Wealth creation- Ratio of spending to income

So until now, you have learnt the simplest definition of what is an asset and what is a liability.

To revise again, ASSET is your belonging which puts money in your pocket, while the LIABILITY is your belonging which takes money out of your pocket.

If you want to be rich you must buy assets, lots and lots of assets. You have to allocate most of your income in purchasing assets, but what's the point of making money if we can't buy liabilities? Because we have longing for all the costliest liabilities, e.g. fancy car, huge flat screen television sets, home theatre systems, automatic home appliances, latest smart phones, fancy gadgets, the list even goes to luxury yatchs, private jets, vacation houses, maids and servants, personal assistant etc.

To understand how to do it, you must imagine you are doing a business, even if you are not a businessman. (what is a businessman? is another important topic to write a post on, you will soon get to read it on samanyabuddhi.blogspot.com , stay tuned.)

So now you are imagining that you are doing a business, you are the CEO and managing director of the business. Your business is managing your family. You and may be other family member of your family have incomes, may be from job or self employment or business or rental etc. That is your income or you can say income from operations, and then you have to pay the utility bills, grocery bills, servants salary if there are any, tuition fees of your kids, hotel expenses, entertainment expenses, purchase of clothes, traveling expenses, loan EMI's, fuel expenses etc.

So these things make income statement or cash flow statement of your business(it tells you from where your money is coming from and where it is going)-

Income statement / cash flow statement-
Income-
1) My salary -
2) Spouse's salary-
3) Interest on deposits-
4) Dividend on investments-
5) Gifts-

Expenses-
1) Grocery bills-
2) Utility bills-
3) Traveling expenses-
4) Maintenance of vehicles-
5) Children's education-
6) Healthcare expenses-
7) Gym memberships-
8) Entertainment-
9) Miscellaneous expenses-
10) Various taxes-

There can be other incomes and expenses too which I have not covered, but you can include them.

If you do it, you will get a clear picture of, from where and how much money is coming and where it is going. The money remaining after the expenses is your free cash or savings. You can use this free cash to buy assets, which will add to your income.

Similarly, you can make list of your assets and liabilities on a sheet, known as balance sheet.

Assets- (which put money in your pocket)
1) your job
2) property(only if it is putting money in your pocket or it's price is increasing more than it's expenses- in short putting money in your pocket)
3) shares of any company you are holding (again if putting money in your pocket)
4) fixed deposits
etc.

Liabilities- (which takes out money from your pocket)
1) your car
2) your smart phone
3) your tech gadgets
4) loans
5) different memberships
6) shares or equity in a loss making company
etc.

So now you get a clear picture of from where your money is coming and where it is going, also which of your belongings are putting money in your pocket and which are taking it out. Once you get the clear picture it is easy to start the reconstruction.

The reconstruction process involves getting rid off the unwanted liabilities and purchasing more of the profitable assets.

But the question is up to what extent we have to do it for the best results?

The answer to this question lies in the financial statements of the successful companies. How these companies spend their earnings. The dividend they give out is expense to them while retaining of earnings to purchase or expand the business is like buying assets for them.

So the first on my list is The company managed by legendary capital allocator Warren Buffett and his business partner Charlie Munger, The Berkshire Hathaway.

Berkshire Hathaway has paid dividend, hold your breath - ' only once' under Warren Buffett's part ownership, but that too because Warren Buffett does not had sufficient percentage holdings to stop the dividend payment. After that Warren Buffett have increased his equity in the company so much as he had virtually total control on the company's decisions. Since then Berkshire Hathaway have not given any dividend. That is the company had used all it's income to fund new investments and expansion of existing profitable operations. Berkshire Hathaway is the extreme case of retained earnings. None can blame Berkshire Hathaway for not paying any dividend because it had used the money for increasing it's income very efficiently.

But if we look at other growing, profitable and debit free companies, we will find that, they are sticking to the 80-20 rule.

It's not a rule it's just an arbitrary value. These growing, profitable and debit free companies reinvest their 80% of the earnings and distribute the rest of the 20% as dividend to the shareholders. In this way the shareholders of the company has money to spend and also have a growing business(growing income).

I always try to stick to this 80-20 rule. It's a no brainer and it works. Now a days most of the average families save less than 10% of their income and buy assets (if they are not paying home EMI's). So it is hard for them to reach that 80% mark, but you can start increasing 1% at a time. You can not convince your family and yourself from directly moving from 10% to 80% but you can certainly convince and achieve the move from 10% to 11% and then from 11% to 12% and so on until you reach your target. Use the proverbial ' Boiling Frog Syndrome ' to your advantage.

That's it for now.

Hope you have got the basic idea about how to look at your financial situation and how to improve it for your betterment.

See you soon.. Till then happy investing...

Sumit
The POWER is when,
You use ODDS,
To get EVEN.

Understanding financial freedom- Cats

I love cats. Cats are one of the many masterpieces of nature's adaptive engineering skills. Cats are very loving, soft, beautiful animals and also deadly, cruel, capable killers at the same time. The most important thing is they know which role to play at which time. A pet cat sitting on your side, expressing it's love for you with the deep and tender 'grrrrrr grrrrrr' sound can sense it's pray or enemy nearby and starts playing it's deadly killer role within a fraction of a second.

