Total balance sheet approach for a business owner

What is the concept of a total balance sheet approach for a business owner?

Think of your superannuation fund or SMSF. You will likely receive an annual statement and can quickly understand:

• The overall change in value from last year
• The percentage increase in value from last year, being the total growth
• The mix of assets, such as cash, fixed interest and equity
• The income generated by each asset class, such as dividends from shares
• The contribution to the income and total growth from each asset class.

As an example, your superannuation might look something like this (in $000s).

So, your superannuation fund generated a return after fees of 7.3%, made up of income and capital growth.

How does this compare to the return on the business (another asset class)? How much of your wealth is trapped in the business?

Consider the following example, with three asset classes including the superannuation fund, all evenly invested (in $000s). These returns are taken from our last article.

So, your investment property contributed an “inherently lazy” 11% with decent capital growth and marginal income given rental yields. In contrast, your business contributed a whopping 30.5% with strong income returns (business profit).

This is the total balance sheet approach to understanding and managing your total wealth, not just your super fund or property investments. Many financial advisors focus solely on the first asset class with little perspective about your broader investment portfolio.

The extra information might help with:

1. Focus on returns – our highest return came from our business. Does this correlate with our investment management time and focus?
2. Capital growth – what can we do to enhance our capital growth on our largest asset (the business)?
3. Asset concentration – are we comfortable with an increasing exposure to the business, being the least liquid asset of our portfolio? How can we reduce our exposure over time?
4. Distributions – do we distribute dividends to business owners or re-invest in our highest returning asset?
5. Marketability – how do we access the value of our biggest asset, either in total or little by little?
6. Protection – are we adequately protecting (insuring and de-risking) our largest asset class from a significant deterioration in value?

All businesses generate a return, but not all business owners think of this asset as an investment, nor treat it like one.

A private business is an illiquid asset. You can’t convert it into cash, at least not overnight and without a lot of preparation. The value (wealth) is trapped in your business.  

Next time we will explore the concept of creating liquidity from your business asset.