Understanding Masa Son’s Rationality

During Christmas last year, I read one of the few biographies available on Masayoshi Son, titled “Aiming High”. Written by Atsuo Inoue, the version I read was an English translation of the Japanese original. Perhaps due to the “lost in translation” problem, it was not the best biography I’ve read, and the book was mostly an uncritical celebration of Masa’s career and life story. However, it did give a window into how Masa thinks.

When Softbank grabbed headlines last week for suffering its biggest quarterly loss in company history – a whopping $24.5 billion USD – the news triggered me to both watch Softbank’s entire earnings presentation and re-read parts of “Aiming High”. Masa’s tone and outlook turn out to be surprisingly consistent throughout the years – a blended stream of seemingly contradictory reflections of extreme humility and extreme bravado – making his psychology difficult to understand. But if we dissect Masa's own words and, in turn, how Softbank’s business works, everything is quite rational.

Waxing schadenfreude on Masa’s financial losses may be one of the tech sector and business media’s favorite parlor game, generating headlines like “The SoftBank Experiment Has Failed”. Many people think what Masa is (and has been) doing is crazy and irrational. But these commentaries rarely see things through the eyes of Masa himself and understand his own rationality, all hidden in plain sight.

Home Runs Worked, So More Home Runs

The one chart that illustrates best Masa’s rationality and thought process this slide in its earnings presentation:

Softbank has been, for most of its lifetime, a “home run” business, though it’s different from a typical VC business.

I circled in red three of the most telling moments of this phenomenon. The obvious, big circle is at the height of Alibaba’s valuation in September 2020, when it made up 59% of Softbank’s total Net Asset Value (NAV). The other two, less obvious circles both had to do with Yahoo. In the pre-2000, dotcom bubble moment, Yahoo accounted for close to half of Softbank’s NAV. During the post-dotcom-bubble years of 2002-2004, Yahoo accounted for almost all of Softbank’s NAV.

The outsized proportion of these “home runs” in Softbank’s NAV reveals a profound point. “Home run” investments are well-understood in the context of “power law” distribution, which underpins how most VC funds operate. However, they play a uniquely instrumental role in their contribution to Softbank’s balance sheet, giving it fuel to fund itself through both good and bad times. Thus, Softbank holds on to these “home runs” for as long as financially possible (unlike a VC), because its very success and survival depends on them as cushions.

During the before and after periods of the dotcom bubble, Softbank’s investment in Yahoo played that role. Now, as Masa goes through another tough period, Softbank’s Alibaba investment is playing that role – using its stake in China’s e-commerce and cloud computing giant to raise $22 billion in cash via a complex instrument called “prepaid forward contracts” to weather the storm.

An early investment in Alibaba may be the crowning accomplishment that leads most investors to sail into the sunset with fortune and glory. But in Masa’s rationality, Alibaba revealed a weakness in Softbank’s distinct organizational structure and corporate growth strategy – it needed more “home runs”. However, they did not have a good way to produce more.

As Masa admitted in “Aiming High”:

“In China and the rest of Asia we scouted Jack Ma well before anyone else, although that – if you want my opinion – was only a half-success at best and we could have done better.”

This “half-success” was confirmed in Sebastian Mallaby’s new chronicle of the VC industry, “The Power Law”. In the book, Mallaby described the way Masa found Jack Ma was mostly by happenstance, when Goldman Sachs was getting cold feet and wanted an investor to mark up its tiny China portfolio of seven fledgling tech startups, one of them being Alibaba. Masa ended up investing in several of those first generation China tech startups, including $20 million in Alibaba. Only Jack Ma’s outfit turned out to be a success of “home run” proportion.

In his many attempts at “home run” swings, Masa was haunted by his mistakes of omission, especially in his inability to take a swing at Amazon. During a 2020 interview, he candidly shared with an embarrassed laugh, how he could have invested $100 million in Amazon pre-IPO:

Given his success in investing $100 million in Yahoo one month before its IPO, Masa had every reason to believe that putting in another $100 million right before Amazon’s IPO would’ve given him another “home run” to keep the Softbank NAV pie growing.

The problem was Softbank ran out of money.

