Tag: Warren Buffett

Avoiding Stupidity is Easier than Seeking Brilliance

Avoiding Stupidity is Easier than Seeking Brilliance

Simon Ramo, a scientist and statistician, wrote a fascinating little book that few people have bothered to read: Extraordinary Tennis Ordinary Players.

The book isn’t fascinating because I love tennis. I don’t. However, in the book Ramo identifies the crucial difference between the Winner’s Game and a Loser’s Game.

Ramo believed that tennis could be subdivided into two games: the professionals and the rest of us.

The game looks the same from the outside. Players play by the same rules and scoring. They play on the same court. Sometimes they share the same equipment. In short, the basic elements of the game are the same.

Sometimes amateurs believe they are professionals but professionals never believe they are amateurs. Professionals know they are not playing the same game as amateurs.

Winning or Losing Points

Professionals win points whereas amateurs lose them.

In a professional game, each player, nearly equal in skill, plays a nearly perfect game rallying back and forth until one player hits the ball just beyond the reach of his opponent. This is about positioning, control, spin. It’s a game of inches and sometimes centimeters. This is not how amateurs play.

In his 1975 essay, The Loser’s Game, Charles Ellis calls professional tennis a “Winner’s Game.” While there is some degree of skill and luck involved, the game is generally determined by the actions of the winner.

Amateur tennis is an entirely different game. Not in how it is played or the rules but, rather, in how it’s won. Long and powerful rallies are generally a thing of the past. Mistakes are frequent. Balls are constantly hit into nets or out of bounds. Double faults are nearly as common as faults.

The amateur duffer seldom beats his opponent, but he beats himself all the time. The victor in this game of tennis gets a higher score than the opponent, but he gets that higher score because his opponent is losing even more points.

Losing Less

Ramo found this out because he gave up trying to keep track of conventional scores — “Love,” “Fifteen All,” etc. Instead, he simply looked at points won versus points lost.

In expert tennis, about 80 per cent of the points are won; in amateur tennis, about 80 per cent of the points are lost. In other words, professional tennis is a Winner’s Game – the final outcome is determined by the activities of the winner – and amateur tennis is a Loser’s Game – the final outcome is determined by the activities of the loser. The two games are, in their fundamental characteristic, not at all the same. They are opposites.

After discovering that there are, in effect, two different games and realizing that a generic strategy will not work for both games he devised a clever strategy by which ordinary players can win by losing less and letting the opponent defeat themselves.

… if you choose to win at tennis – as opposed to having a good time – the strategy for winning is to avoid mistakes. The way to avoid mistakes is to be conservative and keep the ball in play, letting the other fellow have plenty of room in which to blunder his way to defeat, because he, being an amateur will play a losing game and not know it.

If you’re an amateur your focus should be on avoiding stupidity, not seeking brilliance.

Investors Bet on Someone Else’s Game

This brings to memory something about Warren Buffett and Ben Graham.

Buffett used to convene a group of people called the “Buffett Group.” At one such meeting Benjamin Graham, Warren Buffett’s mentor and teacher, gave them all a quiz. I spent hours searching for this reference, which comes from Benjamin Graham on Value Investing: Lessons from the Dean of Wall Street.

“He gave us a quiz,” Buffett said, “A true-false quiz. And there were all these guys who were very smart. He told us ahead of time that half were true and half were false. There were 20 questions. Most of us got less than 10 right. If we’d marked every one true or every one false, we would have gotten 10 right.”

Graham made up the deceptively simple historical puzzler himself, Buffett explained. “It was to illustrate a point, that the smart fellow kind of rigs the game. It was 1968, when all this phoney accounting was going on. You’d think you could profit from it by riding along on the coattails, but (the quiz) was to illustrate that if you tried to play the other guy’s game, it was not easy to do.

“Roy Tolles got the highest score, I remember that,” Buffett chuckled. “We had a great time. We decided to keep doing it.”

Avoiding Stupidity is Easier Than Seeking Brilliance

The point is that most of us are amateurs but we refuse to believe it.

