Should You Take Money Out of Your Business?

Entrepreneurs are quick to reinvest profits back into their companies. But the key to retirement just might be outside investments.

Successful entrepreneurs often plow all of their profits right back into their companies. For many, the business is all, and the decision seems easy. But that strategy can actually result in prolonged periods of hard work that produce incremental riches you may not need or want. Diversification deserves some consideration.

More specifically, taking some money out of your company and designing an investment program that has a low correlation to its success may be key to a comfortable retirement.    This is an investment issue, but it is also a financial-planning one.

There is a variable utility function of money. This hypothesis states that your first million is far more useful than your fifth million. If your net worth is currently $4 million, what does earning $5 million do for you, really? A net worth that falls from $4 million to $3 million has a greater cost than the benefit of $4 million growing to $5 million.

This example makes the point that many smart business owners do not face. Exactly what are you trying to create by plowing all of your assets back into the business -- and at what peril? Many owners, whether rational or irrational, want to keep the business pumping out as much money as possible. They are entrepreneurs and risk takers, and continuing to build their businesses is a risk they are willing to take, as long as any business losses do not impinge on personal financial goals.

Most of the business owners I meet have done little personal financial planning. They do not have a personal business plan. Because many businesses take on a life of their own, the owner loses track of why he or she started the business in the first place. When this happens, it is clear that you are serving the business, rather than having the business serve you. If the business is a family business, you must see through the mirage that every generation is willing to subjugate the fullness of their lives to the business. They may balk at the opportunity. 

Small-business owners that are on cusp of achieving what they thought they could achieve, push the goalposts back -- almost always to expand the business. There is something to be said for goals, as long as you don’t jeopardize what you stated you really wanted. Most owners do want to reach some kind of retirement eventually. While some intend to die on the deck of their ship, many decide that there are things they want to accomplish beyond the business, from traveling the globe to nurturing relationships with their grandchildren. 

How? To do this without hurting their businesses, they need to have deliberately created an investment portfolio of public-traded securities to provide them with assets they do not have to take out of the cash flow of their business.

A publicly-traded portfolio of securities offers liquidity, flexibility, and diversification. The assets in the portfolio can be sold any given day. The holdings in the portfolio can be non-correlated to the owner’s business, providing some protection against business loss, and the portfolio can be broadly diversified.

To start, the owner can pay himself more, taking advantage of cash flow that is directed to a bank account or investment account. This is a fine line for a business owner to walk, but over time, it makes sense. Don’t squeeze the business, but pay yourself enough to create cash flow to your investment account.  As business owners, you need to know what you want, keeping in mind that greater business success may delay or derail plans But, if your goal is to retire when you are still healthy and vibrant and can do the things you and your significant others want to do, then at the end of the day your financial decisions are key to moving you to the goals you choose.