Some great commentary highlighting the benefits of outsourcing investment management. While the article is geared towards family offices, it also has applicability to other investment advisors to include, banks, trust companies and other Registered Investment Advisors.

1. ANALYSIS
15CampdenFOIssue 28 / 2016CampdenFB.com14 CampdenFO Issue 28 / 2016 CampdenFB.com
Bringingonboard
world-classinvestmentgurus
canmakethedifference
betweensinkingand
swimmingbutoutsourcing
couldofferdeeperpools
ofwealthmanagement
expertise.ScottMcCulloch
teststhewater
Dipthe
toe or
dive in?
“
T
hey may at times lack the expertise,
the assets or the confidence to
handle burdensome investment
functions in-house, yet dynamic
family offices cannot ignore the
lure, and often good sense, of outsourcing
more sophisticated components of their
wealth-related activities.
The question is: Do they and to what extent?
And when opting for the status quo, why such
reluctance to tap external expertise?
Confidentiality, conflict, and customisation are
the critical concepts, says Linda Mack, president
of Mack International, a Chicago-based family
office executive search firm.
“You can do anything you want by
keeping services in-house. But do you have
the competencies or the bench-strength
for successions?”
Data suggests that families are reluctant to
outsource investment-related activities.
The Global Family Office Report 2016 found
the average family office (using the average
assets under management of $759 million)
outsources only 17% of its investment activities—
equivalent to $446,000 every year. In-house
investment activities accounted for 55% of
annual spending, and 28% of expenses came
from both in and outside the family office. This
excluded external manager performance fees
where an average family office will spend 22.9
basis points—equal to $1.73 million.
Options for family offices looking to outsource
investment services have rarely been better,
believes Fred Busk, managing partner at
Netherby Advisors in Connecticut.
He attributes this to the complexity of the
modern investment landscape and the evolution
of sophisticated asset allocation strategies.
“It was traditional stocks, bonds, and cash
decisions 20 years ago. Now we are looking at
economic factors, at return streams, and their
diversification.”
Busk says it is impossible for family offices
to have a supreme level of expertise in all
investment categories—certainly those beyond
your basic bread-and-butter areas such as fixed
income, equities, or real estate.
Depth of expertise is a chronic concern
throughout the family office industry. For Peter
Barakett, president of Florida-based Due Diligence
Consulting, better background checks are just one
of a raft of areas in need of shoring up.
“A $4 billion family office hired a chief
investment officer (CIO) they were introduced
to and later found out he was really just a retail
wealth adviser previously,” Barakett recounts.
“He never managed a lot of money and was in
over his head.”
Other commentators wonder if family offices
simply do not hire the right people. True, a dearth
of internal expertise can propel even the most
lethargic of family offices to seek outside help, but
do the rewards outweigh the risks?
“Buying companies on your own is increasingly
popular with families,” says Robert Blabey, CIO of
Align Private Capital.
Yet direct deals are not for the faint of heart.
“The benefit of outsourcing is that you get the best
and brightest in each category. You do not go to the
dentist if you need heart surgery,” he advises.
Blabey notes demand is up, too, among families
seeking investment skills in hedge funds, private
equity, direct transactions, and in certain
commodity areas.
“Anybody can invest in a hedge fund, says
Blabey, former CIO of Florida-based Collier
Family Office.
“But a consultant will have specialised
background, access to certain funds, knowledge
of what other families are paying in fees, and may
actually save money by negotiating better terms.”
Such expertise is rare. The days of binary
decisions to outsource everything to a single firm
are rarer. Blended approaches, where segments of
a family office’s investment and advisory service
activities are outsourced with in-house oversight,
are more common. According to the Global Family
Office Report 2016, 32% of investment related and
general advisory services are blended.
Blabey believes a lot of what families outsource
can often be done internally.
“But it becomes a matter of team size and depth.”
If a family plans to invest in a traditional asset
manager for, say, equities and fixed income,
the competencies needed to set appropriate
investment disbursements and assess and appoint
managers differ significantly from those for
alternative investment managers.
The benefit of
outsourcing
is that you
get the best
and brightest
in each
category. You
don’t go to the
dentist if you
need heart
surgery

2. ANALYSIS
17CampdenFOIssue 28 / 2016CampdenFB.com16 CampdenFO Issue 28 / 2016 CampdenFB.com
“Families will have a comfort level and better
understanding of one category over another,” he
says. “When you get into the alternative world, you
tend to have a need for more specialisations.
“Someone who is adept at evaluating managers
of hedge funds may not have the skills required
to do that in private equity, or in direct lending,
or commodities.”
Families must recognise their needs and
acknowledge—realistically—their limitations
and those of the family office, the conventional
wisdom goes.
Then what? Get an expert, insists Barakett, be it
for an immigration issue, an executive background
check, or a direct deal.
“You have to do your due diligence.”
Imagine a family considering a $15 million
investment in a building in Phoenix or investing in
a hedge fund or taking a minority stake in a private
company, Barakett hypothesises.
“What don’t you know? We see it all the time.
