Paul Karger
Companies currently raising rounds of venture investment are inevitably learning some hard truths. Primarily, VC dollars aren’t as readily available as they were in previous years, and for the companies that are receiving funding, they’re finding that the terms are becoming increasingly less palatable.
The good news for startups looking for funding is that a new pathway for direct investment is emerging: the family/multi-family offices of wealthy individuals and families.
The emergence of the family office as venture investor
Single-family offices (SFOs) were first pioneered by the Rockefellers in the late 1800s as a way to centralize the management of the family fortune. Multi-family offices (MFOs) work under the same concept, but typically work with several wealthy families instead of just one. These offices traditionally managed investments and handled administrative items, like accounting and tax planning, property management, payroll activities, succession planning and legal affairs.
The role of family offices has changed in the last 20 years, driven by the proliferation of wealth and dramatic increase in the number of millionaires, centimillionaires and billionaires around the world. There also has been a surge in the number of family offices and more sophisticated investors. According to Ernst & Young, there are now more than 3,000 outfits globally managing the money of a single family — half of which were created in the last 15-20 years.
This new breed of ultra-high-net-worth families differs from the “old money” of the past. Their accumulation of wealth is typically more rapid and driven by savvy investment management or entrepreneurism. Many of those joining the ranks of the ultra-high-net-worth include money managers, former hedge fund managers and folks who generated their wealth in private equity.
This represents a large population of sophisticated investors with deep networks in the startup and entrepreneurial community who are sitting on tremendous wealth (some estimates put family office total asset value around $4 trillion globally).
These individuals often wish to stay in the venture investment game, but desire more transparency to underlying investments than the traditional venture investing experience provides. They also want the ability to cherry-pick the best deals.
In addition, they want to avoid paying the typical “2 and 20” — a deal structure that requires investors to pay a 2 percent annual fee (some as high as 3 percent) to the VC firm on top of the 20 percent return on investment.
This is why we’re seeing more of the mega-wealthy move away from only investing in private equity funds to increasingly working with their family offices to find the right types of direct investments that fit their long-term wealth-generation strategies.
When you combine these factors with the emergence of cutting-edge investment platforms like AngelList that make it easier for companies to search for equity partners, the result is an exciting new funding pathway for the startup and venture communities.
Becoming part of a family investment
So what does it mean to bring on an individual or family investor in lieu of going the traditional VC route?
The first thing to understand is that it’s not a growth equity fund — the primary goal of a family office is to invest wealth prudently and extend it beyond generations.
Clients work with SFOs and MFOs because of the multi-disciplinary approach that ensures their wealth transfers across multiple generations in the most tax efficient manner possible, that their children and future generations have prudent investment programs implemented and that they have the appropriate infrastructure and fiduciaries installed to responsibly manage and maintain wealth.
This gives family offices tremendous flexibility in the types of companies and industries that they choose for investment. These offices are typically not beholden to a set of mandates forcing investment into a predetermined space and criteria.
The SFO/MFO investment process includes much more than writing a check. It’s about finding the right types of investments and management teams that are going to deliver long-term mission-driven value.
Sure, everyone wants to find and fund the next unicorn, but because of the family commitments, offices of this nature are not going to do this through an indiscriminate “spray & pray” approach. Family offices are more focused on finding the right opportunity and do not have a clock ticking in terms of putting funds to work like a venture fund may have.
These dynamics change the investor/startup relationship, because it’s not just about a quick exit. The family office isn’t running a fund with multiple investors to answer to, so they can afford to sit on the investment and help it grow. The same external pressures exerted by institutional investors to wind down investments or get out at inopportune times don’t exist.
This significantly lessens the influence to artificially maintain high watermarks to receive incentive allocations. Family office decisions are based squarely on investment fundamentals, where long-term value creation replaces the 2/20 mentality.
As a result, investments are more than fungible capital. It’s a commitment to align with the entrepreneur on a much deeper level. The deep, global networks of the ultra-wealthy families are used to create opportunities for the startups — from providing strategic advice, intelligence and subject matter expertise, to tangible benefits like identifying contract manufacturers to assist with the development of hardware products.
Finding a family investor
So as a startup, how do you find these alternative sources of funding that offer such collateral benefits? The first and best thing you can do is look to your board and the connective network you already have. The ability to access family office networks is something to consider when building your board and team of advisors. If your existing network has been exhausted, there are events and other opportunities that can bring you closer together with angel investors and family offices.
The nature of the family office induces secrecy (many don’t even have a website), which makes it nearly impossible to blast off unsolicited pitches. So it really does come down to networking. But in the end, being able to break through and figure out a way to connect with the right family office can act as a natural selection process and indicate the hallmark of a good entrepreneur and good deal.
Another great place to start is identifying other entrepreneurs who have been successful in your specific space and may currently have a family office or more formal startup investment program. Most often, your ideas will resonate with these folks first and best.
There’s no doubt that the slowdown in venture investment is impacting companies across industries. But entrepreneurs who open their eyes to non-traditional sources of capital and are willing to put in the legwork to identify them may find an enduring friend in the family.
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