You’ve made it, now mind it

There are some common pitfalls entrepreneurs step into when investing. Not only is there a temptation to take a high-risk approach, but there is often a tendency among business owners to lean towards their own sector rather than diversify. The business and its unrealised value is often a significant portion of the owner’s personal balance sheet, too. This can be out of sync with the owner’s risk tolerance. So, following a sale or monetisation event, that personal balance sheet needs to be reviewed and, usually, rebalanced.

How do otherwise savvy professionals get into this situation? Well, business owners are by nature hyper-focused on their commercial objectives and operational challenges. Their psychology is such that when they are running the business, they find it difficult to pay attention to competing needs, such as personal wealth management and financial planning. In fact, those topics can seem like a distraction. Simply put: the business takes priority and everything else can wait.

But in our experience, this approach has obvious and predictable consequences. Time and again we see the same fundamental issues with how business owners manage their personal wealth:

- Concentration risk: property tends to be a favourite investment and often underpins not just the business, but the pensions and personal assets of business owners. Similarly, business owners may naturally gravitate towards investments in their own sector. Again, this concentrates investment exposure in the same area from which the business derives its income.

- Liquidity risk: businesses are illiquid. Property is illiquid. That means they are difficult to turn into cash quickly. The sale process for even an attractively valued, successful business can be as long as two years. Personal wealth should be liquid, so it’s available when needed.

- Lack of personal financial management: often we see that business owners are not doing enough to extract wealth from their businesses. Pensions are a great example. Business owners should look for opportunities to accelerate the funding of pensions where possible to convert enterprise value into personal wealth

- Fragmented advice: business owners often segregate where they will take their advice - not only between disciplines, but even between different firms within the same discipline. While specialists can be helpful, it is equally valuable to have a single point of contact that can offer a more complete, holistic view of both business and personal circumstances - and how the two interact.

The role of a wealth manager is to recognise, assess and deal with these risks, then co-ordinate the investment approach and execute. The personal balance sheet rebalancing exercise is an important part of this exercise for the sake of wealth preservation and protection. Irrespective of your chosen path, it is worth segmenting a portion of the value from your business into a mix of assets.

That could mean selling down a single stock investment that dominates a client’s personal wealth and diversifying into lower risk investments to de-risk a portfolio; it could mean recommending that a business owner engage separate tax advisers for their business and their personal needs; it could mean transferring assets between family members efficiently to avoid incurring unnecessary gift tax or CGT bills.

Ultimately, wealth managers need to answer to reality. We often split the proceeds of a sale into a safer, predictable growth portfolio alongside a satellite account for more speculative investments where the business owners can satisfy their risk appetite. In that way, the end of direct ownership can be the beginning of investment ownership.

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