I recently had the privilege of working with a client who is opening her own business. It’s rare that entrepreneurs seek financial advice before they leap. Most people, if they looked too hard at the realities of business ownership, wouldn’t do it.
One of the goals in our pre-launch work is to find some financial clarity about what her investment is, and what an acceptable rate of return is. If you buy $10,000 of mutual funds, it’s fairly simple to determine if your investment is earning 10%, 5% or losing 25%. But investing in a business has so many other components to it.
- The lifestyle component: how much you would be willing to ‘pay’ to do what you absolutely love and be your own boss.
- The opportunity cost: the difference between the salary and benefits you are leaving behind and the salary and benefits your new business will be paying you.
- Building a sellable asset: are you creating an asset that can eventually be sold and sold for how much?
If you’re considering opening a business, here are some great questions to ask yourself before you leap. What if things don’t turn out the way you planned? What if your business ends up costing you money? Would you be willing to give up a $70,000 job if you could own your own business and still earn $50,000 with the potential of building a sellable asset? Probably. Would you be willing to do the same if you were only able to earn $20,000, or $10,000?
What if your business actually started costing you money?
In accountant-speak, that’s called “Owners Investment” and it’s hidden in the balance sheet in the equity section. I hate that. What it really means is that your business didn’t earn enough to pay all of its commitments so you’ve drawn from your savings, your spouse’s income, your home equity line or even a retirement fund. When a business owner takes $1,000 from their personal account and puts it in their business account, they aren’t thinking “oh, I’m buying a $1,000 investment that will pay me a good rate of return.” They’re thinking “oh, I have to cover the payroll shortfall today.” Technically it’s an investment, but emotionally, it’s not.
How many of us would run down to the bank to transfer $1,000 of our money to buy more of a mutual fund that wasn’t performing? None. What if the fund manager promised us that it would perform better? There’s a continuum on the scale of emotional investing. It starts with mutual funds, and then specific stocks (and you crazed Apple fans know who you are), then real estate, and then business ownership. The closer we are to the asset, the more emotionally tied we become to the investment, and the less able to make analytical decisions.
Should your investment decisions be purely analytical? Nope. But they shouldn’t be purely emotional either.
I love Planet Money, NPR’s economics podcasting team. They can make you actually understand what a credit default swap is. And, they make it entertaining. Fun!
This podcast explained exactly how China manipulates their currency, and what that means to everyday Americans, and everyday Chinese. It was fascinating. If you like that kind of stuff, here it is:
But if you just want the cliff note, the part I found so stunning, it is this. They were talking to a small business owner that manufactures his his product in China. No surprise. We all know much of what we buy is manufactured in China. You don’t have to be an economist to know it must be way cheaper to manufacture in China. What I didn’t know was how much cheaper.
90%. That is stunning. If you were a mattress manufacturer, and could sell a mattress for $1,000, would you pay an American company $500 to produce it, or a Chinese company $50. Duh. I had no idea that it was that much cheaper.
How do we reduce the carbon footprint of global manufacturing when individual business owners are faced with such temptation?
Some people think of April 15th as an icky day. I see it as our collective moment of financial clarity. Tax day is the one day that we all know exactly how much our businesses earned, or didn’t earn, last year. Want even more clarity? Take a quiet moment and do this exercise:
Want monthly clarity? Subscribe to our blog and we’ll send you a packet of 12 Monthly Clarity Cards. Want even more clarity? Contact us for a 30 minute complimentary session, and we’ll walk through the results of your Annual Clarity Card with you.
I often begin my speaking engagements to business owners with the following:
“Hey, I have a really great job for you! You are going to be doing exactly what you love to do. You won’t have a boss. You’ll get to set your own hours. Some months I’m going to pay you a whole bunch of money! But, then there’s probably going to be some months that I won’t be able to pay you. Well, maybe a little, but not a lot. But I’m sure I’ll be able to catch up eventually. —- Will you come work for me?”
Did I just describe the salary structure you have in your business? If you laughed, I’m guessing: yes, it is. If so, read on.
I was working with a client of mine who has a goal of a $200,000 annual salary. She works in a field where it’s possible; it will take some hard work, but it’s possible. What kind of salary would that be? $16,666 per month. Her business will need to generate well over that to produce a net profit of $16,666 on a monthly basis.
So why would I advise her, for now, to pay herself a $1,000/month salary, no more, no less? Because it is an amount that she can successfully practice doing. She’d been paying herself big chunks of money when money came in, and then barely any at all for weeks, sometimes months. You don’t get into shape by exercising a whole bunch in one week and then not at all for another several weeks. When our businesses pay us large amounts during one good month, and then don’t pay us enough to meet our monthly needs in other months, we get out of shape, out of sorts, out of hope. Knowing what your monthly salary is, and sticking to it, no matter what, gets you and your business into shape.
She kind of thought I was crazy, or stupid, when I gave her the assignment. She did it imperfectly at first, and then she started doing it perfectly, and then, all of the sudden, she got it. It all became clear to her. It is the simple and mindful acts, taken consistently, that propel us forward in our lives, and in our businesses.
Lisa Nichols, in No Matter What, refers to the honesty muscle as a critical component of moving forward in our lives. To get to where we really want to be, we have to know where we are; we have to be honest with ourselves. When it comes to our finances, this can be extremely challenging on many levels. To know where we truly are means that we have to discuss money, a very private, personal, and sometimes painful subject. Where exactly do we do that?
A success of Financial Boot Camp is that it gives people a forum where they get to – and have to – talk about their own money. In the first few sessions, it’s a challenge to convince the group that its not only ok to talk about their own money, but also to ask each other direct questions. We’re raised in a society that frowns on open discussions about money, yet we’re expected to know how to manage it. In the Boot Camp group we’re working with now, honesty has appeared in a number of ways:
- Some have been honest with themselves and the group that they really don’t like how they are earning money;
- Some have been honest with themselves and the group that how they have invested money makes them unhappy and discontent; and
- Some have been honest about their lack of clarity with their monthly spending.
Some of the group, if they had listened to their own little voices, knew these things before Boot Camp. With some, you could see the light bulb of honesty and realization come on right before our very eyes. To get to where we really want to be, we have to know where we are; we have to be honest with ourselves, and sometimes others. Each one of the Boot Camp group has used that honesty to make movement in their lives, movement toward where they really want to be.