When you hear the word discipline, you may think of world-class athletes or Nobel-winning physicists – or you may think of the principal’s office. Whatever pops into your head, it’s probably not the execution of your family office’s investment strategy – and that’s one reason even the best strategies are often unsuccessful.
In our last post about Direct Investing in family offices, we outlined the importance of having the Right Strategy and Right Team. Today, we’ll cover the final factor: Right Discipline. Just joining our family office discussion? Read our intro post on the topic or review the basics for the first two factors Right Experience and Right Reasons.
RIGHT DISCIPLINE :: The family office and its team are disciplined in the execution of the strategy.
Discipline is where the rubber meets the road. It’s the really hard stuff because it’s what’s required to execute with excellence – consistently and over time. Direct investing might sound sexy, but there’s nothing sexy about this stuff… and without it, you’ll be unwinding your investments in a few years. Hopefully, the wheels don’t fall off the family, as well. I wouldn’t wish that on anyone.
Here are five keys to having the Right Discipline:
1. Document Your Investment Thesis and Criteria
All that legwork you did to define your Experience, Reasons, Strategy and Team needs to be codified. This document helps solidify the family’s direction and provides a reference should your boat drift off course. Most offices include:
Target Types of Investments
- Company size
- Company Attributes
- Growth Opportunity
Desired Basic Deal Terms
- Investment Size
- Equity vs. Debt
- Voting Rights
2. Generate Quality Deal Flow
Successful direct investment is a numbers game. You’ll need relationships with high-quality sources to generate high-quality leads. Generating a bunch of crappy leads is a waste of everybody’s time and is a recipe for financial disaster. Typical deal flow sources include:
- Investment Bankers
- Other Family Offices
- Personal Networks
- Proprietary Deal Flow
3. Apply Consistent Due Diligence
Evaluating a company for investment should be timely and conducted by experts, including experienced deal attorneys and accountants – not just the family’s “house” attorneys and accountants. To believe you’re a legit investor – a hurdle for many family offices – people need to believe you’ll follow through quickly, which is particularly hard for family offices. The most successful offices establish and use a well-rounded investment committee that includes trusted, experienced third parties who can make decisions efficiently. Typical activities of due diligence teams include:
- Verifying Strategic Fit
- Validating Financial Models and Returns
- Evaluating Deal Risk
- Recommending Changes to Deal Terms
4. Provide Investment Oversight
You can’t lose weight without regularly stepping on a scale. Successful direct investment requires careful monitoring. Although your role in governance may vary based on your ownership share and voting rights, it’s your duty to actively monitor performance.
Direct investments aren’t passive. Your family can’t sit back and watch the returns pile up. On the contrary, companies have operational challenges, cash flow constraints, management turnover and other unexpected issues that require constant care. The best investors bring both cash and insight to the table. Leveraging your family’s industry expertise and business capabilities is a key element of oversight – maximizing returns while minimizing headaches.
5. Maintain Consistent Family Governance
Who speaks for the family? How are intergenerational disagreements resolved? Who has an active role in management? How can passive family members share their voices?
Transparent processes for making decisions and overseeing the family’s interests help keep everyone on the same page – and hopefully reduces the chance of destructive blow-ups. Your family’s governance model should be grounded in your family’s vision, mission and values – and its structure should enable timely decision making. Mechanisms for family members to play an active role include:
- Leadership Positions
- Committee Memberships
- Project Management
- Operating Responsibility
Family is, well, family. And while all families have their ups and downs, when you’re undertaking direct investment, relationships are even more challenging and potentially volatile. Adding financial pressure magnifies these difficulties. On the other hand, high-performing family offices are a force for family cohesion – securing wealth for future generations.
Thoughtful planning and execution increase the likelihood your family’s legacy is secure. Whether you’re just starting out or you’ve been investing for generations, it’s never too late to do it right: