Two important documents, the Profit and Loss Statement and the Balance Sheet, are used to analyze and evaluate the financial condition of a company. The P&L Statement captures revenues and expenses over a period of time, while the Balance Sheet is a snapshot in time of assets and liabilities. These documents are effective tools to use when selecting stocks, but are invaluable if you apply them to your own personal finances. You can use a shoebox, a Hello Kitty Notebook, or the latest mobile App to assemble the information needed for these documents. You are only a true investor when you build or adopt processes in your own way. I think of the P&L as a running river, and the Balance Sheet as the reservoir where the assets collect over time for later use. The reservoir only fills when you have positive cash flow (you consistently spend less than you earn).

Down the road, you will have sufficient assets to generate the cash flow you will need during retirement to replace the earned income you no longer have. In other words, you will slowly release the assets from the reservoir to meet your cash flow needs. As you can see, both tools are important and interact with each other. You are better served by focusing on keeping a clean balance sheet than you are by worrying about what your credit score is, although the banks and lenders would have you think otherwise! A good rule of thumb is to only borrow money to buy assets that will appreciate in value, such as real property or business interests, and never borrow for depreciating items such as vehicles or other consumables. By living within your means and not using credit, you can slowly use positive cash flow to build a rock solid balance sheet.  Managing expenses can become even more important during the retirement years, so learning the skill early can be a significant advantage.

The Personal Profit and Loss Statement can be downloaded here:
https://pawleysblog.com/wp-content/uploads/2012/02/personal-balance-worksheet.pdf

If you review the income and expense categories, you should be able to assemble what your monthly budget looks like. For income and expenses that occur quarterly or even annually, you can add a pro-rated monthly amount or just track them separately.

The Personal Balance Sheet can be downloaded here:
https://pawleysblog.com/wp-content/uploads/2012/02/personal-balance-worksheet.pdf

If you collect all of your current asset and loan statements, you should easily be able to complete a current balance sheet. Hopefully you have a heavy asset side and a light liability side, but if not, take heart, with incremental changes you can improve your future situation dramatically.

If you have amassed debt, line up the loans based on the interest rates, highest to lowest. Try to negotiate lower rates if possible or combine balances at the lowest possible rates. Implement a personal spending freeze except for absolute essentials (and redefine what really is essential). Funnel as much money towards the highest interest rate loan, and work from there to pay off everything as quickly as possible. If you have a setback and go on a frivolous spending spree, that is ok, pick yourself up, dust yourself off and start back at it. Even if you are in a situation where you have debt to pay off and little or no savings, I encourage everyone to start a Roth IRA and save at least $25/month. If you are fortunate to be offered a retirement plan at work, enroll and begin contributing there, especially if there is the possibility that your employer will provide a matching contribution.

Important Note Regarding Retirement Distribution:

Distribution planning can be stressful and even well-prepared and budget conscious retirees fear outliving their assets.  With pension and social security income streams essentially fixed, it can be difficult to keep up with inflation.  A detailed plan, including estimates for longevity based on family health history and projections for any potential large one-off expenses, can go a long way in helping retirees be better prepared.  Deferring distributions and allowing retirement assets to “percolate” during the first several years of retirement can create a powerful advantage down the road.  Some retirees are fortunate to have low expenses and no need to tap into assets while some can get by using just the income generated by their portfolios.  Income from different types of trusts may be sufficient for a lifetime while leaving assets to family members or favorite charitable organization.  Others will need to draw from principal, and at that point it becomes critical to pare out budget expenses into essential and discretionary items.  Consider keeping at least 12-36 months of expenses liquid so you are not forced to sell portfolio positions during downturns.  Some retirees find it helpful to create different baskets of funds designated for specific uses.  Tax planning is also an important consideration, so partner with your CPA and investment advisor to determine ordering of how you source funds from tax-deferred accounts including IRA’s and Roth IRA’s, and any old annuities you may hold.

With so many factors beyond the control of the individual investor, my philosophy is to guide people to focus on those areas that they can control, such as minimizing expenses, saving during younger years and avoiding debt throughout your lifetime. Do not always be a squirrel, however, because enjoying time with friends and family and exploring all this wonderful world has to offer is priceless. Strive for proper balance, and “invest right, live right!”

© 2011 Pawleys Investment Advisors, LLC. All rights reserved.

In order to shed light on how I could motivate my staff during difficult times, my father told me a story about a factory where the lighting was gradually reduced.  As a career-lifer of Corning, he worked with many electrical and lighting companies, so his insight went a bit deeper than the famous research done at Western Electric in Chicago (known as the Hawthorne studies which evaluated worker interactions).  His point was to demonstrate that once people get used to having something, they respond in a negative way when it is removed.  It makes me think of a word I generally dislike – deserve.  As an example, during 2001, the brokerage firm I worked for froze pay raises and cash bonuses.  My staff went from working hard and making very good money, to still working hard and making substantially less money. 

After I recently wrote about the importance of honing the skill of managing individual cashflow, I thought about my father and his lighting story.  After the recession of 2008-2009, many people lost sources of income and saw the value of assets plummet.  In essence, the lights were dimmed.  During a difficult personal financial time or struggling larger economy, the ability to turn down the spending faucet is critical.  These decisions can have a significant influence on how you end up financially in the long run.  So, if you go from a position of wealth to a position of less wealth, be sure to make adjustments accordingly.  If you continue to act entitled to the lifestyle to which you had become accustomed, you may end up in the darkness of financial distress later down the road.

© 2012 Pawleys Investment Advisors, LLC.  All rights reserved.

Planning for retirement involves amassing a nest egg from which to generate a stream of income to meet future expenses.  It may also involve generational wealth planning and charitable contributions, but for the majority of investors, a portfolio that generates a stream of income will be necessary after they stop working to supplement any social security or pension income they may have.  The fancy, technical word for this is the “distribution” phase of retirement planning.  From a corporate finance point of view, it is simply cash flow.  One way younger workers can begin to learn about managing cash flow is to start saving a little money from every paycheck.  Newer investors may even have experience saving for a new car or first home purchase.  With the mass-marketing of credit cards and car loans, fewer young Americans learn the basics of saving. 

Take heart!  You can start saving with as little as $25/month and grow from there.  If you have racked up some debt, again, take heart!  Implement a personal spending freeze except for absolute essentials (and redefine what really is essential).  Funnel as much money towards the highest interest rate loan, and work from there to pay everything off as quickly as possible.  If you have a setback and going on a frivolous spending spree, that is ok, pick yourself up, dust yourself off and start back at it.  By really working at it and learning how to use a monthly budget, you can begin to develop your skill of managing cash flow, which is a critical component to a successful retirement.  By starting early, you have the decades you spend in the workforce to hone your skill of managing cash-flow.  Retirement can be difficult, and life expectancies continue to rise along with the costs of healthcare.  Sharpen the skill as much as possible, because no matter how comfortable your early retirement may feel, you might need these skills in later years.  It is not as simple as taking 4%/year from your investments.  You really need to develop a feel for managing cash flow.  What I can do is provide you with some helpful tools, guidance, and lots of encouragement, because everyone can work hard, make small changes and improve their situation.

From the Investment Toolkit:

Personal P&L Budget Worksheet

As a gentle reminder, this is an area where you have complete control, unlike the cycling of the economy, volatility of the stock market, or actions of the government (such as setting tax code), where you have limited control.  So, this is a great place to direct your energy, unlike the aforementioned.

© 2012 Pawleys Investment Advisors, LLC.  All rights reserved.