Looking for efficiency in family office services

Contents

Abbreviations

Figures

I Introduction
1.1 Objective of the thesis
1.2 Structure of the thesis
1.3 Empirical approach

II Ultra High Net Worth Individuals
2.1 Classification of wealth
2.2 Origins of wealth in Europe and Monaco
2.2.1 Ownership and sale of company
2.2.2 Inheritance
2.2.3 Accumulatedincome
2.2.4 Successful investment activity
2.3 Sizeofwealth
2.3.1 Segmentation of affluent investors
2.3.2 Affluent investors and family office models
2.4 Key characteristics of wealthy
2.4.1 Complexity
2.4.2 Control
2.4.3 Connections
2.5 Needs and aspirations of wealthy
2.5.1 Overview of needs & aspirations
2.5.2 Trust
2.5.3 Transparency
2.5.4 Privacy
2.5.5 Holistic advice
2.5.6 Long term oriented advice
2.5.7 Tailored advice on alternative investments
2.5.8 Independency
2.6 Benefits of having a family office

III FamilyOffice Background
3.1 Origins and evolution of family office concept
3.1.1 Early origins of care taking concept
3.1.2 European origins of family office type services
3.1.3 U.S. development of family offices in the 19th century
3.1.4 Revival offamily office concept in 20th century Europe
3.2 Reasons for establishing a family office
3.2.1 Separation of family business assets from family wealth
3.2.2 Intergenerational wealth transfer
3.2.3 Sudden increase in liquid wealth after a transaction
3.3 Common categorization of family offices
3.3.1 Single family office
3.3.2 Multifamily office
3.3.3 Commercialfamily office
3.3.4 Virtual family office
3.4 Determinants of single family office structure
3.4.1 Size of thefamily
3.4.2 Family involvement
3.4.3 Family background
3.4.4 The family office manager
3.5 Categorization according to in-house services
3.5.1 Administrative family office
3.5.2 Hybrid family office
3.5.3 Comprehensive family office

IV FamilyOffice Services
4.1 Wealth management
4.1.1 Assetallocation
4.1.2 Manager selection & monitoring
4.1.3 Riskmanagement
4.2 Accounting& administration
4.3 Family governance & education
4.4 Life management & concierge services
4.5 Philanthropy
4.4 Fiscal & legal services

V New trends in family office market
5.1 New trends in family offices
5.1.1 Networking among peers
5.1.2 Unbundling of value chain components
5.1.3 Global screening for opportunities
5.1.4 Regulation of family offices in the US and Europe
5.2 Consequences ofnew trends
5.2.1 Standardization of offers for fundamental services
5.2.2 Stringent disclosure of financial interests
5.2.3 Specialization of advice through open architecture
5.2.4 Co-direct investment with other family offices
5.2.5 Consolidation and institutionalization of family office market
5.2.6 Technology as a key wealth management tool
5.2.7 Consulting services

Conclusion

Appendix

Literature

Abbreviations

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Figures

Figure 1: Classification of wealth

Figure 2: Origins of wealth

Figure 3: Reported assets under management for main family office models

Figure 4: SFO study Europe, assets under management

Figure 5: SFO study Monaco, assets under management

Figure 6: Needs & aspirations of UHNWIs

Figure 7: Benefits of having a family office

Figure 8: Family involvement in operating business

Figure 9: Reasons for establishing a family office

Figure 10: Number of family offices in Europe

Figure 11: Background of the head of the SFO

Figure 12: Wealth management functions - top priorities

Figure 13: Asset allocation SFO interview partners

Figure 14: Dispersion of active management returns

Figure 15: Handling of risk management

Figure 16: Risk measurement tools

Figure 17: Upside and downside participation of funds

Figure 18: Family governance & education pyramid

Figure 19: Collaboration with other SFOs on co-investment opportunities

Figure 20: Source of co-investment deals

Figure 21: Motivations to become an MFO

Figure 22: Selection of asset classes, strategies and instruments

I Introduction

The past decades have seen an impressive growth in private wealth on a global scale. As a measure of this trend, Forbes magazine, in its ranking of the world's richest people 20 years ago, listed around 140 billionaires. In 2010, the list contained 1,011, an increase of 218 compared to 2009, but still shy of the record 1,125 in 2008.^[1] Businessmen and other affluent investors are very good at creating wealth, but they are not necessarily as skillful or interested in managing their assets. They depend more and more on financial professionals to advise them on increasingly demanding wealth management issues.

During the 19th century, trusts have been developed as a set of legal techniques for protecting the assets of individuals and business entities from creditors and as a way to secure an orderly transfer of wealth. When dealing with the next generation, instead of answering to the single patriarchal founder, trustees have to respond to several siblings and cousins. This increased complexity coupled with broader financial, fiscal, lifestyle and family demands have lead to the development of family offices.

The underlying concept is to have all the financial and family related services that one particular family needs in one single office. This model has become a highly valued service model because it facilitates managing complexity. Moreover, the family office allows for secrecy, on-demand availability, transparency, holistic advice and support for the family whenever needed.^[2]

Due to the value of the family office service model for the wealthy and with the objective to secure existing and attract new business, the financial industry has been trying extremely hard over the past years to adapt this concept. Most of the major banks today have added a "family office service" type structure next to their product-driven entity. Compared to classical banking relationships, people who cannot afford to or who do not want to set up their own family office may find in these services a more holistic investment advice, superior responsiveness and long term vision.

1.1 Objective of the thesis

The objective of this thesis is to provide wealthy families with innovative approaches that help increasing efficiency and professionalism.

The priority of any family office has always been to serve the family in the most sophisticated way whenever needed; Efficiency has per definition never been its highest priority. However, the modern family office will be run like any other business^[3], valuing quality of service, control, flexibility, cost efficiency and independency. We will share new technology and service models that have made it possible to delegate vital functions to external providers while maintaining strong oversight, control and a focus on increasing returns and minimizing costs.

1.2 Structure of the thesis

The thesis will provide an analysis of the needs of the ultra wealthy, the history and development of the traditional family office and private banking. Based on those findings, we will outline family office services and trends in the industry. For this purpose, the thesis is subdivided into four parts.

Part one begins with a definition of wealthy individuals and an introduction into the growing importance of wealth in the financial industry. The subdivision within wealthy markets is important because it is not primarily the assets under management (AuM) that define the service structure but the complexity of needs that comes with the wealth. We will outline what wealthy value in an advisory relationship and how financial institutions can target their service offerings. Finally, the benefits a family office typically provides are presented.

Part two provides an overview of the evolution of the financial services industry and the family office model. Reasons for establishing a family office, ways to cluster family offices and determinants of family office structures will be analyzed. The background of the family office manager will be outlined due to his key decision role.

Part three outlines typical family office services. This thesis will focus on wealth management. Though accounting & administration, family governance & education, lifestyle management & con­cierge services, philanthropy and fiscal & legal services are important, these services will only be briefly mentioned for reasons of completeness.

Part four focuses on new trends in the family office market. A categorization of family offices according to in-house services will be provided. Finally, new trends and consequences for family offices will be analyzed.

1.3 Empirical approach

Considering the extreme wealth managed worldwide through family offices, the research is still at its beginning. Definitions of theoretical frameworks are incomplete and also empirically unapproved.^[4] Due to the emphasis on client confidentiality, a large number of families and private offices are not accounted for in statistics and research. In Monaco, family offices are not registered as such. Foundations, trusts and charities often operate on a very low-key basis. As a consequence, research is extremely difficult. Therefore, individual discussions with family office managers provide the only way to build trust, thereby increasing the willingness to answer to sensible questions and improving the degree of detail in the answers.

In a first step, a broad literature and internet research has been prepared. In a second step, an interview guide has been developed based on the academic and professional literature. This served as a basis for the discussions and was adapted during the interviews so as to fully meet the customers' specificities.^[5]

Besides the International University of Monaco, Family Business- and Family Office Associations have been extremely helpful in initiating contacts to family office members. Focus of the thesis is the family office market in Monaco. However, due to the small market and for reasons of secrecy, selected family offices in Germany, Switzerland, France and Italy have also been interviewed. From March 15 until May 20 2010, 26 interviews have been completed overall.^[6] The majority of the interviews have been done in person, only three interviews have been conducted by telephone. Interview partners have been affluent individuals, family office employees, financial institutions, headhunters in financial services as well as accounting and legal advisors.