This is a problem because we’re often playing the game of the professionals. What we should do in this case, when we’re the amateur, is to invert the problem. Rather than trying to win, we should avoid losing.

This was a point Charlie Munger, the billionaire business partner of Warren Buffett, made a long time ago.

In a letter to Wesco Shareholders, where he was at the time Chairman (and found in the excellent Damn Right!: Behind the Scenes with Berkshire Hathaway Billionaire Charlie Munger), Munger writes:

Wesco continues to try more to profit from always remembering the obvious than from grasping the esoteric. … It is remarkable how much long-term advantage people like us have gotten by trying to be consistently not stupid, instead of trying to be very intelligent. There must be some wisdom in the folk saying, `It’s the strong swimmers who drown.’

And there is so much wisdom embedded in that quote that I’ve printed it out and attached it to my wall.

Three Underrated Reasons for Berkshire Hathaway’s Enormous Success

Berkshire Hathaway success

Berkshire Hathaway is widely regarded as one of the most successful companies in the world. If you look at Warren Buffett’s 49 year track record with Berkshire, it almost looks easy in hindsight. Make no mistake, however, it wasn’t easy and he certainly didn’t do it alone.

At this year’s annual meeting Buffett and his longtime business partner, Charlie Munger, revealed “the secret” to their success. But it’s not really a secret and, of course, extraordinary success is typically a combination of many things.

Here are three underrated factors that carried the bulk of the weight to creating Berkshire’s success. Oddly, I don’t think you’ll find them on any business school curriculum.

1. Trust

Charlie Munger on Trust

Buffett is famous for his hands-off management style. He lets the CEOs of the companies run their show; he only asks that they send him the money they can’t use.

Good people want to work with him and this is important because most of the people running Berkshire subsidiaries are already wealthy. They don’t have to come to work; they want to come to work. And that is a huge difference. The only time you can get away with a crappy bureaucracy and a culture of distrust is when people have to come to work.

Every now and then something happens at a Berkshire company that calls into question his near abdication of responsibility to a subsidiary. “If only he had been paying attention,” the critics chirp, “this wouldn’t have happened.” Those finger-waving critics are idiots. The alternative approaches are worse, not better.

There are many positives to the approach Buffett takes.

If Buffett closely managed each of his subsidiary CEOs to the point where most bosses manage their subordinates, they’d probably quit. If he sent out memos telling them all to use a new corporate HR system, they’d stop wanting to come to work. In fact Berkshire, a company with over 300,000 employees, has no HR department. If he peppered them with relentless emails from “headquarters” on some new policy, they’d … well how do you feel about all of this stuff?

With Berkshire, Buffett wanted to do things his way. He wanted to paint his own canvas. He didn’t want other people telling him to add a little more blue here and take away a little red there. Most people want to run their own show. And the best part? This system gets more out of people than micromanaging them.

Sure sometimes things go wrong, but for the most part the outcome is positively skewed. Things go wrong in other corporate cultures, they are not immune. When things go wrong in bureaucratic cultures, however, it’s nearly impossible to hold anyone accountable because no one is really responsible for anything. And it’s hard to hold people accountable when they are not responsible. It’s a seductive illusion to think that we can create a system where people can’t mess up. Buffett’s hands off approach makes it clear who is responsible for what. And this approach, not stock options,  creates a real ownership culture.

This system also frees up Buffett’s time. He doesn’t have to chase management details, read power-points, etc. He can sit and read and think — that means he does what he does best. And judging by the results, this has worked out well.

Hiring the right people and trusting them is incredibly underrated and yet nearly impossible to find in large established bureaucratic organizations. Yet as Buffett shows, it’s a much better approach. Trust is incredibly powerful.

2. (Quickly) Scramble Out of Your Mistakes

Warren Buffett on Mistakes

You know the old adage, when you find yourself in a hole the first thing to do is stop digging. That applies to business as well as life.

In the late 1960s Buffett acquired a department store, Hochschild-Kohn, through a company called Diversified Retailing, which later merged with Berkshire.

