Invest Like the Best with Patrick O'Shaughnessy - Antonio Gracias - Pro-Entropic Investing - [Invest Like the Best, EP. 271]

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Starting point is 00:01:05 slash Patrick to learn more. Hello and welcome, everyone. I'm Patrick O'Shaughnessy, and this is Invest Like the Best. This show is an open-ended exploration of markets, ideas, stories, and strategies that will help you better invest both your time and your money. Invest like the best is part of the Colossus family of podcasts. And you can access all our podcasts, including edited transcripts, show notes, and other resources to keep learning at join colossus.com. Patrick O'Shaughnessy is the CEO of O'Shaunacy Asset Management. All opinions expressed by Patrick and podcast guests are solely their own opinions and do not reflect the opinion of O'Shaunacy Asset Management. This podcast is for informational purposes only and should not

Starting point is 00:01:51 be relied upon as a basis for investment decisions. Clients of O'Shaunicee Asset Management management may maintain positions and the securities discussed in this podcast. Today's guest is Antonio Grosquez, founder, CIO, and CEO of Valor Equity Partners. Antonio is perhaps best known for his role at Tesla as the earliest institutional investor and director from 2007 to 2021. But he is a deep operating and investing experience, having first acquired and managed a number of manufacturing and technology companies during his 20s. It was during these formative years that Antonio and his team developed the skills that led to Ballar, which provides operational expertise to high growth private companies they invest in.

Starting point is 00:02:31 Our conversation is a deep exploration of the drivers behind Antonio's and Ballar's success. We dive into his concept of pro-entropic investing, what he learned as a 25-year-old running a manufacturing business, and trust me when I say, you do not want to miss his answer to the kindest thing ever. Please enjoy my conversation with Antonio. Gracias. Tony, I was trying to figure out where to begin this conversation. I always like to dive straight into the meat of some interesting idea and not do the childhood background stuff. We'll get to that later. And because of our conversations over the last many months, I think this idea of pro-entropic companies is one of the most interesting ideas that I have personally encountered maybe ever in investing and an ideal place to start.

Starting point is 00:03:14 I would love you to walk us through this concept because I think it really defines your style of investing and is quite a bit different. of a lens than I've heard from other investors investing at a similar stage. Sure, Patrick. Thank you. It's a word we use your internally in our investment framework. And we think about lots who use the word resilient. And to us, resilient things in many companies are things that recover quickly. So when you talk to neuroscience about the word resilient, they define it as you come out of homeostasis if something happens to you. The adrenaline goes up, cortisol, whatever. And then you recover quickly, you go back to home states and make a good decision. If you don't recover quickly, then you can't make a good

Starting point is 00:03:47 decision. Proentropic, as you think about a company, if a company's resilient, it means that it recovers quickly when something happens. There's a crisis. Management's good. They figure out of pivot. They figure out of what to do. For us, proentropic, it really is a company that is good at chaos. So this kind of comes from our trying to understand and learn how to get better at not making mistakes and make great investments, right? So how do we figure out how to lower our errors and improve our successes? And we started to identify this idea that the world's getting more chaotic, a lot more chaotic, almost 10 years ago now. And the chaos was driven by the idea that de-globalization was changing the world, technological disruptions changed in the world, climate change has changed

Starting point is 00:04:26 in the world, politics were changed in the world, demographics were changing all at once. And if you think about the second law dynamics, it tells us that everything tends to entry anyway, and entropy being chaos, it felt to us that the world was getting more chaotic and we wanted to find things that were good that got better when chaos went up. And one of the reasons we invested so how they company like SpaceX, it's because whatever we could imagine was having the world, this company just got better. And it was actually good for it. And I think how we really think through it is, think about all the probabilistic outcome of the world, or Bayesian thinkers here. We think a lot about Bayesian probability trees and Bayesian updating. As you think about all the

Starting point is 00:05:03 probabilities that might occur to a company, pandemic, wars, recession, whatever might happen. How will that company respond if nothing changes? So it's strategy itself. That's a how we differentiate if we're resilient. Some things are resilient. Resilience great, too. We invest in a resilient company as well. But every once in a while, we'll find something that we think is really pro-entropic. And that, for us, is the only career investing, a company that gets better no matter what, just by virtue of what it's actually doing. It's certainly true of space-ex. We have a company called GoPuff in our portfolio, which also actually is, I think, heavily proentropic. You can believe it or not,

Starting point is 00:05:36 these guys are disrupting 7-Eleven, so it's really convenient stores. Convenient stores do well in recessions. They do well in pandemics. It's delivered to convenience store stuff. does well in almost any environment we can imagine. And they did extremely well through COVID. They're still growing very quickly. Now we can still grow through a recession. I believe that's the case because we usually community stores do.

Starting point is 00:05:52 So it's not just the super high tech stuff. It could also be things like Opuff where you're providing a very valuable service to people no matter what and they need it no matter what. That's how we think about it. And then when we find a company that's strategy is proentropic, we think about are the managers proentropic? Are the people running this company? Are they really good at understanding chaos in the world?

Starting point is 00:06:10 And the way we think about this and our different things, and resilience is that a great pro-entreper thinker is someone who is able to keep their probability state, their basing probability state, but open on options. So you're running a company, you always want to have optionality and what's going to happen and how you're going to build the company. They're able to keep that probably state open to the appropriate moment and then close it for execution because great managers, great CEOs, great executives are great strategy and the great of keeping options that's open. But then when you watch what happens, the moment's we're like, nope, we're going to close a probability set. We're going to do that thing. We're choosing one of

Starting point is 00:06:41 those paths or maybe two of those paths. We can't have 20 them all the time. If you have someone is always open state, they don't get anything done. And you've probably seen that too. We have too many ideas and we don't go anywhere. Executives that are really good at doing both of those things, opening the probability tree and then knowing when to close it and execute really hard and then reopen it. We define that as proendropic thinkers. And they rarely get knocked out of homeostasis. They're resilient too. They're usually really good at recovering. But they get knocked out of, I'd say, their regular homeostasis by events less than someone who's resilient. because they're already predicting it.

Starting point is 00:07:13 They've got a probability tree they're running already about what the world's going to look like, and their inference is running it so that what's going to look like. They're making the sins about that, and they're deciding when to toggle down and close off and when to reopen. It's been really viable to us. There's like seven dimensions of this that I want to explore, and probably the top three are the sources of chaos. So if this is all predicated on external forces of chaos,

Starting point is 00:07:36 I think it's important to understand where those come from. And then the second two are the company model and the leadership and being able to identify the potential for or the markers of proentropy ahead of time. Because I think it's often and always easier to say something's proentropic once it's benefited from chaos is in the past, much harder to understand why that might be the case in the future. So we'll start at the higher level, which is the sources of chaos itself. You listed some of those things that are constantly changing. But how do you think about that concept? Why are you confident that the chaos will continue to increase? Maybe it's just that second law of thermodynamics, but in a business context, why are you confident

Starting point is 00:08:12 betting that there will be more chaos in the future? This is an idea that really has been jessing with me for a long, long time. By academic background, I went to this World Foreign Service at Georgetown and studied at the time it was globalization. They watched de-globalization start and realize that human systems tend toward entropy, period. Second law, thermodynamics, obviously, they're applying that to more physical matter, but even humans, we tend to more chaos. We are thinking together in systems.

Starting point is 00:08:38 and our decision vectors are interacting. You and I interacting today, one plus one, and we're having these conversations, the more decision vectors are acting, the more they're acting together, the more cast they create. And as the world got smaller, so as information got easier to move around,

Starting point is 00:08:52 the internet, all this stuff happened, I think the decision factors just started interacting a lot more. So people thought as an example, that social media in the beginning that things like Facebook would lead to more democracy and social change. They didn't.

