The direct deal time bomb at family offices

Direct deals are the holy grail of investing. Find the next early stage company and billions can be made. But how much due diligence are family offices doing to find those next successful companies – not much, according to experts.

“There will be a lot of failed investments by family offices and we will never hear about them,” says Peter Brock, head of family office services at EY. “But in the next ten years this could be a big problem for family offices.”

Brock and others say too many family offices are doing deals without adequate levels of due diligence. “There is no shortage of deal flow out there and family offices are sometimes spoiled for choice. But when you ask them if they’ve done due diligence in many cases they come back with a pretty poor checklist.”

Del Huse, a direct deal originator for family offices and ultra-high net worth individuals for a company called Roycian, agrees, and reckons that family offices are “skinny” when it comes to due diligence on deals. “That’s often because they are working with people they know very well and work on a trust basis,” says the London-based Huse. “This is particularly the case in the Middle East and Asia.”

The cost associated with doing rigorous due diligence is also a factor deterring family offices. “In most cases they don’t have the level of expertise to do the due diligence,” says Huse. Brock adds that due diligence has nothing to do with the size of the family office. “I know of one very big family office that has done hardly any due diligence on their direct deals.”

As Family Capital has said before, direct deals have been very popular with family offices in recent years, because of the control they offer and their potential upside. Family offices have also piled into direct deals because many of them have become disillusioned with private equity funds.

But direct deals could become a big mis-selling scandal for family offices in the future. Of course, if so, the market may hear little about it, given the secrecy around the sector.