The information contained in this document is confidential and for academic research use only.

II Ultra High Net Worth Individuals

2.1 Classification of wealth

Wealth is usually subdivided into two broad categories: liquid and illiquid assets.

Liquid assets comprise cash & money market instruments, bonds, equity, structured products and foreign exchange. Liquid assets are usually managed by banks and asset management companies. Unless the wealthy family has a bank license^[7], it cannot do direct investments in liquid assets.

Illiquid assets include private equity, real estate and other assets such as wine and art collections. Private equity can materialize in form of shares or entire ownership of family businesses, real estate comprises buildings and land. Valuation of illiquid assets tends to be extremely difficult since trading does not occur on a regular basis. Ultra wealthy individuals can invest directly in those asset classes, through funds or funds of funds.^[8]

Figure 1: Classification of wealth

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2.2 Origins of wealth in Europe and Monaco

The origins of wealth have widely been attributed to the ownership (ongoing dividends) and sale of companies (about 50% in Europe). Additionally, inheritance (19%), accumulated income (18%) and successful investment activity are significant sources of wealth.^[9]

The majority of single family offices interviewed in Monaco and Germany defined business owner­ship and sale of the business as primary source of wealth (70%), followed by inheritance (10%).

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Source: World Wealth Report & Interviews for thesis

In the subsequent, each one of these sources of wealth will be explained.

2.2.1 Ownershipand saleofcompany

Surveys show that business ownership and the sale of a business are the primary sources of wealth for the majority of the world's HNWIs.^[10]

The exact origin of the wealth creation has significant implications for the way the family office is managing its wealth. If the family is still active in the business, it is likely to have an important part of its liquid assets tied up in the business. Therefore, strategic portfolio management remains con­strained. If the sources of wealth are restricted to ongoing dividends, family offices are rarely set up during the first generation. The entrepreneur tends to use existing business' service structures for his wealth management. Once the business is very profitable and succession planning becomes an issue, family office services develop into attractive models.

However, in the case of a sale of the company resulting in a sudden increase in wealth, family office structures are very likely because they allow a completely new strategic asset allocation taking into account the liquid and illiquid wealth as well as the individual risk profile of the owner.

2.2.2 Inheritance

Inheritance is often problematic due to the fact that wealth transfer issues often are not addressed properly.^[11] Moreover, according to some financial advisors, heirs tend to show lack of preparation to deal with the sudden wealth. Trusts provide a good basis for orderly transfer, but fiscal and legal issues have also to be addressed beforehand.

Once the wealth is transferred, the family office should continuously support the heir in getting a better understanding of wealth management. Particularly in this situation, heirs tend to be vulnerable and the family office manager should not exploit this situation by acting for subjects not strictly related to the interest of the family.^[12]

Inherited wealth investors tend to seek to accumulate and expose to equity, they are also characterized by a high demand for tax / legal / trust and succession planning related specialists.^[13]

2.2.3 Accumulated income

Another source of income is accumulated wealth over the life of a person. Very affluent, overall, are very good at creating new wealth; they are not simply relying on global economic prosperity to ex­pand their financial holdings through reinvested interest payments, dividends and capital appre­ciation.

Professions eligible for important accumulated income are top managers of big corporations, outperforming fund managers and advising professions such as strategy consultants, investment bankers, attorneys and fiscal expert. In few cases, famous sports players or artists can accumulate significant wealth.

People with accumulated wealth tend to be much older and more risk averse, which again influences portfolio structuring. Past professional experience can be decisive in the preferred range of asset classes. However, accumulated income rarely tends to exceed €50 million, and therefore the affluent tend to use primarily commercial family office structures.

