Intro

Patrick: [00:01:24] Longtime listeners who have heard me joke before that this podcast should really be called This is Who you're up Against. I've been waiting for the right episode to deploy the joke as a title and this week we have it. The joke is meant to convey how incredibly impressive these people are, who we get to hear from every week. My guest this week is Josh Wolfe, a founding and managing partner at Lux Capital in New York City. Lux is a venture capital firm, but a highly unique one. They spend more time in the hard sciences and interesting nooks and crannies of the market than a typical VC firm. Some of investing is zero-sum. My outperformance is someone else's underperformance. Sometimes though investing is positive-sum. The combination of capital, ideas, people, drive, and raw energy leads to amazing new things. I think the best investing and the best investors of the future will be more collaborative than competitive. After finishing with Josh, I couldn't stop thinking, "God, do I want to be involved in whatever he's doing, if only just to learn?" This conversation made me rethink my joke. Now I won't think of it as a zero-sum joke, but instead as a reminder. This is the person who is out there. You better find your niche and still be the absolute best you can within that niche. Please enjoy this amazing conversation, Josh and I covered just about everything.

An Overview of Lux Capital

Patrick: [00:02:36] So Josh, we were talking before we hit record about the many things that Lux Capital does, and that'll be a great place to start just to give people a frame of reference for the sorts of investments that you've made over the years. And then we'll go very deep into a number of disparate topics that I know we're both very interested in.

Josh: [00:02:50] The firm is pretty rangy. We're $1.5B. And most recent fund was $400 million. We got a $300 million co-invest fund. And we do everything from super early seed stage things where you've got an entrepreneur in a garage, although often they're in our office, to a large division of a corporation that we're going to spin out and recapitalize. And generally, it's along three areas. So we considered energy materials is one bucket. And then healthcare is another bucket, which is everything from healthcare IT, which is generally low barriers and capital efficient. And I tend not to love that stuff as much. And then I really love the things where it's like really hard and typically really expensive. So robotic surgery and med devices and biotech. And then the final third is core technology, which is more defined by what we don't do. So very little, if anything, in internet, social media, mobile ad tech, video games, things that generally every other VC is doing. And really it's for two reasons, one that's intellectually honest and germane to us and one about the field.

So if you're an amazing internet entrepreneur, you should be going to Sequoia or Excel or Benchmark, and we've always wanted to avoid the adverse selection. But if you're intellectually honest about the space, the great virtue that everybody talks about is it's really cheap and capital-efficient to start these businesses, which is true. But the corresponding vices that you get 5,000 global competitors to companies like Groupon. And so as an investor, then you either spray and pray, which is buy really cheap lottery tickets and hope for a high magnitude payoff that are improbable. Or, and you've seen some very famous venture franchises do this, they migrate into something that we call wait and pay where you're basically waiting until a winner emerges, you have a higher probability of being correct, but obviously the higher the price you pay, the lower your expected return.

So I like to find things where there's really high scientific and technical complexity. So people don't understand something yet. And we pride ourselves like we're contrarian. We like to think differently, but the truth is we want people to agree with us just later. So really high scientific and technical complexity. Intellectual property that imposes a negative right on use, it says you can't do what these guys do legally because of composition of matter or some and field of views. And then behaviourally which I know you follow a lot, this tryptic of scarcity. So scarcity of attention, the media is not hyped up on it yet. People don't know about it. Scarcity of people, the number of entrepreneurs that can actually run a business are few and far between. And the scarcity of capital because of investors aren't chasing something then necessarily evaluations will be low. And if we're right then returns should be high.

And then on top of that, we do feast driven stuff, which is my favorite. Read voraciously, try to understand what the consensus is, find a variant perception, something that people aren't thinking about. And generally, for the wrong reason, we've got some cool examples of that. And then other partners here, I love doing people-driven stuff. So find an amazing entrepreneur or set of them and back her or him, time and time again. And you build a portfolio of people. And then the final are special situations, which is, can you invest in a late-stage business, but at an early stage price? And what causes that a capital market dislocation, a corporate divestiture spinoff, but generally somebody else took time and money risk and didn't get paid for it. And then technology risk has gone or science risk or market risk has gone. And we get to come in at a very early stage price and you can get that same 10x in a five-year profile, but later stage business.

Patrick: [00:05:42] It's a lot going on there. And it would help to go back to the earliest days of Lux and hear a bit about the formation or formative elements of the investment philosophy. It actually sounds very much like a lot of value type investor mindset stuff applied to private early-stage businesses, but not necessarily private equity businesses. So it's really unique. So it'd be fascinating to hear what the kernel was that led to that early investment philosophy?

Josh: [00:06:06] When we got started, we went out to raise friends and family money. I always joke that we had a lot of friends and we had a lot of family, but none of them had any money. I grew up in Coney Island, Brooklyn mom was a school teacher. My co-founder Peter Hébert grew up in Stanford, Connecticut, and we met, I was investment banking at SALI. He was at Lehman Brothers in Equity Research. And we had this idea at a time when everybody was chasing dotcoms and optical networking, that we were going to focus on the hard sciences. So it started with this definitional focus on an area that we thought was totally neglected. And even at the derivation, the etymology of Lux, Latin for light, was looking where other people weren't looking. And so we said, let's go after the chemistry, physics material, science departments.

And then we met a guy, Bill Conway. Who's one of the founders of Carlyle, which literally changed the trajectory of our life. And Bill put us in business and asked us probably the two most important questions that anybody had. Number one, why should you exist? Why does the world need an incremental venture fund? There's a thousand out there. And number two, if your hypothesis is right, that these are the next waves, what is going to stop Kleiner and Sequoia and Benchmark and Excel from blowing you out of the water and turning their turrets on you. And they agree with you. And so we spent the first few years building this platform where we developed a bunch of subdivisions underneath the management company, where we had a media business with Forbes. We had some public policy efforts. We created a research business called Lux Research. All of these things were intended in the early days, so that if you were an entrepreneur, every venture guy says the same two BS things, we're value add investors, and we've got proprietary deal flow. And we wanted actually something that was real value because people didn't know who Lux was. They didn't know who Josh and Peter were. And so we had to have something that was like structural and real and tangible. And so now with these different entities, if you were an entrepreneur, we could get you tens of millions of dollars of non-dilutive government money or foundation money. We can get you partnerships with Intel and Kodak and HP and Saudi Aramco that were the clients of our research business. And we can get you visibility in the media with full disclosure because as Conway admonish to us early on 10 years to build the rep 10 seconds to lose it. So just anytime you ever write about it, anybody just full disclosure, and that became this platform. And then from there, we raised subsequently larger funds and had better deal flow and better reputation. And I always say, I call this randomness and optionality ex post facto. You can explain everything as like this perfect linear chain of events, but a priori, if you're intellectually honest, you have no idea. So you meet everybody and you talk to everybody and you learn as much as you can. And then one piece falls into the other and you look back, you're like, Oh, okay. Yeah, it all makes sense.

Patrick: [00:08:17] That seems like a really interesting idea to pick apart a bit. So randomness and optionality, I'm a huge subscriber to those ideas, but I'd love to hear your formation of it and why that's important to you?

Josh: [00:08:26] It was more of an observation that so many things in my life happened, and I'm not a religious person at all, but I would look at these things and say people, how did that happen? And then post-facto, you can trace these things curious, like how did I meet that person? Okay, well, I was at this cocktail party and I met this person whose brother-in-law knew this woman. And then this woman was like, "oh, you should talk to him." It's just when you trace that it's so non-linear and random. We were talking before about ants, foraging in a forest and there's complete uncertainty and they're moving all. But then something happens in that process where they're able to very efficiently find food sources. And so after the fact you can figure out how it all worked, but a priori you have no idea.

Patrick: [00:09:04] How do you cultivate those two things? Once you've recognized this randomness and optionality as a driver of a lot of what happens, do you try to push harder on those things and set yourself up for more randomness and more optionality?

Josh: [00:09:15] I do. And I think it's very personality-driven thing. So there are people that are partners at the firm who are much more linear thinkers, and they have a very specific goal. They say, okay, I have point B to get to. I'm at point A what's the shortest path to that. And I'm more meet everybody. Talk to everybody, go to random lunches, go to parties. I have information anxiety. I skip a page in the newspaper. I'm like, Oh I got to go back because maybe there's a tidbit there. That's going to change my life. And just so it's probably not the healthiest thing because I'm insatiably curious and I want to meet everybody. And I want to know a little bit about everything, but it's a humbling thing because you just never know. I'm highly confident that you just never know where the next thing is going to come from. We even have an investment philosophy that again, in hindsight, I've called this now 100-0-100, and it's this mix of ambition and arrogance and intellectual humility.

