The subject of running your own business comes up all the time whether online or offline. People will talk about needing good ideas, proper business plans, networking, dedication, ability to take risk and so on. However, it seems perhaps the most important ingredient -- frugalness -- is often overlooked because it is not a sexy topic of discussion.
If you have notions of starting a business, read
The Millionaire Next Door if you haven't already.
Chapter 1 is free at the New York Times. The chapters that follow do repeat the idea expressed in Chapter 1 over and over so you can skip buying the book if you get it the first go around. However, if you still need more reading reading material to hammer the point in, Thomas Stanley has 3 followup books --
The Millionaire Mind,
Millionaire Women Next Door,
Stop Acting Rich...and Start Living Like a Real Millionaire -- that repeat the first book. For quick studies, the first quote may be all you need:
Meet the Millionaire Next Door
These people cannot be millionaires! They don't look like
millionaires, they don't dress like millionaires, they don't
eat like millionaires, they don't act like millionaires--they
don't even have millionaire names. Where are the
millionaires who look like millionaires?
These books will repeat similar stats over and over. The majority of millionaires are your average neighbors next door living an ordinary life. The majority of them are business owners. 80% of them are new millionaires who inherited little or nothing. 20% of them are 1st generation immigrants. After a while, it can get rather tedious to read so my goal here is to bring the focus back to the most important points.
Running your own business has some superficial similarities to being a stock holder in publicly traded companies. What profits are leftover are yours. In the case of a stockholder, the U.S. stock market has returned roughly 10% per year this past century. But wait, that corporation has to pay taxes on profits before it can distribute dividends to shareholders -- there's 5% profit gone. Shareholders don't run these corporations directly -- instead, management from CEOs to middle managers have to be in place to keep the cogs turning -- another 10%. Finally, any major corporation employing thousands of people will have some inefficiency due to bureaucracy and office politics -- another 10%. Add it all up and someone in charge of their own business might see 35% return a year. (35% is about what my business has seen as revenue growth.) So if we compare the 2 situations over a 10 year span, the math might look something like this:
- 100K invested * 1.10 ^ 10 = 259K
- 100K invested * 1.35 ^ 10 = 2010K
According to these numbers, anybody running a successful business would be a multi-millionaire in no time at all! Obviously, this isn't happening. Some part of the 100K invested in a business is taken back out repeatedly to pay the owner's salary. By comparison, all 100K in stocks and bonds remain fully invested. If we wanted to factor for that, the formula might instead look like:
That number says an active business owner needs to keep 13% invested and can take 87% back out as his salary and do roughly the same as a silent investor. If I was an economist trying to build a mathematical model, I'd then throw in leverage (borrowing to start/grow businesses), salary levels compared to 9-to-5 jobs and a myriad of other factors -- but since I'm not trying to academic research, let's stop at this point and agree there can be nice financial rewards for business owners who find success.
The downside of course is risk. The typical advice is to avoid keeping all eggs in one basket -- for example, don't hold your employer's stock in your 401K. If your stocks drop in value, at least you have a paying job -- or vice versa, if you lose your job, your investment portfolio can still provide some income. But if you take the business route, you are concentrating risk with the hopes of higher rewards.
And businesses do fail -- very often. If you Google up the stats, half of businesses fail within 4 years and 70% fail within 10 years. There are lot of reasons why businesses fail -- Google again will bring up many articles talking about it. However, few mention frugality or lack there of. Many businesses fail not because the idea would not be profitable over the long run but because the owners' personal lifestyle and expenses could not survive any short term uncertainty. When your mortgage is unpaid because your customers are late paying you, you have no choice but to take a 9-to-5 job just to keep a roof over your head and food in your belly.
If in 20 years, Thomas Stanley is still writing these books and I meet his interview criteria, I would point out the following:
- Keeping disciplined personal expenditures means you can build up more investment capital to start a business. In my social circle, I know many recent immigrants who now are business owners. Did they hit up SBA or Angel investors or banks for loans? No way -- they instead worked menial jobs for 5 years or 10 years slowly saving up before they had enough.
- In the early days, it can be a long process to build up a reputation and a base of loyal paying customers. Some of our earliest clients took 2 years of negotiations while they were just waiting to see if our doors were still open and could be trusted with a business relationship. We took significantly below market salaries for almost a decade before finally hitting our critical mass -- without some degree of frugalness on the personal side, the pressure to get a regular job would have been too great.
