By Nancy Vailakis, Senior Advisor at Socium Fund Services
October 6, 2020

Michael Felman is President and CEO of MSF Capital Advisors, a family office advisory firm with 60+ clients around the globe.

Given the complex variety of needs represented by such a large family office base during a 20 year firm history, Michael has a unique and informed view of the current investing opportunity set. His knowledge spans all popular strategies and structures in play today, from complex private credit funds to independent sponsor deals across a broad array of sectors and geographic locations.

Michael has a deep understanding of how and why families invest and has outlined his views in this interview.

Vailakis: Thank you for agreeing to share your knowledge with Opus Connect members, Michael.

In recent years we have seen a meaningful increase in family office co-investment and independent sponsor deal activity. As you advise around 60 families on such allocations, how would you describe this shift?

Felman: Thank you for having me, Nancy.

There has definitely been a shift to more direct investments by family offices in recent years. Some of the reasons for that shift include:

  1. Payment of fees.
    Numerous studies have shown that fees over time significantly reduce your overall returns.
  2. Return of capital.
    Many funds, whether private equity or venture capital, have not done an amazing job of returning capital to their investors.
  3. Selection Bias.
    There is a risk of selection bias in any co-investment opportunities offered by funds.
  4. Generational inclinations.
    In many instances, the next generation of younger family members may be more averse to the “blind pool” concept as they tend to want more control over their investments. I’ve found that they are also showing this tendency through their philanthropic giving patterns.
  5. Family member involvement.
    Direct investments provide a way for the next generation to become more actively involved with the family office.

I believe there is still a role for independent sponsors to play as these shifts continue. Independent sponsors often help family offices become knowledgeable about their specific strategy sectors and have typically already identified their investment targets, thus negating the “blind pool” model.

Vailakis: Some families, not all, prefer to partner on deals shared with them by other families they’ve participated with many times before. Trust is a clear component of all deal making, but please speak to other aspects of this dynamic.

Felman: With respect to direct deal making in the family office sphere, there are many factors, but here are my top questions or considerations:

  1. As you pointed out, Nancy, trust is the number one factor, really in any investment arrangement including direct deal making.
  2. Does the partner have subject matter expertise that could benefit the family?
  3. How well does the partner know the political landscape if this is a foreign deal. Are they on the ground in the country being invested in?
  4. Can the partner open new distribution channels in the situs of the investment?
  5. What are the long terms goals of this partnership? Is it a buy and hold or an improve and sell opportunity?

Vailakis: What investment sectors and geographic locations are of most interest to the families you currently serve? How did COVID-19 related considerations shift such interest?

Felman: The majority of the families that we serve are not located in the United States. Most of our investments are overseas. We remain interested in developing markets as they are, in our opinion, presenting the greatest growth opportunities.

COVID-19 made us think more heavily about supply chains and how fragile they are. Obviously, there has been considerable growth in e-commerce, internet usage, etc. since the crisis. Cybersecurity and cloud computing are two areas of investment focus for our group.

Vailakis: Over the course of your time running MSF Capital Advisors, what has changed in the family office investing universe and where do you believe trends could evolve from here?

Felman: COVID-19 has created a sea change in how people work. Most people are now working remotely. I don’t see this trend changing any time soon.

MSF Capital Advisors has always been virtual as team members are located around the US and abroad. I’ve been told that other family offices are looking closely at this model if they haven’t implemented it already.

This new model does however have implications from an investment perspective. Obviously, you don’t need as much or any office space. The industries that serve office workers will be negatively impacted. There is more automation coming in the supply chain through robotics, etc.

At MSF Capital Advisors, we like to get ahead of the curve on our investments as the old saying goes, and “skate to where the puck is going and not to where it is presently.”

Vailakis: Do you have any advice for families looking to start investing in direct deals, either through independent sponsor engagement or otherwise?

Felman: Look, there is no free lunch here. If you are looking to make direct investments to save money, then you are often enough being “penny wise and pound foolish.” You could end up costing yourself and your family more money if you aren’t in a position to assess the direct deals well, if, for example, the sector is unfamiliar.

If you are at a point in your life where investments are not your main focus, then I would stick to investing in funds. If you still want to be somewhat active, then I would invest through an independent sponsor or hire a team to reside in-house or as part of a separate entity.

Many more family offices are starting outsourced private equity teams that have only the family as a capital source. Some of them are launching funds for other families to participate in.

Vailakis: As many are anticipating a more comprehensive corporate default cycle in the next 6-18 months, what investment plays seem less risky / more likely to preserve capital and capture upside, as we are poised for a deeper recession?

Felman: I agree there will be a tsunami of corporate and real estate defaults coming in the next 6-18 months. I am not sure what investments will be less risky but there will definitely be a need for capitalfor recapitalizations, workouts, origination, etc. I believe patient capital will be in the ‘cat’s seat’ ready to pick off some plum opportunities.

Thank you so much for providing me this opportunity to share my views, Nancy.