It is remarkable that many people who have shown great insight in running a financially successful business should exhibit the judgment of children when it comes to making sound investments. These people make fortunes in the profession for which they have both the knowledge and the experience to succeed, only to lose those fortunes by making investments in areas about which they know absolutely nothing except for what a smooth-tongued promoter tells them.
As investments are essential to maintaining financial security, it is important to understand the basics of what makes them sound.
When considering basic savings, it is important to note that there is a great difference between saving intelligently and hoarding through a spirit of miserliness. Every wage or salary earner, regardless of the size of his compensation, should try to lay aside something of that amount as a fallback for difficult times. No matter how small the amount he puts away after paying for life's necessities and meeting all his financial obligations, he is to that extent a capitalist, a topic which we will address momentarily.
The miser would hide his savings out of reach, but the man with foresight will usually have the judgment to place these savings where they will do more than collect dust, where they will grow by producing an additional amount known as interest.
The individual who places his accumulations in a savings bank has begun a form of investment that may, if continued over time, place him above want, even if it does not entitle him to a place on the list of great capitalists.
Capitalists are individuals (or groups of individuals) who not only have money of their own to invest, but who may -- and very often do -- require more money to exploit the enterprises in which they are engaged. Money loaned to such individuals, after being assured of their ability and integrity to manage it wisely, is as much an advantage to the lender as it is to the users.
The lender's profit is assured if the enterprise does not fail. As a result, the added capital he provides not only protects against such failure, but it may also enable the users to succeed beyond any expectations they could have if forced to carry on the work with only their own resources. One such enterprise is the purchase of land able to be developed -- upon which a house or other structure can be built and then either sold or rented for profit. Another is a manufacturing enterprise, where the users do not have enough money on their own to place the venture on a paying basis. In this case, they rely on other investors, whose contributions they have hopefully managed successfully in the past, to undertake the project.
Capitalists may also operate by establishing a fund from which, on good security, other businessmen in the community may obtain loans. The individuals can obtain a higher interest on the money lent than the interest they pay out on the money used for the fund.
It may be, however, that the manufacturing company does not ask the individual capitalist for assistance, but instead goes itself to small investors with a business prospectus and offers to sell stock in the company, at a certain amount per "share." This gives others a chance to enjoy the profits, be they great or small; however, the larger the chance of profits, the greater the risk that the investors must assume to achieve them.
When stocks sell in the open market for their face value, they are said to be at par. Sometimes, though, when a company is getting started, it may put its stock below par. This stock, in the event of success, may appreciate many times above the par value.
Most companies, organized on a stock basis, issue stocks of two kinds -- one is known as "common" the other as "preferred." As the name implies, preferred stock (its rate of interest is always fixed) is entitled to be paid out of the net dividends first. Whatever is left after paying the preferred stock interest is divided up equally among the shares of common stock, each individual or group receiving an amount according to his holdings.
Sometimes the dividends on common stock are far greater than those on the preferred. The preferred stock dividends are regarded as a fixed charge, but there can be no limit as to the payments on the common stock, if the funds are available after the initial payments.
The stocks of railroads, factories, banks, and other enterprises may be good forms of investment, and for this they are often held for long periods by investors for revenue.
Most stocks, however, particularly of railroads, are continually changing hands. The buying and selling of such securities has grown to be an enormous business, managed largely by men known as "stock brokers," many of whom are strong factors in the financial world.
As a rule, the buying and selling of stocks through brokers is a hazardous form of speculation, which has in it all the elements of gambling. For some, the potential gain from such gambling makes this an attractive endeavor; for those looking for a safer return on their investment, however, it may prove a risk not worth taking.
There is another kind of stock which we should mention, known as "treasury stock;" some companies keep such stock in their safes to meet an emergency. Like the preferred stock, its rate of interest is always fixed.
To understand the nature of stocks, it may be instructive to use an example. Let us suppose, then, that a company is capitalized and prints stock to the amount of $100,000. This company sells $80,000 worth, and the officers believe that they can force the enterprise to success with the money on hand. It follows, then, that with the same amount of earnings, the profits on $80,000 will be greater than on $100,000, so the $20,000 unsold stock is held in reserve. If to extend the business, or for any other reason, it is necessary to have more money, the $20,000 treasury stock may be sold to secure the extra capital.
If the business' success is beyond all question, then the treasury stock may be divided pro rata between the holders of the other stock, for, until it is disposed of in some way, it is an asset common to the company as a whole.
