Understanding Risk

In a generic restaurant there are four players: owner, cook, waitress, dishwasher.

  1. The owner risked her capital to start a business–she is a capitalist and entrepreneur. She had to lease space, renovate, get licenses, and buy equipment, all before being able to generate revenue. And after all that she has to buy inventory (food) that will allow her to generate revenue. A typical restaurant can easily have $1000 worth of food in inventory before opening the doors (not including alcohol). With the idea being that it will turn into $4000 worth of revenue. The owner had to put up that $1000 in order to generate $4000, some of which has to pay rent and bank loans.

And all of this has to happen before she draws salary. It’s not uncommon for a restaurant to take a year before it posts a profit. (it typically takes three years for a vineyard to turn a profit). Chances are that during that year, the owner is living off her savings (capital) in the hopes the restaurant will be successful (generate profit). If customers don’t show up, the restaurant fails, she loses it all, and will be forced to give the food away to a charity and sell the equipment at auction.

That is risk. Without the evil capitalist there are no jobs, unless of course we all want to eat at the government cafeteria.

  1. The chef/cook is a skilled tradesmen. She risks her time, in that her ability to develop her skills impacts her future earnings. A year spent in a failed restaurant may make her worth less than a competing chef at a successful restaurant. But note that she’ll still be paid her hourly wage for showing up and cooking. This is opportunity cost, the lost potential. She needs to keep improving year after year in order to increase her earning potential.

I see this position as having shared risk. The restaurant will invest in a chef hoping she will bring in customers. The chef invests in both herself and the restaurant, hoping to improve her career. This is where you will see profit sharing and bonuses tied to performance. But you will also see the understanding that in skilled trades the “profit” is based on earning potential, not directly as income.

That is why with skilled trades it is expected that salary will increase with time, since their skill increases with time. After a year, the cook is worth more, and will demand more, but only if she improved her skills sufficiently. If customers don’t show up, the cook will still be paid, but her earning potential will likely be lower as a result. It is also possible that the restaurant doesn’t need more skill. If the cook wants more money she’ll have to move to a different restaurant.

Hence, the cook invests in herself. But this position is being increasingly eliminated in favour of pre-fab food out of a vacuum sealed package. Skilled cooks are expensive, machines to prepare massive amounts of gooey alfredo are not.

  1. The waitress works on tips (aka she is a salesman working on commission). She also bares some level or risk. However, her income isn’t so much dependent on the success of the restaurant, but instead on a combination of its popularity and her ability to sell. When she chose to work at that restaurant, she risked the marginal increase had she worked somewhere else. But unlike the chef, this does not impact her future earnings.

She thus has an agreement with the restaurant to share some of the risk. Showing up to work doesn’t get her paid. She needs to show up, have customers, and push the alcohol sales.

If customers don’t show up, the waitress won’t be paid, but her earning potential likely won’t change.

This position is also frequently eliminated in favour of walk up counters, and highschool students.

  1. Dishwasher*: He represents unskilled labour and thus risks nothing. If he shows up (sober), and washes the dishes, he’ll get paid. He is a valuable member of the team, and is paid accordingly. But his wage will be industry standard, and thus there isn’t an opportunity cost associated with where he works. He doesn’t get to improve his skills and thus his income. His salary is thus dependent on availability of other dishwashers. There are times when it’s hard to find dishwashers, so his salary will go up. Other times there are lots and his salary will go down. This is known as the law of supply and demand.

If customers don’t show up, he still gets paid. If the restaurant closes he gets the same job some where else. His salary and earning potential are entirely dependent on the health of the restaurant industry. Lots of restaurants means more jobs means more money. If a bunch close at the same time there will be too many available dishwashers and his salary will go down.

What’s important for this discussion is that the dishwasher doesn’t carry any of the risk, and thus doesn’t get any of the reward. If the restaurant closes the owner loses her capital, and with that the ability to open another restaurant. The dishwasher loses his job, but not his ability to go to another restaurant.

What’s even more important is that the dishwasher always has the opportunity to save and start his own restaurant is he wants to share in the profits. But with that comes actual risk.

*Dishwashers are awesome, and nothing here should be construed as disparaging remarks towards dishwashers.

Sure, I agree with your overall assessment of decreasing or increasing risk. Obviously the owner takes the greatest risks but has the greatest potential for reward. The others take decreasingly smaller risks and decreasingly smaller potential for the reward (a lot of times the main chef in a restaurant has an actual stake in the enterprise though, but it would still be less risk than the owners).

It shouldn’t really be a debate, but I’m guessing that it will turn into one. :wink:


is this a spin-off from the What Should Replace Capitalism thread, where some were arguing that workers get a share of the profit?

I’d title the thread “Understanding Small Business Risk.”

Someone’s sure to show up and go on about how the evil white company hates the dishwasher because he’s brown skinned and poor, and how the company should pay him a wage of 10 dollars an hour because he should be loved, or some other softheaded BS like that.

Why? Do people who invest in and create large businesses have no risk? Do large companies never fail? Do investments in large businesses never fail? Are they all sure fired, guaranteed risk free deals?

There is risk in everything, and as your rewards go up so do your risks. Rich people can become poor people if they fuck up badly enough, and don’t understand risk.


Unless you are a CEO of a bank or investment firm in which case you can apparently bring your company to the brink of ruin, smash the global economy and collect record bonuses for doing it.

And even if they did lose their job they have golden parachutes that keep them from sharing anything like what we would call risk.

Capture a southern continent first.

Personally I was hoping it would be a sticky that people could refer to if ever they thought that labour risked as much as the investor.

It has showed up in almost all of Le Jacquelope’s, as well as the union busting threads, most recently here:

There is a misconception that employees are entitled to share in the profits, because there is a misconception that employees share in the risk.

