Invest Like the Best with Patrick O'Shaughnessy - Brent Beshore Returns – Private Equity, Venture Capital, and the Future of Money Management - [Invest Like the Best, EP.22]

Episode Date: January 31, 2017

Brent Beshore and I spoke for 10 hours about all things investing and business, and decided to record a 2-hour chunk of our conversation. We start by discussing private equity, venture capital, and the importance of brand. We then explore the difference between public and private company valuation, and the potent idea of peer mentorship.  The conversation wraps up with Brent’s recent experience with one of the greatest investors and thinkers of all time.  Above all, this is a conversation about what is right and wrong in the world of money management and investing, and where the business is heading.  Please enjoy!   For comprehensive show notes on this episode go to investorfieldguide.com/adventures/ For more episodes go to InvestorFieldGuide.com/podcast.  Sign up for the book club, where you’ll get a full investor curriculum and then 3-4 suggestions every month at InvestorFieldGuide.com/bookclub Follow Patrick on twitter at @patrick_oshag

This podcast is sponsored by CFA Institute, the Global Association of Investment Professionals whose mission is to lead the investment profession by promoting the highest standards of ethics, education, and professional excellence for the ultimate benefit of society. CFA Institute serves a global community of investment professionals working to build an investment industry where investors' interests come first, financial markets function at their best, and economies grow. The chartered financial analyst credential is the most respected and recognized investment management designation in the world.

The views expressed in this podcast do not necessarily represent the views of CFA Institute. 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, methods, stories, and of strategies that will help you better invest both your time and your money. You can learn more and stay up to date at investorfield guide.com. Patrick O'Shaunnessy is a principal and portfolio manager at 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'Shaughnessy asset management.

This podcast is for informational purposes only and should not be relied upon as a basis for investment decisions. Clients of O'Shaunossey Asset Management may maintain positions in the securities discussed in this podcast. Two weeks ago, I spent the day in St. Louis with Brent Byshaw, who was a guest on the show in the fall and has become a good friend. We talked for about 10 hours straight about all things investing in business and decided to record a two-hour chunk. Early on, we discussed private equity, venture capital, and the importance of brand. Brent's perspective on these different topics is unique because of his experience with so many small companies. We then explore the differences between public and private company valuation and the potent

idea of peer mentorship. We wrap up with Brent's recent experience with one of the greatest investors and thinkers of all time. Above all, this is a conversation about what is right and what is wrong in the world of money management and investing and where the business is headed. If this conversation is half as fun to listen to as it was to have in person, you're in for a real treat. You can find show notes at investorfieldguide.com forward slash adventures. And now please enjoy my conversation with Brent Bshore.

So let's talk about, let's approach the entire kind of investable universe. Okay. Where we started the first time was what I thought was a little corner of the world and now realizing it's where all the actual companies are. So your 2016 letter was interesting where you got adventures looked at or saw 2,500 businesses, diligence on a little bit more than 300. So maybe we could start with the entire universe size. So 2,500 is a slice of your overall universe. So maybe paint that picture of how big is the private company market and kind of what are some key features of it?

Yeah. So it's actually hard to know. I did a tweet storm, I think. on this the other day. And I'm always getting this question, right? So like what people, people, a lot of people are like, oh, yes, sir, how many businesses could there be out there to buy? Um, and if you look at like tax returns, right, so there's like 33 million business tax returns in the United States. Some of those are duplicate locations and, and some of those are shell entities. In terms of the actual number of companies in the United States, it's in like the

low 20 millions, I think. So now a lot of those are like one man, two man bands. When you start getting up into what I would call investable businesses or having having enough heft to transfer, like there's some sort of asset there to be transferred. I'd say you're talking about somewhere between 500,000 and 800,000 entities that are out there that contain transferable assets to the type that we would really look at them. You know, and it kind of metrics around, you know, five plus million dollars of revenue. And that's, it depends on the business, right? So you can have a $5 million business that has almost no cost structure attached to it and it's all gross profit. Or you can have a $5 million company that has $150,000 a gross profit, right?

If the profit margins then. So you've got to kind of, there's a lot of nuances to the size. But if you look at kind of that intersection of $5 million plus in revenue, maybe 30 plus employees kind of in that sphere, you're looking in that kind of 500 to 800,000 business range. I mean, it's, that's, for us, that's kind of the investable universe as we think about it. It's an enormous number. So, I mean, you take the rest of your career to kind of screen through all those businesses if. Yeah, or at least next five for 10 years.

Yeah. I'm just kidding. We need to ramp up our due diligence efforts. So obviously, it's an interesting and fertile ground given the transfer aspect, right? Baby boomers retiring and selling the business. One of the things that's really stuck with me from the first time we talked was the incredibly high percentage of businesses which can't survive the goodwill and scale. of the founder.

Yep. And obviously one of the things I think you look for is a management layer that's not the founder, not always, but that's a good feature of a business. Yeah, of course, absolutely. So I'm interested, once you get from the $2,500, call it down to the $300 that you're doing diligence on, that's almost one a day. What level of diligence is that? Like, what does the first pass of diligence look like for a business that size?

Let's see, I did two of those this morning. So I can kind of give you, I'm going to try to protect enough of the details so that the, generally speaking. Yeah, yeah, yeah, but,

but it's interesting because we will typically, if it's intermediateated, right, if there's some sort of investment banker or broker involved, we'll get a,

a SIM is what it's called, a confidential information memorandum is kind of in the business, how it's described. And that should have a good ballpark of information that we're going to take a look at. You know,

I'd say that it's, it's tough because those books are all put together by people who are on the sell side. So this is kind of, like I assume a similar parallel to self-side research in the public sphere. Don't trust the valuation. You're going to need to double-check a lot of assumptions.

And, you know, it's interesting how many of those deals we get where the historical growth varies dramatically from the projected growth that the person who's putting together of the book makes certain assumptions on. So we actually, as a policy, it's funny on that, kind of a tangent on that. I typically rip out all of the industry research and I rip out all the projections out of any deal book that I get because I don't even want to look at them, right? All I want to care. All I care about is is what the history has been and kind of the trajectory it's been on. I often will tell people, I'm not quite sure why you think somebody with perfectly aligned incentives

being the owner who wants to sell, who's been in the business for 20, 30, maybe even 40 years, extremely skilled at what they've done, know all the systems, know everything, and have every incentive in the world to grow it, why you think by just the nature of them selling it to somebody who knows less, has less experience, has less incentives is going to somehow increase the growth trajectory of the business, which is odd. So typically what we're looking for is something about the business that is unusual that gives it its moat. So moat being able to sustain elevated returns on invested capital over time. And oftentimes it's geographic dominance of some sort, like some sort of geography around the business that, you know, maybe they're the best

windows and doors company in Minneapolis. Or maybe there's some infrastructure they have in place that would be stupid for somebody to come in and spend that CAPEX. On one of your previous podcast, you talked about capital expenditure as actually being a acid intensity as being, in some ways, a moat, right? And I think that's where we see a lot of that in regional businesses. So that's kind of one type. The other type we're looking for is we're looking at. We're looking for some sort of niche that they've discovered or gotten into, which is not going to lend itself to much natural competition. And this really just depends on, you know, we have to see something remarkable about the business

that is not tied to the personality of the CEO or the founder. And so it really, in terms of the, that's a long window way of saying, in terms of the initial look, we're trying to discover that. And so however much time it takes to either discover that it's something might be there or if it's definitely not there, then we're just able to cut it. So of the, I reviewed at the very highest level I reviewed, I think 14 or 15 deals today this morning before my kids got out of bed. That tells you how much time I spend. I mean, really burning through them, right? And then dove deeper on two of them and then we're going to pursue one of them. And that one of them has

a very unusual business model where they're actually a marketing company that looks like a blue collar company. And you can look at those ratios because the company that we're looking at services, home repairs, has a gigantic marketing budget, which is very uncommon for blue collar businesses, and almost no CAPEX on an annual basis. So when you look at the combination of those things over time, I mean, when you look at, I think I actually looked at like 20, almost 2,600 businesses last year. We said over 2,500.

You know, you combine that with, you know, the previous year where I looked at a little over 2,000 businesses. After a while, you get kind of good with the reflexes or, you know, you know, you get kind of good with the reflexes around what are the things you're trying to ping and like it's all painting a picture and a story in my head about what are the possibilities with the business and what would it take to grow the business and the capital intensity of it and the you know the moat around it and I know that's a lot of a lot of stuff but that's how I can go through that many of them so everyone's looking for moat and we'll get to price that you have to pay for the moat in a minute which is

equally as important if not more there seem to be kind of generally accepted types of moats so you've got like network effects as a popular one now with the platform business model being so popular very very I don't see many of those very asset light you've got you know traditional economies of scale you've got you know old school regulation and some sort of intellectual property or patents do you as you're going through have you found in the five thousand you know thousands and thousands of businesses where you've looked for a moat probably usually not found one that certain buckets are more attractive to you at the scale that you're hunting or certain aspects of moat, assuming you agree that those are kind of general categories of them, that you seek out more

or find yourself more attractive to than others? Because it's such an esoteric thing, this moat concept. Well, here's the interesting part. We've got a weird selection bias in the issue in the type of companies we look at. So I'm going to come back to the phrase I think I used on the first podcast, which is small businesses don't say small on purpose. So what we're really trying to find is a moat with, for some reason, that moat has not been expressed to its fullest capability. So oftentimes the reason why there is no moat, or the reason why the business isn't large is because there is no moat.

And so what you have is any moat that they would have, right? Because these guys, good money. I mean, I'm not saying guys, women. It's actually interesting. That's a whole, the gender discussion is an interesting one. We rarely come across female owned businesses, which is. it totally, I can't quite figure out why it's so dramatic. But if you look and see, how are these people able to make money is because the owner, the founder is the one who is the

moat. And that's just non-transferable. And maybe in an apprentice program of some sort, or if you know, you tried to bring somebody up and alongside of that person, that's not our business, right? So what we're trying to look at is where's the disassociation between the moat and the cult of personality around that person. So I would say almost none of the businesses we look at have what I would call a sustainable moat, which means we're looking for the needle in the biggest of haystacks. And that's a frustrating part. I mean, I recently had an incredible opportunity, a direct opportunity that came to us and desperately wanted to, I hope that it's a big business, much bigger than even we typically would look at. I was hoping that it would have some moat.

