Family offices seem to love private equity more than ever. There is also a current debate over to what extent FOs invest directly in the space themselves, competing with some of the houses and squeezing fees.
There is more than $1.1 trillion of “dry powder” – aka unused capital - in the private equity sector worldwide, but it appears that family offices’ enthusiasm for the asset class is hotter than ever.
And with data showing that family offices are thinking of boosting allocations further, it is worth contemplating recent suggestions that these organizations are already starting to compete in some ways with professional private equity firms for the same turf. While it does not mean that the likes of KKR, Blackstone or Carlyle should start to lose sleep at night just yet, it raises interesting questions on how FOs play into this asset class.
As we heard at our recent Family Wealth Report conference in New York last week (a full report on this event will follow soon), there is a trend of family offices investing directly in companies, sometimes partnering with their peers, perhaps letting one experienced institution take the lead with a number of others following behind. If they can save the fees normally paid to a PE house, so the argument goes, that could be quite a cost saving. These moves compound over time. FWR conferences in the past have, for example, featured FOs which invested in everything from men’s clothing to missile defense.
Something to consider, however, is that professional private equity firms, while obviously charging fees and taking a performance haircut – not dissimilar to the “two-and-twenty” hedge fund annual fee and performance charge of yore – do the due diligence work and oversight for an investor. DIY investors, including even some of the larger family offices, need to factor these costs in when deciding to get involved directly. There are no free lunches in capitalism.
Family offices allied to a company which has made its money in a specific sector, such as engineering, real estate, textiles or tech, can make use of that accumulated expertise and business connections to invest in similar areas, as pointed out, for example, by Arthur Bavelas, the founder and chief executive of Bavelas Group Family Office and Family Office Insights. Other speakers, such as Carol Pepper, CEO of Pepper International, a family office in New York, agreed, saying that some PE firms are expensive.
There is certainly plenty of appetite for private capital across the board, and a realization that it is possible to over-pay for liquidity. With some family offices able to see forward over several generations, the illiquidity of private equity is worth the result.
Still smiling on private
According to recent figures from research firm Campden Wealth, based on a survey of more than 75 family offices, allocations to private equity are predicted to rise by 73 per cent between 2017 to 2019, or $$51 million to $$88 million per family office over this period. Family offices said that 91 per cent of their private equity investments either met (53 per cent) or mout-performed (38 per cent) their expectations in the last 12 months. Their average private equity return stood at 14 pefr cent in 2017, and respondents predicted that their average return for 2018 will again be 14 per cent, but will rise to 18 per cent in 2019. Healthcare is the most popular sector for family offices’ private equity fund investment, according to 55 per cent of respondents.
A point in question, of course, is whether these results can be replicated: it is one thing to have one’s expectations met or beaten by these margins, but how to repeat such a barnstorming performance? Investors might get nervous as and when US and other interest rates rise, which could expose deals with more leverage than appears wise.
Preqin, the research firm, notes that there is, as of October, $1.14 trillion of private equity dry powder but industry fund-raising remains robust, even if this year’s total does not match that of 2017.
“While the full-year fundraising total is unlikely to match that of 2017, the pace is still on par with activity seen in 2015 and 2016,” Christopher Elvin of Preqin said in a report.
“Notably, the trend of capital concentration is accelerating: in Q3 2018, 141 fewer funds reached a final close than in the same quarter last year. There are signs that deal activity is also on the rise, despite ongoing high entry prices for assets. Q3 buyout deal activity, while lower than Q2, still saw more than 1,200 deals completed with an aggregate value of $93 billion, and aggregate deal value in 2018 year-to-date has now surpassed $344 billion representing 91 per cent of the full-year 2017 total,” Elvin said.
Elvin concluded his report with a cautionary note: “However, there are signs that the frenetic investment pace set by LPs over the past couple of years is slowing to more ‘normal’ levels, and that some are looking to add further downside protection to their portfolios.”