So, the arrogant part is the 100. I am a 100% certain that Lux will be investing in the most cutting edge, crazy things that you can imagine in the next two years. The 0 part is the intellectual humility. I have no idea what those things will be. None. The next 100 is the ambition and the confidence, which is, I know with near 100% certainty where we will find those things. And it's at the edge of our already cutting edge companies. And so as long as I stay curious and paranoid and ambitious, and we listen in the boardrooms about the hard problems that these companies might be solving, that's where the next thing comes from. But it's all random until after the fact.

Recent Areas of Focus

Patrick: [00:10:40] Curious you think about your time because I have the same problem of insatiable curiosity seems like a good thing. I think it is a good thing on balance, but it's definitely a bit of a double-edged sword in that there's this flavor of the month type mentality. Sometimes it can be hard to really be consistent and execute the 1% inspiration, 99% perspiration. That's always in my head. I'm curious how you manage that balance and that idea. And just generally than how you manage your attention.

Josh: [00:11:05] Everybody always says, focus, focus, focus, and I've structured the firm and my position in my role in a way where I don't have to focus. I get to talk to everybody and do everything. And now I have to focus when I'm on a certain company board or I'm pursuing an investment. And there are times, and there are punctuated periods where I become psychotically obsessed with a particular area. And I go really deep. And I know that I become obsessed with it because my wife or my partners are generally like, shut up already about that thing. And so I know like, it's the only thing I'm talking about. I can give you some examples of that, but the time allocation is the one thing. We don't worry about capital allocation because you know that you can always make more money. You can always reverse a mistake. You can be creative about that.

Time, zero-sum like just always running out. And so you only know in hindsight, if you wasted the time or not. So for example, we allocate a portfolio, but sometimes we do these NewCo's. And so that means literally one of the partners makes an explicit decision. They're going to take a significant amount of their personal time and found a new company. And where are you going to license the intellectual property? We're going to find the entrepreneur. We're going to hunt down the thesis. We're going to construct the narrative. We're going to recruit the first 20 people and the board and come up with a syndicate. That's an enormous amount of time. And we know a prior, it might be wasted time, but we also have this colloquialism and it's a cliche, but that passion is the best predictor of success. And if somebody is psychotically passionate about something, then they've got the fuel and the energy to go do that. And so that would be a good allocation of time.

Patrick: [00:12:28] What was the last passion?

Josh: [00:12:29] So the last one and that we realized was a contrarian idea when everybody was chasing clean tech and green tech. If you remember in the venture world, this was like the bubble extraordinaire, was like religious thinking, which to me, generally, I started looking at and saying, okay, what's the antithetical view to this. And everybody was talking, I mean, famous people, John Dewar, Vinod Khosla, the best VC's in the world, about solar and wind and biofuels and ethanol. I wrote the scathing piece in Forbes at some point, calling them bio fools sort of crapping on the biofuel movement. And then talking about solar and saying, this was going to be the flight of Icarus. And that if history didn't repeat it rhymed, the closest analogy to solar was going to be global crossing, which if you remember, in the late ‘90s, the hype got high cost of capital, got low. Hundreds of companies got funded. Thousands of miles of dark fiber optic cable got laid and lit. And the winner from all of that, largesse, was the third world who ends up getting connected to the internet for free. And the losers are the first world investors left holding the bag. So we look at all this and we're like, no to solar, no to biofuels. And what's an area that nobody's looking at and I become obsessed with nuclear, and I knew nothing about nuclear. But I spend the next year looking at every part of the fuel cycle.

We looked at uranium miners, mostly hucksters and fraudsters in New Mexico and Nevada, by the way. We looked in modular reactors, great for society, but too expensive tobacco. We looked at the service businesses and then we always point our turret and say, it's very sophisticated two-word question to figure out where our next thing is, what sucks? And the thing about nuclear, that's sucked. What do you do with the waste? Because there were political issues and there were economic issues, but the waste thing was a real technological problem. And it turns out that there are 104 domestic reactors. There are 440 global reactors. There's a big market in commercial waste, but then there's this huge market that nobody knew about, which was in defense cleanup. Cleaning up nuclear bomb, making materials from places like Hanford and Savannah River and Idaho National Labs that nobody ever knew about. And every year $6 billion, which was a quarter of the department of energy budget was going towards people like Bechtel and Flo, these giant engineering companies. So we said, there's got to be a better technological way to do this. And if you remember these things that I look for, really high scientific and technical complexity, and IP, and labor scarcity, we end up starting a company. We named it after Madam Curie who discovered and would die from radiation, call it Kurion, locked up all the best technology, and set our turret on the idea of cleaning up nuclear waste. And that was in 2010, a year later, 2011, earthquake Tsunami, Fukushima disaster. And we became the company picked for the cleanup and we went from a million in revenue. And by the way, this thing was capitalized with less than $3 million. And that's the only money that this thing would ever raise total negative black Swan in Japan, total positive black Swan for this little company. And we went from $1 million to $40, $80, $120, $160 million of revenue, $40 million of EBITDA sold it for 10x to Veolia. And it all started as just this crazy idea in a conference room. And I became obsessed with nuclear.

A few years ago, I became obsessed with this crazy area of physics called metamaterials. Metamaterials are materials that were synthetically invented that having a negative index of refraction. There's a glass of water in front of us. If I put a pen in there and you look at it, it looks like it breaks in the water. That's a positive index of refraction. Negative index of refraction, wavelengths bend around objects. So the media goes crazy about this, BBC especially. Harry Potter, cloaks are here, invisibility is real. It's not, but I go and start talking to all the scientists that are developing this thinking, okay, you can beam steer things like satellite antennas without moving parts. And you could see a world where you're going to have broad internet everywhere beamed down by satellite, but you need antennas that don't have moving parts. So I go to the scientists and they say, good news and bad news. Good news is it's real and this stuff is working. The bad news is Nathan Myhrvold, who used to be the CTO at Microsoft starts this firm called Intellectual Ventures has locked up all of our patents. And I say, oh no. So I go to see Nathan and I say, hey, I want to start a company in this space. And I've got a CEO lined up, but I've got customers lined up and we've got money lined up. And he says, "good news and bad news. The good news is your financing and risk is really low. The bad news is Bill Gates wants to fund the entire thing himself." I throw a tantrum kick and scream, worked my way into the deal. And in a surreal stroke, the board becomes me, Bill Gates, Nathan Myhrvold, and the founding CEO. And it was the only other board that Bill was on besides Berkshire and Microsoft. And that was five, six years ago. We've since been in three or four other companies with Bill. And what's amazing going back to that 100-0-100 phenomenon. I'm in a boardroom in Bill's office and we're making these antennas for satellites. And then I hear about these young guys in San Francisco who want to take these satellite antennas and put them on these tiny satellites. I knew nothing about these guys. We run and go see them, we end up investing. It's a company called...

Patrick: [00:16:56] I know where this is going. Orbital Insight.

Josh: [00:16:57] That would be the tertiary one, but the secondary one was this company at the time called Cosmogia. Then Planet Labs now Planet. Planet is making satellites that look like loafs of bread. And you launch them up into space. We invest right before they did their first launch. And then they did 31 satellites, I think in their first launch. Now we've got about 200 plus that are circulating the Earth. It's the largest constellation of Earth-imaging satellites in history. And it's amazing. So from this crazy idea in metamaterials, it leads to this company with Bill Gates, which leads to an Insight and a boardroom that sends us on a hunt to San Francisco. We fund these satellite guys, and then we get the insight, which is exactly what you just said, Orbital Insight, which was an entrepreneur who said over time, some of these images might become a commodity. And the real value is going to be doing the temporal analytical analysis that you can say, okay, here's parking lots. Or here's the shadows cast on oil tankers as a proxy for their carrying capacity. Or here's a caravan of trucks in China, are they going to a ghost town residential facility, or are they going to a productive chemical facility? And that information was legal espionage that was valuable to corporations, to governments. And so we fund this guy, Jimmy Crawford, Jimmy is amazing. Build the AI for the Mars Rover, ran Google Books, went to Climate Corporation which sold to Monsanto for $1 billion. So us and Sequoia fund him, Bloomberg and Google come in. And none of that, a priori was knowable. Something that started literally reading scientific publication in Proceedings of the National Academy of Science or Nature that leads to the Bill Gates that leads to Planet Labs, that leads to Orbital. Another example like that. My partner Shahin, who is psychotically obsessed with cars, I hate driving. My wife we have a car, she loves driving. For me, it's an anchor. It's just the time. Right? We talk about the allocation of time and cash to spend attention on a road. I cannot wait for-

Patrick: [00:18:41] Pure self-driving.