In this rather introspective admission when talking about his reasoning for raising Vision Fund 1 in “Aiming High”, Masa said:

“Going forward there’ll be no excuses. I’ve realised that up until now the problem has always been we never had the money….We always had loans to repay. I’ll tell you a story about Jeff Bezos, before Amazon went public. The two of us met in private and I told him I want to invest in the company – we actually ended up going back and forth with negotiations for about four hours. But SoftBank were just that little bit short on the financial front.”

So to avoid future errors of admission, to always get a swing at the next Amazon, the most rational thing to do was, of course, to raise $100 billion dollars.

Money = Home Runs

Despite its lofty goal of investing in the “AI Revolution'', Vision Fund was all about making sure Masa never runs out of money. Even though Vision Fund 1 was often labeled a venture capital fund, it was structured as a traditional private equity fund. The fund has a five year investment period upon final closing and a minimum fund lifetime of 12 years.

Besides Softbank’s own $28 billion, here is where the rest of the $100 billion of Vision Fund 1 came from:

• Saudi Arabia’s sovereign wealth fund: $45 billion
• Abu Dhabi’s national wealth fund: $15 billion
• Apple: $1 billion
• Rest of $11 billion from: Qualcomm, Foxconn Technology, Sharp (owned by Foxconn), Larry Ellison’s family office

Now that we are five years past Vision Fund 1’s closing in 2017, what did Masa learn during this time? Here is what he said during Softbank earnings presentation’s Q&A segment:

“For Vision Fund 1, we were making big swings, Uber, Didi, WeWork…we were making big swings, and couldn’t hit the ball…Because my emotion was very strong to specific companies…that’s something that I learned.”

As it turns out, even if you have all the money in the world to take big swings, it does not make up for bad judgment. Masa is refreshingly honest about admitting his many bad judgments. But a more subtle learning that he did not share so publicly, but showed in the way he now runs Vision Fund 2, is he realized he did not necessarily need “home runs” to keep Softbank’s NAV growing or his outside investors happy.

Given the size and nature of Vision Fund 1’s outside investors, all sovereign wealth funds or massive corporations (with the exception of Ellison’s family office), they are not expecting the high-level returns (in the form of “home runs”) in the same way typical endowments expect from typical VC firms. As long as the Vision Funds can keep growing Softbanks NAV over time and keep the company’s loan-to-value (LTV) ratio below 25% – a rather financially conservative threshold for an aggressive risk taker like Masa – Softbank can always live to fight another day.

All three Vision Funds (1, 2, and LatAm) combined now make up 47% of Softbank’s total NAV, its largest category partly because Alibaba’s value fell precipitously. By converting part of its Alibaba stake into cash, Masa has managed Softbank’s LTV down to 14.5% from a recent high of 22%, in order to be in “defense mode”.

With some hard lessons learned from Vision Fund 1, what is now the most rational thing to do in “defense mode”?

In Masa’s own words:

“Rather than aiming for the home run, we try to aim for first base hit or second base hit, make sure we have good hits…”

From Home Runs to Base Hits

Unlike Vision Fund 1, Vision Fund 2’s only source of capital is Softbank itself. It is essentially a corporate venture arm, not a VC or private equity fund. Masa is also taking full control of Vision Fund 2, either because he no longer trusts Rajeev Misra, who managed Vision Fund 1, or because he wants to redeem his own mistakes.

But with all these ups and downs of multi-billion dollar proportions, what is Masa really trying to build? Again, in “Aiming High”, he shared this reflection:

“‘What did Son Masayoshi invent?’ I want future generations to ask that question and I want the answer to be I invented an organizational structure which has shown growth over 300 years…we’ve got to adopt a ‘cluster of number ones’ strategy.” (Bold emphasis mine)

“Home runs” like Yahoo and Alibaba used to work for the organizational structure of Softbank. So Masa rationally wanted to try to hit more “home runs”. After failing and losing billions of dollars in the process, he is adjusting his game to go for base hits. If you hit enough of them, base hits can generate just as many NAV points for Softbank’s organizational structure (à la Moneyball), just less dramatically. As someone who also owns his hometown baseball team, the Fukuoka SoftBank Hawks, Masa knows how this works better than most.

In an uncertain and volatile world – war, climate change, higher interest rate, geopolitical hotspots, supply chain, domestic polarization, the list goes on –  Masa’s outlook and action appears perfectly pragmatic and rational, for him, not for me, or you.