April 23, 2024 • 1hr 32min

Bill Gurley & Michael Mauboussin - Putting Theory into Practice - [Invest Like the Best, EP.370]

Invest Like the Best with Patrick O'Shaughnessy

This episode features a conversation between Patrick O'Shaughnessy, Bill Gurley (General Partner at Benchmark Capital), and Michael Mauboussin (Head of Consilient Research at Counterpoint Global). Gurley and Mauboussin are longtime friends and leading thinkers in investing and business strategy. The wide-ranging discussion covers topics including artificial intelligence, increasing returns to scale, regulatory issues, venture capital, and innovation.

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Key Takeaways

Artificial intelligence and large language models (LLMs) are having a major impact, but it's important to distinguish between general AI capabilities and more narrow LLM applications
Increasing returns to scale and network effects remain powerful drivers of value creation, but are rare and difficult to achieve
Intangible assets like software and intellectual property are playing an increasingly important role in company value and competitive advantage
Regulatory capture is a major issue in many industries, stifling innovation and entrenching incumbent players
The venture capital model faces challenges like too much capital chasing deals and fewer IPO exits, but remains critical for funding innovation
Areas like energy, healthcare, and physical world applications of technology present major opportunities for innovation and value creation
Learning by doing and the recombination of ideas are key drivers of innovation and progress
Working with and learning from "genius" level thinkers can provide invaluable insights and inspiration
Teaching, writing, and sharing knowledge publicly can have significant personal and professional benefits

Introduction

This episode features a conversation between Patrick O'Shaughnessy, Bill Gurley (General Partner at Benchmark Capital), and Michael Mauboussin (Head of Consilient Research at Counterpoint Global). Gurley and Mauboussin are longtime friends and leading thinkers in investing and business strategy. The wide-ranging discussion covers topics including artificial intelligence, increasing returns to scale, regulatory issues, venture capital, and innovation.

Topics Discussed

Dissecting the Dynamics of AI, LLMs, and Market Disruption (3:38)

The conversation begins with a discussion of artificial intelligence (AI) and its potential impact. Key points include:

It's important to distinguish between general AI capabilities and more narrow large language model (LLM) applications
The AI landscape appears highly "choreographed" with major tech companies heavily involved, unlike past disruptive waves
There's a risk of expectations outpacing reality, especially around LLMs

Bill Gurley notes: "You have to separate LLMs from AI. AI is this trend that's been going on for 20 years. There's some amazing stuff happening...but they also have some limitations because they're mostly about text."

The World of AI Investments and Market Trends (5:06)

The discussion turns to AI investments and market dynamics:

Valuations for AI companies are extremely high, similar to late-stage valuations seen in ride-sharing
There are questions about the long-term defensibility and profitability of foundational AI model companies
Potential for disruption if a company can solve personal memory and context for AI assistants

Integration of New Technologies in Business (8:13)

Michael Mauboussin discusses how new technologies tend to be adopted by businesses:

Initially, new tech is added onto existing workflows to improve efficiency
Over time, companies reorient their entire business model around the new technology
We're likely in early stages of AI integration for most businesses

The Power of Increasing Returns and Strategic Investments (15:27)

The conversation shifts to increasing returns to scale and network effects:

Uber is cited as a classic example of virtuous network effects benefiting all participants
Increasing returns are powerful but rare - many businesses claim to have them but don't
Framework of "willingness to pay" increasing as network grows is key

Bill Gurley explains: "As you penetrate a supplier base, one side of a marketplace, whatever is the value proposition to the other side going up. And ideally, it would be going up exponentially, which is super hard."

Unpacking the Role of Intangibles in Scaling and Innovation (22:26)

Michael Mauboussin discusses the increasing importance of intangible assets:

Intangible investments now far outpace tangible investments for many companies
Intangibles like software can scale incredibly efficiently
But intangibles are also at risk of rapid obsolescence
Intangibles enable faster recombination of ideas to drive innovation

Transformative Potential of Open Source and Idea Recombination (28:54)

The discussion covers open source software and recombination of ideas:

Open source is seen as hugely beneficial for innovation and human prosperity
But tension exists between open sharing and companies' desire to capture economic value
Recombination of existing ideas/technologies is key driver of innovation

Bill Gurley states: "I think open source is probably the most demonstrable example of this. Ideas that can just be borrowed."

The Complex Landscape of Regulation and Innovation (34:42)

The conversation turns to regulatory issues and their impact on innovation:

Regulatory capture is seen as a major problem in many industries
Industries regulated the longest (healthcare, finance, telecom) tend to be most "captured"
Excessive regulation can stifle innovation and entrench incumbents
Examples like nuclear energy and psychedelics show how regulation can hold back beneficial technologies

Bill Gurley argues: "Regulation is the friend of the incumbent, but there's just way too much proximity between the industries that are being regulated and the people that are regulating them."

Today's Venture Capital Ecosystem (43:17)

The discussion covers challenges in the current venture capital landscape:

Structural issues like low barriers to entry but high barriers to exit for VC funds
Massive amount of capital raised in recent years needs to work through system
Fewer IPOs and companies staying private longer creates issues

Impact of Fewer IPOs and Private Market Dynamics (47:08)

The shrinking number of public companies is discussed:

Number of public companies has declined by ~46% over time
Creates issues around access to high-growth companies for average investors
Attempts to "fix" this could lead to problematic policies

Capital Allocation in Zero Interest Rate Environments (50:38)

Michael Mauboussin discusses research on how companies allocated capital in the low interest rate era:

Contrary to expectations, companies invested less, held more cash, and took on less debt
Many companies use fixed hurdle rates regardless of interest rate environment
Share buybacks increased as they became accretive to earnings

The Evolution of Venture Capital and High-Stakes Investment Games (54:44)

Bill Gurley discusses venture capital dynamics:

Importance of having a "what could go right" attitude when evaluating investments
Need for exhaustive deal sourcing to find the rare big winners
Competitive dynamics in securing the best deals

Exploring New Frontiers: AI, Energy, and Physical World Innovations (57:21)

The conversation turns to exciting areas for future innovation:

Continued development of AI capabilities
Energy, particularly nuclear power
Healthcare as an area ripe for disruption
Physical world applications of technology

The Power of Learning by Doing (1:01:14)

Michael Mauboussin discusses the concept of learning by doing:

As cumulative output increases, costs tend to decrease (Wright's Law)
Creates increasing returns dynamic in some industries
Examples include solar panels, lithium batteries, and Tesla's cost advantages

Working with Genius (1:17:49)

The guests reflect on their experiences working with brilliant thinkers like Murray Gell-Mann, Cormac McCarthy, and Daniel Kahneman:

Importance of intellectual curiosity and openness to new ideas
Value of being able to synthesize complex ideas
Recognition that "genius" often comes from years of dedicated work

The Value of Teaching, Writing, and Sharing Knowledge (1:26:47)

The guests discuss the benefits of publicly sharing ideas:

Writing helps clarify thinking and deepen understanding
Building a reputation as a thought leader can have professional benefits
Teaching and sharing knowledge is personally rewarding

Bill Gurley notes: "I just think better when I write. You've heard this from others, but putting things down in a structured way and having to defend an argument...it just causes you to think better."

Conclusion

This wide-ranging conversation between three leading thinkers in investing and business strategy covered critical topics shaping the future of technology, innovation, and markets. Key themes included the transformative potential of AI, the power and rarity of increasing returns to scale, challenges in regulation and venture capital, and the enduring importance of learning from brilliant thinkers and sharing knowledge. The discussion highlighted both reasons for optimism about continued innovation and concerns about structural issues that could impede progress.