Starting point is 00:09:03 They actually led to more authoritarianism. And it was almost a surprise, I think, to people in the West that there would be governments using social media to control their populations and that then they might start movements or political movements. Chaos occurs because more people's decision factors are interacting at higher scale. That's why I think chaos is going up. I think also if you just look historically at human history, I'm not saying we're getting

Starting point is 00:09:23 more violent because actually if you look at the numbers, we're not, we just getting more chaotic. More people on the earth, more interaction, more use of resources, more scraming for resources. The first would be de-globalization. The second would be technological disruption. I've had many friends here a podcast, and I won't repeat all of stuff like Gavin Baker. that I think he's really brilliant in many things he says. I think he's talking about Carlo Perez and this idea where at the very beginning of the next industrial revolution is driven by the United States. This is 100% true. And these are the two great currents of our time,

Starting point is 00:09:49 I believe, de-globalization now and technological disruption. And it's just going to keep happening. And that means that first, the world is going to change a lot. The world we live in today is very different to where we lived in 25 years ago. It's amazing how much change has occurred. And I also think that that change is changing societies in a way that the returns on social capital are going up a lot and the returns on physical capital are going down a lot, which has the dynamic of creating this income disparity. And that's causing social problems. So that also is leading to more issues in society that are creating more chaos. And then I think there are other misogynous problems going on like climate change as an example and just the volatility that people

Starting point is 00:10:28 feel in their environment. I believe we'll adapt to it because humans are highly adaptive, but our grandchildren will not be living in a world that looks like this one. And I think it will look very different. How different? I don't know. I think technology will adapt. So we're so having decent lives. But there are parts of the world, place in the world where it's already fundamentally

Starting point is 00:10:46 changed the way people live. And that's quite difficult. And I tell you the last thing I think about is, when you have these events, things like COVID, I think that the amount of connection, social media, the disconnection of people in socializing face-to-face and having the regular social connections that we had as kids, the friendships, the family, all this stuff that really supported us and gave us some stability in very uncertain times, this is fractured. And I think it's fractured globally. And you can look at the numbers on the number of kids that had psychological problems, a lot of depression, a lot of

Starting point is 00:11:17 anxiety. I think that also is increasing the chaos. What we don't know yet is all these young people that went through COVID and have experienced all these issues, what that will mean when they're 30, 40, they're on the workforce. I think there's a lot going on in a role that's increase the amount of chaos we're dealing with. Obviously, one of the most important things is being able to identify companies that might have this feature, both companies and leaders, I'm going to save the people and the founders and the leaders for the second part of the conversation. But I'm staring at the Falcon Heavy model over your left shoulder there with SpaceX.

Starting point is 00:11:47 I think you were the first institutional investor in SpaceX, as well as Tesla, as you said. I love the idea that a lot of the things that are happening at SpaceX today that we've talked about like Starlink, we're not part of the original vision of SpaceX, that these things evolve in unpredictable ways and benefit from chaos, as you've said. But how do you do that? What is the investing process when you're approaching a company for the first time and trying to answer yes or no? Does this have features of proentropic potential? What does that process look like? Are you literally scenario testing against some of these categories of chaos and change? What have you learned about actually putting this into practice, a priori, instead of drawing

Starting point is 00:12:22 the easy examples after the fact? We have an underrate framework here that actually asked this question of is it proentriper or not? Is it resilient? Is it durable? And we don't invest saying it's not pro-intrable or resilient or pro-otropic. And we are doing exactly talking about, yes, we're scenario testing. We're asking ourselves, what's going to happen in the world? And if what we can imagine happens to what we could not imagine COVID-ex example that wasn't in our option set. And I think we got lucky in the sense that the things we thought would be pro-tripe and recession or bad political environments, whatever, did well in COVID-19. And the question you ask about SpaceX and Starlink versus launch, back in 2005, we made a first investment in SpaceX. We

Starting point is 00:12:57 not think about Starlink, that's about the executives. That's about the management team. That's about obviously, Elon Musk and the rest of the folks there, the engineers there, thinking about the world. And as I said, opening that probability tree, when they see it's probably to open the probability tree and then narrowing it on to something like I shoot on because I think it's the right thing to do and it's a good business opportunity, but also the right thing to the world, frankly, that's very important. And I should tell you when we think about all this, we think about it with the guiding principle of, is this good for the world? Is it proentropic? But under the guideline of we want to invest in things and make the world better.

Starting point is 00:13:27 That is our ethos here. That's who we are. It's what we want to be. So it's got to be pro-entropic, but also when things go bad, something happens to the world, these particular companies are actually making the world better. They're serving people, providing something valuable to the world. That's also important to us. And we think about that all on the front end when we're underwriting investment. If you drill all the way down to the end source of demand for what a company is providing, is it true that pro-entropic companies tend to serve very constant basic, unchanging human demand at their base? Is it building on that Bezos concept of betting on things that won't change about humans? Yeah, I think that's probably true, actually, because what we do here, we do disruptive

Starting point is 00:14:05 innovation. We're thinking about that a lot. And almost everything you do is disrupting a current existing market that's an existing demand function. We do some, I'll call it brand new stuff, new technology platform, like we're investing in blockchain infrastructure. It's feeling a fundamental need for asset tracking. That's how we think about it. That's where we're investing in infrastructure or more than we are on the state solutions. But yeah, I think that's probably true. We think that a manned function is stable. And these businesses are all, if you look at them carefully,

Starting point is 00:14:30 disrupting the markets based on both product and cost. So our model for disruption, you have to disrupt in both axes. You actually have to make the product a lot better for consumers. And you have to make it cheaper. And cheaper can be measured as it's not just absolute dollar cheaper. It's just a lot better money for value. Right. So the iPhone wasn't cheaper than the Nokia I had right before my iPhone.

Starting point is 00:14:50 But man, it was a lot better. My dollar value trade was way better. A Tesla model three, I think, is the best valued car in the world. It isn't the cheapest car on the world on an extra dollar basis, but I think it's actually the best car in the world for the money. So that's how we think about it. And yes, you are correctly to identify these companies. They all have very stable online demand functions.

Starting point is 00:15:08 One term you used earlier that I want to make sure I understand as contrasted against resiliency and pro-entropic is durable. What do you mean by durable? And what is the full spectrum of companies if we've got pro-entropic at one end? What's the other end of the spectrum? And where does durable fit in that? Our framework is proentropic, resilient, durable, ethical, and then fragile. And we do not do fragile.

Starting point is 00:15:29 The word durable. Think of durable is almost like the little boat, the ocean, and the ocean's going up and down. Big storm comes and it survives. It's battered and beaten, but it came out the other end and it's okay. And we have done some of that in the past. In the more traditional growth, the garb kind of investing, I think that's what you end up doing a lot of. These are companies that are probably growing nicely in good economic cycles.

Starting point is 00:15:47 And they do okay. They'd survive bad cycles. and the timing of that investment matters a lot, unless we really like the management a lot. I probably don't invest in those kinds of companies. And a durable thinker is someone that is resilient, and we use a neuroscience construct here. You have something happen to you that's an event,

Starting point is 00:16:02 an actuated homeostasis. Your limbic system fires off. It impacts your prefrontal cortex who'll make decisions. So call that the limbic hijack. You can't make a good decision because you're in an emotional state. Recovering emotionally, recovering your physiological homestasis quickly makes you resilient. There are lots of people in the world that don't necessarily recover quickly,

Starting point is 00:16:19 but they're really good to just compartmentalizing, sort of shove it down. And what happens when you do that, you talk to neural scientists about this is they call allesthetic load, which is the load of stress on your brain. Think about the number of windows open at the background of your brain. We think about your brain is a neural network. The number of windows just keeps going up. They're open and open your processor spinning on this stuff in the background. Your decision quality goes out over time.

Starting point is 00:16:40 So it's both true for companies that are, have a strategy where they'll survive the crisis, they'll come through it, they'll still be there. But man, it'll be a little better beaten. And then for decision makers, who will survive the crisis, they'll come through it, but they will probably be battered beaten, and their coping strategy will not be to resolve and recover. It will be to compartmentalize and move on. And this idea of the windows are still open and processing the background means they probably won't have as much processing power available for the next thing that happens, and the next thing happens. And over time, that just adds up.

Starting point is 00:17:10 And I don't want to say that on a neuroscientist here, but I've studied very carefully. So maybe an amateur neuroscientist, I think about it as, is that stress builds up over time and what they call Alastatic load is going up, eventually it can lead to PTSD. You can get that from one event that's super terrible or from lots of events that are bad that you don't resolve. Is it fair to say that as you go from fragile up to proentropic on that scale, that as you progress, timing and valuation for investment matters less and less? Yes, very interesting. So if you look at our investment strategy, you will see that our largest checks are on the companies who are the longest. And we have this underwriting guideline here where we really don't want to invest in the company. We have known

Starting point is 00:17:48 for six months. We want to know someone when to see them through enough time that we can see a few bad things happen or stay out what they're telling us. We do some things we call short duration. If we know a sector really well, we'll do it quickly. GoPuff's example, somebody quickly. But many of our best relationships, whether it was investing with Elon early on or we have a great biotech partner named Jeff Veron, who's been wonderful for us in biotech. We know these folks over long periods of time. We follow their companies. So we're very happy to pay a higher price when the risk-reward trade has changed because we have more information. And the way we talk about it here internally is we're trying to generate asymmetric information that generates asymmetric risk.

Starting point is 00:18:21 We have an operations team here, as you know. So about a third of our people in the growth fund are doing lean operations. This is really working to scale. And we deployed a team into a company in the growth fund. We learned a lot about that company. They know about us. We're going to know a lot about how those executives think, how they execute. They're going to learn about how valuable we are as partners.

Starting point is 00:18:37 And then when the next round comes along, you have some, I'd say, very friendly kind of discussion about the rate evaluation is. And we'll write an even bigger check. And that's worked out great for us because the risk has gone down. We know a lot more. And we like scaling those positions where we have real conviction because we just have great information. The path dependency there are the lessons learned from watching an actual path versus a point estimate meeting someone for the first time.

