DAVID KROCK – OPERATING FOR SERENDIPITY – EP. 44
This is the second time I’ve had David Krock on the podcast, the first was episode 6 where we broadly discussed his investment firm, Sunset Coast Brands which has now become PermaVentures. This second episode with him goes off the beaten path a bit. We talk about his firm’s rebranding, his hospitality and wedding investments during 2020, a concept he calls serendipity-as-a-service and how he designs his companies to benefit from serendipitous moments, and a few things he’s learned from doing deals through two recessions.
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Well thanks David for joining again, and being on the podcast again for a second time here. A lot’s happened since we last chatted, and I’d be interested to hear a little bit, just to start off with, about your rebranding from Sunset Coast to PermaVentures. What came about with that?
Yeah, happy to share. Yeah, this is the year of our Lord[redacted]Or probably more accurately the year that Satan tried to take over 2020 has been adventurous for all of us, but it’s been a fun time. And a big part of what we’ve done at now PermaVentures is to actually rethink our investment firm from the ground up from first principles. And in the process of doing that, I actually kind of came up with a way, just a name for the way that I like to do business. I call it PermaVenture. The practice of PermaVenture is about creating permanency and longevity, resiliency, and just high performance too. So we kept using that term for a long time and we were like, why don’t we actually adopt that as a flag that we sort of fly? My parent company, my holding company was Sunset coast Brands. And Sunset Coast actually refers to the western coast of Michigan, where I live. Which is just beautiful sandy beaches, and it’s awesome. And nobody really realizes unless you’re from the Midwest or the upper Midwest, what that natural beauty is like. And it’s kind of a regional name. So we’re doing investments now all over the country. So it was time. It was time for a reimagination of our firm. So in the course of that process of working from first principles through coming up with the practice of PermaVenture, we adopted the name.
What do you view as your first principles?
Well, a big part of the first principles is centered around the idea that humans behaving in groups is a very, complexity science is a really fascinating field of study to look into as an investor, especially if you plan to have a portfolio of companies. And every individual company, the people inside of it interacting with each other is a lot like a complex system. Complex systems, like Facebook would be an example. Social network is a lot like that. Stock markets are a lot like that. People in groups in general operate in complex adaptive systems. And to sort of understand the principles of what happens there and how people interact, and what some of the characteristics are of what occurs and what you can and can’t control in some of those systems, I think is actually an important management philosophy.
So for us, just kind of attuning our view of reality to what reality actually is when you have groups of people interacting. So that’s a big part of it. A huge part of the value that I derived from adopting a view of complexity science within our portfolio is a characteristic or phenomenon in a complex adaptive system is the idea that one plus one does not always equal two, and the whole is greater than the sum of its parts. We’ve heard that cliche for years, but what it actually means is there’s this emergent phenomenon that something comes out of those interactions that isn’t present just in the base characteristics of the actors that are already involved. So that emergent phenomenon usually leads to these moments. And I mean, any one of us that’s been in business, and I’m sure you’ve experienced this with the podcast and people you’ve met. And with sponsors, we talked about that. There’s these moments where there’s an opportunity or challenge, or something comes along where that key moment is actually the defining next phase, or sets the tone, or your ability to actually seize that moment, capitalize on it, and get a return on investment of that moment. I call it return on luck. It’s a big part of the process. And that actually occurs when you’re cognizant of the interactions between different people within a system.
So first principles, people respond to incentives. They interact in ways that are self-interested, but also altruistic at the same time. And if you can combine the right incentives with the right sort of environment that fosters lots of interaction. And for people to be open and honest about what they’re thinking about, what’s important to them, and what they’re excited about. Because if you can just connect some of those dots, serendipity plays a big role in our culture right now. So I think those are some of our first principles. And then obviously we have plenty of investment first principles that relate to what we’re looking to get out of each deal.
Yeah before we talked about serendipity as a service, which is a concept that you’ve coined a little bit. Can you describe a little bit about what you mean by that within your companies?
Yes. Serendipity as a service. That in a way is almost like I’m putting a chip down, that there might be some way to do this at a programmatic level or more of a systematized level. But in essence, so first a history lesson on the phrase serendipity. There actually was a place called Serendip. Now this blew my mind. There’s a book called The Serendipity Mindset. It’s behind me on the shelf. Which kind of fleshes this out a little bit. But the King of Serendip had three sons that were kind of like, we mentioned off air the show Succession and how maybe the kids of the billionaire or the billionaire kids maybe don’t have a sense of reality. And they kind of operate in their own space and maybe don’t have that level of initiative or something.
So the children of the King of Serendip needed to be taught a lesson in his mind. So he sent them out to essentially wander the lands. And as they were doing this, they came across a guy on the trail who said he has lost his camel. And he’s not sure where it is, and blah, blah, blah. And they said, “Actually, I think we saw your camel, or we know that your camel was here because we saw tracks through the trail. On the one side, ants were attracted to it, so it must have been this. And the other side, bees were attracted to it, so it must’ve been this.” So he must have been carrying these two substances, these two spices, or oils, or something. And the gentleman that had lost his camel immediately accused them of having stolen the camel.
