Ali Hamed - Building an Investment Firm - [Invest Like the Best, EP.362]

22:15So like, I'm sure it's guaranteed. So these two regulated forms of capital have cheap capital. Because these older asset classes are rated and rating agencies are tied to what regulators will allow these cheap forms of capital to hold, those asset classes have no return anymore. And so if you're trying to be a credit investor and earn money based on the risk you're taking, how are you supposed to compete against regulated organizations? So these older asset classes have largely just had the yields taken out of them. And then where the yields haven't been taken out of them, say in the residuals, like the bottom equity piece of these levered structures or whatever, you have a lot of really, really smart people all competing over them.

22:54I just don't think that's a way to win in credit. And what's really interesting is if you think about all the blowups in credit, it's almost always old asset classes. You never hear, not that we do income share agreements, for example, you've never heard anyone get blown up over income share agreements. You never hear of anybody getting blown up over something that was perceived to be risky because it's structured correctly, it's sized correctly, it's not over levered. And by the way, Mil can figure this out in corporate credit. It turns out that it's more risky to do investment grade credit where you're not getting paid for your winners.

23:23So if you have one loss, it tanks your portfolio. and it was a lot less risky to do deals where we were getting paid for the risk. That way, if there were a couple of mistakes that you made along the way, you still got paid enough. Like the same is true in asset-backed credit. It is much better to find something that nobody else is in, where regulated institutions can't yet finance them, where you can pick the market before anybody else realizes it matters and then find ways to crowd people out over time. What's a good recent example of, and I'm asking for recent so that it's not a sure thing, of something that is small today, a market that is small that you could serve with credit today that you think could become big just to bring the idea to life?

24:03Yeah. I mean, the deal that we've legged into pretty significantly recently is YouTube catalogs. YouTube catalogs are basically like music royalties. It's a media asset with a declining decay curve of revenues. We found a company called Spotter, which has become well-known really from us backing them over the handful of years. We were there from the beginning. they become the dominant, really like almost the only player in that space where they can go find these media assets with a declining decay of revenues. They can underwrite them using historical viewership data from YouTube that only they have.

24:34They can then finance these catalogs. And then by the way, once they own the catalogs, they can go to large advertisers and offer them premium ad space against brand safe content. And so they make more money on these catalogs than anybody else can, which is why when people try to compete with them, they can't. And they've had a handful of people try to come into the market and they just get credit out. What people don't realize about that asset class because they think it's really niche and new is one, YouTube's been around for 20 years. Two, it's been growing at about a 40 % CAGR still. It sends something like$15 billion out per annum to YouTubers.

25:06And if you finance that asset class at anything close to what music royalties are financed at, you're looking at something that's in the tens of billions to hundreds of billions of dollars of asset class over time. That'd be one example. The other example that we're spending a bunch of time in today that's much smaller, that we have a smaller position in, what I mean by that, it's like tens of millions that we think can go to billions of dollars, is buy before you sell loans. It is harder now to sell your home than it was before. It is harder to generate liquidity to go buy a home than it used to be.

25:32And so what we do is we find homeowners who want to put a down payment on a new home but don't have liquidity. They're also being told by their real estate agent, hey, in order for you to sell your home, you ought to do renovation financing, fix the driveway, fix the kitchen, something similar to that. And so what we would like to do is we would like to make you initially a small loan so you can go fix up your home, call it$20 ,000,$30 ,000, which most people don't really have out of pocket. And because these homes have been lived in for a while, the mortgage is mostly paid down. So you're in at below a 50 % LTV often.

26:05Then we'll even buy your home from you at a discount to what we think it's worth, which we'll explain how that works in just a moment. You take that proceeds and you buy a new home. So now you're not living in a hotel for this like a weird period of time. And then we'll go sell your home for you. When we sell it, we take our amount back. We send you the difference. We're not trying to like rip people off or anything. We just want to make sure that we're getting in at an LTV that, by the way, is much lower than a mortgage. So it's lower than 80%. And the duration on these transactions is like 90 days, 115 days.

26:35You can get paid one and a half, two times more than a mortgage would be because if you went to a rating agency and you said, isn't this such a safe asset? Shouldn't you rate this? They'd say, well, it's not a mortgage. and you say, well, I have title to the home. I'm actually better than the first lien because there's no one to even foreclose on. There's no humans in the house. There's no lender. I don't have like a second lien that I have to work out. I literally am the whole owner of this home at a lower LTV than a mortgage would be. And because of the way capital markets works, it just can't be rated yet.

27:03That's an example to us where if you look at just sort of like the total transactions of residential homes in the US, that is like a tens of billions to hundreds of billions asset class, we're getting paid probably 50 % to 100 % more than you ought to be. How is that different than like the iBuyer public companies, OpenDoor, etc.? A few different ways. The first is these iBuyers are often coming in at a high LTV. They're usually not doing any improvement of the home. The real answer is a lot of them were like overfunded by venture capitalists and weren't really doing diligence. There's an extreme example, and I won't name the iBuyer who did this.

27:36We had an individual sort of associate with the organization and they took a camera and they videotaped a home that was not the home they submitted to the iBuyer and the iBuyer approved it. I actually don't think that the iBuyer model was such a bad model. It just got funded the wrong way. One, it was overfunded. Two, it was held on the balance sheet in the wrong way. The assets weren't priced correctly. And it was just an example of venture capitalist perverting what could have otherwise been a great business. This is a business that really started as a specialty finance company and knew it was a specialty finance company.

28:10They were disciplined about having under 80 % loan to value. They were disciplined about making sure the assets were short duration. And we weren't trying to earn venture capital returns on asset backed credit. We're earning 50%, 60 % higher than a mortgage on an asset that's 90 to 100 day duration instead of 30 year duration. We know that we're getting paid 400, 600 basis points more than we should. We feel awesome about that. If we tried to turn that into something where we're getting paid 100 % ROE, we're probably going to break it. Yeah. So we didn't do that. What about real estate more generally?

28:45You and I have talked offline a lot about it as a thing, as an asset class, as a trend that you've watched and are interested in for the decade, let's say, to come or the two decades to come. Real estate's one of these very old asset classes that you mentioned, maybe the oldest. Riff on it for me. Why are you so interested in real estate? What aspects of it interest you? How do you think it could become interesting from an investing perspective, the whole thing? We've been trying to figure out a way to eventually become real estate investors. I think if we went out and we raised a real estate fund, people would look at us funny.

29:16We do tech-enabled asset-backed credit today. We do a little bit of prop tech. Prop tech could eventually become real estate. So it's on our minds. But I'm good at one thing in the world other than writing emails, it's financing assets. And I think that the housing crisis is like a really sad problem. I don't know how people in my generation or the generation after me are going to buy their first home. I don't think first homes are available to them. So we have a major housing supply issue. I mean, I'm from Los Angeles and Los Angeles looks less good than it used to. I mean, walking into Third Street Promenade is really sad to me.

29:47We've started thinking a lot about like housing supply and how to generate more housing supply. One of the markets we've spent a lot of time on is the ADU market. Some people know what that is, some people don't. But basically, the ADU market has stemmed from the fact that California has come to the aha moment that homelessness might be bad, which is great. I'm glad they've come to that conclusion. And the way that they're trying to solve that is that they're taking zoning laws away from the local municipality into the state's hands. In the past, what would happen is some developer would propose a project.

