Today, I’m going to share with you one of the best pieces of money advice I’ve ever received!
This advice came to me from a small business owner I used to work for. I was just out of high-school, living in a small town without many employment options. He was a gruff unfriendly boss that owned the local deli. He was known for being a difficult guy to work for, but his checks never bounced, and his business is still in operation today. He was one of those millionaire-next-door guys, that owned multiple businesses in town…and I was cleaning his floors (saving for college).
Normally he didn’t talk about money openly, but one night (while I was mopping the floors) he struck up a conversation with me. He asked, “Mr. Tako what are you doing here mopping my floors. You’re a smart kid. Shouldn’t you be going to college?”
During our short conversation, he found out I was going to college on student loans, and my meager savings. I’m not sure if it was pity or a sense of giving-back, but the man decided to give me some advice. It was very good advice, but took almost a decade before I truly understood its meaning.
Those words of advice changed my life, and made me a better investor at the same time. For those reading this, I’m going to pass on that advice for free:
“Run your life like a well-run business. Do that, and everything will turn-out OK.”
Maybe everyone will shrug their shoulders and say “Yeah, that’s obvious Mr. Tako”, and then close the browser window. Thanks for shopping folks! It’s not as easy as you think. Actually implementing this piece of advice takes hard work, and requires skills that take a lifetime to master.
What’s A Well Run Business?
The first big challenge to understanding this advice is understanding what a well-run business actually is. Unless you’ve run a business yourself, you might not know these things. A well-run businesses does a number of things financially that are implementable, repeatable and keep the business healthy. For those of you still stuck in the 8am-to-6pm wage-slave hell, pay attention…this is usefull stuff!
Our family implemented many of these ideas many years back, to great success. We are definitely seeing the benefits today.
Let’s look at some of those attributes and how you can put them in place in your life.
Grow Revenues Faster Than Inflation
Good businesses grow revenues at rates that exceed inflation. As everyone knows, most business don’t hand out raises that exceed inflation very often. It’s really hard to get big raises from most companies. To do so consistently is nearly impossible. You really have to become one of the select few ‘special’ employees for that to happen. Back down on earth, the normal folk are stuck with 2-3% yearly raises.
Don’t stress over this, and don’t kill yourself working 80 hour weeks (unless you want to). What you can do is keep your top-line income growing by building your income from side-gigs, investments, rental real estate, and other small businesses.
As you begin to grow your income, check your progress every year against published inflation statistics.
Keep Cost Low and Profit Margins High
Well run businesses have high profit margins because they keep their costs low. In your own life, profit margin is essentially the same as your savings rate. The bigger the savings rate, the better (as far as I’m concerned). As I’ve said in past posts, once you reach a savings rate of 50% or more things really get moving!
Talk seriously with your significant other about how to get your savings rate up. It’s important that everyone be on the same page.
Keep Employees Happy Without Spending A Ton
Cutting costs can sometimes go too far, and companies will lose employees. The best businesses find unique ways to retain employees without breaking the bank. The best businesses are experts at this.
Some companies have annual retreats, special gifts, or unique employee benefits to keep everyone happy and working hard. Your ‘Employees’ in this context are you and your family.
Maybe your family goes on long adventure-filled vacations, or maybe you volunteer for local charities together. Keep things creative and interesting by focusing on experiences, not material things. Keep the costs low, and find a way to keep everyone happy, and working towards financial independence goals (or maintaining that status once you’ve achieved financial independence).
Diversify Your Business
Strong businesses are diversified into many different products. If one product-line runs into trouble, there are others that can keep the company afloat. For an individual, this means multiple streams of income.
We’ve mentioned this one before, and also as part of growing your income. Must be important if it comes up multiple-times!!
Keep your day job, but build-out those investments to start generating cash. Our family started with stock investments and preferred shares, but many people go the real estate route. Others start a small business, or any number of other side-gigs.
