Raffi Amit has been tracking the rise of direct investing by family offices in his research since 2008.
“It seems that this trend is not only here to stay, but it is becoming central to family office asset allocation,” says Amit, the Marie and Joseph Melone Professor and a professor of management at the Wharton School of the University of Pennsylvania.
It is less clear from the research, though, that the many family offices that are engaging in direct private investments are set up to make the most of those investments. One big concern: attempts by family offices to create a direct investment program without hiring the appropriate staff.
“What I find concerning is that about half the respondents to our survey engage in direct private investment without staffing up with private equity professionals,” says Amit, who founded and leads the Wharton Global Family Alliance and is also co-director of two Wharton Executive Education programs: “Family Wealth Management: Advanced Financial Strategies” and “Wharton Family Office Program: Balancing Family Harmony and Financial Prosperity.
Direct investment can offer the potential for higher return, lower fees and possibly a chance for direct involvement with companies.
“Family capital is unique: It is both permanent and proprietary,” Amit says. “There’s no limited partner like there is in a private equity firm. So because of that, it allows for maximum flexibility in implementing such a direct investment program.”
But to be successful, family offices that venture into direct investment need “a team of experienced private equity professionals, codified processes and discipline,” Amit says. “It can be very difficult for family to consistently succeed with their direct private investment program if they haven’t engaged with private equity professionals.”
Amit sees other ways that family offices may be missing out on the advantages of direct investing. His research has found, for example, that families tend to stay in those direct investments for a relatively short time.
“Family capital is unique: They have total flexibility. By staying longer in the transaction, this can be a competitive advantage,” Amit says. “A private equity firm needs an exit in order to pay back its limited partner. The family doesn’t.”
Amit also sees a lack of focus among some family offices: “There’s no single industry or type of business that they are focused on,” he says. “Surprisingly, they don’t just invest in family businesses.”
In fact, he notes, his research has found that 40% of direct private investments by family offices are in pre-seed, seed or series A funding.
“This is the highest risk segment of the venture capital industry,” he says.