So he brings the boys back to the King and says, “Your boys have stolen my camel.” And as they’re going along and kind of vetting this out in the court of the king, what actually ended up occurring was these boys had connected dots that they didn’t realize that ended up being a positive thing and actually helping this gentlemen understand where his camel might’ve been. And lo and behold, while they’re in the middle of this trial, somebody comes in and says, “Yeah, we found the camel. It was further up the trail,” kind of thing. So the whole phrase, when that story was recounted again, and there was somebody further along in history that had used that story to coin the phrase serendipity. What it actually means is not just luck. And I think a lot of people think of serendipity is just luck. It’s an equality. And in reality, serendipity is what happens when a chance moment comes along. We talked earlier about those moments of opportunity or challenge. So something happens that is a chance event.
The human behavior around that, and the ability to connect the dots between potentially other opportunities, or resources, or something, that ends up leading to a usually positive outcome is serendipity in a nutshell. And for us, one of the things that we realized going back to kind of re-imagining our firm from the ground up, a big part of what I was going through in doing so was okay, how do we create some level of less dependency on my approach to doing deals, or to recruiting talent, or those sorts of things? And how do we sort of infuse our DNA, the way that we do what we do into our systems and processes and sort of our overall operating system for the portfolio?
And during that process, it was sort of like this vetting out of what actually are the commonalities in the deals we’ve done and the things that have worked? Because we’re all over the place. I’m invested in early stage venture firms. My first big deal was I was a general partner in a real estate syndicate for an $8 million retirement community. We’ve done app development. We’ve done service-based businesses with high cyclicality. We talked a lot about the events industry the last time I was on your show. So there’s lots of different plays or deal types that we’ve been involved with, but they’ve generally all worked. But we’re not experts across the board in every type of investment. So what are the characteristics that ended up leading us to be able to do these different things? And it really centered around people.
What we would do is we would identify these moments or these opportunities where multiple things could connect. We would provide people the resources that they needed. Often it would be capital, but sometimes it was other things. And we now have fleshed that side of things out with a full tech firm and a content studio, and finance arm. And there’s lots of stuff that we do to support our businesses and other people beyond just capital. So the thesis around providing amazing people the resources that they need for what’s next was kind of the thing that kind of emerged from that. And we realized that these moments of serendipity, I call them investible moments was a huge part of that. And just being aware of the ability to pull different pieces together, combine different types of resources. And then actually instead of just take an opportunity at face value, design a deal from scratch. Yes, we can run the play here of a acquisition with an earn-out and some standard issue. We install a new CEO is incentivized by return on capital or something like that. Or, we can figure something else out that actually ends up being better in the longterm by just thinking about it using all those different resources and potential structures. So that was a big part of the philosophy that we’re kind of infusing now into what we do.
Well long story short to answer your question, that’s a big part of what we realized was you actually can be, sort of have the radar open for these dot connecting sorts of moments. And if we can figure out a way to both incentivize people to be honest about what’s important to them, what they’re like, what they’re thinking about, what they’re working on, and create a work environment where they actually want to pursue some of the things that they think might be interesting, connecting their own dots. For us to be able to provide the resources and the opportunities for them to actually seize those things that they see in many ways is actually sort of enabling serendipity as a service. So we think we actually can probably provide some technology around that. And right now, we’re just experimenting with what that could be like. But I know just in my heart at a soul level, that this is something that has been core to our success so far. So we want to see if we can capture it a little more concretely.
Yeah. So how do you design incentives and give your team employees that time that they can go and create these moments for themselves?
A huge part of that is capacity. So we talked about the incentives, and we can talk a little bit about maybe specific ways that you can incentivize people. But in essence, people do respond to incentives. So if I have the capacity in my job where just the ebb and flow of the day-to-day doesn’t consume my every last resource, and I have time to think or I have time to work on something that’s interesting to me within the business, that’s a huge part of it. So we’re exploring just how to structurally incorporate that. Google is a very great example for that with their 20% time, their famous 20% time. Where employees can essentially one day out of five more or less, pursue anything they find interesting. And obviously for people that are familiar with that story, most of the core Google products we use today have come from that 20% time. Somebody pursued the idea, they connected up with a few other people that found it interesting. They started to make it happen, and Google enabled that to go somewhere.
And then many of those things get spun off as new businesses, or the employees get incentivized, or they advance further in their career. So if you’ve structure the incentive piece right, and we like to help reward people financially for things coming to fruition. That’s a huge part of it. Creating the capacity in people’s schedules is another part of it. And then we think another key leg in that stool is to be able to provide some visibility and transparency into what people are working on and what they’re thinking about. And we’d love to do that not only across our portfolio of companies we own wholly, but companies we’re invested in even at a minority stake too. So we think there’s something there.
So what are some examples of the incentives you put in place? Is it a percentage of revenue from any new project that they come up with or is there a little bit more depth to it?