Josh: [00:18:42] I mean, just the faster that it comes, the more time I have to read and talk. So Shahin is obsessed with cars and we're following all the stuff that's going on early in autonomous vehicles from Google and Uber and Tesla. And he finds these two guys and these two guys claim that they're going to take on this market. And we think that they're crazy. There's no way. And you meet them. And it's like Steve Jobs and Wozniak. You've got one, who's this amazing orator, narrative storyteller in the vision. And one, who's a technical genius. And this is Tim and Jessie, were the founders of a company called Zoox. Secretive facility up on SLAC, Stanford Linear Accelerator Corp, us and another venture firm fund them very early on. And we, at this point, I think had $25 million in the company. Fast forward a little bit, and I'm in a room that's the size of an average conference room. And there's 20 people in there that look like they're playing video games. And I'm like, what the hell are these guys doing? And these guys, guys turned to me and said, you don't understand outside the vehicles, which don't even look like cars. They are ingesting from optics and LIDAR and radar and vibrational sensors and thermal sensors, all this data and information, and they are processing it at the rate of one second per second, what we call reality.

And they are doing thousands of simulations a second, and they're doing it on these crazy new GPU's. And so I said, well, what do you mean? And they said, well, those two guys are from Nvidia in the corner and we've got chips that aren't even on the market yet. So I tell all my LPs and our hedge fund friends like Nvidia. This is like three, four years ago. And Nvidia takes off because the narrative changed from this being a gaming chip company, to being the soul of the new machine for AI and machine learning. Then we go and say, okay, what's the next in video? Who's the next group of people that are developing GPU's. And we go and find these guys run by Naveen Rao at a company called Nervana. And we fund them now, not even a dollar in revenue and barely a product on the market. And I'm out there publicly talking smack about Intel and how they're a company in secular decline. And Intel buys them for $400 million. None of that was knowable beforehand. And so it's being paranoid and curious and ambitious when you're in a company that is at the cutting edge, that leads you to the next. So that's where I get the confidence that I know we'll be investing in crazy things for years to come. And I can't tell you possibly where they are today.

Patrick: [00:20:47] It all sounds like your answer, which is better than most to what is your edge, right? And you build up this, this internal network effect, the relationships and the momentum that you seem to have just as a person, but also probably as a firm, just worming your way through deals. From the LPs perspective, I'm very curious how this works because you do so many different things, underwritten probably very different ways in underwriting, a person in a founding team versus a later stage technology versus a hard science thing versus originating a company. I mean, this is a really interesting mix. How does that work with your LPs? Are they just betting on Lux in general or are they differentially betting on and themselves underwriting like different expected risk-return profiles of these different buckets? I'm fascinated by how this might work.

Josh: [00:21:31] Well, I think that they're betting on a philosophy that is manifested in a different set of personalities within the firm. But at root, it is people that are thinking a little bit differently. In fact, when all the people that invested with us over the years and all the people who've rejected us over the years, did it for the exact same reason. They're like, you guys are different. They couldn't bucket us as IT investors. They couldn't bucket us as biotech investors. We weren't seed-stage people. We weren't growth equity guys. And they just said, you guys are just sort of different. And so it's interesting because we are always on this treadmill, it's like the Red Queen Theory that you have to run twice as fast just to stay in place. And things that we were investing in a few years ago are very hot today. And this is if we're successful, exactly what should be happening. It's the four or five-year psychological bias that everybody wants to be invested today, where they should have been four or five years ago. So four or five years ago, we were in AI and machine learning and robotics and satellites and autonomous vehicles. And today we have to be careful because I always say funnel wide and filter high. We don't want to be the firm in '98 or '99 that is like, jeez, who needs another search engine to miss Google? But at the same time incremental bar to make an incremental investment in those spaces is very high. And now the kinds of stuff that we're looking at are things that, for the most part, nobody's talking about.

One that we just recently did in, maybe there's one or two investments that people made in the venture world in this space, but tattoo technology, we looked around and said, what sucks? 40 million Americans have tattoos. I joke that generally when you get a tattoo, you are long regret. At some point, you'll want to reverse that trade. The asymmetry to get a tattoo $60 for a small Celtic tattoo, $6,000 with 10 $600 laser treatments to get it. So you look at that, you say, there's this really interesting market. And by the way, just memetic cultural copying, huge prevalence, particularly where I grew up in Coney Island, Brooklyn of African-American Latinos that have mirrored basketball players, rappers, full-body, arm length tattoos. You can't get laser treatment because if you do, you're bleaching your skin white. So we've been looking for three years to find, and we found a ton of technologies, but the missing piece was finding the entrepreneur that could take paternity or maternity and run with it. We finally find this guy, Errol Damelin successful, UK entrepreneur. Us and another firm fund him. He found the same Princeton professor that we did at the same time that's doing femtosecond lasers to remove every wavelength, totally painlessly. And I'm convinced that if you can get the removal part, then you can come up with new technologies for application because it is a timeless form of human expression. And you'd be amazed. How many of our conservative LPs say, if I could have something longer than temporary, but shorter than permanent, I would get one. And so that's a funky area that people are not like tattoo technology.

Patrick: [00:24:11] Have you met the guys from Coventure, Ali Hamed?

Josh: [00:24:12] Yeah, I love Ali. I had been a fan since right before he started that firm.

How Josh Invests

Patrick: [00:24:17] I was just talking to him recently about rolling up tattoo parlors and basically parlaying some tattoo artists brand into a national chain, which doesn't exist. This could be the extension. I love it. So we're going to spend more time on thesis-driven because I know that's the area that you're especially passionate about, but I would love to spend a minute or two on the earlier stage business where it's really more about betting on people. Specifically, I love this idea of "what sucks?" A guy here in New York City, Alex Moazed, who is also on the podcast who wrote a book about platform business models. The litmus test he had was like, what's X no longer a pain in the ass. Was his way of formulating. So I would love to hear about how you evaluate people and their ideas when it's very early seed stage PowerPoint level?

Josh: [00:25:00] So I would say we get this roughly right. And we are always fine-tuning. And it's actually led to a change in our investment process because of sometimes I was getting it very wrong. It being our evaluation of people. There are amazing credible people, and there are amazing salesman. And sometimes those two people are one. And when they are, you have an amazing entrepreneur, but oftentimes they're not. And we've had incredible executer operators, people that get stuff done. They come up with a plan, they're executing it, but they cannot go out and raise money. They can't recruit, they can't sell a story. They can't talk to the media. And that is a major deficit. On the other end, you have people who are amazing at telling stories and they can lower the cost of capital because they can raise expectations. But they can't execute. And so you need a marriage of both. You need the storyteller and you need the executer and the operator when we're assessing somebody. It's interesting because we really try to consider ourselves as contrarian. So we're trying to think, what does everybody else in the venture world thinking about and what can we think about in a slightly different way? Yet, e've realized that a meta-level how hypocritical we are when we have a complete consensus internally around something. And almost all of our mistakes are when an entrepreneur comes in and we are so impressed with she or he. Everybody is looking around the table. We're trying not to let the people know. In fact, one of my partners used to call this the Pampers effect because you're so excited. You're just trying to keep it cool and not convey how badly you want to fund them so you have some negotiating leverage. But we're sitting around the table. We're looking at this person, we're looking at each other. We know we want to fund them, but what are we reacting to? We're reacting to their persuasive ability to tell a story. We haven't observed their ability to operate. We haven't observed their ability to recruit.

We're convinced that they can get us to part with our money. They probably can get other investors to part with there money. So financing risk is low, but all the other risks are huge, technical risk, market risk, product risk. In fact, it's interesting because there's a dichotomy in our partnership in optimism and pessimism. My partner, Peter is the perennial optimist. He will look at a company and say how can this be a billion-dollar business? And what are the assets and the tools and the resources that Lux can bear to make it so. Who can we populate the syndicate in the board and who can we get the media to cover all the positive things? And I've got a quote that says, "Failure comes from a failure to imagine failure." So if you can imagine all the things that can go wrong, then you can flick them off the table. Because I think of it almost like the first law of thermodynamics, like energy is not created or destroyed. Risk and value just change form. Technology risk, product risk, market risk, financial, all those things are risks. I kill one of those risks with time or talent put into it.

If you're a subsequent investor, you should be paying a higher price and demanding a lower quantum of return because you're taking a lower quantum of risk. So when this entrepreneur comes in and is pitching us, maybe they've eliminated the financing risk, but all those other things exist. And so the biggest mistakes we've made have been when an entrepreneur comes in, we won't let them leave. We want to give them terms almost on the spot. The best-performing companies we've had, conversely are when everybody in the firm disagrees except for one person. So one person is the passionate table pounder, and they're like, I'm telling you, she's got it. Or he's got it. We got to do this. And everybody else is like, I just don't see it. And that is usually the best performing company when we do that.

