Like many other regions, Asia’s venture capital investment got off to a cautious start in 2017 — modest investment volumes and a noticeable decline in the total number of deals. Startups currently raising rounds of venture capital investments are inevitably learning some hard truths. VC money isn’t as readily available as the furious check-writing phase of 2015. And those startups that are receiving funding are finding the terms increasingly less appetising.
Rise of the family office
Family offices first came to prominence during the late 1800s thanks to the Rockefellers. However, only when Joseph Tsai, executive vice chairman of Alibaba, announced that he was setting up a family office (“FO”) did the momentum start building in Asia.
Traditionally, family offices have primarily been a European and American phenomenon. Wealthy individuals and families in Asia have preferred to keep their money in their business resulting in the creation of conglomerates. For example, Samsung, the South Korean group, has encompassed an empire of 80 companies ranging from consumer electronics to life insurance. Even Tata of India has various businesses ranging from FMCG goods to automobiles.
In the past, Asian families usually accumulated wealth from resources, manufacturing and property. But newly wealthy Asians are western-educated and have earned their money from services — especially technology — feel more comfortable with finance and are finally embracing family offices. However, we need to understand that many of these families have one thing in common — they have made their wealth recently.
According to a research report by INSEAD and Swiss wealth manager Pictet, most Asian family businesses are in the nascent stage. The business tycoons and the children of business-people display a higher degree of family control and are keener to trace the path of every single investment decision made.
Emergence of the family office as a venture investor
This new breed of ultra-high-net-worth families represents a significant number of sophisticated investors who have accumulated wealth rapidly typically by savvy investment management or entrepreneur-ism. Many of them were hedge-fund managers, money managers and others who earned their wealth in private equity. These people have strong networks in the startup and the entrepreneurial community and are sitting on a tremendous amount of capital.
These individuals and families often wish to stay in venture investment game but want more transparency to underlying investments than what the traditional VC experience provides. They also want to cherry-pick the best deals. Besides, they also want to avoid the typical “2 & 20” model — a structure which requires the investors to pay an annual fee of 2% to the VC on top of the 20% return on investment.
That is why we’re seeing many of the families working increasingly through their family offices to find the right type of direct investments that fit their long-term wealth generation strategies in addition to investing in private equity and venture capital funds.
How entrepreneurs should think about family offices
Family offices can be a great source of direct private capital, but what does it mean for entrepreneurs to raise money from an individual or family investor instead of going the traditional route of Venture Capital?
The first thing entrepreneurs need to understand is that it is not a growth equity fund. The sole purpose of a family office is to invest its wealth prudently and possibly extend it beyond generations. That allows family offices to have tremendous flexibility in the type of companies and industries they choose for investment.
They are typically not tied to a set of investment mandates forcing investments into a predetermined industry or criteria. Moreover, the family office investment process is not just about writing a cheque. It is more about finding the right type of investment and management team that is going to deliver significant long-term value. Though it still is about finding and investing in the next unicorn, family offices can be a bit more patient and find the right opportunity.
So, for the entrepreneur, family offices can be a great source of “patient” capital — don’t have to deal with a fund life that has a fixed investment and divestment horizon and don’t require returns in a fixed timeframe, unlike the VC firms. They can afford to sit on investments, help the company grow and can consequently align their interests with the company’s interests.
Family offices also do not have this capital raising dynamic — they are investing solely based on the company’s potential and can choose to exit in a year or 10 years (or never) depending on the shareholder value created. These priorities may differ versus the priorities of Private Equity and Venture Capital funds.
As depicted in the image above, of course in a very simple manner, several external forces affect the fund both while investing as well as managing the portfolio.
Finding the right family investor
One thing to keep in mind is that family offices are very PR-shy — many do not even have a website. This makes it nearly impossible to blast off cold emails and pitches. So, it comes down to networking. A good way could be to start identifying entrepreneurs who have been successful in the same industry and possibly are running a family office, incubator or even a Venture fund. These are the people who will appreciate your business the most.
However, even if you find the right person, it is imperative to understand the family office’s investment approach, and how involved the family office will be. I believe there are two primary criteria that an entrepreneur should keep in mind to segment a Family Office’s investments
1. Investment approach
This criterion defines the degree up to which the family office is willing to roll up their sleeves and help the portfolio companies operationally. Now most family offices in Asia are business-owners and very operational in nature and that investment style pervades throughout the office. However, some family offices might take a hands-off approach and become financial investors — typically help with network, expertise and capital.
This essentially is in many ways just like how a traditional venture capital firm works. But, they have the advantage of patient capital as they invest and help companies grow.
2. Degree of sophistication
Now, by this, I do not mean the sophistication of the family office as an investor. I am using the term very broadly, and it depends on the circumstance of every investment. In this case, I mean the family office’s involvement in the investment process — majority investor, or lead investor etc. Now this can be assessed through a few categories:
a. Risk vs. Reward + Investment Strategy — Does the FO thinking about impact beyond ROI? Does the family office have a stable investment strategy — industry, stage, the size of investment?
b. Experience, quality and quantity — Does the FO have prior board governance experience? Can the FO help portfolio companies?
For the entrepreneurs who have opened their eyes to this source of capital and are ready to identify, find and speak to these individuals or families can surely find an enduring friend in the family.
Venture investments are a lot more than just fungible capital. It is a commitment to align with the entrepreneur on a much deeper level and create opportunities for the startups. As a result, family offices are growing as participants in direct investments, and I believe they can provide a compelling alternative to Venture Capital funds.
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