And it didn't even have a moat. I mean, it's even, you can get into businesses that are 100 plus million dollars of revenue and making 10 plus million dollars a year. And you just have an incredible ownership team that through, you know, 30, 40, 50 years of grinding it out have have done really well for themselves and their relationships matter and they just don't transfer. And so do you think turning it kind of the other direction less towards investors more towards the people that might be starting businesses like this at this scale. Can you plan a moat? Can you find and build a moat ahead of time or is it just need to be something that develops as you learn on the job, so to speak, over time. I'm incredibly interested in lessons from investors for entrepreneurs, trying to

flip around what investors look for so that entrepreneurs can think in those, think like investors. But it strikes me as very difficult to create a moat. Yeah, it's brutal. Like if someone asked me, what things should I focus on that can create a moat? to moat. It would just be the obvious like platitudes. I don't know that it's possible. So I always wondered to like to what extent are moats kind of accidents of time and experience and geography maybe. Yeah. Stumble into it. Yeah. What do you think? What would you say to entrepreneurs? Well, first of all, I would say I think very few entrepreneurs, despite what they may say,

actually believe they can build a gigantic business. And if you have a good sustainable mode and you don't mismanage it, you should, it should grow nicely, right? I mean, that's the definition. You should be able to, you should be able to reinvest that capital at fairly high rates of return. And over time, that compounding is beautiful. So I would say almost all the time, I'm trying to go back in my head and think about any, any exceptions, it's almost all the time I think that you stumble into it. I think that you can, you can see once you get to a certain level in a business, though, what it would take to truly develop that mode. And by the way, developing the mode, it's not a static thing. constantly either pushing out the moat or having the moat getting pushed in on you. It's either

getting wider or it's getting narrower. And it's very fluid. And some days, the businesses that we're in feel like they have a very wide moat. And other days, feels more flimsy. I mean, so I think it's, it's really hard to say exactly what a moat is other than you can in hindsight look back on it. And I know plenty of businesses that I thought had a moat that didn't. So, you know, I think in general, the concept is more, is there something about the business that would enable it to be successful unless there was a catastrophe of some sort that they couldn't absorb? And I think that's kind of what we're looking for. So it was an interesting line before about why in the world would you expect an outsider who's got no experience to be able to change the growth trajectory of the businesses

after the founders had so much experience. And yet you've done that. So in the annual letter, you mentioned one company with 90% earnings growth, a couple others with, you know, high to mid single digit or double digit earnings growth rates. So, so where does that then come from? I mean, what, what, how could a company at that size that's not some sort of venture, you know, tech company, which I know is not how you, not where you're operating grow that fast? Like what, and again, we don't need to get into specifics or even name the company, but, but how is a 90% growth rate, year possible? Look, the businesses we have are small. And when you're smaller and you do the right things, um, or more of the right things,

by the way, I shouldn't make it seem like we know what we're doing because most of the days it feels like we don't to be completely. And that's not false humility. I mean, honestly, you know, I told some of the day the biggest secret is there is no secret. You just got to test a whole bunch of stuff and try it and see, you know, see what works. In the businesses that we have, I think that the ability to come along very talented operators and help them to stay focused on the right things, or at least more of the right things, I think, is if I'm going to put anything beyond luck on it, I think that's where it would be. I mean, there are certain secrets, you know, that, like I said, there are no secrets, but there are certain tactical techniques that we know

from the experience we have that we know work. So if a company is clearly mismanaging or not, maybe not pursuing things as much as they could in a certain area, we can come in and, and, and, and help, you know, show them a better way that we, that is at least worked elsewhere and say, hey, everything's an experiment. And we run a continuous, you know, sort of process improvement, continuous improvement in the companies in that way. And we tell everyone, run the experiment, see if it works and do more of what works and do less of what doesn't. I mean, I know that sounds very remedial, but, but I don't think many companies are actually doing that in the size of, that we are. And, you know, to be able to help pull the operators heads,

up and out of the day to day occasionally. And that's even hard to do because everything's busy. It's hard. It's hard to run a company. This kills me for investors that, you know, constantly are sniping it operators and they've never operated a business. They've never run a business. Like, you have absolutely no idea what these people go through on a day to day basis.

How brutally hard. Not only, you know, they've got their own home life stuff that everyone goes through no matter who you are. But at work, you know, you will find out on a week to week basis on a big enough company. like somebody's got cancer, somebody's in trouble with the law, somebody is doing something that is highly inappropriate. You've got customers that are treating you terribly. You've got suppliers who want to cut your terms. I mean, it's like you're constantly in battle. I mean, I call operating a company in many ways like the knife fight. You sort of get out of bed in the morning with a knife

and you just try to like, you know, keep all the wild animals away from you. And then you try to get back in bed at the end of the day. So, you know, so in terms of how do we grow the business, I think it's a combination of properly, hopefully properly or more properly aligning incentives, keeping focus on the right things, and trying to avoid just outright stupidity. I mean, so much of what we see in businesses failing is, you know, you just look at it and you're like, well, how did that make sense? And a lot of it is group think. A lot of it is the opposite of group think, which is one person going off and blazing in a direction that they shouldn't be going. And it's, you know, it's obvious sort of in hindsight, but I think, you know, we try to be very careful about how the

decisions are made, especially bigger decisions. I've been thinking a lot about companies as systems and that we live in the sort of systematic age, the age of automation, where everything is being plugged into a system and fewer and fewer people are often involved in these systems. But what you often find with systems is that they get these perversions. We've talked a lot about this. And I've always been intrigued by the private equity company 3G. And I, what they're known for is is kind of going in and very aggressively picking out the entrenched aspects or plugs or connections within the system that have sort of accumulated over the years steadily, like boiling the frog slowly in water, and just having skill at quickly identifying and eliminating

those things in a very efficient manner. So I wonder to what extent, if at all, that kind of mindset of, we've seen so much many operating businesses, most of which we don't invest in. But we've done diligence on and seen kind of what works and doesn't, even within a particular industry category. And so here are aspects of your system, entrenched aspects, which don't make sense. And if we unwind them, earnings will grow. You know, it's interesting. I don't know. I know one of the executives at 3G a little bit, and who's an awesome guy, have had great conversations with them. It seems like in many ways that experiment has yet to fully play out in my mind. So I find it very attractive from a,

you know, obviously their returns are amazing. And they're from all indications, incredibly smart people that are, they're doing, I mean, the results in many ways speak for themselves in the short term. And this is where I, you know, I'm trying to kind of a mercenary feel to it. Yeah. I don't know. In many ways, their philosophy feels so much different. than what my philosophy and what we try to do at adventures. I mean, where they're coming in and pulling things out, and by the way,

things mostly mean people, I think there is definitely short-term game to be had. And that's gain to be had. I think that's where traditional private equity, I mean, they're doing in the public markets, it seems like what traditional private equity is done for decades now. I mean,

it's not complicated what the playbook of traditional private equity, but equity is, right? You come in, you look for, I'm using air quotes, right? They can't say it's synergies. And what synergies mean is, is who can we get rid of and not lose as much as their salary? Right. I mean, that's, that's it. And, you know, if you do that well, I mean, there's always going to be inefficiencies in the system, right? There's always going to be, look, we're all flawed people. All of us. We're all messy in some ways. How that messiness is expressed and over what period of time and what situation, I think is pretty complicated. And so when you start getting into cutting deep and cutting for reasons other than poor behavior or some unethical

behavior of some sort, I think you get into some challenging long-term dynamics with how the company is set up. Now, if you plan on owning the company for a very short period of time, by all means, I mean, I think that's a really good way of generating return. you know, your cash position certainly will look better. I think if you plan on owning the company over a longer period of time and you're trying to do what's in the best interest of the company, I think you get into some dangerous territory, let's call it that way. I'm trying to pick my words wisely because I don't know, I don't know exactly how they go about it. I don't know how they do it, but it seems, you know, whereas we're trying to take the people that we

have and make them the best version of themselves or help them to be the best version. We're not trying to make them anything, right? We're trying to enable people to blossom, right? We talk about flourishing in the companies, right? We want people to feel autonomy, to get mastery, purpose. It's all the stuff that Daniel Pink put in drive. It's those types of things. We want people to feel like they're meaningful because they are. And we want people who are passionate about coming to work. Now, is everyone passionate every single day about coming to work? Of course not. Am I passionate every single day? No, I'm not. Some days, some days you've got to try to through the mud. But I think on average, we want people who, we want to provide an environment where

people can be happy. And that doesn't mean they are happy. It's not our job to make them happy. But I think that allowing people the opportunity for happiness is a considerable amount of how we generate our long-term returns. And so that's in many ways, I think the opposite of how, whether it call it 3G or maybe broader of, you know, just a traditional private equity mindset, how you go about it. Maybe we could spend some time on that, which is understanding, I'll call private equity, traditional private equity and we'll separate venture capital as a separate area earlier stage, that obviously part of the mindset is an exit-based mindset, meaning a big chunk of the return is going to be coming through, you buy something, there's an exit, there's a liquidity event of some sort,

whether it's an acquisition, an initial public offering, whatever the case may be. So there's this very kind of like when is it going to be liquid and that's where we make our return versus the kind of more what I would call your mindset of own it forever or as long as it makes sense, you know, cash on cash type returns. So I would just be curious. Maybe we'll start in private equity, you know, bigger private equity will move down to venture to hear kind of your thoughts on what's good and maybe what makes no sense about the way that they operate. specifically because perspective, I want to get, we're going to come back to valuations too, but prospective returns, if you look at anyone's forecast that I think does good work, are relatively low for public equity markets, very, very low for bonds on a real basis. So alternatives have seen everywhere, alternatives become very compelling again because

there's, there seems to be what's sold is an illiquidity premium that you can earn a three percent or whatever it is, annualized higher return than you can get from public markets, and that would allow pensions to make their hurdle. Yehaw. But of course, I try to approach this with as much skepticism or healthy skepticism as possible. And so I'd be curious, given how much more exposure you've had to those two worlds,

as an entrepreneur yourself, which I think you've told me that didn't work out, starting small businesses, except for obviously the one that's worked out very well. Well, I think it worked out at about the same hit rate as normal entrepreneurship. I just found out I'm about average. Yeah, right. Which is probably more true than, you know, about average and almost everything.

Right. So let's start with private equity. What? Give me your broad opinion. Just riff on it. If you look at the, the history of the industry, the more capital you have to deploy. So if you're talking about the KKRs, you're talking about the Carlisles, that, you know, the very highest level of private equity, they are generating better returns than the public markets in almost every time horizon. They're doing it because.

there is a difficulty premium in both the buy and the sell that doesn't exist in the public markets. That's my humble opinion of why they're able to do that. So I'm going to kind of tier the structure down into different sizes and kind of where the returns come from. So I don't know exactly what that premium is, but it takes a skilled analyst and it takes relationship building and it takes a considerable amount of know-how to buy a majority of any private organization, period. As one of my lawyer friends likes to say, the zeros get larger into these bigger deals, the fundamentals stay the same.

So any private investment is going to take a lot of skill on the front end to get into the deal, whereas, you know, public, you poke a button. And on the exit, it's the same thing, right? There is considerable skill in how you sell, how you structure a sale, who you're selling to. Why are you selling to them? How you set up the incentive structures in the company to maximize that over a certain time horizon, right, or whatever that is. So I think that's where you get, if I were to sort of in my humble opinion and take my best guess it, I think that's where you get the premium return to the highest level.

If you kind of go down a level below that where maybe relationship matters more, I think that's where you start to get into some of the higher returns or the bigger outliers. So if you look at, you know, again, the KKRs, the car laws, the biggest of the big, the Apollos, you're going to find they all look at the same deals. Like, I mean, I don't know anybody who works at that level who claims that they have proprietary deal flow. There just isn't proprietary deal flow. Everyone knows that if you have a giant company that's going to be bought for, you know, multi-billion dollars, you don't meet a guy at the country club and sell them your business.

You're hiring an investment banking team. It makes sense. They're well paid and well worth it. Choose wisely. But it's a good idea, I think, at that level. Plus, if you have any diversified shareholder base, you're going to get sued to all get out. I mean, it's going to be bad if you don't use an investment banking firm because they're

going to claim collusion and they're going to have all kinds of shareholder lawsuits. And so I think that, so my guess is, though, that they're all looking at the same deals. It's a matter of how much dry powder do they have? what's the, what's the, you know, sort of the going rate and how much pressure is there, honestly, in the public markets, I think, drive a lot of that. So if you see price adjustments, I think prices adjusted much more on the top end of the private equity in 2008, 9, 10 than they did lower in private equity.

So like the guy who's running a company's going to sell for $30 million is a lot less price sensitive than the person, comps to public market. than the person who's running a business that's, you know, multi-billion dollars, right? Because you're always using public comps in that, in that valuation process. So as you move down the spectrum, I think the skills become more important. Not to say the people at the very top aren't skilled. I just think they're all seeing the same, basically the same deal flow. And they have all about the same level of talent.

You know, and there's some big names that have great histories of dealmaking. It's amazing. I'm not talking about the outliers. I'm not talking about the norm. She started moving down market. I think that proprietary opportunities become more real. I think relationships matter and personality if it matters. I think you get more into concentrated shareholder base.

And anytime you get into a concentrated shareholder base, you're going to get into this Mr. Market issue. So we even experienced Mr. Market in the public sphere where the price is constantly being shouted at you, right? There's, you know, manic depressive, some days, other days, euphoric. As you start the variance, you know, with, let's call it, you know, I don't know. Actually, here's a question. How many people bid on the average, you know, like how many people bid on a daily basis on IBM? How many independent actors are there and on IBM?