Starting point is 00:18:59 I just think it's a really good insight. I want to return to it. But it makes me realize that I think it's important to tell the valor story too, because you've had a unique path into this style of investing. And I think coming from a more traditional private equity background in terms of style of investing towards a more technology-centric, pro-entropic type of company, very parallel -driven outcome stuff. So maybe just tell us the story of valor itself, the earliest origin days, what you were doing and how and why it evolved the way that it did. Sure. So I worked

Starting point is 00:19:27 to Goldman Sachs and left there in the mid-90s. Really, it did two things. One is I went to law school, but I didn't want to waste my time completely, so I wanted to buy a company. I had a little company when I was in college, and my mom had a store growing up, and I liked business and a couple of a family of doctors and dentists and stuff. So I wanted to be in business. This is the mid-90s. I think maybe today I probably went to Silicon Valley, but back then it was more trying to buy a company. And I bought a little planning company in Gardening, California, in 1995 while I was been in a law school in Chicago. And it played connectors. I was the naive guy who bought a plating company with environmental abilities in California in the mid-90s in the middle

Starting point is 00:20:01 of all the superfund problems. That was something you would never do if you knew if you were doing. Only someone was 24, 25 years old, super naive could ever do something quite so dumb. And then at the same time, I was a little bit smart in the sense that we would make connectors. So what they I played it was connectors and obviously the internet was taking off. And it was a way to, I'd say, be invested in the internet and work on the internet. And then what happened was over time, we integrate the supply chains. We're doing plating. And in that first company, I really learned operations.

Starting point is 00:20:24 You know, I ended up running it myself, flying back and forth from Chicago to a later run it, became to see other company, learned plan operations from the guys on the floor. I'm still grateful today to them. They taught me about the theory of constraints. They taught me about how to improve throughput in a facility like this. I speak Spanish. A lot of them spoke Spanish. And so it was a fun relationship to learn.

Starting point is 00:20:42 them and ask a lot of questions. And so then I decided to integrate the supply chain for connectors about stamping, well, in assembly, a couple of my partners I have here today, Timok's China and China Shulton joined me back then to build that company, the connector company. And we know they're taking from about $10 million to $125 million in about six, seven years and sold it. No one, just the internet bubble was peaking, bought an auto parts company that had factories in the U.S. and Mexico that was doing coatings as well in the late 90s just so I was fishing law school, actually, and then fixed that. It was a bit of a turnaround and sold it. And then invested also in PayPal.

Starting point is 00:21:12 and Anthony for the technology companies because I knew people in these areas. And part of the law school store was fun. I ended up investing in PayPal, which is how I met Elon and some of those folks, was because David Sachs, who was the chief product officer at PayPal, was my law school classmate. And that's actually how this whole started. And this is quite funny, the first day of news to orientation. There was an actual Facebook. This is before Facebook.

Starting point is 00:21:33 So there was actually a book. And David saw that were to Goldman Sachs and he didn't want to be a lawyer. He gone to Stanford and Peter, two old friends of Stanford, he came and found me. So we started talking. We actually missed the 1-0 boost cruise and went to Lincoln Park, went to a bar, hung out, and became good friends. And he and another classmate named Scott Stein, they became roommates.

Starting point is 00:21:52 And those two guys carried me to law school. So I stopped going to class completely to show them up for exams. They came to their notes and helped me learn the stuff. I read the books. And we became really good friends. We're still friends today. But that's actually how I got through law school and was able to do this other stuff as well. I want to come back to the transition into early valor.

Starting point is 00:22:08 But you mentioned theory of constraints. And I want to talk about operations and the operations. and the operations work that Valor does, I think, completely uniquely relative to peers. Discuss that concept. What is the theory of constraints? Why is it so powerful? Do you think it's universally applicable in business? Or is it more applicable to certain kinds of businesses?

Starting point is 00:22:25 I think it's universally applicable. I recommend to anyone business podcast, the goal. When I was trying to figure out of this factory and I didn't know what to do, I went to a friend of mine who was a business goal and said, which I read. And he told me read this book called The Goal, which is great. And it really comes out of physics. So, last we're talking about the second alternative amics, the theory of constraints, These all are concepts that are existence out of physics.

Starting point is 00:22:44 And it's simply that a system operates at its slowest limiter. In the plating context, an example, we had big long lines, 100-foot long lines that had plating nickel, gold, et cetera, going on to polymer in copper substrates. And the slowest thing in that line, the plate was nickel. And I asked the question one day of one of our platers, it's your way to make this go faster please. It was a second shift guy.

Starting point is 00:23:03 And he said, oh, yeah, there's a way to do it. The guy that ran the company before you. He had three nickel bars, and now we have one. And we go one third is fast. So I went to go talk to the chemist and I asked him question what's going on. And he's describing Ferris law. If you have an aqueous solution and you put a current through it, basically the current dissipates in the center.

Starting point is 00:23:19 So if you make the bath longer, you've got to slow the whole thing down to get the right amount of plating on the part. And we went, let's take it out of three nickel baths. Well, it takes one extra chemist. It's going to cost pretty much nothing. Okay, let's do that. That's an example. It's a closed system and a closed system like this, the thing that limits its speed is the

Starting point is 00:23:35 slowest element. That was really how I started thinking about closed versus open systems theory. And first I started thinking about entropy, which is when you're thinking about entropy, it's actually an open system. The world tends to reach more entropy. It's because the system is open. When you have these very close systems like a manufacturing facility, you don't have as much entropy inside, which you have is this idea of constraint-based thinking. In this case, it was driven by Faraday's law. But it happens in pretty much any business I've seen, our business here, or in the asset management investment business.

Starting point is 00:24:00 We think about it this way. We know that our constraint should always be in our operations teams. We're continuing hiring operations people. We could invest more capital. There's more good opportunities we have in operations. people to help them. And so we think about this as our portfolio size and on capital managing is driven by our ability to serve our companies. In our business here, we define our customer as the company you're investing in. Our operations work, the lean stuff we do for them is the

Starting point is 00:24:24 viable service provide them. And so we know that that's our primary constraint and everything else revolves around actually being able to make investments that are really, really good. But the thing that limits how many investors are making here, can we serve them? I get to run into the business where if we really thought through it with the executives, they weren't constraint-based thinking. It's one of the things, by the way, that I really enjoyed about working with Elon all the years because he's a physics background. He 100% thinks this way. And most of the great executives I've met, whether they know they're doing it or not, actually think this way. What part of my business I'll work on today to make the whole system go faster? And if things are high quality and high

Starting point is 00:24:58 speed, typically the product is good, the customer is happy. Velocity's going up. But if you're improving velocity and quality, your business is getting better. If I was a founder and I was considering taking money from Valor versus some other great investor, and I was really honed in on this operation support that Valerie uniquely provides, is the right way for me to think about that, that effectively someone that's an expert at this idea of the theory of constraints is coming into my business and applying that thinking or teaching us that thinking? And what else is in that package? If I'm thinking about that thing as a product, is that the primary feature and what are the other features? We do it a couple layers down from that. So we would ask you the question of, hey, what are the

Starting point is 00:25:34 top three problems you have in business? And you might say to us, hey, I've got to grow my sales team faster. And we would say, okay, we know how to do that. And we have people that are really good at sales operations. And what they will do is come in and current state map your sales functions, example, and sit down with you and your team and decide what the future stable look like and then help build those processes. And I'll be hard.

Starting point is 00:25:53 And people put in place to make that happen typical over three to six months. And our teams are doing that kind of thing. So it's interesting because we don't use the same language. Now we use the language of lean. Because along the way from the 90s to today, lean rubric entered the American Lexicon from Japan. And lean is the theory of constraints plus quality improvement with this system, this high-end system they use, which we do it as our current state, future state mapping exercises.

Starting point is 00:26:17 So we'd probably use more of the lean language today. You tell us your problems. And usually what happens is one of those problems we don't have to solve. And our product set is built around that. We can do sales growth optimization, we do business process improvement. We do quality improvement. Usually someone has a problem that lays inside of one of these areas. You've got the hands-on operating experience yourself, applying some of these lessons to improve

Starting point is 00:26:36 the business by 10x or more. And then you transition into this more traditional, I'll call it, private equity structure where the product is that you're deploying capital. It comes with this operational support. What are the next couple of chapter headings that you think are interesting in Baller's own story? Maybe leading up to that first investment in SpaceX in 2005, at 01 to 05 era is really interesting to me. We sold our first companies, the early 2000s, and decided to go to the fund business because you call them fundless deal sponsors, but we were young guys trying to buy companies back then. There was no word for it. And we had a group of team of people together that I had really grown to care for. And it felt like a fellowship to us. Most enjoyable times in my career when

Starting point is 00:27:14 you're dancing to really care about, you think matters the world with people you respect. It's the best. It's awesome. And we had that. We have that now. We had it then. We want to keep the band together, so to speak. And it seemed that the best way to do that was with a fun. Because we had people who joined different times versus capital, quarks, et cetera. So it was just to create a future for the team. And it's always been for us 50, 50, whether it'll be entrepreneurs or continuing the fund business. And now we're scaled in the fund business. So it makes sense to keep doing that.