Keep Inventories Low
Inventory is just money sitting on a shelf earning no interest. The best businesses keep their inventories low and do as many inventory turns (buy, sell, then restock) as possible. At home, you can think of your inventory as all the stuff that sits in your closets and pantry. That’s money just lying around doing nothing! Got too many cloths or unused hobby equipment? Sell it on craigslist, and put that cash to work. A side-benefit: you’ll need less real estate to store it.
Important Note: Some of the time, it makes sense to keep a larger inventory if the discount for buying in bulk significantly exceeds your risk free rate. In our house, we look for bulk discounts that are 2 times our risk free rate multiplied by the number of years we can expect to maintain this inventory. In our house, this usually is about 14% (2 x 7% x 1 year). Why 2X? To account for wastage, spoilage, loss, or other accidents. Get your toilet paper in bulk when it’s really on sale.
Debt to Asset Ratio
Good businesses keep debt to asset ratios lower than 50%. This means more assets than debt. Why is this important? Stability. Businesses with low debt levels are inherently more stable, and can better handle changes in the business environment.
Anyone that’s reading this with real estate investments is already raising their finger going “But Mr. Tako, what about…” Yeah, I know, I know. People who buy rental real estate frequently have debt levels far higher than this. It’s inherently risky, and a lot of financial leverage. If you have a small numbers of rentals in one city, your success is inherently linked to the local economy. If anything were to go wrong, you’d be in deep trouble. For all the skeptics on this point, go take a look at the debt levels of the best publically traded REIT’s vs. their total assets. Those that powered through the last recession had a debt to asset ratios of less than 70%.
Be The Low-Cost Provider
When business is in the dumps (due to a recession, or god forbid, a depression), the low-cost provider usually survives. This is the grocery store that has the lowest prices. The neighborhood restaurant with the most efficient operation. Typically, the low-cost provider has few debts (see previous), and low financial obligations that allow him to price his products lower when times are tough. What this means for individuals: keeping your financial obligations low, so you can survive on a lower paying job, if necessary.
There’s lots of people in the United States that lost houses in the 2009 recession because they couldn’t keep up with the house payments. I hope they learned this lesson well.
Make Good Investments
Great businesses constantly and consistently make great investments. If a company retains earnings instead of paying dividends, they need to put that money to work as best they possibly can. The metric used in businesses is Return on Invested Capital (ROIC).
Guys like Warren Buffett are huge fans of this measurement. If a company invests in failed ventures time-after-time with poor return, they’re just wasting shareholder money. If the ROIC does not exceed the risk-free rate, it’s just a waste of money.
Businesses that make solid investments with excess cash, time after time, are the ones to emulate. How to do this in your own life? Learn to invest, and do it well. This will take a lifetime to master. Start by reading. I have a few books on my book recommendations page you should check out.
Grow Value Consistently
Well run businesses growth their value year after year. Great investors look at “growth in book value per share” when they evaluate business investments. For individuals, this means growing your net worth consistently year after year. This growth rate should exceed inflation. If you aren’t tracking your net-worth, I suggest you start! What gets measured, gets managed.
Set Business Goals
All good businesses have goals they set to improve. You’ve probably been in one of those meetings where management walks you through their goals for the year. It was probably boring as hell, and you might have dozed-off during the meeting.
Regardless, goals are an important part of putting human energy in motion. Setting goals and working toward them works even better on a smaller scale – like an individual or a family. What will your goals be? Will you set a FIRE date? Will you set a savings-rate goal?
That’s Not All Folks
These are just a select few attributes of a well-run businesses. Attributes like employee diversity, pay equality, and employee health ARE definitely important to well-run businesses, but less likely to make sense in the context of this post.
We chose to talk about the ones that made the most sense in the context of our financial independence. The Tako family put these attributes in place over time, and it paid-off for us. I think it definitely can work for you too.
Can you think of any other attributes of well-run businesses that will help you gain financial independence?
[Image credit: Wikimedia Commons, mods by Mr. Tako]
[Image credit: Wikimedia Commons via Flickr Bot, mods by Mr. Tako]