If you’re thinking of investing money in someone else’s business, carefully analyze your financial situation before signing the papers.
“A lot of people invest in these things for the wrong reasons,” says Neil Waxman, managing director of Capital Advisors Ltd. “The classic example is the athlete or doctor investing in a restaurant because they want their name on it. That’s the wrong way to go into these things.”
While there is no easy rule of how much money you should have before looking at investing in someone else’s business, you do need to work with your financial adviser to get a better idea of how much money your really have available and what your risk tolerance is.
“A lot of people approach this when a deal comes up to see if it makes sense for them,” says Waxman. “That’s wrong-headed. They need to have had discussions about whether they are a prospect for that before the deal is offered. You always need to know where your lines of demarcation are, so if an opportunity pops up, you’ll know if it fits in your portfolio.”
Sometimes investing in another business may help diversify your overall holdings.
“Once you have a certain level of net assets in marketable securities, you need to find something else to do with your money,” says Waxman.
The temptation might be to invest with what you know, but that’s not always the best choice.
“I’m probably not going to tell a client that owns a manufacturing company to be investing in another manufacturing company in a similar industry,” says Waxman. “They already have enough exposure in that industry. But there could be someone who has the expertise but doesn’t own anything in the industry, like maybe a vice president of supply chain management at a Fortune 500 company. That person might know a lot about the industry but not have a lot of holdings.”
Always go into a deal with an exit strategy in mind.
“The shortest deal is about three years, and I don’t like anything longer than 10,” says Waxman. “You have to go into these investments with the end in mind. I always want a mechanism to get out, which could be a call option. If you are not investing what you can afford to lose, then demand some sort of way out.”
How to reach: Capital Advisors Ltd., (216) 621-0733