When you think of big money, whom do you think of? Jeff Bezos, Bill Gates, Warren Buffet.
Forbes 400 in 2020 (July 27, to be exact) listed up these three and 12 others having net worth of $45 billion or more, among the top 15.
What is the secret of big money?
First, they all are in business.
Second, they work to earn good sales margin and achieve high asset turnover, leading to higher Return on Investment (ROI).
Third, they make others’ money work for them.
Making others’ money work for you is employing loans or borrowed funds to finance your business investments/ assets, It is also known as employing leverage or equity multiplier.
Let’s take a look at leverage or equity multiplier of a select few, as of 12/31/2019.
The above table shows that these businesses are able to finance approximately 1/2 to 2/3rd of their assets from loans or borrowed funds. Their equity multiplier ranges from approximately 2 time to 3.6 times. What that means is that for every dollar of their own money invested, they are able to create assets of 2 to 3.6 dollars, by borrowing. Isn’t that smart? Certainly. This is indeed the greatest reason why someone should borrow and go into business or asset creation.
Service, howsoever coveted, being personal, goes and ends up with you. It can’t be left behind and passed on to your next generation like a business.
A question may arise:
How come they are able to get so much debt, but not everyone?
Well, you need a credible story.
A story of great vision, efficient operations and business success. A promise to payback, on time, in full. A strong track record to support the promise.
Indeed, the smartest person is one who taps unutilized or underutilized resources of others.
Loans given by others is the money that had been sitting unutilized or underutilized.
Regarding debt, there is, however, a caveat. Debt should be employed only if Return on Investment (ROI) is higher than the weighted Average Cost of Capital (WACC). Otherwise, debt may bring early demise of a business.
The statistics released by Small Business Administration (SBA) show that USA had 30.7 million businesses, as of 2018. 80% of those businesses are, ‘no employee’ businesses. The data released by U.S. Bureau of Labor Statistics show that 20% of new businesses fail in the first year. 50% falter by the 5th year and 2/3rd by the 10th year. But the most comforting is that new businesses launched each year tends to be larger than the closed.
In sum, the three key levers of business success and big money are sales margin, asset turnover and equity multiplier.
Note: This is based on my forthcoming book, ’The Wealth Builder’.
Dr Sat Parashar, PhD is former Director, IIM Indore. He teaches at University of California, San Diego, and is a Financial Services Professional. He may be reached at [email protected]