A co-worker of mine made a very astute comment to his subordinate the other day who’s new to managing people: “delegate the work, but don’t abdicate the responsibility.” It got me to thinking of my law days where clients would ask “what do you think?” about a non-legal question and I would have to respond (with my errors and omissions insurance company whispering in my ear) “well, what do you think?” and this went on for a couple of verbal volleys before both parties threw their hands up in the air. It wasn’t as if I was trying to avoid giving advice. It was the question asked was business based that the client should take responsibility for.

It sounds a little harsh but I am (was) the advisor. The client ultimately has to live with the consequences of the decisions made. So take an active interest in being responsible for it. Don’t try to push it off and not own it.

When times are tough, the easiest thing to do is to start pointing fingers. Recently, I have heard a ton of stories about bad financial advisors doing this and doing that or not doing this and not doing that and portfolios being wiped out etc.

But have you asked yourself what you could have done to mitigate against any potential loss? In certain cases, people have truly bad investment advisors who don’t act on instructions, are slow to respond (if at all) and basically don’t bother giving you any advice but sell, sell, sell. In other cases though, some of the wounds may have been self-inflicted.

Do you schedule a time to ask your advisor why your portfolio is returning what it is outside of the RSP season?

Do you demand their attention to answer your questions or talk you through your issues even if there is no trade at hand? Of course, they are busy. Everyone is busy. But, its your money. Be pushy if you must. Its your financial future and its better to be impolite and effective than polite and broke.

Do you actually read your statements in detail and then call to ask questions and educate yourself?

Of course there are bad brokers, the industry is stacked against the investor and no one has time. But the responsibility for your money ultimately lies with you. Certainly, if you feel like it, delegate the skill-set to skilled professional (not everyone has the acumen or time to be a do it yourself investor) but don’t make a mental note of saying: “Ok, Ellen manages my portfolio now. I don’t have to think about it anymore.”

Your thoughts lead to indifference and indifference allows advisors to treat you like crap since they know no one is watching.

Think of the delegating the task but not the responsibility this way: parents delegate the act of educating to professionals but good parents call the teacher to ask why the home-work is too challenging/not challenging enough, can the teacher do some tutorial work on a difficult subject, what is going to happen during a field trip. Good parents don’t say “Well Mr. Clifford is teaching math to Chris. I will never question Mr. Clifford about anything in Chris’ education.” That’s just plain fool-hardy.

Yet, why do many of us have the same attitude with money?

Four Pillars writes a great series of posts on entrepreneurship. His “wacky” business ideas (his words) are not so wacky to me. But for those who sit in colorless cubiles dreaming up business ideas, the question becomes is a business idea truly worth pursing and, if so, at what cost?

Seasoned entrepreneurs can tear a business idea six ways to sunset; we have collectively made thousands of mistakes. So, find an entrepreneur, present your idea and let them beat it up. If you are not discouraged after that, read on.

From a personal finance perspective, consider the following.

What is the sale cycle of your good or service? Sales cycle is fancy speak for how quickly (hours? days? weeks? months?) you can sell a product or service. The general rule of thumb is that the less novel and less premium priced a product, the quicker it will sell. Compare how many people churn through a greasy spoon to an upscale restaurant in any given evening.

Next, you have to know your cost of sales (COS) for the product or service you are selling. For example, thinking of becoming an importer? Your COS per product or service can consist of = (cost of goods + cost of import + storage costs + general administration costs + employee costs + cost of shipping to customers)/# of units sold. Assume in a worse case scenario, you have to dip into your own pocket to pay for everything.

Now you have your COS, what can you sell your product for? If you are competing on price then you clearly have to undercut your competitors (scary strategy unless you are Walmart since most studies show you have to undercut by an average of 30% to affect consumer buying patterns). If you compete on quality, what can you get away with in terms of premium pricing? Having set a price, sale price - COS = profit. Take your profit/revenue and you have a profit margin. Simple right?

Well…if you are a savvy entrepreneur, you tend not to worry about top line (revenue) or but the cash flow statement; if nothing else, cash flow should go up month after month; extremely simple but effective metric. What is the industry standard for accounts receivable aging? In professional services, it is generally short (given professionals obtain retainers beforehand, demand payment upon production of services). In other industries, it can be 30-45 days. The longer it takes for you to get paid, the longer you have to hold on with your personal finances.