I think that’s a great broad brush, and that’s a good way to incentivize people. Sometimes people will do, with programs like expense reduction, some people will do programs inside their portfolio where if people can find 10 bucks a savings, $2 of the first year savings goes right to that person as a bonus, or something like. That kind of stuff is fun. So you can kind of use that as a play you can run. So now you can structure that a little bit differently. Maybe the thing that’s being incentivized is not expense reduction. It’s our true bottom line internally we call owner’s earnings. It’s essentially a free cash flow number. So everything for us is kind of geared towards what kind of owner’s earnings are regenerating, because that essentially is our rocket fuel to do all the fun stuff that we see on the horizon. Or if somebody has an opportunity internally and they see I’d really like to launch this new thing. We think we can do that. Then we utilize some of those resources to back them. People have received equity stakes as we’ve spun things off. There’s a lot there that kind of comes into it. But I think it comes back to that design sort of mindset.
So for you Alex, if you were to spin something off with the person that is doing your editing, and you’ve got this new thing that you’re doing. What the editor finds important, and what’s attractive to them, and what they’re looking for, and what’s next in their career and whatnot, you’re taking all those factors and trying to design something that works for that person. And I actually think, this is kind of a side note, but I actually think design and doing things creatively like this actually is scalable. Because once you learn to think this way, anybody at any level can actually start to apply these principles. And then you just have proper approvals, and authorities, and crosschecks, and stuff like that.
But the design element is huge. We know percentages of things is a great way to look at it. Then the structure of those payouts, some people will do. There’s some great stuff in The Great Game of Business by Jack Staff around this stuff, in terms of how to weight those payouts over quarters and things like that. There’s another really good plan. I can’t remember which book it’s from. We’re pursuing this with one entity. It’s just two. You essentially take a percentage of a person’s salary, and you build it up in a bucket that is sort of this bonus pool. And then after three years or two years, it starts to come back to them. So for them to walk away, they would essentially be abandoning this bonus pool that’s going to come to them over time. So it’s sort of a reward for longevity and for digging in with the long-term plan of the business. So the phrase, I mean long-term nature in everything we do is something we’re trying to keep front and center. Long-term games with long-term people is a phrase that gets used a lot, but I love it.
Yeah, I agree. Is there a fun story or example you have of an employee or a business partner coming up with some creative idea during that 20% time that really led to something special?
Good one from this year, actually. So a few things that we’ve done in the midst of this, whatever this is, whatever 2020 is. It’s so much more than just the pandemic. There’s so many other things to point to about this year that you’re like wow, we’re really all just making this up as we go along. That to me is one of the things that I’m drawing from this, which I actually kind of like.
So we actually, we’re just kind of coming out of stealth mode now, a cybersecurity firm that focuses on financial advisors. So how that came to existence, and there’s kind of a spinoff that’s sort of a web application development company. How that came to existence is one of my partners on the technical side, he was already building a product that kind of centered around that market. Centered around those groups of people, and what they needed, and whatnot. So he had some market access, and he also had some specialized knowledge in terms of what was working from a technological standpoint. And he also had access to really key subcontractor partner for some of the actual technology we wanted to use. So what we did is we kind of came up with, we recognized one, that there was not a brand that focused solely on cybersecurity for financial advisors. So we built that brand from scratch. It’s called AdvisorGuardian. And we basically just kind of here and there pulled some deals together, did a webinar, sort of partnership with somebody that a massive email list. It was an opportunity for a new brand and kind of an underserved niche, but a really key niche. I mean, 71% of all cyber attacks are seeking financial data. It’s probably over 80% right now. So there’s something about that niche that is important.
So essentially, pulling those different pieces together, creating some unique partnerships, we were able to kind of spin that up without … I mean, we probably have to date maybe 250 labor hours of time into launching that brand. And it’s already got some good monthly MRR, and we’re starting to get sort of these repeat customers. And it’s leading to bigger and bigger opportunities for us to get into bigger and bigger firms. So we’re looking at some partnership opportunities to expand out by the hundreds or thousands of advisors at a time. So that’s a good example. I mean, that kind of thing. And even the development side of that business, and we have an opportunity or had an opportunity based upon one of our key customers sort of wanting to offload some dollars at the end of the year. They wanted to essentially prepay for some service so that they could actually book that as an expense, which worked out great for us because we were able to front run some of our capacity growth and team based upon that. And then because timing of cash flows is an amazing thing in business. And I think that’s a huge overlooked thing, especially for companies that are scaling rapidly. Growth tech consumes cash. And I think just understanding the timing of cash flows, the cash conversion cycle is huge.
So when you think about what was in front of us, we had the chance to bring in a large sum of money. So it’s a customer funded type scenario. We drip out the payroll for those additional people added over every two weeks over the course of time, which gives us then time to actually find more revenue side to help drive profitability. We were able to front run everything with sort of the expense timing. So that’s a fun example. I mean, I can give you a good example of an employee that’s really got a key role now. Somebody started with our events company at 19 as an intern, really talented, one of the best hires I’ve ever made. Really talented, really sharp, really good at keeping on top of details, really good ops person. And realistically within three years, we had spun off a event planning service that she runs. And it was her brand to run. She’s still in that role, she’s 30 now. And she’s killing it. And we’re working on ways to expand that nationwide.