Starting point is 00:27:39 But when we first started, it was real like, should go buy a company or build another company, you start a company, or should go into the fund business. We went into the fund business, kept our operations capacity that we had from the early days with us and then started deploying that in the companies where we were working in the fund business. And our early days in the fund, we had this balance sheet vehicle running called Valor R&D that was doing venture. Spacex was in that back into 8,000s.

Starting point is 00:28:00 We wanted to put Tesla in that side vehicle that partners, just our capital. And we went to our advisory board for fund. one and said we want to make this investment. We need to approve it. And they were like, no, no, put in the fund. So it actually ended up in Fund One and joined the board a few years later. That's how it all started. But we also did buyouts, traditional buyouts of value-based companies in the same fund.

Starting point is 00:28:17 So we have these two things going on at the same time as technology, investment strategy that's what we like. And the buyout turnaround strategy, which we're used to doing from the old days. And the next chapter would be that going to the fund business and having both these one at the same time. My partner's Tim Watkins, who's engineering genius guru, we did a lot of work at Tesson Spaces and their places. John Sholkin, who's co-president of the firm now, it's been within 20-plus years. These guys were both great operations and investments. And then we had another partner join who's co-president firm in Wants of a Terrar in Fund 2, who is awesome.

Starting point is 00:28:45 It's a former Goldman Sachs guy and looked at our whole portfolio and said, hey, guys, I just got to point out to you that the technology stuff where you're doing non-control investing and you're helping company scale, it looks like a lot of fun, it generates a lot of return, and it's good for the world. And there's other stuff over here. It's not very fun. It generates a bunch of losses. and not so sure we're making a difference.

Starting point is 00:29:05 And rest was like, okay, thanks for pointing that out. Pretty smart. We were smart if I know he was right. And so we just, by Fund 3, had gotten rid of the old bio-business, had to change some people out. And our core group continued. John, Tim, myself, Juan, we continued together and started scaling our fund business in and around this idea of really more later stage growth equity,

Starting point is 00:29:23 technology. I think one of the first firms in the world to do that, later stage stuff. The early stage investing was still being done off the balance sheet in a vehicle of that R&D because our clients, at the time, it wasn't the thing yet. People didn't know how to classify it. So we were continued to see in Series A, early stage venture off the balance sheet.

Starting point is 00:29:39 By the time you get to fund four, the clients figure out, oh, man, you've got things like Uber. And then another important chapter is my partner, John Shulkin, created an opportunity here for the firm to start a dedicated venture fund in food tech, retail tech, sustainability, partnership with Starbucks. And he's got four or five different corporate clients there. And we've talked about we should do this or not. I asked the question, are we going to be uniquely valuable? The world doesn't need another capital allocator. And the answer was, we are going to be usable. What early stage companies will we need is revenue.

Starting point is 00:30:05 And so if our growth funds do we scale and we're having full scale, what early stage companies need is revenue, we're to create a system that helps early stage companies get revenue from these large corporates and build relationships large corporates for BizDeaf, in which they have done a great job of. And the team bears a great job of. It's been really great. We brought a partner in Richard Tate to help us do that in the venture fund.

Starting point is 00:30:21 And it's really well. We're just expanding the team out to work in more verticals now and apply the same ideas and the same methodology across the verticals. We're investing now in, consumer and I'll call it hard tech, SpaceX, blockchain, security technology, almost anything you can conceive of, but it fits inside of a rubic of proentropic, resilient, and then we can add that operation. You mentioned earlier this idea of asymmetric information, and it's interesting how the private

Starting point is 00:30:46 investing world is actually defined by something that's illegal in the public markets, which is privileged information about companies, about people. Gavin told me a lot about this strategy that you've employed that I think he freely admits he copied, which is a staged deployment of capital strategy into individual companies. You mentioned maybe starting with one going up to 100 or 200. Say a bit more about how that's developed because it's always struck me as so strange that there are very stage focused. We do Series A investments or seed investments only when one of the best advantages in this world is this ongoing accumulation of differential information that you gather as the companies grow. So say a

Starting point is 00:31:20 bit more about that because I feel like it's a really smart and interesting strategy for deployment. We've been doing this for a long time. We almost backed into it by accident because we're running our venture strategy off our own balance sheet. We learn a lot. about companies by writing small checks and just spending time with them. We learned over the years that our best manager teams, pretty much everyone misses forecasts because people are optimistic and they should be because entrepreneurs. But you miss more than 25% it's probably a problem. 130% it is a problem. You probably never recover. We have data that goes back 25 years to look at some of this stuff. It's a huge pool of data. We send a team of people out to a company.

Starting point is 00:31:50 They're very highly qualified professionals. They're obviously feeding back information or investment process. And we can know that company really well inside. And by the way, they can know us. It's a two-way relationship. And once that has that, it has a two-way relationship. And once that happens, you solidified a relationship. We build an information advantage. We can make a much better decision about the next check. It may come in at a higher price. We've had people ask us, it seemed fair to you that you're doing all this work,

Starting point is 00:32:09 and then you're actually creating some of the conditions that make your price higher the next time around. This stuff used to be free. We do it because we're providing valuable service to our companies. We want to make the world better. The companies made the world better. That's how we develop meaning. And we all are getting great information.

Starting point is 00:32:22 But the reality is we'd rather pay a higher price, more information, less risk. What we're trying to do is the entire distribution in the portfolio, the mean distribution over the right and increase the size of the fat tail and reduce the losses. Whether we pay 1x or 2x the price and it's a year later, two years later, and it's been de-risk substantially, it doesn't really matter. The IR may be lower. The multiple cost might be lower, but the reality is the risk we took is a lot lower. And so the investment itself, the risk-reward dynamic was much better.

Starting point is 00:32:47 We're trying to balance a really great asymmetric risk-reward equation. It's a great excuse for the concept of risk to talk probably for a while about one of the favorite things that you and I have talked about, which is the evaluation of people. And this really gets into the world of psychology. You've mentioned your foray into neuroscience a couple of times already. But I think that the ability to understand people, their motivations, the type of person they are, the type of leader they'll be is incredibly important. Certainly in proentropic companies, it probably drives the outcomes. I would love you to take us down this road that you've been on for 15 years or so into the world of psychological research, the theories or ideas that you found to actually

Starting point is 00:33:24 be helpful in investing and why? I just think this is such a rich area of understanding, and I know it's a passion area for you. Part of the start of the story of how I started thinking about this. In the same fund that we did, Tez and SpaceX, we had actually, we turned out to be a Medicaid fraud, and I was just tortured by this. These were things I did. Okay, so I'm not willing any of me. I'd made the decisions. And how could it be that I could make some set decisions, are just great, and others they're just terrible. And in very close proximity in time. And so I actually went and found a psychologist and theologian named Galen Buck Walter

Starting point is 00:33:57 who thinks about some of these questions and asked him to help me figure it out. We started thinking about couldn't create a cultural test, help us understand people better, etc. And one of the things he studies is people that have a brain anomaly, that they're big to listen fire properly and clinically call these people psychpats. The reality is that I want to be careful with that work because it's got a very negative presentation. But if you watch the movie Free Solo, you see Alex Honol, He just doesn't feel risk anxiety the same way other people might.

Starting point is 00:34:22 And some of these folks go on to great things, some of them can be criminals. And one of the things you point out to me is, look, when you have someone who might commit a fraud, and they're high performing, there's no way to figure this out ex ante. You really have to have known them and watch them because they're really good at it. And if they're clinical, they're probably already in jail. But if they're high IQ and subclinical, they're probably in your office. And that's the kind of people we try to sort out. And so he took us through trying to learn how to think about this problem of sorting out

Starting point is 00:34:48 people that really didn't fit for us in terms of values and sorting in people that were really good. And I think the key learning that I would share with you is this. He told us about 5% of the human population has this brain anomaly. And they concentrate in areas like finance, law, entrepreneurship, politics, etc., all the power professions. And we should think about it as probably 10% of the people we deal with are going to do things that we don't like. I don't feel like them. They don't fit for our values just because of the nature of how they think and the nature of their brain operates,

Starting point is 00:35:16 their actual physical brain operates. And so we changed our base rate forecast. We do base rate forecasting here on our investments all the time. What's the probability with 3x? It's probably the 5x. We weren't base rate forecasting people. Most people I talked to, if I said to them, hey, what percentage of people you think walk in your office is down for a meeting just are not telling you the truth and think it's

Starting point is 00:35:34 okay? Not that they're not telling the truth and think it's not okay, but they're not telling that you think it is okay. Most people would say none. I would have said zero before I heard this. And so we raised our base rate forecast 10%. And it's actually helped a lot because you said, think about it. that's base rate to 10%, it should take you six or nine months to figure it out.

