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Sharing the Pie: Long-term Incentive Plans at Family Offices

Sharing the Pie: Long-term Incentive Plans at Family Offices

When all is said and done, everyone wants to build wealth 💵

Family offices want to build wealth

Family office employees want to build wealth

The good news is that these intentions can go hand in hand

There are two fundamental trends in the world of family offices

1)      An explosion in the number of family offices

2)      A shift in priorities from capital preservation toward growth

These trends bring into focus important questions:

> How to attract the best talent

> And how to retain that talent

🛠️ One of the key tools being used by family offices are Long-term employee incentive plans (LTIPs)

“A Long Term Incentive Plan (LTIP) is an executive compensation structure that rewards employees for reaching a milestone of employment. These plans usually have other conditions and metrics attached.”

LTIPs are used to align the interests of the family office with those of its employees

The goals of LTIPS are clear:

  • build loyalty

  • drive performance

  • grow the family wealth

  • grow the employees' wealth

LTIPs range from equity stakes and profit sharing to tailored bonus schemes

LTIPs help family offices make employees key stakeholders in their future

Deal breaker 

For C-level executives in family offices, LTIPs should be a deal-breaker. LTIPs help you take skin in the game 

It usually follows: with ownership comes wealth

LTIPs should be a win-win for the family office and employees. They are set up to make sure employees are getting a real stake in the success they are helping to create

This could mean getting a share of the profits, a slice of the investment pie, or bonuses tied to investment performance. It's about tying the rewards directly to the goals and success of the family office

LTIPs in Action

Family offices vary considerably, and so do their incentive schemes

It’s important to note that most family offices do not offer LTIPs

A recent survey found that just 34% of US family offices offered LTIPs (and the US leads the world)

(Agreus/KPMG 2023 Family Office Survey)

But where LTIPs are used, family offices can be very creative in tailoring them to fit their goals

The key themes in LTIPs:

A Cut of the Profits

Equity Upside

Investment Returns

Performance Bonuses

LTIPs in action 🎬

Carried Interest

Carried interest is the most common LTIP in US family offices. It is a form of performance-based compensation given to managers or employees who oversee the family's investments. It represents a percentage of the profits generated from investments. Carried interest is awarded if investments perform above a certain threshold

This arrangement incentivizes employees to maximize investment returns, aligning their interests with the family's goal of wealth growth, without requiring them to contribute their own capital to the investments

Carried interest serves as a performance incentive for the management team at family offices, aligning their interests with the success of the investments

Carried interest is common in private equity and venture capital investments (where significant gains can be realized upon successful exits of portfolio companies) but it is growing in importance in family offices

Matched Investment

Matched investment programs are designed to encourage employees to invest their own money in projects or funds managed by the family office, with the promise that their investment will be matched by the office up to a certain limit

This creates a powerful incentive for employees to seek out and support high-potential investments, knowing that their personal financial commitment will be boosted by the family office

These programs deepen the alignment of interests between the family office and its employees, ensuring that both parties are invested in the success of the ventures. It also encourages a culture of ownership and entrepreneurial thinking within the family office

Co-Investing Opportunities

Co-investing opportunities offer a way for employees of family offices to directly participate in specific investments alongside the family's capital. This approach helps build a deeper alignment of interests, as both the family and its employees have tangible stakes in the success of the investments

Co-investing can also enable employees to benefit from the family office's access to high-quality deals and investment expertise, often at lower entry costs and with favorable terms. It's an effective way to engage and reward employees, allowing them to grow their personal investment portfolios while contributing to the collective success of the family's investments

Family offices and employees should carefully consider and plan for what happens to co-investments if the employee leaves the family office

Stock Options

By granting stock options, family offices give their employees the right to purchase shares of the investment vehicle or (more often) the underlying portfolio companies at a set price after a certain period or upon meeting specific criteria

This approach not only ties the employees' financial fortunes to the success of the family's investments but also serves as a retention tool by incentivizing employees to remain with the office to capitalize on the potential appreciation of the options. As the value of the investments increases, so does the value of the stock options

Employee Loans

Some family offices offer forgivable loans to provide immediate financial benefits to key employees with the potential for these loans to be forgiven over time, based on continued employment or the achievement of specific performance benchmarks

This mechanism can effectively tie an employee's financial interest to the long-term success of the family office or its specific investments. Forgivable loans are particularly useful for offering immediate cash incentives without immediate equity relinquishment, providing a strong incentive for employees to remain with the family office and contribute to its success over the long term

Family offices may also offer employees favorable loans that can be paid off with bonuses in later years

Phantom Shares

Phantom shares, also known as shadow stock or synthetic equity, are a form of long-term incentive that provides employees with the benefits of stock ownership without actual shares being transferred. Instead, employees receive a unit or credit that mirrors the performance of the company’s stock or the value of the company, and they can be cashed out at a future date, typically tied to certain conditions such as tenure or performance goals

The initial agreement sets the terms, such as the percentage of value or number of units/shares the phantom equity represents. This could also impact the ratio of ownership

Phantom shares are particularly interesting for family offices who may not want to dilute the family equity in the primary investment vehicle but do want to closely align employee incentives with the underlying performance of the family office

Practical examples

The Agreus Group has listed some practical examples of LTIPs in family offices:

➡️ Percentage of Net Profits based on project execution

➡️ 1% of the upside on private equity business

➡️ % of investment, each investment with an appropriate %, generally between 0.3 and 1%

➡️ % of performance return, once 6% cash flow return is made

➡️ 10% of performance

➡️ $14k per 1% outperformance versus a composite benchmark for the entire portfolio

➡️ % of the value created

➡️ 10% profits earned on portfolio ... based on excess return over benchmark

➡️ % of performance over the hurdle of 6%

A long way to go

LTIPs are changing the game for employees in family offices

When LTIPs are used, employees are not just working for someone else's wealth; they are building their own wealth and equity through the success they help create

LTIPs mean that employees are not just investing time and skills, they are investing in their future too 

So, whether you're already in the family office world or thinking about jumping in, take a closer look at LTIPs. They could be your path to not just growing wealth but owning a piece of it

With a minority of global family offices offering LTIPs, there is a mismatch in the incentive schemes offered by family offices and their generally stated aim to focus on long-term wealth accumulation and protection

I share numerous co-investments with the family office I represent. It undoubtedly means I focus on the long-term, it has bound the family and me together

It means I am highly invested in our investments!

From a family office perspective, as long as you embed LTIPs with clear and correlating key performance indicators, you can use this reward structure to engage your staff, align your interests and incentivize them to stay within your Family Office for as long as they can

LTIPs help ensure that everyone is striving to reach the same goal

And this supports the very survival of Family Offices

𝕏 highlights

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📚 what to read

My favorite book of 2024 so far. Think British Liar’s Poker.. I tweeted about it:

📺 what to watch

Money Can Buy Happiness by Michael Norton

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📰 family offices news roundup

And finally…

A request: I would like to include some more family office profiles

These can be suitably anonymized or not - your call

If you are interested, let me know and I will send a short questionnaire

With that, it’s off for some Easter holiday planning for me 🥚🐰🐣🐥🍫

Have a good one!

Until next time, see you on 𝕏

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