Your business is your pride and joy. You’ve spent years putting in countless hours, physical labor, and passion into creating something successful. But labor and love aside, there’s something else you’ve likely put into your business—your personal wealth.
Do you know just how much of your net worth is tied to your business? For most, the answer is far too much.
It’s easy (and natural) to direct most of your resources into starting and growing your small business. Now that it’s become a sustainable entity, it’s time to turn your attention towards creating a properly diversified personal financial position.
To help, we’ll review what diversification means and how you can achieve it moving forward.
Diversification is an investment strategy that seeks to minimize risk and maximize return.
The concept is relatively simple. The trick, however, is applying it to your own investments. A lot goes into diversifying an investment, so let’s break it down.
Some may think that investing in a few mutual funds or ETFs will properly diversify their investments, but the problem is those funds may all track similar assets. Come to find out, you aren’t nearly as diversified as you imagined.
To truly diversify, invest in assets from different sectors, markets, economies, geographic regions, and more. Why? Because proper diversification should involve investing in securities (like stocks and bonds) that react differently to varying market conditions.
When reallocating assets in your portfolio, don’t forget to consider their geographic location.
Geographic diversification doesn’t always refer to where the company is based, as many U.S. companies garner a large portion of their revenue overseas. In a similar vein, locally-based companies are often dependent on a supply chain that spans the globe—something consumers have become deeply aware of during the pandemic, as labor shortages worldwide cause bottlenecks in the global supply chain.
It may be helpful to vary the types of companies you choose to invest in based on their global footprint. The revenue and supply chains of smaller companies, for example, may not be as impacted by supply chain issues overseas or pose the same type of geopolitical risk.
Preparing for Changing Economic Environments
Incorporate assets intended to maintain or grow in value during varying economic conditions.
For example, hard assets can help protect your wealth during inflationary economic environments—like the one we’re currently living through. Hard assets are tangible commodities that tend to keep their value and are typically meant to be held onto for long periods, including gold or other precious metals, real estate, collectibles, art, etc.
On the other hand, certain types of investments may perform better during deflationary environments, such as companies focused on technological advancements, alternative energy, or cost-saving automation.
Why Is It Important to Diversify?
Diversification is crucial for business owners because it provides a level of protection, and it also helps create a cushion should you experience significant cash flow issues.
You’ve heard the phrase “don’t put all your eggs in one basket,” right?
Consider this: Would you put all of your money into a single stock? What if that stock was in a risky company, instead of a mega-cap publicly traded ones like Apple or Bank of America? Unfortunately, many business owners end up doing just that by inadvertently investing only in their small businesses.
Creating a diverse portfolio can help ensure you have enough to enjoy retirement. While you may plan on covering retirement costs with the sale of your business, it’s good to supplement that with other avenues. For example, if the economy and market conditions aren’t favorable, having a backup plan can help make up the difference when the time comes.
How to Diversify as a Business Owner
Now that we’ve established the importance of diversifying, the next step is to implement it.
Start by evaluating your complete risk profile, including your business. This process asks you to consider your propensity for risk (risk tolerance) and your ability/need to take risk (risk capacity). There are so many nuances to how you approach risk as an individual investor and a business owner. In fact, we created a quick 9 question assessment to help you get started navigating this crucial criterion.
Once you’ve taken stock of your current asset allocation, turn your attention toward your retirement plan. Make sure you set aside ample savings in tax-advantage retirement accounts like a 401(k) or IRA and ask yourself,
How much are you currently contributing?
Do you know this year’s contribution limits?
For traditional and Solo-401(k)s, you may be able to contribute to your account as both the employee and employer — both with different limits.
With a SEP-IRA plan, you can contribute to your account on behalf of the company. The contribution limit is based on the net profitability of the company.
Can you increase your contributions to max out your retirement accounts?
From there, you can focus on the diverse investments to include in your portfolio. You might consider investing in alternatives like direct real estate, publicly-traded real estate investment trusts (REITs), or branch out to other industries of interest. At this point, it could be valuable to reinvest in your business, whether that means upgrading technology, hiring, product/service enhancements, team, and personnel development, etc.
Growing And Protecting Your Personal Wealth
The point of creating a diversified portfolio is to protect and grow your wealth outside of your business.
You can do that by owning the property where you run your business. Owning the building and/or property gives you an outside asset and enables you to increase your balance sheet by charging rent to the business and any other tenants.
Owning the space separately comes with several additional benefits, including increased estate planning flexibility and possible increased liability protection advantages for the company.
At the end of the day, small business owners need to keep their business and personal balance sheets separate.
Your total net worth should consist of your personal net worth plus the value of your business. Thinking of it this way is essential for diversification, estate planning, and risk management purposes.
How Toberman Wealth Can Help
Your financial plan serves as a guidepost to help you stay on a steady and productive path. We work with small business owners like you to determine how much wealth is tied into their businesses and how we can find intentional ways to reinvest using other avenues.
We’re here to help you understand, reevaluate and maintain your entire financial position. In doing so, we encourage you to consider your family the “holding company” for your business.
Because your family’s finances deserve the same amount of care and consideration as your business’s finances.
Reach out today to see how we can help balance your commitment to growing your business with protecting your financial future through family business planning.
Craig Toberman is the Founder of Toberman Wealth – a fee-only, fiduciary financial advisor based in St. Louis. He assists families and businesses with strategic financial planning and long-term wealth management. He has over a decade of experience in financial services and has crafted custom financial plans for hundreds of families and businesses.
Craig received a Bachelor of Science (B.S.) degree in Agricultural and Consumer Economics from the University of Illinois and a Master of Business Administration (M.B.A.) degree in Finance from Saint Louis University. He is a Certified Financial Planner (CFP), Chartered Financial Analyst (CFA) charterholder, and Certified Public Accountant (CPA).
Craig is a member of the National Association of Personal Financial Advisors (NAPFA), Fee-Only Network, and XY Planning Network.
Craig lives in the greater St. Louis area with his wife, Ally and son, Hank.