Patrick: [00:28:07] Why do you think that is? I've heard this a number of times from firms of all types, public market, private market, et cetera. That high levels of disagreement, which makes sense from a value investors mindset you need a consensus to be very wrong, to get mispricing typically, and certainly in public markets, but probably in private markets too. So maybe say a little bit more about why you think that is the case, that it's the minority opinion that tends to lead to the best outcomes?

Josh: [00:28:31] Well, I think it is on the one hand, somebody is seeing something that everybody else isn't. And even though, again, within the firm against the rest of the world, we consider ourselves different thinkers. But then when you see consensus here, you got to say, something's wrong. So some firms actually implement like a devil's advocate or a red corner person to actively do that. It's much better when it comes naturally and have certain people have that disposition where they're naturally argumentative or debative. But I just think it's somebody seeing something and feeling so passionate about it. That in a sense, we have confidence that they are going to be obsessed in making this a success. They're putting their brand on the line. They're putting their reputation on the line. And by the way, we allow people to get one of those in a fund. And the reason is, it's almost like a Josh role because I can be pretty persuasive and a strong table pounder. And if I do that all the time, I would abuse the process. So I really have to think about what's the silver bullet that I'm going to really pound my table. I basically get one of those in a fund as does everybody else. So I just think it's that phenomenon that you're looking for, that contrary view, seeing something that somebody else doesn't and then doubling down with your personal passion to make it so.

Patrick: [00:29:32] If they're the best outcomes, why do you only get one in the fund?

Josh: [00:29:34] Well, again, it's to avoid the abuse of the process. Because if you have a partnership, we don't really rule by democracy at the end. Peter and I make the final decision. But I would be table-pounding every time for every deal I wanted to do. And this way I have to treat it as a scarce and really valuable thing.

Patrick: [00:29:48] What's a particularly memorable, maybe recent experience with a founder that really stood out that fits this mold that you're talking about.

Josh: [00:29:55] I don't want to name names, but there was one where they came in. We literally wouldn't let them leave. We offered them terms on the spot. It was a particular product that all of us wanted to use. It was a future that we wanted to live in. We very quickly realized after the investment was made, that this person as impressive as they were, had no intentions to step aside and bring in a real CEO and they were really not qualified to do it. They had a family member involved. I mean, it's like a failure of diligence on our part. And it turns out the company is doing really well. And we've had some situations where process versus outcome. The outcome may be extraordinary for our investors, but process, we consider a total failure. We got it wrong. Our assessment was wrong. And so I think that has warned us, like if we're too excited about the entrepreneur reign it in a little bit, because something's off.

Patrick: [00:30:43] Let's talk about thesis-driven now, and this is something we really haven't explored at all. Most of the venture capitals that I've talked to have been earlier stage probably mostly seed stage. And it really is about betting on founders and maybe on ideas and maybe a little bit on markets. I talked to Andy Rachleff about addressable markets and things like that, but talk about this thesis-driven approach to private investing and maybe using some examples.

Josh: [00:31:02] Kurion is a great example of that, just because you're reading voraciously, you're understanding what is the consensus. And then you find that varying perception. And so nuclear was something that nobody else was thinking about. The same thing. We had a thesis around vaccines a long time ago in part, because it was totally contrary. And you go to a pharma day where Mercks and Pfizers host a day in and the VCs come in and they would say, this is our wishlist. And these are the do not call list. And on the top of the do not call list was vaccines. And so we sit there and say, well, the pendulum is going to swing. There's going to be a reversion back because the thing that's not wanted today is going to end up becoming scarce. And so let's go and populate the very best copmany with the very best IP and people. And we ended up starting a company taking that public in the vaccine space.

Robotic surgery. You've got one mega-giant in intuitive surgical. It has been a battleground between longs and shorts, but whether it's a $20, $30 billion market cap. And we ended up finding the founder of that, and he's looking at the scope of technologies that are out there now, and the computational ability to map inside of the body and all these new tools. And we say, this is going to be the future of medicine. And instead of having one modality where you're just focused on a hysterectomy or prostatectomies in the urology department. You could have these robots that are modular in an ER, doing 20 different surgeries. And so that was a thesis around robotic surgery.

There's the thesis around the scientific evolution of something like metamaterials. Tattoo was a thesis. We have a thesis that we haven't executed in a substantive way yet around hearing where you just see the demographic loss from people wearing headphones and aging. There is an opportunity both for therapeutic and devices on the hearing aid side, something novel. And then I can share two that are crazy.

Patrick: [00:32:34] I love crazy.

Josh: [00:32:35] And by the way, I tell my LPs, because we share these ideas, I subscribe to the idea that if any idea is really good, you have to shove it down people's throats. You don't have to worry about people stealing it. So one idea is really two phenomena. One is technological, and one is in moral philosophy. And I think that they're combining. And I tell my LPs the idea, and I preface it. You're either going to think this is a multi-billion dollar idea, or you're going to think it's batshit crazy. And if they think it's both, then I know I'm onto something. But particularly people are like, that's a little bit too weird for me, I know I'm onto something.

So technologically, we have better signal processing than ever before. High-frequency sound, low-frequency sound, vibration, gesture, and motion; anything that you can imagine. The modalities that we have to input into a machine are greater than ever before. And that's for two-legged mammals, but I think it will hold for others. Second, moral philosophy, Peter Singer's sense of an expanding arc of moral empathy and inclusiveness. I am not an animal rights person. I am not super left-leaning although some of the people in the firm are. I like bacon. I like beef, I like burgers. But you can observe, and it is always better to make observations than predictions, that there's this zeitgeist around animal rights. And so the evidence for this, Shamu at SeaWorld. Ringling Brothers before they went out, elephants were gone. Talk of the horses in Central Park being gone. Vietnam outlaws eating cat. China went from middle-class that was eating dog to widespread ownership. Anybody poss a picture online hunting, they are instantly shamed. And so you put these two things together and I am absolutely convinced that within 10 years, people will look back and say, my God, how did that never exist? Where that is this series of beautifully aesthetically designed devices, Apple-like, for the pet owner. Where probably for dogs to start animals are able to express choice, preference, and control. I want chicken or beef or fish. I want to go to the park or the zoo or I love you or I hate you or leave me alone. And obviously, this is not going to be like Pixar's up movie with the dogs talking collars. But I have to believe that the intellectual and emotional life of animals is greater than them nuzzling up against you and barking at the door and pawing at it to get out. So what I've been doing here is talking to the very best people in animal cognition communication. And corralling them, and then talking to hardware designers and thinking about what are the kinds of modalities that this might be so that you could basically crudely communicate with animals. That's a crazy thesis.

Another one and this one is something that I'm really excited about and where I'm spending a substantive amount of my time at the moment. And again, I know it because everybody's telling me shut up already about this thing. There's a trend through the history of technology, where something that was invented for a minority group, people with disabilities, ends up giving them the ability to go from disabled to abled. And then that same technological capability takes people from abled in a sense to superhuman or superpower. And you can look at every sense that the human has and find an example. In eyesight, people that were visually impaired, it led to the technology of optics and ultimately to telescopes and microscopes. People who could not speak when you had speech to text. And then Stephen Hawking is a great example of this. That technology would lead to things like Speak & Spell and to voice recognition and all of the Siri's and Alexa's that we have today. Exoskeletons for paraplegics are being used by the military to create these super soldiers. And so you can look at all these external peripheral devices and imagine how we've gone from disabled to abled. And then from abled to superhuman.

Then I started looking at the biotech and genetics piece of this, and here's the crazy thing. I always say that sci-fi and sci-fact are shrinking that gap between that, which was once imagined and that which has real keeps getting closer and closer. And there's endless examples within the Lux's portfolio of something where the founder or us were inspired by something we read in a graphic novel or saw in Sci-fi and it was fiction, but now it's real. Professor X in X-Men, don's this Cognos helmet and from a population of a billion people is able to find the mutants. Now those mutants are shooting lasers out of their eyes and conjuring fire from their fingers. And that's absurd. But think about this, that if there are a one in a billion chance of some rare genetic condition and there's 7 billion people on the earth, then there's probably 6 or 7 people walking the earth that have some really unique trait. That could be a super high threshold of tolerance for pain or super low threshold tolerance of pain. It could be somebody that can withstand heat or cold abnormally. It could be somebody that needs very little sleep. Somebody that has high metabolism. Somebody that has acute hearing, or can see in the dark. People with hyperthymesia, who can go back 50 years and recount the most acute detail of a single moment of a day. People with muscle hypertrophy, who at a young age look like they're bodybuilders.