Now, do this:

1. What do you think you realistically need to be paid in any year? Let’s say you say $50,000 per tax. Assume your profit margin is 50%, you have to sell $100,000 in any year to make that (this assumes you don’t invest a cent back into the business-big mistake)- by the way, 50% profit margin is rare; think lower (10-15% on quantity and 30-45% on services provision).
2. BUT… #1 only holds true if you collect 100% of your receivables on time. If your customers pay you late or not at all, this throws your assumptions off. Thus, research what the bad debt ratio is (the % of invoices written off as never to be paid) in the industry. If 10% of your invoices are not collectable, to make $50,000 a year on a profit margin of 50%, you have to actually sell $111,000 worth of goods since that extra $11,000 in sales you may never see paid.
3. BUT… its not as if all your customers will pay you by end of the month to pay you $50,000/12 on the 1st of every month. Some will pay late. So you will pay yourself different amounts of money a month to get to $50,000. Your personal fixed expenses will probably remain constant throughout so there may be months your bank account shrinks as your monthly draw is smaller than your personal expenses and months that it goes up.

…a couple of concluding thoughts:

• If the above shows you anything, it is do your research carefully. Starting a business sucks up a lot of time and money (even a modest home-based business). You have to prepare yourself for that beforehand by knowing what you are getting yourself into.
• yes, you have to become good at money to be a good entrepreneur. Entrepreneurship requires by necessity that you learn at least a bit of sales, marketing, book-keeping, finance and law.
• As the above shows, ideas get grounded down by reality. Make sure you are starting a business because your heart is into it not because you think it will make you rich quickly. There are days you will cry, laugh and, yes, hurl at being an entrepreneur because you never imagined doing book-keeping on Friday night so your heart really needs to be into it to over-come the crumpy days.

Best of luck with your business.

Recommendation letters are one of those standard issue things you need to obtain when job-hunting. Everyone seems to have one. The question is- does yours get you anywhere if you are looking for a new job? I am not in HR so I honestly could not tell you if a recommendation letter will put you over the top but if you have to get one to play the job hunting game, you may as well get the best one possible right?

To get back to first principles though, remember to ask your employer to write a positive recommendation letter. Sounds stupid (since the term does imply positivity) but you never know right?

Let’s face it, many employers who agree to write a recommendation letter would also be happy if you diplomatically suggested ghost-writing it for them for their approval; it saves them work and no one knows what you do better than you. So why not ghost-write your own effective recommendation letter?

Below is an example of a recommendation letter I once wrote for an employee I really liked (names, places and job functions and some contextually information changed for privacy reasons). I am not remotely sure if this is a good or bad letter (thoughts?) but, since they were such a good employee, I thought I would go the extra mile with a few extra features:

• The one thing I have noticed about recommendation letters is it is full of generalities. A good “team player” means nothing without context. Thus, I tried to give concrete examples.

• The other thing I did try to do is explain why the employee is no longer with me for reasons that had nothing to do with them.  You have to be careful though. In some jurisdictions, you are prohibited from writing anything negative in a recommendation letter which may include reasons for departure if it is read as a negative (which begs the question of how many terrible employers wrote malicious recommendation letters to have these types of laws passed? What a strange world we live in).
• When I first hired this employee, I knew this was not the field of work they wanted to work in so I asked them what they wanted to do and gave them work in their area of interest if they performed well. Thus, the letter is specifically tailored to getting them their next position in their desired field.

Here it is. Let me know your thoughts:

I am writing in support of Jane Anybody.

Jane served as our offices administrative assistant from January 1, 2006 to July 31, 2007 on a 35 work week basis before the business was sold and Jane decided not to work for new management but chose to take this opportunity to pursue a career in human resources.

During this time, Jane engaged in a wide variety of tasks for the office including book-keeping, accounts payable/accounts receivables, filing, general administration and dealing with the public. Having said that, Jane’s initial job functions were primarily general administration and dealing with the public. As Jane showed increasing competency she was delegated greater responsibility and an increase in compensation to reflect her value to the business.

As she is interested in human resources, Jane was delegated payroll functions and asked to assist in hiring summer help. She carried out both well as our book-keeper did not find any errors in her work and the summer student was a valuable addition to our work-place.