2.2.4 Successful investment activity

The possibility to become wealthy solely through successful investment activities seems small. One of the few ways to accumulate wealth through successful investments has been observed during the internet boom with Business Angels. Business Angels invest in the earliest stage of the business and carry extreme risks. Other sources of income have been observed with investments in mezzanine debt and public listed shares.

Within this category, relationship managers tend to encounter highly competent people with equi­valent and partly more sophisticated expertise in wealth management issues. These clients tend to take an active role in the strategic and tactical asset allocation. Additional service offers particularly in fiscal and legal issues will help to successfully respond to the needs of this type of investors.

2.3 Size of wealth

The size of the disposable wealth is a crucial factor in defining which family office model is accessible to the affluent. Generally speaking, the family office market is still underrepresented in Europe, with an average penetration rate of about 18% of ultra-wealthy individuals.^[14] We will start by defining affluent investors.

2.3.1 Segmentation of affluent investors

For practical purposes, we follow a widely accepted definition of affluent investors given by Cap Gemini / Merrill Lynch in their yearly published World Wealth Report. Wealthy people are subdivided into four groups: affluent ($100,000 to $500.000), high net worth (HNW: $500.000m to $5m), very high net worth (VHNW: $5m to $50m) and ultra high net worth individuals (UHNWI: $50m and more).

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Source: World Wealth Report

According to our interviews, the set up of a family office is considered feasible for families with a minimum wealth of approximate $100 million.^[15] Family offices, with access to top talent, can easily cost more than US$2 million a year to operate.^[16] However, the cost depends on the mission of the office. If the goal is simply to provide family-wide accounting and bookkeeping, a family with as little as $50 million will find it economic to establish an office. On the other hand, a fully integrated family office is probably accessible only to very large families, typically over $1 billion.^[17]

2.3.2 Affluent investors and family office models

The interviews have indicated a clear distinction between the wealth of families that decide to set up their single family office and those that work with multi-family structures.

Generally speaking, the upper group of UHNWIs tends to be serviced by single family offices, the average wealth of the family having their own SFO is €lbn (lowest: €400m). Commercial family offices (CFO) and multi-family offices (MFO) are accessible to individuals and institutions starting from €20 million up to €500 million and thereby primarily serve the upper market of the VHNWIs and the lower part of the UHNWIs.^[18] The interview partners, however, have indicated that the lower limit for joining an MFO or a CFO is constantly revised down since once the structure, specialized advisors and technologic tools are available, the additional cost for offering this service is minimal.

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Source: Interviews for thesis

In the following, we will look at the level of wealth of the affluent investors that are running their own SFO.

Research among 22 single family offices (SFO) in Europe has indicated that 53% of the families running their own family office declared wealth of over $1 billion. About 11% stated wealth of $500 million to 1 billion and nearly one third reported wealth of less than $500 million.

Figure 4: SFO - Study Europe Assets under Management

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Source: Wharton Global Family Alliance

In Monaco, most of the interviewed family offices report wealth between €1bn and €6bn. However, this figure might not be representative since about a dozen offices have been identified which were not willing to participate in the survey. Those offices tend to be small (up to 3 people). Moreover, some families operate from within their family business which also performs FO functions, making it difficult to agree upon an exact definition. Finally, some family members and key decision takers are resident in Monaco, but their FO is located in another country, adding to the in-transparency. Overall, the interview partners estimate the market for family offices in Monaco to be around 20 to 30 offices.

Figure 5: SFO - Monaco Assets under Management

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Source: Interviews for thesis

The definition of family office models and determinants of structure will further be elaborated in the following part. Beforehand, key characteristics and needs of HNWIs will be described.

2.4 Key characteristics of wealthy

Complexity, control and access are key characteristics that wealthy people generally have in common. Their need for trust, transparency and privacy tends to be based on those characteristics. In addition to the typical needs of an ultra wealthy individual, a deep analysis of personality traits of each client should provide the basis for more personalized service.^[19]

For the purpose of this thesis, we will focus our analysis on the three characteristics and on the needs that tend to be associated with the ultra affluent.

