Fribble

The Fribble
Friday, November 19, 1999

Self Incorporated

By Bill Stecker, wstecker@msn.com (TheBadger)

There has been a lot written about living below one's means: don't buy new cars, rent or purchase a modest home, keep those credit cards at zero balance, suspend those vacations to Europe, etc. All of these ideas and two dozen more are all valuable tactical advice; but let's jump up a step and discuss theory for a while.

Lots of things create value in a stock: increased sales, increased book value, increasing net income, and net income per share. Similarly, lots of things create financial value in people: increasing salaries (or other types of gross income), increased net worth, increasing net margin, net income and net income per share (actually net income and net income per share are the same as there are usually only 1 or 2 shares outstanding).

Given the above, shouldn't we apply the same rules we Foolishly apply to stocks to ourselves? Shouldn't we as individuals think of ourselves as a corporation with one or two shareholders? If we were to do this, what rules would we apply?

First, how about increased sales (oops, I meant wages and all that other stuff that shows up on Schedules B, C, D, and E of your 1040). I wouldn't expect the John Doe Corporation to match an Internet stock, but how about 6% per year, only because John is in a modest growth industry?

Second, let's focus on net income. Here I would suggest a goal of a 20% net margin. That means if John earns $50,000 at Foolish Ventures, Inc. (FVI) he will need to save $10,000 this year. At first this may seem impossible; however, FVI may help John out by a contribution to a 401(k) plan or a cash balance pension plan. If FVI matches 100% and John saves $5,000 he's virtually done. Actually, John is a little short in that his real wage for the year was $55,000 so he needs to save $11,000 total, $10,000 of which is already done. Sounds like another $1,000 to a Roth IRA to finish up.

Third, let's look at earnings per share. Other than getting married (or the reverse) the shares don't change, actually an advantage over publicly traded corporation; no per share dilution when making an acquisition.

Lastly, what about book value or net worth? Assuming John has a net margin of 20% per year, boosts gross sales by 6% a year, and invests Foolishly at 12% per year, at the end of 25 years, John will have a book value of $2.5 million or approximately 12 to 13 times his final wage. John, because he has been Foolish for 25 years won't mind continuing another 5 years at which time his net worth will easily be 20 times his final wage (who needs social security anyway).

Because John was 25 when he formed John Doe, Inc. (John played hard for three or four years after graduation) he is now age 55 and terminates John Doe, Inc. John proceeds to retire to his beach front condo in Hawaii, drinking pina coladas, occasionally regretting those first three or four years (when he played too hard and his net margin was zero). Then he reverses his thoughts and jumps in his pool to freshen up for tea time.


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