30:15Locals would say, we don't want more housing here because that's going to hurt the value of our homes. And it turns out that an entire state full of single family lots right next to the ocean is like a really bad way to build housing supply. There's a reason that exists, is people keep saying no to new supply. So what the state did is they said, okay, enough's enough. We are now going to force permitting such that you have to approve a permit to turn a single family lot into a multifamily lot. I think it's up to six units per lot. So long as the lot is within 500 feet of public transit. And it turns out like almost every lot in California or in Los Angeles is near public transit, whether it's a bus station or something similar.

30:50And not only that, but the permit has to be approved in something like 90 days. The thesis is like ridiculously simple. It turns out that a lot with six units on it is worth more than one with one unit on it. And so we thought, what are all the different ways that we can invest in? And by the way, the market is massive. Depending on who you ask, people would say that Los Angeles probably needs 1.5 million more homes or a room for 1.5 million more families. If you assume that the average home was going to be$300 ,000, so we're talking like starter homes, small homes in LA, that's a$450 billion market in Los Angeles.

31:23Pretty big target. And when you talk to us about what are markets that are small today, that we can be the dominant at scale player in now, and then by the time other people come into the market, we've already crowded them out. That's the type of thing that we try to pursue. Now, the problem is housing prices are still bananas. Mortgage rates are still high. Labor costs are still high. And cost of goods are still high. And so as much as we've been trying to figure out ways to invest in that market, we've only found marginal ways. And by the way, that's not to say we're not. We're still hanging around the hoop.

31:52We're making small investments. And when we're not sure about how a thesis is going to work out, the way to mitigate that, aside from diligence, rigor, and discipline, and foreclosing when things aren't working out is sizing. So we've made some small investments in the space. But we would imagine that that's a space that we're going to be in in a really, really big way in the next two, five, or 10 years. And I don't really know when. Whenever we talk, I'm always interested in the things that have your attention, but not yet your dollars. What else pops to mind when you think about a category or an area that you spent a lot of time energized by or investigating, but haven't yet really deployed real dollars into?

32:29So often it's platform economies or ecosystems with bad governance policies. So for example, it is like a tragedy that it is uninvestable to invest in Salesforce oriented businesses. Salesforce is a behemoth. There are many, many people who have made their living on Salesforce, not by working at Salesforce, but by building tools for Salesforce. And it's just never become an investable ecosystem. We're pretty bummed that the Shopify ecosystem hasn't become investable, partly because Shopify either competes with, kills, or buys any of the apps on its platform that have done well. One of the places that we feel like we've missed out on is any of these ecosystems where the governance regime is not predictive.

33:07It's kind of funny, if you run one of these platforms, whether it's Spotify or Shopify or Facebook or YouTube, or any of these ecosystems that people build their livelihood on, you're kind of like a government. And if you asked any business leader what they really want out of government, they usually have a policy in mind. But what they really want is stability. They just don't want anything to change. And it's really challenging when you have these platforms that they don't have a governance regime that stops changing. My hunch, you asked about which investment firms are the most nimble. It's the ones where they're still run by the founder.

33:37My hunch is actually as these platforms are no longer run by their founder, they will become more stable. And even though the platform will do less well, the investable ecosystem underneath it will actually do better. And so we look for that. Can we talk a bit about what you've learned it takes to build an asset manager? So maybe starting point would be like, what do you think are the key categories that you have to be good at? We started the conversation, you've studied lots of successful asset management firms, we've talked about them a ton. What do you think are the key ingredients to build a great, enduring, really successful asset management firm?

34:11I'm often asked by the young people on our team, like, what do they need to do to evolve in their career? And my response is that there's five functions in investment management firms. There's finding deals, there's doing diligence on those deals, there's helping companies once you're in the company, there's raising capital, and there's managing the firm. The part that I'll try to focus the most on is capital raising and firm management, because I think those are where I have the most unique things to say. In capital raising, I think most people think like, how do I raise money from a bunch of high net worth individuals and then raise money from family offices and then eventually raise money from ENFs and Amazon Foundations?

34:47And the more sophisticated people who do capital raising start thinking like, I have a product, I need to find product market fit. And like part of my product is like the capital that I have. And how do I match that to the types of assets I'm going to invest in, et cetera. The way we often think about it is we have a new investing idea. We can only raise money from our existing LPs. This is a strategy that we have no track record for. One of the things that I think is kind of funny is when a new manager raises money or when anyone raises money, really, you can raise money in one of three ways.

35:17You already know the people and they trust you. So they'll give you money for anything. You have a really good track record or a good enough track record, or you have a good story. And since most people don't already know people who will give them money for anything, and since most people don't have a track record for a new idea, they come up with a really shitty story. That's why we have so many geography-focused funds or sector-focused funds or firms that are attached to a corporate strategic partner. So most of the time, people come up with stories because of good fundraising tools, not because they have anything to do with actually being a good, successful investor.

35:45And we always joke that our fund ones are the anti-story. So we basically have to go to people who are already in our existing network that we've proven that we're good investors with by raising SPVs as opposed to a fund with a bad story. We then put them into a fund where we have a lot of discretion. And that's like step one. Step two is the type of LP who wants to get an excess return in exchange for taking a unique point of view. And they themselves feel sophisticated. Certain family offices serve this need. Certain endowments and foundations feel like they can do that and they can. Canadian pensions are another example of edgy, sophisticated investors who are willing to get paid more for taking a unique point of view.

36:25And then eventually after fund one, fund two, fund three, that's when you start maturing your capital base. What do I mean by maturing your capital base? Well, one, you're looking for investors with a permanent pool of capital. You're also looking for investors where their return expectations match the opportunity set. Because if you have investors who have like an unrealistic expectation of how much they can earn on a certain opportunity, you're like either going to overpromise or they just shouldn't be a fit. Their liabilities or whatever their hurdle rate needs to be is equal to the return set.

36:53Because again, we'll take that real estate example I gave. If you are earning a 12, you might think that's an insane return relative to the six or seven or eight that you should be earning. But if you're like a family office that's based in New York and you're paying a 50 % tax on that, your opportunity cost is seven or 8%. You can both accept that's a really good investment, but it's not a good product market fit for you. You then also want to figure out how can I make sure that my investors have the right duration set? How do I make sure that they're diversified? There's no capital base that's perfect.

37:22Endaments and foundations have denominator effect. If you're working with family offices that all come from the tech industry and tech goes through a bubble, then you suddenly are faced with, sure, you have a permanent capital source, which is family offices, but they're all correlated to one. So you would want to raise money from maybe some family offices in Texas and some family offices in San Francisco and some family offices in New York. And then again, ultimately, you'd want to figure out how do you go from a fund management business, and if you want to scale ultimately into a capital markets business, where you start figuring out where on the spectrum are you making a commercial contract and a social contract with an investor.

37:55In that fund one example I gave you, it's almost purely a social contract. I have worked with somebody for five to 10 years. I have developed a level of trust with them. I am writing an LPA with them, of course, but they know that they're basically putting the mandate in my hands because they trust me to make good investments. And they know that because it's a fund one, whatever fund two looks like will be a little different than fund one was because we're figuring out the thesis together. By the time you're on fund four, fund five, fund six, and you might be raising money from interval funds or insurance companies who have their liability holders or whatever, you are getting closer and closer to a commercial contract where you cannot deviate from the strategy.

38:31You cannot deviate from duration. And that's okay because you're on a fund six, seven, or eight, and you already know exactly what the strategy is. So I think developing that sophistication of making sure that the capital that you have matches the maturity of the fund that you're investing out of, the flexibility you need, and also making sure that that capital is not forcing you to fit a good story for fundraising into a bad investment thesis. Those are some of the things that we've learned in the capital raising side. What are the worst mistakes that either you've made or you've seen made when forming capital for a firm as it grows?