Starting point is 00:35:49 And so one of the reasons of the six-monthing happened is, as you get to know people who can us, one of the questions we're asking ourselves, are we values aligned? That doesn't mean someone's bad or good. We have our set of values, other people there are values. And if our values are very misaligned, we found over the years that we're just not going to enjoy the experience, which means you won't be great partners, they won't be good partners for us, and that's not good for anyone. And our values here up on the wall in the conference rooms, it's humility, integrity,

Starting point is 00:36:11 or responsibility in excellence. These are things you believe in. We believe in it for ourselves. you hold ourselves accountable to it, and we want to work for people to do the same thing. It takes about six to nine months to figure out whether or not we match up on that stuff. And that's why the small check goes in first, then we get to know each other. And once we match up, I think we're a great partners. We'll go to bad for you.

Starting point is 00:36:28 We'll go to war for you. We want 100%, but got to believe that the values matched up. And then it continued, and we went deeper in the neuroscience. He brought a woman named Laura Harrison, just working on. Some of the stuff we're talking about here. She's got a PhD in the neuroscience of emotion with Caltech. And she's brilliant. Things I'm telling you about with decision-making.

Starting point is 00:36:44 have come from the work that we've had with this team of Gail and Laura and some of our folks are turning thinking about how we are understanding decision-making and how we make better decisions and how we analyze other people making decisions and soon how we can help train other people make better decisions. I remember from Peter Thiel's book where it showed the bell curve distribution and then there was this inverted bell curve where at the bottom it was nearest to the X-axis and then the distribution of founders was typically higher in these extreme characteristics. So maybe a non-normal amygdala, as you point out, is one of those things that my might define the edge of the distribution where you find a lot of entrepreneurs, founders,

Starting point is 00:37:18 power positions, et cetera. So walk me through a little bit more that understanding the line. Is it generally true that the people that have been behind the most successful companies you've been involved with maybe are unique in this way. Their amygdala is different or something else about their psychology is different. I definitely think it's true. Their brands are different. And it is probably small differences, but they're different. The ability to take pressure and still think clearly is very important. Most people, when they're under extreme pressure, and the risks are very high, so ex-extuals to a company, and the pressure is very high, their emotional system will go off, their Olympic system will go off, and they'll make bad decisions.

Starting point is 00:37:55 Fairnos, how do you reconcile that? It's because that's a series of bad decisions occurred, because they were probably feeling in a high-threat environment because they were going to fail, and they just started doing bad things, and one after the other, the other gets deeper and deeper. The great executives are those that are under that pressure, and they actually make better decisions. They are pro-entropic thinkers. That's where it comes from. And I'm brain-scanning these folks. My impression is that many of them are actually very compassionate.

Starting point is 00:38:19 So the same place you'd find the anxiety happening to make that you find compassion. They're very compassionate people. But just because of their experience in life of childhood, the way their brain operates, the way their emotional systems mediating to their prefrontal cortex, whatever it is, they are able to really make great decisions despite being in extreme pressure at existential moments and do the right thing. They understand the line. There's always this line.

Starting point is 00:38:39 There's truth. and there's not truth. There's people lying. There's people trying the truth. And I think that we have been able to figure out the difference there. And there's a real difference there. And the very best people know that line is they don't cross it. They know they're pushing the edges of execution. So they're driving people super hard to execute really, really well. But they're telling the truth. And I think that's a very important distinction. So that bell curve does exist. But on the successful end, I promise you that those folks have good ethics and values or they wouldn't build great companies at last. One of the things I'm completely fascinated by is,

Starting point is 00:39:10 when leaders have to motivate people, teams, stakeholders, whatever, to facilitate huge change. Elon's probably the prime example in the world today. You have to set extremely ambitious goals. If Elon's been criticized, maybe for setting goals that you couldn't hit or didn't hit fast enough, what have you learned about the vision setting, the narrative building, the communication, and that line? Because sometimes things aren't a lie because they haven't happened or not happened. It's something in the future. And we have to be galvanized. the best leaders seem to galvanize large swaths of people towards a common goal. And that seems really important. What have you learned about leaders that do that effectively? What are danger spots?

Starting point is 00:39:50 I'm really interested in this narrative building thing. I think it depends on the kind of where you're setting. We can pick companies like to pay such a huge ambitious goals. I can tell you, I know that Elon believes what he was telling people because I believed it. I was there. I saw the data. And I know that for something on the outside, it sounded so incredible. It can't be true. I'm on the audit committee. I'm telling you is true. But I think sometimes the brain can't process the idea that this thing that's so strange to them could be true. That's one of the hallmarks of greatness. Someone who sees something that no one else sees and can realize that goal and that

Starting point is 00:40:19 ambition in reality and galvanized people to do it. I find that in our case, it's always been people that are really trying to make the world better. It's hard to galvanize people to work, super hard to dedicate their lives to a mission that's just about, say, making money. It doesn't sustain. Why are mission-driven companies better? Why do we believe it?

Starting point is 00:40:36 I think we've been one of the fewer firms who are doing social-responsive investment for was a thing. Why? Because A, we want to. It brings me into our lives, to our work. But B, we think these are better companies because you're tracking people that are going to work very hard over a long period of time on a mission that they believe in. SpaceX has galvanized around the mission of Mars. This is true. I would bet a lot that SpaceX achieves its mission to go to Mars. I mean, is it 100% certainty? Nothing's 100% certainty. But they believe it's true. For sure, they believe it's true. And I think it is true. In fact, along the way, it's gotten more true. It's a reliable vision. Today we can absolutely see as a realizable vision. But we hadn't started with the first step,

Starting point is 00:41:09 a bold vision, bold mission. You never had gotten there. And I think these are very special people that are able to do it. Our part of on bioscience is Jeff Heron does really well when they're innovating drugs. People working very hard over many years with no payoff. Equity could be worthless if it doesn't work. We believe it's going to work. He believes in work. He believes in work. It's not in consumer space where you get part of market fit and you keep going. This takes years. And these are brilliant people galvanized around the objective of getting a drug approving. The last big drug got approved is in narcolepsy and cataplexia. These are terrible conditions people can't work and great professionals galvanize around these goals because they believe

Starting point is 00:41:44 they're making the world better. And of course, somebody is a financial payoff. But what really tries them is the mission. And then it's also working other great people on that mission. That sense of fellowship, these companies all share that and these CEOs who are able to create that sense of fellowship, that feeling of mission and respect them on the teams and we're really going to change the world. They galvanize the best people to work on these ideas. I love the notion of neurostress response being one thing that you uncovered. I think the other category that is really interesting that you you've explored is all the different kinds of bias. This could be investment decision making that's

Starting point is 00:42:14 affected by your bias or your team's bias. It could be biased on the part of the teams that you're partnering with. It's relevant everywhere. What are the big lessons that you learned about bias specifically and combating it in practice? I certainly think a lot of bias because I was making the errors. I was trying to figure out why I'm making these errors. And you read that you fast and slow economy and turisky stuff about cognitive bias throughout his most qualified decision makers who deal with don't make a lot of cognitive errors. They know how to manage cognitive bias pretty well. And in my case, the errors I was making were not cognitive errors.

Starting point is 00:42:45 They were emotional errors. And not much is written about this. I'm trying to build something around it now with our team of neuroscience psychologists about emotional bias. And what I had learned about myself was I so wanted this particular company that turned out to be a problem to work because it was serving mostly minority children, Hispanic, and African-Marie children in Texas for dental. I was so badly wanted it to work that I just overrode a bunch of yellow.

Starting point is 00:43:07 because I believed in the mission. Was the right thing for the world? I would say things like, got to make these things so great, and we'd set our own kids there. And we overrode a bunch of Yale lights in our system that we shouldn't have overridden. And when we asked why,

Starting point is 00:43:18 and I coached by Gail and Loran why, the answer was inside of my emotional state. And in a most simple context, we think about emotional states and biases like Olympic hijack. Something happens to you, you get dysregulated, and it takes over your frontal lobe

Starting point is 00:43:32 and you can't have the decision. In a positive context is you can get overly attached to something because you want to believe it and you really want to be on that mission. And we very carefully check that now here, because we are mission driven in our investments. We have to be careful that we are actually successful in our things we're dealing with, that our emotions and our desire to make something real, don't override our diligence process and everything else we're doing. So emotional bias is very important and we're doing a lot of work on that. There is a hierarchy to emotional bias,

Starting point is 00:43:57 which is security control and affirmation. And what really was going on here is my sense of affirmation about who I am and who I want the firm to be was being triggered by something that felt really good to do. Ego is an important driver. I want to be affirmed by the things we're doing. And if you're in our state, which is we're affirmed by making the world better, that can actually become dangerous. And so we put a bunch of systems in place to check that. And internally, to me, I think that the tools to manage that emotional by the state all exist in philosophy today. And if we had accepted the reality of the situation we're in and did a proper Basing update, frankly, we wouldn't have made that decision. Where do security and control figure into your thinking?

