In Theory, it’s always better to work for yourself than it is to work for somebody else. Businesses exist to make a profit and if you don’t own the business you work for, you’re making profit for someone else.
What is profit? In the simplest sense, profit is the difference between what you buy something for and what you sell it for. If the number is positive, you’ve made a profit. Sometimes a business is just that, buying and selling. Drop shippers, stock traders, investors for example.
Every other business does this too. It’s just that more happens in between the buying and selling. A manufacturing firm will purchase a bunch of raw materials and components, add value to them during the production process, then aim to sell it to the end customer for a price higher than the total cost.
Businesses that sell a service do the same thing. If you can sell a service for more than it cost you to provide, then you’ve made a profit.
If you’re not a business owner, you’re part of the “production process”. You’re charged with adding value for the business you work for. The problem with being an employee is that if your employer is to make a profit off of you, the employer must recover more than what they’ve spent.
When you think of business like this, it sounds like you’re being exploited as an employee. In all honesty, for much of the world it is exploitation. Consider companies that send their factories to third world countries, just because the wage economies are better. This is obviously only done to lower the wage cost to the company, it would be ridiculous to think that company’s aren’t consciously trying to minimise their labour costs.
Should we then all strive to be business owners? Well there’s another difference between being an employee and being a business owner- Risk.
The Risk of Being in Business
One of the defining characteristics of being a business owner vs. an employee is that businesses owners take on a level of risk. The risk is that the business doesn’t make a profit and even worse, the original investment is lost. In some situations it’s possible that even more than the original investment is lost. If you’ve financed your business with a loan and the business collapses, it’s possible to lose anything you’ve pledged as security. In several cases this can trigger bankruptcy.
Profit is the compensation an entrepreneur receives for assuming the risks of ownership. Employees don’t assume any of this risk. If the business collapses, an employee is normally a ‘secured creditor’, this means that they will be paid out any owed wages and other entitlements before most other debts the business has are paid.
So Which is Better?
I will always advocate that being a business owner is superior to being an employee. A business is an investment, and like all investments there is a risk and a return. As an employee you’re generally not invested as much as a business owner. You don’t take the risk that the business loses money, but you don’t get to share in the profits when it’s doing well.
Being an employee might suit many people. People that can’t or don’t want to tolerate risk might feel more comfortable in a position of employment. This is absolutely fine, however these people will have to make peace with the fact that in exchange, some of the effort of their labour will end up in the hands of their employer in the form of profit.
Why Ownership is Better than Employment
Why do I personally think that being a business owner is better than being an employee?
We mention that the trade-off of being a business owner is that assumption of risk. But what is risk? Is it simply rolling the dice? Absolutely not, risk can be controlled for. The overall ‘business risk’ is that the business does not make a profit. This risk itself however is able to be broken down into various other sub-risks that when added together sum the business risk.
For example, the risk that a business doesn’t make a profit might comprise three elements:
- The risk that there is no demand for your product
- The risk that your product is too expensive to produce
- The risk that your business doesn’t have enough cash-flow to fund day to day operations
In reality, a business will have several more risks than this. The point however, is that each of these risks can be mitigated (but not always eliminated).
- The risk of no demand can be mitigated by performing market research and tailoring products and services to customer needs and wants
- The risk of an expensive product can be mitigated by exploring cost-cutting opportunities and making the production process more efficient
- The risk of inadequate cash-flow can be mitigated by ensuring the business has sufficient working capital
If risks can be mitigated, the residual risk can often by quite low. When the residual risk is low, this makes the associated return relatively lucrative. Consider several of the world’s oldest and largest companies. These companies have had several years to identify, analyse and control the various risks that they are impacted by. Often these companies have not made a loss in decades. ExxonMobil is one of the few modern companies that is operating from the nineteenth century. Examining ExxonMobil’s profit and loss statements back to 1985 shows that the company has not posted a loss once in this 32 year period. ExxonMobil has had decades to identify and control business risks.
Reducing business risk is an iterative process but the results are worth it. While there will always be residual risk, the ability to control risk is fundamental to my opinion that being a business owner is superior to being an employee.
I’m not saying that everyone should own a business. Not everyone has the ability, drive and temperament for business ownership. Sometimes business risks cannot be reduced to a tolerable level. Conceptually however, If you have the ability to control the only downside of being in business, there is virtually no reason to be an employee.