39:05So I think a lot of firms, as they grow, they're faced with the decision of, do we do deals that are sized to the firm that we are now, or do we do deals that are sized to the firm that we want to become? It's not an easy answer, and firms have taken different approaches to it. Our view of how we've done that is we've tried to thread the needle by doing both. We will try to take a position equal to the size of the firm that we want to become, but we will only hold that position in one of our funds equal to the size of the firm that we are. So you can still risk manage it. And then the challenge is if you try to raise that SPV from all the exact same investors that are in your fund, that's not like any risk management.

39:43You've just basically created concentration risk from them. And you have this like fictional dotted line that sits between the fund and the SPV you raised. And like, if they yell at you for it, you convince them like, oh, no, but like I risk manage it because it's my fund. That's not necessarily true. So I think that the firms that I've seen blow up are the firms that just got too big too quickly in a deal before they knew it was working or ever. I mean, it's a humbling business. We don't get every trade right. Nobody gets every trade right. And taking existential risk just doesn't make any sense.

40:11We've done that multiple times. Like crypto is a great example. Like most people in venture capital thought crypto was going to be an interesting place to be. We had a point of view. One of those points of views was that a lot of the smartest people that we knew were going into crypto. We had a point of view on guilds because we felt like they were REITs of the internet. But we also knew that the trade, if it worked, was going to go really, really well. And if it didn't work, we didn't want to blow a hole in the side of our fund. I think a lot of people, especially people with a fintech orientation and venture made crypto like 20, 30 % of their fund, or they realized raising money for a crypto fund was easier.

40:41So they just did that. And instead, they like screwed up their entire business. And one of our funds, we decided going into the fund that only up to 5 % of the fund was going to be crypto. We were going to invest in a handful of companies in the space because we, this is to sound goofy. We're high conviction on the space, low conviction on a specific business model. We got two and a half, 3 % of the fund of the way there. It didn't work. We'll probably lose money on those investments. And that's fine. That's venture capital. So I think a lot of it's just risk management. And then also it's just letting capital markets dictate how you should do investing.

41:13The easiest sin and the most common sin in venture capital is a young venture capitalist who wants to prove that they're good at investing before they have the DPI to prove it. What they want to do is they want to invest in a company and have a brand name firm invest in a markup thereafter. And so what they do is they basically go into deals that look like they can raise more money and they invest in them even if the valuation is too high or even if the diligence didn't check out or even if the company is unlikely to have pricing power in the long term or even if the company is unlikely to be enduring because they view that their job is to back a company that Sequoia does the Series A of.

41:47That is like the number one rule. If you want to prove with short feedback loops that you can raise a fund two and a fund three and a fund four. What ends up happening is they get into hot spaces, they invest in very fundable companies where there's no differentiation, no contrarian way of thinking, and they get smoked by investing in SaaS companies at 50 times revenues. If you look at the venture capital business model, there's two types of seed funds. There's the seed funds that listen to their Series A friends, hear what their Series A friends want to see, and then go find companies that they think their Series A friends are going to go back.

42:15And those seed funds should be called originators. There's other seed funds or early stage funds that develop a point of view to the world of what they think should exist. They then invest in those companies and try to convince downstream funders that they were right. That's the Uniscore Ventures model. If you look at Uniscore Ventures website or Andreessen Horowitz's website or a lot of these firms that feel that way, they're basically media companies. They have oriented their entire business around having a megaphone that they can tell people like, we invest in this company because we think it's a good idea.

42:44Now our job is to convince you it's a good idea. That business has a much higher profit margin than the sourcing and origination business that a lot of early stage funds have come into. And why do they do that? It's not because they're bad people or because they think that they're doing it. They're doing it because they let their capital raising process dictate how they were going to invest as opposed to forming their capital raising strategy around how they were going to invest. You mentioned crypto and sizing as a great example of something important or seemingly important in the world and how to attack something like that that's both exciting and uncertain.

43:20Talk to me a little bit about Amazon. We've talked a lot about ecosystems around Shopify or around Amazon or around other platform companies. And Amazon's a place in the Amazon ecosystem and the kind of e-commerce ecosystem is a place where you've made investments in the past that looked really good and now maybe looks less good. Maybe tell us just that story just so we can do sort of not a postmortem because it's very much unfolding still, but a place that probably was more exciting than it turned out to be, at least in the first few years of the thesis. So I'll back up and talk about why we like the thesis in the first place.

43:52We've spent a lot of time on platform economies. When we think about what platform economies are investable or not investable, we think of them along a range of binaries. For example, does the platform drive traffic to you? Is there pricing power on the platform? So for example, in the case of Amazon, you have comment and review modes. And so if you're ranked the highest, then you can charge a little bit more. If you're ranked the highest, the traffic comes to you for free, so you don't spend much money on ads. And then the thing that we like the most about Amazon in particular is that there's variable costs.

44:20So you could toggle up your business based on how your revenues are doing, which is very unique relative to what historically had been a fixed cost business. And the market was just massive, and it still is. Hundreds of billions of dollars of revenue is done by third-party sellers. Amazon relies on the third-party selling business more than it ever has because it's getting a lot of pressure on its first-party business, and it wants to expand its margins and it makes more money on third-party sellers than it does on its own stuff. So it's a really compelling market. And about the time right after we made the investment, the supply chain got a lot harder for a bunch of knock-on reasons from COVID.

44:54So for example, container costs went from $2 ,500 to$21 ,000. That was like a 400 basis points impact on top line and impact bottom line. Amazon started receiving so much inventory into its warehouses that it started rejecting inventory inventory because it couldn't handle everybody trying to front load their inventory to avoid backups in the supply chain because so many people had gone out of stock the year before. Privacy rules became more strict. So people were advertising less on Facebook and Google and more on Amazon. So we were confronted with a bunch of challenges. And I think this is an example, actually, where we're at our best when things get hard.

45:27This is one of those examples. So what were a few of the things that we did right? The first is we charge a lot of money on the deals that are working so that when they're working, it makes up for the things that don't work because we're in markets that we can't be perfect. This isn't something like a triple A tranche of some loan book where you're getting paid a few hundred basis points and if it goes wrong by a little bit, you're toast. This is a space that we went in. It was a new space. And so we structured it like it was new. And so like in any new space, we ended up having some winners that won by a lot.

45:58We had some businesses that are probably doing the way we thought they were going to do. And we had some deals that have been a struggle. And luckily, the deals that have done really well have made so much money that on the deals that are a struggle, do we work on them? Do we fight really hard to make as much money as we can on them? Absolutely. But it'll end up doing probably as well as we expected to do or close, just a more scenic route to get there if you look at the portfolio overall. And the second thing is, sometimes we're going to be right, and sometimes we're going to be wrong, and it's just sizing.

46:26So whenever we do a trade, especially in a new space, we want to make sure that if we do the trade and it works, it'll help our returns. And if we do the trade and it doesn't work, or it's harder than we expect, it might have a couple hundred basis points impact on the returns or a few hundred basis points. And that's how we size every position. And whether it's crypto, whether it's Amazon, whether it's any of the spaces that we've been willing to be on the cutting edge of, if you're going to be on the cutting edge, and you want to be able to offer a product to your investors that's safer by being on the cutting edge as opposed to riskier by being on the cutting edge.

46:58You have to size it correctly so that if it doesn't work, it's okay. And you have to charge enough on your winners where they make up for your losers. And normally an asset-backed credit, that's a really hard thing to do or in credit in general, because you make so little money on the deals that are working. But that business, that's an example where we have companies in that portfolio that have returned 20 times our money on the investment, or where we get refinanced at something like 42 % IRR on the deals that work. And so if you have a couple of companies stumble, it doesn't feel very good.

