Elon Musk and Reasoning via First Principles

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25 Jan Elon Musk and Reasoning via First Principles

Elon Musk – Entrepreneur, scientist, philanthropist and visionary. He co-founded PayPal in 1999 and 3 years later cashed out a massive pay check when it was sold to eBay for 1.5 Billion in stock.

With the initial sum of money, he went on to more exciting projects, co-founding Space Exploration Technologies, or SpaceX in 2002. This is what the company’s website has to say about itself.

SpaceX designs, manufactures and launches advanced rockets and aircraft. The company was founded in 2002 to revolutionalise space technology, with the ultimate aim of enabling people to live on other planets.

Musk is also the CEO and public face of Tesla Motors, a company that is setting out to revolutionalise the use of electric vehicles in the world. Understanding that the public’s biggest case for rejecting electric vehicles is the lack of charging stations and the limited range, Tesla has established a network of almost 400 charging stations in the USA, and built the car to run up to 300 miles per charge. This is about the mileage a full tank of fuel gets on any conventional vehicles.

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First Principles

In a recent interview, Musk shares his thinking process

I think it is important to reason from first principles rather than by analogy.

The normal way we conduct our lives is we reason by analogy. We are doing this because it is like something else that was done, or it is like what other people are doing. With First Principles, we boil things down to the fundamental truth and reason up from there.

 

He illustrates this via an analogy.

The Model S is an electric car that runs on batteries. The more efficiently Tesla could construct and manufacture battery packs the more of an advantage they could have over other car makers. When the company was still in the early stages, many of his detractors claim that Tesla would never succeed because battery packs are prohibitively expensive at that time.

Musk refused to be bowled over and decide to boil the issue of batteries down to its First Principles

What are the material constituents of the batteries? What is the spot market value of the material constituents? It has carbon, nickel, aluminum, and some polymers for separation, and a steel can. Break that down on a materials basis, if we bought that on a London Metal Exchange, what would each of these cost?

Oh it is now $80 per kilowatt hour (compared to $600 per kilowatt battery packs were priced at at that moment). Clearly you ned to think of clever ways to take those materials and combine them into the shape of a battery cell, and you can have batteries that are much cheaper than anyone realizes.

SpaceX

It was the same story with Space X. Space travel is extremely expensive. Musk and his team wanted to take people into space. Instead of looking at the cost of current rockets and benchmarking their project based on that (reasoning via analogy), they figured out what the essential components of a rocket are and how much the raw material for those parts would cost (reasoning via First Principles).

The result – Space X was able to build a rocket for 2% of the traditional cost.

First Principles and my friend’s foreign property purchase

A friend was looking at properties in Iskandar, Malaysia. He is keen, very keen. He argues that properties in Johor is a sure win proposition because of the following reason.

Many of the rich people in Singapore are involved in Iskandar. For example, ‘Remisier King’ Peter Lim has got multiple business interests in the region. If these ultra high networth people, with their network and access to information and their shrewdness chooses to invest in Iskandar, then that is a good enough reason for him to follow suit.

If you want to be rich, just do what the rich do, he says. If Peter Lim is moving his money out of Singapore and spending it on developments up north, it will surely mean that Iskandar has huge potential. The rich are not stupid.

I am inclined to agree with him that the rich are not stupid indeed. But at the same time I would be more comfortable if he had based his investment decision on more in-depth reasonings.

If he could boil down the decision to First Principles, he could have examined the demand and supply of properties in the region. He would have studied land costs and construction costs. He should have studied previous transacted prices and the resale values of similar properties. He ought to uncover economic growth projections for the region, current income levels and hence affordability, vacancy rates and so on and so forth.

Had he done all these, I am not so sure if he would have come to the same conclusion that his property in Iskandar is still a good buy.

Conclusion

We make investment decisions all the time. Reasoning via First Principles is a very helpful decision making skill we ought to have in our arsenal.

As Elon Musk has demonstrated, when used correctly it has the ability to challenge conventions and change the world. On a smaller scale, when applied appropriately to our money decisions, we will be able to see our investments in a different light and make more grounded and sound decisions.



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