- Even after your business starts to do well, the outside economy is beyond your control and business owners need to be prepared for it by saving up. Late 2007, we had trouble with our credit line due to contract language and the bank threatened to call the loan immediately. To tide us over this period, I loaned my company 125K until we got replacement credit. (Imagine what would have happened if we were still arguing about this after the Bear Stearns and Lehman Brothers bankruptcies.)
- Being frugal to save up reserves means you have the capital to take that next step. The cost of my overseas move to China was about 105K of which 95% was out of my pocket. What's my return on capital? 50% annually on the personal side for every year I live in China and perhaps 10% on the business side.
(Filed in business capital, philosophy)
Millionaire Next Door and Business Owners
Posted by Mossy
January 22, 2010 3:53 PM
If you have notions of starting a business, read The Millionaire Next Door if you haven't already. Chapter 1 is free at the New York Times. The chapters that follow do repeat the idea expressed in Chapter 1 over and over so you can skip buying the book if you get it the first go around. However, if you still need more reading reading material to hammer the point in, Thomas Stanley has 3 followup books -- The Millionaire Mind, Millionaire Women Next Door, Stop Acting Rich...and Start Living Like a Real Millionaire -- that repeat the first book. For quick studies, the first quote may be all you need:
These books will repeat similar stats over and over. The majority of millionaires are your average neighbors next door living an ordinary life. The majority of them are business owners. 80% of them are new millionaires who inherited little or nothing. 20% of them are 1st generation immigrants. After a while, it can get rather tedious to read so my goal here is to bring the focus back to the most important points.
Running your own business has some superficial similarities to being a stock holder in publicly traded companies. What profits are leftover are yours. In the case of a stockholder, the U.S. stock market has returned roughly 10% per year this past century. But wait, that corporation has to pay taxes on profits before it can distribute dividends to shareholders -- there's 5% profit gone. Shareholders don't run these corporations directly -- instead, management from CEOs to middle managers have to be in place to keep the cogs turning -- another 10%. Finally, any major corporation employing thousands of people will have some inefficiency due to bureaucracy and office politics -- another 10%. Add it all up and someone in charge of their own business might see 35% return a year. (35% is about what my business has seen as revenue growth.) So if we compare the 2 situations over a 10 year span, the math might look something like this:
- 100K invested * 1.10 ^ 10 = 259K
- 100K invested * 1.35 ^ 10 = 2010K
According to these numbers, anybody running a successful business would be a multi-millionaire in no time at all! Obviously, this isn't happening. Some part of the 100K invested in a business is taken back out repeatedly to pay the owner's salary. By comparison, all 100K in stocks and bonds remain fully invested. If we wanted to factor for that, the formula might instead look like:- 13K * 1.35 ^ 10 = 261K
That number says an active business owner needs to keep 13% invested and can take 87% back out as his salary and do roughly the same as a silent investor. If I was an economist trying to build a mathematical model, I'd then throw in leverage (borrowing to start/grow businesses), salary levels compared to 9-to-5 jobs and a myriad of other factors -- but since I'm not trying to academic research, let's stop at this point and agree there can be nice financial rewards for business owners who find success.The downside of course is risk. The typical advice is to avoid keeping all eggs in one basket -- for example, don't hold your employer's stock in your 401K. If your stocks drop in value, at least you have a paying job -- or vice versa, if you lose your job, your investment portfolio can still provide some income. But if you take the business route, you are concentrating risk with the hopes of higher rewards.
And businesses do fail -- very often. If you Google up the stats, half of businesses fail within 4 years and 70% fail within 10 years. There are lot of reasons why businesses fail -- Google again will bring up many articles talking about it. However, few mention frugality or lack there of. Many businesses fail not because the idea would not be profitable over the long run but because the owners' personal lifestyle and expenses could not survive any short term uncertainty. When your mortgage is unpaid because your customers are late paying you, you have no choice but to take a 9-to-5 job just to keep a roof over your head and food in your belly.
If in 20 years, Thomas Stanley is still writing these books and I meet his interview criteria, I would point out the following:
(Filed in business capital, philosophy)
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