How do investors evaluate a company's value using first principles?

Good question. This concept might sound abstract, but in essence, it's a "get to the bottom of things" way of thinking, like a detective, rather than just following the crowd.

Imagine we don't look at the current stock price of a company, which big shot invested in it, or whether it's the "next XX" hot trend. We strip away all these superficial layers, like peeling an onion, layer by layer, down to its core, to see what it truly is.

An investor who thinks with "first principles" typically asks themselves these straightforward questions:

1. What fundamental human need does this company truly solve?

Is this need about food, clothing, communication, travel, entertainment, or seeking security? Is this need genuinely existing and long-lasting, or is it a created, fleeting trend?

• For example: Food delivery platforms. They solve the need of "being too lazy to cook/go out, but still wanting restaurant food." This is a very real need that will persist as long as urban life continues. In contrast, some trendy fads that only gain traction through subsidies and marketing might be forgotten once the hype dies down.

2. Is it physically/fundamentally possible to lower the cost of providing this solution even further?

This is what Elon Musk loves to do. When he wanted to build rockets, he found buying them was too expensive. He didn't accept the market price; instead, he asked: "What materials are rockets made of? Aluminum, titanium, copper, carbon fiber... How much do these cost individually on the market?" He discovered that the raw material cost was only a fraction of the total rocket price; most of the cost came from organizing, manufacturing, and integrating these components. So he concluded: if I can use smarter methods to build rockets myself from these raw materials, and also reuse them, then the cost could be drastically reduced. This was the starting point for SpaceX.

• Applied to investment: When you look at an electric vehicle company, don't just focus on how cool its cars are. Instead, think: "What truly determines the cost of batteries?" Is it the price of metals like cobalt and lithium, or the manufacturing process? Is it possible for this company to achieve revolutionary innovation in these most fundamental aspects to drive down costs? If so, then it has a strong "moat."

3. If you were to start from scratch today, to solve the same need, would you create a company exactly like this one?

This question is particularly incisive and helps you break free from "path dependence." Many large companies are the way they are today due to historical reasons, carrying a lot of baggage (e.g., bloated departments, outdated technology).

• For instance: In today's world, with smartphones and mobile payments widespread, if you were to build a bank from scratch, would you still set up so many lavish physical branches and employ so many tellers? Most likely not. You'd directly create a super user-friendly app and move all operations online. So, when you look at a traditional bank, you need to consider whether its heavy "assets" will be an advantage or a burden in the future.

To summarize:

For the average investor, it's more like "analogical thinking": seeing Tesla succeed and then looking for "the next Tesla"; seeing Kweichow Moutai rise and then looking for "the next Kweichow Moutai."

First principles investing, however, is "physics thinking": it disregards what others are doing and focuses solely on the essence of things.

• Is this a fundamental need? (The essence of the need)
• Is your way of solving this need the most efficient and lowest cost? (The essence of efficiency and cost)
• Does what you're doing align with the inevitable trends of technological and societal development? (The essence of trends)

This way of thinking is challenging because it requires independent thought and a deep understanding of the industry. But once you get used to it, you won't easily be swayed by short-term market sentiment or flashy stories, and you'll be better able to identify companies that truly create long-term value.