Actually I like all the animals in the CAT family, including Tigers, Lion, Leopard; the bigger siblings of our domestic cats. They are almost similar except size and strength.

But they all have one thing in common- "The Attitude".

They have a very distinct confident but carefree attitude. Big cats are really the king of the jungle. If you look at them, you will know, 'they are the undisputed king of the jungles'.

Our domestic cats have the same attitude, same everything, except the size.

As I like to observe and learn, I quickly learnt to understand when the cats are hungry and immediately give then the required food. So my pet cats don't have to worry about the food when I am there. So their Royal attitude remains intact in my company. But what happens when I am not there to feed them is a very interesting thing.

When I am not at home and my pet cats feel hungry, it has two options, either go out and search for a prey or to ask for food to my parents. The first option had very high uncertainty of getting food, they also have to compete with other animals which are after the same prey. But the second option offers some certainty. They will get food if they can convey the message over and over again. So most of the times the cats choose the second option. That is to ask for food.

(Domestic cats convey this message that they want food by, making that deep grrrrr, grrrrr sound and "myaaw, myaaw", simultaneously rubbing their cheeks, body and tail against our feet. (what a demeaning behaviour !!!) Demeaning because they don't do this the other times, that means they don't like doing it. At other times they are exhibiting their Royal attitude. To show their love they just sit beside us or on our laps or body and make that grrrr, grrrrr sound, or they just sit on your belongings like your quilts, bag, table etc. And look at you lovingly.)

Their whole Royal attitude is ruined when they ask for food. And the Royal attitude goes down and down as this process is repeated. But the process can be reversed if they are provided the food before they need to ask. Again their Royal attitude returns.

Amazing story isn't it!!!!

This story will become more amazing and fascinating once you substitute humans for cats and money for food and what a man does to earn the money. The story is equally true.

As domestic cats have two ways to get food we also have two ways to earn money-

1) Go out and earn money of your own.(similar to hunting, a way full of uncertainty, but full of dignity.)

2) Take a refuge to an employer and be a salaried person.(similar to asking for food to the owner by pleasing him, a way with a lot of certainty, but less dignity.)

(see my post on 'ONE IDIOT')

Similar to the domestic cats most of us also choose the option with a lot of certainty and keep doing the job for the sake of money. Even if we don't like doing that job we still keep doing it for the sake of money. We do it year after year and so on up to an extent where this demeaning kind of behaviour is so much ingrained in our brain that we no longer feel it as a demeaning task. We perform our own brainwashing without ever realising it. We even teach our children the same thing- ' to get good grades in the school and college so that you can land in a good paying job.'

It's like the proverbial 'BOILING FROG SYNDROME' (it is said that if we put a frog in a boiling water, it will immediately jump out of the boiling water, but if we put a frog in water at room temperature and slowly heat the water to boil, the frog will not jump out and die. It is because the frog is unable to notice the small changes in temperature of the water, even though the changes are deadly.) We seldom notice small changes in our life until its too late.

Or then there is a social proof bias preprogramed in our brain which prompts us to do what most others are doing.

All this results in to a kind of entrapment.

But don't worry, you can easily get out, just like my cats have found out their way. They just stay with me as they know, they will get food without having to ask or beg. So how can one get the money without asking or doing any job?

To know how read my posts on 3 MOST IMPORTANT ASPECTS OF LIFE - WEALTH.

Enough for today.

Hope you got the lesson from my cats as I did.

See you soon. Till then enjoy the life..

Sumit
The POWER is when,
You use ODDS,
To get EVEN.

She loves me...
She loves me not...

3 Most important aspects of life - WEALTH

Until now we have only partially covered the first aspect of life - HEALTH.

You must have read it in the posts-

3 Important Aspects of living - DIET

What do I do when I get ill?

No. 1 Misconception about great health

3 most important aspects of living

You must have also come to know that there are 3 pillars which support our life-

1) HEALTH
2) WEALTH
3) HAPPINESS

If all the 3 are strong then we can live a meaningful life, we will also take the human race a little forward, because if you have all 3 pillars strong then you will be perceived as a leader, an icon, as an inspiration to those who don't possess these strong pillars. Whether you notice or not but people will notice you. So automatically you spread the awareness. You touch many lives.

Until now we have discussed that Health, Wealth and Happiness are the supporting pillars of our life. All three have to be strong equally so as to live a balanced life. Also if one or more pillars are weak then we can't enjoy the benefits of the stronger pillar. (think about it practically.) Together they compound the strengths of each other. Therefore we have to work on all three to live a meaningful life.

Well I have said at the starting that we just partially covered the first aspect of life, yes it is true, just partially, there are so much to learn. But don't worry, learning is the way of life. So enjoy the process. Take it easy and visit samanyabuddhi.blogspot.com often to learn something more. Get yourself thinking. Get answers to your questions. Never keep any question unanswered.

Let's start with the basics of WEALTH-

Definition-
Wealth is the abundance of valuable resources.

