February 16, 2023

TPL Insights: Building Peak-Performance Cultures #158 – Is Your Family Office Built for the Future?

By Rob Andrews


By Rob Andrews with content from Josh Baron and Rob Lachenauer’s article in Harvard Business Review on September 26th, 2022

Two years after their father died, Paul and Hank knew the time had come when they should break up their family office. At their father’s insistence, the family’s substantial financial assets had been invested together. As their father’s business was the source of their family wealth, the brothers felt an obligation to build a single-family office together. But investing decisions soon became a source of conflict.

Seeing the discord, the brothers’ siblings, spouses, and children tried to steer clear of the family office completely. Their father’s well-intentioned goal of keeping the family close after his death ended up backfiring. The family office was disbanded, and the brothers and the entire extended family drifted apart.

Family offices can provide a number of benefits, including privacy, customization, and having your own team to handle a wide range of services. Successful principals in hedge funds, private equity, real estate, and tech entrepreneurs, and even family business owners selling their firms, have created an explosion in the number of family offices. A 2019 study by Campden Research put the number of family offices at 7,300 (up 38% from two years prior), managing a total of almost six trillion dollars.

Most of these family offices are in their relative infancy. A global survey by UBS and Campden Wealth showed that 68% were founded in 2000 or later, with 35% starting in 2010. That means most family offices are navigating or approaching a critical generational transition for the first time.

Without further attention to the challenges these transitions will bring, Baron and Lachenauer are skeptical of how long many single-family offices will endure. Their view is that family offices are even harder to sustain than family businesses. The forces that hold a family business together are not always present in family offices. But that doesn’t mean they’re doomed to failure. Here’s what you need to know to build and sustain your family office so it will last.

The Built-In Tensions of Family Offices

Family offices are often established in a wave of enthusiasm. An individual or family has been successful enough to generate an excess of $100 million in wealth (a rough guideline for assets under management that justify the expenses of a single-family office) and the family chooses to invest that together through a family office. But family offices face some unique built-in tensions that family businesses don’t that leave them vulnerable in the long-term:

Lack of Shared Purpose

Baron and Lachenauer have seen first-hand how difficult it is to keep families united when owning shared assets. A necessary condition for business families to stay together is for the owners to have a shared purpose beyond financial performance. Family offices often start with an emotional-connection deficit. Many family office principals express the difficulty this way: “Dad sold our family’s purpose when he sold our family business.”

Protection versus Agency

Ask most founders “why did you establish your family office?” and they will say something akin to “to preserve our family’s wealth and protect our children from the destructive power of that wealth.” This protective response is reasonable, yet in the process, it can undermine long-term viability. If a family office ends up handling everything from investing money to making travel reservations for family members, this can unintentionally create an infantilizing environment for the next generation. They may start to resent the role of the family office in their lives and choose to close it to recover their autonomy.

Credible Alternatives

Families have ready-made alternatives to keeping their wealth combined in a single-family office. Family members can move their assets to a multi-family office (MFO), such as Bessemer Trust or BBH, which have decades of successful service to such families. Not only do they invest your money (for a fee), but they also have excellent estate planners and family governance experts. Or you can outsource many of the tasks of a single-family office to a wealth manager, such as JP Morgan or Goldman Sachs. If your family doesn’t want to keep its assets together, you can each select different providers and go your separate ways.

So, while most single-family offices are set up with good intentions of continuing to keep the family (and its wealth) close, the centrifugal forces of diverging interests may tear them apart over time. But the family office doesn’t have to suffer that fate if the owners are prepared to make a few key decisions together to set it up for long-term success.

The Key Decisions Family Offices Need to Make

The power that comes with ownership can make or break a family enterprise. The owners of an enterprise have the right to make decisions in five key areas (we refer to them as the 5 Rights of Owners) that no one else can do without their permission. How the owners of a family office make these choices will shape the long-term success of both the office and the family. Here are the key questions to consider:

Design: How will You Own your Assets Together?

When establishing a family office, the opening proposition is often that by staying together, families can achieve scale and efficiencies in investments and services. But get under the hood of great family offices and you find that the family owners don’t require such a uniform approach. Family offices that endure offer a world of trade-offs, value flexibility and build in the right to exit. Designing an all-or-nothing-office risks nothing being together in the next generation.

