As advisors set their sights ever higher, one of the most sought-after types of client is the family office, with advisor notions of the ideal falling just this side of Bill Gates or Warren Buffett.
Like any rare and elusive species, family offices are imperfectly understood and can be very hard to see in the wild. Indeed, their relative inaccessibility is one of their virtues, from an advisor's perspective. Broadly speaking, a family office is a single organization, usually run by an executive director, dedicated to the financial needs of one or more families. The office will usually provide investment management, accounting, record keeping and tax services, though many branch off into “lifestyle” services such as security, family education and concierge services.
We recently conducted a study of 653 such clients — a formidable group with an aggregate net worth of $2.1 trillion and total investable assets of $1.2 trillion. To help advisors and firms better understand family offices, we asked the executive directors of those offices which products and services they used and wanted to use. We also quizzed them about which professionals they worked with and the nature of their advisory relationships.
The results of our study have implications for all types of family offices, but this article will discuss only the multifamily office. (In the months to come, we'll examine the study's findings as they apply to the single family office and the commercial family office).
From a client's perspective, the key motivation for forming a multifamily office is obtaining the clout commanded by a group that has pooled its wealth to become, in effect, an institutional investor. Multifamily offices typically are formed one of two ways: A single family office branches out and recruits others to extend its financial reach, or a group of families founds an office together (one that could later expand).
By our definition, the multifamily office is built around an “anchor” family that has at least 30 percent of total assets. In our study, we surveyed 234 multifamily offices representing a total of 1,053 families, with a range of three to 16 families per office and a mean of 4.5. Total net worth of the surveyed group was $273.4 billion and total investable assets were $111.8 billion.
The survey queried each multifamily office about its members' motivations for joining. Control emerged as the most important, with every single family citing it. That's easy to understand: Over the years, our studies of the affluent have underscored their desire for complete control over their financial affairs, and multifamily offices offer them the clout they need to make calls on the strategic direction of their investments' management.
Another important motivation — and the one that most differentiates multifamily offices from single family offices — is the economies of scale that can be achieved by combining with other families. The rich are like everyone else in wanting to save money, and multifamily offices can get institutional pricing for investment management and related services. They allow for savings on commissions through commission-recapture programs and on the cost of administrative functions, such as bookkeeping and accounting. In addition, large investment pools also command a measure of accountability and leverage with investment managers that few individual investors can generate on their own.
The same institutional scale that leads to saving money on services also gives family offices access to otherwise unavailable investment opportunities. Over 74 percent of respondents were attracted to multifamily offices by this fact. By pooling assets, the member families are afforded access to alternative investments, including real estate and customized structured products, for which the price of entry would typically shut out all but the wealthiest individuals.
Given that many of the multifamily arrangements involve actual families, it's unsurprising that almost 73 percent of the survey respondents liked the way multifamily arrangements provide for the education of future generations. The very wealthy typically are loath to hand over the combination to the vault before they know that the young ones have the ability to manage the wealth responsibly.
Two out of three multifamily offices cited defense as a key motivation. The very affluent are understandably nervous about solicitation and litigation, and the structure of a multifamily office offers some protection on these accounts. An office's executive director serves as a gatekeeper who ensures not just anyone gets in. He can also put in place defensive structures (such as private trust companies and partnership agreements) to preempt litigation and ensure client anonymity.
About one-third of respondents listed strategic philanthropy as a motivation for joining a multifamily office. This category, which is distinct from the financial aspects of charitable giving, focuses on how to define, implement and pass on charitable goals and values to other family members.
A relatively small percentage of multifamily offices are motivated by noninvestment tax efficiency, such as estate planning and income tax planning. Lastly, 24.4 percent are attracted by the opportunity to cheaply create proprietary investment vehicles, such as their own hedge, private equity or real estate funds.
For advisors working with multifamily offices, the way to structure their business is obvious: a wealth management business model (the consultative arrangement that encompasses investment management, brokerage and advanced planning) is almost five times as profitable than a straightforward investment management model.
Given this, it's a bit surprising that family offices with a wealth management model make up about one-third of the surveyed group. There are a lot of important factors contributing to these numbers, of course — wealth management is more expensive to run, for starters.
But it's important to note that the difference in profitability more than makes up for the outlay. Wealth managers make nearly $5,000 for every $1,000 made by their investment-oriented peers.
Russ Alan Prince is president of Prince & Associates.
Hannah Shaw Grove is managing director at Merrill Lynch Investment Managers.
|Generate a profit||94.0|
|Achieve economies of scale||79.9|
|Access otherwise unavailable investment opportunities||74.4|
|Educate family members||72.6|
|Provide a defense for family members||65.0|
|Engage in strategic philanthropy||34.2|
|Create noninvestment tax efficiencies||31.6|
|Leverage proprietary investment vehicles||24.4|
|Source: Prince & Associates, 2004|