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Edition 110 – The 5 Returns in a Family Business

Return on Investment, or ROI, is a financial term to describe what is the performance of your investment relative to how much is invested. It is used by finance types to value businesses, determine lending capacity and estimate risk.

In family business, I believe there are 5 elements to ROI – however, I prefer to simplify it and call them the 5 Returns in Family Business.

Essentially, if you are an owner of a family business, these are the 5 areas that you should focus on to ascertain whether your investment, not just financially but in terms of labour, time and intellectual property development, is worth the effort of being in business.

  1. Profit – every business needs to generate a profit. Banks want to see it. Potential purchasers of your business want to see it. You need it to justify the repayment of any loans borrowed or funds invested to establish the business in the first place. My rough rule of thumb – you should be achieving a minimum 10% return on the net assets of the business. 20% is better. I’ve seen a number of businesses generate more than 100%.
  2. Salary – every member of the family employed inside of a family business should be paid a salary at least commensurate with the marketplace. One way to calculate that is to search the internet for salary surveys. The other is to ask yourself, if I had to employ someone from outside the family to perform this role, how much would I need to pay them?
  3. Superannuation – the statutory minimum is 9.5% per annum. The Fitzgerald Report into Australia’s savings system in the mid 1990’s recommended 15%. Go for at least 15%.
  4. Fringe Benefits – this mainly revolves around motor vehicles in most family businesses. My advice – make it a nice, but not extravagant, vehicle, that is fully funded by your business. $100K should be your upper benchmark.
  5. Lifestyle – this is where there is big potential to make a difference in the lives of family business owners. An overseas conference, funded by the business, with a side trip for a few days of R&R will, for the most part, be OK. Similarly, maintaining the wages of spouses at their market levels, whilst they dial back their hours and employ others to perform part of their function, is another way of increasing the lifestyle return in your family business.

To work out what your return is from your family business, here’s what you should do:

  1. Locate the profit number from your most recent annual financial statements.
  2. Add to this the salary that you and all your family members earn from the business.
  3. Throw in the superannuation contributions for all those family members.
  4. Add the total value of fringe benefits – roughly, a fully funded motor vehicle is around   $15,000 per annum.
  5. To work out your lifestyle expenses, look at your financial statements and drag out of it the lifestyle type items we talked about above.

The next step is to:

  1. Write all of those numbers down on a piece of paper.
  2. Then, draw a line to the right of those numbers and enter what you would like each of those 5 Returns to be
  3. The difference is the Family Business Profit Shortfall (or Surplus).

If you have a shortfall, why not reach out and find out how we can drive that number higher for you? If you have a surplus, well done – I’d love to hear how you’ve achieved it, and what you are doing with that surplus to build future wealth

This Week’s Tip

“In my experience, family businesses are some of the most profitable corporations anywhere. It is not uncommon for me to see the 5 Returns in Family Business come to 50% of total revenue – or more. What does your’s look like?”