People do not think it through. They get caught
up with what someone else is telling them is the
opportunity, how great it is, what the upside
is. There is often no plan to check or verify
anything—it is just random investing.”
The best approach to due diligence,
Barakett adds, is the same approach that
should be used for taxes, estate planning,
succession issues, or divorce.
“Hire a professional with expertise in the subject
matter. The first step is to ask ‘What do I know or
what don’t I know? Which firms can help me in
these specific areas?’.”
Rarely are the origins of a family’s high net worth
the result of canny exploitation of sophisticated
financial instruments. Their monetary bedrock
is often entrepreneurially-driven yet their wealth
preservation acumen typically falls short by
comparison.
Braver and more ambitious family offices look
beyond their own walls to compensate for such
shortcomings. Their trepidation is understandable.
“I know several families who have had a major
liquidity event,” says Mack.
“The genesis of their wealth was not financial
services. They are very smart people, but they are
not investment managers.”
At which point a family finds itself facing a classic
buy versus build investment dilemma. In other
words, hire in top investment talent in woefully
lacking asset allocation categories to beef-up the
family office—or outsource.
The caveat? The family must know what it wants,
how it will reach its goal, and then develop a plan.
The decision to outsource will be cost-
driven, expertise-driven or both, says Mack.
Either way, few growth-orientated family
offices will ignore such inevitabilities. The
trick is to outsource wisely.
Blabey hypothesises a family building
a $100 million hedge fund with industry
standard “2% and 20%” fees—allocating
$2 million to invest in fund managers and
20% in performance costs.
“Families should evaluate the situation as
any company would evaluate it,” he says.
“If you are spending $2 million a year—an
expense to run that company—that is a lot
of money. You want to make sure it is being
spent wisely and carefully overseen. For
10% of that cost, $200,000, would it be
wise to have an outsourced expert to come
and assist you? The answer may be yes.”
Or no.
“For some families it makes no economic
sense as they are doing [most investing]
inside anyway,” says Mack.
“They have some very good reasons
but they are certainly not financial.”
Such family offices will have,
at a minimum, satisfactory skills
resident to manage investments
in categories where
knowledge pools
could be clearly
deepened by
outside specialists.
In a way, this is
happening, says
Mack, referring
to past financial
crises.
Top left: Nate
Dougall, director
of investments at
Netherby Advisors
in Westport,
Connecticut
Top right: Linda
Mack, president of
Chicago-based Mack
International
What key factors should a
family office consider before
making an outsourcing
decision?
Much is driven by the size of
the family office, according
to Nate Dougall, director of
investments at Netherby
Advisors in Westport,
Connecticut.
“We have seen many
multi family offices build
out the in-house team—
planning, accounting, legal,
compliance, administrative,
and investment—and they
do not have enough business
in any one area at any one
time to justify the full-time
employee expense in a
consistent way.
“Profitability suffers and
there is a lot of pressure put
on bringing in new business.
Other family offices that we
have worked with struggled
on the minimum account
size, eschewing those
accounts which were under
their minimum because they
could not efficiently service
those clients.
“By outsourcing some of
those services, they could
have provided a slightly
scaled-down offering which
was not as administratively
intense, served these clients
in the wealth accumulation
phase that did not necessarily
meet their minimums yet,
and help the firm’s long-term
growth profile.”
Look before
you leap
Although investment and administrative fees
have fallen in family offices worldwide, the lion’s
share of management costs is often internal.
Note: These costs are inclusive of all internal (including staff) and
external costs and should be considered alongside the average
family office portfolio. The operating costs in dollar terms are
calculated based on the average family office AUM of $759 million.
Where doesthe moneygo?
“It’s not
a cost
decision as
much as a
competency
decision
“What we have seen since 2008 is
more [families] taking control over the
investment functions,” she says.
“That does not necessarily mean
they are hiring the whole staff, but
they certainly have at least someone
inside with strong investment acumen
to oversee anyone they choose to
outsource to.”
This strategy, where a capable family
office employee oversees investments
while gaining strategic knowledge, can
play out over five to seven years.
“Then over time the family may decide
to bring pieces of the function in-house,”
says Mack.
“It is not a cost decision as much as a
competency decision. They do not feel
they have the expertise to go and allocate
a $1 billion portfolio right now or do, say,
direct private equity deals themselves.”
Source: The UBS/Campden Wealth Global Family Office Report 2016
Management in % of family offices
Investment-related activities
Asset allocation
Real estate
Financial accounting
Manager selection and oversight
Alternative investment
Philanthropy
In-house
74
56
61
56
43
76
Both
18
31
27
30
37
14
Both
29
53
39
43
46
35
Both
41
29
25
29
17
Outsourced
7
13
12
14
20
10
Outsourced
12
36
59
32
27
47
Outsourced
5
6
5
7
6
In-house
59
11
2
25
27
18
In-house
54
65
70
64
77
Management in % of family offices
General advisory services
Financial planning
Tax planning
Legal services
Trust management
Estate planning
Insurance planning
Management in % of family offices
Family professional services
Family governance and succession planning
Management of high value physical assets
Support for new family business/other projects
Concierge services and security
Family counselling/relationship management