Invest Like the Best with Patrick O'Shaughnessy
· Patrick O'Shaughnessy
[00:00:00] S0: If you think about the 11 or 12 years that you were principally just investing, in what ways did Peter most affect the way that you think about things and vice versa?
· Scott Nolan
[00:00:00] S1: There's many layers to this. Number one was, it was just avoiding trends, avoiding the herd, thinking for yourself. That was probably layer one. The second part was probably that whenever we looked at any companies, Peter always took a very orthogonal view to most people. So there'd be layers of abstraction, instead of just doing a spreadsheet and trying to analyze this investment, why don't we think about why are we even seeing this investment? How should we think about this investment from this very different perspective than everyone else? And so sometimes there would be layers of abstraction that were many layers and you would end up with a really different view on things. It's really natural to just dive in and start trying to understand the business, but trying to develop a very different perspective on it that would yield some alpha. He probably also thought at the time – I think around 2010 – it was all very contrarian, what is no one investing in, what's underappreciated? I feel like that was around the time that he was talking a lot about, we'd made all this progress in the world of bits, but not in the world of atoms. You could be on your cell phone and it was interesting, and then you look around and nothing's changed in 50 years. And so I think he was already thinking about this probably even more than he was talking about, and probably thinking which companies are doing this well, where would someone who could kind of understand the business world and the investing world and then also the startup world come from.
· Patrick O'Shaughnessy, Scott Nolan
[00:00:00] S0: How do you think you affected him or changed his mind? [00:00:00] S1: Some of our hardware investments turned out to be pretty good. I think they exceeded all expectations for everybody. So SpaceX, Founders Fund first invested in in 2008 and then what it is today, I don't think many people would have predicted. Maybe Elon could have seen it going to this length. The ultimate purpose is colonize Mars. So inherently it has to become this scale of company to do that, but I doubt anyone would have expected this sort of outcome this quickly. [00:00:00] S0: Maybe it's an obvious question, but what is behind the avoid trends concept? [00:00:00] S1: There's two layers of competition. So the avoid competition thing was a huge, huge part of this. That's definitely a lesson learned. But the competition piece is typically understood as the company level competition. And so if there's a trend, inherently you have many companies going after the same trend. You're going to have new entrants. It's become a thing. It's not about one company, it's about the theme. And if there's a theme that's not about one company, then it's about many companies. And so how is it not the case that they'll compete profits down to economic equilibrium of perfect competition? So there's that piece, of avoid a trend for that reason. But then layer two is if there's a trend, then probably many investors are looking at it and they're pricing it up. Where's your advantage? And so you want to avoid competition on both fronts. And when there's trends, you usually have both fronts.
· Scott Nolan, Patrick O'Shaughnessy
[00:00:00] S1: There's two layers of competition. So the avoid competition thing was a huge, huge part of this. That's definitely a lesson learned. But the competition piece is typically understood as the company level competition. And so if there's a trend, inherently you have many companies going after the same trend. You're going to have new entrants. It's become a thing. It's not about one company, it's about the theme. And if there's a theme that's not about one company, then it's about many companies. And so how is it not the case that they'll compete profits down to economic equilibrium of perfect competition? So there's that piece, of avoid a trend for that reason. But then layer two is if there's a trend, then probably many investors are looking at it and they're pricing it up. Where's your advantage? And so you want to avoid competition on both fronts. And when there's trends, you usually have both fronts. [00:00:00] S0: This notion of finding something that is not being worked on or is underappreciated. You made so many investments in companies where this was a thing. What are the common through lines or attributes of something that isn't being worked on but is important? Like that quadrant in the two by two – like is or isn't important, is or isn't being worked on? Is important not being worked on as the place you hunted. What are the typical causes behind that being the case? Because it doesn't really make sense that something doesn't get worked on if it's really important.
· Scott Nolan
[00:00:00] S1: For better or worse, they can draw you into a potentially brute force sort of approach. First few years at Founders Fund, I'm looking for great founders. I'm looking for underexplored ideas. It's just lots and lots of meetings. So from the investor perspective, unless you have things that you're into that you think are underappreciated by the world and you've maybe been really excited about them for a really long time, and why does no one think about this? And maybe it's this idea in your head that you just keep digging on and maybe someday you find a company that's actually an expression of that trade. Then it's just meeting a lot of people and trying to find what's interesting and what sounds really different and what makes sense. From the investor perspective, the attributes are something like, hey, you meet a founder. They seem really smart. They're talking about this thing no one's really talking about. They're telling you why everyone who's thought about this problem either thinks it's impossible or they're all going about it in the completely wrong way. And if you adjust and come at it from a different point of view, it results in a really different solution that has really different business characteristics. When you meet a founder like that, who's working on something like this, usually they're not just going to give you superficial answers to convince you to give them money. The conversations with great companies like that always felt more like – this person is really into this thing for some reason. And when I'd ask them a question, they're not just giving me an answer and trying to bounce back to the surface. They're like, here's the answer. Here's the next question you're going to ask. And let's take you all the way down the rabbit hole. So they like showing around the space. That's how it felt from the investor seat. If you think about what are the attributes of industries where this is the case, I think a huge portion of them are going to be industries that somehow just stagnated. And I think the thing that's most linked to stagnation is probably being a cost-plus industry, where there's very little incentive for progress, not much incentive to bring the cost structure down.
· Scott Nolan, Patrick O'Shaughnessy
And therefore you end up with this fixed market size that never takes off because you just get in a stalemate where all the companies maybe get to oligopoly status. The equation for max profits is just make pricing high enough to the breaking point, collect your cost-plus revenue and your margins, and then it never becomes a really compelling thing. So like space launch, for example. To some extent defense, which you see with Anduril trying to break that to some extent infrastructure, like the boring company, this is their prime thesis. So I think incumbent, stagnated oligopolistic cost-plus industries are just prime for this. [00:00:00] S0: If forced to go beyond that definition, there's only so many of those, and you've probably invested in companies effectively attacking each category or each subcategory. A lot of those are doing extraordinarily well. What else would you say? Like there's lots of great Founders Fund investments that weren't in cost-plus industries or something. What would I find if I went digging on this same thread there?