Jane is a dedicated team-player; she would often volunteer to stay late in order to complete her assignments and was well-liked in an office of 14 shared by co-workers and other businesses. She is a quick learner and takes instruction well; she was noted by my book-keeper to understand the book-keeping software quickly and increasingly mastered more options in said software. Finally, she was able to prioritize the various files and issues which arise in any office on a daily basis; she frequently reported on her progress on assignments to ensure that what needed to be done was completed first.

Accordingly, I would highly recommend Jane to join your organization as she would become a valuable member of your team. If you would like more information, please feel free to contact me.

…as I always preface my “job” related posts, I am not in human resources so I am not sure if this is the best recommendation out there (any tips would be great) but I believe it beats the plain vanilla “nice employee, worked hard, I recommend them” letters.

Next post, I address head-hunters from both the employer and employee side.

There’s been a recent flight to cash given the relative safety that cash affords to an investor in down-times. But, what is the proper role of cash in one’s portfolio in good or bad times?

Cash is like chocolate. Its great but having too much can be a bad thing. The downside of an over-allocation of cash in a portfolio is the erosion of its value due to inflation. $1.00 does not buy you the equivalent amount of goods the next year since that same bundle of goods now costs $1.00 + rate of inflation. Some may argue that with oil and real estate prices falling, inflation has not become as large of concern. While this argument may be true, the sample size is simply not large enough to say that inflation has been eliminated and let us not forget that the opposite effect, deflation, is generally marked by a long period of economic decline. Thus, inflation is a necessary evil in some sense since it is a tax on increasing demand (and associated economic growth).

Cash can be invested in high-interest bearing accounts and money-market funds to mitigate against the effects of inflation but, outside of tax-deferred retirement or other accounts, interest income is tax-inefficient and taxed heavily relative to dividends and capital gains. If looked through a tax-policy perspective, the government is encouraging you through its tax rates to invest in dividend yield stockand capital appreciating stocks. Thus, even the government doesn’t want you to hold too much cash.

So how much is too much?

1. The longer your investment horizon (or the younger you are), the less cash you should have on hand. This comes down to an opportunity cost argument. If you have an investment horizon over 10 years, you are forgoing opportunities by keeping too much cash on hand and a portion of that cash should be invested. Let’s take an example of opportunity cost. Bank of America is a widely held stock hammered lately. Accordingly to Yahoo Finance, its adjusted stock price (stock price accounting for stock splits and dividend) today is $21.07 (USD). 10 years ago it was $18.84 or a 11% return over that time.  BAC’s return doesn’t sound like much but expand the horizon to 15 years and the return is over 200% over that time. In other words, the longer you stay invested, the greater the spread between return on cash to return on cash invested in equity.
2. If you have a long investing horizon, you should keep cash around for emergencies. I tend to always have liquid enough cash equal to 3-6 months of fixed expenses which I can redeloy to emergencies instead of investment. Its a tough goal to reach but I also know since I have that cushion to play with, losses on the market don’t affect me emotionally as much  (and I have been pounded just like you) since I know I have cash around. It addresses the emotional aspect of investing.
3. Add to #2, an acquisition fund in buying times. This is where things tend to vary person to person. I have read some mutual fund managers have 40-50% in cash right now. I find pegging myself to mutual fund manager allocations to be a dubious proposition. They make MER no matter what so they have no disincentive to hold onto cash longer than possible.  Most mutual funds also have to keep 5-10% in cash in case of resumptions; they have forced liquidity issues. In other words, their context is different than you and me. Generally, target something you want to buy on the cheap and then calculate how much of a war-chest you need to purchase it and keep that in cash.
4. Balance #2 and #3 against #1. A personal choice. I tend to get anxious when cash positions are over 35%-40% in my portfolio. My peg is 5%-10% in good times and 15-20% in bad times (I am always around 15%-25% in fixed income as well). At my age, I can afford to take paper losses and don’t need to cash-out of investments to be in cash. What I do is separate #2 from #3. If there is excess emergency funds, I do not deploy unless there is an absolute great buying opportunity. Its a mind trick against myself. If it sits in the trading account, there is always a tendency to do something with it if there is a lot of cash sitting around.

