attention to the response to risk.