The people running the company were, in Buffett’s words, “first class.” Retailing, however, is a difficult industry, even with a first class management team. They were, in Buffett’s words, “running in quicksand.” Realizing this quickly after the ink dried on the contract, Berkshire “scrambled” out of it, selling Hochschild-Kohn as quickly as they could — 3 years.

Business schools don’t generally teach this either. What they teach and reinforce, in so many ways, is that you can be the hero. You can be the exception to the base rate.

But in life and business, you don’t need to be the hero. There are no points for difficulty, so as Munger alluded to, smart people will play where competition is weak.

You can have the best management team that money can buy and still fail big in retailing — a recent example being JC Penney.

Buffett learned quickly that, in his words, “When a management with a reputation for brilliance tackles a business with a reputation for bad economics, it is the reputation of the business that remains intact.”

3. Remove Ignorance

Warren Buffett on See's Candies

Diversified Retailing also owned shares in a better business: Blue Chip Stamps, which provided supermarkets and other retailing outlets trading stamps to give their customers that could be exchanged for merchandise.

The contrast between running a good business and a poor one stuck with Munger and Buffett and they decided to pay up for a real quality business. On January 3, 1972 Blue Chip Stamps bought See’s Candies, a West Coast Manufacturer and retailer of boxed-chocolates. See’s is an extraordinary business.

As a great business, most people think that See’s main contribution to Berkshire was its overwhelming financial success. It wasn’t. According to Munger, See’s main contribution was “ignorance removal.”

“We were barely smart enough to buy it,“ he said. See’s taught them a powerful lesson, the value of strong brand names.

Without See’s they never would have purchased Coke shares in the 80s. And without Coke, Berkshire would be a lot less prosperous today as that investment has been one of their best.

“If there’s any secret we have, it’s ignorance removal. And the nice thing is we still have a lot of ignorance left to remove,” Munger said at the 2014 Shareholders meeting.

Removing ignorance is about continuously getting smarter. Avoiding stupidity is easier than seeking brilliance.

***

I don’t know why more people don’t copy these three underrated factors to Berkshire’s success.

To sum up:

1. Hire good people and trust them.
2. Quickly admit mistakes and scramble out of them.
3. Remove your ignorance by always learning.

This formula is simple but not easy.

Working Together: Why Great Partnerships Succeed

Why do partnerships work well? That’s the question Michael Eisner explores in Working Together: Why Great Partnerships Succeed.

Some of the most successful and accomplished people are really teams: Warren Buffett and Charlie Munger, Bill and Melinda Gates, Brian Grazer and Ron Howard (who’ve won multiple Academy Awards), Bernie Marcus and Arthur Blank (who started Home Depot), Joe Torre and Don Zimmer… the list could go on forever.

Partnerships (at least the successful ones) … encourage a series of characteristics—trust, teamwork, a regard for someone else, and continuing checks and balances.

Why is it that sometimes you can take two people, add them together and get a more successful result than either would have achieved working alone?

As I thought about (that question), I found myself wishing I was an artist rather than a weekend writer. Inspired perhaps by Marc Chagall, I would paint three canvases to make my point, all of a man riding a horse. The first would be a tiny man atop a giant horse, the second would be a giant man atop a tiny horse, and the third would be a man and a horse of equal sizes. In the first scenario, the horse would be too strong, and too uncontrollable for the man. The second would be equally unsuccessful, for a tiny horse can’t move with a giant man weighing him down. But the third match would be perfect, with the man and horse able to move successfully in concert. The man represents intellect, the horse represents emotion. Both need to be equally balanced for any leader to succeed.

You can’t do this stuff on your own. “Even Einstein,” says Charlie Munger, “wouldn’t have been successful if there weren’t other people he didn’t talk to all the time. Total isolation does not work. You need interaction, putting your own thoughts into expression; you learn things just from doing it.”

The best combination, (Eisner) learned, comes from partnership, when two people balance each other, constantly reminding the other of the need to keep the conscious and unconscious in harmony, to make each other smarter, make each other better.

One of the reasons that partnerships fail is that the spotlight accommodates one person a lot better than two. “But,” Eisner writes, “it takes real trust and understanding for both partners to be satisfied with that arrangement.”

