Private equity has been gaining traction from family offices in recent times as they pursue higher returns, diversification and more control over their investments. This article discusses the recent trend of family offices’ investment in private equities, the motivation behind such decisions, benefits and challenges.
What are family offices?
Family offices are private wealth management companies that manage the funds/assets of family businesses and ultra-high-net-worth individuals. They also manage the personal affairs of wealthy families, providing a slew of services including estate planning, investment management, tax services and philanthropy. The two primary types of family offices are:
- Single-family offices: They serve one affluent family, offering services tailored to the specific needs and goals of the family.
- Multi-family offices: They cater to multiple families, providing similar services but often with a broader range of expertise and resources.
Understanding private equity
Private equity is the investment made by firms in companies that are not open to the public for investment. Such investments are driven by the need for restructuring and performance improvement. Following improved performance, they sell these investments for profit. The different types of private investments are:
- Growth equity: This type of investment is made in mature companies focusing on restructuring or diversification.
- Venture capital: This involves providing seed capital or investing in early-stage companies.
- Real estate private equity: These funds invest primarily in real estate; some invest in low-risk properties for stable returns while others finance speculative properties for elevated returns.
- Distressed private equity: These funds specialize in providing funds to companies in distress. Their aim is to restructure such companies and turn them profitable. The benefit of buying distressed companies is that they are available at attractive prices.
Factors driving family offices to invest in private equity
- Diversified portfolio: Family offices have been investing in equity for a long period. Private equity’s popularity allows family offices to expand their portfolio and explore new ventures. It also helps them move beyond traditional asset classes such as stocks, bonds and real estate.
- Higher returns: Historically, private equity has often provided higher returns than public markets. Hence, family offices prefer to divert some funds in private equity to mint higher profit.
- Longer time horizon: Family offices usually operate over the generations, which helps them stay invested for long durations. This, in turn, helps them navigate short-term market volatility and achieve long-term growth.
- Innovative opportunities: Private equity often helps companies invest in niche industries, innovative start-ups or distressed assets with turnaround potential. This helps family offices gain exposure to industries not available for investment via the traditional routes.
Benefits of private equity for family offices
- Enhanced portfolio performance: Private equity investments have the potential to significantly enhance portfolio performance through capital appreciation and operational improvements in portfolio companies.
- Strategic partnerships: Collaboration with experienced private equity firms allows family offices to leverage the former’s expertise and resources. This can improve investment decisions and outcomes.
- Access to expertise: Private equity professionals bring a wealth of knowledge and experience in identifying, acquiring and managing investments. Family offices can leverage this expertise, particularly in sectors where they lack in-depth knowledge.
- Control and influence: Private equity investments often come with a degree of control and influence over the management and strategic direction of portfolio companies. This can appeal to family offices that want to be actively involved in their investments.
Challenges and risks
- Information asymmetry: Since private equity is not available to the general public, information barriers are high, and all the details about the ventures are not available publicly. In such cases, it is sometimes difficult to assess the true value of an investment.
- Illiquidity: Private equity investments have fewer buyers and, hence, cannot be liquidated easily. This can be a concern for family offices if they need immediate liquidity.
- Entry barrier: Investing in private equity often requires significant capital and expertise. Family offices need to have the resources and knowledge to navigate this complex investment landscape.
- Market volatility: Economic downturns and market volatility can impact the performance of private equity investments. Family offices need to be prepared for potential fluctuations in the value of their investments.
Investment in private equity firms by family offices is gaining momentum as these entities strive for higher returns, diversification and greater control over their investments. Private equity allows family offices to invest in innovative projects. While private equity is associated with challenges and risks, the potential benefits make it an attractive option for family offices looking to enhance their portfolios. By carefully considering their investment strategies and partnering with experienced private equity firms, family offices can navigate this complex landscape and achieve their long-term financial goals.