I mean, what's amazing about looking at share turnover numbers. Right. It is, you know, for some of the popular stocks, their shares will turn over 10, 20 times a year. It's insane. I mean, that's absolutely insane. So, I mean, just incredible, I mean, almost seems like infinite number of actors, right, into the system. So as you get down, if you, you know, you talk about the average of all those infinite actors, right? you're going to have a lot lower variance than you will if it's two or three people. Two or three people by definition are going to swing more than others. And so as you start moving down into more concentrated shareholder bases and you start moving into smaller companies, there are less buyers.

So there's less competition. It takes, I would say, more of a different type of skill set. And relationships matter more. And so what you can do in the smaller private companies is reputation. can matter, I think, more than it matters at the top. I don't think anybody who sells to one of the top 10 private equity firms in the country or in the world is going to say, oh, well, they're really great guys, whereas the other people are not. Like, it's just not how the game's played, right? Everyone kind of knows what they're going to get. And many of those people, I mean, they're all working

for institutional investors. So, you know, at the end of the day, the investor base will pressure into certain behaviors that you just can't get around no matter who you are. And they all share the same investor base. I mean, basically, right? It's all the endowments and institutional money, pensions. So, you know, I think as you move down market, those different skill sets become expressed more. You get a variance in what the priorities for a seller are, and you get a very bigger variance in what the skill sets of the acquires will be. And when you combine those two things, I think it's a, it's, you get a pretty good distribution range. Yeah, no doubt. What about venture capital? What about venture capital?

Tell me what you think. I think that there are... From both sides. So from the perspective, I guess maybe all three sides, from the perspective of LP investors in venture funds, from people that want to start and run a venture fund, and from entrepreneurs seeking venture capital.

Okay. Let me go for 20 minutes here. Okay. So if you look at the economics of an entrepreneur seeking venture capital, who you take venture capital from matters. I think if you have a good business model and you are a trustworthy good executor, then you should be able to find money in almost any situation, right? Meaning the macro shouldn't affect you that much.

Now, as the macro changes, that's where you get into some, you know, the fear of missing out, the fomo of venture capital, I think becomes more real. And you start getting some issues of temporary insanity on both sides, right? when you get people founding companies that don't know anything about the space because it's quote unquote hot let's let's attach a machine learning and AI to everything that we do right it's like it's like dog walking but with AI right like or it's underwear delivery but with machine learning right so and you laugh but I'm actually probably sure that there are there are companies that are using that exact phrasing and probably both of those actually raising venture money as we speak in both of

those because both those things are so hot right now. But from an economic standpoint, from an entrepreneur, there's really two sides. I mean, money is a commodity, who you take money from. If you maintain control, it shouldn't matter that much unless they're actually going to do a value add. My experience is that the earlier on in the fundraising cycle or in the life cycle of the company, the more who you take money from matters. So if you're taking your first seed round, I'd be very careful not to take it from certainly anybody who's going to poke their nose into your business and cause you all kinds of problems and headaches and trying to get rid of an investor's worse than getting divorced. I mean, you just can't get them out at the cap table. And they have certain shareholder rights unless you specifically write it in.

And I mean, it can be terrible. And the money's expensive. Like, let's not forget. Typically in the seed round, you know, I'd say at a minimum it's going to be 15% dilution. I'd say, you know, you see closer to 30 or you. even 40% sometimes dilution in the seat round. And then every successive dilution after that, I mean, you're diluting the dilution, right? So it's not, the math doesn't work out exactly.

But I mean, you know, Series A is going to take, you know, 20, 25%, 30%, depending on the situation. It's expensive money, but if you can grow the company, if you see a trajectory to grow the company with those funds that dramatically enlarge the pie, the math works out. The issue is it puts you on a track that you can't, like, you've chosen your destiny. And you're either going to go big or you're going to go home. And I think that a lot of businesses could be very successful. I've watched it personally with a few of my friends who have taken venture capital. Some of them have worked out great.

I mean, gosh, IPOs and it's been amazing. But they've also, there's been some train wrecks. And there's been train wrecks that are forced train wrecks. So once you go down the path of taking the venture capital needle, right? It's like the steroid injection. you're going to get big, period. I mean, you're going to hire a bunch of people and you're going to get your burn rate up there.

I mean, you know, it doesn't surprise me anymore to see burn rates of two times revenue or at least one times revenue, right, at a minimum. I mean, so if you know, you talk about all these companies that are like, yeah, we're at $10 million of revenue. It's like there between probably $8 and $25 million of burn rate. I mean, you think about that on an annualized basis. I mean, that is a bonfire of $100 bills.

And there could be very good reasons for that. It sounds like I'm jaded and I'm saying that it's not, you know, not worth doing. It's not the case at all. If you can take venture capital and you have a pathway to success and you need money, you just can't get it any other way. Like I don't, I mean, you know, it's extremely risky. And I think a lot of entrepreneurs don't appreciate how risky early stage investing is because everyone believes they're going to be success. Like everyone thinks they're an above average driver. Everyone thinks their kids are above average. And every, You know, it's like, no, most of the time that you're going to fail, like the norm, the default is death in startup realm.

And you're as an investor, you're funding default of death, which means death to your money. So you better be right and big on a couple of those. But I think it's just all situation dependent. I think there's a lot of businesses that take venture capital that could have been successful if they hadn't. I rarely see businesses that should have taken venture capital that didn't. So I think that's an interesting, there's something there. So yeah, that's kind of that's the side of, you know, as an entrepreneur, I would say. As a business model, I think it's probably the hardest money in the world to make is getting into venture capital.

So it is glamorous. It is, and don't let them, don't let me tell you differently. It is glamorous. Like I have friends that are VCs. They're flying all over the world. They're meeting heads of state. they're everyone wants them to come into their country and make seat investments and everyone wants to be their friend and they get tickets to all the games and they're at all the conferences and they're asked to speak and everyone says they're amazing and it's it's it is it is quite a show there's a there's a whole meta layer to entrepreneurship that we could talk about at some point that I think perverts the entire system but I think that's that's that's a chunk of it I mean there's a whole there's a whole media circus around being an entrepreneur that is so divorced from reality and in a in a large. large ways taints some it gets people wrapped up people who you know a lot of people are young right

they take venture capital and it makes it seem like being an entrepreneur something different uh from the outside looking in than at what it actually is right i think this is a you know issue when you get into some of the um depression rates and suicide rates and things that have come up in in um last 10 15 years in the in the entrepreneurial space but as a vc i think it's a brutal business. I mean, probably the only business that I think is more brutal is probably trying to to beat the public equities market. No offense, Patrick. Sorry. None taken. You know, I give a test. Exactly. I mean, look, in VC, it's definitely a relationship-based. It's, it's so hard, though. I know a lot of really good people who have tried to get into that

business, who are extremely smart, wonderful people. And really, if you don't make a splash with your first money that you raise and do a giant return, you're never going to be able to raise again. Such a self-fulfilling prophecy or such a self-fulfilling phenomenon in that space that if you're successful at the first fund you buy goodwill that can last. No, yeah. That can let you

survive a lot of unsuccessful But isn't that the same thing in the public markets? Like if you raise a $30 million or $20 million initial public equity, you know, hedge fund quote unquote and you shoot the lights out? Sure. In the hedge fund seating space 100%. It's the same principle.

I mean, it's all the same thing, right? where most of them fail and one can cover all the losses on the others that fail for the Cedars. But it's, I think all the same principles apply. It's just less sexy in the public markets. So all those things that you mentioned, you know, the people that I know that are big, that manage huge portfolios that are many multiples the size of a VC fund have nowhere near the notoriety. Exactly. No one's read your blog. And maybe nor should they.

Right. But it's just, it's such a, it's such a different game and relationships matter so much less. Yep. Yeah, absolutely. That's a huge difference. I mean, that's, that's, that's an enormous difference is that I think that someone's skilled in relationships has one of the most valuable skills in this world. And that really doesn't, it does to some extent on the asset management business side. So if your, if your, if your model, business model is fundraising, which a lot of asset management companies, that is their model, then relationships matter a great deal.

but in terms of generating returns, the role of relationships is just far lower than everything you're talking about. Yeah, and I mean, obviously, the returns on the VC side are driven by relationships. I mean, all the deal flows all that way. And I mean, it's the same thing in the, you know, in the PE space, obviously, as you get down below as well. So, you know, I'd say I would not, you know, anybody who... You're not starting a venture fund any time, so. No, definitely not.

But also, I think anybody who's thinking about going down that path should just ask themselves, you know, what are they trying to get out of it? And why do they want to get into it? I mean, if they're getting into it to get famous and be able to have power, then, I mean, you know, you develop a good network. You meet a lot of people. I don't think from that standpoint it's necessarily bad. And I think that actually on the entrepreneurial side,

we can have a discussion around this if you'd like. But, you know, a big hedge against failure in the entrepreneurship space has become building your personal brand. And I would argue the exact same thing goes on in the VC space, right? So, you know, you can soft land a lot of places if you have a lot of relationships and you've, quote, unquote, built a good brand, regardless of if you have the how much hat and how much cattle. Like, it's, it's an interesting dynamic there. Can we talk about brand a little bit? So, so I've been thinking about this a lot.

And this phrase personal brand keeps, keeps, keeps creeping up everywhere. And it's one of those kind of worn, worn phrases at this point. Visionary. But, but, but, but, but, but I'd love to try to flesh out what it means. So I have, I have, I have, I have. decided that the formula for this is some balance of trying to make everything you do, either build trust or surprise people positively. Now, obviously, surprise comes with risk and there's nothing worse than a bad surprise. And so surprise is probably less of the pie than trust.

I think trust is probably the most important dimension of any brand, but certainly a personal brand. And obviously, as we've talked about a lot, trust is incredibly hard and slow to build, and you can destroy it very quickly. So, so I'm, I believe, I don't know that trust. I think it's an alignment of expectations, right? So you, like, you don't trust the Coca-Cola brand, you know what to expect. Yeah, fair. Probably a cleaner formulation of it. Okay. Realistic expectations that are, that are met or surpassed. Yeah, absolutely. Very consistently through time. Absolutely. consistency over time. Yeah. And so there's this really interesting formulation. It's kind of a silly acronym, but it's M-A-A-M-A-M-A-M-A-M-A, and it's most advanced yet acceptable, where the idea is that

people like things that have one foot in the known and one foot in the unknown, which is also how we learn things, right? Like we're always learning things in terms of stuff we already know. If people are growth-oriented, they want to learn a lot. To approach something you don't know, the only way to do that is to tie it back to something you know. I talk about this a lot. That also turns out to be a very powerful way of influencing people. And so that's kind of where I've settled on this idea of personal brand is be consistent, deliver on what people expect from you in all dimensions of what you're doing.

And then as much as possible, surprise significantly to the upside past those expectations. And we could talk about what surprise means. But it seems like that is the cleanest thing that I like operating manual. We were talking before we started recording about trying to keep the dimensions simple and few. Otherwise stuff stops working if you have too many things to consider none of them will work. So I've been trying to boil this down as much as I can to a couple things. And it seems like trust and surprise are are the right things. So I'm curious what you how you think about brand, building, personal brand, what you look for in a brand of a business.

It's a really fascinating topic. Yeah, I think it's interesting. I'm trying to absorb the framework that you just provided because it's in some ways very different than the way I think about brand intuitively, but you probably are more accurate, more right than the way I think about it now. I guess I'll have to think about that. But the way that I think about it now is brand is the distribution of likely outcomes that you can expect from any company or company.

person. It's kind of the way that I like to think about it, right? So some brands have a very tight distribution and you expect great things from them. That would be a, that'd be a great brand. I mean, I think Amazon's a great example of this. Like, they built a brand that as a consumer, I mean, I love Amazon. I know that they're never going to cheat me. I know that they're going to, if anything, err on the side of like, you know, we had an issue two or three weeks ago and they just like gave us the stuff. Like we were like, hey, this is wrong. And they're like, keep it. And I was like, you sure? He's almost like, like, Like it felt like cheating, right?

