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A version of this article first appeared in CNBC's Inside Wealth newsletter with Robert Frank, a weekly guide for the affluent investor and consumer. Register to receive future editions straight to your inbox.
Family offices are increasingly bypassing private equity funds and buying shares directly in private companies, according to a new study.
Half of family offices plan to make 'direct deals' – or invest in a private company without a private equity fund – in the next two years, according to a family office survey by Bastiat Partners and Kharis Capital.
As they become larger and more sophisticated, family offices are becoming increasingly confident in sourcing and negotiating their own private equity deals. Because family offices – the in-house investment and service businesses of wealthy families – are typically founded by entrepreneurs who have started their own businesses, they often like to invest in similar private companies and leverage their expertise.
More than half (52%) of family offices surveyed prefer direct deals through syndicates, with other investors taking the lead, “reflecting a cautious approach and reliance on the expertise of established sponsors,” the report said.
“Family offices are gradually being recognized as an economic powerhouse in private markets,” the report said.
The big challenge for family offices, as they close more direct deals, is the so-called 'deal flow', or the volume of possible deals. Because most deals are unattractive or unsuitable, family offices could see ten or more deals for every deal that works, according to the report.
At the same time, family offices fiercely protect their privacy and prefer to remain largely unknown to the public. Without a public profile, they are unlikely to be included in promotions or banking visits, missing out on potential investments. More than 20% of family offices surveyed cite 'the flow of quality deals' as their main concern.
According to the report, one solution is for family offices to develop more public profiles and network more with each other to attract deal flow. According to the survey, 60% find networking with other family offices 'important' and 74% are 'eager for more introductions'.
The other challenge for family offices doing direct deals is due diligence, according to family office experts. When a private equity fund or firm invests in a private company, they often have teams of bankers or in-house experts who can parse a company's financial situation and prospects. Family offices typically lack the infrastructure for rigorous due diligence and risk buying troubled companies.
To formalize their deal processes, more and more family offices are setting up boards of directors and investment committees. According to the survey, 54% of North American family offices have established investment committees to help vet investments.
When it comes to their favorite private investments, they like to venture off the beaten path, focusing on niche and emerging asset classes. For example, family offices are increasingly investing in real estate tax liens, fertility clinics, real estate sale-leasebacks, whiskey maturation and litigation financing.
“These approaches provide family offices with access to private investments that offer attractive returns, cash returns and low correlation to traditional markets,” the report said.