Now, if you have large portions of cash lying around and are shell-shocked by the market, then perhaps use it to pay down debt. At least the rate of return is known and most likely higher than the return from a money market fund. Again, my point is the same- cash sitting around is lost opportunity cost when you could be having cash make more cash for you by investing or reducing your debt servicing costs.

These are really personal numbers which I freely admit is part science, part art, part personal preference. The key to me, like anything else in life, is to strike a proper balance.

What are people doing with their cash? Creating war-chest? Rainy day funds?

…is yourself. Stocks go up and down. Real estate does the same. The notion of job security is but a myth- even for unionized workers (just ask the GM workers in Oshawa who agreed to a new deal and then promptly had the planet shut down). Your pension? Pension funding short-falls is the ugly financial child people don’t like to mention in polite company. But your skills, knowledge and experience- the stuff in your head- they can’t take that away from you.

The buying opportunity now is to invest in yourself on the cheap. With business and educational institutions needing to put bums in the seats, I have noticed a lot of free seminars being given to drum up business. Yes, there is a sales pitch involved but if you get one nugget of information you didn’t know from a free lunch and learn then why not?

Here’s a suggested action plan:

1. What do you want to learn? It doesn’t have to be work related (although it helps to make you employable if you think you need a job). The whole concept of investing in your skill set is to make you more knowledgeable and well-rounded; the ability to learn new skills is important in the work-force (shows an employer you can adapt) and outside of it (who wants to hang around stagnant people?).
2. How many hours do you want to devote to it? Most regulated professions have continuing education targets. For lawyers in Ontario, I believe it is 250 hours a year. It sounds like a lot but education while on a file counts as continuing education. For most other people, perhaps a few hours a week is enough.
3. Incorporate it into your life. I am only of those people who needs to learn in a group. I need the peer pressure to make myself attend or otherwise my couch and television are too enticing of a target. Its not enough to say “yes, I want to improve my skill set.” You have to incorporate it into your life by booking the same day and time off each week and devoting it to learning.

Where do you go?

A lot of educational institutions will allow you to “audit” a course for a couple of lectures. Be respectful and ask the teacher/professor if you can attend before you do and do only attend a few classes.

Most municipalities now sponsor some type of free educational seminars. Larger municipalities have economic development departments give seminars on a lot of small business topics.

Most bank branches of a sufficient size do give lunch and learns. There is some selling going on but it is a good way to learn about the 101 of money.

Some condo boards actually organize events for their residents. The last condo I lived in had learn to knit nights (I hear knitting is back big time).

Any other suggestions? What are you doing to improve yourself?

There’s been a lot of talk recently about how the recent dramatic drop in the stock market has presented buying opportunities. Why I do not disagree with that analysis, we must ever be mindful of walking before we run. On the other hand, you have a segment of the public in a sheer panic, liquidating solid assets subject to a short-term decline in value into cash. This tension appears to be played out in the stock-market as well as the value hunters take over one day and the panicked the next. Up and down the market goes.

But removing some of the unnecessary noise piped in as of late, let’s not forget that prudent personal finance is built upon a pyramid of priorities from the most important building blocks at the base to the “sexy” decisions to buy bargain stocks at the top. As the cacophony of competing advice, suggestions and thoughts coming pouring in during these times let’s not forget these priorities:

1. What do you want out of life? Fundamentally, what you do with your money is dictated by what you what out of  life (not what you want to do, what you want out of life; huge difference). A childhood friend tells me the story of his uncle who changed jobs every 2 years and was never conventionally well off but what the uncle wanted was different journeys and adventures in life. He lived a simple life. Others want to be Alex P. Keaton (I date myself as a child of the 80’s). So, even if you don’t know to the detail, what do you want out of life- a life of leisure, a life of money, a life of adventure? The only wrong answer is someone else’s.
2. Where are you at? Its hard to read a map to know where you are going if you don’t know where you are at.  If you are getting dizzy with all of this talk about money and don’t know where to start, do this. Collect all your bills from the last several months and then take your pay stub.  Take a separate piece of paper for each month and draw a line down the middle vertically. In one half write “revenue” on the top and on the other write “expense.” Calculate the two. Now you know whether you are cash positive (revenue greater than expenses) or cash negative (expenses greater than revenue). Now do the same by calculating your net worth by adding up all your assets and subtracting it from your liabilities.
3. Be cash-flow positive every month. Unless you are retired and ceased to make income, everyone’s goal should be to be cash-flow positive. After all, why contemplate buying stocks or real estate at a bargain if you are cash flow negative every month? You have a cart before the horse at that point.
4. Set your goals. Now you are cash flow positive, set your goal on what you want to do with the excess cash. Grow it? If so, by how much? Give it away? To whom and who much? Set reasonable and time-specific goals. Don’t worry about the “how” question yet, worry about the “what” question (as in what is my goal).
5. Now execute your goals with product. Product is product to me. I have no favorite stock, mutual fund company or locations to buy real estate. Money has no emotion, only a rate of return. At this point, you get some advice and suggestions remembering your goals. Someone who wants steady returns at modest risk because they have 10 years before retirement does not buy penny stocks. Conversely, someone young and wants to buy a house, send their kids to post-secondary education etc. doesn’t horde cash only. If you do seek advice, make sure you settle 1-4 by yourself first.