So it’s things like that, that it was the right person, right time, right incentive structure, and you design a deal that takes advantage of all those things. I think those are some examples. But for me, it’s all about the jam session. It’s all about talking through the potential opportunities and seeing where there could be dots connected, and then starting to press a little bit on it. You’re trying to get a pound of return for an ounce of pressure. And you’re just trying to figure out where you can put that out of pressure to really create something either out of nothing or better than was there before. That emergence phenomenon.
Speaking of hospitality, you’re one of the only small company investors I know who invest in hospitality businesses. How did those perform this year?
Well, let’s see. In 2020 in a pandemic, we own a retirement community, a resort, and a bunch of events based companies. So as you can imagine, my hair is on fire. No I’m kidding. It actually hasn’t been that bad. I would say the one that probably did the toughest was the retirement community, because many people were very concerned about their loved ones being more exposed to COVID in that kind of environment. So they would kind of move them out and bring them home to kind of keep them closer. And as it turned out, the actual virus penetration was not that severe in that environment. But that reduces your occupancy.
So retirement community is an occupancy based with additional services business model. So that one took a hit, but survived. The events business has taken a decent sized hit, will probably down, depending on which business unit you look at anywhere from 25 to 55%. Many people have rescheduled major events that they’re doing. Some brave souls got married during the later portion of summer and early fall. And we just basically had to lean on cash reserves that we had built up, and really get creative about timing of cash flows and all those sorts of things. So a lot of that financial knowledge came in handy during the season. And then the resort actually, I think we were only down about 19% overall in revenues. And I think we’re not totally done with the books yet, but I have a feeling we’ll probably be actually close to last year in terms of cashflow.
Do you expect to see any substantial jump over even previous years next year once there’s now a vaccine and folks are able to go out more and now you have everyone who delayed their weddings for example, this past summer are now going to be layered on top of everyone who was planning on 2021 as well. Do you expect to see anything like that, or do you think it will be more smooth and like any other year?
I do. I think anytime there’s a recession or people freeze in place, 2008 was a great example of this. What you’re trying to figure out and ascertain is what percentage of the demand is destroyed, and what percentage of the demand is delayed? So demand destruction versus demand delay. And I actually think especially in the events business, I mean a lot of corporate events were just flat out canceled. We’ll do one again next year maybe, maybe not. But for a couple that’s looking to get married like yourself for example, recently married. That process you’re not like, “Maybe we just won’t, maybe we’ll just not. Call it a day. The pandemic was a problem. I guess it’s just not going to work for us.” That doesn’t happen. People are like no, we’re doing this. And then it just depends on what, I think mentality and temperament of the couple was a big part of it. The couples that are like, “Yeah, we want to get married out on the beach. And if it’s pouring rain and a thunderstorm, the pictures will actually be better.”
Those people got married this year. The people that were very concerned about details, and who can be there, and all those sorts of things, which is a large percentage of people to took the safer route. And they just game planned contingencies in later portions of the year and in[redacted]So yeah, you actually have that combination of the next crop of people that are still looking to get, they’re getting engaged right now in fact. The Christmas season and the Valentine season is a big engagement time.
So you’re going to have that demand on top of people that have already pushed into next year. And you have a scarcity factor that’s in play there because most vendors and most locations, we’re in wedding venues as well, only post one event a day. So you actually have the total amount of capacity of dates is restricted. So you have high demand, low supply. And it’s going to be an interesting year, but I think it’ll be fun nonetheless. I think our team having to readjust to doing as many events again is going to be a big part of it. But we were fortunate. We didn’t lose anybody. In the course of all this stuff, we didn’t lay off a single person.
That’s excellent news. I fall into the former category of couples getting married. We used the pandemic as an excuse to have a smaller wedding without being able to offend anybody, which was really nice. That was wonderful. But I know other couples who are adamant about having every single person there, and those folks are going to have a large wedding. Do you think the average size of a wedding is going to go up if you start looking at data for next year, or do you have some of that information already?
We do. I mean, we track a ridiculous amount of data for this kind of stuff. We’re tracking things like when people first inquire, what’s their estimated guests count size? What’s important to them at that point in time? Why are they looking at this type of venue? And then we actually at different checkpoints throughout the course of our relationship with them. One of the great things about the wedding industry is especially if you’re in the real estate side, the wedding venue side is that’s one of the first things to book. And people will book that 13 to 15 months on average, in our case in advance, sometimes two years in advance. So you have this two year relationship with these people, where essentially what’s going on during that time is checking in on timeline and stuff like that. But they’re asking you a lot of questions for recommendations and things along those lines. So for us, establishing those relationships as early as possible in their engagement was key, and then kind of building the additional services around that. So we’re in planning services, we have rentals, we have transportation, we’ve got floral design, we’ve got a whole bunch of things that we can do for our clients. So building that was really important.
