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Demystifying family offices

Demystifying family offices

As multiple views abound on what the primary function of a family office is, here I take a holistic look at these vital vehicles and provide an explainer on what family offices are and what they do.

Although family offices have been around for more than a century, with the most well-known perhaps being the Rockefeller Global Family Office, their real use has increased only over the last 15-20 years, in tandem with the unprecedented wealth creation and related globalisation of families and investment over the same period.

However, the family office is still in its infancy in terms of widely understood parameters of what one is and what it does or has the potential to do in future. There is an ambiguity around the term ‘family office’ and everyone defines it with a caveat – “depends on how you look at it.”

A convergence of views

There is indeed very little in the way of a commonly accepted definition of a family office – in legislation, regulation or from professional bodies. In my opinion, the picture starts to become clearer when considering two widely held views that have emerged from the private wealth and asset management spheres.

Looking through a wealth preservation and succession lens, a family office has been largely viewed as a ‘governance step-up’ in the sophistication of modern ultra-high-net-worth (UHNW) families, providing a scalable and efficient solution to tackle the complexities and risks associated with globalisation of UHNW families, including their diverse assets spanning multiple jurisdictions.

Meanwhile, those who hail from the asset management or investment banking sectors have typically looked at family offices as investors – in other words, “LPs” – because family offices often invest into fund structures or directly into private deals historically reserved for more traditional institutional investors. Family offices also often act as asset managers themselves, co-investing with other family offices and their UHNW families (analogous to being GPs of fund structures).

The trend now and going forward however is a convergence of the above two main perspectives and spheres, driven by wealthy families and the surrounding fast-evolving family office ecosystem. Family offices (along with their specialist partners) are, more and more, taking on a central stewardship role for UHNW families, taking over and building upon an area previously dominated by private banks and the investment banking sector.

Variations on a theme

As the family office space develops and definitions converge towards common ground, the fundamental purpose of a family office stays the same: family wealth governance and investment stewardship for the long term.

Driven by this overarching purpose, the different types of family offices that have emerged, and continue to evolve, include:

Single family office (SFO)

The SFO caters to only one family (which may have multiple branches) and varies in terms of its size and sophistication as well as the level of outsourcing. While this type of family office is the most customised to family requirements and is “closest to the family”, so to speak, it is also the most expensive as all costs associated with this dedicated vehicle must be met by the same family.

Multi-family office (MFO)

In contrast to the SFO, the MFO caters for multiple families, as its name implies. MFOs often start out as SFOs but expand over time as families connected to one another group together to share resources and benefit from economies of scale. For example, the earliest family office, founded by the Rockefellers in 1882, still exists but now provides services to other families as well.

Virtual family office (VFO)

In response to the multiple jurisdictions that families and their investments straddle nowadays, the VFO has emerged as an increasingly popular choice for affluent entrepreneurs, executives and their families seeking to harness an established group of independent advisers and service providers to achieve the comprehensive wealth stewardship they need. As the name implies, the VFO lacks a ‘physical home’ and relies on complete outsourcing to meet the needs of the family, although in practice one of the independent providers involved will usually take the lead.

Asset manager family office (AMFO)

A specific type of family office, established typically by former investment bankers, the AMFO is best described as an investment and asset management house. Being an SFO or MFO that invests money for UHNW families, an AMFO usually outsources most, if not all, non-investment related activities, leaving it to focus exclusively on asset management.

Beyond asset management

As is clear from the above drill-down into their various types, family offices provide certain services but can’t do everything themselves so they outsource to specialists where appropriate – which, as noted earlier, has evolved from the historical model of UHNW families’ heavy reliance upon multi-service private and investment banks.

The range of the services now falling under the ‘family office’ umbrella (whether delivered directly or in tandem with outsourced providers) provides a good reference point for how family offices have evolved over the years, transforming into multi-dimensional vehicles for family wealth preservation and asset management. Indeed, today’s family office is headed far beyond investment management to serve as an “office” extension of the family itself. Key services areas include:

Asset management and allocation

Needless to say, asset management and allocation is often the main, or at least the initial, reason for setting up a family office (particularly those established by former bankers). To achieve this objective, family offices need the right professionals to guide the investment objectives and philosophy, determine risk profiles and investment horizons, and decide the right asset mix of capital and non-capital investments to balance return and liquidity needs (currently and across generations). What has really changed is the increasing ‘firepower’ of family offices globally. Deals that were once reserved for large investment banks and private equity firms are now increasingly being taken on directly by family offices. Time horizons are also different and often longer than for most traditional institutional investors, which gives them an added advantage in many cases. Finally, “deal flow” is one of the most frequent requests I hear coming from family offices, so it is critical to ensure the private deal and fund investment pipeline of a family office remains robust and that it is sufficiently focused and diverse. This is often achieved through private investment clubs and deal introduction platforms.

