Let me begin this post with a story. I always wanted to be an entrepreneur. The thrill of owning a business meant more than anything to me. It was sort of my life’s only purpose and dream. And I started not one, not two but three companies in last 5 years. To my disappointed, all of them failed. One failed because the idea was crappy and other two because I didn’t have enough capital and time to keep working at it. To give it some context I am 23 now and still a college student (although I am set to graduate in next few months). I started both internet as well as brick and mortar business. Along this journey I realized two things :
1. As much as I liked owning a business, I hated managing every bit of details and troubleshooting all the problems that arise as a result of the entire world working against your vision.
2. There is a huge opportunity cost associated with starting a new business.
The first point tells more about who I am and it is purely subjective to me. I admit I am not a good manager by any definition of the word. However, the experience of starting a business while still in college was an invaluable experience to me and is sure to serve me in achieving the biggest goal in my life that is : Financial independence. But it didn’t came without cost. Tons of money were lost in the pursuit of making a crappy idea work or in trying to troubleshoot new unexpected problems. Money that I can never get back. Money which if I had invested, I would be earning a decent income. I certainly wouldn’t be financially free but I would have been better off than today. But then I didn’t know about Ben Graham nor about what is known as “Opportunity Cost”.
Only after starting and failing in the business and analyzing why I failed I realized I am more wired to become an investor than a entrepreneur. I love the idea of money doing the work for me. I am not a great manager or an entrepreneur but my experiences serve me well in recognizing one when I see them. For then, all I need to do is put my money to work and take a ride in their success. And that is why I don’t plan to start a business for the foreseeable future. Because the opportunity cost for me is just way too high to justify the rewards.
So what is opportunity cost anyway?
According to wikipedia, the opportunity cost of a choice is the value of the best alternative forgone, in a situation in which a choice needs to be made between several mutually exclusive alternatives given limited resources.
Let’s look at two scenario of “starting a business” vs “keeping a job and investing” (the best alternative).
Starting a business
1. Starting a business needs capital. No matter how much you read on the internet about how you can start a company without putting any money of your own, it isn’t true.
2. If you succeed, you can hope to make a reasonable amount of income from the business and can expect to grow it 30-40% Y-o-Y (I am being very optimist here).
3. Things get nasty when you fail. You not only loose the entire life savings that you put as equity in your new business but chances are (if you haven’t taken the legal protection of limited liability) you will also get into a huge amount of debt. This kind of decision in Ben Graham’s eyes is a bad investment decision no matter how great is the rewards.
4. When you start a business you are often locked in it for life. At least for very substantial period of time. A new business doesn’t have liquidity in case you want to walk out with your money anytime. If you want to walk out either you have to work towards making it salable (read successful) or you have to loose everything you put into the business. There is no other way out. This I consider one of the biggest disadvantage. This is because sure I had loved the idea when I started it but I might fall out of love (trust me it happens a lot of times), but then I can’t get out of it without the risk of loosing everything (or even more) that I put into the business.
Keeping a job and Investing
1. If you keep the job you have the cashflow in good times and bad times that you can choose to invest.
2. If you read Ben graham and invest with discipline you can hope a better than average return (in lines of 18-24%).
3. Sure you forgo the opportunity to earn 30-40% return but that comes with an advantage of
- Consistent cashflow
- Less risk
- Increased liquidity in case you made a bad judgement.
4. And if you don’t like the job, with some effort you can always switch.
Sure it will take time to get rich if you choose to keep your job, but risking everything unless you are wired to become an entrepreneur is simply madness.
This is not to discourage you from an entrepreneurial pursuit that you might be considering but only to show a real picture of what might happen. Always remember the chances of your success as an entrepreneur is 1 out of 10. That combined with the other factors I mentioned make it a very bad financial decision to risk everything for starting a new business. The only good reason I know someone should become an entrepreneur is because they have unique and intense passion for what they have set out to build and they will do it not for the money but for the satisfaction of having built it. For rest of us, there is investing.
On a side note, you can always pursue an opportunity if you can do it part time without pouring a lot of capital. This is exactly what I intend to do with this blog.