Five Ways the Family Office Playbook is Evolving

The number of family offices globally has grown exponentially over the past ten years, fueled by successful entrepreneurs whose companies have gone public, hedge fund/private equity managers, or silicon valley whiz kids. It is challenging to know the true number of family offices globally due to their secretive nature and the general fluidity in the definition of a family office in terms of minimum investable assets and asset class focus. This has allowed them to fly under the regulatory radar and maintain anonymity, like investment superheroes.

Traditionally, family offices quietly invested through private equity and hedge fund vehicles. Becoming the anchor investor was never out of the question for family offices who tended to like the perks that come with seeding a new fund vehicle, such as reduced fees and greater control. With family offices now coming into the spotlight, they are approaching investments with an aim to obtain more lucrative returns, have direct control of their investments and to have the ability to be involved in investment governance.

Here are five areas in which the family office playbook is evolving.

1. Selling the Idea of Patient Capital

Family offices investment approach differs from typical private equity firms as they can hold investments beyond the typical three to five-year lifecycle. Some coin this approach “patient capital” as family offices do not have a defined hold period but can nurture the company, allowing it to execute on its long-term strategic plan.

Given the hyper-competitiveness of deal-making in the middle market, strategic acquirers and financial sponsors are identifying and innovating ways to reach out to and pursue prospective family businesses and owner-operators. With family offices getting in the game of direct investments, they are leveraging one of the cornerstones of their investment parameters: the long-term hold period.

For business owners, the greatest benefit is partnering with a patient investor that can share in the long-term strategic vision and not have a defined timeframe to enter and exit an investment.

2. Creating Economies of Scale through Co-Investing

Despite family offices’ long-term investment horizon, they are not shy to invest alongside GPs (and other LPs), making more traditional investment bets. Family offices recognize the value private equity firms can bring in terms of generating strong returns and therefore are willing to expand their investment approach for the expertise they receive in return.

Jim Burns, head of the individual business at KKR suggests there are four reasons why family offices co-invest with private equity firms:

  • High potential for generating strong returns, especially if there are no fees
  • Ability to research a single asset class
  • J-curve mitigation with the immediate deployment of capital
  • Depending on the size of the investment, the family office may be able to obtain specific governance rights

When investing alongside a private equity firm, family offices look to align their interests and ensure they have equal management over the investment. This approach allows them to benefit from the investment without taking all the risk.

Co-investing is a great prelude to direct investing for family offices who benefit from the more institutionalized infrastructure that private equity firms have built.

3. Direct Investments are Becoming More Common

Family offices have evolved their investment approach, shying away from the typical fund fee structure, and directly investing in acquiring and building businesses. The benefits are numerous as they are not only able to garner higher returns, but in many cases, they can negotiate more favorable terms due to the larger equity positions they can take up.

A family office’s deep pockets, long-term investment horizon and ability to make an all-cash deal give them an advantage in negotiating favorable terms while having greater control of business operations and governance oversight.

It is not all gravy for family offices as there is a great deal of sweat equity invested to do this right. Family offices are aggressively sourcing talent and implementing a robust infrastructure to ensure they are making sound investment decisions and managing the family’s legacy ethically and prosperously.

4. Capitalizing on Sourcing Advantages

Family offices, in many cases, were built by entrepreneurs who built successful businesses. They can leverage their network to source opportunities in the industries where they made their wealth Often they can identify an opportunity before it comes to market.

Because of their background, family offices have an advantage when presenting to family-run businesses. They speak their language and understand their struggles. They can identify with the strategic vision of where and how the family owner wants to grow their business and empathize with their concerns of maintaining control and ensuring prosperity for their workforce.

5. Building Infrastructure

With their desire to invest independently, family offices have dedicated resources to building a strong infrastructure of top talent, technology and processes. They have rolled up their sleeves, going back to their entrepreneurial roots, to build an investment firm of the same caliber as their GP counterparts.

Sourcing talent has been a challenge for family offices and private equity firms alike, as rising professionals are actively pursued in today’s market. Family offices have either started to scale up their teams and build their business operations or have started to leverage outsourcing as a viable option to provide operating efficiencies as well as cost savings. Outsourcing has enabled families to start investing with smaller amounts of capital without compromising on a deep bench of high-quality resources.

Family office’s role in the asset management industry will continue to evolve as they take steps to build out a more established presence. Given their roots, they will continue to be a viable competitor for attractive deals and will continue to build their sourcing opportunities through their powerful networks.