The Wall Street Journal recently profiled the increasing proliferation of “family offices,” investment firms set up by, and under the sole control of, very wealthy families. Family offices also provide services other than investment advice – accounting, legal, household management, etc. They have been around at least since one was set up by the Rockefeller family but have become commonplace in recent years. The staggering growth in wealth that has fed the growth of family offices is, of course, the subject of much political debate about causes and what if anything to do about it, but for purposes of this post I’ll steer clear of that minefield.
The Journal article cites privacy as one of the main rationales for using a family office, as the entity will typically not have to make public disclosures. However, assuming the alternative to a family office is investing one’s fortune with funds (hedge, private equity, venture capital), there wouldn’t be much of a privacy issue there, as a fund’s limited partners (investors) can expect to have their confidentiality respected. (Of course, there’s no reason why even the super-wealthy need to employ alternative investments like this. Warren Buffett has made a good case recently that because of funds’ fee structure, investors would be better off with simple index funds.)
So why set up a family office as an alternative to investing in funds? I think it’s for the same reason why large companies will hire in-house counsel for certain functions rather than using outside counsel: By hiring a staff that’s dedicated to just your investments on a full-time basis, there’s no longer a concern about whether your investment professionals are distracted by other clients or have hidden conflicts of interest. In theory, everyone would want a full-time, dedicated investment advisor, but of course it wouldn’t make economic sense for most people to pay the resulting compensation.
From the perspective of companies that have traditionally sought investments from funds, there’s little conceptual difference when those investors are instead family offices. It may be that funds can be helpful to their portfolio companies by providing business guidance in addition to investment capital, while family offices would likely be more passive, but generally speaking, you’d expect family office to seek similar investment terms as their fund counterparts.