Everyone was telling Michael Eisner that partnering with Michael Ovitz, the head of Creative Artists Agency “and the media-anointed most powerful man in the entertainment business” was a great idea. Buffett advised Eisner to pass on the partnership.

“Both of you want the spotlight,” I remember him saying bluntly. “Take Charlie and me: I want the spotlight, but he doesn’t. So it works. And Charlie has integrity, which further ensures that it works. You will be in conflict with Ovitz from day one, and you will never trust him. Don’t do it.”

(Eisner) did (the partnership). And Warren was right—the partnership lasted barely a year.

The key to good partnerships, says Warren Buffett, is trust.

They have complete trust, complete faith, and complete belief in each other. And that reverberates through every phone call they have, every deal they discuss, and every decision they make.

“You cannot keep score,” says Warren. “It just doesn’t work with the best of human relationships. It shouldn’t be even suppressed—it should be something that doesn’t even exist.”

And this bit was key for me. You can play the alpha-role in some parts of your life but you need to know your role in the partnership. Consider the Buffett-Munger partnership:

Munger is not the standard model for the kind of partner who prefers to lie low and fade into the background. Everywhere else in his life, Charlie Munger plays the alpha role—with his family, in board meetings for the variety of companies and charities with which he’s involved, with me when I visited him at his office. I usually don’t have trouble getting a word into a conversation. Talking to Charlie Munger is different—I did a lot more listening than talking.

“That’s one of the beauties of the partnership,” says Charlie. “I am in so many activities where I am the dominant personality. Most people do not ‘fit into’ that mode—they can only operate in that mode. Yet I am particularly willing to play the secondary role. Warren’s a more able man in doing what we’re doing, so it’s the appropriate response. There are some times you should be first, some times you should be second, and some times you should be third.

Partnerships also encourage humility. “It’s not letting ego or jealousy or your own personality take over,” Munger says. “Intelligence takes over.”

Working Together: Why Great Partnerships Succeed argues that the values of effective partnerships run counter to the factors “that contributed to the sequence of economic messes of the past ten years.” Now, then, is the perfect time to encourage partnerships “devoid of envy, jealousy, and rivalry as a way to escape from the toxic culture that has given the business world a bad name, and to instead help people chart a new, often overlooked path toward a better way of working.”

How Your Work Environment is Sapping You Dry (and How to Fix It)

When it comes to making decisions, your ability to think through problems is important. Consider this your raw mental horsepower. Most of us never tap into our available horsepower because we are hampered by one important and overlooked aspect: our environment.

The Modern Office is Terrible for Thinking

I first clued into this by studying Warren Buffett and Charlie Munger. Sure, they consistently make good decisions but they also share a few traits that enable them to get the most out of their mental horsepower. A big chunk of their ability to think through problems comes from how they structure their environment.

Most of us make decisions in an environment where it is very hard for us to behave rationally.

In fact, I’m hard-pressed to imagine an environment worse for rational decision making than that of the modern office worker.

You arrive at work and immediately start to answer the critical emails from your swelling inbox, telling yourself you’ll get to the low priority stuff later. The phone rings, it’s your boss wanting to know if you have time to chat on the 15-page proposal he was supposed to read for the meeting in 30 minutes. Having not read the proposal yourself, and not wanting to say “I haven’t read that,” you glance at the executive summary and, like anyone who’s learned to survive in an office, confidently act like you know what’s going on. Your opinion is superficial at best. You know this but rationalize that everyone else put the same 5-minute effort into it that you did, so you carry on. Getting back to your desk, you find 5 missed calls. You call the first person back and immediately realize that you’re late for your meeting and haven’t read any of the preparation material.

This isn’t an abnormal day. This is a reality for a lot of people in large organizations. From the moment we arrive until the moment we leave we’re pulled in all directions. The unwritten arrangement is that you have to do these things in order to justify your job. If you’re not pushing paper, firing up hundreds of emails, calling and attending meetings, and chasing something down … just what the heck are you doing to justify your salary. The environment is about politics and signaling, not about putting people in a position to succeed.