But data, it’s a huge part of what we do. We actually believe the original … so every year that we track, we kind of have an average guest count that we kind of are working off of. And I anticipate next year, it’ll probably be closer to that average historically. It’ll obviously be more, greater than it was in[redacted]There were many state restrictions and various places that reduced the size of events that people could have. So we anticipate an increase from 2020, but maybe not as high as 2019 and years before. But I do think there are many things that will be impacted by people’s opportunity to take a pause and kind of assess what’s important to them.
So I find interesting about your wedding businesses is they’re course all connected to each other. And you have the venue side sort of feeding into the rest of your businesses. Can you talk a little bit more in depth about how all those companies interact with each other with one client?
We try and establish as much of a rep based relationship with the client as possible. So in many ways, we’re introducing to the client that we are in these other businesses. But those businesses are independent. We don’t make requirements of the client to use those other companies if they’re at one of our wedding venues. So it’s about competition.
So for us, we have an established contact that you have that is connected between the venue and our planning company. We basically include a low level service right in free of charge. And then we utilize that relationship to help upsell other things. So you have that established relationship with the client. And then from there, you have key people at these other businesses. So you have referrals going back and forth. If somebody in our floral design studio sees that the client is really interested in a really elaborate arbor or something that they might put up near a wedding ceremony location or something like that. They may tip off the rental company that this is something that is really key and make a referral. And then we create incentives for the client too that by utilizing one or more services, they receive some forms of either discounts or perks, and things like that.
So it just creates this environment where the client is free to do what they want, but they have incentives to explore what we can do for them. And then you have just a really good chain of communication between the various businesses. So people know each other really well. And like I was talking about before with that serendipity field of connecting dots, we’ve got incentives in place to allow people to do that kind of on the sales side, for sure. It’s a little bit easier to create that. So it’s been really smooth. You have challenges from time to time, but we notice most of our challenges are with outside vendors because we feel really good about our management system. So maybe that means we’ll move into some other categories.
Yeah. you talked about Amazon before too as an example for, you’ve talked about the memo that Jeff Bezos sent out one time where he’s talking about how each of the different Amazon businesses now can only interact with each other as customers. This sounds like a very similar model of that, where your different companies know each other and communicate, but they’re independent. They’re separate. Can you just flesh out that idea a little bit more?
There’s a couple of different factors here that I think will be important for the audience. One is your approach as an owner or as a holding company. There’s lots of different ways that people look at activity operationally inside the businesses. Your Buffetts of the world, or you’re Andrew Wilkinsons of the world, they really like to buy things. And then it’s very hands-off outside of working with that leader and incentivizing them properly. That is a huge part of the way we do it. We also make capital allocation decisions. And then key hires we have a really strong hand in. But from the top down, we are very much designed that way. But then internally, what we try and do is from the outset, put some things in motion that create those links in between the companies. So just like I talked about before with the links between the wedding companies, we create those between most of our portfolio companies. So most of our heads of departments and companies know each other and rub shoulders oftentimes. We have a coworking space that a lot of people are in from time to time. So you get a little bit of that water cooler interaction that occurs.
But we talked about that Amazon memo, a huge part of it not only is do they need to interact with each other as customers, but the units themselves are at their best when they’re customer facing, when they’re market facing. Because what happens is it’s very easy if you’re just a server provisioning service inside of Amazon, and you’ve got one customer. That customer has to use you because of the incentive structure, the cost structure. It’s really easy to get complacent. And next thing you know, if that becomes a prevalent thing in the market, your internal team is worse than you just bought it on the open market, which you don’t want that.
A big part for us, we’re huge into aggregating resources. We want to actually have top talent and cutting edge, or at least best practices in these different disciplines of business. So in launching many of, I call them nutrient businesses. If you think of each company that you own or you’re working on as a plant, you go into a garden, any plant, and just pick one out. It’s going to need a different mix of sunlight, and fertilizer, and water, than the next plant. So actually having sunlight, fertilizer, and water as resources that you could administer at a high level, high quality stuff to that plant, is going to help it grow in the mix that it needs. So for us, we wanted to be aggregating those resources and aggregating those nutrients. But we wanted to do so in a way that each one of those things still had to be competitive on the open market. So we allow our portfolio companies to be free to choose which companies they want to work with, ours or outside. And we just have to compete better. And then we create some incentives that if all things being equal, if it’s apples to apples, they’ll probably choose the internal company. And obviously there’s no pressure, no penalty. So I think you create those interactions in that way, and things start to occur as you would like them to.
You can probably tell from this conversation, I’m huge into the incentive structure. I’m huge into the design of systems, but you have to be very careful with this stuff. Because you’re not playing God here. These are individual humans that are making the best decision they can. They’ve got pressures from bosses, they’ve got pressures from clients. So what you want to do is you want to have the minimum amount of effective influence or involvement that is needed to spur a reaction or to help shape the culture the way you want it. So a lot of those things all kind of feed into the way in which we approach what we do.
