Why family offices could be a godsend for start-up funding

For years, family offices of wealthy dynasties have invested in bonds and shares. However, the next generation of family offices in looking to invest in fast-growth start-ups, says Ian Borman

Small businesses the driving force behind the UK economy, accounting for over 99 per cent of the total business population and 52 per cent of the total turnover. Yet predictions released by insurance provider Simply Business, even before the Covid-19 epidemic, that over 600,000 small and medium-sized businesses (SMEs) could be at risk of collapse this year are concerning.

This powerful economic engine behind the UK economy is at risk of stalling, with confidence at a very low level. Due to uncertainty caused by Brexit, turbulent economic markets and now Covid-19 disruption, businesses seeking financial support to grow or reorganise are facing huge challenges to secure investment from financial institutions.

>See also: Why government needs to boost EIS tax relief to 80% to save our start-ups

Traditionally, banks provided a ready source of capital to meet the needs of small and medium-sized businesses. However, high-street lenders have been facing capital pressures and have become increasingly risk averse, leaving riskier propositions such as start-ups and early-stage businesses cut off from a vital source of capital.

‘There is an often-overlooked opportunity for SMEs and start-ups to secure funding’

Data from the Bank of England shows that financing of SMEs by major financial institutions fell by 6 per cent between 2014 and 2019, highlighting a troubling trend. However, there is an often overlooked opportunity for SMEs and start-ups to secure funding – the family office.

Family offices operate as companies that manage the finances and investments of high-net-worth families. While direct investment by family offices is far from a new concept, as their number and available capital has increased, so will the opportunities for SMEs and start-ups to secure investment outside the traditional banking route.

>See also: Venture capitalist calls for £1bn start-up bailout fund

Traditionally, family office investment strategies have focused on public bond, equity markets and alternative investments, such as hedge funds and real estate. However, these investments are no longer providing the returns they used to, and we see heightened enthusiasm for direct investment in businesses in order to increase return. There is a real opportunity here to develop mutually beneficial relationships between family offices and SMEs.

Wealth transfer

EY research demonstrates a ten-fold increase in the number of family offices based worldwide since 2008, managing in excess of $4 trillion globally. This number is only going to rise. Family offices and wealth managers are facing the largest generational wealth transfer of all time with £52tr expected to transfer hands in the next 25 years.

Alongside this monumental shift in wealth, we are witnessing a modernisation of family offices. Family offices are not only selecting business models that allow for more control and greater returns but are also expressing a heightened interest in “impact investing”. Typically, this means investing in small or medium-sized organisations that are purpose-led and have a focus on sustainable or ethical business practices.

Additionally, the make-up of high-net-worth individuals is changing rapidly, especially with the boom in the number of wealthy individuals created in the tech space. People made wealthy by the tech industry have the knowledge and incentive to invest back into promising start-ups and growth businesses; with many of them setting up professional family offices to manage these investments. The money invested in European start-ups by family offices or rich individuals has risen five-fold in the last five years.

With a huge amount of the world’s wealth concentrated in the hands of high-net-worth families and individuals who are now looking for promising direct investment opportunities, SMEs are overlooking a crucial area of untapped financing.

Family office investment strategies are particularly varied with each family having their own philosophy, interests and areas of expertise and without the shorter-term objective of traditional private equity or investment banks.

Family offices may prove to have much higher and longer-term vested interest in the businesses they invest in compared to an institutional investor. In many cases, based on the experience of the principals behind the family office, they will seek to take a more hands-on involvement in the businesses they fund, acting as mentors and not merely benefactors.

Moreover, the principals behind the family offices have extraordinary networks of connections, which can prove invaluable for start-ups seeking customer exposure, business know-how or even further investment.

Since family offices are independent entities and are regulated less strictly than banks, they can be much more flexible in their consideration of investments across enterprise size, geographies and asset classes. The appeal of direct investment to family offices comes from more than just the alignment of capital. Direct investments allow them to take a more hands-on approach to selecting and managing their portfolios. Investments in the sustainability space and impact investing are particularly attractive.

As the number of family offices and the pool of wealth amassed by them increases and is passed on to a new generation, the way they conduct themselves is evolving rapidly, investing in innovative, creative and socially conscious ways. SMEs should take note of this enthusiasm and use it to their advantage.

Ian Borman is a partner at Winston & Strawn

Further reading

IQ Capital growth fund invests in first two companies


Ian Borman

Ian Borman is a partner at Winston & Strawn LLP advising on the full life-cycle of all types of financing transactions.