Family Office Private Equity
Private Equity has been riding a wave of unprecedented performance in the last ten years and as a result of this it has proved to be a common investment for many family offices. In this article we will look at why the union between private equity and family office is such a perfect one.
What is a Family Office Private Equity?
While there has been an increase in the number of family offices created and investments in private equity in recent years, we will look into the integration of these two concepts.
Are Family Offices Considered Private Equity?
Family offices assist with the asset management of one or multiple families (as either single or multifamily offices). They service the goals, investment objectives and other fiduciary/financial needs of the client.
Private equity firms and hedge funds typically raise capital from outside investors (such as family offices) to fund start-ups.
Do Family Offices Invest in Private Equity?
Family offices are typically created by the ultra-high net worth, and as many of these families accumulated their wealth through successful entrepreneurship, an investment in private equity (a similar asset class) seems natural.
All in the Family – A Guide to Family Offices
We have touched on the subject in this series before, however, we will touch on the basics of a family office once more.
A family office is any collection of professionals, whether separate from a family business or not, which provides dedicated personal and/or professional services to a family (including but not limited to financial services, tax and estate planning, etc.).
Family offices can also cover the professional staff managing the professional services to the families and these services can be performed by as few as two, or as many as 350 or more people, in-house.
What is Behind the Recent Rise in Family Offices?
Wealthy clients and families have been gravitating towards family offices more often recently as a result of principal family members wanting more control and flexibility of their assets and investment options.
Family offices also provide these clients with a comprehensive wealth management plan for the assets under management (‘aum’), which ensures the preservation and smooth transition of wealth between multiple generations.
The Process of Interfacing with Family Offices
Each family office is unique and there is no uniform way of dealing with each one. It is important for the firm managing and providing the services to the family to ensure they understand the needs, goals, investment objectives as well as the complexity of the family’s lifestyle and asset classes. This will enable the service providers to better service the family office client(s).
The Challenges of Dealing with Family Offices
Where a family’s assets and wealth are more sophisticated, the family office may face a lack of organization. Principals are also prone to make investments into private equity/venture capital projects during informal settings where the investor has little to no knowledge of the industry.
Whilst family offices are ideal investors for private equity firms, the optionality family office clients would like to create may result in the finalization of the transaction being delayed. The finalization of the transaction does not impact the lives of the family members in any meaningful way.
What Does the Future Hold for Family Offices?
Family offices are a rapidly growing contributor to the capital markets and as a result service providers are spending more time determining the best ways to service their clients. Emphasis is also placed on employing and sourcing operational staff who are able to ensure that the wants and needs of the family are adequately serviced and met. According to the Forbes 2022 Family Office Round-Up, family offices have been the most fluid group of investors, proving to be the backbone of the global economy post-pandemic.
While each family office is unique due to the complexity/sophistication of the ‘aum’ for each family, the basics of what the family expects from the firm or chief investment officer managing the family office remains the same.
- What Does a Family Office Do? A family office provides high net worth clients with a wide range of professional and financial services while also preserving and promoting the value and identity of the family.
- How Much Money Do You Need to Start a Family Office? Traditionally family offices are recommended for wealthy families with a net worth exceeding $50million. The cost of setting up and managing family offices can also be quite expensive and a family considering a family office as an option need to ensure that they have the liquidity and wealth to sustain the family across multiple generations.
- How Many Family Offices Are There in the World? While there is no formal data to answer the above question, studies have been conducted which estimate that there are approximately 5000 family offices in existence inside privately controlled businesses in the US, Europe, and Asia. Further estimates provide that there are between 2,500 and 6,000 single family offices in the United States alone.
Private Equity and the Family Office
Many family offices have opted to invest in private equity, in the traditional manner by using third parties such as hedge funds and private equity firms; however, many family offices have also opted for the co-investment/direct investment route, and we will look into the reasons for this in more detail.
What is the Attraction?
As mentioned above, many of the families who have attained ultra-high net worth status have accumulated their wealth through their own entrepreneurial ventures. Investment in private equities seems like a more natural investment for these families as the cornerstone of the asset class is value creation for private companies.
So, What Are They Investing In?
According to the 2021 USB Global Family Office Report, family offices have increased their investment in the private market allocations through private equities versus the alternatives such as real estate, art, fixed income, and publicly traded equities.
Family offices are now co-investing in investment vehicles by taking minority stakes while private equity firms are taking larger stakes. These allocations were traditionally executed by third-party managers but the desire for reduced management fees and greater control of the underlying investments has led to this new trend.
Why Family Offices Are Playing in PE’s Sandbox
In many instances, entrepreneurs may find that family offices may be a more attractive alternative to PE investment. This is due to the fact that family offices are able to compete with PEs for direct investments, they have the flexibility to change their focus and are not subject to the same regulatory requirements as funds.
The Family Office as Private Equity Investor
Traditionally, family offices have invested in private equity passively through funds controlled by a sponsor, however, they have recently detoured from this route by actively managing their investments in these privately held enterprises.
Appeal of Active Private Equity Investing
Family offices manage unprecedented amounts of wealth and have become more sophisticated and professional. The landscape of private equity is competitive and specialized and due to the classic principal-agent solution offered by sponsored funds, the cost of their management and performance fees have historically been worth paying. However, in recent times family offices have found that managing direct investments can be more cost effective.
Fund Investing May Be Better for Many
Actively managing investments is not a solution for all and any family offices, considering this strategy needs to be prepared and initiated. The family office will need to have the required financial capacity and will need to have the ability to overcome the barriers cited by PE investors, namely:
a) Deal pricing;
b) Due diligence; and
c) Deal sourcing.
Going the Direct Path
Family offices may offer more flexible investment terms and can employ longer term investment objectives. In contrast, investment through private equity funds increase value, deploy capital and they typically exit within five years, which often requires acquisition of control (i.e. it is essentially a buyout of the founders shares).
Family offices with the required capacity can position themselves to compete in the private equity arena as long as the family office finds and assembles the right team with the necessary experience and connections with well-connected external advisers.
Family offices opting for direct investment may yield greater rewards (while taking on more risk), however, private equity fund investing may be the better approach for many others.
As mentioned above, the USB Global Family Office Report has indicated that more family offices have increased their private market allocation in recent years.
Benefits of the Co-Investing Approach
A benefit of co-investment is that it provides the family office with insight and transparency into their investments and also provides an efficient way of deploying capital into alternatives.
Another benefit is that some family offices are opting to make direct investments on their own by entering industries where they can add value and already have expertise.
Forging a Path to Direct Investing Through Technology
The human capital element is crucial to construct, source and monitor the potential opportunities. The infrastructure and skillset required for direct investment is very different to that of a family office still using a traditional private equity firm – especially information technology systems that manages and monitors portfolio companies and reports on operating metrics.
Growth of Family Offices in Private Equity
Once the IT systems and experienced staff have been employed, forging relationships can help with communication and collaboration both inside and outside the organization. The infrastructure and the experience being in place (whether in the form of a PE firm or direct investment), will result in the growth of family offices in private equity.
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