Why Winning CEOs Don’t Just Play Defense When Hiring

In a now-famous experiment, the psychologists Daniel Kahneman and Amos Tversky presented subjects with a very difficult scenario. They were asked to imagine the outbreak of a disease expected to take 600 lives and to choose between two different paths of intervention. The first had a 100% chance of saving 200 lives and the second had a roughly 33% chance of saving 600 lives but a 66% chance of saving no one. Given this choice, the vast majority of subjects opted for the first option. But when the exact same scenario and options were framed in terms of lives lost—with the second option now offering a 33% chance of saving everyone—the experiment subjects flipped their choice to the less-certain alternative.

The psychologists were describing the simple rule of “loss aversion” that guides so many of our decisions—including those of hiring managers. In their quest to avoid the risk of a mis-hire, many hiring managers will turn down candidates for anything they perceive to be a negative sign. This scenario plays out again and again in HR departments across the country and constitutes a significant opportunity loss. By playing it “safe” and attempting to hedge their bets against failure, hiring managers and their firms are missing out on candidates who could create substantial value for their firm.

Hiring like a poker pro

Unlike the experiment subjects and hiring managers, poker pros don’t allow fear of loss to drive their decisions. In the world of poker, constantly assessing risk and reward matters much more than how many hands you win or lose. Poker pros take the long view, thinking more about the size of the pot than the chances of winning or losing individual hands. This does not mean the best poker players consistently take enormous risks. Nor do they consistently play a conservative game. Instead they take large, calculated risks when the rewards are on average high.

One CEO who thinks like a poker pro is Inanc Balci, the co-founder of Lazada, often called the Amazon of South East Asia. “Most hiring managers try to avoid hiring poor performers,” Balci explains. “I focus most of my effort on making sure that I don’t turn down star performers.” So far, his philosophy has paid off. Balci recently led the sale of a majority stake in Lazada to Alibaba Group for $1.5 billion.

Hiring for net value

Most CEOs aren’t like Balci, however, and most companies punish failure more than they reward risk-taking. In these environments, loss aversion implicitly guides decisions, costing these firms substantial returns on their hiring investments. Here’s how Kahneman and Tversky’s experiment tends to play out in a hiring context.

Assume you are choosing between two candidates:

• Candidate A has an 80% chance of yielding $1M in profit and a 20% chance of failing, resulting in a net zero loss.

• Candidate B has a 40% chance of yielding $4M in profit and a 60% chance of failing, also resulting in a net zero loss.

In our experience, very few hiring managers would opt for Candidate B even though the latter, on average, yields a two times higher value.

Just as poker players must weigh risk and reward, there are instances when going with the candidate with the highest average value may not be the right choice:

1. The scenario with the higher average value has a fairly high probability of disaster. Just as you wouldn’t put anyone questionable in charge of safety at a nuclear power plant, you probably don’t want to hire a manager who is almost certain to clash with your best employees and poison the culture.

2. You can easily adjust your decision in one direction, but not in the other. For example, in order to improve marketing outcomes you could either hire at the director level, risking $200K if they don’t work out, or gamble on a CMO with a multi-million dollar parachute. You might want to hedge bets and start with the director-level hire.

How to Move From Defense to Offense

In a famous paper “Risk and Uncertainty,” Paul Samuelson described offering a colleague a bet on a coin flip which could win the colleague $200 or lose $100. The colleague said, “I won’t bet because I would feel the $100 loss more than the $200 gain. But I’ll take you on if you promise to let me make a hundred such bets.” Companies can take this insight to heart by evaluating hiring success and failure at an aggregate company level rather than dinging managers for individual hiring mistakes. They can also shift their collective focus from screening out potential mis-hires to screening in potential rock stars. The key to this strategy is to move from a culture that penalizes individual hiring mistakes and failure to one that rewards strategic bets and risk-taking.

Unlike the subjects in Kahneman and Tversky’s experiment, hiring managers are rarely making choices based solely on their personal instincts and values. They are guided by the norms and values of their company culture. If your hiring managers are driven primarily by fear of failure and myopic when it comes to spotting star talent, it’s probably because playing it safe is implicitly valued and rewarded. Companies that want to avoid missing out on potential value can establish and encourage new norms and values. And they can take their lead from pro poker players: focus on the size of the pot, not on individual hands.