Sunday, March 13, 2011

Know Your Limits On Investing In Your Business

"If you must play, decide upon three things at the start: the rules of the game, the stakes, and the quitting time." ~Chinese Proverb

Good investment decisions take into account how much you can afford to lose. I have seen friends continue to gamble after losing all their money in the hope that they will recover their past losses. Instead, they just end up further in the hole. The same analogy can and should be applied to investing in your business.

Lately, at the Jim Moran Institute, we have run across many entrepreneurs who keep sinking money into their failing businesses in the hope they will somehow recover their investments. In one case, a retail store with a 20-year history of success had been devastated by economic conditions. In the past three years, their sales had plummeted and cash flow was nonexistent.

The owners had already sunk every cent they had into the business, including all of their retirement. Now they were looking for a family member to co-sign a very large bank loan. They thought that if they kept feeding the business, it would eventually turn itself around.

After lengthy discussions with the clients, I quickly realized there was very little hope that the business would survive. In fact, it really should have closed down years ago. Instead, the owners kept on throwing good money at the business in a desperate attempt to save it.

Had the owners limited their exposure, or the dollars they committed to the failing business, they could have preserved their retirement and some of the assets. Instead, they lost everything and had no choice but to go through the tough process of bankruptcy.

When investing in the stock market, a stop loss order can help limit an investor’s exposure to loss. If a stock starts to fall in price, it will automatically be sold when it hits the value specified on the order. Stop loss orders take all emotion out of the sell decision.

The concept of a stop loss order can be applied to business decisions. When acquiring any asset, you must determine how much loss you are willing to take before you liquidate the investment. By setting limits on how much you are willing to lose, you can protect the remainder of your assets.

Another entrepreneur we assisted set a cap on the amount of personal funds she invested in her web application venture. She agreed that once she had put in $100,000, she would stop, no matter what happened. She was supposed to break even at a $50,000 investment. Once she had set these limits, she felt much more confident because she knew her losses would be capped.

Now go out and make sure that you take emotion out of the equation and reduce your risk of exposure by assigning a limit to all your new investments.

You can do this!

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