Investing and allocating capital
How Should a Family Invest When Its Wealth Is Concentrated in One Business?
Short answer. Treat the operating business as a major portfolio exposure when setting the family's investment plan. Map its cash flow and liquidity, and assess its risks. Then consider how outside investments can reduce dependence on the same source of wealth. Keep reserves for family needs and business demands. Coordinate decisions with qualified advisers.
When much of a family's wealth sits in one business, the investment plan needs to account for that concentration before allocating other capital. The family's business may be a source of wealth and income, and it may shape family identity. It also exposes the family to the fortunes of one company or industry.
Map the Exposure and Cash Needs
Start with a clear picture of the family's balance sheet and the business's role in it. Consider how much of the family's net worth depends on the company, how much cash the business may need, and whether the family relies on distributions from it. Also identify upcoming family obligations and any likely liquidity events. A business interest may have substantial value on paper while remaining difficult to sell or borrow against.
Include the operating business in the family's overall risk review, even if it is not held inside the same investment entity as other assets. Review whether the business and outside portfolio depend on similar economic conditions. If the family's other investments are concentrated in the same industry or region, the apparent diversification may be limited.
Build a Plan for Capital Outside the Business
Decide what role outside assets should play. They may provide liquidity or income, and they may support diversification or long-term growth. The right mix depends on the family's goals and how much capital can remain invested for a long period. Avoid assuming that proceeds from a future sale will arrive on a particular schedule. Keep enough liquidity for family spending and business needs, and make contingency plans for delayed distributions or a change in business performance.
Families that retain an operating company can invest in other areas over time, but each allocation still needs its own rationale. An investment mandate can lay out the family's priorities and help distinguish business capital from investable wealth. See portfolio models and the guide to assets that are hard to sell.
Coordinate Family and Business Decisions
Set clear authority for decisions involving distributions and reinvestment. Define who can approve borrowing or outside investments. The family should know what information the investment committee needs. Keep a written record of the reasoning, especially when a family member is involved in both the operating business and investment decisions.
A sale is one way to reduce concentration, but it is not the only path. Families may retain a business while building other assets, or they may consider partial liquidity when appropriate. Each route has operational and legal implications, along with tax consequences. Talk with your attorney and CPA about the specific structure and consequences before acting. The investment plan should account for the company as it exists, the family's liquidity requirements, and the possibility that its value or cash flow may change.
Read next: How can a family reduce the risk of holding too much wealth in one asset?
It still owns textile operations worldwide.
Sources: The Family Office Book, The Single Family Office. Informational only, not financial, legal or tax advice.