Starting point is 00:44:33 You mentioned affirmation and associated ego-related decisions. What's the the role of security and control in all of this? If you are feeling unsafe, your physiologic state will be triggered. That is the most classic trying to model the brain where you have the prefrontal cortex, the white matter, and then the limbic system that you see in textbooks and all. That is what gets triggered when you feel lack of security. And this could be physical security. In our context, the problem is that a brain is designed to be on the Savannah and see a line and run. But now we work in offices and talk to each other on Zoom, and so we're not threatened the same way. But if you say something that really annoys me, that thing might go off as if my security

Starting point is 00:45:06 or threat. And I think that's actually one of the problems we're having today is we don't have the right tools to mediate that emotional state of having our security threat. And control, I think, is control of the environment. So I think about it as a hierarchy. We have basic physical security and emotion security. And then control of our environment is that we all feel uncertainty in our minds and how well we do with uncertainty and the chaos in the outside. So external entropy often determines how well we make decisions in an emotional state. That's hard. When we talk about control, that's what I mean, your internal uncertainty. relative to the external entropy, how well you deal with that, how it happens, how it works for you,

Starting point is 00:45:41 and how you can keep an even state. I think that is quite important as a decision maker. This concept of identity that's related to ego has always interested me with the background and philosophy. I always loved the Paul Graham essay. I think the title was, keep your identity small. The idea that when you establish an identity, things you identify as or with, you'll do irrational things to align with that view of your own identity. You'll act to protect this identity you've built up for yourself, even though it's BS typically. identities are sort of illusory. What have you done personally to not make those kinds of mistakes, to not make the affirmation, ego-related? Is it Atul Gawande, checklist manifesto type stuff? What are the

Starting point is 00:46:19 tools in that toolkit that are actually effective at improving this category of error? I'll tell with internal things and the extra things. So internally, I've meditated practice I started several years ago, young man, and then dropped it for a while and picked it back up again now well over a decade ago. I started doing TM transatlitation, which is a useful mantra. And I found that that gave me space between my limbic brain and my prefrontal cortex to make it even a millisecond decision about a competent response, no what I'm going to feel. And that was very, very useful to me. After practicing that for a long time, I was able to actually get myself to a place where I could use a mantra to replace the dialogue and it's always going. And one thing's

Starting point is 00:46:57 important about the dialogue that is tell you, we tell people a lot, is it's not you thinking. It might be, but it's often the source of emotional bias or cognitive bias. It's important to know this unless it's directed. It's not really always thinking. If it's occurring in the background or near sleep. And meditation, NTIM in particular, opened a space between my lunatic system and my peripheral cortex so I could make a millisecond's decision around. That is a response that is correct.

Starting point is 00:47:18 If it's mediated to the environment, it makes sense where it doesn't, I should just do nothing and be calm. Over time, what happened to me, I got more deeply into it. I had done some semptitist meditation when I was in Japan when I was very young. I was able to return to a breathing practice. meditative practice that is without a mantra where I could reduce the voice. And this happened to me just a few years ago. I met in Japan and my family. And I went back to my very favorite place on earth, a temple called Rianchi. I was at Kyoto's beautiful sun temple. And I was meditating there on your day. And it was the first time in my life that I could take the voice down to zero,

Starting point is 00:47:51 be in a state of awareness without hearing the voice and just be. This has allowed me to, I think, mediate between my sense of ego and what is really happening. environment because there's a space there for me now. It's been really very useful to me, just made my life more pleasant, frankly. The other thing done here is it has some wonderful, wonderful partners I work with for very smart people and really great humans. And it's part of a process. If you go look at our own documents as bias, it's got cognitive behavioral and emotional bias in it. And we literally start on talk about it. And there's a culture where I want people to check me and I check them. Why are we doing this? Does it really make sense?

Starting point is 00:48:28 What are you feeling about it? And having a conversation about feelings or on investment people. I know it sounds little crazy. You're so data driven. But it's important because you want your people to be passionate. We want to be passionate about what we're doing. That's the whole point. We like doing it. We want to make the people better. But at the same time, we want to make sure it doesn't override our cognitive systems. And so we have external checks as well, which is more the check-the-man-festo thing, where we're actually just checking off and saying, yeah, we thought about it, we talked about it. And don't even say they don't exist, actually, we just identify them. And when we go back in time and look at our errors, because we still make errors,

Starting point is 00:48:55 we will look at the underwriting, look at the numbers, all the qualitative quantities of So if we do, we'll look at the biased dates. We'll look and see if we made a mistake. If we miss a biased, it's something happened there. Japanese language is very distinctive. I love the idea that the type of language you speak is a programming for the brain. Talk us through the lessons you learned from maybe Japanese language specifically versus Western languages and the lessons that that might hold for us because I think esoteric but super interesting topic.

Starting point is 00:49:21 I studied Japanese very intensely when I was Georgetown. And one of things that occurred to me when I was learning in Japan was that the language itself has a different grammatical pattern than Western languages. You have markers like subject, object, and you can move them around the sentence. And those days, it was always, people thought about Japan and Japanese. Yes is in a yes. It was like this circular logic pattern going on. And it occurred to me that it was actually different.

Starting point is 00:49:43 The logic was different because the grammar was different and the language was different. And so these miscommunications were occurring were occurring because the language itself was programming the brain. If you said all this in the room, me, you, a Japanese person, someone from Spain or Eastern Europe, whatever, brain in the VAT. First, you all the same. Small variances and parts of the brain or whatever, but we're all the same. The language and culture we live in is what programs are our brain. And as we talked about, it became the programming. And as Taiwan, I started figuring out that, look, I could use this language in the brain in the form of a mantra to help change my brain. And if you go research this compassion meditation, where you can see that in advanced compassion meditators, the

Starting point is 00:50:18 end big of the thickens and grows. So it's one of the things influenced me now. We're actually not that different at all. What makes this different anyway is the language we learned as children probably and the cultural programming that comes along with it, that's all that really makes it different. It was a profound thought for me. It connected me to people in a very different way. The through line, I think are too deep into philosophy of reality and respecting reality is really interesting in this part of the conversation, but it really is part of the investing part too, because I think the thing that drew me to your firm and style of investing so much was this operations focus, which fundamentally is reality. What's actually happening in these companies,

Starting point is 00:50:55 not what they're saying, but what is actually happening? What have you learned about applying that concept to evaluating a business, whether it's in this six-month period or even an ongoing basis. What have you gotten better at when it comes to really getting to the heart of reality and learning reality inside of a business, which each one of them is very complex? It's hard to know reality. But this operations focus to me seems like this great connection with what's actually going on, which is used less than it should be in the world of technology investing. And I'm just really curious how you've honed that and how you and the team apply that in practice. I think we are often situations where we're dealing with visionary leaders. And as you said,

Starting point is 00:51:35 they're holding these giant visions and that they're executing as well. And they've got these, I say, big probability option sets. And then they're also executing on an individual that matters. And I think that's what makes them so special is that there is a real acceptance of a reality. The truth is the truth, the crown truth. And the very best executive we have, I've never really had arguments. It's like, what is the truth? Get the data. Go figure it out. Come back. Let's make some decisions. And you know when you're having a problem with reality matching, you can either get objective truth, you figured out. There was a judgment to make. And obviously, we're not charged. We don't want to be charged. The judge to be by the CEO. But our job is to get the facts in the table and come to some conclusion. But 90 plus percent of the time, it's pretty obvious when you have the right facts. And when you don't have the right facts, then you have disagreements. But we live in a time when I think truth is somewhat becoming relative, your perspective, my perspective, and it's all at a deal. This is not true. business. There are actually objective facts. There are numbers. There's a product. There's engineering drawings. The thing works. It doesn't work. Super simple. It is or is not. And the very best executives are really great at that. You mentioned Yale a little bit. He is just amazing at that. He is a

Starting point is 00:52:37 first principles, ground truth decision maker. He wants the facts. And if you have the facts, it's super easy. And so when we see that, it's a great pattern match for us that this is a really great executive or values in line with. You think about what does integrity and excellence mean for us? Epistemic humility means you are intellectually humble. You want to find ground truth. You don't care what you think today. You want us the right answer. Integrity means you actually want to get that answer. It's all about that. It's all about what's real ground truth. Let's have some agreement on that first and then make decisions. Do you have favorite questions that you find yourself returning to again and again as you're getting to know a business or a founding team early on that are typically illuminating for you? The reality is where these businesses for a long period of time. I want to be valuable partners. We want to be invested for many, many years. and sometimes now coming about two decades in somebody's companies. And we want that. That's nirvana for us.