So for us, as we look for new things to add into the ecosystem, a big part of it … right now, I was telling you the other day, we actually have about 60 different things that we look at just on a first pass at an investible opportunity. And about a third of those relate to our existing ecosystem. How well something will mesh, whether there’s opportunities for more dots to connect and new investible moments to be created, what are we missing? A big part of what we do is we actually spend time putting together strategic imperatives. So you might call them requests for investments. We actually think we want this sort of thing. And we see an opportunity here. We have a thesis around AI, let’s say. We don’t, but let’s say we did. And then when an investment comes along, if it actually touches one of those theses or key resources we’re trying to aggregate, it gets a higher weight in terms of how we evaluate what goes into the portfolio.
Yeah. And you talked about doing deals in[redacted]And now of course, 2020 in a pandemic. What have you learned about designing complex systems that can adapt to harsher environments like those?
I think resiliency is a big part of what we’re looking for. And when you’re practicing PermaVenture or when we are acquiring a company or growing it, we’re trying to create a resiliency that throws off ample owner’s earnings, gets high returns on the mix of resources, the mix of nutrients that I talked about. And a big part of it is the performance and fulfillment of the humans that are involved. So the people that are part of any one individual business, we’re consistently trying to find, and we need to develop better systems for this always, you’re iterating on this all the time. Better systems for understanding what’s important to them and how we can help them feel most fulfilled. We want people that are doing their life’s with us. This is what they’re born to do, they’re excited about it, and they have everything they need.
Well an interesting thing happens. When you feel like you’re doing your life’s work, you’re excited about what you’re doing. You’re supported. You’ve got everybody that’s rallying around you, especially in moments of challenge. Think back to the these dot connecting situations. If you have a key opportunity or challenge inside of one individual business, and you have visibility into who throughout the ecosystem has experience, skillsets, perspective, is already thinking about a similar thing. And you can pull those people together in a mini taskforce to attack that problem, you get some really interesting resiliency that occurs because people are looking out for each other. And I think that’s a huge part of it. When you enter a 2008, or a 2020, or anytime individually in a business that things go sideways, it’s cliche to say there’s a gem buried in there somewhere, but there always is. Because something has occurred that has shifted the playing field. So either the rules have changed, or the current set of other players in the field are freaked out, or there’s some things that have changed that will create opportunities that didn’t exist right before that time.
So a big part of this is obviously playing conservatively and making sure you’re making good bets along the way, having ample reserves to weather these sorts of times. And then your flexibility and adaptability when those weird market situations come along is a huge part of surviving those times.
So how do you design these companies to have that adaptability and be able to flex? You’ve talked about cash reserves before being a part of that. What are some other examples you’ve implemented or seen and used?
I think what we just talked about in relation to the people, that’s a big part of it. If you think about what a company is, it’s a bunch of people running around trying to pursue a mission. That’s in essence, what it is even in real estate or some of these other things where you have hard assets and whatnot. That’s a big part of it. The strategy I think is a big part of it too. You’re essentially asking how do you build this in? It’s easier to build this in when you are early on in the process of this company’s development, or you have an opportunity where there’s already some like-mindedness if you’re acquiring this business. It’s really hard to take a business that’s very stuck in its ways, that has people that have been there for decades. That instead of 20 years of experience, they’ve got one year repeated 20 times, sitting in a chair doing a repetitive task. They’re not thinking big picture. It’s possible to infuse energy and excitement into that environment, but you almost always have to change something about the dynamics. So I think the raw material that you’re working with is key.
And that’s a big part of the reason why we not only acquire companies, but we also start them and invest into them. Is oftentimes, starting from scratch if you’ve got the right components that you can pull together, you can actually accelerate into that escape velocity you need to get up to speed and up to profitability rather quickly. So that venture studio model is a big part of what we do. So I think being able to impact the culture early on, having the ability to sort of infuse the DNA that you have as a large organization is key. The incentive structure, the design of those sorts of things, the design of the relationships that the business has to other businesses or the people have to other people. And then the strategy. The approach that you’re going to take to win the day. I think all of those things combined, those help to just essentially empower people to create their own culture, because the culture is going to develop from the team that’s involved. So you do the best that you can. You put the best players on the field, and you train them well. That they’re really good in process, and really good at recognizing when things are a certain way, and they can adapt and respond. And then you let the score take care of itself.
So when you’re looking for a new acquisition, how important just in terms of how much of your decision rides on one factor or another, how important is the culture of the existing business that you’re looking at?
It’s funny you mention this. We are right now in the process of revamping our ideal portfolio of the types of deals that we want to be doing in the current environment, with what we see ahead in the next five to 10 years. So we’re actually digging in deep on the different factors that are most important to us. And obviously culture is in there. So it’s kind of under that people category, but you’d actually be surprised. So we’ve waited, we just kind of forced ranked and weighted these different factors. And then we’re using base cases and base rates to kind of determine apples to apples. If we can’t beat the base case for an average type of investment, you net it out, and you look for other advantages or disadvantages then.