Too often we chase #5 because it is the easy and fun one to answer. I would rather have to pick between stock in Coca-Cola or Pepsi than pondering what I want out of life. We also become easy prey because we focus on 5 and not 1-4. But life is a process as much as a result so you have to go through the steps before you decide on product. Just remember this during these times. Best of luck.

Due to some reader requests, I am going to start blogging a little more on jobs and employment given that I am a boss. I have created a new category called “jobs”. Any suggestions on this topic are greatly appreciated. Thanks.

I am a boss. I have supervised employees ranging from skilled professionals (lawyers, accountants, civil engineers), to middle level managers to the general receptionist. I am not sure if I have a managerial style other than most of my employees say I am pretty upfront with them. I readily admit because I am not in my 50’s or 60’s that I do not have a huge wealth of experience to draw upon so I do muddle my way through some situations but I also know what I like and don’t like about employees.

With the economy in for a rough ride for at least the next 12 months, its time to start thinking about things that will make you a valuable employee. The hard truth is most bosses won’t have a say in who stays and who goes. In some cases, there are much larger factors at work. But being a valuable employee may mean the boss may actually pull a favor or two for you to land another position. In other words, there may be a larger game at play here.

So what are some things that you, as an employee, can do to make yourself more valuable?

1. Be proactive. Here’s what drives me insane. I give task A to an employee. They do it and then they sit on it, not telling me its done. Bosses have dozens of things going on at once- most don’t have time to track don’t an assignment unless it is extremely time-sensitive. Be proactive. Tell your boss you are finished and want more work. If you boss gives you multiple assignments, ask which one has the highest priority. If you can’t find your boss after you finished some work, email them so at least they know its done. If they sit on it for days so what? That’s their issue, not yours. Being proactive gets you very far in the work-place and life since most people have a mind-set that their boss will fill their plate with work; most of the time, the boss is too busy to even delegate.
2. Care about the business. Its a soft skill but actually caring whether things are filed on time, the customer is happy with their experience and your co-workers are happy means a lot to your boss. Let’s be honest, most employees are there for a pay-cheque and will do the minimal amount possible to get it. If you actually show you care about the business (apart from the fact you need it to survive to get paid), it goes a long way.
3. Be a problem solver. Every work-place has an employee who I call “arms in the air” guy or girl. When some issue comes up, they throw their arms in the air maintaining the issue either cannot be solved or clueless as to how to solve it (hence, throwing their arms in the arm helplessly). Don’t be that person. Bosses hate that person. They are the first to go. As the saying goes, either be part of the problem or part of the solution. If there is an issue, volunteer to solve it. If you don’t know how, ask around. Its not that people don’t know how to solve the issue, its that there isn’t the political will to do so or “its not my department” (well, if its not your department, maybe we should eliminate your department first because what good are you to the business then if you won’t help us beyond your job description? Think about that next time you want to use that line since all you are doing is implicitly indicating you are redundant). There’s an old saying in business- its better to pitch to the board a solution that may not ending up working then no solution at all.
4. Show the boss you are learning from your mistakes. My favorite employee of all time once came into my office and said “how do we make sure this does not happen again next time?” By that simple question, the employee showed me: (a) she cared about her job; (b) she wanted to be a problem solver; and (c) she wanted to learn from the experience. She was recently promoted.
5. DO IT, don’t talk about it. I never like the employee who comes in to my office and talks for 5 minutes about what he is going to do, what he’s got on his desk and how he’s going to organize himself today and then tomorrow start the task after the staff meeting in the morning…. tell me when you are going to do it, do it in time and show me.

