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Saturday, May 17th, 2014

The Network Effect

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The network effect is defined as an entity getting more valuable the more people who use it. This can equate to a “winner-takes-all” position for businesses and a “moat”, as Warren Buffett and Charlie Munger like to say, to defend your castle (business).

Let’s look at a few examples of The Network Effect:

Amazon

A key to Amazon’s success is that it:

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Saturday, April 5th, 2014

A Rule of Human Systems: Leadership Will Always “Pass the Baton”

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Charlie Munger frequently emphasizes that anyone in a position of dominance will inevitably “pass the baton” of leadership.

Below are some examples Charlie has mentioned in talks:

Transcript from the 2003 Wesco Annual Meeting, May 7, 2003 *

“The loss of dominance rate is 100%. Every great civilization that was dominant eventually passed the baton. Similarly, the greatest companies of yore are not the great companies of hence. I like looking back and seeing who would have predicted what happened to [formerly great companies like] Kodak, Sears and General Motors.”

Transcript from Wesco Annual Meeting, May 6, 2009*

“Where is Egypt or Athens or London? It is nature of things that we do baton passing. It is state of nature that baton gets passed, to someone who tries harder and cares more.”

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Sunday, March 30th, 2014

The Law of Scale (the benefits are “Ungodly Important”)

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In his epic commencement speech to the USC law school grads in 1994, Charlie Munger mentions “scale” 24 times.

The advantages of scale are “ungodly important”, he points out.

Benefits of Scale = Lower Costs, Higher Prices & Bets on New Markets

Benefits of scale include  reducing costs, raising prices and testing new markets.

In a beer business, for example, Anheuser-Busch operates at such a higher volume than Anchor Steam beer (based in San Francisco), that

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Sunday, March 23rd, 2014

The Law of Large Numbers (Another Mental Model)

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The law of large numbers indicates that the higher the number of times something is performed, the more likely it will receive something close to the average of the results.

For example, if you rolled a six-sided die, the average results you can expect is the average of the 6 outcomes is a 3.5 ( (1 + 2 + 3 + 4 + 5 + 6)/6. The law of large numbers indicates that your average roll will get closer and closer to 3.5 the more you roll the dice!

That’s why when you’re winning at a casino (or anywhere else where “the house” takes its cut), you should quit early — otherwise, the law of large numbers will eventually kick in: the more bets you make the closer you will get to netting a loss (since a casino is designed to have a greater than 50/50 edge over you).

But don’t fall victim

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Sunday, March 9th, 2014

The Mental Model of Incentives

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Charlie Munger wrote in Poor Charlie’s Almanack:

“Perhaps the most important rule in management is to get the incentives right.” (see 30+ Charlie Munger Quotes).

Charlie argues that people respond most strongly to what they view as their incentive or disincentive.

In business, there is almost always someone else involved in whatever you are trying to do. Munger recommends that you always reflect on:

“What is someone getting out of this.”

Charlie gives a few business examples of incentive bias (source: Poor Charlie’s Almanack).

FedEx

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Sunday, February 23rd, 2014

The Mental Model of Confirmation Bias (aka Goal Seeking or My Side Bias )

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Confirmation Bias is the tendency of people to favor information that confirms their own beliefs, goals or desired outcomes (and ignore what doesn’t fit).

A definition of confirmation bias from the book Consumer Behavior:

“The tendency of consumers to interpret ambigious evidence as consistent with their current beliefs.”

A  business example of confirmation bias is the hugely popular personality-type quizzes (e.g. which ‘Beatle member are you?’ or ‘What type of Ice Cream are you?’). When people take those quizzes they are typically reaffirming the opinion they already have in their mind (“I’m Mick Jagger of course”).

A trick of those quizzes is that most of the successful ones return you results that are positive (you’re unlikely to find one that asks ‘Which mass murderer are you?).

Why do people do this? According to PsyBlog:

“In an uncertain world, people love to be right because it helps us make sense of things. Indeed some psychologists think it’s akin to a basic drive.”

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Wednesday, February 19th, 2014

Wow, an inspiring company and excellent communication (2 min. read)

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If you want to be inspired by a business, please take 2 minutes to read the “2 big announcements” on 37Signals.com.

Some things that impress me about this business:

  • They have been in biz for 15 years
  • They started as a web design firm and evolved into software (basecamp)
  • They created and open-sourced Ruby on Rails and wrote some books (cool!)
  • They are at 43 people (pretty small team compared to the Dropbox, Facebook, Twitters of the world, but still one with massive respect and footprint!)
  • Last week, 6,622 co.s signed up for new Basecamp accounts and over 15M users have accounts
  • They sat down and talked about their vision for the next TWENTY years. how’s that for forward-thinking?
  • They decided to go all-in on Basecamp and are renaming the company Basecamp and probably spinning off their other products (ballsy)

Flexible, long-term thinkers who are able to focus.

Inspiring!

Thanks, team Basecamp!

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Sunday, January 19th, 2014

The Mental Model of Cumulative Advantage (“The Matthew Effect”)

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The Principle of Cumulative Advantage, as noted on Thwink.org, states that:

“…once a social agent gains a small advantage over other agents, that advantage will compound over time into an increasingly larger advantage.”

Cumulative Advantage is sometimes known as The Matthew Effect or Accumulated Advantage or “the rich get richer, the poor get poorer”.

A common example of Cumulative Advantage is that a prize will almost always be awarded to the most senior researcher involved in a project, even if all the work was done by a graduate student. The senior researched has accumulated that advantage.

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