Should VCs invest like Charlie Munger?
Charlie Munger (and his long-time partner Warren Buffett) seem to stand out as the antithesis of venture capitalists. Not only do they focus exclusively on large profitable businesses with long track records, but they also repeatedly stated that they don’t want to invest in the tech sector as they don’t understand it (better than the market). However, given their extraordinary investing performance at Berkshire Hathaway, I thought it was worth reading Tren Griffin’s Charlie Munger, the complete investor, published last September, and try to draw parallels between his philosophy of investing and ours at Index.
It turns out that there are way more similarities than dissemblance. Leaving aside the fact that we have different risk/reward profiles, and look at companies at different stages of their development, his core values are applicable:
1. View a stock as an ownership of a business
2. Make Mr. Market your servant rather than your master
3. Understand the importance of worldly wisdom
“What is elementary, worldly wisdom? Well, the first rule is that you can’t really know anything if you just remember isolated facts and try and bang ’em back. If the facts don’t hang together on a lattice-work of theory, you don’t have them in a usable form.”
4. Learn the psychology of human misjudgement to take advantage or protect against it
5. Develop the right human skills: patient, disciplined, calm, courageous, decisive, honest, confident, non-ideological, long-term oriented, studious, collegial, frugal
“Warren and I aren’t prodigies. We can’t play chess blindfolded or be concert pianists. But the results are prodigious, because we have a temperamental advantage that more than compensates for a pack of IQ points. “
6. Focus on core competencies and easy decisions
“I’m really better at determining my level of incompetency and then just avoiding that.”
7. Focus on a few investments rather than many (10, not 100)
8. Bet heavily on the very few exceptional opportunities that one has over a lifetime
“The wise one bet heavily when the world offers them that opportunity. They bet big when they have the odds. And the rest of the time, they don’t. It’s that simple.”
9. Focus on the very best companies, which create most of the value, even though it may mean paying up for them
“Leaving the question of price aside, the best business to own is one that, over an extended period, can employ large amounts of incremental capital at very high rates of return.”
10. Obsess about moats: how high they are, and how long they can be maintained (be it through supply-side economies of scale, demand-side network effects, brand, regulation, or patents and intellectual property)
11. Favor businesses over teams, except with a few exceptional entrepreneurs
“If you have to chose one, bet on the business momentum, not the brilliance of the manager. But, very rarely, you find a manager who’s so good that you’re wise to follow him into what looks like a mediocre business.”
12. Run a decentralised network of trust vs. a centralised reporting/coercive structure
There are a few notable differences though, and they mainly revolve around the definition of value and tolerance/aversion to risk, and the different types of businesses we end up investing in. By definition, VCs cannot be risk-adverse. Also, we have to imagine the future, how moats are likely to develop over time, while Munger can afford to focus on the past and the present.
Still, the power law of returns in venture capital make his emphasis on large and focused bets on few high-quality companies especially relevant.