Now picture Warren Buffett sitting at his desk with his feet up reading. He has no computer in his office. He’s not distracted every few minutes by that little annoying ding that signals a new email has arrived. His day isn’t full of meetings. He doesn’t have an annoying boss that comes around and asks him for something tangible that’s he’s working on. He just reads and thinks. No wonder he’s so good at it.

He knows that it’s hard to say no to ideas by smart people. That’s part of the problem: It’s hard to think clearly for yourself when there is always someone in your ear. So he moved to Omaha from New York.

“In some places it’s easy to lose perspective. But I think it’s very easy to keep perspective in a place like Omaha,” Buffett says.

It’s very easy to think clearly here. You’re undisturbed by irrelevant factors and the noise generally of business investments. If you can’t think clearly in Omaha, you’re not going to think clearly anyplace.

Putting Buffett is a modern office is like giving Superman kryptonite. His superpowers would disappear. He wouldn’t be able to think and concentrate. Luckily, he intentionally set up his environment in a way that makes it easier to behave rationally.

The (Super) Power of Environment

We influence our environments but we forget they influence us too.

We like to believe that we are in charge, that our brains are only influenced by our conscious thoughts. That sounds amazing but it’s wrong.

Our conscious brain is much smaller than our subconscious brain. And yet when it comes to getting better at thinking and making decisions we place all the emphasis on the conscious brain, learning mental models and methods of thinking that improve outcomes.  In so doing we improve the raw horsepower of our brain. Yet, there is no point having a 400 horsepower engine if you can only get 25 horsepower out of it.

Designing an Effective Environment

There is no one environment that works for everyone. We all respond differently to different stimuli. A corner office on the 100th floor in New York might provide inspiration to some and distraction to others. What works for me might not work for you.

Here are three things I’ve found work for a lot of different people in a lot of different situations.

First, structure your day to maximize your energy. Most people do the tasks requiring the least amount of thought (answering emails, checking voicemails, catching up with people) in the morning when they are most productive. Meetings and decisions get pushed to the afternoon when our brains are not working as well. Switch your day around. Do the most important thing first.

Second, use chunks of time and be conscious when interrupting other people. Block chunks of time in your calendar for your own projects. I don’t mean like 20 minutes, I mean like hours. I have every morning blocked off from 9-12. It’s not easy to get into a state of flow but once you’re there, you’re focused on one thing. It could be thinking about a problem in a three dimensional way or refining a report that you’re writing for work. If you interrupt this time it’s expensive to get back to where you were, often taking 25 minutes or more to recover. Keep that in mind when you interrupt others.

Third, make effective behaviors easy. If there is chocolate in my office you can be sure I’ll eat it. That’s why I lock the good stuff in a safe. Literally. This makes it harder to get to and I eat less of it. OK, you probably want a better example than chocolate. Here’s one I used to use at work. On the first page of my notebook at the intelligence agency, I listed some general thinking tools that I could fall back on for tough decisions. This prompted me to think through problems in a structured way and saved me from more than one mess.

Your Environment Matters More Than You Think

We intuitively know that environment matters.

During my first-year calculus finals, there was construction next door. I couldn’t concentrate. I walked out of the exam wondering how much better I would have done if only I could have focused. When I got my grade back, I wasn’t surprised. I could have done better.

You don’t control everything in your environment but you control enough to make a huge difference. Think about what you control and how you can change it to get more horsepower out of your brain.

Understanding your Circle of Competence: How Warren Buffett Avoids Problems

(c)2018 Farnam Street Media Inc. May not be used without permission.

Understanding your circle of competence helps you avoid problems, identify opportunities for improvement, and learn from others.

The concept of the Circle of Competence has been used over the years by Warren Buffett as a way to focus investors on only operating in areas they knew best. The bones of the concept appear in his 1996 Shareholder Letter:

What an investor needs is the ability to correctly evaluate selected businesses. Note that word “selected”: You don’t have to be an expert on every company, or even many. You only have to be able to evaluate companies within your circle of competence. The size of that circle is not very important; knowing its boundaries, however, is vital.