So the culture to us is not weighted the highest in terms of existing culture. Our ability to impact it is important. There being some level of compatibility with what we’re already doing is important. But remember, these companies can operate on their own. So for us, there are some businesses we have that we essentially operate them. They run themselves, they throw off the cash that they throw off. We reinvest the capital there, if it’s the right situation. Or we distribute that capital out and reinvest it elsewhere.
So I think for us, the idea of optionality and flexibility in the way in which we approach things tends to reduce some of the, “You got to get this right,” or, “You got to get that right.” And I think that’s a big part of, for us, where the resiliency comes from. We can screw up on a lot of different things, but if we’re getting the main things right, and we’ve got a culture that is adaptable, and we’ve got people incentivized towards the right vision and the right ends, you end up with something you never could have predicted. Which is a big part of what I love, because there’s things that will happen that are way beyond what you thought was possible.
And I think the culture then individually in the company, and then obviously over time in the whole ecosystem sort of evolves on its own. And I think you shape it where you can and you prune where you can. But I think it’s important that individuals in key roles own their culture.
What are one to two things that in about three years or so with PermaVentures, you want to be different and have evolved?
So in recent history, we’re spending a lot of time on sort of the mix of characteristics, and factors, and the weights, and all those sorts of things that we want to see more of. So there’s some things there that I think are a big part of it. We’ve moved more so into the tech side of the world in investments. I made an angel investment in 2018 into a company that was the first non-friends and family money into that business. They eventually raised a large seed round, went through the Techstars Accelerator program, and sort of came out the darlings of that program. And went and did what they did, trying to figure out the model. And then over the course of time, another opportunity came along this year for us to double down on that investment. Actually more than double down on that investment, kind of restructure a little bit of that business. I joined the board, and we actually eventually became the largest shareholder, individual shareholder in the company. And their strategy is right, they’re poised to take off. Everything is there, all of what they need is there.
So we’re really in the right place with that to take advantage of a business that has the chance to scale up pretty rapidly, that has a good model. And we have a lot of ability to influence the direction of that business. Actually the CEO just messaged me while we’re sitting here. So that’s a big part of it. I think the moving more towards repeatable revenues is a big part of something we’d like to do. Over the course of time, we’ve developed some amazing, high cyclicality, but really good cash conversion cycle businesses. So we want to kind of offset and maybe kind of balance that out a little bit in the portfolio with some more repeatable recurring revenue type businesses. Which is where some of the subscription models are coming from on the tech side, that’s a big part of what we want to do.
And then a big part of it too is we really want to see our flywheel start to play out. So we’ve been manually turning the flywheel in the last year or so with how we want things to go, which is basically just taking a lot of what has worked and made it more of a repeatable process, but in doing so you think about it, physics comes into play here. You’re actually trying to build momentum. So if you think about what happens in a flywheel, it’s this combination of mass and velocity. So if you think of mass as the amount of pure nutrients in play and pure resources. The mix of investments, the assets, all those sorts of things. And you think of velocity as throughput, the ability for that thing to turn. Well you want to design a fly wheel. So the next step in the fly wheel is sort of inevitable from the first. But then you actually have to exert a lot of energy. You’re putting a lot of mass and a lot of pressure on that thing to get it to turn. So that’s what we’re doing right now.
And a big part of that for us is attracting these investible moments, investible people, opportunities, which would be specific deals that sort of come with the structure. And ideas as well, sort of nurturing some of those ideas. So a big part of what we’re looking for right now is people that sort of jive with the way that we look at the world and how we want to be in business, who see that there might be a chance to connect or have something occur there that we could actually end up working together on. So for us, a big part of that is get the flywheel turning so that we’re having a lot of those conversations. So that there’s an iterative learning that matches up with our portfolio construction, ideal portfolio construction, to help us really hone in on the things that we’re going to be able to do best with the team we have over the next five to 10 years. So those things are really important to me right now. It’s validating a lot of those, what to date has been theory around this idea of PermaVentures.
How do you want your portfolio construction to evolve?
I think definitely more on the tech side. I think we would love to be doing more acquisitions, because one of my other partners owns a coaching company. So our ability to influence the results, the performance and fulfillment of the people we work with is kind of baked into our process now. So now we want more of that opportunity. So some additional people, so that the mass of people inside the flywheel, I guess you could say. That’s a big part of it.
And then honestly, I think coming back to this idea of base rates or base cases. So if sitting in cash is a good thing or a bad thing, you can debate it either way. Doing nothing is sitting in cash. It could be argued that’s actually taking a step backwards nowadays with the rate at which we’re printing dollars in America. It’s very interesting to me. I mean, the money supply has grown by I don’t know, 24 to 26% this year, just in terms of the money that is in circulation. The way that our system works is when we collect taxes, we actually kind of reduce the money supply. So that’s kind of our mechanism. So you don’t see what happens with that influx of money supply into the economy right away. Inflation doesn’t immediately jump. You see inflation occur primarily where that money has been infused, which is into businesses and financial markets. So you actually see inflation in assets. You used to be able to get some sort of fixed income annuity type product that would throw off 50K a year, which is a 5% return on a million dollar purchase. We can’t do that very much anymore. That same thing costs you 5 million maybe, 7.5 million these days.