Well, if you take that and you can almost Indiana Jones style have a group of people that are gene hunting, trying to find these unique individuals in the same way that the NBA Scouts are trying to find the 7' 8" person in China. I think that these people exist probably through anecdotes and local newspapers and stories and family history. But you start with that, you sequence some of these people, and then you start using the basis of the extraction of the genetic information for benevolent good. Start with the therapeutic purpose, take rare orphan diseases, people with low muscle tone and give them high muscle tone. But you can see the direction in China and where things are going, where they have less ethical considerations and regulatory apparatus. And you can see a world of human enhancement and an augmentation enabled by this. So those are two theses that this year we will probably start NewCo's in. One around animal cognition and communication, and really having a jurisdictional line between what's real and what's BS in the science. And the other of looking for these X-Men who are these rare mutants and what can you genetically engineer to make people better?

Patrick: [00:38:01] I'm really curious about the learning process behind one of these theses. So this is something I've been refining over the years. There's books, there's podcasts, there's conversations like this one there's source material and raw data. What's your process for feeling your way through a topic? And it could be one of those two or anything else.

Josh: [00:38:17] So on this X-Men superhero one right now, literally the past 10 days, I probably had 30 calls. 30 calls with people that I know who are Nobel laureates, people that I know that are CEOs of existing companies. And every one of those people, and I keep actually like a physical star map of this. I happen to use a program called Popplet that I just know, start populating these things.

Patrick: [00:38:34] I've never heard of that. Sounds great.

Josh: [00:38:35] It's like a connected diagram. It's not particularly good, but I've been using it for years. And I just start to see the visual connections of who's connecting me to who and what tidbit they're having and it daisy chains. So I speak to somebody that like who you should talk to is this person. And then that person tells me no, actually the person that you just told me that you spoke to, like in this other, yeah, they're full of it. Right? And so I start to get the veracity of whose for real. And who's not. And in this process, I'm stimulating their thinking. They're on a plane. They're like, Oh actually I just met somebody I should introduce to Josh. And so I activate the network and information is coming back to me, introductions are coming and it'll probably be a six month learning process. It was the exact same thing with nuclear. It was the same thing with vaccines, same thing with robotic surgery, same thing with metamaterials. And it's just we have the passion, we have the excitement to do the work, and sometimes you come back and you get disconfirming evidence. Somebody said, "It's a really great idea. And it sounds like a great story, but the science isn't there yet." And those are frustrating. Because they ended up on the cutting room floor. But that's the process going back to that idea of randomness and optionality, you're talking to everybody collecting and processing the information, running it down to ground truth. And in the process, you're also recruiting people. So I might talk to four scientists and convince, okay, I have to get them all involved in this. And I might talk to somebody else. They're like, oh my god, this guy's amazing. I need to get them on the board. And in the meantime I have investors who are like, jh, when you do that, I want to fund it. Right. So every one of those risks I'm thinking about how do I kill those risks?

Patrick: [00:39:53] I'm going to try to corral a lot of those ideas into the next question you mentioned, basically finding X-Men. I just started this new book on CRISPR and kind of gene splicing. And I'm always fascinated with uncertainty and blind spots. So biotechnology is actually a great example in my world where the outcomes tend to be so binary. I don't want to plant the axiom that people can consistently do qualitative analysis to pick the next best biotech stocks. I don't know if that's possible, but I know that it's basically impossible to do it quantitatively. So there are just these kind of certain pockets of industries or opportunities that are very hard to get, right. So I'm curious how you think about like the exposure to uncertainty and you mentioned this idea last night, when we were chatting back and forth about rebel scientists. Maybe go into that notion of rebel scientists and how you account for stuff like this, where it just seems like impossible to predict what's going to happen.

Josh: [00:40:42] It is totally impossible to predict. And so on the biotech side, by the way, biotech actually is seemingly rational in that most of the companies end up valued in the phase two sort of pre-phase three at $200 to $300 million. And you could almost say, well, okay, if there's a 10% chance of this going to be a $3 billion business expected value is 10% times $3 billion, $300 million. And so you sort of end up around that phase. And so if you look at the pipeline of what are the underlying base rate odds of a compound progressing from preclinical to phase one, phase two, A, B, phase three, actually getting approved, you can sort of see that probability. It's like a funnel, but I think that betting on a single car, you have no idea how it's going to turn out and what the adverse indications are going to be and what the toxicity is going to be. And so you have to have, in my view, a platform, it's a portfolio.

We've never really had a single drug biotech. There are people that get lucky and post factor like, oh, we knew it all along. And I say BS, but I think you have to have in something like biotech, and even in some of the hardcore really early stage science, a portfolio of these things so that you have multiple shots on goal. You're not betting the farm on one, and you have to have investors and management team that can totally embrace that. And you have multiple horses that are running at the same time to mix metaphor. And the rebel scientist part, this to me just gives you a higher probability that somebody is thinking really differently. And typically this is somebody who coming from outside the field. I mean, I'll give you a great example. Somebody you should probably have on the podcast, Martine Rothblatt. A fascinating friend, who Martine was Martin, founded, Sirius XM, satellite radio. Now transgendered, but married to the same woman for 30 plus years and multiple kids and knew nothing about biology and had a daughter who was afflicted with pulmonary hypertension and ends up going and identifying a compound in Wellcome Trust in GSK, that is totally improbable. They say, you'll never be able to formulate it. It'll never work in humans. She literally is picking up a high school biology book and teaching herself and then surrounding herself with brilliant, but total outsider, right in every facet, every definition of it and ends up with a drug that works. And today it's a billion and a half dollars of revenue. She pays GSK every year, $150 million bucks, 10% royalty. And it's a $6 billion publicly traded company.

And so that's the kind of outsider that looks at something. And whereas most people are like, oh, that'll never work. And you always hear that from older entrepreneurs and all their executives and the young people are really naive. Stan Druckenmiller, famous macro guy was one of my early investors. I remember Stan saying for the same reason he was investing in us, it wasn't because we were smart. It was the same reason that somebody gave him money when he was early, which was the same reason that they put 19 year olds on the frontline of war. They don't know any better than to charge full speed ahead. You want a little bit of that entrepreneurial naivete. And sometimes that comes from an outsider who doesn't know all the dogma inside of a sector. So we love the rebel scientists that generally have something. And by the way, my favorite entrepreneur to back is somebody that is sort of like me in a way they have something broken. Something from their family, something from a divorced background, they were made fun of as a kid, they had a list, they were fat. Doesn't matter how much money or success they achieve. There's always that empty sort of hole inside. And I have so many LPs that actually have been attracted to invest with us because they themselves were like those people. And it's just something that is this perennial inextinguishable fire that drives these people through their life. And some of the great entrepreneurs, maybe they were adopted, maybe they were orphans. They were made fun of, they had some affliction, they were dyslexic, but there was something that was driving them and it was usually against the masses. And so whether they were rebelling against what was around them or people or resentment, I have a lot of debates with people about like, oh, you should have this great positive energy. I think that amazing things has happened with negative energy with dissatisfaction, because by definition if you're happy, you're complacent. It's good to find calm and peace. But if you want change and progress, somebody's got to look at something and literally go back to those two words and say, what sucks? That sucks. And then you have to be motivated to want change it. And I think that comes from like this negative energy. And usually you find that in these rebel scientists.

Cultivating Rebels and Investing Outside of Comfort Zone

Patrick: [00:44:31] You think maybe this could even be within locks, younger analysts or something that you've educated or mentored, or what have you. That this kind of rebellious mindset can be cultivated in the absence of just like genetics or early experience, some negative early experiences. It's something that like the average Joe can work on and improve upon. Or is it kind of baked in?

Josh: [00:44:50] I don't want to say no, it would be naive and maybe ignorant, but I haven't seen it. People that are generally born in good circumstances, people that generally don't have scarcity, people that don't grow up wanting, I haven't found that same kind of grit. So yeah, it's possible somebody gets inspired and reads, but when you know, I was driven, I didn't want to be poor. I wanted to find a great partner in life. I wanted to make my mom proud. I wanted to say all the naysayers who didn't believe in me and shut them down and prove them wrong. I've never personally found that somebody who grew up extremely wealthy without adversity, without hardship, without somebody telling them that they couldn't do something that they had that same kind of flame and fire. I mean, look, Bill Gates was a brilliant guy. He didn't grow up poor, but he still had this sort of competitive edge. I mean, it was like the revenge of the nerds. And I think it's possible, but it's rare.

Patrick: [00:45:45] Curious who some of the other investors are that you've learned the most from?

Josh: [00:45:49] Its pretty rangy. So my best learnings have been on boards and seeing how people behave. And these are typically older. So I generally believe for entrepreneurs experience is overrated. Everybody's like, get experienced and you look at some of the most amazing entrepreneurs in history, they had no experience doing what they did when they started none. They're either pioneering some field but they had the gusto and they often knew to surround themselves with good people on the investor side. There's a guy, Layton Reed, long time venture guy. I've been on a few boards with him and he had a style of equanimity and professionalism. He could get to the 90-10 of what mattered. He was able to drop his voice a little bit, an octave or two, to command a baritone attention when you needed it. He would support the entrepreneur and develop the trust and relationship with him.

