What sets the wealthy and the super-wealthy apart, is not just the volume of money that they accumulate, but how they manage it. I’ve studied the habits of billionaires like Warren Buffett, Bill Gates and others like them. They all share behaviours and habits besides creativity, determination to succeed and a desire to learn and grow from challenges. As significant in their success is how they manage their money to make sure that it’s safe, secure and invested to grow.
Financial success isn’t defined by how quickly they accumulate and spend money, but about respecting the principles and practices that protect it and allow it to compound and grow for the long term.
Some of these traits won’t be things you’d typically associate with a millionaire or billionaire. For the super-wealthy, money-management is more important than spending money.
Billionaires understand that it’s not possible to get more money or achieve financial stability or freedom until you can manage the money you already have. Many people think they have an income generation problem. In reality they have a money management problem that’s holding them back.
If people were better at managing, investing and leveraging their money rather than squandering and wasting it then there’d be a lot more millionaires in the world. This doesn’t mean being miserly with your money or scrimping and saving. It does mean understanding and managing it and using it in innovative and consistent ways to make it serve you for the long term.
With time, education and consistent practice of these habits, your wealth can grow too. You might not become a billionaire as a result of them, but you can benefit from the tactics just the same.
1. You MUST preserve capital at all costs
Most people get their hands on capital (usually their salary, dividends or drawings from their business or from selling things) and then spend it as quickly as possible. You certainly don’t need money in order to make money but it’s a FACT that money attracts more money to it. Consider investments that earn interest; if you’ve no money to invest in the first place, then you’ve no means of attracting the interest!
When you erode your capital (by spending it on liabilities like cars and consumer goods) then you’re disposing of your capital before it can attract further money.
People also fail to preserve their capital through impatience to do deals and bring forward future gains. Warren Buffett typically does only 3 deals per year. Even if he did them on different days, that’s 362 days in a typical year when he’s researching, reading, strategizing and planning, rather than actively doing deals.
I’ve been known to be impatient, particularly when my business partner Mark and I are investigating and evaluating business deals. While I’m naturally impatient to capitalise on what I perceive to be ideal conditions, Mark is usually more cautious and will ensure we go carefully. Things often improve, terms and conditions become better, prices can go down and we usually end up getting a better deal as a result of this caution.
Don’t be impatient to get into an investment or in a rush to get your money out again. Instead, use the time wisely to investigate, educate yourself and research the opportunities. ALWAYS preserve your capital.
“Rule number 1: Never Lose money. Rule number 2: Remember rule number 1” – Warren Buffett
2. Capital produces Income when invested in assets rather than liabilities
Billionaires avoid buying liabilities that depreciate in value and lose money. They prefer to buy assets with their capital that will generate income by appreciating in value (such as property that gains value) or generate revenue (property when it’s rented out).
When you preserve your capital by investing in an asset, it will likely appreciate in value over the life of the investment. In the case of something like a buy-to-let home, it can also pay you a regular income too. If you need to buy or lease a car (for instance) invest your capital in an asset like a buy-to-let house and use the income from that to pay for the car. While the car will inevitably lose value over time, your capital is protected in the property and can be recovered in the future. The house may have gone up in value too, generating even more capital in return!
Again, discipline and patience are required. In this example, finding and renovating the house, and renting it out could take time before it starts generating income. The end position will still be that you can fund your car, but while having also accumulated an asset and protected your capital in the process.
3. Don’t be unrealistic (or greedy!) about the return on cash
You can receive an infinite return on some investments. If for example you invest in a property, it may go up in value and you can then take your original capital out of it while retaining the investment property; a new asset. You can also get an infinite return on time invested in a project, if you use it to build a business or create evergreen assets like books that will generate income forever.
When it comes to capital invested in cash savings though, many get greedy or lose sight of what is realistic. A 5% return is typical and acceptable from ISAs and other managed funds. An expectation of 20%+ based on what bridging-lenders receive is ridiculous. They take risks in such lending and this isn’t how billionaires see returns on cash which are steady and relatively low (but still useful).
4. Understand what your burn rate is
Billionaires have a clear understanding of their burn rate as individuals and for their business. Burn rate is the amount of time over which capital reserves erode or get spent if they were the only means of funding fixed costs. Burn rate is measured in days, months, and then years.
If your business costs £50,000 per month to run and you have £500,000 in the bank, your burn rate would be 10 months. Your business can theoretically survive for 10 months without generating revenue. The same principle is true for individuals in understanding how long their capital could sustain them and their families based on current monthly expenditure.
