The secrets of selling an investment at the right time

Another grave danger to compounding is boredom. I am certainly guilty of this weakness. I have sold great companies simply because I had owned them a long time. An example was Integrated Dental Holdings, a business I co-founded. After 10 years and an eventual big gain, it felt like a good time to exit: in fact, the business was poised to grow dramatically in value for at least five more years.

Cynicism is also a threat to compounding. I have seen many investments go wrong after five years or so, especially in fickle industries such as hospitality. When my then colleagues persuaded me to sell the restaurant operator Strada, I thought its tremendous early expansion would not be maintained. Yet for the next two years, it boomed, under the stewardship of my ex-colleagues, who remained heavily involved. Interestingly, Strada did fall out of fashion, but not until some years after my premature exit.

I have sometimes sold assets because they proved troublesome — but foolishly selling just as a turnaround was about to happen. One’s experience with a business profoundly influences your perspective of its future — even if conditions are becoming dramatically more favourable. Sometimes you are blinded to improved prospects by scars from the past. In such situations, knowing the history can be a disadvantage.

I have sold businesses too early when I decided I did not like the industry — even if it was clear that there was more money to be made. Years ago, I owned both bookmaking and cheque-cashing shops, but I realised that each essentially dealt in misery, and that there were more decent ways to make a living. Consequently, I was happy to dispose of them without regret.

Frequently I have sold too early because my partners wanted to sell. In some cases, they needed the money to buy a home, in other cases to pay off debt, or they were obliged to sell because they were ill. On almost every occasion, especially if my partners are actually running the company, I sell out when they do. Once this definitely worked in my favour: a partner and I backed an engineering concern. He fell out with the management, and from a sense of loyalty I resigned from the board and sold out together with him. We managed to secure a price very close to the all-time high — by sheer luck.

I think of myself as an optimist at heart, but most of us suffer from bouts of pessimism. Sometimes that has persuaded me to sell things I should have kept. I remember selling a London house far too cheaply more than 10 years ago, thinking the property bubble in the capital was bound to burst soon. That was a pretty dumb move.

Compared to many investors, my capital is patient money. Normally I want at least a three-year horizon for any investment, and the best ones I typically hold for two or three times as long. Selling always involves costs — commissions, fees, taxes and so forth. Finding attractive assets to buy is very hard, so when you alight on a solid performer with sound expectations over the long run — stick with it.

If your entire net worth is tied up in a business you’ve built, you should bear in mind the importance of diversification. A new book called Lost and Founder, by Rand Fishkin, describes how the author turned down an offer in 2011 of $25m for his company when it had achieved only $5.7m in annual revenue. The business has grown since then, but his stake could well be worth less now — and he still hasn’t had a payday.

Such sobering tales remind one that a profit remains a profit.

Luke Johnson is chairman of Risk Capital Partners and the Institute of Cancer Research. You can read the original article here.