I recently spoke with a fellow CEO about an opportunity he was given to buy back equity in his company from a few outside investors. The question my CEO friend kept coming back to again and again was whether it was a wise decision or not to invest in your own business.
Generally, my advice is yes — whenever you get the chance to secure equity in your company, do it. This is likely your best opportunity to create life-changing wealth in the right circumstances. However, you must keep a few risk factors in mind before making that decision.
Let’s discuss.
Mitigating Factors
Before making any decision to purchase additional equity in your company, you need to consider several factors by answering a few key questions.
1. Is the company in a distressed situation?
In other words, is the business going through a turnaround? This means that money might be tight and the future of the business is uncertain. Investing in a company going through this phase is extremely risky and might not be a sound decision. However, as CEO, if you have confidence that the financials are trending in the right direction, this could be a tremendous opportunity to buy. Fortunes are made by investing in turnarounds — but only if you know how things will improve moving forward.
2. Do you intend to stick around?
This question might apply more to professional managers. But if you have only a short time horizon with the business, it’s probably not worth investing in it — especially if you must sell other assets or take out a loan to fund your stake. If you’re not going to be there to assert decision-making control, it’s probably not the best path for you to take.
3. Is there a clear path to liquidity?
If you’re going to invest in your company, you need to understand whether there is a clear exit path. If most of the business is owned by a family, for instance, and you know they have no plans to sell any time soon, you might want to reconsider investing in the business unless you can get a guarantee that the family would buy your stake when you’re ready to sell. The worst position to find yourself in is when you invest in the business but have no way to get out of it when you’re ready — it’s like that ad where roaches check in, but they never check out!
Beating the Market
Once you’ve addressed the mitigating factors in investing in your business and you still believe that it has a clear upside and a path to generating more value in the future, it’s worth understanding what investing in your business might mean.
The fact is that investments in private companies can generate much higher returns than investments in public companies, with the added benefit that, by doing so, you are betting on yourself.
As the CEO, you have control and insight in areas like forecasts, budgets, employees, and customers, giving you a unique picture of the company’s potential. Suppose you believe the arrow is pointing up for the company’s future potential and you plan to capitalize on the numerous opportunities ahead of you. In that case, you’d likely be hard-pressed to find a better investment opportunity.
Beware of Concentrating Your Wealth
You must also consider one other mitigating factor when it comes to investing in your business: Is your wealth too concentrated?
For many entrepreneurs, 90 percent of their wealth is tied to the value of their business. This puts them at risk of losing all their wealth should something happen to the business.
So, before you make any additional investments in your business, consider the implications for your balance sheet and look for potential ways to mitigate the risk in your portfolio.
Doubling Down on Yourself
Ultimately, my CEO friend decided to invest more in his company by buying shares from outside investors. He also negotiated terms where he had the right of first refusal to buy those shares for himself when those investors were ready to sell more shares in the future.
He doubled down on betting on himself. And if that bet pays off, he will have made himself wealthy.
So, the lesson is that if you can invest in your company in a way that falls within the boundaries of personal risk management, you should make that bet every time.