47:27But if you size them the right way and you've made enough money on the others, you end up being okay. When you look at your venture portfolio, it's so different from some of the other firms that you would say, oh, I recognize this company or I've seen this company four times and like four other websites or something. What do you think it is that's driving the different kind of firm or deal that you've focused on so far? Like where does it come from? What do you look for? Maybe this is an opportunity to talk about how you underwrite business models, which I think is really important for you versus just like, ah, this is a X company, like this space is going to explode.

48:00So we like it. Yeah. Talk about differentiation for you in equity. I think the first thing is we are willing to change our minds and change our strategy over time to match the vintage that we're in. When we first spoke, we had a strategy where we were building software for equity in companies. We would basically become the engineering team for non-technical founders and also invest capital. And that was a good idea at the time because seed rounds were a lot smaller. People really needed more technical talent and we could get a lot of equity for it. That is not a good opportunity anymore. And we shuttered that business.

48:33When we shuttered that business, people thought, man, we knew that that wasn't going to work. Software for equity, what a bad idea. It turns out the first fund that we raised there is like seven to eight times DPI and marked it 30 times. So we've already returned eight times the money to people. We're already marked it 30 times. I can talk about the returns because we'll never raise a strategy like that again. But it feels good to be able to say like, we did something that made sense for the vintage and we got out of it, not because it didn't work, but because it doesn't make sense anymore. So I'll start with that.

49:00We try to match our strategy of investing for the vintage that we're in. And that keeps coming back to when you're capital raising strategy, which is how do I have an LP base that gives me the flexibility to be nimble, to do what I need to do to make money for them. And then I think one of the things that has benefited us from being in credit, we have a lot of rigor in our diligence process. The way that we really built our business and where most of our AUM is across the organization is in asset-backed credit. Asset-backed credit is a business where you live and die over like one basis point.

49:31I have LPs who have calendar invites in their calendar of the day, not just the day they think that the interest is supposed to hit them, the time of day it usually hits. So by 4 p.m., if it hasn't hit their account because the wire deadline's at 430, they're pinging us. That is how we learned how to do investing. And oh, by the way, we never got the benefit of the doubt when we started the firm. So it's not like we were like BlackRock, not that they ever would miss a payment, but if we missed by 24 hours, people thought, well, it's BlackRock, maybe there's a technical thing. I remember one time our bank made an error.

50:00And when we tried to explain to our LPs, it was the bank that made the error. There's no way they believed us. What are the odds the bank made an error, not us. So that level of discipline and rigor and perfection, when applied to venture capital is dangerous, because it causes you to be too linear, convince yourself every trade has an issue with it. There's a reason not a lot of credit funds have become good at venture capital, or credit business have become good at venture. But when it's at our best, it makes us really disciplined about not thinking about the noise and the signal and avoiding wrapping paper companies.

50:30A wrapping paper company to us is good founder, good syndicate, good market that's hot, vertical AI right now, but not the right company, not a company with pricing power, not a company with barriers to entry over time, et cetera. And when we're at our best, it allows us to go through a very simple process. In each company that we're looking at, we have to ask ourselves, what are the things that we need to believe for the company to work? The hardest passes, and I'm guessing a lot of people listening to this can relate to it, is when you're talking to a founder and you believe everything that they're saying, but your gut says, don't do the deal.

51:00And why is that? It's usually when you're 90 % sure of like 15 different things, but 0.9 to the 15th power is a really low number. And so our diligence process is how do we get to 0.99 % on 12 of the 15 things and accept that there's going to be a few that we just don't know. We're not going to know TAM early on, especially in the markets that we invest in, because we try to avoid obviously consensus markets with a big TAM. Instead, we're trying to invest in markets where it's like an unobvious market. That's usually how you have less credit investments. So TAM is often one of them. quality of management team, some of the management teams we've known for a long time.

51:35We certainly do diligence on management teams, but gosh, how well can you really get to know somebody in 90 days to six months? And how often is somebody who's a really, really good first employee somewhere or executive somewhere going to be a good founder? Just hard to know. And the third is just sort of like philosophy of go to market, competitive set, et cetera. So we say, what are the 15 things? Then we ask ourselves, would we be good at those 15 things? Usually when we develop a new market, we're going to be in, It's next to a market that we already have been in before. So it's not like we're going to go from like when we got in to new forms of media, we have been looking at specialty finance companies that were originating new asset classes.

52:10We came across YouTube as a new asset class. YouTube taught us about new forms of media. And then we did new forms of media. It's usually something that's one step away. And it's usually a space where we've seen 50 Bs already. So we can recognize an A. And the third question we ask ourselves is, would this be a good use of our time? And usually when we see a deal in a market that we've never seen before, we just pass because either we can take too long to do diligence and we'll miss it, or we can do not enough diligence and make a bad investment. But if we keep seeing deals in that space, we start to ask ourselves like, hmm, maybe we should learn about that space.

52:44We keep seeing activity there. The ADU market, the California housing market was an example of that. We saw like seven or eight deals in the space. We kept saying no. And finally, we're like, you know what? There's a lot of smart people. This seems like a big market. Let's put boots on the ground. Go to Los Angeles. Talk to not prop tech investors. Let's go talk to real estate developers. Let's go talk to real estate investors. Let's go to property managers and really understand what's going on here. And now when we see a deal in that space, we are prepared. We have a prepared mind. As simple as that is, if you kind of go through those three things and you think of yourself as a business that finds a good idea and then has to convince everybody else it's a good idea, as opposed to just trying to originate deals everyone else already knows is a good idea, there's a lot of profit margin in that.

53:27How do you approach something, we'll take the obvious one, which is AI, which is on everyone's mind, not just for investment opportunity, but for the ways in which it will affect their portfolio, their lives, whatever. How do you approach something like that with your investing hat on? Or how have you approached it? So the first is, we don't think that you have to be the first investor in space to make the most money on it. If you were the first internet investor in the 90s, do you think you made more money than the best internet investors of the 2010s? Probably not. The second is we have to have a differentiated point of view.

53:56And right now our point of view is like pretty similar to a lot of people's. Like it's better to have a data moat. A lot of people have pitched us these like asset heavy, like infrastructure businesses, because like there's not enough chips. And so there's like a chip shortage and maybe there's like an asset, like you can finance a bunch of chips and then lease them out. The theses that we have now are pretty unoriginal. And so I think we're waiting until we have something original to say. And I think that speaks a lot to our model is by being in multiple investment theses, we don't feel forced to deploy.

54:28I think a lot of people in venture capital are looking at their historical portfolio and thinking, oh my God, it's garbage. I better make up for that soon with new deployment before anybody finds out and make a bunch of interesting AI investments that get marked up really quickly. So by the time anybody realizes my 50 to 100 times SaaS revenue deals suck or my crypto deals suck, don't worry. I have this new thing that I can show you that's in a separate fund. And by the way, I'm raising fund three. We don't feel that pressure. One of the other big things that seems like an important trend in the world is more money flowing into long duration, capital intensive, CapEx heavy technology business models, like call it deep tech or American dynamism, or there's lots the terms for it.

55:10In general, how do you think about, from the equity perspective, a business you know is going to be really capital intensive, but may have at the end, the pot of gold at the end of the rainbow is great because it's very defensible. It's high barriers to entry. It's got some stickiness. It's dominated some new space. How do you weigh the trade-offs between seems like this big bucket of companies that's going to, we know is going to be really capital intensive and therefore you're probably going to take a lot of dilution. But at the end of the story, it's super, super defensible. I think it depends on the firm that you are.

