It is hard to establish with precision the allocation of Family Offices to the asset class of Venture Capital and direct investments in start-ups.
UBS estimated that around 5%-10% of the Assets of US Family Offices are invested in Venture Capital, a much lower allocation compared to Private Equity and Hedge Fund (each around 15%-20%). In Europe, the allocation in VC Funds is probably much lower, at around 1.0%-2.0% of the assets of the typical Family Office.
Considering that in a 10 year period the returns of the VC Industry are equal to the return of the Private Equity and higher than Hedge Funds, the question is why Family Office are so resistant to invest in early stage Funds and start ups.
I believe that the reason is mainly about historical heritage. Family Offices were able to achieve very strong return investing directly in tech champions just post IPO.
This is not possible anymore for 3 key reasons:
Tech superstars stay private for much longer (10-12 years compared top 3-5 years in the past);
The high returns are achieved investing during the private life of a company, mainly during Seed, Series A and Series B rounds;
In the past tech companies arrived at the IPO with reasonable valuation in the range of $300-$500m, allowing investors to participate in the ride to a $100bn valuation. This is not happing anymore.
Ebay and Amazon IPOs 3 years from inception and previously to the IPO, they raised respectively just $7m and $9m.
Amazon Market Cap post IPO was $438m. Assuming that a Family Office invested in Amazon Stock in the month post the IPO, they would have achieved a multiple of 2,136x if they kept their shares up to today.
Same story for the main tech success story of the 90s and 00s. Microsoft went public with a valuation of $350m, and today is worth $900bn (2,500x return). Oracle, Cisco and Google achieved similar result.
So, it was an easy life for a Family Office. They could buy exposure to the tech world, investing at cheap valuation into stellar tech players growing top line by 1,000% per year.
Things start to change during the financial crisis. The IPO market was closed for a couple of years and companies started to look around to find somebody else that was able to fund their growth.
They didn’t need to look around for too long. Softbank, Hedge Funds, Asset Management Companies were able to start to invest their liquidity in private companies.
The result? No need to go public and no opportunity for private investors (including Family Office) to extract strong return from the technology sector.
Uber took 9 years from inception to go public, Lyft and Dropbox 11 years, Facebook 8 years.
Uber received VC funding for almost $20bn pre-IPO and went public with a valuation of $70bn.
What is the upside for a Family Office that buy the share post IPO? Very limited, we can assume that Uber could achieve a 2.0x return from today in 5-10 years, but its far from the upside opportunities of 20 years ago in the tech industry.
To give you a scale of the issue, consider that if Uber would be able to achieve the 2.000x return of Amazon stock, it would be a company with a market cap of $140 trillions, or 7 times the US GDP.
Who is getting the upside of those companies? Early stage investors first (Angels, VC Fund investing in Series A and Series B) plus the new investors as Hedge Fund, Assets Management Firms and our friend Softbank.
If tech companies decide to go public they will do with super high valuation, reducing the opportunity for Family Offices to buy the shares and achieve great return.
Lets take Spotify. It went Public one year ago with a valuation of $25bn and today is worth more or less the same.
However, some Swedish Family Office invested in the Series B of Spotify with a valuation of $250m valuation, meaning that at the IPO they made around 100x their money (not assuming dilution).
To capture value from the technological industry, Family Offices can not be passive anymore and just wait for the IPOs. They should start to invest in the early stages of the life of companies, with both direct investment and indirect investments (via VC Funds).