Mike Walker and Catherine Grum explain why so many families stumble into family office setups or avoid them altogether.
Since the financial crisis, many commentators have reported that family offices of both the single and multiple variety are on the increase. A quick comparison of the Sunday Times Rich List 2015 and the FTSE 250 reveals that there is wealth in private hands that exceeds all but the top 35 companies. On 1 December 2015, Glencore sat in 36th in the FTSE 250 with a market capitalisation of £12.35 billion, while Len Blavatnik topped the 2015 Rich List with a personal fortune estimated at £13.17 billion.
The companies making up the FTSE 250 employ tens of thousands and have sophisticated in-house teams managing their finances. Many families, despite the relative size of their wealth, do not. It is not uncommon to come across a family where the FD of the family business has become a quasi-investment adviser for the family’s personal investments and the CEO’s PA is an expert on completing personal tax returns.
While some of the personal wealth of those occupying the top spots on the Rich List derives from shareholdings in listed companies, there is still a huge amount of wealth sit-ting outside of this. The question is, why isn’t this structured inside a family office? What exactly are they afraid of?
In many cases the answer is costs, and it seems they have plenty to fear in this regard. It does not take much for family office costs to start to spiral, and even a relatively small team of in-house experts can cost a family over £1 million a year. Recent surveys accord with our own experience here. In some cases, larger family offices (ones with complex structures that employ teams of investment professionals in multiple locations), seemingly replicating a small private bank, can cost tens of millions more.
There are also the operational risks to bear in mind. When you take on everything in-house, the buck stops with you. How do you ensure that the family office is properly run and appropriate governance put in place? How do you measure its performance? What about employment and regulatory responsibilities? It is perhaps no wonder that cyber-security often gets put on the too-difficult list.
Regulatory requirements in particular are some-times missed by family offices, mostly in the invest-ment area. Family office staff should, as a general rule, be FCA-qualified and regulated if they are doing any of the following ‘by way of a business’:
The penalties for breaking the rules can be very severe.
There are certain exemptions but if a family office has any doubts it should of course seek advice.
So, is there an alternative approach? The answer is yes. When you start to strip it back, a family office is not a specific structure but the concept of professionalising a family’s personal affairs. It doesn’t necessarily require a complex series of legal structures and a significant team in-house. It doesn’t need to employ an expert on every topic to be of assistance. A poster on the kitchen wall of one family office sums this up neatly: a good family office is an addition of value — not an addition of cost.
One reason cost is hard to control is that many family offices come into being almost by accident, without a great degree of conscious thought. First you might ask the family’s lawyer or accountant to take on a more formal role, then bring in someone to help with investments, then assistants to help with admin. It can be like going to sleep dreaming of a little help around the house, only to wake up and find you have employed the entire cast of Downton Abbey!
The starting point for anyone thinking about establishing a family office should be to ask what they are trying to achieve. Having a clear set of objectives goes a long way when it then comes to deciding what is required in terms of staff and structure, if indeed a family office is required at all. For many, a multi-family office or even simply a strong team of professional advisors can be just as good.
Some common objectives for creating a family office include keeping control of the family’s information and retaining as much privacy as possible. Others are additional expertise to manage an increasingly complex set of assets, creating an enterprise that will give the family some focus and preserve the wealth for
generations to come (often following the sale of a family business), relieving
the administrative burden on family members, supporting the family’s philanthropic endeavours, combining the family’s capital and enabling further wealth creation using greater scale and purchasing power. However, many family offices (and therefore the costs) seem to grow as much out of a desire to ‘keep up with Joneses’ as anything else, thereby losing sight of the original rationale along the way.
Once you have an understanding of the key objectives, you can identify those elements that are really needed in-house. For those selected as in-house functions, the question is then whether active management is required or whether the objectives could be met by someone performing more of a supervisory role. Consider outsourcing the rest. This gives you greater flexibility and, by identifying a few key relationships to work with, you can then leverage these and draw on their experience with other clients.
Family offices can also use technology to their advantage here, too. In the past year we have seen the implementation of cloud-based software for accounting and bookkeeping as well as reporting tools and asset management systems.
It’s not too late if you already have something up and running. We are increasingly seeing requests from families to conduct what are effectively non-statutory audits of their family office setups, covering processes, systems and controls. Another common question is whether their old ‘special purpose vehicles’, set up every time they made an acquisition, are still fit for purpose.
Ultimately, it seems that there may not be as much to fear from family offices as first thought. If you are thinking about this as something that might help your family, identify what the essentials are and what the nice-to-haves are before you start to build. If you already have something up and running but have some nagging questions as to whether it is adding value and not simply costs, it is never too late to take a step back and have it reviewed. Unless you live somewhere like Downton Abbey, you may not need butlers and footmen, cooks and maids, but that does not mean you cannot employ any help at all.
Mike Walker is a Partner in Private Client Advisory at KPMG in the UK and Catherine Grum is Head of Family Office Services at KPMG in the UK
This article was originally published in the Spear's 'The Future for Family Offices' supplement