So there has absolutely been a level of inflation that’s occurred kind of in the investment market. So for me, just the idea of sitting in cash … the most important thing, I think this is maybe a word of encouragement to people out there that are wondering about all the options available to them. The most important thing I think is to have a sound strategy for why you’re doing what you’re doing. Every decision that you make. If you feel confident that this is a bet that is worthwhile based upon these characteristics and these first principles, and over the course of time, that bet plays out positively in its expected value. It might go wrong 45% of the time, might go right 55% of the time.
But the magnitude of it going right puts you far ahead. That kind of thing. Understanding that process, if you believe in that process, and perform it well, and make good decisions, I think you can feel confident that over time, things will net out to your benefit. Sitting in cash right now for me personally, it’s a two-edged sword. We want to be able to take advantage of these investible moments that come along, and we want to be able to move quickly. But we don’t want to have the money devalue by 10% a year. Whatever cash we’re sitting on for eight years has gone down by 80%, which I actually do believe that we’ll continue to print and infuse capital into the money supply over the next four years by probably somewhere between 8 and 15% a year. Which is going to be meaningful when it comes to inflation in some areas, probably in financial assets.
I actually think that outrunning the growth of the money supply is actually a new hurdle for cash. Because it certainly isn’t treasuries. It certainly isn’t fixed income investments right now. I actually think a lot of people have fled to some of the FANG stocks as a store of value, as a way to kind of prevent just the vanishing of their cash because they feel confident those companies will be around for a bit right now. So I think for me, building a portfolio construction for the cash that we have sitting around that is a mix of things, but we can’t just do the 40/60% bond split, the stock split kind of thing, or 20/80, or whatever it is. We’re pursuing many different ways to look at how we would leave dollars sitting in our ‘reserves.’ And then obviously the portfolio construction itself is going to include some new things that potentially have only been a small part of what we’ve been doing.
So I think with the monetary expansion that we’ve been seeing, I do think there’s a strong case for cryptocurrencies being a meaningful percentage in a portfolio over time. I think there’s a strong case that could be made that Bitcoin as a version of those is going to win out. It’s gone through and survived a lot of challenges. I think the volatility aspect of it right now is the main thing that has to still be worked out, which I think is a function of supply, and the stock to flow ratio playing out over time. I think more and more large scale investors are looking at Bitcoin as a thing that actually could be meaningful. And I think the zeitgeist around it is becoming this idea that major, major, fund size firms will be sort of looking at each other like, “Wait, you don’t have 1% allocation in Bitcoin?” I think that’s going to be something that plays out over time.
So I have a high level of conviction around it, but it’s volatile. And to me, it’s a binary outcome. It’s either going to be something that is meaningful as either a store of value, replacement for gold, or a currency itself, or not. To me, it’s a binary equation. So for us, we bet size it very, very small in the portfolio right now. But that’s something that I think over the course of time, what will play out in the blockchain space and in the cryptocurrency space is the actual mechanism for determining shareholder splits and ownership in companies will actually be recorded on the blockchain. And over the course of time, you’ll actually see, a company’s stock will be a security token. I think to me, that’s sort of baked into the direction that we’re headed. And I think over the course of time, exploring what does that mean for small businesses or assets that primarily, there’s not a lot of liquidity.
So liquidity is a big function in how we’re looking at portfolio construction too, because you actually want to be able to take advantage of opportunities and rebalance the portfolio, which you can’t really do very well in private businesses. You buy the company, you’re sitting on it. If you need to rebalance, you’re pulling cash out of that business. But what if that business is returning you 50, 60% on your cash? These things all matter and kind of play into this.
So I do think that, and I’m saying a lot here. I do think that the development of security tokens as the recording of stock ownership in companies, public and private, I think will create much more liquidity and optionality for people to move in and out of these things. So what does that mean for acquiring small businesses? What does that mean for all those sorts of things? I think there’s game theory to run there, but I think there’s something there that’s meaningful.
Another thing that I think is meaningful, and I think this is important for people that are investing in small companies is what seems unique right now, the search funders out there, you being an alternative to private equity and being somebody that’s going to continue the legacy of the owner, that’s not going to just flip the business, all those sorts of things. Guess what? That’s going to be characteristic of private buyers versus private equity. That’s not going to be something that is a standout. That’s going to be table stakes. So the question becomes why are you different from the next guy that’s saying exactly the same thing, or the next gal that’s saying the same thing? So I think it’s important to start to think about those differentiations of why do you do what you do? What are the unique things that you bring to the table? And how can you then vet out all the opportunities out there to find the ones where there’s a great match?
I like it. My head always spins when chatting with you, and really enjoyed having your time today. I’ll let you go, but thank you so much for sharing your time. This is really, really fun. I always enjoy our chats together.
You bet, man. Anytime.