55:43If you're a large multi-stage firm, you can do that. If you're not a large multi-stage firm, you're basically putting your lives in the hands of capital markets. And if you're smart, it doesn't matter because you're basically relying on capital markets to stay stable and for the capital markets to agree with you. That seems like a hard business to be in unless you're willing to fund the company over and over and over again until it gets to its end state. And then you're so big that you actually have a portfolio of investments so you can take risk. It's probably what a soft bank should have become.

56:15It's probably what a tiger should have become. It's probably what any of these$10 billion plus investment firms should have been. And it's probably not what a series A fund should do if it's not multi-stage. What is the most common mistake that you've seen in private credit writ large? You said before, private credit's now this like one thing in people's minds, but it's got lots of subcomponents. you do asset-backed lending. What are the other components of private credit? And how much do you agree with this? What feels like in this sort of ether, this snide perspective on private credit as this thing that sort of exploded and people maybe have some questions about as a new asset class, maybe riff a little bit more beyond just asset-backed lending and private credit?

56:56I think the biggest mistake, the most obvious mispricing I currently see in private credit is the pricing of non-sponsor-backed versus sponsored-backed direct loans. Most people think sponsor-back direct lending is less risky than non-sponsor-back. Sponsor-back would be lending money to a company that's owned by a private equity firm already, and you're basically giving back leverage in an LBO, for example. Non-sponsor-back direct lending is finding a founder-owned company that isn't owned by a private equity firm and offering leverage to that business. It could be so the founder could take money out of the business.

57:24It could be so they could use the capital to grow faster, whatever it might be. The thinking goes that a business that's already owned by a private equity fund is easier to lend to because if things go wrong, the private equity fund is going to keep putting more money into the company, or also because the private equity firm's already done a lot of the diligence. So there's probably less skeletons in the closet, or at least two minds are greater than one. All these different reasons that having a private equity fund in front of you makes the loan less risky, theoretically. And in non-sponsor backed, this is a company that's never been underwritten before.

57:56It's more expensive to do the diligence because you can't take anything for granted. If something goes wrong, you have to be prepared to take over the company, switch out management. All those things come with execution risk. But the reality is if things actually go wrong in a hot market, yeah, the private equity fund is going to fix the problem because they don't want to hurt their relationships with the direct lending ecosystem and the credit ecosystem. In a market like the one that we're about to enter into, these direct lenders, one, don't have the capability of taking over these companies.

58:23They really are relying on the private equity firms to do that. On top of that, a lot of these direct lending businesses are now set up to be valuable public companies where they're very focused on their free cash. And the best way to be focused on your free cash is to have less employees. So you end up not staffing yourself appropriately to take over companies if you end up having a high default rate. I'm 100 % sure that anybody who works at one of these firms would disagree with that and is probably banging their phone as I say this. But I think that's just how they're staffed. I would be surprised if they actually had the confidence to go take over one of these businesses.

58:54They don't want to mess up one of their sourcing relationships. You hear the pitch of a lot of these direct lenders. They will tell you how close they are with all their private equity firms. So these private equity firms are able to basically go and dictate the terms to their lenders as opposed to the other way around. You want to read the closest thing to a finance book becoming an action book. The Caesars Palace coup is, I think, a great example of this. It was the fight between Elliott, Oaktree, and Apollo. It turns out that a private equity fund with its back against the wall actually has more tools to defend itself than a lot of the lenders do.

59:24And in a non-sponsored backed directly in a deal, that private equity firm is actually no longer a liability. And I bet you that when push comes to shove, a founder whose legacy, identity, and entire net worth is in the equity of a company will do more to save that company than a private equity fund will if it's one out of 20 positions. A private equity investor is going to be hyper-rational. They're going to decide this is a 5 % position for us. We're not going to put good money after bad, or they're going to assess it compared to the opportunity cost of the rest of the business. They're going to decide that their relationship with one of the lenders isn't worth risking their entire business model, and they're just going to let the company fail.

59:57People find a lot of false confidence in historical data points. Equity investing is all about trying to predict the future. Credit investing is all about assuming that the future will be the same as the past. And if you look at any credit underwriting memo, it's almost 100%. This is historical loss rates. This is historical financials. Assuming management is wrong, and every credit investor just blanket assumes management is wrong, because they usually are. let's just take it down 20 to 30%. There's no discontinuation of what if this new technology is going to disrupt the company or what if management isn't good or whatever.

1:00:28It's always like a very, it could be 20 % worse or 30 % worse than before. And we can still withstand that. Or if we went to another GFC, this is how companies similar to these behaved. We could withstand another GFC. I think usually if you talk to a credit investor and they start saying, we could withstand another GFC, that's like your first indication that they're all just basically assuming the future will be the same as the past with some bumps along the way, those bumps being similar to the ones that we felt in the past. And I think that's where a lot of people get themselves in trouble. Coming back to the topic of firm building, you talked a lot about fundraising.

1:01:00We didn't yet get to building the people side of the business. What have you learned here, maybe even with extra attention to like the mistakes that you've made, because those are always such a great source of lessons. I know that obviously it's much bigger and you've worked a lot of people. When we first met, you had a very, very small team. What have you learned about managing the people and the culture of an asset management firm where typically the people are the entire business? There's not a lot of other assets in the business. I think actually this is the part where I've learned the most in having built a business is the firm management and developing the people.

1:01:33And I was talking to an investor friend and he was asking what was the number one thing I've changed my mind about, about how we think about building the firm. And I used to think about the firm in terms of compromises. We would compromise by raising an SPV. So you have to incur a complexity to go do a deal. You would compromise by hiring a young person over an older person because you want to develop them over time. We've learned that our firm is largely built on the few things that we're incredibly uncompromising on. And what that means is we make five more compromises for every one little thing we're uncompromising on, but it's a lot harder to stay true to your uncompromises than your compromises.

1:02:10What's an example of that? We are uncompromising about the fact that we don't want to be forced to deploy in a bad vintage. And so the only way to keep the firm active and alive and in the flow is to be able to invest in multiple types of ways. If you're only in one asset class, and your asset class is going through an overpriced vintage or a bad vintage to deploy in, you either can keep investing in that bad asset class or stop investing for some vintage. And then your employees are going to leave. You're out of the market. It's very difficult to keep momentum. As we see like talent development, ambitious people are largely better investors than unambitious people.

1:02:50At least that's what we think. Ambitious people want to grow their careers over time by increasing the scope of work and the scope of their role. They can either do that because the firm is growing, or they can do that by politically taking scope from other senior people in the organization, or they can do that because senior people in the organization voluntarily leave, like at a benchmark or a USV or some of the storied venture capital firms. And I don't plan on leaving because I'm still pretty young. So if you want to build an organization where you can keep your deal flow on, you can create and keep momentum in the organization, and you can keep a place for your most ambitious people to continue to grow in their career, sitting out of a market for two years is really challenging.

1:03:26And so instead, what we've done is we're in a few different markets, so we can always be deploying in the market that has the best relative value at any given time. Right now, venture is not that great of a market. Valuations are still too high, even though they shouldn't be, even though we've all gotten slapped in the face over it. Asset-backed credit, as much as I thought it was going to be a really good market to invest in recently, has trailed corporate credit. We are starting to see that change only in the last three months have we started to see things actually repriced in asset-backed credit.

