Start a Lifestyle Business

by Scott on September 8, 2011

in Business Advice,Make Money

In the parlance of the startup/venture capital world, a “Lifestyle Business” is one that is successful and generates a lot of free cash flow but that would not be a good investment from a VC’s perspective.  That doesn’t mean they are not worth pursuing.

First, let’s look at why a lifestyle business is not an attractive investment for most “professional” investors.  Most investors in early stage companies (read: startups) are looking for an eventual return of 10x on their money, or more.  The main reason for this is that, in the long run, somewhere around one in ten venture-backed startups is successful.  That means that an investor needs to make ten times his money back on the one successful company just to break even.  Of course, sometimes two companies are successful or they make a multiple higher than ten times, but in the long run, that’s what most investors are looking for.

Continuing the above example, if you were to invest $100,000 for 10% of a company (giving the company a post-money valuation of $1,000,000), you would need the company to sell for at least $10,000,000 to get your desired return of $1,000,000 (10x$1MM).  Growing a company to ten times it’s current value is a lot of work and a lot of risk.  The investor doesn’t get to do anything with her money while it’s in the company and, in all but the rarest of cases, has no option to get ANY money back until the company sells or has an IPO.   For a LOT more detail into the intracacies of startup finance, I highly recommend the MBA Mondays series from Fred Wisom.  He is a very successful VC in New York and writes a great blog as well.

Let’s explore the concept of a lifestyle business from an investor perspective.   For this example, we’ll assume that a company is worth $1,000,000 based on assets and a multiple of it’s earnings and is generating $200,000 per year in net profit.  If an investor were to invest $100,000 and receive 10% of the profits ($20k per year, assuming no growth), it would take five years just to return their money.  After 10 years, they would have received total payments of $200,000, of which $100,000 would be return of initial capital, giving them “earnings” of $100,000.  If you include the fact that they are not enjoying the benefits of compound interest, their annual rate of return over ten years is well below 10% – an unacceptable number to most investors, given the risks involved.

So why should you start a lifestyle business?  Well, in the above example, $200,000 per year in profit is not a bad number.  If you start a business today, over time it is not that difficult to grow into something that is generating a great income for you and your family.  A lifestyle business can be anything from a small restaurant to a web design company – it can sit anywhere in the service or goods specturm and still grow and deliver a regular income to you.

Sure, starting a business is risky and often times you won’t be able to see any real income for years.  But that doesn’t mean you can’t start building something now.  Start with a few hours a week and learn the basics.  Build a simple website, get your own business name and start promoting yourself.  If you have aspirations to be a painter, musician, chef or anything else, you’ll never see your first dime until people know that’s what you want to do.  You need to make sure all of your friends, family, coworkers and anyone else in your life knows what you’re trying to accomplish.  A small business without customers is just an expensive hobby.

I’d love to hear what ideas you have for business in the comments below.  I’ve been debating starting a podcast to work through new business ideas with people and if we can get some traction below, the podcast will be an easy(er) project to start.

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