2.4.1 Complexity

Complexity generally comes with wealth. The sheer size of wealth can make it difficult to execute transactions in certain markets because certain trade actions can influence market prices. The accounts of UHNWIs often are hybrids, in the sense that they are as large as institutional accounts but do have the tax disadvantages of retail accounts. Tax optimizing structures will be created involving different jurisdictions and foreign tax regulations, adding additional layers of international complexity.

Increased investment activity in alternative asset classes such a private equity, real estate, and foreign exchange, as well as the use of new instruments such as derivatives, has become increasingly common for the ultra wealthy in the constant search for new investment opportunities and diversification.

On top of financial, fiscal and legal complexity, the younger generation tends to have a more international mindset and might live in a different country, or have their children educated in yet another cultural environment. Combined eventually with international marriages, issues such as investment decisions, wealth transfer and succession planning become even more complex. Instead of choosing the optimal investment strategy, families risk to end up with a merely accommodating strategy.^[20]

2.4.2 Control

Former entrepreneurs that have become wealthy by selling their company are particularly keen on keeping tight control over the investment decisions. It is very hard to "let go". In single family offices, the patriarch is typically the sole decision taker, not the family behind.^[21] During our interviews, ten out of fifteen sparring partners have expressed this characteristic. Wealthy individuals tend to believe they are in the right to exercise control due to their influence and position. However, restrictions have to be respected and control exercised in the best interest for the family and the society as a whole.

2.4.3 Connections

Another form of access is relationship based, in line with the slogan: "It doesn't matter what you know, it does matter whom you know". Connections have always offered opportunity where there was none. In the financial industry, there is always someone who will be able to give an additional piece of information that might weight in favor of one investment decision or the other. For the wealth manager, affluent clients with connections and influence can send ideal referrals and entre­preneurial doors may be opened.

2.5 Needs and aspirations of wealthy

UHNWIs are used to high-touch, sophisticated and personalized services and are much more knowledgeable than they used to be about sophisticated financial concepts. Understanding their needs and aspirations helps develop existing and attract new businesses.

2.5.1 Overview of needs & aspirations

Our interview partners have been asked to rank the perceived needs and aspirations of UHNWIs on a scale from 1 to 5 (l=les important, 5=very important). Trust, transparency and privacy came out as the top three criteria. Independency in the advice, however, has been ranked as a perceived priority from independent service providers; HNWIs themselves only rank it less important.

Figure 6: Needs & aspirations of UHNWIs

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Source: Interviews for thesis

In this section, the most important needs and aspirations of UHNWIs are described and their consequences for wealth management analyzed.

2.5.2 Trust

With regard to the advisor, "trust" has been ranked the most important quality. This coincides with findings of major studies done in the financial sector, even topping "expertise" in the selection pro­cess.^[22] When dealing with a financial institution, the UHNWIs have limited influence on the advisor. In commercial structures, relationship managers tend to move on to different jobs in the organization, or to a similar role in a better-remunerating firm, and the client has to get involved with a new person all over again.

Some financial institutions that offer family office services have special incentive schemes for their personnel in order to secure long term relationships and alignment of interests. In family offices, as one interview partner put it, "once you are in, you have to make a very stupid mistake to be thrown out". Even if this approach does not hold for all the family offices and especially not after the recent financial crisis, it reflects the underlying concept of trusted, long term oriented and caring relation­ships.

2.5.3 Transparency-

After the recent financial crisis, transparency has become the new watchword for HNWIs.^[23] Particularly, family offices conduct more due diligence on hedge fund investments than their high net worth peers.^[24] Ultra wealthy investors will force access to detailed information that the less affluent investor will not be granted. Starting from investments around €15m, funds are willing to grant full access to any type of information in order to secure the investment; this constitutes a huge advantage for the ultra wealthy investor. In one example, the out handed reports showing exceedingly low volatilities and steady returns over a long period have stopped one of our interview partners from investing in Madoffs' funds. In the meantime, less affluent investors had to rely on the due diligence of feeder funds and financial institutions.