Starting point is 00:53:28 Where was someone for 20 years? That's amazing. When you've had partners, you want to be there in good times and bad. And I think the questions you might ask about a long-term relationship that's going to be with a friend or with a colleague you want to respect to me with the same question we would ask. There's another way of saying that just testing for points of trust doing what you say you're going to do. Is there more to trust than that? I think you could say that we trust that you are going to deliver on what you're telling us you can deliver. And we trust that you have a, a common view of first principles thinking and ground truths that we do. We learn that over time, because it's not just that we trust that they're going to do what they're going to do, it's that we also know that they're arriving at those conclusions in a way that's a logic pattern that makes sense to us, which is what are the facts, what's ground truth here? And then from first principles, let's build up the right answer. And if there's an error, they do good root cause

Starting point is 00:54:12 analysis, highly qualified cognitive thinkers. And then I guess on the emotional side, emotions will be in check enough and make rational decisions. So all that leads to a sense of trust, yes. Because you've got this unique angle of the operational support that can be actually forward deployed into businesses, meaning valor teammates are literally going and working at the companies, which again is, I think everyone would love to say they did that, but not that many actually forward deploy teams. What have you learned about how founders accept or don't or ask for or don't ask for help? Because one of the tropes that you hear sometimes is you want to back founders that don't need the investors help. They're just going to figure it all out themselves. So what

Starting point is 00:54:49 have you learned about the information content of offering and then deploying help with these companies? I think the vast majority of people that we deal with don't need our help. We're like insurance. We can make things go faster, easier. We have a lot of reps. The kind of problems that we're dealing with, the repeated problems for us that are the first time through for first 10 founder. We will lower the risk. We will lower the pain. We'll increase the speed. And if something really goes wrong, we can help you fix it. That's why you want us. We don't want to invest people to actually need us. but when you're dealing with figuring out which capital partner you want, well, some people actually want help and some people don't.

Starting point is 00:55:23 I don't value judge that, but our kind of people, we're very clear about who we are and what we want to do. And it's a good story mix for us. That's the question of so many, we're doing our top three problems. They say something like, I have no problems. Then I think we probably have a ground tree problem in the sense that everyone has problems. I got problems in my business. You got problems in your business.

Starting point is 00:55:38 If we don't, we're not paying attention. If they say, look, we have five issues, but we don't really want anyone to help us. And that's this way it is. Okay, great. probably not for us. I think there was a period of time when our resources were unknown and not very well qualified. Now you can read about them in books and you could fit reference check us with dozens of people to see if we could add it. So it really comes down to a self-flecting mechanism. If you want a partner that wants to be viable to you, wants to be more than just capital that wants to help you,

Starting point is 00:56:03 I think we are actually the best people around for that. If all you want to show up or make sure reward meetings, probably not the right people for you. And that's okay. There's a lot of people in the world, a lot of great companies in the world, a lot of great CEOs, and we're just looking for the ones that like what we do. You mentioned at the beginning this great example around the theory of constraints with the nickel baths past the operating career in the Ballar period. What episode of operational deployment and work most stands out in your memory? A fun example. There was a big problem. We were part of fixing it. One from COVID I would tell you is we have a company here called Pisfitages, basically selling produce that doesn't quite fit for the grocery channel direct to a

Starting point is 00:56:39 middle class consumer. And in COVID, this is super important because people get food. If you remember, they're very food shortages. So this company's in Philadelphia. We deployed a team in the bill of COVID. I was so proud of our teams. The COVID was in full rage. They actually drove through barriers because Philadelphia, where they were going had riots and went to their facility and helped them actually scale facility up to serve more customers. And then we helped them build another one in the West. It's those moments that make it real for us. There's been lots of well-documented operating where Tesla. I personally spent the summer 20th in the factory there along the part of Tomakins, helping scale up monof-re production. At that time, I tell

Starting point is 00:57:13 it's one of the most rewarding was my career. What were you literally doing? There were issues ramping the factory. I was working on, called the paint shop for the back end of the line. Elon May, who's working on the body shop and other stuff and working the whole thing, but just supporting the guys as they were trying to ramp the facility and helping to do some of the theory constraints you were talking about

Starting point is 00:57:31 and managed to improve throughput. And my partner, Tim was there, which really much of an engineering side. I think back on that moment as one of the proud of most of my career personally, because I feel like I've really made a difference. I like doing it. I really do like being on a factory floor working with folks making a product. Can't do it every day.

Starting point is 00:57:49 But that was a great personal moment for me. What would be like one task in the factory procedure that you were involved with? Here's one thing we did. The cars would come out of the end of line. They'd already been paying to come in the line assembled. And then they were being charged directly in that area and then sent to an end of line, rectification area. We make sure all the fit finish is good.

Starting point is 00:58:06 And the issue is, I can't remember the exact numbers. But let's say it took three or four hours, charge a car. They just sit there. They move. Now, when you're trying to run, the factory that's a long time in alignment to we're just sitting there. And remember, velocity and quality related. So one of the things we did was we actually moved some of these teams that were checking the final quality of the car and rectifying all the small stuff that you do at the end of the line.

Starting point is 00:58:24 We actually developed, built a bunch of supercharged stations at the end of line and then move those teams instead of being in a separate location on to the cars while they were being charged. So this just increased the speed of the system pretty substantially because you weren't sitting, doing nothing, and then moving. You were actually working on the car while it was actually charging because they had to be in a partial charge state to be shipped to make sure the battery charged, and the car had to be tested, et cetera. It's this kind of stuff. Where is the constraint in my system?

Starting point is 00:58:49 Well, if I had a car just sitting there doing nothing for a bit of time, that's a constraint, quite obviously, in that part of the system. Elon's concept of vector sum creating alignment on teams in a certain direction is really interesting to me. It's always these physics references with him, obviously, of the physics background. Can you talk a bit about what you've learned from him specifically? I think your longest-standing member of Tesla's board, only just recently not part of the board, whether it's vector sum or other key concepts that you think are high attribution concepts

Starting point is 00:59:16 that have led to the outcomes of those companies. As you reflect on that, what do you think of? One of the things that I feel really allowed us to work so closely ever so long was this idea of their constraints is really about the force vectors going through a system. And are they aligned or not? This is true of human decision making and teams make decisions. That decision has force and directions in the world. And it goes out in Iraq.

Starting point is 00:59:37 We talked about a little earlier. These are all force vectors. He has a very similar theory, which is, everyone's efforts add up in a team and they drive forward together. This is really important in any business, which is you're only the sum total of all of your activity together and any countervectors in the system just drive a counteractivity. And if you don't have a common direction, a common mission and people aren't driving their efforts in the same direction, you won't get forward movement.

Starting point is 01:00:00 And one of the reasons these, I think, mission-driven companies just do better than other companies is that you're more likely to supplement whatever you want to the overall mission of the company, if you really believe it and you believe it's going to make a big difference and your life's energy that you're putting into that company. You're taking your decisions and the energy of your actions, which is really all you have in life is your time and energy, but you put the energy in that time. You're putting it toward a goal, toward objective. And if you believe that objective, it really matters to humanity.

Starting point is 01:00:29 You're more likely to want to do it and do it in a way that's really good for the company and not worry too much about what's good just for you as an individual. It's a very important lesson. It's one that I'm appropriate here and that we think about as we need executives. And it's how I think about decision making now. Your life is the sum total of all the decisions you make and how those vectors add up. And if the vector is going in a positive direction, they could force momentum. Your life will get better.

Starting point is 01:00:51 Your consent will get better. If they're going negative, they compound over time negatively and things get worse. I often give executives this book into thin air. It is a great description of the compounding effect and bad decisions. It's not the first decision to kills them. It's the last decision they make. And they make a series of very bad decisions along the way because they're emotionally engaged. They're not thinking clearly.

Starting point is 01:01:09 that is 100% we're talking about here. The vectors of their decisions are adding up in a negative way, and at some point they can't recover and they die. This is actually extremely important for life. It's my basic philosophy in life, which is my decisions matter, your decisions matter, and Elon's contract would be they're all adding up in a team or a company,

Starting point is 01:01:26 and they're driving in a certain direction. If they drive in that direction, effectively we'll get forward movement and we'll build something great. If we think about the theory of constraints applied to the overall system, called the market system economy, it seems like the bottleneck might be, we need more Elons, we need more Bezos's, we need more, pick your small handful of people that have seemed to have been able to build these

Starting point is 01:01:47 transformative companies and then industries. Why is that the constraint? Why aren't there 50 Elons? Why aren't there 100 Bezoses? I would say that talent is a good, period. I think that it's those very, very special needs, craves. There are more of those. But frankly, if there were more people that were just really, really great, they could scale those brains,

Starting point is 01:02:06 we would do more stuff. So if you said to me, if that could wave a magic bond today, would I put 10 more Elons on Earth or 10 more bases on Earth, or would I put a million more talented, executives, engineers, et cetera, to scale what those people are doing today, I think it's strain is actually having great people that are going to go on mission and help scale the things we already have in motion today. If we keep pulling on that thread, the reason there aren't more of them is that an education problem? Is it a immigration problem in the U.S.? If we're trying to improve that bottleneck, how do we do it? In the U.S., all these things.