1:03:54And then hybrid, it was like a bonanza. It was amazing. There was tons of deal flow, not a lot of capital. There's not many hybrid funds. And hybrid as a strategy really solves the price mismatch between founders and investors. Great. So we compromise by being more than one asset class to be uncompromising about not deploying in a bad vintage, keeping momentum in the organization, and having a firm where our young people could be ambitious and find good relative value and stay active in the market. Another thing is we wanted to be flexible in our investment mandate. If we want to grow really, really fast, the two things that we would do is we would hire senior lateral hires who already know how to do things, and we would raise single name SPVs.

1:04:32It is much easier to raise money for a very discreet thing. You can raise like hundreds of millions of dollars very quickly if you find a really good deal. And you can grow really fast if you hire a bunch of senior lateral people with track record, brand recognition, etc. The problem with both of those things, make a senior lateral hire comes to more risk. There might be negative selection bias. They probably already have a way of thinking, whether it's right or wrong. It'll be different than the firm's way of thinking. It comes back the Apollo example I gave of their partners being there for a long time.

1:04:57They don't have as much political capital in the organization. So the best investors are people with great political capital and social capital in the firm. So they can get things done quickly. Everybody buys in and they're allowed to take risk because if they fail, they already have enough social capital in the bank to take measured versions of failure. When new people come in the organization, they usually try to hit singles because they don't have enough social capital. It takes a really long time and they can't do controversial things or make contrarian bets because they're too nervous of risking social capital.

1:05:25Instead, what they do is they try to come to me and try to convince me that it's a good idea, get my blessing with the rest of the organization, then they do the deal. So one of the things that we compromise on is we grow the firm more slowly because we're uncompromised and I'm wanting a lot of our senior leaders to have been built internally within the organization. We want to make sure that the investments that we do are because they're good investments, not because they're investments that are easy to fundraise for. If we wanted to raise a fund that was easy to raise for, we would have gone out in 2020 and like raise a VC fund and do a bunch of vertical SaaS companies, which just would have been a bad idea.

1:05:57And so what we've done is we've had to make our fundraising efforts harder by raising from unique pools of capital or alternative forms or mandates that are sort of vague or raise money for fund ones when an existing strategy we have a lot of demand for. But if we grew that strategy, it would dilute the returns. So instead, the way we grow the firm is the harder thing, which is to raise a fund one and a new strategy that we think is better, as opposed to easily growing a strategy that we think would get watered down if we made it too big. So the number one thing that we've learned is to be very intentional about our uncompromises and let our compromises come from those as opposed to the other way around.

1:06:34You said that valuations in early stage equity markets are not what they quote unquote should be. How do you think about that? How should they be priced in your mind today? We use a lot of frameworks as opposed to like, I think a lot of people who enter venture capital and somebody who comes as a credit investor, who's very quantitative. And I'm sure one of the things that you were probably tempted to do, take some like data set of all the deals that were done in the past, what percentage of them end up being like 30 times outcomes and 10 times outcomes and three times base rates. Yeah. And then you're like, okay, I need to enter companies that are approximately this valuation and that'll get me to like a 4X gross and a 3X net.

1:07:09The challenge is the data is really challenging because there's selection bias in it. Not every a company gets reported, not every round gets reported. And it probably skews positively because the failures probably don't get reported and the successes probably do get reported. And the second is the quality of the investor really matters. And so if you're taking venture capital overall, there's so much dispersion in performance. What you really, really want to do is only take the deals that you've done historically and try to figure out the hit rate of those. Instead, what we try to do is we try to build this bottoms up view of we know that if we don't get a forex gross on a fund, we probably haven't earned the right to raise the next one.

1:07:42If we assume that enough of our companies, if the 15 things that we believed work, become worth at least a few hundred million dollars or$500 million or a billion dollars, let's build a portfolio that way. And then whatever great upside comes after it, so be it. How wonderful of a surprise. And then when we do that, we say, well, if the things that are right on the horizon happen, how big will the company be? If a company has a really big TAM, we're a lot less disciplined on valuation because the TAM is massive, they fit product market fit, the company can be worth over some huge amount, will pay up a little bit.

1:08:20One of the successes actually we've had is investing in companies where the TAM is more cusp-y. It's not to say that it's a good TAM or a bad TAM, it's just a TAM that we can't predict. And most VCs will just avoid those companies entirely. Instead, we do those deals just with lots of valuation discipline. So we have a company in one of our portfolios has an opportunity to like return the fund or be a major return driver. And we did that deal at a six pre. And that is a company that doesn't have a lot of addressable, actually, we couldn't figure out what the addressable market was. There's just no data about it.

1:08:51And it was a new business model that had never existed before. That is a company that is likely to be a huge outcome for us. And the unique point of view we were willing to take is that it's okay if a company has TAM as a major risk, Let's just price it accordingly. And then also just being like really clear about what stage that you're investing in. For us, the way we define seed versus series A versus series B, I think a lot of people would define it as a$3 million round done at like low double digits. My hunch is if venture capital was a model that kind of worked, and when we started doing this in 2014, seed rounds were usually like five to eight to$10 million pre-money valuations.

1:09:28We've like had inflation, the internet's bigger, Business models are more proven. Acquiring customers is faster. The founders have often started companies before. The senior executives have been at companies that have scaled before. I'm comfortable that valuations have gone up. I think that the seed rounds will probably settle in at low double digits pre. That would make sense on a linear basis from where they were before. If you're going to do a deal at 20, what you have to believe is you're basically doing a seed round attached to a cheap Series A. If you'd done just a seed and they had developed product market fit, and then they raised a series A, the series A probably would have been done at like 30 to 35.

1:10:06You're blending those two together, but you had to be clear that you're doing that. And we think about the risks that we're combining there. As a seed investor, our number one job is to identify product market fit before other people have realized there's product market fit there. That might be because they've already sold some customers. That might be because there's already pilots, or that might be because it's a pre-product business, but we've been able to talk to customers or we would be the customer or one of our portfolio companies would be the customer. And we have a unique insight that other people don't have, that it's a market that will be interesting, even when other people don't realize it will be.

1:10:37And when the company has product market fit in that market before other people realize it does. And if we do that right, and the company can make that go from unobvious to obvious, it'll be prepared to raise it series A. And it turns out that often revenue is the way it makes it obvious to people. And then when we're raising a series A, our goal is to figure out, can someone other than the CEO sell the product? And is the product adding value to people in a way that can be underwritten, but isn't like extremely obvious. People often talk about churn. Churn is like a great metric because based on future churn, you'll know how much revenue the business will do.

1:11:11You'll understand the lifetime value of the customer, understand the lifetime value of the customer will allow you to understand how much you can acquire a customer for, how much you can spend on account management, et cetera. But what churn also does is it's the leading indicator of, is this actually providing value? When you're doing a series A, you can start spending a lot more time on user metrics, and you can have some sort of predictive understanding of, is this product going to have pricing power over time? Because people are using it over and over again, and you start looking at the other underlying metrics, how many seats in the organization are actually using it on a daily basis, a weekly basis, and a monthly basis.

1:11:43So if we're doing a deal at 20, we are accepting that we are betting on the deal at a lower than expected Series A price because we are taking a bet with data that we don't yet have because all we're doing is buying the seed in the Series A at the same time. It is very rare we are willing to do that. And so it's very rare we are willing to do a deal that drifts from those low double digit valuations, unless there's some sort of compelling thing about the founder, some sort of compelling thing about the market that nobody else sees, or something that we know about the market that most other people don't know about the market.

