The following is a guest post by Michael from Financially Alert, a personal finance blog that discusses how to achieve financial freedom and enjoy the ride along the way. Michael took an early retirement in his mid-thirties to be fully present with his young children. He accomplished this with aggressive savings, building an I.T. Services company, and investing in real estate.
If I were a gambling man, I would bet a crisp $100 bill that most of Financial Samurai’s readers have already thought about starting their own business – at least twice!
Yet, the vast majority probably haven’t tried. I’m here to say that it’s definitely worth the extra effort. Starting a business can be incredibly rewarding. It directly led to my own early retirement at age 36. It wasn’t easy, but it also wasn’t that hard. It’s quite possible for anyone to replicate my results and even exceed them. It simply depends on your level of persistence and resourcefulness. By sharing my story, I will point out some critical steps that are required to successfully grow any business.
BUILD TANGIBLE SKILLS
I always knew I wanted to start a business. I just had no clue what I would do! I exited university after 4 years with a shiny new economics degree. It looked nice in a frame, but I didn’t have any real skills related to economics. Since I was a gamer and had worked a tech-related internship, I decided to go work in I.T. (information technology).
I was hired on as a systems administrator, which is just a fancy way of saying I was an in-house I.T. support technician. The job paid decent for a new-grad and more importantly taught me about the different layers of a business (accounting, operations, HR, solutions, customer service, etc.). I quickly learned tangible tech skills by working directly on desktop PCs, servers, networks, and related technology equipment. I also had the chance to work with a lot of end users which forced me to improve my communication skills.
FIND AN OPPORTUNITY
My first W2 job didn’t last long. I had only been working a little over a year when the dot-com crash hit and began to crush tech companies left and right. My company was caught up in the whirlwind and began to implode. After witnessing the 6th round of layoffs, I knew it was only a matter of time before me and my friends would be eliminated too. So, I decided to act and left the company with three friends to start our own I.T. support company.
When I look back on this situation, there were many others in exactly the same position as I was. Yet most failed to see the writing on the wall and waited passively for the proverbial ax to fall on their heads.
Entrepreneurs think differently. They analyze a situation, look for opportunity, and take action to capitalize. Sometimes it works out, and other times it doesn’t.
BOOTSTRAP IN THE BEGINNING
With the exception of our I.T. skills, my founders and I had absolutely NO CLUE how to run a business! But, we were resourceful. Since I was interested in numbers, I was in charge of the money. I collected $1500 from each of the four partners for a total of $6000. This was our startup capital.
We could have taken out a business loan, but we didn’t want to have any debt from the beginning. Having said that, a business loan used wisely can certainly accelerate a business launch. It certainly would have been tempting if interest rates were as low as they are today.
With just a small amount of cash, we bootstrapped wherever we could. Frugality was our friend. No office space, no frills, no fluff! We decided to go in lean and mean until our cash flow could support those operational luxuries at a later point. Remember to leverage the skills of existing family and friends also. We were able to get some incredible references for professionals by simply asking around.
Many times these personal references will give you a sweetheart deal if they know you are a just starting out. Just don’t take their help for granted and provide something in return for their value – it could be money or some other form of exchange.
SOLVE A PROBLEM & KEEP IT SIMPLE
Within a few days of us leaving our prior company, we were contacted by a couple of our previous clients who wanted to work with us directly. The had lost confidence in our prior company. Although we were small, we were able to provide the peace of mind that their I.T. systems and infrastructure would be taken care of. This gave us revenues from day one.
As an I.T. support services provider, we needed a way to track our hours, and then ultimately bill our clients. We would note our time when we went on site to a client and enter detailed time entries onto our palm pilots (remember those!?). After syncing, I would then copy & paste those time entries into Excel and generate invoices manually based on a flat $125/hour rate. It was incredibly simple, but it worked.