Each stock certificate tells when dividends are declared; they may be paid quarterly, half yearly, or annually.
The best way in which savings can be invested is to use them in the extension of the business in which they were made. The wage earner and the individual on a salary cannot, of course, do this, but any self-employed person -- i.e. the small tradesman, the farmer, the mechanic -- may be able to. Therefore, before looking abroad for a field in which to invest their capital, such individuals should consider how best the money may be used right where they are.
One of the safest forms of investments is bonds, though, as with other forms of security, the rate of interest declines as the margin of safety increases.
If a well-established stock company should wish for any reason to increase its available cash, it may issue bonds, or certificates of indebtedness, bearing from four to five per cent interest and payable semi-annually. These bonds may be transferred in the same manner as stock. They are a good form of security when it is desired to borrow money from the bank, and for many purposes they are as available as so much cash.
Such bonds are issued for a specified number of years and have coupons attached, which are cut off when interest is due and presented to the treasurer of the company for payment. These bonds are secured by a mortgage or deed of trust on all the property of the corporation they represent. To redeem these bonds, when due, the company annually sets apart a sum, known as a "Sinking fund," for their redemption.
Such bonds are far safer than any form of the company's stock, for they bear interest that must be met, whether or not dividends are declared.
Every railroad in the country has been built and equipped by the sale of its bonds. In such cases, amounts of stock of the same, or approximately the face value, of the bond have been given to the purchaser as a bonus or inducement. Of course, the controlling stock is always retained by the promoters; and it is through the representation of this stock that all the business of the corporation is carried on. The cases are few where any money was paid directly for the original issue of any railroad stock.
Bonds sold to build a road are usually known as "construction" bonds. There may be another bond issue for equipment -- with a stock bonus -- and still other bonds, each series stating the property pledged and the purpose for which the money from sales is to be used.
The "Christian Herald," in one of its recent financial articles, clearly defines this species of bonds, as follows:
"Railroad bonds are usually pledged by the President and Treasurer of the railroad and by the Trustees, to whom the bonds are made out, and who must defend the rights of bondholders, should the company fail to meet any of the obligations it undertook in the mortgage deed.
"In other words, a bond is the Corporation's promissory note for the money originally paid by the investor, with interest for the same, to be paid to the investor in stated amounts at stated intervals; and to guarantee its good faith in the matter, the Company pledges the bondholder an interest in certain property in its possession. It follows that a bond has a first call upon the property rights of the corporation; that it represents something tangible; that it pays a definite amount of interest, and that it may be reduced at its full value at a certain time."
It is important to consider, though, that happiness in one's work means far more than the accumulation of a fortune in discomfort, and one way to assure your happiness is to ensure your business remains in good standing; having made your credit and business reputable and firm, you must keep them such by an adherence to the same means which brought you there.
If you can avoid it, do not loan your name to every needy friend that comes along. Your neighbors will question your good judgment every time you have to meet a note which you were coaxed into endorsing, and you would have saved yourself a great deal of trouble by loaning the money to them outright.
In addition, you should not deceive yourself into believing that you are making money when, as a matter of fact, you may be losing it instead. For example, if you buy an article for two dollars and sell it for two and a half, you may say to yourself, "I've made fifty cents, so I'm earning a profit. However, before crediting your business with that fifty cents, you should have considered these points: 1) The loss of interest you would have made on that two dollars if you had not bought the article in the first place; 2) your own time or other time paid for; 3) the capital you invested in items not sold; 4) the rent; and 5) additional overhead, such as transportation, insurance, heat, light, bad accounts, unsalable goods, taxes, public donations, and the purchase of additional items necessary to the proper functioning of your business.
Some additional points to consider are that you should make an inventory of your stock at least
once a year. Then, having done this, you should give your stock a fresh appearance, whether new goods be added or not, to indicate the quality of your items to the discerning consumer. Get rid of all the dingy, dirty, disreputable stuff that you either could not sell or give away, and which has clearly not enticed your customers.
Quite as important as keeping the stock in order is keeping the books in good shape, and you should make sure to keep an accurate account of your business. Weed out, at least once a year and preferably sooner, any outstanding items you are carrying; after all, why should carry as collectable those accounts which you have been assured, for years, would be paid and have not? The best thing to do is, if truly uncollectible, to wipe them out and charge them to profit and loss. It is only by annual house and account clearings that you can tell about how you stand.