I felt like I was stealing something. And in fact, my wife, I think was like trying to like box it back up and send it to them because she was like, we shouldn't keep this. Like I don't think the person understood what they were saying. And I was like, no, I think they did. So, you know, when you kind of frame it in terms of the distribution of outcomes, I have a high confidence that the distribution of outcomes when I deal with Amazon is going to be fairly narrow and fairly good. If you take another brand, maybe a bank that I interact with, sometimes I get great experience and sometimes I, sometimes I get bad experience. And when I think about what I can use them for or need them for, you know, sometimes

they're very helpful. Sometimes they're not. And so it's kind of like, you know, the distribution of outcomes is a lot wider. And the peak of the expectations is a lot lower. And so they're susceptible to me switching banks. And they're, you know, susceptible to me using other resources to be able to accomplish that something. Whereas if I'm going to buy a book, I don't think I've bought a book from me.

any place else other than Amazon for like five years now at least. I don't think we've bought household items from anywhere, but Amazon for at least three or four years now. So I'm kind of framing it that way. And so when I think about what are the thing that you want to be known for, right? If you talk about personal brand, what are the things you want to stand for, right? That's kind of the peak. And then how consistent are you in reaching that peak or having and what are the distributions around that peak look like? And I think the best, personal brands that I know are hyper consistent and consistent around, you're going to have consistency around inconsistency. You're never quite sure what the person's going to do, right?

You're kind of like, they're going to surprise you, right, as you kind of said it, right? But I think that's an expectation. If you have an expectation, they're always going to surprise you or delight you perhaps, like unexpectedly. I mean, that's still an expectation that you would have. And so I think about those different attributes. And I think very few people or very few brands also, except when you get into sort of the biggest ones, I've even gone through the exercise. thinking, you know, what are the things we want to be known for? What are our, you know, the values that we want to expouse? And by the way, are those aspirational or are those rooted in some sort of reality? Because there's, you know, nothing's worse than, and I don't want to be

too derogatory specifically, right? Like praise specifically and criticized categorically, right? But, you know, I'm sure you can think of some brands that claim one thing and almost every experience with them is something different. And I think that's where the dispersion of outcomes maybe aren't even that big. It's just very, very narrow dispersion of outcomes around negative. And that brand is very vulnerable. And I think that's where you're going to get long struggles over time. Interesting way of thinking about it. Based on how you put it, I would think then that the best brands have a high peak and a low distribution in your mind. Yep. But what about the idea that maybe the best personal or company brand has a very high, I think high peak goes without saying, but a, but a high

dispersion. The reason I put it that way is, again, coming back to this idea of surprise, because like you said, there are certain companies like this, Apple is this way for a long time, where you just expected that every new one of those big, big releases that they did, that it was going to be an unbelievable advance. And you get jaded so that the sixth or seventh, you know, release of the iPhone that has an unbelievable leap forward and capability isn't as exciting. I don't know anyone that has the iPhone 7, right? Now, that's a good point. I don't know either. People might argue that this is a jobs thing. So maybe this is not the best example, but I can think of lots of companies where you almost get jaded that they're so good. Right. And people, in terms of

people's attention, so I think brand is also like mind share, right? How much mind share you can command in somebody. And higher dispersion might be a path towards that mind share. Yeah, no, I mean, I get it. I mean, basically, it creates a framing for sure. I mean, I think the starkness of, you know, the dispersion of outcomes would certainly help. You know, I think with the case of Apple, right, like I don't know anybody actually who has the iPhone 7 either, but almost everyone I know has the iPhone. And so it's an interesting, when you talk about the dispersion, I think that maybe the dispersion for Apple would be, you know, maybe higher than normal, but almost all on the positive side, meaning the dispersion from the norm, norm being. it's still really good. It's just the dispersion gets a little bit wider in the like, oh my gosh, it went from being

really good to being outrageously amazing, outstanding, you know, sort of the AirPod idea, right? I mean, I've read a few things now that people say it's magic. I've actually experienced it myself yet. But, you know, those are the types of things that delight, right, as we called it. And I think people have come to expect one of the peaks of Apple that I think you're maybe getting to. And maybe we're mixing some metaphors here. And it's not exactly clean in my mind, you know, how those interact. all the time. But, you know, one of those peaks is the delight, the unexpected, that you,

it's just magical. So I'll use an example of Netflix. So, um, just to get away from two of the biggest five companies, um, although maybe Netflix is head in that direction. So, so Netflix, obviously has a much higher dispersion by which I mean, we'll just focus on Netflix originals, right? So they have so much content now. And unlike, and most of it's crap. Most of it's, most of it's probably crap. I haven't seen. Most of it. Most of it's terrible. I haven't seen most. Most of it. Well, let me tell you. Most of it's terrible.

Right. So much higher dispersion. But some of it's amazing. But there is something about, and this comes back to my theory of higher dispersion might be a good thing, like the excitement of maybe this will be really good. The discovery. Or maybe it won't. And like when you get back into some of the like the neuro wiring, which has been a fascinating

field, you find that all pleasure is anticipatory, that all the dopamine comes when you're expecting a payoff, not when you actually get it. And so the dopamine. pathways for an Apple where you're just constantly expecting good things and there's no variance start to die. They've documented this. Whereas with something like Netflix, like there's this little bit of, you know, you watch the pilot episode of whatever it is and like, wow, this could be, because they've had such

high highs. This could be, you know, the next most spectacular thing in this golden age of the stranger things. Right. Exactly. Unbelievable show. Amazing. I remember watching with my wife just thinking, oh my God, like this is so incredibly

creative and like a. Delight, like you said. It's a good word. Absolutely light is a great word instead of surprise. Yeah. A better word. And so as people think about building either a company, a product brand, a company brand, a personal brand, I think that a wider dispersion implies, assuming the peak is high, a wider

dispersion implies more risk-taking to me and more potential for new examples of delight. like like I just can't foresee it getting delight for my next Apple product because I just know what's coming even though the peak is extremely high maybe I think I don't know I'm actually I'm I'm more bullish on Apple I think than most people are now but but yeah I mean I I get what you're saying I think it's actually interesting is a way of framing right you got to have the the juxtaposition of those two things I think it is an interesting idea I wonder whenever you think of dispersions in terms of negative not like how positive but how negative right if it's sort of of below neutral, right, on the dispersion scale. I wonder, you get some grace from consumers, I think, when you have extreme positive and extreme negative occasionally, right? Like, when I watch a Netflix show that's just terrible, which like I said, most of them are really bad, like, or at least have historically been really bad. They're getting better. They're spending a crazy amount of money on content, right? They better get better. But, you know, as I watched that, I was kind of like, well, my risk is low. And like, yeah, the show was sucked and was

like 10 minutes into it. And I was like, eh, what do you think? And my, my. my wife's like, nah, let's kill it. Then you move on to the next thing, right? There's not a high risk there. You know,

sort of as you raise the risk of the product's failure and like what the impact of that failure is, I think that's where it doesn't matter how the dis, that you want the dispersion narrower. I don't want to be delighted or surprised if you're going to use your terminology by my LASIC eye surgery, right? Like I,

like I don't want them to take risks. I want them to be consistent. So I think it depends on the type of product and what you're, what you're going after. But, you know, back down from the theoretical level. I think personal brand is a thing.

I think it's always been a thing. We're just now calling it. And it's just sort of catching, catching fire, right? And I think that the reason why it's caught fire, you know, over the last 10 years is, you know, everyone's now a media outlet.

As media continues to proliferate and becomes more tied to personalities, which has always been the case. It's just the sort of the means of distribution was always controlled so tightly. Now is that there's less control. centralized planning, control over that means of distribution, I think that you will continue to see personal brand matter more and more in some ways.

It depends on the applicability of it. So I see a lot of people. So I want to talk about the positive personal brand and the negative personal brand. The positive personal brand is nothing's more valuable than being well known to the right people at the right time. So that means it's incredibly valuable. But so often I think people are pursuing. personal brand just because they want the notoriety or the fame or the perceived power that comes from it or the ego jolt or whatever it is. And there's really no direct relationship

between that aggregation of attention and the outcome that they're hoping to get. And I think in that case, it's largely a waste of time. I know a ton of incredibly smart, people doing incredible things that have no personal brand. And I know a bunch of people have personal brand that are doing nothing, right? And the facade of doing something so you can have a personal brand, like eventually it just erodes me, it's hollow. So I think that when you, when you match up, you always got to have the go behind the show. And you better make sure you have the go first before you have the show or the show's not going to matter over a durable period of time, right? And I can think about some specific people in my head that have come and gone in the sort of high notoriety realm that just

didn't have anything to back it up. And they were kind of like the, you know, the one-trick pony. So I think there's a lot of those dynamics that people have to be aware of. And I think focusing less on a personal, like the personal brand will become the thing if you have the show behind it, as long as you don't, you don't harm it's, like, unless you're intentionally trying to avoid it. You've gotten some of the way in answering what was going to be my next question, which is monetization. And we talked about this last time as well, where, um, Content marketing is as common a term as personal brand now. Can we throw on AI and machine learning?

Sure, sure. Yeah, that would be the trifecta. And it strikes me as incredibly hard to have a brand be worth a personal brand or content be worth anything without that go. Right? So if it comes second, it can be incredibly valuable. But if it comes first, it's probably going to be worthless. Yeah, absolutely. That's exactly what I'm saying. Yeah. And so I guess that's that's the answer, which is the strategy is if you're trying to build a brand, it should come second.

Yeah, exactly. Like the more you focus on a brand without the stuff to back it up, you're just wasting your time and money eventually. It may feel good. You may get, you know, likes or follows on Twitter or whatever, but it's like that long-term durability is not going to be there, right? Because eventually, you're going to say something or you're going to do something or people are just going to realize like, why am I, that person is not the person I want to interact with, right? You can think about the business like the traditional way where it's like you create the value, the product, the service, whatever. You market it, you sell it. You deliver it. Right.

And you figure out how to, you know, account for everything. It's just communications, right? It's just scaling that communication. So that, that's the right order. And it seems like so many, now there's a lot of putting the marketing first. Right. And a lot of people shouting. A lot of people shouting.

And so maybe the key. fundamental lesson in all this is that it needs to be complimentary, not the original source of value. I don't know. I mean, the amount of personal brand or, you know, I mean, this blends into the business. I mean, there are businesses built on the backs of personal brands. You know, I think they can provide a jumpstart, but I think the norm is that they disintegrate pretty quickly. the people that I think that have the best personal brands were kind of discovered. Can you name one? Because we're allowed to praise in particular.

Well, exactly. Well, I mean, okay, I'm going to use the most famous of them, right? Which is Warren Buffett. If you think about his personal brand over time, like when he was 40 years old, hardly anybody knew who he was. Yep. Right? In Omaha, he was kind of becoming a big deal in his late 30s.

you know, when he first started buying the Washington Post, right, Washington Post stock, I should say, right? I remember the, you know, the famous anecdotes like, who the heck? Well, is that guy? Where did he come from? Who's the Warren Buffett? And only after he, you know, sort of was discovered, meaning people, you know, had conversations with him and said, wow, there's something to this guy. This guy has a spark, right? There's something unusual.