Valuable resources can be anything- money, land, buildings, vehicles, machinery, goodwill, skill, knowledge, personal relations etc.

But as far as the blog- samanyabuddhi.blogspot.com is concerned, we will focus on the wealth which will give us financial independence. Financial independence is the basic thing which one should achieve to become a great wealth creator to the society. Financially independent people are the people who perform the best work in the society, simply because they are not doing the work for the sake of doing it, but as a hobby or as a passion. Financially independent people change the course of humanity towards better, they make the marvels of the world. For example as Mr. Warren E Buffett and his business partner Mr. Charles T. Munger have built the Berkshire Hathaway, Similarly in India Mr. Narayan Murthy have created the Tech behemoth Infosys, or Mr. Siddharth Lal is shaping up Eicher Motors (The maker of Royal Enfield motorbikes), or look at the TATA group, there are many many examples all over the world.

Therefore we will discuss about the financial aspect of the wealth for now.

So let's start with the basics-

Our belongings can be divided in to ASSETS and LIABILITIES.

People gets confused in the two, because as per general commerce practice there are many assets which actually act like liabilities.

To cure this problem we will adapt to the definition made by best selling author Mr. Robert Kiyosaki in his best selling book 'Rich Dad, Poor Dad'. These definitions are very practical and easy to understand. I couldn't find anything more simple or more practical.

The ASSETS are the things which put money in your pocket.

And the LIABILITIES are the things which take money out of your pocket.

So the simple thing is you have to accumulate ASSETS and reduce LIABILITIES.
With this definition, most of our beloved possessions becomes liabilities, for example, our car, as there are fuel costs, maintenance costs, depreciation, takes out money from our pocket, even if we don't use it, it's value goes on reducing as time goes by. Our tech gadgets also lose their value very fast, for example your smart phone, After just a couple of months there comes a new model and the price of the old model falls drastically.

But hold on, you don't have to give up your love for automobiles or tech gadgets or beauty treatment or other luxury items to become wealthy. Then how to do it?

A two word answer will be DELAYED GRATIFICATION.

What is DELAYED GRATIFICATION?

First let's understand what is GRATIFICATION- when any act triggers your feeling of pleasure is known as gratification. For example when you feel thirsty, you drink water and experience some pleasure. Whenever we want something and get it, we experience pleasure. Our brain quickly recognises the pattern because of close association of an act with the feeling of pleasure and then tries to repeat this pattern.

Now what is DELAYED GRATIFICATION?
Delayed gratification is when you perform certain acts which gives you pleasure long after the act is performed. At such times our subconscious have difficulty in noticing the pattern, seeing the connection between the act and the pleasure. Because so much time is elapsed after the act. For example, you have the money to purchase a car, but instead of purchasing a car you invest the money in purchasing shares of a good company growing at the rate of 20% per year, and then after 6 years your money get tripled, you sell one third of your shares and buy a car for the same amount, but what you have now is, a car plus double the money which you originally had plus this money is growing at 20% per annum more than enough to pay for the gasoline and maintenance of your car. Only catch is you have to wait for 6 years for the gratification, but you have gained much more. The pleasure is much more.

You may consciously enjoy the process of delayed gratification until it becomes an AUTOPILOT.

Mr. Charles T. Munger, Mr. Warren E. Buffett's business partner at Berkshire Hathaway says that,

I just need to know where I am going to die, so I won't go there.

So how did instant gratification kills your chances of becoming rich and financially independent?

Generally we get instant gratification through the purchase of liabilities.

Think about it, how did you felt when you bought your first phone, car, big flat screen LED TV, professional camera etc. You probably have felt so much pleasure that you might have forgot about maintenance cost or the finance costs, 'just get that thing' was your focus. You made a permanent damage to your future, but still you felt good.

Now if this instant gratification thing is compromising our future then how did it became permanently programmed in to our brains?

The answer lies in the caveman era, when our ancestors were living in jungle. At that time instant gratification was a boon, instant gratification meant better health and future. Sounds controversial right? But it is true, let me tell you how..

In the caveman era, instant gratification was linked to the basic things necessary for survival and reproduction. We felt instant gratification when we hunted for food and got it. We felt instant gratification when we felt thirsty and drank water. Or having sexual intercourse. Now what happened to those cavemen who didn't felt instant gratification? They might have starved to death or died because of dehydration as they wouldn't have consumed water or food because there was no reward (pleasure). So their capacity to hunt for food or water must have been diminished because of malnourished body. So, you must have to thank instant gratification for your existence. 😊

But now our basic needs are easily fulfilled. The task now a days is to achieve higher status. We struggle to achieve wealth. (you are reading this post is the proof). There is nothing bad in it, but this instant gratification acts like a villain as far as wealth creation is concerned.

To increase our wealth we have to concentrate on accumulating assets, increasing our income, spending less.

But again is it contradicting the whole purpose? Spending less?

Absolutely not, you just have to reduce the ratio of spending to income.

Now this is a really big topic. So I think it is enough for now. Digest what you have just read, think about it. We will get to the ratio spending to income in the next post.

Till then have a great time...

Sumit
The POWER is when,
You use ODDS,
To get EVEN.