WEAR MANY HATS
In the first couple of years, my partners and I all worked with clients directly. That meant even though I was in charge of the numbers, I was also down on the ground crawling behind desks to plug in network cables. We all pitched in with marketing and sales, and client relations was everyone’s responsibility. It was a fun time. These were some of the longest hours worked as we chiseled away at creating some semblance of structure.
Running a start-up service business is a bit like plate spinning. There’s always some area of the company that needs attention. As soon as that area is resolved, another area requires focus. This is why flexibility is so important. The trick is to take a step back occasionally and ensure the actions taken are leading directly to a desired outcome. Prioritize before executing so you don’t waste time on non-essential tasks.
LEARN TO LET GO & EXPAND
A common problem that most entrepreneurs face is getting out of their own way. I was no different. I always wanted to control every last detail of our services and products. However, this obsession with control actually stifled progress. Many small business owners never break through this challenge.
Fortunately, I was persistent. Once I learned to let go, I actively began to operate the business differently. I managed our teams around specific results rather than trying to control how they got to that result. I also began to notice patterns emerge in the business where we could become much more efficient.
For example, we became more proactive in our approach to supporting our clients. Instead of waiting for them to call us when something would break, we went out and invested in software that could monitor and maintain thousands of systems from a central dashboard.
Leveraging technology is a great way to keep a competitive edge. This was also an inflection point when we finally broke through and hit 7-figures in annual revenues.
REWARDS & BENEFITS OF OWNING A BUSINESS
Despite the ongoing challenges of growing a business, it also comes with some incredible benefits!
Running a business provides unlimited areas for personal growth. I learned how to become a better communicator, servicer, manager, and leader. These are tangible skills that are portable to other positions later on in life, or even in another business in a different industry. This is an advantage over others that work a traditional W2 position with limited career movement.
Being an entrepreneur can sometimes mean forgoing a traditional salary for a while, but it can also lead to much higher earnings once the business has stabilized. For example, I was earning $42,500/year prior to starting my own company. By the second year of running my new business, I was earning $61,500 or 47% more. As an owner I had to pay my own employment taxes. So it was actually closer to 37%.
Our compensation continued to increase with revenues over the years, but at a certain point we chose to keep our salaries down to minimize taxes on earned income. For us, the better route was to keep the cash in the business, or pay out as a distribution which was taxed a lower rate.
Finally, owners also have the flexibility to structure the business in other tax advantaged ways, such as directing cash towards a self-employed 401k, healthcare, cell phones, internet, food & entertainment, technology allowances, etc. A traditional W2 employee simply does not have the same flexibility.
Create Owners Equity
As a traditional employee, it’s more difficult to find meaningful ownership opportunities. Entrepreneurs build equity based upon their own efforts and their ability to bring a solution to the market. I have also seen many businesses build up equity through commercial real estate and intellectual property. The point is to build additional assets while operating a business.
One important pivot point for us was transitioning from an hourly-based services company to one that could provide full-service solutions. By evolving to a solutions-based business model, we could then sell multi-year support contracts and service larger businesses. These contracts ended up being valuable when it came time to sell the business.
Remember that $1500 investment that I made in the beginning to fund the business? Here’s a quick chart that illustrates my equity growth over 9 years in business.
EXIT WITH OPTIONS
Running a business for 9 years is a long time. Although we were coming off our best revenue year ever, our industry was shifting again with the onset of cloud computing. This would directly impact the service model we had built. The question was, did we want to pivot again, or merge with a company that already had that infrastructure in place?
There were a few other variables contributing to my decision, but I decided that it was time to exit. We had been approached by a couple of different companies who were interested in acquiring our business. So I went out and solicited a few more for good measure. Eventually, we were entertaining three companies seriously.
We finally decided to merge with a company based out of New York with a national presence and large cloud infrastructure. They agreed to purchase our company for a low 7-figures. We received an initial down payment upon the close and then received the remainder over a 3-year earn-out period. I ended up working for the company for a little over a year to help transition before parting ways.
