8 Mental Models for Making Decisions

28 May 2019 by Scott Middleton
A brain drawing depicting mental model thinking through formulas on one side and colour splashes on the other

Ultimately we are the sum of our decisions. They are something that is literally unavoidable in both life and business, but are rarely optimised. Even when you aren’t explicitly making a decision you’re sometimes making an implied one.

Utilising models for decision making means that you have strong frameworks always in play to critically assess different potential outcomes, and ideally see alternative outcomes that you wouldn’t have otherwise.

Making use of models also helps when decisions don’t go your way. At least you followed the model you believed to be the best at the time of the decision.

Make fast, frequent decisions but pause for one-way doors

Jeff Bezos provides the best explanation of the best model for decision making (as judged by Bezos’s success) in a shareholders letter:

Some decisions are consequential and irreversible or nearly irreversible — one-way doors — and these decisions must be made methodically, carefully, slowly, with great deliberation and consultation. If you walk through and don’t like what you see on the other side, you can’t get back to where you were before. We can call these Type 1 decisions.

But most decisions aren’t like that — they are changeable, reversible — they’re two-way doors. If you’ve made a sub-optimal Type 2 decision, you don’t have to live with the consequences for that long. You can reopen the door and go back through. Type 2 decisions can and should be made quickly by high judgment individuals or small groups.

If you consider that most decisions are Type 2 then you need to default to making a fast decision. Make fast Type 2 decisions and if they don’t work out as you had planned then course correct. You’ll probably have learnt more and made more progress than if you had sat on your hands and done nothing.

The trick here is when you have defaulted to making fast decisions, knowing when to slow down to make sure you catch the one-way door decision, giving it the time and attention it deserves.

Establish principles upfront and stick with them

When you’re faced with decisions there are always shades of grey. When you’re faced with how to approach an opportunity or a problem there are always multiple ways to do it.

Having a strong set of principles helps immensely by helping you make decisions faster, being consistent in your approach (which so far seems to be rewarding), and just as importantly, making sure what you are doing aligns with who you are as a person.

You can then come back to these principles often. In fact, the difficult part is coming back to the principles when you most need them because often it is forgetting them that has led you into a situation in the first place.

When it comes to setting your principles, the most common mistake I see is to set principles that don’t contain explicit trade-offs. Without trade-offs it is difficult to follow them. For example, one of Terem’s principles is “build long-term relationships by always acting with Integrity” which we explicitly say we will do at the expense of short-term profit because strong relationships lead to success in the long run.

Apply second order thinking

The world’s top investors Munger, Buffett and Marks speak of how important the model called “second order thinking” is. In technology land Theil and Musk call it “thinking from first principles”. This really equates to the same thing, not taking something at face value but digging into the fundamentals to truly understand what is happening.  

Applying this in business usually means considering financial impact (cost versus revenue), hard cash implications, your principles, market realities, human psychology, your objectives and interactions in whatever the broader context is.

The Toyota “Five Whys” is a great example of a technique to help you apply second order thinking. Why did that problem happen? Then ask why five times. Why would we make that decision? Then ask why five times.

The easiest way to begin applying second order thinking to anything is to be constantly asking yourself “and then what?”

Sign: which decision is the right way

Take acceptable risks

A mental model that will assist with making decisions is to wrap your head around risk.

When you are looking to make a decision make note of the worst that can happen if your decision does not work out. If that risk is acceptable, you can mitigate it, or you can foresee it and avoid it then it’s probably a good indication that you can proceed.

Profit is the reward for risk.

Embracing risk, understanding it and working with it will lead to better results.  Put differently, you can’t avoid risk if you want to grow or even stay still.

Anecdotally and somewhat surprisingly, the best entrepreneurs, product people and investors I speak with are often risk-averse. However they take risks that others won’t because they’ve followed their principles and applied second-order thinking, and are then able to embrace calculated risk.

Prioritise, hard

There is no such thing as equal priority. It is a physical impossibility.

Accept this fact of the world and prioritise: 1, 2, 3, 4.

It doesn’t matter how scarce or plentiful your resources are, doing one thing prohibits or delays another. If you do two things (or more) equally then both will be delayed or not be as good as if you had focused.

I often think of Buffett’s punch card analogy which he gave during a lecture to business school students :”If you had a punch card with only 20 punches, and you weren’t going to get another one the rest of your life, you would think a long time before every investment decision– and you would make good ones and you’d make big ones. And you probably wouldn’t even use all 20 punches in your lifetime. But you wouldn’t need to”.

Know your psychology and the psychology of those around you

Reading anything written by or written about the world’s best investors reveals one common theme, the extreme importance of human psychology in the way the world functions and the way you function in the world.

I first became aware of the importance of psychology and how humans can easily make misjudgements by listening to a talk by Charlie Munger, which he gave at Harvard in 1995. Your emotions and biases will affect your decisions. You need to become aware of your own patterns. Then you need to try to understand what is happening emotionally with those around you and the broader market (generally or for your customers).

As well as devouring anything written by Marks, Buffett and Munger I found reading Influence and Thinking Fast, Thinking Slow to be hugely beneficial in improving this part of my mental models.

Think in opposites using inversion

Envisage the worst outcome you could get and how you could get there, and then do the opposite, this is called inversion. Inversion is also thinking backwards from the outcome to find the solution.

Munger is a huge advocate of inversion thinking and frames his positioning:

It is remarkable how much long-term advantage people like us have gotten by trying to be consistently not stupid, instead of trying to be very intelligent.

Simply working out what it is that you do not want to happen, can give a clear path of what not to do. Which then also provides a model for much clearer thinking for what you do need to do to ensure you don’t get the bad outcome.

Flexibility in thinking

Lastly, the world isn’t black and white. It is usually shades of grey. This means being prepared to shift your views. Shifting your mindset to a different model of thinking can mean you see problems and decisions in a way you couldn’t otherwise.

A great mental model to not be forgotten is to recheck your mental models constantly and consciously adjust them if needed.

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