Both a coal miner and a firefighter face risk in the form of injury/death, and in both cases each understand that risk and are compensated for it. If the level of risk is too high, they are free to work elsewhere. (with that said, it is NOT okay for management to have poor safety standards and procedures).

And none of those guys lost their jobs and their reputations? None of them lost large amounts of money in their investments?? They all got large bonuses for destroying their companies and ‘smashing the global economy’? :dubious:

The fact that some people managed to skate out of what happened does not prove that CEO’s of large companies, including banks, don’t have any risks associated with their positions.

Again, that doesn’t mean that they were above risk. Most of those folks will not be able to find jobs again. Many of them took hits in their personal investments. A lot of them lost more than money (which after a certain point just becomes a marker for judging your relative worth compared to your peers)…their reputations were destroyed.


That’s a pretty good analogy, but just a couple o’ nitpicks. First, this situation only applies to a proprietorship - typically a one-person business or a mom-n-pop operation. Anything larger will usually incorporate, with a board of directors and stockholders (who may, in a small enterprise, be the same or some of the same people who run it). But the big difference with a corporation is that the general manager, who may also be the primary stockholder, will ordinarily be paid a salary. Even when a business is in the red, the manager/majority owner will still be paid that salary. It’s written off as a business expense as long as there’s some money in the till to cover it. When the corporation runs out of money and credit, it enters bankruptcy.

Also, while this is not really relevant, A vineyard usually takes more than three years to turn a profit. Three years is the time it takes to get a first crop and any kind of return from wine grapes. Table grapes do it in two. The actual time to recover the cost of planting may take up to 8-10 years.

Why we need a thread helping people understand risk.

Yes, the example provided is based on the simplest form of a business involving 4 people.

Very little changes when you have a massive restaurant chain. There might now be multiple owners and outside investors sharing the risk. In between there will be more skilled workers, more commissioned sales people, and more general labourers at the bottom. Risk is still there.

Again, misunderstanding of the concept.

Your first mistake was assuming that the CEO = owner. Share holders were the owner–they risked, and they lost. Look at the 5 year chart for AIG to understand this.

Please add this to the sticky.

The CEO is part of the “skilled trade” akin to the chef. Also note that the CEO generated HUGE profit during the “good” years. They also had opportunity cost of working at a successful financial company that didn’t go broke.

There were CEOs of companies that did very well through the recession. I can guarantee you that what ever you think of those “bonuses and golden parachutes” you mentioned, the CEOs of successful companies will get far richer having made better choices.

The crappy CEOs you mentioned are now worth less than the successful ones, and will garner a lower wage as a result.

Not sure what planet you have been living on.

Were a lot of them fired? Maybe some were but I sure never heard about a mass clean out of the top. Most kept their jobs.

As for losing money on their investments remember a lot of their compensation is in the form of stock options. Also:

I’d say they are doing fine.

CEO’s are often substantially invested in the company they run. Stock options are a huge part of their overall compensation. They may not be the majority owner (although they might be) but they do have some ownership in the company.

As for AIG:

So, drive the company into a ditch, reap rewards.

Exactly, and those options become worthless when the stock value falls. Would you like to me start a thread “understanding stock options”?

In the most simplest sense, the “option” only has value above the price that it was awarded. If the CEO of AIG got a billion options valued at $1000 per share, they are worthless at anything below $1000 per share, completely worthless.

I’d say you don’t know what you’re talking about.

I’d also say that “fine” is a relative term. Are they fine compared to you, or fine compared to their peers at companies that didn’t get destroyed?

ETA If the CEO is invested in the company the CEO faces risks just like all the other investors.

As to “$100 million in a fresh round of bonuses” the point here is, "what would they be if the company was successful? In other words, it’s all relative.

I don’t understand?

Please find me a story of some Wall Street bank CEO losing his shirt.

I see stories of record bonuses being paid (I just cited it in post #13). Even if some few schmucks lost everything most made out quite well. Show me a small business owner who could screw things up as massively as they did and not be in the poor house after losing everything.

And by “doing fine” I do not give a rat’s ass if the CEO down the street made $100 million and the poor banker next door made a mere $50 million. He may be “poor” compared to his peers but so what? He is hugely wealthy by any definition of the term.

As much as I want to agree with you, I think you’re missing the thrust of the OP. The CEO is not the owner. The CEO has not invested personal capital into the company, only managed the capital that exists. The CEO is an employee and is being paid out like the dishwasher in the OP; the owners of the company have promised the CEO that money and so it shall be paid regardless of the performance of the company. The owners, the shareholders, are in fact losing out and are not able to recoup capital precisely because they have to pay out these stupid bonuses.

At least, that’s how I understand it in an abstract sense. Specific cases may be different.

Wait…what?? The CEO of AIG who was in charge prior to the melt down lost his job and then, IIRC, refused his ‘golden parachute’. The ‘record bonuses’ were for the folks who were trying to dismantle the company so that it could be sold off to pay back what was owed the government. You seem to be going back and forth between CEO’s, executives, and high level senior management types. All of those are different, distinct positions with various levels of risk associated with them.


The cook does not necessarily get paid. If the restaurant goes very badly, and the owner goes bankrupt, the cook is an unsecured creditor, and may get part or none of the wages owing. It’s not that unusual for employees (skilled or unskilled) not to get paid because the business fails, and the risk can be higher in some kinds of industry.

That’s going to vary wildly depending on the restaurant. In some restaurants the head cook might be a stakeholder and base their salary on profits from the company (more profits, more salary…greater risk vs greater reward). But most of the cooks I know get a salary just like everyone else…and if they aren’t getting paid then like the dishwasher and the waiters they are free to take their labor elsewhere. Right? The only way I can see a head cook staying on if they weren’t getting paid is if they had a direct stake in the company.