One of the major perks of entrepreneurship is the potential for complete financial freedom. There are numerous incentives that drive entrepreneurs--including the desire to change the world--but all are well aware that their efforts can result in financial security.
As a result, there is a proclivity amongst founders and business owners to optimistically bet everything on their own businesses. Their optimism drove them into business in the first place, and in many cases that blind conviction that it will succeed is the only thing that drives it forward. But when it comes to financial management, the best bet isn't necessarily to put everything in your business.
Not every startup gets a $100 million valuation and a buyout offer from Google. In fact such stories are the exception, not the norm.
To learn about mistakes entrepreneurs make with personal investing, I spoke with Paul Adams, the CEO and founder of Sound Financial Group, a 35-person team that manages over $350 million for their clients, many of whom are entrepreneurs.
Adams says that it is in our entrepreneurial DNA to approach investing in a wrong way. "Entrepreneurs are used to having control of nearly all aspects of their lives. And in many ways they are. But that's not true when it comes to selling their companies. At the end of the day, we have as much control over our company's sale price as we do over the rise or fall of Microsoft's stock price."
As a member of the Entrepreneurs' Organization, Adams has immersed himself in startup culture and surrounded himself with some of the world's top founders. He has seen first hand the top misconceptions about personal investing that pervades that group of people.
Here are the top three misconceptions he hears from entrepreneurs:
1. "My business is the best place to put my money."
Many entrepreneurs out there think that investing money back into their growing business is the best place for their money. Here's what they don't realize according to Adams: "Investing money into a company doesn't necessary guarantee a steady return for life. It may grow the company and your income stream, but when it comes to selling the company, that's when you can really run into trouble and the reality that your company is only worth what someone else wants to pay."
2. "I don't need that much to retire."
It is recommended that you count on a distribution rate of 4% on your total assets invested. This means that if you are a small business owner, earning $250,000 per year, and you sell your company,you will need at least $6,000,000 invested to be able to sustain the lifestyle that you've grown used to. Adams says "When you sell a business, that doesn't necessarily guarantee your retirement. It just guarantees your unemployment."
3. "My net worth is 1 zillion."
Entrepreneurs like to exaggerate. It's just their nature. Sometimes this is done as a form of chest beating and bravado, but at other times it is simply because they don't know how to accurately calculate their net worth. Adams says, ">"One of the biggest mistakes founders make is thinking their equity stake in their business automatically adds to their personal net worth. If your business sells for 1/2 or 1/4 of what you hope, how many of your future plans have to change? We tell our clients, you retire on your personal balance sheet, not your business balance sheet."