There was another guy, Chris Brody, who a long time VC, Warburg Pincus, also, very fastidious when it came to the analytics and KPIs for business and he'd hold people really accountable. And so he was another one. There's somebody else that was just super inspiring as a coach for entrepreneurs. So they never really beat them up in the board meeting, but they were always, really inspiring. And they always brought out the very best in the. By the way, Bill Gates in a board room with a CEO, you'd think he's beating him up and he's to be the smartest guy. And if somebody else is beating up the CEO, he's the first one to defend him and be like, I actually think he's doing an amazing job. And he's able to step back and be like, okay, this is the one thing that really matters. And I find that super impressive, but our number one job on the boards is making sure that she or he, whoever is running the company are doing a good job, and if they are, I basically view it as we work for them. And if they're not, then we have to replace them. And that's the hard thing. And you can never do that too soon.

Patrick: [00:47:33] Think about investing outside of your particular comfort zone or asset class. I'm going to start asking people this question more and more, because it's a question I'm asking myself, the vast, vast majority of my invested net worth is in public markets, quantitative equity strategies. And I think that will always be the case because that's what I know. That's what I can have the discipline to stick with because I know it's so deeply, but I want to explore. And obviously, podcast is good evidence of this other areas. I'm curious how you think about that? So leveraged buyouts or public equities or credit, or things that are not what you do in your day job. How do you think about those only as the potential to learn about them? Do you spend time on them and do you personally allocate capital to them?

Josh: [00:48:12] I do personally allocate capital and my wife is an activist public market investor interesting. So she does the public stuff and I do the private stuff. I will say I'm more a student of business and history and human nature. And so where that affects asset classes, I get it. Credit is a little bit harder for me. It's more structured, it's more finance. It's less about the human psychology. Real estate is totally uninteresting to me although we have some personal investments. I'm more interested in public and private markets because on the one hand you have true businesses that you can understand and then you have human psychology.

And so you can look at everything from, and I'm obsessed with the rational capital allocators, whether that's the Rales Brothers or Buffet and Malone or Bezos. And people talk about in technology, Amazon and Jeff Bezos and Elon Musk and Tesla in the same breath. And if you follow me on Twitter, I'm crazy about this. Elon is a brilliant guy, SpaceX, incredible company. Tesla, not so much. And it's like heresy in the venture world for me to say that. Jeff Bezos raised money in an IPO, never raised additional capital. And people say, well, he had no profits. And well, where did all that value come from? It came from cash, generating the business in the same way John Malone did he didn't report GAAP profits. But having an understanding of business and understanding accounting and understand human nature and good capital allocation, I don't think it matters whether there's liquidity, which is to say whether they're private or public businesses, but businesses, people that are corralling capital producing a product, serving a market to me is just endlessly fascinating.

I also have a pension, which is my personality for identifying fads and frauds and technological obsolescence. And I am part of a sort of private group of people that are always looking for great short ideas. And it's interesting because Lux is fundamentally shaped like a call option. The stuff we do sure are low probability, potentially high magnitude outcomes. There's a few ways to cut a venture fund, but on average, 1/3 of the companies is going to be total zeros and you don't know which a priori, 1/3 you might bank your money back, 1/3 maybe you get 10x. You end up with a 3x cash on cash fund. Another way to look at it is maybe you have one or two companies that return the entire fund once. Maybe two to five next company's return it another time. And everything else combined return a third. You get the 3x in 10 years, but that's a call option like payoff. And I look at this and say, okay, the put option, like payoff, we're betting on the future, but maybe there's an opportunity to bet against the past. And so that's an area that I'm interested in increasingly of saying, you know who these fads, you know who the frauds, you know who the crappy companies that your venture peers have taken public, you know the bad operators and just being students of business and markets. And again, curiosity, which is the same curiosity you have to talk to interesting people and learn about different asset classes. It can help get you there.

Patrick: [00:50:52] So mention your partner was the optimist that you're the one focused on kind of the downside and risk. So let's use that to talk about the short idea of the put option part is a little bit more don't necessarily have to name individual shorts. But I'm curious about the process behind this and how that may be small group that private small group was sort of cultivated. What are you looking for? What's kind of the inverse of what you look for on the call side, on the put side?

Josh: [00:51:13] It's just really bad businesses.

Patrick: [00:51:15] Identified how? I guess, that's the question.

Josh: [00:51:17] Terrible unit economics, massive amount of leverage, and particularly run by people which are horribly promotional and dishonest. Because I think, sort of those things like if you lie to people in the public, you're going to lie to yourself in private. And I grew up in Coney Island, there were carnies, barkers, and hustlers and con men. And so I always grow skeptical. You just grew up skeptical, right? Like you don't make eye contact. And if you do, it's sort of like half squinted, like what's that guy's agenda, what's the game he's running? And so I'm generally skeptical of people and more distrusting. Thankfully, there are people here who are more trusting and open and haven't had those same kind of life experiences, but you can see it. You can see these hustlers and you just want to avoid them. So on the short side, I'm fascinated by these crazy promoters, which by the way, it's really dangerous because one of the greatest assets, and we talked about this before, about on the venture side-

Patrick: [00:52:06] Fundraising.

Josh: [00:52:07] ... fundraising. I would never short a religion and some of these people are alike. The Joel Osteen's of public markets, right? This was like, they get out there, they can promote they're selling. And like, I always say, Elon doesn't sell cars. He sells a future. And he does an amazing admirable enviable job that people should take note of. But the fundamentals of that business are just not good. It's not a good business.

Patrick: [00:52:27] You said SpaceX is a good business. So maybe contrast SpaceX and Tesla, I'd be curious about your opinion.

Josh: [00:52:32] It's interesting because I don't actually know if it's a good business, but what it lacks is the need to publicly promote to raise money in the same way that is needed amongst management with Tesla. And so I'm continued awe that SpaceX keeps low expectations. You'll even hear Elon sort of tempering like, look, this thing might blow up, right. It might be a total disaster. And then it creates awe and amazement. I have a crazy speculative theory and it's a complete speculation and you can discount it as totally absurd. But I'm convinced that Tesla and SpaceX will actually end up merging that the narrative it's a beautiful, simple narrative. Which is from space and back to space. So you've got from the sun, which goes down to SolarCity and then terrestrial, and you've got The Boring Company and you've got Tesla and then back up to space through SpaceX and it'll just be called X. And if you look, a year or two ago, he bought that domain name x.com. And so I think that that is the ultimate way. Now the cynic would say maybe there's financial obfuscation and it's easy to do the same sort of thing that you did with SolarCity. It's a little bit of a magic trick. The optimist would say like, what better way to attract capital in some of the brightest minds for the future of humanity.

Patrick: [00:53:38] This topic of unit economics has come up quite a bit. And one of the topics I've been spending some time on privately is just sort of the evolution of business models and business in general. Going back to Coase's theory of the firm and the platform business model that we spent a lot of time on the podcast as well. I'm curious how you think about approaching the quality of a business unit economics way of doing it has become very popular, boiling things down into very simple terms. Maybe you could describe that process. And more generally, I'm just curious on your take on the evolution of business models and what matters in business. I'm really excited for Albert Wenger, his new book. I think it's called World Without Capital or Beyond Capital, domething like that. Where he mentions the scarce resource used to be capital. Now it's attention so that may change business models I'm curious, your take on that.

Josh: [00:54:21] We'll, I actually think capital will become scarce again, but Albert and I are in a few investments on some boards together. And he's wonderful by the way. I think the most important thing in business. And it's interesting because everybody looks at a different lens that they look at these things through. And I always tell entrepreneurs, when we're sort of asking them questions, most of my questions, most of the lens, and after we make an investment, I insist that they start answering these questions, but I'm psychotic about competitive advantage. What can you do? Or what can you assert that you can do that will scare competitors that nobody else can do? From that flows good unit economics. So if you have a true moat of whatever, kind, and unfair source of supply, something on a brand, the ability to get scale where a competitor can't, a technological innovation that somebody literally can't access. And they look at that and say, "It's not fair. I can make that." That is a beautiful thing. From that you have a moat from moat you have pricing power, you have monopsony like pricing leverage with suppliers. I think everything flows from competitive advantage.

Patrick: [00:55:12] So when you're doing the venture side of things, and you're thinking about that as part of the assessment, how do you evaluate that? How do you evaluate the potential for a mode? Obviously, in many cases, it's not there yet.