As clients' portfolios become more global and complex, awareness of other reporting and pricing structures proliferates. Clients often focus on pricing to assess their service providers when reporting fails to highlight basic portfolio performance. However, focus groups and interviews reveal that clients are not unwilling to pay for services; rather, they would like to better understand what the services cost so that they can make more informed decisions about expanding or contracting their use. Providers should not fear sharing pricing information because clients will pay for good service.

Conflicting relationships may arise if the advisor "controlling" the clients' money does not disclose kickbacks/rebates from fund managers. The practice as such is common since it often pays for the use of an existing external distribution network. With regard to hedge funds, this is a classical source of quarrels: Who is due the rebate? Some advisors might keep the rebate in their bank's account, others book it back entirely or partly to the customer in order to increase performance and secure transparency. In fixed income, a classical form of opaqueness is adding a spread when buying or selling bonds not indicated in the client statement or buying bonds at the highest price (lowest yield) of the day. Some family offices have replicated the same software as the bank and closely track the bond performance over the day and track every transaction of the executing bank in order to verify real performances and related costs.

2.5.4 Privacy

During our interviews with HNWIs, advisors and family office managers, confidentiality has been the single most important issue. Setting up an own family office allows for privacy. Ultra affluent do not want outsiders to know about their wealth, partly because they do not want to create jealousy, partly because they do not want to be hassled by additional advisors and providers. This is an issue especially in Monaco due to its small geographical size, constrained financial community and strong rooting ties within the Monegasque population. As a consequence, some family offices in Monaco have a local company for administration and bill paying but with regard to their investments, they "prefer to work exclusively with advisors and banks in London or Geneva".^[25]

2.5.5 Holisticadvice

Moreover, about two third of UHNWIs actively search for more integrated advice.^[26] The family office service model arose from this need for connecting the disparate parts of the professional advisory, including attorneys, certified public accountants (CPAs), investment managers, stockbrokers, insurance agents, banks and independent trust entities.^[27] In commercial structures, the financial advisor is product driven and specialized in a single asset class. Thus, holistic advice on the overall asset allocation is impossible. Additionally, the bank only sees a small part of the liquid assets. However, the high complexity and inter-relatedness of most UHNWIs implies that isolated solutions are insufficient and inadequate.

2.5.6 Long term oriented advice

Finally, UHNWIs tend to expect more long-term oriented service in order to conserve capital and secure transfer of wealth to the next generations. In the short term profit oriented banking system, "peddling the investment product of the day"^[28] has for a long time been more important than consulting with the client about long-term goals and investments. This need is addressed by a few commercial institutions only and provides the basis for successful client relationships.

2.5.7 Tailored advice on alternative investments

Furthermore, UHNWIs expect first class advice on alternative investments (ex. private equity, and real estate) as a way to differentiate from the "me too" service offerings.

HNWIs seem to demonstrate an excellent ability to find high-performance investments. Those placements have been heavily weighted in alternative investments and emerging economies. As clients demand involvement in such trends, their needs inevitably increase in complexity. Providers scuttle to meet this demand with products and services targeting alternative investment and emerging economy capital surges. Although these investment options present a different picture from traditional portfolio offerings, they are now becoming main stream among wealthy investors. This, in turn, requires new financial instruments and strategies within alternative investments. During the interviews, several advisors have indicated a lack of specialized knowledge in alternative invest­ments, leading to an asset allocation based primarily on fixed income (money market instruments, bonds) and equity.

UHNWIs are well positioned to diversify their portfolio by investing in alternative asset classes due to their ability to meet high minimum investments and to support liquidity squeezes. Very often, best fund managers require a minimum investment of €5m, which is impossible for any UHNWI below €100m without risking overweight of that particular asset in the overall asset allocation.^[29]

2.5.8 Independency

Independency in the advice is another key criterion. Problems might arise when in-house products are presented to the customer, not mentioning that those products offer the highest profit margin to the firm. Some financial institutions are tempted to offer in-house products even though they are not outperforming, because it is just not possible for every institution to have the "best in class" security. This conflict of interest arises in commercial family office structures, banks and other incentivized advisory setups. The non-professional investor does not have the market overview and cannot easily detect biased advice.

