The Success Equation: Untangling Skill and Luck in Business, Sports, and Investing

123 Pages·2012·1.32 MB·English

by  Michael J. Mauboussin

Harvard Business Review Press
Boston, Massachusetts
Copyright 2012 Michael J. Mauboussin All rights reserved
Printed in the United States of America 10 9 8 7 6 5 4 3 2 1
No part of this publication may be reproduced, stored in or introduced into a retrieval system, or
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without the prior permission of the publisher. Requests for permission should be directed to
[email protected], or mailed to Permissions, Harvard Business School Publishing, 60 Harvard
Way, Boston, Massachusetts 02163.
Library of Congress Cataloging-in-Publication Data Mauboussin, Michael J., 1964-The success equation :
untangling skill and luck in business, sports, and investing / Michael J. Mauboussin.
p. cm.
Includes bibliographical references.
ISBN 978-1-4221-8423-3 (alk. paper) 1. Success. 2. Success in business. 3. Ability. 4. Fortune. 5.
Decision making. I. Title.
BF637.S8M34125 2012
650.1—dc23
2012018975
To Michelle
Skill that I asked her to wed
Luck that it was yes she said
CONTENTS
Acknowledgments
Introduction Sorting the Sources of Success
Chapter 1: Skill, Luck, and Three Easy Lessons
Chapter 2: Why We're So Bad at Distinguishing Skill from
Luck
Chapter 3: The Luck-Skill Continuum
Chapter 4: Placing Activities on the Luck-Skill Continuum
Chapter 5: The Arc of Skill
Chapter 6: The Many Shapes of Luck
Chapter 7: What Makes for a Useful Statistic?
Chapter 8: Building Skill
Chapter 9: Dealing with Luck
Chapter 10: Reversion to the Mean
Chapter 11: The Art of Good Guesswork
Appendix
Notes
Bibliography
About the Author
ACKNOWLEDGMENTS
I am very grateful to have had the opportunity to learn from so many thoughtful
and generous people. Writing a book is a long journey that is sometimes very
difficult. I am blessed by a wonderful network of friends and associates who
helped me along the way.
My colleagues at Legg Mason Capital Management have not wavered in their
support. Whereas I had to do some convincing to pursue my prior book, I was
strongly encouraged to pursue The Success Equation. Particular thanks go to
Jennifer Murphy, Bill Miller, and Sam Peters. LMCM's deep commitment to
ongoing learning makes it a special place to be.
A number of people graciously shared their time and knowledge with me.
They pointed me to useful stories, explained points, and straightened my course
when I veered off it. These include Sam Arbesman, Brian Burke, Aaron Clauset,
Jerker Denrell, Paul DePodesta, Doug Erwin, John Galvin, Daniel Kahneman,
Michael Raynor, Matt Salganik, David Shaywitz, Tom Tango, Phil Tetlock,
Duncan Watts, David Weinberger, and Richard Zeckhauser. Tom and Duncan
read specific chapters and provided valuable feedback.
Scott E. Page has been a tremendous inspiration and source of encouragement
from the beginning of this project. In particular, Scott put together a terrific
conference at his home institution, the University of Michigan, in February
2011, dedicated to this theme. Scott is an amazing source of ideas and a great
and generous friend.
It's time-consuming to read the draft of a manuscript and to provide feedback
to the author. I was blessed to have a great collection of folks help me out. These
include Phil Birnbaum, Michelle Mauboussin, Bill Miller, Michael Persky, Sam
Peters, Al Rappaport, Chris Wood, and an anonymous reviewer. I was
particularly pleased to have Phil Birnbaum, one of my heroes in the sabermetrics
community, take the time to share his thoughts and criticism.
Andrew Mauboussin, my oldest son, made a very meaningful contribution to
the book. He did research on a number of topics and generated all of the
simulations—work that is beyond my technical ability. He also read each of the
chapters and chipped in with helpful comments. I was proud to cite the research
he did with Sam Arbesman. I appreciate your contribution, Andrew.
I benefited immensely from working with Laurence Gonzales, who edited the
book. Laurence is a very talented writer—Deep Survival is perhaps his best-
known work—who improved the clarity and quality of the text throughout. It's
valuable that he doesn't come from the same professional world as I do, because
it allows him to be critical with fresh eyes. He's also an editor who is old school,
which I love about him. No nouns as adjectives in this text. He's a terrific source
of ideas and has taught me a great deal about writing. Thank you, Laurence.
It's hard for me to say enough about Dan Callahan, my colleague at Legg
Mason Capital Management. Dan does it all: quality research, vivid exhibits, and
great editing of early drafts. And, as a former pro baseball player, he had
particular interest in, and insight into, the sports material. On top of it all, he did
all this while satisfying his other analytical responsibilities within the firm. Dan
has also developed a bit of side expertise: using creative approaches to
generating book titles. For this book, we employed a site developed by Matt
Salganik called www.allourideas.org—check it out, it's cool. Dan not only
coordinated the project, he contributed the winning title, The Success Equation,
which beat out scores of competitors. Thanks, Dan.
I loved working with Tim Sullivan, my editor at Harvard Business Review
Press. Tim supported the idea for the book from the beginning and showed great
aplomb in guiding the whole process. His ideas are sprinkled throughout the