You know, his performance is speaking pretty loudly. Did he really start ramping up his personal branding efforts? And oh, by the way, yes, Warren Buffett has personal branding efforts. Don't think for a second, the Aschuk's persona isn't coined. I mean, that is an intentional personal branding technique, which I think obviously has suited him extremely well. But he didn't go out there and he didn't play the Ash Shucks guy when he didn't have his return shooting the lights out and he wasn't, you know, he wasn't out there shouting to

people. He wasn't approaching the Washington Post, the Graham family and saying like, hey, I'm Warren Buffett, let me do a strategic consulting agreement with you guys and let me tell you about all the amazing stuff I am. And oh, by the way, I could throw in some money, right? He just got discovered. So I think that's where there's a lot of that instances of discovery over time that is, that is, you know, it's the 20 years to an overnight sensation. I mean, that's the definition of what that phrase is talking about. So now we have to come way back full circle. We got way off track, but very glad we did to the third aspect of venture. So we talked about entrepreneurs we talked about from the business side from starting a venture capital firm now we now we

have to talk about the investors LP investors in venture capital funds yeah if you can get into the top venture capital funds you're going to do really really well if you can't you're going to do really poorly I mean it's it's the it's the power law distribution I think there's some argument to be made about is early stage investing you know like angel investing does it always follow power law I think you can make some arguments back and forth on that I think that is an escape that as a profession, it follows a power law. If you can get into the brand names, you are not guaranteed, because obviously nothing's guaranteed. You're going to follow cohorts, and it's going to be, you know, it's going to be a product of that vintage in time. But I think that,

you know, you're going to, you're going to do quite well over time in those funds. And it's, it's by the nature of, I mean, there's really, I can't think of very, there's been very few entrants or disruptors. I can think of a couple firms that have, you know, sort of dropped in prestige and dropped in their returns over time, but very few. And then you've got a few that have come in like the Andresen Horowitz or, you know, lowercase or somebody like that, maybe collaborative fund, right? I know you know those guys that have come in and been able to do some things broken into it in a big way. But that's all the outliers. I mean, I think the norm is, you know, there's a ton of venture capital firms out there that get middling results at best. And, and

And there's a bunch that lose money and they fade off into the oblivion. And, you know, the phrase, the VCs bury their dead quietly. I mean, I think it works both ways. Because it's a lot of varying. I think LPs bury their dead quietly as well. I think maybe VCs learned it from the LPs. So, you know, I think as an asset class, it's a really interesting business. I think there's some incredible talents in the, in the VC space because of how sexy it is,

you are going to attract an abnormally intelligent, abnormally driven, prosperous group of people that are all competing against each other in the bloodiest of games. And I think that's where it should follow power law. The Coffin Foundation came out with a, someone had sent this to me a really fascinating report on their experience in venture capital,

which largely backs up everything you've said. Yes. Their sample was 100, I think. They had made 100, you know, separate investments, which is pretty substantial. And basically none of them, a small fraction of them, I think it was 20, were able to clear a public market super liquid, you know, return equivalent by the, say, 3% or more that you're trying to get from these more private type illiquid long-term investments.

And so their takeaway was largely, we're out of this game. We can't, we can't pick the winners. So we're going to, if anything, we're going to keep, we're interested in this style. of investing, but we're going to do more of it ourselves. So we're going to make that we're not going to pay the intermediary that charges a hefty layer of fees and carry that kills everything. And that's the unfortunate secret in all this is a fantastic business is charging people 2% management fees.

And, you know, that that almost always means that fundraising will be a priority. And unfortunately, that so often in all these alternative asset classes destroys what is, you know, some of the smartest people doing the most interesting things and generating really high gross returns that just don't survive fees and crazy insane dispersion. I'm terrified of it. I mean, in private equity, you know, you're talking down 30 to up 50 type dispersion depending on, you know, where you choose, what vintage you're in, et cetera. The kind of thing you just obviously public markets have huge drawdowns, but not that kind of dispersion. You know, if you're picking smaller large cap, you're not going to see it down 30 versus up 50 many times in your career,

at least hopefully not. That would be a weird situation. So it's a fascinating. I just can't get enough of it because I think there's so much to learn. It just seems like it might, where I'm leaning is that it might be the too hard pile. Oh my gosh, for sure. Unless you already have a personal moat. Like that personal moat that some of these Vsches have.

Like if you're Bradfeld, Fred Wilson, I mean, come on. Like, I don't know Fred at all. I know Brad very well. Well, I shouldn't say very well. I know him. I've spent some time with Brad. And not only is he an absolutely fantastic human being,

he is brilliant. The guy is lights out smart. And if you're him, of course, if you're in his funds, you're going to do well. Because he's a great guy with a great reputation who's got this stuff to back it up. Like, what more do you want?

Now, if Bradfeld started today and had no brand and wasn't Bradfeld and and you know could he still do as well as he's done I don't know I you know I think I think it's a I think you know you'd have a pretty wide dispersion on that that that Monte Carlo simulation is not always going to go in the same direction so you know it's always interesting to look at you mentioned it earlier the history of these industries and both venture capital and private equity you know certainly really didn't exist pre-World war two and really it's been since the early 80s especially on the private equity side with kind of the junk bond levered buyout trend that that rocketed

this vehicle or style into prominence. And so you can't help but think, you know, when we're doing this, again, 20 years from now, episode, whatever, 600, that we're going to look back and say there's some new named category that emerged and is a different style. And maybe it's more in the spirit of what you do. That, you know, it's in this bigger opportunity set, it's more cash-on-cash-cash. versus investment plus exit. And so that brings me back to another point in your annual letter about valuations, where you said you haven't seen as wide a dispersion in multiples being paid. And you said, you know, you're seeing a lot of like seven or eight X owner earnings type multiples.

Yes. And so. Well, not a lot of them. I'm not seeing a lot of deals get done. I'm seeing some get done at that level. I'm not seeing a lot, but it's kind of poisoned some of the well. Yeah. So obviously there's always a discount for lack of marketability, for illiquidity.

And so you would expect to pay a lower multiple in your market than in, you know, the click, click and buy public markets. But given how you operate and that you're intending to hold these businesses for a long time, improve them, generate growth, cash on cash for type returns, 7X is still a 14% starting return, which, you know, by all accounts would be in, nobody would expect public market. market equivalence to generate that kind of return today. And the way that you phrased it in your annual letter paints that as an extremely high valuation. So I'm just curious, as you think about, like, let's say you found what you felt was a business with a really strong moat. And you could buy it for 7X.

I'm wondering if you are experiencing like an early Buffett type career thing where, you know, he was unwilling to pay more than a certain amount and then he got his money. Channeling my inner bingram. You haven't found. you haven't found your munger. What do you think about that idea that even at a 7x multiple, that's still a pretty massive 14% annualized return assuming steady state owner earnings is pretty impressive relative to alternatives?

This is going to be a great conversation because seven times multiple on a steady state business in the private sphere, if you made 10 of those investments in my size range, you would lose 50% of your original principal. You would lose so much money. So it sounds good. in theory, right? Of course, if you can keep everything level in the future, right? You just bring all this returns back to the present. The volatility in small private businesses and, and we can talk about what does volatility mean, right? Because you've got macro volatility,

but mostly you got micro volatility. You've got volatility within the personnel of the business. You've got volatility, you know, with, with competition to some degree. You've got local regulation issues. you've got, I mean, it's, it's, it's the knife fight, right? Like, going back to earlier when we were talking about it, like 30,000 feet, I think I alluded to this in the letter, like, everything looks so calm and peaceful at 30,000 feet. Wow, you can buy a business as seven times multiple, get a 14% return. Sign me up. That sounds great. Who doesn't want 14% annual returns? Sounds good. Now, if you go below, if you, you know, you get the plane a little closer to the ground, What you find out is you could probably buy most businesses at a seven times multiple in my area.

Well, first of all, you could buy anything you wanted as seven times multiple in the realm that we typically play at. I can think of some aerospace companies that maybe go for a little higher than that on average. Almost nothing goes under $10 million a year in pre-tax earnings. I shouldn't say almost nothing. I'm going to say under $5 million of pre-tax earnings, almost nothing goes as seven times multiple or higher. So you can buy anything you want. Patrick, you can do. can do a bunch of deals if you want it to. You get down below and you sort of do that deal and you

realize how hard it is to sustain those returns over time and the Herculian effort that has to be put into protecting and guarding those returns and how hard it is to keep things on the rails. And if you just tried to buy and hold and keep steady state and you told the management team, hey, just do your thing, right? Just, you know, stay at it. You would, you would lose, you would generate a couple years probably of returns on average, maybe even three or four years of returns on average, and then you'd lose your entire principle. Pretty amazing.

So with the more deals being done, maybe not too many, but things happening in that upper end of the range. Well, let's talk about what the range is. Let's talk about what's the norm that you can expect. So in a business that's doing, let's call it, three to $700,000 a year of pre-tax earnings. So these are, you know, in many ways, micro businesses, but success.

micro businesses, right? So these are the businesses that in any given geography, you would look and say, oh, that guy's a member of the country club. Cool. Like, I know him. He's a deacon at his church. They're successful. They're making a very good living. Most entrepreneurs never even get to that level. So there's something special about the business. There's something going on. But, but, you know, if you've been doing it for a long enough time and there's not much growth to it and there's sort of high volatility to earnings, which is normal in the case of most of these companies, you know, you have good years and bad years. And you know, you look at that and you say, what is that business if it's going to be sold? So that's the question.

If it's going to be sold, most of those businesses get shut down. They don't get sold. I would say, I don't know this to be a fact. My best guess is in that 3 to 700,000 of pre-tax earnings, less than 30% get sold on average. Ever. Ever. Yeah. Like ever transacted.

Yeah. Right. And so, you know, the multiple that you would pay on average in the, that is probably two to three times owner earnings or seller discretionary earnings would be better. You know, if you take the compensation of the owner and you kind of, you know, added into it actually. Yeah, yeah, added into it. I would say, you know, you're going to, you're going to pay on average like two, two and a half times seller discretionary earnings. Now, you move up from that tier up, right? So that's kind of the, I would call that the lowest tier of

transactions. And by the way, the norm in that market is not because people haven't discovered these are all numbers that are published. It's not like a rarity. Maybe outside a high finance or some insular, you know, it's not so insular. I mean, most people know what these businesses go for. It's not hard to find that out, right? It's not it's not, it's not higher transaction values because there's people that don't know that they're going for that price. It's just brutally hard to buy them. It's brutally hard to sell them. It's brutally hard to run them. And it's just fraught with risk. And so when you think about prices, don't think about prices in terms of like, oh, well, if I just keep it here, then I'll make X, right? Because I think that's an exercise in

folly in many ways. And it gets you into this weird situation where, you know, it looks far more enticing than it actually is. The reason why the prices are there is because of the difficulty of doing them and the risk involved. And if you do enough of the deals, I guess if you, you can make a comparison. Maybe if you did 10 deals at that very lowest level at a two to two and a half times multiple, if you could somehow pull off 10 deals in that space over a, you know, a lifetime because it's hard to scale in that space as well because of the leadership aspect of it. You know, maybe you end up generating a 20% annualized return. And for the risk profile and the hard sweat that you have into it, I mean, gosh, that's not that much different than

the public markets over that same period of time. Or you would have to do nothing. When you have to do zero. And so I think that's the reason why they're priced the way they are as you move up market. So let's talk about like our typical range that we see because I think we're probably on the lowest end of professionalized capital is kind of the way I would like to think about it. Right? There are professionals in the business doing what we do. You know, we're looking at an average deal of call it two, two and a half million dollars of pre-tax earnings. We'll go up to 10. You know, as you start getting above five, you're really talking about even kind of a different ballpark there. So I'll kind of put a break point at like, you know, seven or eight hundred.

you know, on the lowest end, up to $5 million on the high end. You kind of get into that range. And, you know, you'll see, depending on the capital structure, the use of debt, how much of it's earned out, and that's where all these things come into play. What percentage of the business is being bought? What's the compensation level of the previous majority owner that now is a minority owner, if they're still involved? All those things kind of come into valuation. It's hard to get a true apples to apples comparison. But I'd say, you know, you're looking at somewhere in the ballpark of two and a half or three times on the low end. You know, we kind of have a rule, if we're going to buy a business for less than a

three times multiple, probably shouldn't be bought. You know, it's kind of a selection bias issue there. And then really on the highest end, I would say, five and a half or six times multiple. And those are for really, you know, gym of a company type situations. Occasionally you see this pushing up into the seven, maybe even eight, with something that is so highly specialized and has a. a high growth rate to it that's going to be almost more of a growth equity, not a lot of traditional private equity type deal. It would be more of a high growth, almost like a hybrid

between VC and PE. And I think you've got to treat those a little bit differently, right? There's a group out of Chicago that actually, I think I've interacted with you guys on Twitter, Parker Gale that does exclusively software-enabled, tech-enabled businesses. And I think, you know, I can remember exactly what the multiples they typically pay, but they're higher than average because they're buying typically a technology business that unfortunately has higher comps in the venture capital realm right so there's more of an apple apples there and a higher bar set as well as the growth rate and the sustainability and the durability of those are always independent of the relationships of the founder so by the nature of that moat they're going to have more durability

and those guys are great at what they do and they're having a great run on things i think they just raised a they just raised a bunch of money and they're going out and they've already had good careers independently of the latest organization. So, you know, if you talk about like sort of the normal returns, I'd say three on the low end, you know, five really on the high end is what we like to pay. We say three to five times. We maybe would stretch for the right business up to six. You start pushing beyond six. And again, you get into this, you know, you do 10 deals or you do 100 deals. And I think you end up losing money or at least making less than the public markets. And by the way, the reason, you know, in my letter, I talk about private equity moving down and

fundless sponsors pushing up. this sandwiching effect is, you know, it's frustrating at times for us because, you know, they really are two completely different competing, types of organizations or types of competing entities, bidders or, you know, acquirers that we're really running up against with, with very different reasons why they would overpay in a situation. And, you know, I think I talk about this, private equity firms that are used to buying bigger companies that move smaller, think that smaller companies run the same way as bigger companies. Sometimes that's true. I would, I would argue that most of the time it's not.

