Capital alignment, greater control, better value and interest alignment, and private equity’s ability to deliver active returns on investment are just some of the reasons why family offices have increasingly focused on direct investments in recent years.
In 2019, The Global Family Office Report noted that private equity was the top asset class for family office investment. Actively managed direct investments were reportedly the most likely to meet (57%) or outperform (29%) investor expectations in the Emerging Markets, while passive shareholder investments reached (73%) or outstripped (13%) expectations most often in Asia-Pacific.
Fast-forward to July 2020, just one year later and UBS’s Global Family Office Report 2020 paints a slightly different picture of these expectations. While private equity remains a favored asset class, and direct investing remains a fixed strategy in families’ portfolios, there is, understandably, heightened concern regarding their performance and returns.
The Covid-19 pandemic, liquidity crunch and looming, albeit anticipated and planned-for global recession, all driving returns expectations downwards rapidly. In March this year, 73% of the surveyed family office respondents reportedly expected their private equity investments to outperform their public counterparts. In May, 51% of these respondents report expecting the same.
This may not inspire confidence in those new to direct investing, especially when the world is seemingly falling apart. While there will undoubtedly be challenges in the months ahead, this certainly doesn’t mean it should be off-limits. Instead, a calculated and measured approach can still afford strategic family office investors significant opportunities and the ability to effect positive change in these interesting times.
Three simple steps to get started with direct investments.
1. Identify areas of interest and opportunity
Direct investment alignment to the family’s business interests, values, and expertise ensures that the right deals can be identified for a more optimal long-term fit. A few months ago, everything would have stemmed solely from the family’s primary values, investment objectives and risk appetite. Under the current circumstances, however, these need to be considered in light of which industries and assets will flourish.
This may seem easier said than done, especially given that everything may seem risky at present. Assessing the price of assets may also seem almost impossible as none of the existing valuation models have built-in coronavirus caveats. The truth is that direct investments have the potential to offer greater control. According to the UBS Global Family Report 2020, in the uncertain post-Covid-19 environment, family offices are comforted by the greater control they can exercise over direct investments with more than a third (35%) regarded this as a plus, compared to 27% prior to the pandemic.
While valuing assets may be challenging, it is still possible to monitor the trends set by more seasoned investors, identify gaps in stimulus packages, and make educated guesses on where potential lies. Once these areas have been identified, family offices can select opportunities and investment vehicles that align with their values and make for sensible investments.
It is vital to keep in mind that while environments are uncertain, not everything is entirely unknown. According to Andy Cantwell, CEO and managing partner of Carlson Private Capital Partners who invest on behalf of the Minnesota-based Carlson family, “There are a lot of great companies that are going through some short-term stress and strain.”
While these companies may not be interested in selling in an environment where valuations are uncertain, bringing on a seasoned partner with patient capital that can help them weather the storm and grow once it passes, may afford family offices unique opportunities.
2. Consider networking and sourcing deals closer to home
The Covid-19 crisis has undoubtedly made traveling and conducting due diligence more challenging. This, coupled with the restrictions being imposed on direct foreign investment by some countries and the resulting deterioration of deal flows, means that family offices seeking direct investment opportunities closer to home may currently make more sense.
Not only are these markets more accessible, but their familiarity also allows for better understanding and, in turn, a higher degree of comfort and confidence. This is a strategy both single and multi-family offices like Sandaire are currently following.
It is highly likely that family offices in various geographical areas will be encountering the same challenges. This means they may also be looking in the same pools for deals, making it the perfect time to focus on outreach and network building that may lead to co-investment opportunities.
3. Proactively measure and evaluate investments
It may be challenging to identify how to assess investments in the current environment. However, this does not mean that sound family governance, internal benchmarks and ongoing monitoring should be ignored. How these will be derived, implemented, and judged will be drawn from the family’s values and objectives, meaning that often they will extend beyond capital returns.
In the current environment, an investment that saves a previously successful company may offer financial returns for the family office in the long-term. However, in the short-term, the preservation of jobs that the investment facilitates may contribute towards the family’s altruistic goals.
Clearly defining investment objectives and agreeing on how they will be monitored and evaluated is vital to success. If the monitoring and evaluation of investments are not within the scope of the family’s ability in-house, external advisors and experts may be recruited to assist.
With their patient capital, family offices are uniquely positioned to take advantage of the direct investment opportunities that arise in the current market while also contributing to positive change. Those who proactively take steps to preserve and grow their future wealth will undoubtedly find themselves in a better place as the inevitable recovery occurs in the years to come.