Circle Of Competence

Circle of Competence is simple: Each of us, through experience or study, has built up useful knowledge on certain areas of the world. Some areas are understood by most of us, while some areas require a lot more specialty to evaluate.

For example, most of us have a basic understanding of the economics of a restaurant: You rent or buy space, spend money to outfit the place and then hire employees to seat, serve, cook, and clean. (And, if you don’t want to do it yourself, manage.)

From there it’s a matter of generating enough traffic and setting the appropriate prices to generate a profit on the food and drinks you serve—after all of your operating expenses have been paid. Though the cuisine, atmosphere, and price points will vary by restaurant, they all have to follow the same economic formula.

That basic knowledge, along with some understanding of accounting and a little bit of study, would enable one to evaluate and invest in any number of restaurants and restaurant chains; public or private. It’s not all that complicated.

However, can most of us say we understand the workings of a microchip company or a biotech drug company at the same level? Perhaps not.

“I’m no genius. I’m smart in spots—but I stay around those spots.”

— Tom Watson Sr., Founder of IBM

But as Buffett so eloquently put it, we do not necessarily need to understand these more esoteric areas to invest capital. Far more important is to honestly define what we do know and stick to those areas. Our circle of competence can be widened, but only slowly and over time. Mistakes are most often made when straying from this discipline.

Circle of Competence applies outside of investing.

Buffett describes the circle of competence of one of his business managers, a Russian immigrant with poor English who built the largest furniture store in Nebraska:

I couldn’t have given her $200 million worth of Berkshire Hathaway stock when I bought the business because she doesn’t understand stock. She understands cash. She understands furniture. She understands real estate. She doesn’t understand stocks, so she doesn’t have anything to do with them. If you deal with Mrs. B in what I would call her circle of competence… She is going to buy 5,000 end tables this afternoon (if the price is right). She is going to buy 20 different carpets in odd lots, and everything else like that [snaps fingers] because she understands carpet. She wouldn’t buy 100 shares of General Motors if it was at 50 cents a share.

It did not hurt Mrs. B to have such a narrow area of competence. In fact, one could argue the opposite. Her rigid devotion to that area allowed her to focus. Only with that focus could she have overcome her handicaps to achieve such extreme success.

In fact, Charlie Munger takes this concept outside of business altogether and into the realm of life in general. The essential question he sought to answer: Where should we devote our limited time in life, in order to achieve the most success? Charlie’s simple prescription:

You have to figure out what your own aptitudes are. If you play games where other people have the aptitudes and you don’t, you’re going to lose. And that’s as close to certain as any prediction that you can make. You have to figure out where you’ve got an edge. And you’ve got to play within your own circle of competence.

If you want to be the best tennis player in the world, you may start out trying and soon find out that it’s hopeless—that other people blow right by you. However, if you want to become the best plumbing contractor in Bemidji, that is probably doable by two-thirds of you. It takes a will. It takes the intelligence. But after a while, you’d gradually know all about the plumbing business in Bemidji and master the art. That is an attainable objective, given enough discipline. And people who could never win a chess tournament or stand in center court in a respectable tennis tournament can rise quite high in life by slowly developing a circle of competence—which results partly from what they were born with and partly from what they slowly develop through work.

So, the simple takeaway here is clear. If you want to improve your odds of success in life and business then define the perimeter of your circle of competence, and operate inside. Over time, work to expand that circle but never fool yourself about where it stands today, and never be afraid to say “I don’t know.”

Circle of Competence is part of the Farnam Street latticework of mental models.

Temperament is more important than IQ

Charlie Munger

During a recent interview Warren Buffett and Charlie Munger had some interesting comments on how to outsmart people who are smarter than you.

Munger: We’ve learned how to outsmart people who are clearly smarter [than we are.]

Buffett: Temperament is more important than IQ. You need reasonable intelligence, but you absolutely have to have the right temperament. Otherwise, something will snap you.

Munger: The other big secret is that we’re good at lifelong learning. Warren is better in his 70s and 80s, in many ways, than he was when he was younger. If you keep learning all the time, you have a wonderful advantage.

Buffett: And we have a wonderful group of friends, from whom we can learn a lot.