And what a company needs that's two or three million of pre-tax earnings, on average, is fundamentally different than what a $10 million, $20 million, $30 million pre-tax earning business needs. The people need to be treated differently. The expectations need to be different. The patience needs to be different. Everything needs to be different. Like the type of talent you're trying to recruit is different. The pedigree is different.

The systems need to be different. And by the way, it's not just that it may sound like, oh, we just got to dumb everything down. Not the case at all. I would argue that the right $2 to $3 million company has much higher growth potential, explosive upside growth potential, than the right, you know, $30 million pre-tax earning business. They're just different. And so when you take somebody who's pushing down into the market, which is what we've seen, right, we never used to come across private equity, like legit bona fide private equity or like funds, professional funds. we never used to see them come, you know, below five million, really was kind of the lowest. Because if you think about it, if you're raising a $200 million private equity fund, which is a pretty low amount of money in private equity world, I mean, to raise, that's on the lower end of private equity.

I mean, what's the math look like if you're deploying $10 million checks? Are you going to deploy into one fund? You're going to deploy $20, $10 million checks? How's that going to work? It's not. And so the reason why you don't see these businesses going down that low is just that it doesn't make sense, right? But now you do see because they're having to reach, they're creating whole divisions within these funds that are going after a larger number of companies to try to jack up those returns and try to salvage the returns they're getting up market. We don't know how it's going to play out.

I mean, this is only a fairly recent phenomenon. And so, you know, maybe in 10 years, you talk about 10 or 20 years, maybe in 10 or 20 years I'm sitting here saying, no, they did a great job. They figured it out, right? I see a lot of the behavior, though, and the things that I'd worry about, not being recognized by some of the people that are bidding against it. And then on the other end, you get this funless sponsor push. So you get, when I say fundless sponsor, so this is, I mentioned this in the letter, these are guys who, guys, it's almost all male dominated, right? That's why I keep saying guys, but people, there are some women who do this, but mostly it's a male-dominated industry. they are, you know, they've been successful at an IBM or an HP.

I mean, you're using tech companies. I don't know why. Or Procter & Gamble. And they're in their 40s and they say, gosh, I'm tired of the grind. I don't want to do this anymore. And I want to, I want to be the man. I want to be my own boss. Right.

Maybe they plateaued out in their career trajectory in those big companies. And, you know, they've made some money. They sell their stock options. They're okay. Or they're, you know, maybe on the older end, they're retired. And so they go out and, you know, they're like, I'm going to, I'm a, I'm a, to buy business. Cool.

Great. Running a small private company and being a part of a large organization, pretty different, not nearly the same. And they have no bearings of what to pay. So they will look at it and say, well, I'm getting on average, you know, my portfolio, my public portfolio is averaged 12%. No, I'm 12, probably 8, 9, right? Percent return over the last, you know, however many years.

Gosh, I hear you can buy a company at a five times multiple. four times multiple or six times multiple. Well, that sounds pretty good. And so what you end up seeing is they have no framing for it. They don't really run through the same calculus. They're not skilled. They haven't seen enough pitches to understand what they're even trying to really look at. And so you end up getting these people just wildly swinging, swinging their shoes off that can gum up the process.

And so the issue is not, look, if a seller can get somebody to pay them a much higher multiple and get more money. and that's what they want, and that's their number one priority, more power to them. I'm not arguing that they shouldn't sell to them. If money is not the main priority and you're talking about post-close or the ability to even get the deal done, that's where the calculus gets shifted. And so oftentimes what we see is people throwing out huge numbers. We'll pay a six times, seven times multiple for your business. Not really giving much specifics around where's the money coming from, what's the debt structure put on the company?

What's the plan afterwards post-close? what's your experience in doing this? What's going to happen to the company? And so it's just, you know, you're playing with sticks of dynamite. And it can occasionally work out. You can toss a stick of dynamite back and forth, you know, a few times and not have a blowup. It's going to eventually blow up. And so those are kind of the two sandwiches in the market.

So that's affecting you in the sense that the rising tide lifts all boats to some extent. And I'm sure that owners that you're interacting with have a sense for higher multiples being paid in the market. and does that, so does that reduce? Country Club chatter. Yeah. Does that reduce your ability to buy businesses? I mean, do you expect if the economy continues to do well? And that's another thing you mentioned, which is that balance sheets look good, income

statements tend to look good, which looks good on paper, but maybe it's a sign of the end of a cycle. Who knows? How do you think about it? I think you've said in the past that you're just willing to wait as long as it takes. And so maybe that's what you think. and you're just patient. So I'd lie to you if I said it hadn't affected us, right?

I mean, definitely has affected us. We're reaching, there's been a sustainability of upward creep of multiples and and sort of expectations over time, which I think is paired with higher earnings on average and better balance sheets, which then makes the magnification of what you're paying for an asset even bigger. So not only are you getting a increasing quality of, what looks like a quality of business on a cyclically, when you take the cyclicality of it out, I think you have, it's not as rosy as it looks, right? So if you look at a 10-year average of returns, right? And sort of, you know, you go back 2007 to,

you know, 2017, and you said, this is a full cycle. I think that you would, these businesses are not, you don't want to pay a good, a healthy multiple on the peak of the earnings, right? It means the point. And I think right now you're getting into this weird scenario where, Money's cheap. There's a lot of people feeling flush, right, which is a sign of the times. It doesn't feel frothy yet, though, which is good in some ways and bad and others. We welcome the next down cycle personally. But right now, we are having to compete against people throwing out stupid stuff. And we are happy, as I said in my letter, to be the backup to the prom. We tell people all the time, hey, if you can get that from them, just want you to know,

I seriously doubt if they can close on that deal. It doesn't sound like they have the capital in place. It doesn't sound like they do this professionally. So what's likely going to happen is they're going to get you into a three, six-month due diligence lock-up, not a six-month lock-up, but they'll do, you know, a 90-day lock-up, and then they'll come up with some great excuse and get you to re-sign for another month or another 60 days and then blah, blah, blah, blah, blah, and it gets dragged out. And then at a certain point, you call the music and, hey, this is not working out.

We like to be the people that get the first call after that. And we're happy to be patient and wait. And we don't take offense to it. And we don't try to hold people's feet to the fire. And we understand. It's a stressful thing. When you sell your baby and it's your life's work and your income's going to come from that pot of resources afterwards, look, you know, it's a tough situation. We don't, we don't try to play games.

Changing gears a little bit. Yep. I'm curious to know what your process is for learning outside of books, which you're, you we've talked about in the past, we could talk about it again, but outside of books and outside of this kind of incredible stream of hands-on experience looking at businesses. Because, you know, you strike me as someone that is always looking to understand things from other angles. And so one thing we didn't talk about last time was kind of mentors or I don't want to plant the axiom that this is just going to be people. But I'm curious kind of what your method is for learning, which you seem to have

done so much of outside of those two principal things to see if there's, you know, a thread that we could pull on here for what other people could try to emulate. Yeah, I mean, I would say one thing I'm going to be, I'm going to be honest about is I don't really have, I mean, I definitely people have mentored me. I don't really have what I would consider to be traditional mentors. So I don't, somebody asked me the other day, they're like, who are you, who are you emulating? Who are you copying for the Adventures model? And I said, well, I mean, I've, I think studied like every prominent, you know, well-known investor in the history of the world, I think, at this point. I'm sure there's a few floating out there. I had a great conversation today with somebody

about the book, The Fish Day, the Whale, that Zimari that we talked about in last podcast. We were just talking about how an incredible, like, how not well-known Zimori is. But he's a good example of somebody who I just like, I'd love to dig in on and learn more about. But, you know, I would say I don't have traditional mentoring. What I have is a lot of peer mentoring. And so I think about it a little bit differently. Instead of somebody who I'm looking to emulate, somebody who I you know sort of blaze the way for me, you know, in a model of some sort. I look at it more as each person has a unique expertise. And, and I try to surround myself with people who will tell me the real truth, no matter

how hard that truth is and have some sort of unusual view of the world that makes their life different than average. And when I meet those people, I try to, I try to collect them, right? I try to surround myself with them. I try to spend time with them. I try to ask them a lot of questions. I try to interact with them intellectually in a number of different ways to try to, well, hopefully enhance their life as well, but also, you know, learn from them and learn what, how should I

adjust my thinking or behavior in such a way that would positively affect the outcomes of my life or the people, you know, around me. Can you give me an example of an adjustment like you're referring to maybe in the last year or two. So something through your peers that that you've learned from somebody, you don't have to name the person, but a lesson that's changed the way you behave or think about something? That's a great question. It's a hard question. Yeah, I mean, I've learned a lot. I think about every six months, it feels like I go through a molting period, right, where it's like I shed my skin and, you know, hopefully not all of my skin, right? Like, I think I'm keeping more of my skin every

time. But, you know, I'd have to say that the person who, for sure of the last five years, has affected me intellectually the most is my right-hand person, the person who I consider to be my business partner in every term for the long term, definitely with the long time horizon, Suzanne Byland, right? And she's the most self-effacing, like she's so under the radar.

You'd never, she's trying to, in fact, I think I give her crap sometimes that she's intentionally trying to be so unimpressive that, you know, like, it's a disservice to both herself and others. But she and I come from opposite into the world in some ways. And that abrasion between us

has been such a strong component of why adventures, I think if we can point to anything has been a success. And she's constantly, because she does come at the world so differently than me, she grew up in Sweden, right?

So she's in Northern European, very different culture growing up. She's a farm girl. So we actually share, I mean, I come from Joplin, Missouri. So, you know, farming community is well down there. But, you know, she is constantly pushing on me. And one of the things that I used to always get irritated with and say was, well, that person is acting irrationally.

That person doesn't know what they're doing. Like, why would they, why would they do that? That's just insanity. Pure folly, whatever the term I would use. And she would say, no, it's not. And I'd get so irritated at her. Just listen to me. No, no, no.

Do you not see what I'm saying? Look, look, look. This person is acting completely crazy. No, they're not. And it comes down on this idea of sort of the central point of Austrian economics. So the school of economic theory that sort of, it was popularized. I think it was necessarily founded, but there's an institute called Von Mesa, or Mises Institute, right?

I say founded. You say founded. Okay. Well, I love the central core tenet of it, which is in the moment everyone is acting rationally based on the information and desires and preferences that they have in that moment. Okay. You take that to heart and that totally changes your life.

totally changes your life. So, and I'm going to use an extreme example, obviously, I don't want to go to the polls too often, but you look at a heroin addict who mugs somebody to steal their wallet or their purse. And I mean, you're furious, right? You're pissed. How can that person behave that way?

