Seven Bad Investments
1. You should never invest in a company based solely upon an oral presentation. What you hear is never what you get. In fact, if you hear something and check upon it and discover it's false, the presenter denies ever having made the statement. The oral sales pitch is the favorite tool of swindlers.
2. You must investigate a written business plan. Over 80% of the business plans you review will have at least one major misstatement of material fact in them. Often business plans are a tissue of lies whose sole purpose is to separate you from your money. If you find one or more lies, don't invest.
3. Investing in startup or early stage companies is betting against the odds. Your odds of your company surviving five years are about 1-in-100. If it survives and makes money, your average return on investment is about tenfold. Bet on enough of these startup and early stage companies and you can retire to the poorhouse.
4. Companies with a great deal of long term debt are losers. Recently, I looked at a company that had spent $44,000,000 of investors' money during the past eight years and in 2005, its gross revenues were $39,000. Sadly, most of the investors don't realize that there is no way they can recover their risk capital. Putting more money into this company is throwing money away.
5. Betting that engineering management will make a business profitable is rarely a good bet. Engineers focus on improving the product's technology and not on selling the product. From an engineering viewpoint, the product is never good enough for the market. Consider Bill Gates, he purchased DOS from its software developers and SOLD it to IBM as their PC operational software. It wasn't the best available software at the time. He then hired engineers to constantly upgrade DOS and develop all the other software programs that have become Microsoft. Contrary to what you learned as a child, if you build a better mousetrap, people will not beat a path to your door. Produces and services must be sold and Mr. Gates was a good salesperson.
6. Never take stock in a private company for your cash. Insist upon an equity position. If the company is a startup or early stage company, you want at least half of the company for your money. If the company has income, your money should convert into an equity position based upon the business value of the company against the funds you are risking upon its expansion. Remember that you don't need the company. The company needs your money. Make your investment based upon this reality.
7. Don't throw good money after bad money. If your gamble failed, don't send the company more money in the hopes of turning your bad investment into a good investment. It's like trying to turn a cow's ear into a silk purse. Only a miracle will make your monetary effort a success. And, miracles rarely happen in business.
There are forty or fifty common investment errors. The above seven mistakes occur almost weekly in my review of investment deals for investors. These mistakes are not limited to a few unsophisticated people with more money than good sense. I know money mangers, professional investors and bankers who have made all of these bad investments.
I think the best training for investors is to learn to play Poker. The card game teaches you how to read people and how to evaluate the odds. Any time that you regularly bet against the odds, you must lose your money over time. If you can't spot the swindlers, you will be spending a lot of time and money doing Due Diligence to learn that swindlers are making about 80% of the business investment offers.
A government licensed anything doesn't make the offer any better than an offer from some guy with a vision. I like to cite the enterprising swindler, who after being sentenced to Lompoc Prison got the SEC to license him as an investment advisor. He used this fact to fleece the public of another $2.5 million as he returned to his cell each evening.
Before you write a check, play Devil's Advocate. Find out what is wrong with the deal and you will save yourself a lot of grief. An ounce of prevention is worth several pounds of cure.
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