Josh: [00:55:22] We'll the first thing that you can see is how many possible entrants are there in a space. In fact, the scariest thing that I think people make the biggest mistake on is they look at the trajectories of such and such market by 2020 whatever is going to be this billion dollars. And they're always hockey sticks that is never predictive of returns ever. What is predictive of returns is how much capital is going into the sector. The more capital that's going into the sector that is the greater measure, the worse your returns are going to be. And so, I mentioned before, I like to go where there's these five things and you have scarcity. If there's 5,000 global competitors to Groupon, you are spraying and praying. You have no idea, forget about 5,000. If there's 500 or 50, how are you picking a winner?

And so I think you have to go where there's five or less companies and the conditions for those sort of barriers to entry are the critical things. Because otherwise those guys are going to be competing for talent. They're going to be competing for attention. They're going to be competing for capital. They're going to be competing for customer interest. And the worst thing that you can have is not a bad product, a bad competitor, because if you're going to a customer and then you knock on the door and you get access to them, and then somebody else was just there a week before, and they were a really crappy competitor, they've just completely ruined the opportunity for you. "We're good we don't need to look at this market right now." And so I really think it all flows from competitive advantage.

Patrick: [00:56:41] What would be your assessment of where we are in the kind of the venture capital landscape broadly speaking. This is a question about cycles. I think venture capital results tend to be quite cyclical, but just generally your assessment of the industry, whether it's doing the right things, whether it's structured the right way, any problems that you see with the venture capital business?

Josh: [00:57:00] I'll tell you that the average short seller, who I think is right, is always wrong on timing. And my views have so far been wrong on timing, but I think that they are fundamentally right. They were inspired actually by something that I was studying at Santa Fe Institute, which was the slime mold. And slime mold was this single cellular organism that sort of becomes a super organism when the environment is resource-rich. The slime mold spawns off and tries every experiment. And then when the proverbial stuff hits the fan, it recongeals into this mothership waiting to spore off again. The analogy is when there's a widespread availability of capital, every experiment is being tried. In fact, people have asked me, is it better for innovation and venture capital when the cost of capital is higher or low? My answer is, yes. It doesn't really matter. When the cost of capital is low, you get what you have now, which is the slime mold expanding, every experiment being tried. Evidence for this is the WeWork's, the abundance of WeWork's. And I was saying that was two years ago, which means I was wrong because I was early meant that every mom in Tribeca and every guy in Soho is starting a business, going into a WeWork. They have friends and family that maybe feel wealthy from stocking gains or maybe there's just bank money available and they're starting companies. And so the slime mold is expanding out and every experiment's being tried, all the kind of stuff is being thrown up against the wall. Now for society, 99% of those things are going to fail, go out of business, die. But the detritus that ends up falling on the floor from the wall becomes the common editorial fodder for the next thing that happened in the internet boom. It happened in every boom in history. And so that's the good news. Conversely, if you had, back like in the ‘70s, 15% interest rates, then capital is super scarce, only the very best people and very best projects get funded.

That was the time we had FedEx and Microsoft and other companies that emerged and that became this timeless entities. And there necessity is the mother of invention. Capital is scarce. And so I don't think it matters. The current environment, cash is abundant. It is everywhere. So here are signs. I started this little neologism on Twitter I called "natom" as in not a bottom. Signs of excess that are worth taking note of because you should be scared. I can tell you that our pace of investing is way slower today than it was two years ago. And it's slower because prices are crazy in markets. And I worry that the amount of capital that's out there is not only raising valuations, but the speed at which people are putting it out. And the expectation that they're going to be able to raise a subsequent fund. The LP illiquidity, something that we never asked in our second fund or our third fund, which we asked explicitly in our fourth or fifth fund was to LPs, how much money do you have targeted for the asset class and how much do you actually have invested? And if somebody was like, we have a 4% target for venture capital out of 8% target of PE and we're 12% allocated, we would say, thank you very much. It's great to meet you. We would not take their money. Why I don't want my name ending up on a secondary list because they've got some denominator effect in two years and we have to deal with their liquidity.

So we in the early days we'd be delighted to raise money from whoever we can. Now we're really judicious both about the mission that they're fulfilling, but also their own liquidity. So venture was too much money price is way too high. I think the natural corrective to that is eventually failure. But the problem with venture is you have ten year asset class where people can sort of fake it and keep these things going for a very long time. The other natural corrective is doing NewCo's. I don't like golf. I like basketball growing up in Brooklyn and the ability to have ball control. And the way you have ball control is you start a company, you control the price you control, who you're letting into the syndicate. And so we're going to be doing a lot of those over the next few years. And then I think also something that we haven't been doing over the past few years, but we did post '08 crisis were special situations. When the cost of capital is low or negative as it is essentially globally. And now maybe starting to tick up, every company is special because they've got tons of money. But to hear that sucking sound, to me, that's a whistle pay attention. And wherever capital is starting to get scarce, you don't want to catch falling knives. There's going to be a lot of companies that just end up going out of business, but there are going to be some great teams with great balance sheets, but really impaired cap tables. If you can find those impaired cap tables where there's corporate VCs record levels of investment, always a contrarian indicator. They're always investing at the top of cycles. People on the LP side, which is a little bit concerning that historically we're doing just LP allocations now have direct programs. Individuals are starting VC firms at record rates. People are leaving the McKinsey's and the Goldman's and opening up shop and starting venture. And some of them will get lucky and persist and the vast majority won't and that's the beauty of markets, right? It's messy, it's not predictable, but I think it would be irresponsible to not see it and just be really cautious.

Patrick: [01:01:37] How does that opinion affect how you run Lux as a business?

Josh: [01:01:41] Some of it is the pace of investing. Some of it is making sure that we are good stewards, not only of our capital, but good partners to other people. We have syndicates that we've sort of come up in the business with who we like. We reciprocate. There's a lot of trading, both reputationally and amongst deals. Being good actors, because I think the capital will come and go, but your reputation and I've seen just people with horrible reputations that made a ton of money and they're blown out of the industry. And so just being good actors, being thoughtful, being methodical, being wary of risk and not caught up in this hype. Because I think, just so many right now, we're just totally overdone. And I think that there's a lot of lying. I think, there're fraudulent companies. I mean, it's amazing you see these companies. Everything is great. And it's like, turkey before Thanksgiving, then they're out, they're dead. And I said, well, what happened? That was a quick phase transition, like where? And it's because they couldn't go to the market and be like, we're having trouble. And so you're seeing some of these unicorns that are just going to zero and there's total discontinuity between the last round and then just going bankrupt.

Thoughts on Crypto and Complexity

Patrick: [01:02:44] Interesting, side story that's happening is the cryptocurrency crash right now where talk about abundance of capital, right? Like ridiculous amounts of money being raised effectively on a white paper. Oftentimes fraudulently. Curious your take on crypto as an idea, maybe as an asset class, whether you consider it an asset class? Just your general thoughts.

Josh: [01:03:02] My view is you have to understand both sides of it. So I understand the view that this is a tulip bubble. It is the measure as money itself is of people's belief. You mentioned Sapiens before, so if you think about, you've got objective, subjective, inter-subjective reality, money doesn't really exist but for the fact that I believe that you believe at infinitum. I can't give you monopoly dollar and get that cup of coffee from you. I can give you Bitcoin because you believe that somebody else believes that. And so as an inter-subjective belief, it's real because people believe in it and everybody says, blockchain is going to be super interesting. And I think people are starting to see, well, wait a second, what are the actual incarnations of this?

And so my view is that this will probably be more akin to that common editorial fodder that comes from the detritus and mass failures, that somebody then picks up the pieces in the same way that happened post-internet where, what got laid and lit were all these fiber optic cables that begot the internet 2.0 and the Facebook's and the YouTube's and all the stuff that didn't exist in the first boom. Something will come from that. So anyway, so that's the first view, which is approximating everything of a bubble, you see the curve now with the crash. The other view, and you have interest in people like Murray Stahl from Horizon Kinetics, has a really interesting take on it. Bill Miller, obviously, he admits it as a speculative investment and they've sort of parsed that off. There's really rational people that have said I'm speculating basically on the belief of what might be. I do accept that in extremists, what's the value of Bitcoin? And I used to ask people this and they never had a good answer. And I actually did calculations with people. And it's like, okay, if you took the sum total of all the currency in the world, and you divide it by some money multiplier, and you assume, forgetting about the unlimited forking and unlimited production of other cryptos, but just Bitcoin, that you would have a value. And the reason that would never be realized is because you have people specifically, people who run countries, and those people want to be able to issue debt and inflate their currency and control their people.

And so, as long as that exists, the great irony was the reason that people were embracing this was that it was a rejoinder to sovereign control over currency. And so people in Argentina or Venezuela, they were trying to get money out. That was one case of actual use, but then South Korea says we're going to ban it. And then it crashes 10% or 15% that day. And so I just think that this is going to be a messy thing. Nobody actually knows what's going to happen. The high confidence thing I have is that something great will come of it. And I have no idea what, but it's not what everybody is talking about today.