Governance, governance, governance

This is arguably the genesis of the ‘office’ part of ‘family office’! Proper governance is a key ingredient that helps facilitate smooth succession and asset preservation. The modern family office typically requires, and in practice often outsources, a plethora of governance related services, ranging from asset holding structures (like trusts, holding companies, private funds and foundations, the design of which factor in a myriad of tax, succession and other legal considerations across multiple jurisdictions), through institutional risk management reporting (KRIs) and compliance duties, to document management and security. As part of broader governance and succession planning, senior members of a family office, and indeed family members themselves, often sit on the boards of asset holding entities as well as other investment and supervisory committees. Family charters are often created and designed as a central focal point to help consolidate the aspirations and values of the family and guide family office activities.

Multi-asset class administration and reporting

Efficient administration and timely reporting are key enablers of proper governance. In fact, efficient, accurate, easy to understand and (preferably tech-enabled) multi-asset class reporting is, in practice, often the most important function that a family office performs (directly or via outsourcing partners). During my years of speaking with families in this space, it has become very clear that good and timely reporting is a massive contributor to most families’ peace of mind, particularly in times of disruption and uncertainty. Furthermore, other administrative services – from opening bank accounts and paying bills to management of technology and PR firms – are key functions to support family offices, together with maintaining robust records and ensuring a strong reporting culture.

Legal and tax compliance

Never in history has it been more important to ensure compliance with relevant countries’ tax and regulatory obligations. The world is a much more transparent and regulated place than in the past. What’s different with the families that family offices typically represent is that they often cross more borders in terms of where they live and where they invest, which in turn creates greater complexity and risk exposure, requiring proper legal and tax guidance and stewardship. No wonder then that family offices often employ at least a general counsel and a chartered accountant (in addition to trusted external advisers) to help ensure optimum ongoing adherence to investment and estate planning, and to help oversee and work closely with outsourcing partners like trustees and custodians, among others. Given the complexity of compliance burdens arising from such legal and tax advice, there is a clear trend towards outsourcing these functions to those same or other specialists.

Furthermore, family offices have a vital role to play, along with outsourcing partners, in overseeing and managing other private assets, such as super yachts, aircraft, art collections and classic car collections, as well as oversight of holiday homes and other personal luxury assets. Family offices also often take on the task of ensuring senior executives of businesses and/or private equity interests are sufficiently motivated, which brings in various executive incentivisation structures like share plans and carried interest structures. Managing ESG and philanthropic efforts, such as the establishment and management of a foundation, or providing advice on donating to charitable causes, is additionally of increasing importance in the family office context.

Last but not least, education of family members is often a priority. Not only the ‘IQ’ of understanding technical matters like trust structuring, liquidity requirements or return on investment analysis, but vitally the emotional intelligence, or ‘EQ’, of being able to deal with vast amounts of wealth (including family business succession), particularly in second, third or subsequent generations.

What is clear is that the holistic ‘ask’ of family offices is quite wide in scope and, to many, daunting. They can’t answer that ask alone; they need trusted and competent specialist outsourcing partners.

In family we trust

As I write this I look forward to the aftermath of the current global pandemic, when I anticipate that there will be further heightened emphasis on protecting and nurturing family wealth over the long term and across multiple generations. It appears that, more so than ever before, family offices are set to become a prominent feature of the global investment landscape.

As family businesses mature and proceed further along the spectrum of service requirements, it is also likely that family offices will make a deeper contribution to society through positive trends such as sustainable investing. Indeed, the UBS and Campden Research Global Family Office Report 2019 notes that 34% of family offices are now engaged in this impactful activity, with the socially and environmentally conscious millennial generation contributing to further acceleration as they start to take the helm of family businesses.

Family offices are at various states of evolution regionally, with the US and Europe slightly more developed but with places like Asia and Latin America catching up fast. The current context might well mark a watershed moment, both for family offices and the professionals (like ourselves) that support them globally, with convergence of historical perspectives of wealth preservation and investment deployment in all regions bringing further maturity, sophistication and excellence into the family office ecosystem as it continues to evolve, develop and demonstrate true value over multiple generations. Watch this space.

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