Bill Gates was inclined to have 12 months of capital in the bank to sustain Microsoft through downturns and recessions. The higher the burn rate, the stronger and more resilient it makes the business or the individual.
5. Getting to zero – getting out of minus days!
The reality for many is that their first goal is to get out of the red and into the black.
If you’re in debt you have a negative burn rate and so the first goal is to get back to zero. It can be demoralising to have this as your initial target. If it’s the case for you, don’t be deluded but instead measure and monitor it and work towards zero. It’ll feel great when you get there.
As you pass zero you can then gradually go on to measure your burn rate in days, then weeks, months and years. Eventually you can target a burn-rate that equates to your predicted lifespan and beyond!
Around 3 years after I first became a millionaire I reached the point where my burn rate exceeded my lifespan. If I never work another day, I still have enough capital to meet the needs of me and my family for my lifetime; it’s a great feeling.
Beyond your lifespan, your target then moves on to build up burn rate for the life of your kids and so-on. Warren Buffett probably has a burn-rate over a millennium into the future!
6. Measurement and Management of cash – The Cash-flow Cycle
Billionaires know and understand the cash-flow cycle of their business and are constantly striving to improve it. If you buy stock on credit or get paid for sales in arrears, then chances are your cash-flow cycle amounts to a number of days (or weeks or months). During this time, you are effectively in debt until the money is received.
The optimal cash-flow cycle is a model made popular by Dell computers. Customers pay them upfront for a product that they don’t receive until later in the future. For the period between the sale and the product or service being in the hands of the customer, Dell have both the cash and the product they’d sold. This equates to minus cash-flow cycle days; the holy grail of cash-flow!
This is the same model as we’ve achieved through the training courses we sell through Unlimited Success, one of my companies. Course places are sold up front and delivered in the future.
Your aim should be to reduce the cash-flow cycle to as few days as possible (or even a negative number of days). A long cash flow cycle can really hurt you and your business.
Measure this as one of your KPIs.
7. Spreading and deploying your capital
Once you have a decent amount of capital, you must spread it across multiple investment classes, asset-types and banks. If all your capital is tied up in one investment class that suddenly devalues, becomes regulated or suffers some other adverse event, it would severely limit your flexibility and could erode your capital reserves.
There are security issues associated with having all your money in one account so you should have a current account, and a savings account and then further savings accounts with other banks. One bank may only guarantee funds up to a certain limit and a bank run could severely test and strain this; look at what happened in Greece!
The same goes for assets; if all your money were invested in a single watch and it got stolen then that’s all your capital gone!
Spread your capital across different investment types. Utilise ISAs, Managed Funds, Junior ISAs (that can be opened in your kids’ names) and in other asset classes too. All of these should be part of a strategy for spreading and deploying your capital effectively to protect it.
If you’re investing in property, you should spread it between commercial and residential property, and eventually like me you may decide to invest in classic cars, watches and art too.
None of this is an issue until you have capital to invest and spread around but the principle is the same for everyone.
Spread your capital or risk losing it!
8. Drawing versus retaining earnings from your business
Billionaires understand that wealth and financial stability comes from leaving some money in the business rather than drawing all the profits out. Retained earnings in a company are the profits, dividends or drawings that haven’t been taken out but which are kept as cash in the business. The optimum mix and the one that we strive for is to draw out 50% of profits and to retain the rest in the business.
Some take this to extremes and leave all the earnings in the business for years, wearing their deprivation as some sort of badge-of-honour. This is silly, and a business that can’t pay its people isn’t really a business at all, it’s a hobby. Such a business will struggle to grow its turnover and will never be saleable. Paying yourself and gradually increasing this over time, are important as an ultimate measure of progress and health of the business and your personal wealth too. Just as important is using the retained earnings to grow the business.
A balanced approach will grow capital reserves that can be used to extend burn-rate, invest in marketing, staff, equipment, new premises, or renovation to existing offices. My favourite approach is to invest in marketing and staff as means of growing the business.
Growth builds turnover, which grows profits, which in turn grows capital reserves and allows further business growth; and so the virtuous cycle continues!
The habits of billionaires
You have the choice to practice these principles in your personal and business finances, just as billionaires like Gates and Buffett have. Wealth is not just about building income; money management is equally critical. Billionaires understand that you need to have money before you can manage money, but you will also struggle to increase your wealth until you can manage the money you have.
In repeatedly practicing these tactics, they ensure that their income and capital grows and their long-term wealth grows too. Start building some of these practices into your life and I’m sure you’ll see the same effects in your finances!