With the number of ultra-wealthy families on the rise, so too are expectations and options for managing their wealth. A family office may be the best solution for these families, but important choices must be made. Is a single-family office (SFO) the right solution, or is the family better served by hiring a multi-family office (MFO)? Or is getting the best of both possible? For advisors serving these families, there is a significant opportunity to provide value-added, unbiased advice that can help families shape their family wealth management strategy for decades to come.
Continued Growth Of Ultra-High-Net Wealth And Family Offices
Families of significant wealth want to preserve and grow their wealth, manage and reduce risk, and free up time for the things important to them and their family. There is a clear trend that more families are seeking an alternative to traditional wealth management firms and private banks.
WealthX, a wealth information and research firm, has forecast the global ultra-high-net-worth (UHNW) population (defined as individuals with over a $30 million net worth) will rise to 360,390 people by 2022, controlling $44.3 trillion, an increase of $12.8 trillion over the next five years. As global wealth has increased, the number of family offices serving those families has also increased, both in numbers and in importance. According to the family office research and data firm FINTRX, there are as many as 5,000 family offices worldwide including both SFOs and MFOs. Meanwhile, according to Cerulli Associates, MFOs are the fastest-growing high-net-worth channel in the investment management industry, expected to influence $1.23 trillion in assets by 2022.
For families considering establishing their own family office or engaging a multi-family office, there are several considerations for making a decision.
Helping Families Evaluate Key Differences
Although there is no officially established functional definition of “family office,” most agree there are two main types: single-family and multi-family. Each can serve important and similar functions but there are key differences including legal and regulatory considerations for each. (Note: There is a formal legal definition of a “family office” in Section 375.202(a)(11)(G)-1 of the Investment Advisors Act of 1940 that is used to define when a family office is exempt from registration with the SEC as an investment advisor.)
A SFO generally serves one family. It provides a range of services depending upon the needs of the family but is usually centered on investing and/or accounting. They are generally not registered with the SEC as an investment advisor.
MFOs are generally organized as registered investment advisers, as trust companies, or some are structured as accounting or law firms serving multiple families. A general definition of an MFO is an RIA with a dedicated focus on serving ultra-wealthy clients with a minimum of $25 million in investable assets and provides family office services in addition to asset management.
There is one inherent difference between SFOs and MFOs that often goes unstated and overlooked: profit motive.
While SFOs are created by one family with the purpose of serving that family, they are not focused on driving revenue or adding new clients as a business. They mostly operate as a cost center for the family providing services that may not be economically reasonable for an MFO to perform, such as concierge services, travel and household employee management. The role of the SFO is to provide value through complete alignment with the family on their mission, values and goals.
MFOs often serve as registered investment advisors for multiple families. While MFOs struggle with making some of the SFO-provided services profitable to their business, they can provide a broad range of additional services that the SFO may find challenging to source in-house, such as aggregated reporting, accounting and bookkeeping, bill pay, tax return preparation, estate and financial planning, philanthropic planning, and risk management.
Importantly, the two types of family offices are not mutually exclusive. A family office, whether it is an SFO or MFO can serve many purposes to achieve the goals for the family. There is a convergence of the two business models where they are working together. An example would be where the SFO outsources certain functions to an MFO or an investment advisor that serves multiple families.
With the increased complexity of family wealth, families will continue to explore the best combination to service the needs of their family for generations to come.
Decision Factors
Whether you are a member of a wealthy family considering creating a family office or an RIA considering offering multi-family office services, understanding family office business structures, advantages and disadvantages is important to making an informed decision. Which type of organization is right for a particular family depends on a number of factors including cost, access to talent, privacy and services needed.
Cost
The financial advice industry has long used the amount of family wealth to steer decision-making about family office services. For example a common rule of thumb may state: “an SFO is not justified unless the family has at least $100 million or $500 million in net worth”; or “unless you are a billionaire, a SFO is too expensive.”
While a certain amount of wealth is certainly needed to justify the cost of creating an SFO, blanket statements don’t demonstrate much thought or provide any insight or understanding of the family office marketplace.
Conversations should be grounded in what the family desires, how they want to spend their resources and the level of complexity of the family assets. From that vantage point, cost can be considered and weighed more strategically. For example, the cost of hiring a full team of in-house professionals will certainly cost more than outsourcing certain functions to external advisors or hiring an MFO, but based on the family’s needs, it might be the right solution.
Access To Talent
Talent is a challenge for both types of family offices. But generally, it is more challenging for SFOs to attract and retain top talent.
MFOs have the advantage of being a for-profit business with the ability to offer equity opportunities, which can be a significant lure in attracting and retaining talent. Entrepreneurial, driven professionals would often prefer to own an MFO business rather than be employed by one family.
That said, SFOs have been creative in compensating key SFOs professionals with high salaries, opportunities to co-invest with the family and carried interest structures based on the growth in the family’s assets. These creative compensation structures have helped SFO’s attract and retain talent.
Privacy
The role of a family office in protecting the privacy and saving the time of the family cannot be understated. Wealthy families are bombarded with requests, whether it is to invest in a private company, hire a vendor for services, or support a charitable cause.
The “gatekeeper” role of protecting the family from service providers and solicitations is often one of the main reasons families create SFOs. The amount of time it takes to handle these incoming requests is tremendous and the wealthy may want their family office to screen everything first.
Traditionally this has been a role provided by SFOs rather than MFOs, however, this is an opportunity for MFOs. If an MFO can become a trusted advisor and act as a client’s gatekeeper, it can be tremendously valuable. Not only taking meetings with potential providers, but conducting due diligence and vendor management can be an invaluable service for families that helps lead to very loyal clients.
Service Needs
How the family intends to invest their wealth is also key to determining which type of family office is appropriate. There are dozens of services that can be performed by an SFO, an MFO or both: aggregated reporting, general ledger accounting, bill pay, philanthropic planning, household management, household employee management, tax accounting, tax planning, estate planning, estate document drafting, alternative investment due diligence, private investment due diligence, family dynamics planning, family education, risk management, property and casualty insurance, lending, life insurance planning, and more.
Guiding families through the myriad of options is important and must be made in the context of the individual family’s needs.
For example, a family may decide that an SFO structure is the most appropriate model if the family only invests in private investments. These types of families may not have any investable assets and MFOs may not have the ability to make these types of clients profitable. (Note: Some MFOs, including CPA firms, offer family office services that are not based on assets under management (AUM). SFOs created by private investing families usually hire an experienced “deal” professional as CEO or CIO to head the family office. They in turn hire due diligence professionals to evaluate the private investments, accountants, and other professionals to serve the family’s needs.
On the other hand, if the family has sold a family business or had another type of liquidity event, they are in a much different position. They need to invest their assets. In this situation, a MFO could be a great choice, acting as the family’s outsourced CIO. MFOs are more likely to be able to attract and retain the talent needed to manage the portfolio of assets and will have the additional services that will be important to managing this wealth over generations.
Eddie Brown is national managing director and head of Schwab Advisor Family Office. Paul Ferguson, CFP, PFS, CLU, is managing director at Schwab Advisor Family Office.
