#BusinessOwners #AffordingPay #OperatingLoss #FinancialStrategies
As a business owner, operating a business that consistently loses money year after year can be a daunting challenge. It may seem puzzling how these entrepreneurs can continue to afford to pay themselves despite the ongoing financial setbacks. Let’s delve into the intricacies of this financial dilemma and uncover the strategies employed by business owners to navigate this challenging situation.
How Business Owners Afford to Pay Themselves Despite Operating Losses
When a business is consistently operating at a loss, it can be perplexing to understand how the business owner is able to continue paying themselves. However, there are several financial strategies and mechanisms that can be implemented to mitigate the impact of operating losses on the business owner’s personal finances. Here are some key considerations to understand how business owners afford to pay themselves despite ongoing financial deficits:
Personal Savings and Assets:
In many cases, business owners may rely on their personal savings or assets to supplement their income when their business is struggling to make ends meet. This could include savings accounts, investments, real estate properties, or other valuable assets that can be liquidated or leveraged to generate income.
Example:
– The business owner may use their personal savings to cover their living expenses and other financial obligations while the business is operating at a loss.
– If the business owner owns a house, they may rent out a portion of the property to generate additional income to support their personal finances.
Side Income and Investments:
Business owners may explore alternative sources of income through side businesses, freelance work, or part-time employment to offset the financial strain caused by their struggling business. Additionally, they may invest in diversified income streams or assets to generate passive income and reduce their reliance on the underperforming business for personal financial stability.
Example:
– The business owner may take on freelance projects or consulting work in their industry to generate additional income outside of their main business.
– Investing in stocks, bonds, or real estate properties can provide a supplementary source of income to support the business owner’s financial needs.
Business Loans and Lines of Credit:
In some cases, business owners may seek external financing through business loans, lines of credit, or personal loans to bridge the gap between their business expenses and revenues. While taking on additional debt may seem counterintuitive, it can provide the necessary liquidity to sustain the business and support the owner’s financial well-being.
Example:
– The business owner may secure a business line of credit to cover operational expenses and salary payments during periods of financial shortfall.
– Personal loans or credit facilities may be utilized to meet personal financial obligations when the business is unable to provide sufficient income for the owner.
Budgeting and Cost Management:
Implementing stringent budgeting practices and cost-cutting measures within the business can help business owners minimize their personal financial strain in the face of operating losses. By optimizing operational efficiencies and reducing discretionary expenses, the business owner can free up resources to sustain their personal livelihood.
Example:
– The business owner may renegotiate supplier contracts, streamline production processes, and eliminate non-essential expenses to improve the business’s financial performance and secure their own income.
– Personal budgeting techniques, such as reducing unnecessary spending and prioritizing essential expenses, can help the business owner manage their personal finances effectively during challenging times.
Long-Term Financial Planning:
Looking beyond the immediate financial challenges, business owners may employ long-term financial planning strategies to weather the storm of operating losses and secure their financial stability in the future. This could involve diversifying their investment portfolio, building emergency funds, and seeking professional financial advice to navigate the complexities of their financial situation.
Example:
– The business owner may work with a financial advisor to develop a comprehensive financial plan that takes into account both the business’s performance and the owner’s personal financial goals.
– By making strategic investments and creating a financial safety net, the business owner can proactively safeguard their personal finances against the uncertainties of their business’s financial performance.
Conclusion:
Operating a business that consistently loses money year after year presents a formidable challenge for business owners, especially when it comes to sustaining their own livelihood. However, by leveraging personal savings and assets, diversifying income streams, exploring external financing options, implementing cost-management strategies, and engaging in long-term financial planning, business owners can afford to pay themselves despite the financial hardships faced by their businesses.
Moreover, seeking professional guidance from financial experts and remaining adaptable in the face of adversity can empower business owners to navigate the complexities of managing their personal finances in tandem with their struggling business. By embracing financial resilience and adopting prudent financial strategies, business owners can pave the way for greater financial stability and endurance in the face of operating losses.
They can’t afford to pay themselves, they live off their savings and whatever they can borrow until there’s nothing left, then they have to give up, go out of business, and get as job someplace else.
Where the question has a bad assumption is that most smart business owners pay themselves *before* they pay other stuff. What this means is the “salary” of the business owner is the most important “operating expense”.
So your analysis which places that out of proper order isn’t really a good example.
Something more realistic, let’s assume in a service industry that doesn’t require massive investment in inventory, is:
* You float a loan for $100K to start your business. If your income was only expected to be $4k a month, ***you’d never get the loan***. So you can prove you’ll make $15K a month through your business case, and you have collateral such as equity on a house, and so you can actually get a loan.
* Your business has an income of, say, $15K a month. (That’s only $500 a day in revenue).
* Of that, you immediately take $4K from that monthly income as your own “salary”. You have $11k left. IT COMES OFF FIRST because you yourself are an “operating expense”.