Patrick: [01:05:24] Talk a bit about Santa Fe Institute. And we haven't talked on the air yet about that, your experience with it, maybe for those unfamiliar, just describe what it is.

Josh: [01:05:30] It is the birthplace of complexity science. It is looking at emerging phenomenon and it is looking at them across disciplines. So you will have people that study geology and earthquakes, people that study ant colonies, people that study a disease and epidemic progression inside of populations, people that study stock markets, people that look at mating calls of birds and compare that to the frequency modulation inside of spectrum auctions of countries. I got introduced to it through Michael Mauboussin, who was a brilliant strategist and voracious reader and a dear friend and another friend, Bill Miller. And Bill is one of these guys who to me as a philosopher, like your background, really interested in non-obvious ideas. And could you go into other people's domains, sort of like a Charlie Munger and pull out really big ideas and then apply them to an investing process. And so he did that very early on became chairman recruited Michael, Michael became chairman, Michael recruited me. I become chair of the nominating committee. We brought on some amazing people, most recently, Bill Gurley and Jim Plata, and some others to join.

And it's this collection of scientific minds and curious people, and there's no direction. They get to choose what they want to focus on, but they're inspired to really go after really big things. And the guy that runs it is this guy, David Krakauer, who is the prodigal son who is sort of asked to leave maybe like years ago, because he was too disruptive and he comes back to run it. And he's like the Steve Jobs and figure, he's got a cool British accent and he's this champion of science, but total champion of rebels, he wants the scientists to go and think big, crazy non-practical ideas. And they come up with all kinds of crazy stuff. And I get inspired by it because it's either an idea that I can pull that might affect one of our companies. Or a way that process-wise, we can forge for new ideas or a way to organize and think about our time. But it's just really this intellectual smorgasbord. And I love it. It's just an amazing place.

Patrick: [01:07:13] It makes me jealous that I've never experienced it yet. Maybe someday.

Josh: [01:07:16] We got to get you there.

Patrick: [01:07:17] What is the most memorable conversation that you've ever had?

Josh: [01:07:19] Oh, that's a great question. I'll give you the pedestrian one. The salience of memory is coupled to the emotional response you have. So the most important conversation, the most memorable was when we went to Bill Conway of Carlyle. And I was talking about all these crazy areas of emerging tech. And I said, I want to put our money where our mouth is now, in the space. And actually, I want to put your money where our mouth is. And whatever it was that day, I got lucky, right? I mean, Mauboussin is a big student of skill versus luck, but whatever the circumstances, he had a good day, maybe he made money for his LPs. Maybe the firm was going good. Maybe somebody just complimented it. Maybe his team just... I don't know what it was, but that day he said, look to me, he said, I hope you make a billion. And he backed us. I mean, it was like the most fortunate day of my life. And so I never forget that because I'm going to hopefully make that mark and somebody else. But that to me was hugely memorable.

And second one, by the way, I remember first board meeting for Kymeta we're in Bill Gates office. And you think billionaire, richest man in the world, you're going to have chefs and people waiting on you and four course meal and this kind of thing. And I remember at that meeting, sitting down for lunch, calling my wife after excitedly, because I have a very pedestrian palette. I mean, Coney Island, hotdogs, Nathan's, and I'm like, you're never going to get what we had for lunch. She's like what? Filet mignon from California Pizza Kitchen. And it was just to me, it's just like, they're regular people and the circumstances and the fame and all this, but it's just regular people. But the best advice I ever got was from Jim Watson, who co-discovered DNA and Jim is brilliant. And as many brilliant people are a little bit crazy. And Jim has this admonishment, which is double meaning, three words. Avoid boring people. And I love it because what he's saying is stay away from people who are not interesting, avoid boring people and avoid boring people. Don't be boring to people. Be interesting. So I have information anxiety because I need to know and want to know something about everything, whether that's poetry or literature or science or sports or whatever it is, I need to know something so that I'm never in a conversation and be like, Oh, okay. Yeah. Nodding my head like I want to be able to converse about everything.

Patrick: [01:09:29] So I've seen you talk about entropy before. Obviously you have informational FOMO and you're doing a lot. What is your objective function? What are you optimizing for to even think about it like that. In the long run, as Cain say, we're all dead. And you're an atheist or not religious, I should say.

Josh: [01:09:48] I am an atheist.

Patrick: [01:09:49] So how do you think about that? This is a big philosophical question, but it seems appropriate.

Josh: [01:09:53] So entropy to me, I think is one of the not widely understood and most important concepts, because I think it is one of these universal Santa Fe like phenomenon that pervades everything. Your room is a mess unless you put energy into the system, right? It trends towards disorder. The universe itself, life is a fight against heat, death, and entropy. So your metabolism and consuming food and a structure in order and muscle-building and all of that and sleep, everything has to fight entropy. Businesses will trend towards disorder. By the way, I would trend towards disorder if I didn't have the entropy of a partnership and people that would keep me focused on certain things and be like, come out of that rabbit hole. Here's disconfirming evidence. And so I think it's a really useful function because you can see it in cities. You can see it in organisms. You can see it in businesses. You can see it in markets. Anytime that there's massive disorder, there's an opportunity for energy to come in and organize. And that includes ideas. And so when you see something in our world that sucks, and you say, well, that's chaotic. I mean, we're sitting here in a conference room. This sucks the conference equipment. There is not a person listening right now that has not become accustomed to and accepted that conference calls never start on time, that they don't work. That video conferencing, sucks, that you all have the same crappy Polycom system, et cetera. That's an opportunity for somebody to organize all the disorder in a market anyway.

So objective function, number one is don't die, right? Survive, make good decisions, avoid making bad decisions I do. And sort of inspired by Charlie Munger, keep records of people that have made really bad decisions because through them, right, people can always celebrate. I've debated this with Peter Thiel where he's like, you only want to focus on people that have been really successful. And I totally disagree because a lot of that has been luck. But I think if you focus on people that have really screwed up because they've made bad choices, that's something to avoid. So survive is number one, having children, and you've got two, I've got three. To me it is the most important thing in life. And some people don't want to have kids.To me it's everything aside from the biological function, the role model that I can be for them, the optionality that I can create for them. And by the way, making sure that I don't screw things up by giving them too good of a life that they lack the very thing that I had, which was this adversity and not having money and all that.

So I haven't figured it out, but that to me is the objective function is, and by the way, happiness is not that. I don't believe that you can achieve a state of permanent happiness. I don't believe it's in the human condition. I think you can have punctuated periods of sort of cultivated happiness. You can have perspective that gives it to you, but I think we need dissatisfaction for continued progress. And I have to be dissatisfied that my kids have not achieved enough or I've not achieved enough, or we don't have enough or we're not giving back enough or whatever it is that just keeps going.

Patrick: [01:12:38] You've talked a lot about being a contrarian or thinking contrary in terms, is there a person or people that you disagree with, but deeply respect?

Josh: [01:12:46] I mean, the number one would probably be Bill Conway in that I respect him and enormously credit my entire business success to this man believing. And he is a deeply religious guy and I respect him and I respect that. I think his morals and ethics come from it. It didn't matter what the deal documents said or legal documents said he would do the right thing. And I think that comes from a profound religious belief. And I respect that, but I totally disagree with him. And I have a very scientific worldview. Sny absence of evidence, there is a high bar for me to believe something. I'm an empiricist. But that would be probably the great example of somebody who I ad hominem have huge respect for, but fundamentally disagree with what they believe.

Patrick: [01:13:27] So my closing question for everybody is for the kindest thing that anyone's ever done for you.

Josh: [01:13:31] Yeah. Again, I mean, it may be recency bias here, but Bill putting us in business.

Patrick: [01:13:35] What's number two?

Josh: [01:13:37] My wife saying, yes. I don't know. I mean, I think there are amazing acts of kindness. This one's going to sound a little bit negative, but one of the happiest moments of my life, if you remember, I like people that sort of come from broken backgrounds and have something, but my father was not a significant part of my life. And there was a lot of animosity between him and my mother and divorce and custody battles and all kinds of crazy stuff. And there was a moment a few years into Lux when I was speaking to my father and he told me a story that somebody heard his name and said, wait a second, you're Josh Wolfe's father? And that was like a really proud moment for me. I don't know that always has and will stay with me.

Patrick: [01:14:18] What will stick with me from this conversation is to be absolutely relentless and insatiably curious. I've learned a tremendous amount today, so thank you for your time.

Josh: [01:14:27] I love listening to you. So I'm really honored to be here.

Created by @_Nick_Diller