Question: I know that being a financial planner, you probably do not play the lotto. But hypothetically, if you won in the lotto, what would you do with the money? Asked at “Ask a Friend, Ask Efren” free service at www.personalfinance.ph, SMS, Viber, Twitter, LinkedIn, WhatsApp, Instagram and Facebook.
Answer: Well, you are right. I do not play the lotto. The simple reason is that I would be better off giving away the money as the chances of winning are infinitesimally small. To be specific, the chances of winning range from 0.000019063 percent for a 6/42 game to 0.000002471 percent for a 6/58 game.
But it is not just in lotto winnings that we can receive potential windfall profits. Windfall profit can be defined as a spike in cash flow arising from unexpected, one-time events, which can include inheritance, donations received, profit sharing bonuses or even selling rare piece of memorabilia. So, my answer will address what to do with windfall profits in general.
First things first. In life, we will always have goals, even in our twilight years. Such goals can have monetary implications. So, what needs to be done with windfall profits is not to spend them to your heart’s delight, as what has been the norm, but to use them to help accelerate achieving such goals.
And when it comes to deploying newfound wealth, the most effective and efficient way to handle such wealth is through what we call EnRich CD-RW management.
Whatever windfall profit enters your finances can either be used to enjoy life now or in the future. If you want to use the money to help achieve your future goals in life, you will need to put that money to work by investing it. You can also amplify the returns on your investments by responsibly using other people’s money or debt. But what is important is that the additional net profit you earn from investing your windfall profit is reinvested until that time you need to withdraw to realize your goal.
More specifically, you will need to be efficient in earning gross income from employment, your business and investments. In other words, you need to have a lot of net income left over from your gross revenues. To put in another way, you need to have a high net income margin. This is the “C” or cash in EnRich CD-RW management.
As mentioned, you can amplify the earnings on your investments by using other people’s money to acquire your earning assets. But you need to do so responsibly. This is the “D” or debt in EnRich CD-RW management. If you do not borrow responsibly, the interest expense may end up being too big to give you a high net income margin. Also, if you merely use debt to enjoy life today, there will be no amplification of your earnings. Instead, you might end up suffering from a cash flow crunch because of interest and principal payments.
Your assets can be funded only from two sources, namely: (retained) earnings and borrowings as demonstrated. But a good portion of your assets need to be earning as well for you to achieve your goals efficiently and effectively. That is why most of your assets, especially when you are still young, need to be earning assets. This is the “W” or wealth in EnRich CD-RW management.
You will have noticed that I skipped the “R.” In planning your finances, the sequence should be CD-WR, with “R” standing for risk management. Once you have established how to reach your goals through CD-W, you will need to protect those dreams through risk management, which is essentially acquiring adequate life and non-life insurance where the payoff is 100 percent guaranteed.
But the sequence becomes EnRich CD-RW management when it comes to the actual execution as no investment is fully guaranteed and we do not know when we will be called from this life.
So, when windfall profits come your way, think of EnRich CD-RW management. INQ
Efren Ll. Cruz is a registered financial planner of RFP Philippines, seasoned investment adviser, bestselling author of personal finance books in the Philippines. Become a YAMAN Coach. For details, email yaman@personalfinance.ph. To learn more about personal financial planning, attend the 90th RFP Program this June 2021. To inquire, e-mail info@rfp.ph or text at 0917-6248110