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Family office or family wealth management?

Michael Maslinski is a director of strategy and marketing consultant at Maslinski & Co.

The role of the family office has become the subject of much debate as the need to rethink the approach to family wealth management becomes more apparent. Changes in the provision of professional advice, and its increasing complexity, mean that its purchase now requires considerable expertise

The events of the last 12 months should have a considerable impact on the debate over the role of the family office. This debate was initiated by private banks, which adopted the term as the label under which they market wealth management services to very rich individuals. In doing so, they have come up with a number of new ideas and have suggested that many families are not well served by their existing arrangements.

Wealthy families and those who run their affairs should be receptive to new ideas. Many would acknowledge that there is room for improvement, that past practices may have been inefficient, that objectives were not always well defined and that the increasing complexity of wealth management increases the need for external, professional help.

It would be a great mistake to suggest that the family office can be reduced to a standardised optimal model, but it may be worth exploring some of the key issues and the context in which the term family office developed.

The evolutionary development of a family office
While private banks are focused primarily on wealth management, most family offices have their origins more in the administration rather than the direction of family affairs; they have only gradually assumed a higher level role in allocating assets and selecting external professional advisors.

Many family offices start within family companies, when the founding entre­preneur delegates personal and family matters to his secretary or assistant. At some point, sheer volume makes it necessary to separate personal work from business duties, and the more wealthy and more numerous the family, the more complex the administration becomes, eventually requiring considerable technical knowledge.

It is not unusual for a trusted senior employee to focus primarily on personal matters, gradually assuming the role of a trusted advisor, who is privy to the most intimate family information. Over time, these 'administrators' become the only people who understand the full picture and it is inevitable that they should play a role in the selection of external advisors.

In many cases there is a 'lead advisor', often the family lawyer or accountant, whose involvement in strategic decisions and in helping to manage the family wealth often goes far beyond his formal role as a lawyer or accountant.

The need for change
It is now argued that these types of informal arrangements are no longer appropriate, that many private family offices no longer serve their purpose and that their approach to wealth management is unstructured and unprofessional.

However, in many respects the need to rethink the approach to wealth management arises as much from changes in provision of professional advice than from any failing in the family offices themselves. The impact of these changes on the management of family wealth needs to be considered, irrespective of any need or desire for a family office as such.

Specialisation, accountability, regulation and litigation 
The provision of advice has entered a vicious circle: increasing technical complexity across all professional disciplines is driving the trend to further specialisation; the more the advisors specialise, the more complications they introduce. Greater regulation, greater accountability and increased propensity to litigate strongly reinforce the trend.

The result is that fewer and fewer professional advisors are willing or able to step outside the bounds of their own specialist expertise. The idea of a lawyer taking responsibility for overseeing your investment managers (as they did in the past) will soon be unthinkable, unless he or she has specialist investment expertise.

Even within a single professional discipline, you no longer choose just a lawyer or an accountant, but a number of different specialists, who may not all reside in the same firm. Selecting these specialists requires a significant degree of knowledge, both of the subject matter and of the reputations of the various candidates. Furthermore, the sum total of their output needs to be continually distilled, analysed, cross-referenced and communicated.

The question of who it is that will perform this role of selecting/overseeing/coordinating is one of the key drivers of the family office services now being promoted by so many institutions.

The investment management revolution
Nowhere is increasing specialisation more evident than in the investment management industry, where the proliferation of new products and services has led to a complexity of choice beyond the capability of many investment professionals, let alone family members, administrators, lawyers or accountants.

The concept of spreading your risks has developed from mere common sense to a whole new science, supported by a litany of products, models, ratios, processes and jargon. Never before has the investor been quite so reliant on both the competence and honesty of the investment manager and his employees, and the notion that you hand over your assets to a single investment manager is a thing of the past.

The new wisdom is that your portfolio should be spread between a number of specialist managers, and a new industry has emerged to select and monitor the performance of investment managers on behalf of the end client. These intermediaries justify a further tier of fees by claiming extra performance through selecting the best fund managers in each field.

The purchase of investment advice now requires a substantial degree of expertise. The question is where should this expertise reside – in the family itself, its employees, a private bank or an independent manager selection specialist?

When faith in the investment community has been so undermined by scandals, perhaps the bigger question is who can you trust and why? If your longstanding trusted advisors are no longer competent to choose investment managers, who is and how do you know?

The vulnerability of the family company
The family company is not only the birthplace of many family offices, it is what holds many families together through several generations. The management of their collective holding in the company is the central need around which the family office revolves.

But the last decade has shown just how vulnerable such companies can be in fast changing markets. Once the founder has gone, who is to decide when to sell the family business and what is the process? How are the differing interests of family members to be reconciled and how do you prevent the natural optimism of those working in the family business from blinding them to the risk of failure?

If family companies often bind families together, they are too frequently the cause of bitter feuds and rivalries, often leading to lengthy litigation. Properly defined objectives and processes will help reduce the risk. But this begs the question: who are the custodians of the process – senior family members, an independent board of trustees, the family office, a private bank or a combination of the foregoing? Which route will be the most robust in protecting the interests of the whole family, perhaps against a dominant and even dishonest chief executive of the family company? 

Other business interests
The collapse of the dotcom sector has highlighted another area of potential conflict in that many families have invested directly in speculative technology-based ventures, driven by the need to diversify family business interests and perhaps in some cases by the need for family members to prove themselves as successful entrepreneurs, in the family tradition.

Most wealthy families invest directly in other business ventures and in property, but once the founding entrepreneur has gone, who is going to manage these assets and on what basis? Is part of the family fortune available to support the entrepreneurial activities of younger family members, and if so on what basis? Who will administer these arrangements on an ongoing basis – senior members of the family, independent trustees, the head of the family office or a private bank?

Social change
In an age when people are increasingly conscious of their individual rights, it can no longer be assumed that most members of a wealthy family will 'toe the line' and accept the decisions made on their behalf. The need for effective communication and consultation processes is what primarily distinguishes managing wealth for a family, as opposed to an individual.

There is far more to this than arranging meetings and sending out reports – it can be an ongoing, if subtle, process of negotiation between family members and advisors, continually managing expectations and perceptions. In a sense, it is far more of a task than managing the board of a company, because family members cannot be subjected to the same disciplines and they have varied understanding of the issues.

All this requires considerable management skills and the question is who is to perform this vital role and what support do they require. Often, the family will have an acknowledged leader from the senior generation, but he or she needs to have the necessary skills and experience, and where do they look for support?

The role of the family office
Many families choose to distribute their wealth to individuals; but, for a variety of reasons, others are tied together by collectively held wealth, most frequently through a holding in the family company.

It is clear that a family would be very fortunate to find an individual with all the skills and knowledge required to run a family office, combining extensive knowledge of law, tax and investment management with a high level business management communication skills and exceptional personal qualities. One cannot help asking whether the job is sufficiently satisfying for the quality of individual required, and this is precisely why private banks claim they can field a stronger team.

Not everyone, however, is convinced that such individuals want to work in a private bank or that the working environment gives them the freedom to exercise their talents effectively. An increasing number have concluded they can best offer such a service if they are more independent, and we can expect to see more small boutiques attracting the business of very wealthy individuals and families. 

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