Family Offices Embrace Equity Incentives to Attract Top Talent
Family offices, the private investment arms of wealthy families, are increasingly offering lucrative equity shares and profit-sharing to attract and retain top talent in a highly competitive hiring market. As these offices grow in size and number, they are finding themselves in direct competition with private equity firms, venture funds, and other financial institutions for skilled professionals. To stand out, they are turning to more creative compensation structures that go beyond traditional salary and bonus packages.
Key Takeaways:
- A War for Talent: Family offices are facing a fierce battle for talent, competing with established financial institutions that offer competitive salaries and benefits.
- Equity and Profit-Sharing: To entice top candidates, many family offices are now offering equity stakes and profit-sharing arrangements that give employees a tangible stake in the success of their investments.
- Aligning Incentives: These changes are also motivated by a desire to align the incentives of employees with those of the families they serve, fostering a shared sense of ownership and responsibility.
- Beyond Traditional Compensation: Family offices are embracing alternative compensation models, moving beyond the traditional salary and bonus structure to create more attractive and rewarding work environments.
The Changing Landscape of Family Office Compensation
Patrick McCurry, a partner at the law firm McDermott Will & Emery LLP, who specializes in working with single-family offices, highlights the evolving landscape of compensation. He observes: "There is a war for talent, and family offices are competing for talent against each other, and against traditional private equity, hedge funds and venture capital."
Common Equity and Profit-Sharing Models
McCurry identifies three primary ways family offices are incorporating equity and deal-related compensation into their employee packages:
1. Profits Interest:
- Description: This model grants employees a share of the profits generated from specific deals, or a basket of deals. For example, if the family office acquires a company for $10 million and sells it for $15 million, the employee may receive a percentage of the $5 million profit. This share typically applies to profits above a predetermined target.
- Tax Advantages: Profits interest payments are often taxed at the long-term capital gains rate, allowing employees to potentially save on taxes compared to ordinary income rates.
2. Co-Investments:
- Description: This model allows employees, or groups of employees, to invest their own capital alongside the family office in specific deals. Frequently, the family office will provide leverage through loans to employees, allowing them to invest a larger sum.
- Risk and Reward: This structure exposes employees to potential downside risk, as they could lose their investment if the deal fails. However, it also provides the opportunity for significant returns if the deal is successful.
- Aligning Incentives: Co-investments encourage employees to make strategic, well-informed investment decisions that align with the family’s long-term goals.
3. Phantom Equity:
- Description: This model creates notional shares of ownership in a basket of assets, a fund, or a company. While employees do not have actual ownership, they receive a share of the performance gains.
- Simplification: Phantom equity offers a simplified approach for family offices with complex structures, where it may be difficult to directly issue shares or co-investment opportunities.
- Tax Treatment: While phantom equity can be deferred tax-free similar to 401(k) plans, it is usually taxed at ordinary income rates when distributed.
Flexibility and Competition:
Family offices, unlike publicly traded companies, have greater flexibility in designing compensation structures. However, McCurry emphasizes the importance of becoming more competitive by offering more equitable opportunities.
"There is a crowd effect," he says. "The more family offices start offering it, the more employees expect it. You don’t want to be the outlier when everyone across the street is offering it."
Conclusion
The shift towards equity-based compensation in the family office space is a strategic response to the evolving demands of talent acquisition and retention. These changes highlight a growing desire to:
- Attract and retain top-tier talent.
- Align the goals of employees with those of the family’s investment strategies.
- Foster a culture of shared ownership and responsibility.
As the family office sector continues to grow, these trend toward equity and profit-sharing arrangements is likely to solidify, further blurring the lines between family offices and traditional financial institutions in their quest for top talent.