That’s because as families grow across generations, the interests of individuals will diverge — what investments to own, services to receive, charities to support, etc. As you design your family office, it’s important to consider how much flexibility to build in. Many successful family offices operate what is called a “federal system” in which all family owners use some investments and a few core services, such as tax and estate planning, while people can opt in or out of the rest of what the office offers.

Another key design choice is whether to allow family members the right to exit their family office. This right can be difficult to design because, at least in the U.S., most family office assets are owned in trust structures. Like being able to see the exit sign in a crowded theater, an exit policy enhances a feeling of psychological autonomy — I can leave if I want to. Moreover, knowing family members have an exit right, family office management and board will likely be more responsive to their needs.

Decide: How will You Structure Governance?

Family owners have the right to determine how decisions are made in their family office. When family offices are established, often one (or a few) founders become the decision-makers on all matters. As offices mature, having no clear decision governance beyond the founders’ statement of intent can be a recipe for disaster, as Paul and Hank in the example above found. To avoid this fate, family owners should decide how decisions will be made in their family office. For example: What decisions will the family owners reserve for themselves? What decisions will they delegate to a board or management? Will they make investment decisions themselves or hire an investment team or outside firm to do so? How and when will they involve the next generation in making decisions? What processes and policies will the family establish to unify the family?

One helpful framework is the Four-Room Model, in which the work of a family enterprise is distributed in four metaphorical “rooms” (an owner room, a board room, a management room, and a family room). Each “room” has distinct decisions to make, expertise to bring to bear, and explicitly set up structures, policies, and processes to guide their work. Decision policies, structures, and processes may not sound as sexy, but they’re key to long-term success. They also provide family members pathways to positively engage in important decisions, rather than being passive beneficiaries. With the right standards and development, some family members can even find rewarding careers in their family office.

Value: How will you Define Success for your Family Office?

Paul and Hank approached their investment portfolio as a purely financial task, which will rarely bring family members closer together. In fact, purely financial investments are easy to outsource. Lasting family offices design a portfolio of assets, services, and charitable giving that, collectively, mirror what the family values.

Family offices that are built to last design both financially sophisticated portfolios and emotionally relevant ones. Beyond hiring top investment managers and investing in leading funds, they find investments that are meaningful to their families. Return on investment is not the only important measure of success. There’s a reason so many sports teams are owned by families. Some family offices are leaders in impact investing. Family offices that co-invest in the entrepreneurial efforts of next generation family members are becoming more common. Family wealth does not need to be defined solely in financial terms. It can be broadly defined as professional, social, and relational as well.

Inform: What will — and won’t — You Communicate with your Family?

Privacy is one of the great benefits of a family office, as you have the right to keep the information contained to a small circle, namely the family owners. Family owners, however, face a core dilemma as to what information to share with the next generation and when. Worrying about the destructive power of knowledge of their wealth on the next generation, families face the balance between waiting to share and eventually “dropping the bomb” and sharing too much information too early and causing the next generation to “lose their spark.”

Transition to the Next Generation

Family owners in all enterprises must decide on how to transfer ownership to the next generation, including the assets, roles, and capabilities. Family offices face special transfer issues.

The assets a family office oversees should be in service of its purpose, mission, vision, and values. It’s wise to assume that the purpose and goals of a family office will change across a generational transition. We have seen many of our clients have thoughtful discussions of the purpose of the current generation and then ask the next generation how they see the purpose and goals of their generation, without judgment. The assets owned should eventually reflect the engagement of the new generation.

A generational transition is often a good time to reassess overall governance including how to engage the next generation in the family office. Many family offices opt to hire a professional CEO, but there are important roles for family members, too. For example, you can build a family board to oversee the CEO. Having a blueprint of your governance structure will clarify what capabilities will be necessary to build in the next generation.

One of the biggest questions families with investable wealth face is how much to transfer to the next generation. Rather than picking a number out of thin air, start by setting goals for it. Wealth can be used for spending, investing, giving, and collaborating. Think through what outcomes you want to achieve and avoid across each of these areas. And then align your approaches to sharing the wealth with those desired outcomes.

Will your family office beat the odds and last for the long term?  It depends on how well you address these five critical topics. Most of this post comes directly from Baron and Lachenauer’s HBR article. Our experience mirrors theirs. We also recommend measuring the health of the organization’s culture regularly to ensure continuity, purpose-driven behavior, unified leadership, disciplined human capital practices, clarity, and cost leadership. I hope this post has been helpful and we would love to be your thought partner in optimizing your family office.

Warmest Regards,