Open architecture, i.e. allowing advisers to buy third-party provider offerings, has played an important role in this respect. Open architecture represents a powerful tool in meeting clients' demand for best fitting products, which do not necessarily come from the same provider. Of equal importance, the willingness to buy competitors' products reassures clients that their wealth manager puts their clients' interests first.

The previous section has given an overview about the needs and aspirations of the ultra affluent. In the following part, benefits of family offices will be analyzed.

2.6 Benefits of having a family office

The key perceived benefits of having a family office are related to money issues. The results of the interviews in Monaco are consistent with previous study done in Europe^[30] which states that the key benefit of having a family office is consolidated management of family wealth and control. In Monaco, confidentiality is of special concern due to the small geographical size and relatively limited number of private bankers. On average, UHNWIs work with more than 25 providers,^[31] including banks, brokerage firms, money managers, lawyers and accountants. The FO helps coordinating these advisors and ensuring they remain aligned with the family's objectives.

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Source: Wharton Global Family Alliance & Interviews for thesis

During the personal interviews, another benefit for having one's own family office that has been mentioned is the freedom of career choice for family members. Often the business does not provide work opportunity for the entire family; the office therefore is considered an interesting career opportunity in consolidating family wealth management and control. This also helps to convey family values and make sure the family needs come first.

Among the families involved in the survey, the majority (60%) remains involved in operating businesses, as depicted in Figure 8 below. In SFOs above €1bn AuM, family members are usually members of the supervisory board and thereby influence the business.

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Source: Interviews for thesis

III Family Office Background

A comprehensive review of the family office history will serve as the basis for designing efficient service models for wealthy people. Therefore, this second part provides an overview of the evolution of private banking and family office services, the reasons that lead to the set up of family offices, typical ways of clustering the structures and factors that do influence these service models.

3.1 Origins and evolution of family office concept

Whereas the term "Family Office" has originated in the 19th century in the United States and since then been internationally adopted, the concept traces back much further.

3.1.1 Early origins of care taking concept

As to the concept of serving, protecting and preserving families and their members across several generations, it goes back to the Shang dynasty in China (1600 B.C.) and merchant activities in ancient Japan.^[32] Other sources trace the origins back to the Roman major domus (head of the house) and the medieval major-domo (chief steward).^[33] Banking activities evolved from pure lenders to preservers of family fortunes. Private banking and family office services have for centuries played a key role for the development of entrepreneurs, merchants and trade. Since the beginning, affluent families have been attracted to single family offices, rather than to commercial banks, investment companies or other wealth optimization services, because of their promise of exclusivity, privacy and customization.

3.1.2 European origins of family office type services

More than 600 years ago, rich merchant families in particular, began to establish private banks to administer their accumulated wealth. The Medici family was a powerful and influential Florentine family from the 13th to 17th century. In 1388, Giovanni de' Medici founded a private bank, one of the first in history, to manage and multiply the family wealth.^[34]

Other sources date the history of European private banking back to the 17th century, as an offshoot from goldsmith banks in London.^[35] What these associations of traders set up was a clearing house system by which transactions were made possible between the country agents and a London bank without transporting cash. Extending credit facilities allowed promoting new business ventures worldwide.^[36]

Private bankers engaged in the business of banking without first obtaining a permit to do so from governmental authorities. As a consequence, the private banker often was free to practice the banking trade with little or no governmental regulation.^[37] As a consequence, many wealthy families and entrepreneurs had independent structures like in-house banks, trading and FX. Private banking in Europe has always been about tradition, protection and preservation (wars, political unrest etc.) and especially about confidentiality, not necessarily about transparency and performance.^[38]

Besides the English banks (except the Bank of England), European private bankers including the Rothschilds, the Medicis, the Bardis, the Jewish bankers, Swiss Protestant bankers, and Scottish bankers, played a key role in trade and politics throughout Europe. Swiss banks were the first originators of fiduciary relationships, by investing into the same side with their clients.^[39]

The "old" banking houses/families acted as entrepreneurs, as they offered and billed their services to others, beyond their own families. In a way, they acted as MFO, had that term been used in those days. Some banks retained their specialization serving wealthy private clients, whilst others took on the commercial banking role.^[40]