1:12:15A lot of the advantage that we have is also we see relative markets. If we're doing a hybrid deal, hybrid capital investing to us is basically looking at a company that is credit worthy. They have a capability of borrowing money on a debt to EBITDA basis if they want to, or against some assets on their balance sheet if they want to, but they don't want to take straight debt, either because they don't want to stay to maturity, like a loan term, or because they're nervous about debt and they don't have leverage on their business, or because they don't want to incur full current pay on the investment.

1:12:46And so what we'll do is we'll take an investment that we think could withstand credit on its own, but come up with customized terms that we can get paid a lot for. For example, maybe the duration of the deal is a couple of years longer than what current non-sponsored back direct lending markets will bear. Maybe we'll allow them if we think the deal should be like 14 % current, we'll make it 5 % current, but like more than 9 % pick. We'll take that trade off. Sometimes what we'll do is we'll take our returns and we'll say we want a third of them to be current pay, a third of them to be contractual, and a third of them to be equity-oriented via warrants or participating for securities or something similar to that.

1:13:25One of the things that allows us to be so disciplined when we see a market like venture get overheated and have that hitting us in the face over and over again is when you see a market like hybrid is right now, which is just so mispriced, and you can earn a low to mid-20s IRR on these transactions, which is similar to that, what a growth equity investor would pitch, but you're taking credit risk that feels almost similar to that of a non-sponsored back direct lender. And so when you start to see the trade-offs of what bets am I taking in my venture business right now, and how good do I feel about those bets?

1:13:58How certain do I feel about those bets compared to the ones I'm taking in another part of the organization? And am I getting paid enough for it? It's just become screamingly obvious to not pick up the pencil if you shouldn't. And by the way, you can still scratch the, am I being busy itch because you're still deploying. If I put you in charge tomorrow of a large family office, multi-billion dollar family office, and your job was to allocate that capital to managers, you had to hire managers, you couldn't do direct deals, which would probably kill you. You'd probably spontaneously combust if I took that away from you.

1:14:33But just for the moment, what attributes would you care the most about when evaluating managers? So I would want to understand the quality of the returns. I think a lot of investors have made money for reasons they didn't expect to make money. And I value that a lot less than going into an investor asking to see their initial memo, which by the way, some of them don't have memos, and trying to understand what the initial thesis was. And the outcome doesn't need to be for the exact reason they thought it needed to be, but there should be some underlying thesis. and people often talk about repeatable methodology and they wanna see like a sourcing methodology.

1:15:10They wanna see like a strategic value-add methodology. What I'm really looking for is just clarity of thought of did you figure out the aha moment of what everybody was missing about this investment and did you call your shot? I'm looking for people who called a shot and I'm looking for some evidence that they did. The second thing that I'm looking for, and by the way, you asked the question, I'm answering of how I hire people because what am I doing when I hire an investment professional? I'm essentially hiring someone to co-manage an investment with me. The second thing is I'm looking for them to lean into the strengths that are sincere to them.

1:15:41Some people are really quantitative. Some people have a huge megaphone. And when they invest in a company can explain to everybody else why it's a good idea. Some people have amazing sourcing edge. I don't think there's a specific way to win. I think that the way to win is picking a way that's sincere to the person trying to win in that way. And when people try to be something that they're not, They try picking companies because other people think that the space is interesting. They try to be a great sorcerer, even though they're sort of an introvert or recluse. They try to be some totally extroverted person, try to suddenly become a quant.

1:16:13That's often where I see people trip up. And then I'm looking for sincerity. They believe themselves. I think there's a lot of people who are very promotional. And I'm looking for self-awareness. People who, they're doubting themselves more than anybody else's. Questioning themselves and they're changing their minds. flexibility of thought and people who really love investing because if you're doing investing because you want to get wealthy or you're doing investing because it's a way to be part of a community where you can become liked or feel needed or feel important or solving some other thing in your life, you invest for the wrong reasons.

1:16:49You either invest in too short of a time horizon, you invest in consensus bets, you want to invest in high signal areas. I'm looking for people who like really are obsessed with investing. And usually you can tell that when they have a hard time talking about anything else. The friends of mine who are like that I'm closest to that are great investors, we'll hang out and we'll spend like 10 to 15 minutes trying to like pretend like we're catching up on each other's lives. And we'll just go back to talking about investing. So true. You've met with so many LPs and you've raised money for at least three, even more different strategies, which are very different from each other.

1:17:23If you had to start a business that was in the business of being an LP, whether that's a fund of funds or some new model, how would you do that given everything that you've learned from being on the other side of the table? A partner you'd want to have yourself does what they say they're going to do. It's what you want out of your manager. It's only going to report. It's somebody who can explain the rationale. It's somebody who's quick to respond. And it's somebody when things go really well, they're willing to double down and take advantage of the opportunity. And when things don't go well, they're going to fight with you on it.

1:17:51And if things end up not the way that you want it to go, that doesn't mean that you're going to stick with them forever, no matter what. But there's some sort of predictable process. And I don't know that it's that more complicated. The things that we look for when we pick a perfect LP is we're looking for somebody who's reliable. We're looking for somebody who wants to invest with us across multiple vintages. We're looking for somebody who has co-invest capabilities, and they're set up to have co-invest capabilities. Everybody says they are, but not everybody's prepared when you bring them a deal.

1:18:18And we're looking for somebody who's going to do a lot of diligence. We want high conviction partners, and we get spooked when somebody is interested in investing in us after a couple of meetings. We want somebody who's going to be staffed with a team of people who used to do direct investments themselves. They want to go through the data room. They want to go through the data tape. They want to read our investment memos. They want to go through case studies, deals that went poorly, deals that went well. And then we want them to send us the investment memo back to us and tell us what they liked and didn't like.

1:18:45But what we're looking for is like a rational, reliable partner who's there for as long as we deserve them to be there and who's transparent with us about where their head's at. What company is most exciting to you where it is also unexciting as an investor? Company you love that you wouldn't want to invest in. As a consumer, I love companies that are willing to sell me a dollar for 90 cents. And so it's sort of funny, like go, go in flight was like a great example. I don't know if it's a good company because I've never studied it, but I always used to think I love companies where they're big businesses, even though their product sucks, because imagine the product ever became good one day.

1:19:20Yeah. Busted but booming is what we call these. Yeah. And on the flip side, how terrible would it be if the product was already perfect and nobody wanted it? And so as an investor, I'm a sucker for things where the product really sucks, but everybody seems to need it anyway. And like, as an investor, I'm not really that into things. where I'm like, what a charming product, but they're still not producing any cash flow. Do you have any investing views that you think would make the most other professional investors scratch their heads? I think when we see a problem with a deal, we are much more likely to weigh the problem of how much it matters as opposed to say this company doesn't work because there's a problem.

1:19:57And I think most investors are more willing to pay a lot of money for something with no problems than to pay the right amount of money for something with some problems. And the way this is expressed in credit is people are willing to accept almost no return for a credit that seemingly has no problems. And they're unwilling to deploy at all, even if they're paid a lot of money for something with a couple problems. The same is true in software where management might be an issue or TAM might be an issue or margins might be an issue. And people are looking for a problem. And they think of these companies as binary, as opposed to just weighing the issues as they see them.

1:20:32And I actually think they take a lot more risk by doing that because if you're paying up a lot for perfection, it is so much harder to be perfect than to pay the right amount for something that's imperfect and accept you might be wrong about something. I think a lot of people also are just driven by career risk. Very few investment firms are set up to benefit people for making the firm money as opposed to doing things that won't get them fired. The best way to not get fired is do consensus stuff because if you lose money, everybody else lost money too. I mean, I remember like the last time I did this podcast with you, everybody on your podcast was assessed with like uncorrelated risk, less correlated risk.

