The mammoth 2,300-page financial reform bill that President Obama signed into law last month brought into focus a segment of the advisory world to which life insurance and financial service professionals catering to the well-to-do increasingly aspire: multi-family offices (MFOs).
For the uninitiated, multi-family offices are essentially one-stop shops for the ultra-affluent. Serving typically high net worth families boasting a net worth of $50 million and up, MFOs provide a range of services, the core of which are financial and advanced planning, including investment advising, asset protection, plus insurance and estate planning. The offerings extend also to administrative services (bill-paying, tax return preparation, bookkeeping and data aggregation) and lifestyle services (philanthropic advising, family education and governance, luxury acquisition, concierge services, property management, healthcare planning, and so on).
Often an MFO will start as a single family office (SFO) and merge with another SFO. In other cases, a wealth management team will add non-financial services to its portfolio and rebrand itself as an MFO. Or a large financial institution, such as a bank or brokerage house, will set up an MFO division or subsidiary.
In the U.S., many MFOs are registered investment advisors (RIAs), but some are trust companies, accounting firms or law firms.
The wide-ranging solutions that MFOs provide–and the fees to be garnered from them–are fueling rising interest among advisors in this market niche. The percentage of investment advisory firms wanting to become an MFO grew to 71.3% in 2008 from 48.1% in 2004, according to a 2009 survey by the professional services firm Rothstein Kass, New York.
The four top motivations cited by the surveyed firms for becoming an MFO included “do a better job for families” (94.2%), “be more profitable” (85.9%), “be more competitive” (78.7%) and “attract wealthier clients” (69.1%). (See charts.)
The now-passed Dodd-Frank Wall Street Reform and Consumer Protection Act is likely to contribute to the growth of MFOs, sources suggest. The reason: New Securities and Exchange Commission (SEC) rules mandated by the legislation may force some SFOs that previously were exempt from federal oversight to register with the SEC as investment advisors. That would drive up SFOs’ compliance costs, prompting some to merge with other SFOs to generate the economies of scale needed to operate efficiently and competitively.
But MFOs that are already SEC-registered will also see their compliance costs go up, say experts. The financial reform legislation imposes substantial record-keeping and reporting requirements on managers of private client funds, such as hedge funds. The new law also will subject MFOs, like other RIAs, to enhanced SEC scrutiny and audits.
A report on the Dodd-Frank Act published last month by the law firm Davis Polk and Wardell LLP, New York, predicts the changes effected by the act will lead certain investments advisors to decline to manage assets of U.S. clients. Others that retain investment advice as a core service may need to revisit workflow procedures affected by the law.
“If you’re an MFO, then you’re held to a fiduciary standard of care, and you probably have custody of client money, all of which points to more disclosure,” says Jon Persson, a certified financial planner and principal of Geller Family Office Services, New York. “This is costly. Beyond the added expense, MFOs will need to address potential conflicts, which will not be easy for a lot of people.”
The more client assets the MFO controls, the greater potential for conflict in the relationship, adds Persson. Generally, MFOs charge a fee for investment advice, the fee constituting a percentage (measured in basis points) of assets under management or under advisement (if managed by an outside firm). But depending on its fee structure, a firm may be tempted to direct a client to give it greater control of assets, shift investments from cash or fixed income vehicles to equities or share assets-under-management (AUM) fees with an outside money manager–all for no other than reason than to boost revenue.
The potential for conflicts of interest is all the greater if the MFO also secures a commission on sales, such as for life, disability income or long term care products, observers say. That’s why many MFOs restrict their revenue to fees for services and outsource sales to an affiliated broker.
“MFOs should serve as independent advocates for families and not sell products,” insists Bill Richards, a certified financial planner and founding principal of BNR Partners L.L.C., Chicago, Ill. “If you’re selling product, clients won’t see you as completely independent and acting in their best interest. If a family is paying you to do something and you’re also getting paid by an insurer, this is a conflict.”
Leslie Voth, president of Pitcairn Financial Group, Philadelphia, Pa., echoes Richards’s comments, adding that life insurance and financial service professionals who are considering setting up or joining an MFO need to determine whether their existing compensation–be it commission alone or commission plus fees–is well-suited to an MFO model.
“The planning these professionals do probably lead to a product sale,” she says. “In our world, the planning leads to a solution that may or may not include a product sale. This holistic approach is not for everyone. It’s a needs-based consultative selling process that requires a very different compensation structure.”
These views evidently are not shared universally among multi-family offices. Anthony Riotto, a founding partner of the wealth management, executive recruiting and consulting firm Riotto Jones & Co. L.L.C., New York, has observed an increase among MFOs pushing product to meet sales goals. A key reason is the recent market downturn, which pummeled asset values and thus firms’ AUM fees–by far the largest share (80%-plus) of MFOs’ revenues, the Rothstein-Kass report notes.
The recession of 2007-2009 also resulted in much industry dislocation, as MFOs shed people and services to maintain profit margins, he adds. In many cases, a merger with or acquisition by another firm necessitated an organizational streamlining. The result: client relationship managers who are unable to secure adequate support when managing insurance, trusts or investments.
Some practices that are jettisoning services are also dispensing with the MFO label. MFOs have scaled back their offerings to core competencies, such as investments and insurance planning; and they’ve eliminated lifestyle services that entail significant investments in staff and resources, says Anna Nichols, a managing director of content at Family Office Exchange, Chicago, a firm that provides research, education and advice to ultra-affluent families and their advisors.
But the downsizings carry risk, Nichols adds. For the “soft services”–oversight of payroll, household staff, special projects and the like–not only provide added sources of revenue, they also induce greater client loyalty. The more that MFO advisors can interact with a client family, the greater will be their understanding of the family’s planning needs. Plus, greater client contact is just good business.
“The soft services provide a certain ‘stickiness” to the advisor-client relationship,” says Nichols. “If all you’re doing is advising the client on wealth matters, then you may have no sense of the family dynamics or a deep understanding as to how all of a family’s planning objectives fit together.”
Pitcairn’s Voth adds that the soft services, such as guidance on family governance and wealth management, will also help keep the MFO team in good graces not only with first-generation clients (“wealth creators”), but also with children and grandchildren who will inherit the family assets. Too often, advisors lose business because they fail to establish meaningful relationships with second- or third-generation family members after the death of a client, she notes.
Privacy concerns must also be weighed. Handing payroll or tax preparation work to an outside specialist may make sense for cost reasons. But Persson cautions that outsourcing carries “reputational risk”: If sensitive records should fall into the public realm, the exposure could prove damaging or embarrassing to the family.
Benefits aside, a key issue for MFOs that are keen to offer soft services is how to price them. An AUM fee, while well suited to investment advice, makes little sense for the wide range of tasks that an advisory team may be charged with but that have little to do with stocks or bonds.
Thus, MFOs generally have a tiered fee structure: one for AUM; a flat or retainer fee for ongoing, non-investment work, such as bill-paying; and an hourly rate for special projects (e.g., reviewing a former advisor’s work or overseeing a real estate initiative.)
Whether all clients merit the scope of services one offers is another issue that many MFOs grapple with, particularly during the start-up phase. A cost-benefit analysis may dictate jettisoning less profitable families in favor of ones whose net worth can sustain the business model financially, Persson says.
Voth insists that a package of services has to be carefully tailored to each family.
“A cookie-cutter approach won’t suffice,” she says. “We customize our services for each family, and this requires a lot of flexibility on our part. It also can be challenging from a profit-and-loss standpoint.”