Three pillars that hold family wealth

Whereas, the world has undergone an epochal shift from an industrial age to that of information, the formula to wealth creation and retention is yet to be discovered.

However, successful wealth creation and retention can be premised on three inextricable parameters, namely sound intellectual framework, control of emotions and access to resources, information and opportunities.

Generational wealth refers to the assets passed down from one group to the next. These assets come in various forms, including family-owned businesses, real estate, investments or capital.

For family wealth to successfully pass to the next generation, it takes a combination of the above three traits. Individuals who inherit generational wealth access resources and have a significant financial advantage over those who do not.

The access to inheritance attribute provides these individuals with much needed capital for wealth creation. However, access to capital alone, without a sound intellectual framework, and controlled emotions has led to squandering the inherited wealth by the second or third generation.

A study by Williams Group, a family wealth consultancy in the US, reveals that 70 percent of wealthy families lose their wealth by the second generation, and 90 percent by their third. This can be attributed to situations where families lose control of the assets to unscrupulous trustees as a result of estate transfer sabotage.

Again, poor foundation where heirs neither understand the framework that supports the family business nor actively contribute to generating the said wealth is a challenge.

Mistrust is also a major contributor. Further, a poorly drafted will in the case of testate succession, and intestate succession where there is none, leads to lengthy court battles.

This underscores the fact that in three generations, substantial family wealth can be lost through mistakes and oversight.

A sound intellectual framework refers to the concept that anchors wealth creation and retention.

According to billionaire and philanthropist Michael Lee-Chin, the founder and CEO of Portland Investment Counsel, for wealth to be created by the first generation and passed to the second and third, a business owner must follow a well-tested wealth creation framework by satisfying the following five parameters.

First, the owner must own one or a few high-quality businesses. Second, they must fully understand the businesses.

Third, the businesses must be domiciled in strong, long-term growth industries. Fourth, the owner must use other people’s money or borrowed money prudently.

Lastly, their attitude towards the businesses must be long-term and intergenerational.

For corporate investors, wealth can be created when the following conditions are satisfied.

There must be market discrepancies between perception and reality since where there is sufficient industry knowledge there will be no problem, hence no investor or business opportunity.

Secondly, there must system inefficiencies, and, lastly, a lack of capital since capital abundance drives up valuations and pushes down investor margins and increases business risk.

Control of emotions ought to be an inherent quality for successful business owner or investor.

Money can be emotive, and can lead to making terrible financial decisions when emotions get involved.

The ability to manage emotional impulses, especially when investors are buying or selling stocks helps one to avoid poor decisions through fear and greed.

Investors who calmly remain on board through short periods of market volatility or asset illiquidity eventually reap big in the long run through capital gains in the case of stocks, property appreciation and illiquidity premium for real estate and private equity.

Business owners should take rational and realistic approaches when taking a position.

Both investors and business owners must understand and not underestimate risks in their ventures. Research reveals that underestimating risk is often what leads to sub-optimal decision making based on emotions.

ACCESS KEY

Theory postulates that the higher the risk, the higher the reward. However, both investors and business owners must understand the risk-return trade-offs in investments they intend to undertake.

For wealth to be created, retained and passed on to the next generation, access is key.

Access defines availability of capital or resources, knowledge or information and exposure to industry experts, business or investment opportunities.

The common way to access capital is through borrowing or inheritance. Access to investment or business information can be through provision of right knowledge material, professional training, social circles, business or investment experience or even mentorship.

It is possible to monetise one’s knowledge.

RARE OPPORTUNITIES

Access to opportunity might vary from person to person, depending on an individual exposure to various market dynamics.

More often, the rare wealth creation opportunities reveal themselves during crises and economic downturn events such as recessions and depressions.

During these periods, markets are vulnerable, stocks feel the bear market squeeze, meaning it is the best time to buy, capital is insufficient in the market since incomes are low while interest rates hit an all-time low and the property market hits a snag.

A crisis gives access. Never let a crisis go to waste, instead, get a framework, manage emotions and create wealth.