What a junkie. How you look down on them. Again, this is an extreme example, but then you look and you say, in that moment, that person's biochemistry, their psychology is is so different than the norm that they're willing to express that in such a way that that they're willing to tolerate incredible risk personal health risk in a number of ways you know prison risk you know all all everything and and it totally adjust the way that you look at

them and the empathy that you have for them and the understanding about how they could have to that point in their life. And in business, it works the same way. You know, I see things that happen both within the companies and outside the companies that drive me crazy. And I'm not going to lie to you. It's not like I have this Zen now that everything's cool, right? Because everything's not. And, you know, I get frustrated like everyone else.

But man, has it changed my anxiety level? And now when I look at somebody who's doing something stupid, and I get to call it stupid, right? But it's not stupid to them. And the goal then is to understand why are they doing that? Why are they behaving that way? And this goes for employees. It goes for customers. It goes for suppliers.

It goes for everyone in the value creation chain. If somebody's acting the way that you don't want them to act, you really need to try to look through their eyes, be in their shoes, whatever analogy you want to use, right? Look at their cards they're dealt, you know, use the poker analogy. And try to, you know, it's almost like Sherlock Holmes. Like piece together, what would cause them to behave in a way that you'd deem to be abnormal? Change my life. It reminds me so much of a similar person for me who luckily most people listening to this

will have listened to the conversation I had with this person that I'm talking about, which is with Eric Maddox, who used empathy and putting the ability to put himself in other people's shoes. Absolutely. In his case, an even more extreme example than a heroin addict, people that were literally shooting him trying to kill him up, trying to blow him up 30 minutes earlier. Yep, absolutely. To understand that there is still a progression

which got someone who was born in the Middle East, who had a family themselves, who grew up in a different environment, to get to that point. And to understand the, and I'm not saying that monstrous things aren't happening and hateful things, but to empathize with the bits that can be empathized with

and the art of putting yourself in someone else's shoes. Like, I've had the same experience. where, you know, he really taught me, and luckily I was able to talk to him for more than just the podcast, but he really taught me what it's like to listen to people for the first time. And your life really does change. The amount that you judge just disappears overnight. It goes away so quickly, and things are a lot more enjoyable.

I was reading this amazing book, just finished it a couple weeks ago, called Mountains Beyond Mountains by Tracy Kidder about Dr. Paul Farmer, who's a still. Liz, a huge player in the world health scene and set up an oasis, an oasis of health in Haiti a couple decades ago. And it's just a force of nature, this guy. Just, I mean, you talk about having the go instead of the show. This guy stopped at nothing and sacrificed everything to help other people. And one of the things about him that's clear throughout the book, and of course, he's a complicated, layered guy. He's not perfect, which is always fascinating.

But there's this line that sticks out in the book, which was he was so good at listening to people and really being there with people. And he said that he learned in his time that you could boil the art of seduction, you know, romantic seduction down to, you know, take a girl out to dinner and just ask her to say, tell me about your family. And that that alone accompanied with just listening to people is incredibly powerful. What Eric pointed out to me was empathy is about first eliminating distractions in yourself as you're listening to somebody and then figuring out what the distractions the other person has

as they're talking to you and empathizing with them. And the number one distraction, which everyone will realize as soon as they think about it, is thinking about what you're going to say next or what else is going on while the other person is talking. And it's, I mean, I was so incredibly guilty of it. it was awful. Wait, what did you say? I'm sorry. It was terrible, right?

And I've tried, I'm still doing it. But that changed me. That's like the most profound change that I've had because of somebody else. It's not a book. It's not a normal business lesson, which is, it's amazing that the answer is the same for both of us. It's identical. I love the idea of kind of peer mentorship. I think, you know, everyone's listened to me, do it on this.

That's what this thing has become. No, you're living breathing. I mean, that's the thing that you're doing. That's all it is, right? And I'm amazed by how much of it goes on behind the scenes, because I was never doing it. I was so bad about that. The worst part about being a quantitative money manager in public markets where relationships matter less, and then they matter even less if you're a quant because you're literally

never talking. I literally have never talked to a manager of any of the companies we own or listened to a quarterly call or anything. You realize how insulated you can get. and what you're missing out on through peer mentorship. What about other, you know, in the last year, I really love the letter. Obviously, it was a year of growth. Any other really notable experiences during the year that stand out that have affected you?

You know, I would say we went through a period of time where we saw an opportunity to grow even more rapidly than we ended up growing. And I think knowing when to take your foot off the gas. pedals as important as knowing when to put it on the gas pedal. You know, we, expectations are a tricky thing. You know, when you, uh, everyone wants more, right? Everyone wants more. I want more. You want more.

We want to grow. We want to, we want to, you know, produce more revenue. We want to, you know, have higher profits. We, you know, and I think the sustainability over time, uh, and the psychological impact that stress has on people and then companies as aggregates of people. I mean, that's what a company is. Company is people. And they're not robots.

Not yet. Yeah, right. I was getting ready to say that. Careful. At least not yet. That's actually, that's a fascinating topic to talk about. But, you know, we had an opportunity, I think, I think we pushed, we put, we pushed the limits of, of an opportunity to the point where it became obvious. We could have pushed harder and we probably could have produced better results.

We definitely would increase the risk. I think it would been against the long-term health. of the company. And, you know, again, we're all about creating long-term sustainable win-win relationships, which is probably unusual. I mean, I don't hear a whole lot of people, even, even not even in private equity, just in business in general, talking about sustainable win-win relationships. It seems like everyone's trying to get theirs and get as much of theirs as they can as quickly as they can. And I think that's where, you know, in many ways it's short-sighted. And so, you know, I would say that was a pretty big revelation. I mean, we've always, you know, we've been,

we've been very blessed to have good growth and great fairly good success over the last really five, seven years. But that was an interesting test on the opposite in that I didn't, I didn't expect. It's always been go, go, go as hard as we can, put the pedal down, knowing when to pull back. I think we made a good decision. I think this year's result as a consequence of that will be considerably higher than they would have been otherwise. You know, obviously, as you continue to grow and do well, the opportunity set grows. And you can go vertical or you can go lateral. And so I'd be curious to know how much...

Actually, the opportunity sets shrinks, which is interesting. Sure. But if, let's say if you had more capital to deploy, then you can do more deals, assuming there are more deals worth doing, which is the assumption I don't want to make. Which there are. That, so two ways of doing that. One would be you stay in your current market, size. size-wise, and you're able to look at more than, you're able to look at 5,000 instead of

$2,000 instead of $2,000 instead of $1,000, instead of $1,000,000, and close two instead of one. Or I'm curious to know if you think all the philosophy, your approach, your mindset, your patience, would be potentially lucrative going up market, meaning dealing with bigger businesses, where now the rat race becomes a problem, public market comparables, all these other variables entered into the equation where maybe the mindset that you've cultivated means that you would be unique of the players in that field and have some sort of edge. So what do you think about that idea of, you know, you're going to have more capital. Your businesses are going to grow. You can go out or you can go up. And what do you think about those two options and they're not mutually exclusive, obviously,

but they kind of are. Actually, it's a decision. Yeah, I think so. So if you look at, this is something that Suzanne and I talk about all the time. And this is a, is something we think deeply about. And I think that we have, we never can come to a conclusion because I think that as soon as you come to a conclusion prematurely, which it feels premature at this point, right? We have, we have, thank goodness, we don't have that much capital, right? Thank goodness we haven't been that successful. No, I think we've got a, we've got a long, short of raising a big slug of outside capital, we would be, we would be hard pressed to need to make that decision too much within the next 10 years. I think there's a,

There's a lot of headroom or a lot of runway or whatever analogy you want to use that could take us pretty far doing what we're doing now and the way that we're doing it. You know, when you start getting into really big sums of capital, it is, it is extremely challenging to do anything but go up. I mean, that's Berkshire. That's Fairfax. That's, I mean, that's Markell. I mean, that's everyone. I don't know actually, I'm trying to know. I'm trying to rack my brain. Do I know of any conglomerate that's gone wide? instead of gone up. And I don't think so. And I think that there's a reason for that. And I think that we will probably naturally end up going up at some point. We already have. Okay, so we used to look at stuff that was four or five hundred thousand dollars of pre-tax earnings. Pretty much our minimum now is a million. Really a million five kind of at a minimum of pre-tax earnings.

The challenge is in where you find the people and how you assemble the teams. So the core challenge of staying, of going wide instead of going deep, if you want to call it that, or going up market and, you know, you've got to find somebody who you can trust and can manage these day-to-day operations. And you've got to find multiple layers of them. And so if you look at a large organization, even the largest of organizations, are just an aggregation of smaller organizations, which are an aggregation of even smaller organizations, which are, you know what I'm saying? At the end of the day, it's not magic. You have an office that has people in it, typically. I mean, this is how it or whatever the structure is. And it's just a

And a big company is just an aggregation of lots of smaller pieces. Well, when you find in a larger company is that, you know, I'm, so like I said earlier in the podcast, we're all messy people. We're all sinful. We all have quirks and flaws. And we're not great communicators. And there's this, you know, inherent friction in the system. And when you look at a large company, a successful large company, and again, I'm just going to talk about success, right, for a second. I have this idea in my head of it.

It's kind of like you have a less. the least messy person in theory, managing less messy people that are managing more messy people. Because we're all messy. It's just a matter of how messy are we? And I think that you can, through education and through personal growth, you can become less messy over time. Right? When I say less messy, change your dispersion of outcomes and make the peaks taller and hopefully the valleys less deep. So when you look at a bigger company being run by, you know, a CEO or executive leadership team, hopefully, not always, and this is where you get into some, there's some spectacular flameouts in history, but most of the time you rise to that level because

you are a less messy person that has been able to manage more messy people. And so when you buy bigger companies, you get those less messy people that come with the companies. That's how Berkshers discovered almost all of their top talent was, it wasn't like Buffett was walking around in, you know, in Omaha and bumped into somebody, right? It was they bought a company and said, Hmm, wonder why that division of the company is so well run or, wow, that guy's a real gem or woman's a real gym, you know, and then that person comes on board and they expand their opportunity set and it's very symbiotic. It's great. In smaller companies, you know, so if you get into this issue of small businesses don't stay small on purpose, those less messy people typically aren't there on average, right, or the least messy people aren't there. And if you have a lot of, a less messy person, you typically got one of them, and they're the leader of the company. So when you go wide, you got this issue of how do you find these less messy people? And that's the nut I haven't cracked.

So I hate to wom, want, wom, wom at the very end here of Mike soliloquy say, and I don't have the answer. I mean, I have some theories around how we're going to find these people, right? And we have some of them in our organization now. and we have incredible, I would say, less messy people managing. In every one of our businesses, we have at least one less messy person. If not, actually, I'm thinking about our business now. In all of our business, we have at least, no, we have more than one less messy person.

Now, how, and they're always getting less messy themselves on average, right? And that's great. I mean, over time, you know, people continue to season and improve. I think it's, it's yet to be seen if you can build an organization, that instead of having a traditional hierarchy of least messy managing, less messy, managing more messy, if you can have a least messy managing companies that are run by less messy people that have more messy people underneath them, which is what the structure would have to be to scale out.

So it seems like a fun game, though. It's a fascinating way of thinking about it. And there's so much about empirical studies. about the power of two things that really hit on what you said, which is the power of decentralization. And, you know, again, we always use Buffett, but he's most successful investor ever. So we get to use, we get to use them often. But the model of finding outstanding operators and letting them do their work is the only way to scale like Berkshire has. And I use this word all the time, but it's an important one for long-term compounding, which is ability to withstand lumpiness.