Starting point is 01:02:38 I think the use of solutions to immigration. We definitely have a demographic problem. We look at the employment population ratio here quite carefully, and it was bottomed out around 60% right after COVID in COVID. That's the same level that it was at in the early 70s when women entered the workforce. So if you think about 40% of eligible people aren't working roughly, now it's about 62%, which approximately were pre-COVID, but have been coming down from the mid-60s to 63 pre-COVID.

Starting point is 01:03:01 This is really bad. You cannot create productivity without, people working. So why aren't people working? About 30% of it's resulting from the aging population, but 70% of it is not described by this. It's just other people leading the workforce for many reasons. We need people to be productive for short. So I think it's a combination of getting people that should be working today that aren't working back in the workforce as we're bringing more young people through the system actually educating them well. And not everyone has to go to college. It would be great to have a very good vocational training system in this country where people

Starting point is 01:03:28 respected for being a toolmaker or making stuff. And I think as we geopolitically think about how we want to bring things back from Asia, back from Europe, which is very important for America. The only company in this country at this point making sales is that you don't make chips in this country, you don't make farm in this country, some things we don't make. Think about making those things just for strategic reasons, for security reasons. We need more people that can actually make stuff and want to work in factories making stuff. Very important that the educated system will own that. And the third thing, I think you're totally right.

Starting point is 01:03:54 We use very immigration. America is a country of immigrants. My parents are immigrants. You look at business formation, very large percentage of business formation of America comes from immigrants or children of immigrants. And I'm saddened by the idea that somehow immigration is pathologized on both sides of the aisle in Washington. I think that's just crazy. We are a country of immigrants. People want to work.

Starting point is 01:04:12 They're smart, hardworking. Great. Let them in. Let them work. I don't think that's taking jobs away. People are here today. We don't have enough people today. They don't want to work.

Starting point is 01:04:20 As you think about the system that is valor and its future, a few questions there. First is, how do you ensure that you are seeing and aware of the best potential opportunities going forward? Obviously, you can't invest in something that you don't know exists and they don't know you exist. How do you solve that problem in an increasingly competitive market to supply companies with capital? I'm going to answer this question a little more open algorithmic way, which is I think about the problems our investment process. It's a false positive. You make a mistake. You're okay with that because our avatures pretty narrowing loss risk is good, a false negative.

Starting point is 01:04:53 You see notice that we shouldn't have. A miss. It's in our pipeline today. And we just don't do anything with it. We miss it. And then we just didn't see it at all. Our biggest problem today is in our pipeline today and we miss it because we have hundreds of companies in our pipeline we're following because the strategy of write a small check and scale up. And we don't have enough people actually to really follow them all carefully.

Starting point is 01:05:12 And that's one that bothers most. We are building technology here to solve that problem working on some software internally data science. I'll solve that problem. The fourth problem, which is we didn't see it at all, is a problem. But look, if we just got everything that went in our pipeline that was good, we could fill up our funds. And that's so I'm very happy. I am going to work on the fourth problem more because I think it's the right. thing to do than because I think we have a lack of opportunity here. And that is by continue to

Starting point is 01:05:34 scale up our strategy in investing, I'd say, earlier stage to help our companies. We're trying to figure out how to take some of our operations work and package it in a way that it is kind of self-deployable. Something where we could say, here's our sales average toolkit. It's a $2 million dollar investments. We can send you a team. We can't justify it. But we can give you some information about how you could do better, be better, and maybe have a call with somebody to help you. And if we did that we then also go back or a little further back and do more C. Just make the world better by trying to help more people do the right thing is why I would do it. And I think it's the right thing to do. We're thinking about it carefully. There's this interesting concept that my friend Graham, Duncan,

Starting point is 01:06:09 introduced me to, called Source. Somebody takes the first risk to found some business and they tend to carry a sacred flame. They have the ethos of the thing in themselves. Often it's a reflection of their own personality. And notoriously in business, especially in investment businesses, it's very hard to pass the flame. Succession is very difficult. Multigenerational firms where it's sequences of partners that are all successful as a rarity in the investing world. How do you think about this as it relates to valor? If you were the person to take the first risk and carry that flame for valor, how do you think about making sure it doesn't get extinguished when you're done? We are thinking about a lot because I'm at a stage where I continue to do what I'm doing because

Starting point is 01:06:47 I believe we're out of the world that could survive me. And we have some great partners. It all begins with people. My partners want to John are amazing. Some of our younger folks coming up are great. And I think carefully about how we are inocating our culture. We're doing a lot of work around that now. We're used here called fellowship, which is this moment where you as an individual feeling you're growing, your purpose is fulfilled because your mission is great.

Starting point is 01:07:09 And you have respect for your worth and with. When all those three things lined up, you feel great about going to work. When I'm in a meeting, we're talking about a company, we all believe in and we all want to get behind. That feels great when the teams are together. And we're in those moments of fellowship. we're trying to in a way that's more rudinized. Those of us who've been together for a long time and then can be partners or group,

Starting point is 01:07:27 we're turning our operations tools on ourselves. So we're often asked this question by some of our companies. And one of our great pro-intuitive CEOs, Josh Motto, who is the CEO of Votor Coalition. And I was thinking about, man, how do I encoke the culture? I started asking some of the CEOs, I have their respect, who are, I'd say, at a demographic that they really understand the millennial and the post-COVID world. So Josh is probably in this early 30 or something. And I asked him, hey, what are you doing and how you think about this with the fully distributed workforce and officer clothes and how do you keep culture?

Starting point is 01:07:54 It's great. He said, we use this book called Legacy. And it's interesting because Legacy is one of the books that we use. This book is by James Kerr, I recommend it to the podcast. It's about the news and all blacks, which is the most winning support to see it. And when you get into it, you'll see it as an ethosive servant leadership, which is we're living here. And we've actually been working with James. We've hired him to help us think about our cultural program here, how we decided and you create it. sure you use and how we're to build it. And we're midflat on this right now, Patrick. It's super important to get it right. But we're in as we speak. I have so deeply enjoyed learning about your investing style. I think some of the core ideas that drive what you do really make you think. And when you start applying these questions or big lenses to companies, it's interesting how quickly you get to know if you have a standard that's differentiated and how easy it is to say no to a company, even if the people seem great and the market seems fine and so many other things check the box. So I've really appreciated everything you've taught me over the last couple of years.

Starting point is 01:08:51 I ask everyone the same traditional closing question. What is the kindest thing that anyone's ever done for you? I've never actually told the story outside of a very, very close set of friends and colleagues. So I'll tell it to you, and it's going to give you a little emotional I'll tell it to you. When my mother died, she'd have a heart attack in the hospital, and I was there. She was in an NGO room. I got this year before they did the injury room when she actually passed away. and I went in that room and she held my hand and she said to be Spanish, to geto, and she said, Sevaliente, which means I love you and be courageous. And I think that's the kind of thing I was that at the end of her life, what she thought

Starting point is 01:09:26 of was telling her son to be courageous, I think knowing that she was going to die. Absolutely incredible. I think I've asked that question 400 times. Not sure I've heard one quite like that. It's very kind of you to share it. Amazing, incredible story. And how simple and beautiful and lovely. Whenever I get into a situation where I'm not sure what to do or I ask myself,

Starting point is 01:09:46 what the right thing to do is. I think of her, I think of that moment in particular, and it becomes very clear what I'm supposed to do. That's one of the reasons. I'm on a mission to try to make the more better. Can you say a bit more about your mom? I'm just curious what she was like and what you remember her characteristically. My mom was an extraordinary woman. Came in this country, it didn't be English, raised four of us, and was just to create

Starting point is 01:10:05 motivated for me. I always told her almost like the virgin married by life. It's perfect and caused me some problems. I had to come to terms of the fact that she was a really human like the rest of the of us. But she was a deeply very loving woman who was super supportive of, I think my father and her children and gave as much as she could to us and really imputed in all of us a sense of responsibility and that we were, as soon as I and I are talented people, we all gone on to do interesting things for our lives and that we need to give back to society that we were responsible, that this is why

Starting point is 01:10:34 we're here that we're to care for each other and that a sense of compassion and care and hard work. My father was very hard work. He wasn't home a lot. and said in the standard of you work really hard. And she was saying in standard of you really care by each other and you care about people. I remember watching how she interacted people and how much you cared about them and how that made them feel. That's what I meant about her being very loving, very caring, very giving and very focused on the idea that yes, you're a smart, talented kid. But man, you should be humble and you're responsible to give back because that's what we do. Antonio, I have loved every one of our conversations.

Starting point is 01:11:05 This one included. Thank you so much for your time. Thank you very much, Patrick. I appreciate it. If you enjoy this episode, check out join colossus.com. There you'll find every episode of this podcast complete with transcripts, show notes, and resources to keep learning. You can also sign up for our newsletter, Colossus Weekly, where we condense episodes to the big ideas, quotations, and more, as well as share the best content we find on the internet every week.

Invest Like the Best with Patrick O'Shaughnessy - Antonio Gracias - Pro-Entropic Investing - [Invest Like the Best, EP. 271]

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