3.1.3 U.S. development of family offices in the 19th century

The tradition of unregulated, unlicensed private banks was carried to the United States, led by Alexander Hamilton (Bank of New York, 1784), Stephen Girard (Bank of Stephen Girard, Philadelphia, 1812) and John Pierpont Morgan (J.P. Morgan, 1871).^[41] Through the mid-1850s, more than 700 private bankers have been operating in the United States.^[42]

In 1791, the First Bank of the United States (1791-1811) received a unique national charter from Congress.^[43] This charter granted economically favorable privileges, namely monopoly of banking in towns, in return for providing financial services to the state and the public. This made it extremely hard for non chartered banks to compete. After the War of Independence, a number of state banks were chartered, including in 1784 the Bank of New York and the Bank of Massachusetts. However, private banks posed a threat to the lucrative arrangements between the government and the chartered banks and were increasingly forced to become regulated".^[44]

In 1853 the firs trust company, U.S. Trust was formed, with the purpose to help other entrepreneurs execute financial transactions and manage their wealth.^[45] The Industrial Revolution of the United States, giving rise to large corporations producing new sources of wealth, has begun. The need for wealth preservation across several generations widened the role of the bank trust officer. Private Banks teamed up with trust companies to offer more complete selection of services.

[...]

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¹ Forbes (2010), http://www.forbes.com/2010/03/09/worlds-richest-people-slim-gates-buffett-billionaires-2010-intro_2.html

² Amit (2006), p. 2

³ Carroll / Orza (2008), p. 22

⁴ Haupt / Hilger (2006), p.1

⁵ Kanwischer (2002), p.98

⁶ Appendix: Classification of interview partners

⁷ Such as bank Safra (managing the wealth of the Safra family) and the EFG bank (managing the wealth of the Latsis family)

⁸ Weber (2010), p. 104

⁹ Capgemini / Merrill Lynch (2006), p.19

¹⁰ Capgemini / Merrill Lynch (2006), p.19

¹¹ Mönninghoff (2006)

¹² De Visscher (2005), p. 60

¹³ Affo-Deloitte Conseil (2009), p. 40

¹⁴ Etude Celent (2008), p. 1 ; see also Frhr. v. Bechtolsheim / Rhein (2010), p. 368

¹⁵ Capgemini / Merrill Lynch (2005), p. 20

¹⁶ Capgemini / Merrill Lynch (2005), p. 21

¹⁷ Curtis (2001), p. 1

¹⁸ Haupt / Hilger (2006), p.24

¹⁹ Prince/File (1995), p. 10

²⁰ Prince / Harris (2002), p.17

²¹ Personal interviewwith independent fiscal advisor

²² Institute for Private Investors (2004) ; Wharton School & State Street Global Advisors (2006); AFFO-Deloitte Conseil (2009)

²³ Dugan (2009), p. 1

²⁴ FO Report (2009), p. 3

²⁵ Personal interview with family office manager

²⁶ Hofmann (2003), p.l

²⁷ Beyer / Brown (2003), p. l

²⁸ Gray (2004), p. 9

²⁹ Pompian (2009), p. 8

³⁰ Amit / Liechtenstein / Prats / Millay / Pendleton (2008), p. 12

³¹ FOX (2006), p. 3

³² Dr. Ehlern (2008), p. 106

³³ Amit / Liechtenstein / Prats / Millay (2008), p. 4

³⁴ http://www.creditanstalt.ca/1024/family_office.htm

³⁵ Gray (2004), p. 12

³⁶ Barclays Capital, History

³⁷ Dr. Sylla / Kaufman (1995), p. 1

³⁸ Dr. Ehlern (2008), p.106

³⁹ Fleck (2002), p.1

⁴⁰ Dr. Ehlern (2008), p. 106

⁴¹ Gray (2004), p. 12

⁴² Dr. Sylla (1976), p. 176

⁴³ http://en.wikipedia.org/wiki/Bank_of_Hamilton

⁴⁴ Dr. Sylla / Kaufman (1995), p. 3

⁴⁵ Gray (2004), p. 13