Some shocking news to you: Most business owners do not diversify enough. Most of their wealth is tied up in one big asset; their business. It’s an easy position to get into because all you hard work goes into making your business a success, and a successful business increases in value. Why wouldn’t you want to put all your eggs in this one big successful basket?
The only way to get it’s full value is to sell your business. But you’re not finished with it yet and you can’t sell part of an owner managed business with much success, can you?
When you’re growing, you need to reinvest profits to fund working capital, invest in equipment, or processes so it’s hard to squirrel away anything.
Let me illustrate the point with an example.
Imagine a business owner, Leslie. Leslie has built up a business from scratch, and it’s a successful one. It’s making £500,000 per year in profits, so let’s say it would be worth £2m. Leslie was told to only take out what she needs out of the profit. This means that her personal wealth is modest; £50k savings, £450k house, nearly paid for, and no other debt.
Leslie’s entire wealth at market value is £2.5m but 80% of it is invested in their business. If you had £2.5m of cash saved, would you really invest £2m in one business? Absolutely not!
When you’re a business owner, that’s what you end up doing. You have no choice, there’s nothing you can do, right?
Wrong! Here are a few ideas on what you can do to secure your wealth and diversify.
Risk Management – you’re risking a lot of your wealth in one giant asset, so look at what risk you can mitigate to reduce the chance of disaster:
- Make sure you’re fully insured for all eventualities
- Get your HR systems into a robust state
- Lock in key suppliers and customers
- Diversify your customer and supplier base
- Look after your key staff, and business partners
- Have a good shareholders agreement
- Make sure you have wills, life insurance, and powers of attorney for your business partners.
Ring Fence Key Assets – Protect assets that contribute to the value of the business separately:
- Move property and key machinery to a non-trading company or pension scheme, and lease it to the trading business – either held independently or with no loans between group companies
- Hold intellectual property in other entities independently.
Extract Surplus Cash – Don’t leave unnecessary cash in the trading business:
- Make pension contributions
- Provide services from un-connected companies and then invest in other area.
Release part of the equity – The right businesses can sell some of their shares
- Venture capital funding for growth and investor return;
Use appropriate finance – Don’t use you own money, you can then extract surplus cash
- Use working capital funding
- Use asset funding for plant
- Use term loans for acquisition
So now Leslie has a load of homework to do to diversify her wealth, while still focusing on her successful business. If you’re looking for help to set this up, contact us here or phone us at 0115 9415193.