Many employees complain about their bosses micro-managing them or being control freaks. Sometimes, their boss is insane and it is true. But do you also want to know why some bosses micro-manage? They don’t trust you enough because you are not displaying some of the traits above.

My favorite employee referred to above? I never micro-managed her. You know why? She would come into my office daily (see #1), tell me what she had done (see #5), tell me the issues of the day and wanted to know if her proposed solution was ok (see #3 and #4) and chat to see how things were going on my end (see #2).

I hope this give you some food for thought.

Next week I am going to address how to ghost-write effective recommendation letters from your former employer if you are looking for work.

Today, as a slight change-up, Thicken My Wallet goes metro-sexual on you. For the better part of the decade, I have been a suit. Had to buy them. Had to wear them. Had to replace them. I scratched my head over the whole business casual thing during the earlier part of this decade and was equally puzzled when I first graduated law school trying to figure out what to buy to look professional in a corporate setting.

Looking back on the entire thing, I am astonished at how much money I have probably wasted buying clothes and how much bad advice on clothes you get (from a dollars and cents perspective and from a fashion sense). So, not that you asked, but here are some tips on dressing professionally for less. Now, given I am not a woman or a cross-dresser, my advice does tend to be very male specific (although if you have to shop for your male significant other, this may help you too).

1. Buy three classic suits. Black (or dark blue), grey and blue in that order. Spend good money on the black suit. You can cheap out a bit on the others. Your black suit gets you in everywhere- work, formal work functions, weddings etc. Its your old dependable so pay a little more. Outlets sell perfectly good suits BUT the one thing you should not alter are the shoulders. If the shoulders don’t fit, don’t buy it. Remember you are not going to the NBA draft but to work- buy classic suits (no 4 button, 1 button, pink pin-stripes).
2. Buy white and blue shirts- avoid the trendy colors. Remember the pink shirt trend? Anyone wear it anymore? Stock up on white shirts and blue shirts; you may not work at IBM but they are good colors to buy- they are classic and get you into every function without comment. The one downside is that white shirts and blue shirts don’t go on sale that much but why would you buy a pink shirt on sale if you could only wear it for one year? A good shirt should last you at least 18 months (more if you are careful).
3. Never buy a tie at full price. They always go on sale especially in the summer.
4. Try to wash your own shirts. Dry-cleaning is expensive and very hard on the environment and your shirts (a lot of chemicals are used to dry-clean). You can get more wear from your shirt if you wash and iron them yourself. You don’t need to dry-clean your suits more than once a year (you actually damage them if you do; the heat cause the suit to lose its shape). The cost of maintaining your clothes through dry-cleaning costs, over time, more than the clothes themselves in some instances.
5. Causal Friday? Don’t go and buy a causal Friday only wardrobe. If your work place does not allow jeans for causal Friday, wear cords (good solid affordable pants) and a sweater- clothes you probably have already and things you can wear on the weekend with running shoes instead of your work shoes. You can do causal Friday without dropping hundreds of dollars at Banana Republic. Causal Friday was a conspiracy by retailers to get you to spend more money.

Anyone else want to share tips?

With news of governments guaranteeing inter-bank lending, the stock markets seemed to have moved from sheer panic to ulcer-inducing worry (if you define that as an improvement). However, some retail level investors seemed to be in full-out panic mode, wanting to liquidate perfectly good long-term assets to minimize short-term damage to their portfolio.

Since many high-dividend yielding stocks tend to be concentrated in the financials, some “dividend investors” are panicking and selling out.

While some of these stocks may never be the same, let us remember one of the fundamental principals of being a dividend investor. Ultimately, you are buying a cash flow from the company; albeit not a guaranteed cash flow but the basis of dividend investing is that you have a bird in the hand- the dividend- above all else, stock appreciation be damn in bad times as long as you have cash in your jeans.

While no one likes it when their stocks go down, as a dividend investor in bad times, the analysis should move away from stock price increase and dividend increases and towards whether the cash flow is defensible going forward. There has been in the blogsphere a lot of mashing of teeth over GE’s decision not to raise its dividend but, as I try to explain below, GE is in pretty dangerous territory from a business perspective to raise the dividend. In fact, doing so many be a penny-wise, pound-foolish move.

