SUMMARY
There are currently 300+ family offices, and their participation in startup investments grew at a CAGR of 42% at seed stage and 71% at growth stage between 2019 to 2022
While the prospects look great, there are many challenges that are eclipsing the potential of family offices to directly invest in Indian startups
These challenges range from finding, attracting and retaining top industry talent to costs and long timelines associated with direct startup investments
Family offices in India have come a long way in the startup investment game. The transition that started as an option almost a decade ago has now evolved manifold, with the investor class now aggressively sourcing and pursuing startup deals and networking with new-age Indian founders for high-growth-yielding bets.
According to Inc42’s latest report, “India’s Startup Investors Landscape”, there are currently 300+ family offices, and their participation in startup investments grew at a CAGR of 42% at seed stage and 71% at growth stage between 2019 to 2022. Further, their deal participation in Indian startups was seen increasing in two core sectors, fintech and enterprise tech, at a CAGR of 62% and 38%, respectively, during the same period.
While the numbers look good following a cursory glance, there are many challenges that are eclipsing the potential of family offices to invest in Indian startups directly. These challenges range from finding, attracting and retaining top industry talent to costs and long timelines associated with direct startup investments.
“The first and foremost challenge is that most investment professionals at family offices switch jobs every two years and that’s not how family offices are supposed to work,” said Anirudh A. Damani, director, Artha India Ventures (AIV) and managing partner, Artha Venture Fund.
Founded in 2012 and headquartered in Mumbai, Artha India Ventures is a single family office. The brand represents the family office of Ashok Kumar Damani.
AIV generates liquidity through investments in high-yielding renewable energy and operational quasi-fixed income assets. It generates almost 2.5 Mn renewable energy units per annum via Artha Groups’ green arm — Artha Energy Resources. The operational cashflows from this arm are invested in startup opportunities across the globe.
The family office has so far backed 80-plus startups directly across India, the US, Africa, Israel and the UK. It also has investments in more than 70 prominent startups, including OYO, Purplle, Tala, and Coutloot.
So, Why Is Retaining Talent A Challenge For Family Offices
There are several key reasons why family offices struggle to retain talent, and one of the primary factors is the prevailing culture within the ecosystem.
According to Damani, many investment professionals join family offices with the intention of gaining valuable experience. Family offices provide exposure to a wide range of investment vehicles across various asset classes, allowing individuals to delve deep into the investing ecosystem and enhance their knowledge.
However, unlike venture capital (VC) funds, family offices primarily focus on managing personal wealth, either for their own families (single-family office) or for multiple families (multi-family offices). Consequently, the team size within family offices tends to be lean, especially in the case of single-family offices.
Furthermore, due to the personal nature of managing family wealth, there is often the trust factor that needs to be established, and it can take a significant amount of time for families to disclose their financial worth or objectives fully.
Damani emphasises that building trust requires long-term relationships spanning five to 20 years in order for family offices to function effectively. Unfortunately, by the time this trust starts developing, individuals start looking for greener pastures, making it difficult for family offices to retain talented professionals.
From a professional’s perspective, it is, however, justified to switch from family offices to larger organisations. This is because while family offices may offer valuable learning experiences, they often struggle to match the competitive remuneration offered by larger multi-family offices or wealth advisory firms. This discrepancy in compensation makes it more appealing for professionals to seek opportunities elsewhere, leading to talent turnover within family offices.
Rising Expenses And Cost Of Investments Is Yet Another Struggle
First, the family offices primarily run with the objective of wealth preservation rather than wealth creation. Most families set up a family office either from the wealth earned after selling off their business or the wealth passed on from their ancestors or predecessors.
Therefore, for many, this wealth is a fixed asset which they need to preserve for future requirements and need to make cautious bets when it comes to investments and day-to-day expenses.
This limits them to thinking of big team sizes and exorbitant salary packages.
Next, startup investment is a long-term game; exit cycles could take at least five to seven years. Further, their fund allocation is limited, and to gain a seat at the cap table, they may be asked to write big cheques.
“If family offices were able to get a 2%-3% equity for INR 50 Lakh a decade ago, they today may have to write a bigger cheque for a similar equity,” Damani said
According to Damani, expenses for family offices come to almost 1% of the corpus allocated for startup investments. These include daily operating expenses, cost of outsourcing legal and financial services, due diligence for each deal, advisory fees among others.
Plus, unlike VC funds, family offices do not have the opportunity to accrue carried interest (carry), which is a portion of future profits from an investment. This is paid to general partners or fund managers in a venture capital firm, but a family office usually does not have such a carry structure.
Too Early To Talk About The Cap Table?
According to Damani, India’s startup landscape is changing at a fast pace. When the family offices are going into direct startup deals with the intention of having a seat at the cap table, they need to have a professional team proficient in establishing terms, conducting due diligence, and excelling in negotiations for follow-on funding rounds.
“To maintain this is expensive. In order to offset costs, family offices start looking to invest via the angel or VC route and keep a small team to utilise their experiences and apply their learning differently,” Damani said.
Damani is not the only one to have such views. In the last two weeks, Inc42 spoke with a number of other family offices, and most of them have reflected similar sentiments.
Given the challenges, many family offices may be too early to embark on the direct startup investing journey. However, the winds of change have begun to blow. Damani and others are optimistic that family offices will be better equipped to engage in direct deals once they develop a deeper understanding of the ecosystem.
