Family offices set to increase PE allocations

Family offices have long been the holy grail of investors in private equity. Their capital often comes with expertise – similar to how private equity touts itself to prospective investees. But as with many good things, they're hard to come by. Their elusiveness has kept many a placement agent in business, doing merry dances across the US to tickle the imaginations of these pools of capital, where roughly half the estimated 6,000 family offices are based (according to Cerulli Associates).

The majority are convinced of the industry's merits, according to a recent poll conducted at the unquote" Family Office Masterclass event in March. The Investec Family Office Intelligence Survey revealed that nearly 60% are considering investing in private equity. The headline figure is not the whole story, though, with just 54% willing to do so through a fund manager – against 59.5% which have plans to back businesses directly.

Another poll, conducted by Somerset Capital, backed up the positive sentiment, suggesting 46% of family offices already committed to private equity intend to increase their allocation.

Family offices are increasingly looking at private equity - blessing or curse for GPs?

Figures are less rosy for venture, with just 46% considering investing against nearly the same number (43%) not considering it at all, according to the Investec survey. The data further reveals that roughly a quarter are not considering private equity in any form.

"Private equity is an attractive, high-return asset class for those with a long-term point of view and willing to lock away capital for a period of time," says Ian Barnard, founding partner of Capital Generation Partners (CapGen). The firm has grown from a private investment office serving a single family to one that serves a number of clients - though Barnard would not budge on what that number is.

When extolling the virtues of private equity, he points to the illiquidity premium – which he puts at around 300 basis points (bps) – as well as the alpha play. "One thing we find attractive is the very wide dispersion of returns. If you believe you can select the stocks and managers in the upper part of that distribution, then why wouldn't you invest?" He puts this selection premium at another 200-300bps.

CapGen is part of the family office camp that backs funds: "We buy things off the shelf unless we feel we need to make them at home, and there are instances when we do," Barnard says. "To do directs, you need expertise and must devote significant resources to ensure someone does it well. Private capital investing is not a cheap investment strategy."

But other investors are increasingly shunning funds in favour of going it alone. Government of Singapore Investment Corporation was one of the first sovereign wealth funds to make meaningful inroads into co-investment in the past 10 years - and now it has learned some tricks, it backs businesses directly. Canadian pension funds have long been doing this and compete regularly with private equity in auctions. Last July, Omers Private Equity sold a portfolio of 11 buyout funds worth $850m (commitments) to Axa Private Equity as part of its strategic shift towards direct investing.

The firm made headlines in 2011 when it beat four traditional buyout houses (including Permira and Charterhouse) to win V.Ships, a UK target with nearly two decades of private equity ownership behind it. When asked why the firm partnered with an institution, rather than sticking with private equity funds, V.Ships' CEO Clive Richardson said the institution "would have a longer-term view than other private equity houses and... Because there is no pressure to return funds to investors we anticipate that if we need further capital it will be made available ...wherever Omers is in its investment cycle."

Family time
Now family offices are going it alone, too: "We've shifted from fund investing to direct," says Edward Collins, CIO of Hanson Family Holdings (pictured). "Not all family offices are set up for direct deals. You need a variety of skills to do the due diligence, make the investments and then monitor them. We go direct because we can: we have access to strong networks owing to the industrial past of the Hanson family and the diverse backgrounds of our team."

Direct deals allow the family office to retain control over how capital is allocated. Explains Collins: "It's about the number of investments you make. You make more indirectly through a fund, but then you're not as close to them and you have no control over individual deals, and family offices want more control over things. If you can see dealflow and make decisions on a case-by-case basis, why invest in a fund?"

Hanson's reasons to move to directs were twofold: it has the capability and previous investee funds "didn't do what they were intended to".

"Our first (fund) investment was in 2000 and it was a complete disaster, the fund simply did not do what it said on the tin. This made us very nervous, since they'd passed our internal diligence. Now we've internalised the process so due diligence and the ultimate decisions are up to us."

Getting a taste for it
Family offices are not everyone's cup of tea. Says Alan MacKay, CEO of Hermes GPE: "Family offices are an acquired taste as fund investors, but exceptionally valuable as co-investors owing to their operational expertise," suggesting they are prone to overcommitting. "Family offices account for roughly 2% of investors in private equity, but roughly 4% of private equity secondaries sales."

CapGen clients have traded successfully in secondaries: they bought private equity in 2003, but sold a large chunk in 2006 and 2007 – an excellent move, in hindsight. Says Barnard: "We took advantage of an extraordinary window of opportunity. We were concerned about levels of leverage. It didn't look sustainable, with returns outside our normal range." But he defends his ilk against illiquidity accusations. "You cannot generalise with family offices the way you might be able to with institutions - pension funds, for example, tend to manage relatively modest sums of money from a similar group of people. Family offices are very variegated, with very different commercial views. Some, for example, still run an operating business, while others have cashed out."

There is a general consensus that family offices will make up a growing portion of the funding pie. Says Collins: "Hanson likes working with other families in the pursuit of executing private equity deals and thinks this is an area that will grow rapidly - families working together with perhaps one taking the lead."

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