Family Offices Step Up Direct Investing – But Not Without Challenges

By: Dean Craig

Director of Product Management - Family Office Solutions
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Private equity and family offices seem like a perfect union. With many families having their roots in the entrepreneurial success of their founder, it only seems natural that they would gravitate to an asset class where private company value creation is its cornerstone.  The statistics bear this out, with private equity being the largest allocation amongst family offices.  (Of course, private equity’s strong returns have certainly helped as well.)

For the most part, allocations to private equity (and venture and real estate) has been traditionally executed via third-party managers. That is changing though, driven by a number of factors including the desire for greater control of underlying investments and the avoidance of fund managers’ fees.  The path of least resistance to this has been the co-investing route. Families can use this path to minimize the 2/20 structure while gaining greater insight into their investments, along with an efficient way to deploy capital into the asset class. They can also lean on the expertise of the PE/VC/RE firm for deal sourcing, resources (tech, legal, accounting) and relationships for exit opportunities.   Fund managers, for their part, can tap into additional sources of capital while leveraging whatever industry expertise the family office can bring to the table.  Now, however, many family offices are looking to take things one step further by moving away from the fund manager and co-investment model to make direct investments on their own.  Often times they will look at industries where they have an expertise in, and can add value on the operational side.  More strategic investments are also aided by a family office’s “patient capital”, unbound by specific time horizons.

For family offices to be successful in such endeavors, though, requires a very different skill set and infrastructure that is typically found inside the organization.  The human capital element is certainly of importance, with in-house deal talent needed to source, construct and monitor potential opportunities.  Another aspect often overlooked in establishing a direct deal making program is the required support that’s needed to execute such a process successfully.

With family offices beginning to look more like GPs than LPs, considerations on having the right supporting technology will have to be taken into account. The most obvious is systematizing the monitoring of underlying portfolio companies including the collection, management and reporting of operating metrics.  Ideally, the technology to collect said metrics will be configurable given differences in various industries.  Moving past MS Outlook and generic CRMs to manage growing and more complex relationships can help in collaboration and communication both inside and outside the office, particularly around the due diligence process.  Last, but certainly not least, attention should be given to the back office.  An accounting platform that can manage complex, commingled investing entities as well as reporting capabilities for family members and related parties will almost certainly be necessary as the family office grows.

Even for families that still allocate through third party managers, with subsequent generations coming on board, the web of relationships will only become more difficult to manage.  For those family offices that are looking to expanding their direct deal making capabilities, having the right supporting technology can add substantial value.