How do you tell whether you have invested in a safe cash flow? From a dividend investing perspective, look at the dividend payout ratio. The dividend payout ratio is a percentage determined by the total dividends paid/profits. Thus, a company paying out $1 million in dividends to its shareholders on $5 million in profits has a payout ratio of 20% (I am going to address dividend yield another time). Payout ratios are easy to find now, most financial websites calculate it for you.

For mature companies that have no need to reinvest their profits into expansion (think tobacco and booze), it is not unusual and not dangerous if over 75% of a company’s profits are paid as dividend to investors. After all, what are these companies going to do with all that money? The cash flow one is investing in is stable and predictable.

But for growing companies, as dividend/cash flow investors, it generally becomes dangerous to invest in a company that is paying out more than 50% of its profits in dividends (there are exceptions to the rule). Dividend payout ratios increase for two reasons: (i) a company increases a dividend in a greater percentage than profits are increasing; or (ii) the dividend remains the same but the ratio increases because profits begin to fall.

In the former case, why would a growing company want to give so much money back to a shareholder? Its going to lose its competitive edge that way since its competitors would be reinvesting more of their profits to be market leaders.  A dividend increase in this context is not that desirable for long-term growth prospects (as strange as that sounds).

In the latter case, which is what is happening now, one begins to worry about how safe the cash flow is and whether the company can continue to maintain the dividend payment to you.

Let me use some real life examples.

GE, a long-term dividend paying stock, had a dividend payout ratio in the 40%’s up until earlier this year. It is now 55% according to Yahoo! Finance. For a company that engages in massive R & D, capital expenditures and is positioned in growing industries, you don’t want to be spending that much cash in dividend payments.

As an investor, you would rather have the short-term pain of no dividend increase to allow the company to reposition itself. At this point in the company’s history, an investor should be worried about whether the cash flow can be maintained and not asking for an increase. Although it could be done, it will set the company back long-term.

On the flip side, Johnson and Johnson has been frequently cited as a prudent defensive dividend pick (not a recommendation, please do your own due diligence). Its dividend payout ratio? A much safer 42% according to Yahoo! Finance (a dividend payout ratio in the 35%-45% zone generally strikes a nice balance between paying out an attractive cash flow to investors and ensuring a growing company can reinvest enough profits to continue to expand and increase the dividend long-term).

The morale of the story? In good times, you can have your cake and eat it too: increasing dividends and increasing stock prices. In bad times, one should shift their analysis as to why dividend stocks are so attractive in the first place- it is an investment in cash flows- and determine how safe the dividend is.

I received the following email on Friday from the Law Society of Upper Canada who regulates lawyers in Ontario. If nothing else, it is a timely reminder that having your identity stolen may cost you more over the long-term than the carnage in the stock-market. After all, you can own many stocks over a life-time but one only has one identity over a life-time. Here is an excerpt of the larger email:

“….More recently The Law Society itself has become the focus of some scam artists.

Impersonators or fraudsters are attempting to file changes of address and other contact information with The Law Society for certain lawyers. If successful, the fraudster can create a bogus office in the name of a legitimate practitioner, and divert mail and phone calls intended for that member for an illicit purpose…”

More often than note, the new bogus address is used to apply for credit cards and, in some instances, cell-phone accounts which obviously they use with the lawyer unknowingly being billed (and because you can’t pay an invoice you didn’t know about, you show up as a delinquent account in a credit report).

If nothing else, identity thieves have gotten quite brazen as to actually try to or scam regulators. For you and I, there are a couple of things to remember:

1. If your name has to be published as a member of a profession or association, make sure you check on your contact details from time to to time to ensure someone has not changed it to carry out the scam above;
2. Ask your regulator or association what, if any, precautions they are taking to protect your privacy; and
3. Run a credit report at least once a year to ensure no one has opened an unauthorized account in your name. Here are instructions to receive your free credit report in Canada and your credit report in the United States.

Scams tend to increase during bad times so please do be diligent about your identity.

…and for those who live in Canada, please remember to vote today. Remember you get the government you deserve and apathy or indifference is returned in kind by politicians you did not elect.