Because of this sale, I was able to retire early at 36 and spend the last 3 years at home with my young children. It’s tough to put a price tag on this opportunity, but to me, it feels like I’ve won the lottery. I couldn’t have done this without taking that initial risk to venture out on our own.
Building a company that is saleable creates options for the owners. If there is enough equity then it can help fund an early retirement, create capital for a new venture, or transfer to another investment like real estate. The possibilities are endless.
ADDITIONAL TIPS TO START OUT RIGHT
Build A Team Of Expert Advisors
We’ve all heard the term, “work harder, not smarter”. Listen to it. Leverage expertise any time you are able to. Be an expert in what you do best, and let the other professionals do what they do best.
Hire an Attorney And Protect Yourself
Hiring a business attorney, in the beginning, was a critical move. He helped us to figure out what structure was most advantageous to us. We settled upon an LLC and he helped us to draft our operating agreement at a discounted rate of $350/hour. It was worth every penny.
When starting a business, it’s important to use some type of entity to protect yourself from individual liability. That means that if someone were to sue you for damages related to your company, they can’t go after your personal assets (eg. your home, cash, etc.). Instead, the damages they could seek would be limited to the assets of the company.
Entities that typically offer the best protection are C-corporations, S-corporations, or LLCs. Each has their own legal and tax implications. So remember to consult with your attorney and tax advisor simultaneously to select an entity which best suits your situation. In my case, we were looking for maximum protection and minimal tax liability. Later when we grew larger, we converted over to an S-corporation.
A sole proprietorship is popular for individuals offering some type of service. It’s also popular for newer entrepreneurs trying to validate an idea quickly in the marketplace. The downside is that a sole proprietorship will NOT offer individual liability protection. This isn’t a big deal for individuals who haven’t built up any substantial personal assets yet. But, for those who need to protect their wealth, protection from day one is ideal.
It’s possible to create your own entity by visiting a site like nolo.com. They have all the forms and processes to get you started, but remember everyone’s situation is different. That’s why I’d still recommend visiting an attorney the first time at least. Once you get good at starting businesses, you can always bootstrap the process the next time around.
Hire A Tax Advisor
The same exact concept above holds true for hiring a professional tax advisor. The advisor should be able to help plan a foundation to work from. The last thing an entrepreneur wants is to earn a lot of money the first year and then get taxed unnecessarily at the end of the year. Alternatively, if losses are inevitable the first year, it’s important to write-off everything you can.
In addition to tax planning, the advisor should have the capacity to validate cash flow projections and a startup budget. Remember how I mentioned leveraging professionals around you? We were lucky. My Dad was an independent CPA who serviced a lot of small businesses. This was super helpful when planning for taxes and structuring our initial compensation models. A tax advisor will also help along the journey as the strategies change with growth.
Network With Competitors
This may seem a bit counterintuitive. But, one of the best things I did was to network with other business owners in my industry. Other business owners that you may consider competitors are actually many times very forthcoming and willing to help. There is usually enough business to go around and collaborative efforts can create win-win situations.
If you’re unsure about networking within your own industry, consider joining a peer mentoring group or mastermind made up of other business owners in difference sectors. This can really help to move your business forward when encountering difficult situations because chances are someone in the group has already experienced and moved past that issue.
One final consideration before starting a business is to determine your “Why.” Asking yourself why you want to start a business will create different answers for everyone. For me, I wanted the flexibility of being my own boss. I wanted to be able to build equity with my direct efforts. And, I wanted to have the opportunity for a big win at the exit point.
For those that have been on the fence, I say “just go for it!” Life is pretty short. Don’t have regrets later on. Besides, what’s the worst that could happen? For most, it’s going back to a traditional career. There’s nothing wrong with that. But, if you are an entrepreneur at heart and don’t even try, well that’s a tragedy! Remember, businesses are born out of necessity. There are millions of problems in the world. Go out and solve one.
Readers, what business idea have you been sitting on? Can you answer these fundamental questions? What problem am I solving? Is there someone willing to pay me for it? Can I make a profit?
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