Systems Scale
The two things most sent to me over the holidays to listen to were (1) Lex Fridman’s interview with Jeff Bezos and (2) Patrick O’Shaughnessy’s interview with Justin Ishbia. And because I take seriously the benefit of having other people curate the internet on my behalf, I have since listened to both more than a number of times.
Hearing these successful entrepreneurs speak at length about their professional journeys has facilitated at least one epiphany for me. Namely, that you need more systems to scale than you think you do, but also that sustaining working systems is harder than it looks. For example, here’s Ishbia, perhaps the most systems-driven investor I’ve ever encountered, putting it bluntly: “To create enterprise value is a system…and the system for us is documentation.”
Then he went on to rattle off any number of specific systems that govern their investment process at Shore Capital: the nine innings of idea generation, the four quarters of closing a deal, the 100 day plan, the 23 standard operating procedures, see one/do one/teach one, the basketball team board, etc.
“We do the same thing every time,” he said, which is obvious by how quickly he can describe what they do, and what he promises his investors is not an outcome, but a process. This, I think, is the only way to do, as Shore did, 586 deals over the past three years (for context, Permanent Equity did seven). Indeed, it’s incredible what Ishbia and his team have built. The only way to scale is through structure (even in creative endeavors), and I wish I and we were a tenth as systematized as he and Shore seem to be.
Yet here’s Bezos speaking on what it means to embrace Day One thinking:
Day One thinking is we start fresh every day and we get to make new decisions every day…When we work on programs at Amazon, we often make a list of tenets…the main ideas that we want this program to embody…but we put in parentheses “Unless you know a better way.”...That idea…is so important because you never want to get trapped by dogma. You never want to get trapped by history. That doesn’t mean you discard history or ignore it. There is so much value in what has worked in the past, but you can’t be blindly following what you’ve done.
To support this notion, Bezos talked about having a “skeptical view of proxies”:
One of the things that happens in business is that you develop certain things that you’re managing to…like a metric. What happens is that inertia sets in. Somebody a long time ago invented that metric…they had a reason why they chose that metric. Then fast forward five years. The metric is a proxy for truth…but you forget the truth behind why you were watching that metric in the first place and the world shifts a little…You have to be on alert for that. It is common in large companies that they are managing to metrics they don’t really understand, they don’t really know why they exist, and the world may have shifted out from under them a little.
When Patrick asked Justin about Shore’s returns, he alluded to 50% to 70% IRRs, which are incredible. Later Ishbia talked about his investment strategies as products with the system of going from thesis to platform to add-ons to exit working in part because it is an assembly line. What Shore is doing is building a product over time (in this case an investable business as an SKU) that will go from being unbuyable by strategic or institutional capital to being not only buyable, but also re-sellable, which is a hugely valuable trait to the Shore Capital customer.
That’s interesting because in order to back into 50% to 70% IRRs over five years if you are buying at, as Ishbia described in, 7.5x EBITDA with 2x leverage, you need something like 400% earnings growth and multiple expansion to 15x or some similar combination. So a question I would have is where are the returns coming from and how might they be impacted in a world of multiple contraction due to higher interest rates? If they are slashed, would it make sense to rethink the system to accommodate longer hold periods?
The answer, of course, is maybe, but maybe not (but I think maybe since the value of that SKU will fall when buyers have less purchasing power). But who knows. So do things systematically, but always skeptically, because the world never stops shifting and there may be a better way…for now.
-Tim