Long-term horizons, current income and diversification drive investment decisions

Long-term horizons, current income and diversification

This article is based on the KPMG Family Business report “Family Matters – Financing Family Business Growth through Individual Investors”.

Partner, Global Head of Family Business

KPMG in France

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High net worth individuals (HWNIs) invest for three main purposes:

  1. Long-term capital appreciation
  2. current income, and
  3. gaining a level of diversification.

Long-term capital appreciation ranks as the primary reason HNWIs invest in family-run companies according to the report Family Matters – Financing Family Business Growth through Individual Investors. (The report was based on the findings of the KPMG 2014 Family Business Global Survey, which in turn interviewed 125 family businesses and 125 HNWIs from around the globe.)

The second main reason HNWIs gave for investing in family firms is current income, followed by gaining a level of diversification.

That said, many HNWIs also seek to match their investment choices with their expertise and experience in running companies – entrepreneurship and a passion for business are also important drivers for HNWI investments.

A risky business

The desire for long-term capital appreciation is reflected in HNWIs’ appetite for risk. The majority (60%) of HNWIs canvassed in the survey said they take a balanced approach to risk for investments outside of their main business, searching for reasonable risk with reasonable returns. As one German entrepreneur said: “Wealth management for me is a focus on maintenance rather than rapid growth and mostly I prefer slow and steady gains to risky investment opportunities.”

Nevertheless, there are HNWIs at both ends of the risk spectrum. One-fifth of HNWIs are prepared to assume high risk investment strategies in a bid to generate high returns. A further fifth are risk-averse and will settle for low returns in exchange for low risk.

This is an encouraging scenario for family firms wishing to investigate the pool of HNWIs – there may well be an investor suited to your needs and requirements.

What is the appetite for HNWIs investing directly in businesses?

HNWIs are extremely active business investors and the vast majority invest directly in companies. While some have an appetite for investing in larger companies and start-ups, the sweetspot for most HNWIs is small and medium-sized companies where their capital and expertise may be highly valued and where there is significant potential for upside through growth.

Direct investing second only to listed equities

Direct investment in businesses is a large part of the typical HNWI portfolio. These investments account for the second-highest proportion of committed investment from HNWI overall. Only listed equities account for a larger share. Moreover, direct investment in business is the most important part of the investment portfolio for nearly a third of HNWIs (29%). Some 73% of repondents already invest directly in other businesses.

The reasons for investing directly in businesses vary, although are generally centered around the need for some diversification from their own businesses and from stock market volatility, and also because this type of investment often closely matches HNWIs’ risk appetite. A US entrepreneur commented: “We expect a good amount of liquid returns from our investments.We invest in businesses so that we can procure adequate working capital for our operational needs.”

The value of familiarity

Familiarity is another reason for investing directly. “With the rise in media and communication, a substantial amount of our investments go towards direct businesses, mainly businesses which are in the same sector,” said an Australian HNWI.

Favouring small and mid-sized businesses

Consistent with the risk profile and long-term return horizons preferred by most HNWIs, small and middle-sized companies are their most popular investment targets, with 62% and 68% respectively citing these, and a smaller proportion targeting start-ups and large companies. This is because many HNWIs see these types of business as offering the potential for a degree of stability but also rapid growth.

An Indian entrepreneur noted: “Small companies have more phases to go through and if managed well in the initial stages, a lot of success can be expected in little time by defining processes, monitoring financial synergies, and adapting to the latest technology.”

An Italian HNWI added: “As small companies have more possibilities to be tweaked and appraised, I feel comfortable approaching small companies who have opportunities to make it large in the near future. I prefer investing for at least three years and I reinvest the best I can.”

“Mid-size companies are good targets as they are partially developed businesses … and with proper guidance they could outperform larger companies,” said a French HNWI.

Unsurprisingly, given HNWIs’ preference for largely managing their wealth themselves, the majority (67%) like to make fewer, more signficant investments. The remaining third prefer to make multiple, smaller investments.

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