So your willingness to be patient and wait years for the right deal instead of doing a deal to do a deal to show activity. Those two things in combination are incredibly powerful, incredibly powerful things. It seems like they've governed your success so far and they will in the future. And so it's a fascinating way to think about it. Unless we screw it up. Which, by the way, we have a constant. First rule, don't screw up. Well, right.

Yeah, rule number one, don't lose money. What's rule number two? Remember rule number one? It's hard rule. Yeah, no, it's funny too, though, when you say that, you know, in terms of, I agree, I think that those have been components that have made us unusual. You know, there is a constant, to be honest, there's a constant pull that everyone experiences, including us, to do deals. The new and the sexy, oh, man, I tell you what, I've never, I don't feel more alive than when I'm in the final throes of getting a deal done. I mean, it is, it is thrilling and the possibilities and what can you do with it?

And how can it compound over time and the lives that you can affect positively, hopefully, I mean, right? That's our goal. It is, it is seductive to say the least. And I think that's one of things that I feel tortured sometimes is this desire for progress. It's almost like a progress anxiety that I have that I have to remind myself good things are built over long periods of time, sustainable things are built over long periods of time, right? Easy come, easy go. I can, you know, Penny saves a penny yard. No, I'm just kidding, all the platitudes that I can throw out there. But the ability to be able to stand there and watch pitch after pitch come across the plate that look like perfectly good fastballs coming down the middle and not pull the bat off your shoulder. I mean, I'm not going to lie and tell you that it's easy.

I mean, it is hard. I have lost many nights sleep. Recently, I have lost sleep over that decision very much so. And I don't even think I made the right. I don't know if I made the right one. You know, when you combine that seduction with any feast. structure that encourages you to do deals. I mean, that's, that's, that's where I'm, I just, gosh, I don't think I have the fortitude to, to hold up to it. I mean, that's what terrifies me about raising outside capital in

a traditional sense. I mean, can we do more deals based on the opportunity set that we have now and get really, really good returns at higher scale? For sure. Zero doubt. Like, I have no doubt. We turned down deals this year that it felt stupid at the time to turn them down. And it may have been stupid, depending on what our future opportunity costs are. But, But, man, I just can't imagine in a traditional private equity setting. I mean, that's what I think a lot of the bad decisions come from is just this, I call it the bladder problem, right? The more money that you have, the more likely you're going to piss it away.

You talked earlier about, you kind of referenced it, but we got away from it, the system itself and problems, you mentioned, you know, higher suicide rates and depression, the system itself of management fee money being invested pooled um creating problems i wonder if you want to expand on that at all well okay so anytime you you look at a system you got to look at what is the system incentivizing and if if you have a bunch of dry powder that you are collecting a fee just to hold that dry powder and when i say just to hold it that's not fair you're it's the fee that you're taking to do the work to get a deal done if you go long enough even if the right decision is to do nothing, typically doing nothing is not rewarded in our society,

in our world, I should probably say. You don't get Nobel Prize for doing nothing. So there's this inherent pressure that exists ego-wise in all of us. And then when you add on an additional layer of motivation from needing to show your LPs that you're doing things, that you have activity, that look, man, this is a hard business. Look at all this stuff that I'm doing. Oh, my gosh. Oh, by the way, we got these deals done. And a lot of these deals in the traditional private equity model, you have no idea what the returns of the fund are going to be until year seven-ish.

I mean, the visibility into the fund returns are not great. And so you combine all of those things and you say, what incentive does that provide? And it feels like the incentive is similar to the 16-year-old boy whose dad tells him to go out there and sew his oats. That's not the nudge he needed. So I, you know, I think that's, I think that's one problem. And then I think you look at it on the opposite end with a compressed time horizon.

So the longest that a, the longest that it's healthy for a traditional private equity fund to hold a company is five years. That's the longest. It's healthy. So if you get beyond five years, because, you know, you're not going to make the investment on day one. So typically you're going to, you know, it's going to be a rolling fund. So, you know, you're probably going to catch it in the middle. And then you obviously want to leave time. to find the deal and time to exit from the deal on both ends. And that's not an easy process.

So roughly, it's five years the optimal hold period, or if you get beyond that, it's trouble. And so when you think about owning an asset for five years, the incentive structure and just the pressure cooker that you're in, it's incredible. I mean, if you're thinking about, you know, you're dead if this deal doesn't work out in the next five years. At most, at most five years, the decisions you're making are very different than you would make otherwise. the pressure you feel, which by the way, the pressure you feel as a capital allocator, think about the pressure you're exerting down into your management team. I got people in private equity who literally tell their portfolio companies, I will own this company for likely no more than three years. We do four board meetings a year.

That means I will see you 12 times. Make them count. Yeah. Unbelievable. I mean, what, and look, kudos that if that's the, If that's the environment you want to step into and that's the game you want to play, amen, have at it, right? I'm not trying to pass universal judgment.

I just don't think that aligns incentives over the long term in the way that you'd be making what we would all consider to be good decisions. I think it does provide a forcing function that provides, that in turn causes a motivation level that maybe if a private equity person came into one of our companies would say, gosh, Everyone is lazy and everyone is relaxed. And I mean, we don't think we're lazy and relaxed. I mean, most of our people are working long hours and care deeply about what they do. But I don't know.

Maybe that's what they would say. And maybe if we whipped them harder and, you know, maybe if we put them under the same pressure that maybe our returns would be better. I don't know. I don't think that's the way I want to live my life, though. I think that's where there's a gentleman by the name of Peter Kaufman who runs an aerospace company out in California. He's been a real, you talk about a mentor. He's been somebody who I would say is definitely in that category of people that I would consider to be a mentor.

And he makes the argument that you should always look at the outermost circle of your life. So it's not like you can just section off your business life and say, well, I'll do that part of my life that way. And I'll do every other part of my personal life and everything a different way. Who you are in your business life is who you are in your home life. Kind of a John Wooden mentality. Yeah, absolutely. And you know what?

I think there are a lot of ways to make money in this world. Ultimately, you get one life. I don't know if I want to spend it whipping people. So anyway, I think those are the wins that you see. And then the forced function on the other end of having to sell, right? I mean, we talked about how it in terms of shortening time horizons and decision making. But I think it also, you know, it presents some challenges where you've got to rely on somebody else to generate your returns. I mean, that's one of the things that I hate about it is,

never want to have to rely on another entity giving me a gigantic check so that I can return it back to, you know, owners, the shareholders or the LPs. I'd much prefer to just make the money along the way and either compounded or dividend it out and everyone can go buy a boat. I don't know. So you're never going to bring it up. So I'll try or I'll do my best. If you could tell us a little bit about your experience recently with Charlie Munger. Yeah. Yeah. So I had I had the opportunity to sit down for a fairly extended period of time with a small group of people and and talk to, uh, talk to Charlie Munger. It was, uh, it was a remarkable, remarkable experience. And, um, he, I can't get into too many the details of, of what was discussed that day, because,

you know, it wasn't like written or anything. And there was no, there's no like, you know, Munger mafia that's going to come after me if I, if I, if I tell the, tell the, the stories. But You know, what I can say is he was far kinder, gentler, more self-effacing. I mean, he was, he was absolutely incredible. I mean, it's a danger to meet your idols because they never match up, ever match up. And I got to say, I had, you know, he's Charlie Munger, so you got to go in with high expectations, right? But he's also, you know, 93 years old. and he's got a reputation when you see him at the Berkshire meeting.

You know, I went this last year and saw it live. And he's, he's the curmudgeon that's chomping on the peanut brittle. And, you know, he's the foil, right? For Buffett's warm and fuzzy, right? Yeah, he's the hard line. I got to say, I, man, not to blow his cover, but the guy is a really nice guy. Like, really nice guy. And he is, I couldn't tell that there was any, that age had any effect

at all on him mentally at all, like at all. If he has had any mental decline, I wouldn't have wanted to meet him before because, I mean, I don't know what that would have manifested itself in. He was remarkable. And it was a day that I'll remember, you know, I had the opportunity to meet and spend a little bit of time in a small group with Warren Buffett 10 years ago. And you talk about the show and the go, right? We talked about it earlier in the podcast.

they have been, you know, more so than the financial sort of education that I got from reading the letters or, you know, reading Port Chawler's Almanat Mac or, you know, something like that. I think just the philosophy that they have espouse that you can do things, you can treat people well and you can be a kind, caring person and still do well in this world. I mean, I think the only reason why more people don't do it, or that's not the norm, is just because people don't believe it. Everyone's trying to get theirs. They're trying to get their peace. They're trying to cut a little bit more off the top. And those guys have shown what you get over a very long lifetime of not trying to always get the biggest slice. And, you know, we're all sinful, right?

I, like, I have, you know, I battle the same desire for more and greed and ego and pride and all the things. things that I think a lot of other people, you know, battle. And they have been a, they have been a shining light for me in, in what it's possible to sort of get your own challenges and check over a period of time. So yeah, that day, I mean, the day was remarkable in terms of the topics. I mean, they, they ranged, it was three and a half hours. And I mean, it ranged from very specific discussions around well-known people that I would never share otherwise, that I sort of sat up and whoa, I can't believe he just said that. I guess at 93, you kind of don't pull your punches anymore. You don't pull your punches anymore. Not that he ever did, I don't think.

Right. Yeah, I guess he didn't. But man, I was even, I was like, wow, we're going there. Okay. All right. And it ranged from that to a lot more, you know, touchy, feely, one of the, one of the biggest pieces of advice that I took out of it. You know, he said, don't feel like you need to be impressive to people. He's like, he said, for the longest time, the single biggest thing that he said affected his life negatively. And he even said into his 80s, You know, guys, you keep learning things into your 80s, man. I hope that's true for me. But he said, you know, his need to show people that he was right and that he was smarter than them and that they were doing something stupid prevented.

He said he would have been very much more successful than he was if he had just been able to, I think he said, disguise your judgment. And I felt like when he said that, he was looking right at me. Because I have struggled with similar things. And oftentimes I'm proven to be the idiot. but that's a separate, separate point. But it was, you know,

it was a remarkable day and I got to share it with some really interesting people. And it's just weird how life works out. Never in a million years, if you'd asked me a year ago, would you have, would you have been able to spend,

you know, three plus hours with Charlie Munger and a small group, I would have been like, nope. Yeah. Special. Yeah,

it was really special. You know, it's been one of the goals of mine, even though I hate goals in general, but it's been an operating, it's been an operating principle of mind. to try for the podcast, focus on people like you that are younger, that maybe aren't as well known

yet, that we're hopefully these interviews will be, you know, gold, found gold 20, 30 years from now. Don't hold your breath. And largely because I often refer to, you know, the more famous people as those in the victory lap portion of their careers. And it's not at all that I wouldn't love to meet and learn from them. But I often feel the chances that I have had to spend some time with those kinds of people that it's usually about what I expect. And back to that idea of trust and surprise. Usually the surprise component is lacking.

And I know kind of what they're going to say. So it's incredibly refreshing to hear that experience where the key takeaway is, wow, like, after all this, he's kind and gentle. And the stuff that we talked about during the time was, I mean, you talk about surprise and delight or just. shocking. I mean, I, I, I, I, a couple times I literally like, dropped my pen and was like, did he just, wow, okay. No, he, he is a, he's a truly remarkable man. And, and, you know, and so, obviously, so is Warren Buffett. And then everyone, you know, said, oh, it's so cliche, Buffett this, buffett that. And I mean, he's, he's got, you know, one of the top personal brands, probably in the history of the world at this point. But there's also a reason why he has

that, right? Per our conversation before. I mean, he has the go behind it. And I mean, the time I got spend with him, you know, 10 years ago, really shaped a lot of the confidence and the humility that I tried to, I tried to bring. And, you know, and it was really impactful. Oh, fantastic spot to end this portion of it. Yeah. We'll keep the tape rolling just in case. But it's been a blast, as always. Yeah, thanks, Patrick. Hey, everyone. Patrick here again. To find more episodes of Invest like the Best, go to investorfield guide.com forward slash podcast. If you're a book lover, you can also sign up for my book club at Investorfieldguide.com forward slash book club.

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