A family office is essentially a privately held company set up to handle the investment and wealth management of a high net worth family. Family offices are often formed when a significant amount of capital is freed-up by a founding member by means of the sale of an asset or when they relinquish control of a business. Typically, the annual operating fees associated with running a single family office would be in the region of 1.5 - 2% of assets under management.
In the past few years, family offices have begun to shift focus to a more direct investment model, using in-house intelligence to analyze and manage direct ownership of commercial real estate as opposed to dealing with a fund manager on an indirect stake in a public or privately traded real estate fund or company. Another way to look at this trend is a move away from a passive role to an active one and even those family offices who choose to hire advisors are seeking a higher level of understanding of the different options available to them.
What’s the difference between direct and indirect investment?
Family offices are increasingly favoring direct investment strategies whereby they invest directly into a entity as opposed to putting their investment with an intermediary who usually decides on the where, when and how to invest those funds into a company.
Following the initial COVID-19 lockdown, the underlying feeling from investors seems to be a desire for greater control of their portfolios. Indeed, 35% of the respondents to the UBS “Global Family Office Report’ 2020 viewed greater control as a positive aspect of private equity deals and almost half (45%) said they were looking to raise their asset allocations towards real estate over the next two to three years.
Benefits of direct investment
Many family offices stem from the entrepreneurial background of their founding members and so the ‘hands-on’ nature of direct investment certainly appeals to these families. Not only can investors select the property location and type, they have complete control over the timings of investment and disposition, leasing strategy and any plans for adding value through development and modernization.
In addition, investors can seek opportunities that align with their own previous industry expertise, giving them the chance to contribute something other than just capital.
A higher level of involvement in investment decisions may also be a good way to prepare the next generation for the future and taking over the extensive responsibilities of running the family office.
One of the primary attractions of direct investment is reducing the costs associated with having an intermediary to manage the portfolio. Traditionally, industry fees have remained consistent at around 2% of assets annually in management fees and a performance-based fee of around 20% should the investment meet its return target.
The unprecedented volatility in the global financial market and the continuing sense of unease around this, will no doubt have led some family offices to look at direct investment as a way to minimize their expenses and ultimately preserve capital.
Higher rates of return
In general a family office will be able to commit to a longer holding period and this can yield considerably greater returns in a direct investment scenario. Traditional investment lifecycle might be five-to-six years, however an investor able to hang onto properties for twenty-plus years can potentially double their return when a number of factors come together. This can be achieved through a timely combination of advantages relevant to long-term investment, including the elimination of recurrent buying and selling costs, optimization of exit strategy and deferred taxation burdens. Unlike indirect investment, some of the costs borne by direct investors in real estate can be used to offset investment income.
Certain properties lend themselves better than others to a long-term holding strategy but the key is to understand the levels of risk and threat over the duration of the investment and review your position regularly.
Benefits of Indirect Investment
Simplicity & Liquidity
Relative to direct investment, indirect investments are uncomplicated and may demand less of an investors’ time and capital to set up and likely have a shorter holding term compared.
For some, the ease of buying and selling of indirect investments and the liquidity that offers, is a primary concern and shouldn’t be overlooked if there are concerns that you might need to release cash quickly.
Returns from indirect investments, albeit smaller, will be paid out as short-term dividends providing a regular income stream.
Although there might not be the same level of transparency with regards to where your investment is going, indirect investment offers a route to invest easily in multiple properties. With larger fund portfolios, doors may be opened for investors into unique property types in geographies that might not be accessible ordinarily.
The effect of the pandemic on commercial real estate strategy
Since the event of the global pandemic, investors may be further swayed towards direct investment opportunities in geographical markets that are familiar to them, preferring the known to the unknown at a time of great uncertainty in economies worldwide.
As we continue to hear reports of an impending global recession and liquidity ‘crunch’, cultivating relationships with like-minded, seasoned family office investors could prompt the investigation of collaborative investment opportunities which spread risk and offer more comfort from diversification in the shorter term.
Direct or indirect investment - one size doesn’t fit all
It’s clear that there is no right or wrong way for a family office to invest in commercial real estate; what works for one family and their charter may not be suited to another. Dependent on the individual family, a combination of both direct and indirect approaches may make sense in striking the right balance between risk and return. A good family office will know and understand the weight of delegation, planning and transparency in ensuring their multigenerational ambitions are met.
With a direct route to investment, the key to achieving targets on return, lies firstly with attracting investment opportunities and then the securing of quality real estate. Expand your network by using ours – subscribe to our communications to be the first to know about our off-market deals.