Growing a business and making decisions that involve hundreds of millions of dollars is not something to be taken lightly. At Madison Energy Investments (‘MEI’), we are fortunate to be a leader in clean infrastructure – a sector that is ripe with opportunities for investment and growth. Reaching our full potential requires dozens of decisions about markets, trends, teams and technologies, every single day. It is an exciting time, but as the saying goes, with great power comes great responsibility. One of the greatest joys about working with the team at MEI is our culture of continuous learning. We are always exchanging podcasts, articles, books, and videos on an array of topics, be it the economy, investing, leadership and stories about founders and proven companies. One common thread throughout these materials is the importance of high-quality decision-making, and arguably one of the best subjects to study in this area is Charlie Munger.
If you’re not already familiar, Charlie Munger, together with his notorious partner Warren Buffett, has grown Berkshire Hathaway from a sleepy textile manufacturing company in the 1960’s to a multinational conglomerate worth over $700B as of this writing (Summer 2023). A successful investor of any kind requires decision-making and Munger and Buffet’s track record suggests they have made hundreds of smart decisions over the years.In studying Charlie through podcasts, articles and books like The Tao of Charlie Munger and Poor Charlie’s Almanack some common ideas and mental models emerged. some common ideas and mental models emerged. These can be seen below and hopefully easily referenced (or mimicked) through a mnemonic device.
Master the best of what other people have already figured out. This also happens to be the tagline of one of my favorite websites, Farnam Street. Munger is known for setting aside a significant time in his schedule to read and to think. He quips that many business leaders schedule themselves like dentists, leaving little time for learning and reflection. While he recognizes that he is in the upper quadrant of intelligence, he has the humility to know that he’s not smart enough to ‘dream it up by himself.’ In learning from others, you not only get the best of what they have figured out, but you can invert that and learn what not to do.
Invert, always invert. Put simply, good judgment is how to avoid bad judgment. How do businesses decline and die? Start with that failure and engineer its removal. In practice, this can be done through the stoic idea of premeditation malorum or what many organizations call a premortem. This is where the team looks at a project, investment or initiative and imagines it failed and discusses the reasons for failure. Our chairman at MEI often talks about ‘right to left thinking’. This can be done in two ways. For one, you can look at the unpleasant current state and look back to the previous state to gain a clearer understanding of mistakes to avoid. The other way to invert is to look at what an ideal future state looks like for your organization and work backwards to strategize about how to arrive at the ideal future state from your current state. Wisdom is prevention in Munger’s eyes, and he posits that it is far easier to avoid problems than to try to solve them.
Multi-disciplinary approach to thinking. The world is composed of many complex systems that are constantly interacting. Marc Andreesen refers to these as complex, adaptive systems, Bill Gurley would call it a multi-variable nonlinear system. Regardless of the business you are in, it’s possible to learn a good deal from other disciplines. The redundancy backup system model is an engineering concept that can be applied to having enough cash on hand or to ensuring multiple members of the team know how to complete a specific, high-value task. Compounding is a mathematical term that can be applied easily to investing or scaling a business and is probably the principal most associated with Munger. He’s quoted as saying “the first rule of compounding is to never interrupt it unnecessarily.” Another useful law outside of economics and investing he utilizes in decision-making is the breaking point from physics or what he refers to as the lollapalooza. He believes the way to win is by combining a few forces in your favor that together create an explosive tipping point. There are several takeaways from biology including the Darwinian synthesis model or unified theory on evolution. Clearly, businesses and industries must evolve like the species Darwin studied. And of course, numerous lessons from psychology serve any investor or decision-maker well including motivation, mental models, understanding cognitive biases and perhaps most notably, incentives.
Incentives rule the world. The following quote from Munger sums it up well: “Never, ever, think about something else when you should be thinking about the power of incentives.” His talk on the Psychology of Human Misjudgment can be watched on YouTube and is summarized well by Farnam Street here. In this well-known speech, he mentions the power of incentives multiple times. A notable example comes from FedEx, which experienced a significant increase in production from the night shift simply by paying their employees by the shift as opposed to by the hour. At MEI, we try to take this into account with our employees and their compensation and benefits, as well as our customers who know that we only make money when our projects are producing energy.
Circle of competence. "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." Another way Munger discusses their circle of competence as investors is thinking about opportunities in three baskets – in, out, and too tough. If they don’t have an edge or what he deems to be a ‘special insight’, then they pass. He often quotes Confucius saying “real knowledge is knowing the extent of your ignorance.” At MEI, our version of this is asking ourselves, how are we adding value? If the answer isn’t obvious, then we move on. Our team’s time is too valuable to operate outside our circle of competence and the same can be said for all organizations.
Finally, one of the final tidbits from Charlie Munger we find helpful when looking at investments is “a great business at a fair price is superior to a fair business at a great price.” In fact, some of Charlie’s biggest regrets are what he refers to as ‘mistakes of omission’ where they weren’t willing to pay up for a business at a fair price. "The most extreme mistakes in Berkshire's history have been mistakes of omission. We saw it, but we didn't act on it. They are huge mistakes, and we lost billions and we keep doing it." He continues discussing See’s Candies, “after nearly making a terrible mistake not buying See's Candies, we made similar mistakes many times. These opportunity costs don't show up on financial statements, but they've cost us many billions. Since mistakes of omission aren't visible, most people don't pay attention to them." While most people don’t pay attention to them, Charlie takes pride in the fact that at Berkshire Hathaway they ‘rub their noses’ in their mistakes of omission.We think about this often, whether it’s buying a solar or battery storage project or investing in a management team or new technology. And we certainly have plenty of mistakes of omission where we wish we could rewind the clock and pursue the opportunity differently. Nevertheless, we will continue to do our best to mimic Charlie Munger and hope that you found this material as useful as we did.
- Richard E. Walsh