* You then pay $5k of operating expenses for the rest. You have $6K left.
* You pay some of that, say $3K, toward servicing your debt. You have $3K left.
* Then there’s taxes, and however they work into the mix if applicable.
* **NOW THE ANSWER TO YOUR QUESTION:** If the total above is over $15K a month, you’re a business that is LOSING MONEY but your business can still survive a long time. You might have to reschedule a longer loan payment, or make some compromises on operating expenses. You could do some work “under the table” to avoid business taxes and not declare some of its income. There’s other tricks, as long as it doesn’t lose TOO MUCH money in too many months in a row.
* Anything left after that can get invested into the business to help grow and promote it, or you can take it yourself, or you can expand your stock…. whatever. That’s your cushion.
Your initial numbers don’t make a case for a business that could ever get a start-up loan.
The really short ELI5 is that they start with a fund (typically a loan or maybe their own savings). They operate the business and pay themselves out of that fund, and they gradually run that fund down to nothing. Then they go bankrupt.
It depends on a lot of factors and a lot of very fun accounting.
If you’re legit, open the business run it until you feasibly can’t anymore then close up shop.
If you want to abuse the system, you continually say you’re opening at a loss while seemingly everything has linked itself to you and then when everything thinks you might be profitable you tell them you are continually reinvesting in the business and then you just become a beggar looking for “angel investors” when in reality you’re probably using Hollywood style accounting to continually operate at a loss. Look at Netflix. IIRC they haven’t ever actually been (on the books) profitable.
I worked in a startup before. Our salary takes precedence (including the owner) to other expenses. So even if the PnL is negative for the month, it’s been factored in into the expenses. As long as we’re positive at YE, it’s all good. If not, last year’s income will absorb it, the current year’s loss.
There’s also a liquidity ratio that i maintained to ensure that we all get paid on time.
If that’s insufficient, then it’s line of credit.
My old boss would take money out of the business account for anything he needed personally. Anything from bills, food, gas, all living expenses. This also the same guy who would bitch that he didn’t get a paycheck while the employees did. (LIKE WHAT!?!) Also the same business that wouldn’t/couldn’t pay the employees on time consistently because of piss poor book keeping. Definitely not the correct way to run things obviously, but that’s what happened. Small business, total people working including office was like five when I left.
They don’t. They either work a job as they start a business or they are wealthy to begin with and they live off their savings.
TL;DR: they just borrow more and more until the party stops.
Actually, that is *partly how* businesses lose money. In short, it’s borrowed. Publicly traded cos trade shares for equity infusion, and then they do payroll from that. When debt climbs and climbs the company collapses at some point — generally when lenders see that there is little chance of being repaid and so no more loans are made.
The wonders of bankruptcy laws often allow debt to be repaid at pennies on the dollar, or not at all. Then it’s, “Let’s break open the champagne, issue some more shares and keep doing this crime we call business…”
There isn’t an infinite supply of money just because you run a business. There is a really simple formula, profit = sales – expenses. But a particular business might not be profitable , but still have money to play employees, management and a dividend for owners.
The extra money can come from savings the business made during good years, loans or even selling partial ownership to other investors.
For example Apple famously has a massive cash reserve they could use that to pay owners (shareholders) a dividend. Or a cartography company such as navtech that was involved in the early days of building the road mapping database many gps systems use. They operated for years (decade?) before they had something to sell. Relying on loans and investor money.
Every situation is different. There’s no set formula for starting a business and managing the money you initially put in it.
I once worked with a startup founder who was a former Google employee. The way he made it work was that every dollar of his initial seed funding went to the company. For his personal needs, he would sell Google stock as needed.
Prior to the pandemic, I, too, founded a company. The way I managed it was that every little extra money I had went to satisfy the needs of the company. For myself, I would continue working in my other ventures.
Basically, any seed money or investment went to the company 100% in addition to what I was also putting in.
Basically, I multitasked between projects to keep both myself and the company sustainable.
Right now, that’s what I’m doing again. I’m working on two new startups while still doing freelance projects, plus legal work.
Sounds like your business model isn’t working very well. Maybe reconsider the business you’ve gotten into.
You operate the business.
You pay yourself $100,000
You pay $900,000 in materials
You pay your staff $240,000 in total
Your business makes $1,000,000 but is valued by outsiders to be a profitable venture at $2,500,000. You take a loan against your valuation and continue growing the business.
Most businesses are built on credit. Credit can come from savings, friends, family or banks. You float until youre profitable. People that go into business usually dont have anything to lose or some money saved up to cover day to day expenses to a certain point. You dont need a lot to start something. If you have a decent product, service, or plan, things can just snowball and bring in cash and you can use that number to gain more credit to float or use the credit/cash to improve the business and gain more revenue. Any business bringing a 1k in revenue is worth something in someones eyes. Theres potential to take to make more if there are buyer in some shape or form.