book and his edits left the proper material on the cutting room floor. I also
received great assistance from others on the team at HBRP, including Erin
Brown, Kevin Evers, Stephani Finks, and Jen Waring. Monica Jainschigg's
sharp-eyed edits also tightened and improved the manuscript.
My wife, Michelle, provides steadfast love, counsel, and support. She
encourages me to pursue my intellectual and athletic passions, which keep me
going mentally and physically. She also offered useful comments on the initial
manuscript. Michelle's mother, Andrea Maloney Schara, is integral to our
family's activities, maintains a commendable desire to learn, and injects some
cognitive diversity into all of our lives. Finally, I thank my children, Andrew,
Alex, Madeline, Isabelle, and Patrick. I'm confident that with hard work and grit,
each will successfully solve the success equation in his or her own way.
CHAPTER 1
SKILL, LUCK, AND THREE EASY LESSONS
L
ET ME START with a story that is likely to be familiar to you.
One of the greatest computer programmers of all time grew up near Seattle,
Washington. He saw an upstart company, Intel, making computers on a chip and
was among the first people to see the potential of these so-called
microcomputers. He dedicated himself to writing software for the new device
and, by one account, “He wrote the software that set off the personal computer
revolution.”1
In the mid 1970s, he founded a company to sell software for microcomputers.
In the early history of the company, “the atmosphere was zany,” and “people
came to work barefoot, in shorts,” and “anyone in a suit was a visitor.”2 But the
company was soon highly profitable, and by 1981 its operating system had a
dominant share of the market for personal computers that used Intel
microprocessors.
For all of its early triumphs, the company's watershed moment came when
IBM visited in the summer of 1980 to discuss an operating system for its new
PC. After some negotiation, the two companies struck a deal. In August 1981,
retailers offered the company's software alongside the brand new IBM PC, and
the company's fate was sealed. The rest is history, as they say.
In case this story's not familiar, here's the ending. This pioneer of computer
technology entered a biker bar in Monterey, California, on July 8, 1994, wearing
motorcycle leathers and Harley-Davidson patches. What happened next is
unclear, but he suffered a traumatic blow to the head from either a fight or a fall.
He left under his own power but died three days later from the injury,
complicated by his chronic alcoholism. He was fifty-two years old. He is buried
in Seattle and has an etching of a floppy disk on his tombstone. His name is
Gary Kildall.3
You'd be excused for thinking that the first part of the story is about Bill
Gates, the multibillionaire founder of Microsoft. And it is certainly tantalizing to
ask whether Gary Kildall could have been Bill Gates, who at one point was the
world's richest man. But the fact is that Bill Gates made astute decisions that
positioned Microsoft to prevail over Kildall's company, Digital Research, at
crucial moments in the development of the PC industry.
When IBM executives first approached Microsoft about supplying an
operating system for the company's new PC, Gates actually referred them to
Digital Research. There are conflicting accounts of what happened at the
meeting, but it's fairly clear that Kildall didn't see the significance of the IBM
deal in the way that Gates did.
IBM struck a deal with Gates for a lookalike of Kildall's product, CP/M-86,
that Gates had acquired. Once it was tweaked for the IBM PC, Microsoft
renamed it PC-DOS and shipped it. After some wrangling by Kildall, IBM did
agree to ship CP/M-86 as an alternative operating system. IBM also set the
prices for the products. No operating system was included with the IBM PC, and
everyone who bought a PC had to purchase an operating system. PC-DOS cost
$40. CP/M-86 cost $240. Guess which won.
But IBM wasn't the direct source of Microsoft's fortune. Gates did cut a deal
with IBM. But he also kept the right to license PC-DOS to other companies.
When the market for IBM PC clones took off, Microsoft rocketed away from the
competition and ultimately enjoyed a huge competitive advantage.
When asked how much of his success he would attribute to luck, Gates
allowed that it played “an immense role.” In particular, Microsoft was launched
at an ideal time: “Our timing in setting up the first software company aimed at
personal computers was essential to our success,” he noted. “The timing wasn't
entirely luck, but without great luck it wouldn't have happened.”4
Defining Skill and Luck
The first step in untangling skill and luck is to define the terms. This is not a
simple task and can quickly devolve into heated philosophical debates.5 We can
avoid those, since pragmatic definitions are all that we need to think clearly
about the past, present, and future results of our actions and to improve the way
we make the decisions that lead to those actions.
But first things first. Before we can speak of skill and luck, we have to settle
on the specific activity we're talking about. We can analyze what athletes,
executives, or investors do. We just have to be clear on what elements of
performance we are considering. Next, we want to agree on the measures of
performance. For athletes, it is winning games. For executives, it is developing
strategies that create value. The benefit of measurement is that it allows us to
assign specific values to skill and luck.
Now we can turn to definitions.