1:21:09And by the way, for our firm, for a long time, we were in like three or four deals and all of them seemed like they were completely uncorrelated. That was like what everyone loved about us. And like the only thing we could do to break the firm was like start doing things that were sort of correlated. And I remember thinking like in my head, I never like said it out loud to people was uncorrelated is great when everyone else sucks and you're doing well. And uncorrelated sucks so much when you're the only one doing badly and everybody else is doing fine. Yeah, wrong and alone is not the place to be.

1:21:33Wrong and alone is just brutal. So what's interesting is one of the reasons uncorrelated returns end up also being really high returns is because you're basically getting paid a ton of money to take the risk of being wrong and alone. Yeah. So yeah, so maybe like of all the things I think we're willing to do, we're willing to be wrong and alone in a way that almost nobody else is. When I did my episode with Michael Ovitz, we talked a little bit about you because he's been working with you and CoVenture in the last, I don't know, six months or a year. obviously you have matured a lot as a business.

1:22:04You're 10 times the size, like I mentioned at the start. But also I would just say like, when I talk to you now, it's much less like, how do I get a foothold and much more, how do I build a enduring institution? Tell me about working with someone like Michael, who I think has done this with a small handful of investment firms in the past. Many like Andreessen Horowitz are sort of household names now. What's that experience been like? What's it been like working with someone like him, which I think our listeners will love since we just had him on? So the most surprising thing about Michael is he's as good as you think he is.

1:22:35I've known a lot of people who are reasonably successful. I mean, Michael has done ridiculously well, but I feel like I know a number of people who are sort of winners in their own space and have books written about them and stuff. And I've gotten intros from those people. The response you get when Michael makes an introduction is just so different. And there's a lot of imposter syndrome. I know the types of people he's worked with before me, and I look up to them and I look up to the firms that they've built. And it creates like this feeling of like responsibility that when he makes an introduction, and he puts his name behind somebody like you got to show up to the meeting prepared, you got to show up to the meeting like with your A game on.

1:23:10But like, it's usually somebody that I would have taken me 10 years to meet if I ever met them at all. And if I met them, I probably would have gotten 15 to 20 minutes with them. And instead, I'm like meeting them in person. It's over a lunch. They're excited to meet because the last few people Michael introduced them to were incredible. And Michael, other than picking me, has had to be really careful picking people because the first or second time he messes up, people stop receiving that introduction the same way. The thing that is less written about, or people know less about him, he lifts your gaze a little bit.

1:23:43My idea of what good is, is different now because I work with Michael. And when Michael thinks about what good is, I mean, you know, he's worked with Mark Andreessen, he's worked with Josh Kushner, He's worked with a lot of these people that were like his definition of good is just different than the definition that we all have. And that's his normal. His normal is our great. And so he causes me to expect more from people. And he also, I mean, I remember there was like this situation where last quarter our firm wasn't moving quickly enough. And Michael moves quick. I mean, I've always thought I'm somebody who moves quickly.

1:24:11I'm proud of how quickly the firm has grown while also maintaining quality and everything else. But holy crap, his idea of quick is completely different. And so I had this conversation with our team. I said, look, it's a holiday week. I'm expecting you guys to work long hours, not because I want you to work long hours during a holiday week, but it's because we haven't achieved all the things that we needed to do last week. And today's Thanksgiving. I need everybody in the office. And he had this like really terrific reaction to me. He goes, you don't have to tell people to work hard. If you just demand quick deadlines, the work will come.

1:24:39And for the people that it doesn't come, like, you know what to do. And so it just created a level of velocity, a level of quality. And then I feel goofy saying this because he's probably going to hear it, but it's like a level of mythology in the organization. when Michael asks for something, we're thinking, holy crap, Michael Ovitz is asking us for this. Like we want to impress him. We know the other people he's worked with. We know the bar he holds. And it just like makes you sit a little straighter and walk a little faster and read your notes a couple more times before you send them over. And for example, when we're looking at deals and we're looking to co-invest with some of the firms that he's worked with, our diligence better rock because if it doesn't rock, you're going to disappoint the guy.

1:25:17And you feel this great level of responsibility that he's taking a bet on us. So working with him has been as good as I could have hoped. What is your personal motivation and how has it changed? I think there's very few jobs in the world where you can read the news and it matters for your job. And I think being a politician is one. And I, like most other people, don't want to be a politician. Unfortunately, that seems like a really crappy job. Investing, I mean, geez, it's like the world's best problem. It's the everything problems. Not only is it the best game of all time, but the difference between a game and investing is investing really matters for people's lives.

1:25:54If you make a good investment, good people get to reap the rewards of it. They stay employed, they get employed. If you make a good investment and you're able to raise money from institutions that you're proud to work with, you get to give those institutions more money back. If you make an investment in a platform, the platform becomes bigger and it offers something into the world. I mean, it sounds dumb because people who aren't in finance will probably think this is like the most narcissistic thing to say in the world. Investing feels important. It feels like it matters. And so you get to solve a intellectually challenging problem.

1:26:26But unlike a puzzle, it has real life implications. And the decisions you make end up having some scale to them. One of the reasons to get bigger is because it feels good to be bigger. And by the way, getting bigger matters for a whole bunch of different reasons. Ambitious people are better investors than non-ambitious people. One of the traits of ambitious people is they're competitive. Competitive people want to play in the big leagues. They don't want to play in the minor leagues. And the way to play in the big leagues is to invest more capital because you're competing with better talent and you want to prove you're the best at something.

1:26:58There's natural gamification things, being bigger ends up attracting better people. And by the way, if we try to build an organization, we promise people that we had no ambition, we wouldn't get ambitious people. and we probably would be worse at investing for it. So there's reasons related to that. But for me personally, like Bezos has said this in a bunch of interviews, it feels good to be needed. If I sold this cup to you and you bought the cup, you'd be happy because you had the cup and I'd be happy because I sold the cup and there'd be some manufacturer who made a cup for two minutes of their life and that would make that time valuable.

1:27:29If I'm teaching a class and I don't show up to the class, how awkward would that be? It's like a one to 50 relationship. 50 people would have wasted their time. They would have gone to class. They would have been confused. If you were given a lecture, I bet you'd feel like some value and importance of showing up and giving the lecture. And if you code an app, then how great is that thousands and thousands of people use this? It's one of the reasons that I feel like people in technology, when they're at their best, do feel like they're making the world a better place, even though that's become a term that's made fun of now, which is kind of sad, because they're able to do something that took some amount of their time and impacted many, many people and changed the way that they operate.

1:28:04And when you invest, you get to invest in a bunch of people doing that. If your goal is to solve like a really complicated problem that has real life impact and feel needed a lot and like be a competitor, it's the best job in the world. I mean, I can't believe anyone would want to do anything else. I don't know that there's a better place to close the conversation. It's so fascinating to me that it's been six years, but we talk a lot. So it doesn't feel like it's been that long. I just want to highlight like how perfect that closing answer is to those listening, most of whom or many of whom are either are or are aspiring to be investors as their profession.

1:28:40And if you don't feel a kindred spirit in that answer, maybe investing isn't right for you. It's kind of the most interesting problem in the world. So Ali, thanks so much for doing this again with me. Thanks, Patrick. Really, really appreciate it. If you enjoyed this episode, check out joincolossus.com. There you'll find every episode of this podcast complete with transcripts, show notes, and resources to keep learning. You can also sign up for our newsletter, Colossus Weekly, where we condense episodes to the big ideas, quotations, and more, as well as share the best content we find on the internet every week.

1:29:34Thank you.