Family Firms

Professor Gilles HILARY

NEXIA International Convention

Importance

Family firms are important:

•The proportion of registered family firms range from 75% in the UK to more than 95% in India, Latin America and the Far and Middle East.

•Families control over 53% of publicly-traded firms with at least $500M market cap in 27 countries.

Creation

Entrepreneurs:

•Have poorly diversified portfolios.

• Households investing in private businesses invest more than 70% of their holding in one company.

•Accept lower median life-time earnings than similarly skilled wage-earners.

• After 10 years in business, median entrepreneurial earnings are 35% less than the predicted alternative wage.

Creation

Entrepreneurs :

•are more optimistic

•are more risk-loving

•have longer planning horizons

•are more likely to be married and less likely to be divorced

•have a larger number of children

Performance

Do family firm over- or under- perform?

Not clear !

Contractual environment

Family firms do better when contracts are not reliable.

• Developing versus developed countries

•French family firms outperform non-family firms.

• Lower labor costs due to better job safety and to a more parsimonious use of capital.

•Natural ownership cycle in the UK.

• Less so in Continental Europe.

Monitoring v. Entrenchment

• The ownership concentration will affect the level of:

• Monitoring

• Managers will work less efficiently when they do not own the firm.

• Entrenchment and tunneling

• Dual-class-shares, excess board representation and voting agreements

• Death of founding CEO increases stock prices

Trade-offs

Monitoring

Costs

Total

Costs

Entrenchment

Costs

Trade-offs

These two effects affects the:

•Performance of the firm

• Optimal level may be around 35-40%

•Degree of insider trading

•Transparency of the firm

Fragility

• Economic risk: more defensive

• More cash, less debt, stronger working capital

• Lower sales volatility

• Less use of fixed capital

• Fewer bankruptcies

• More personal risk:

• Dissention

• Death in the family

Fragility

Death in the family:

•CEO deaths are strongly correlated with declines in firm operating profitability, asset growth and sales growth.

•Death of board members does not seem to affect firm prospects.

•CEOs immediate family deaths are negatively correlated to firm performance.

• This shows the strong link between the personal and business roles that top management play.

Promotion

One important issue is the career development of managers:

•Renault CEO Carlos Ghosn quit Michelin after it became clear a Michelin family member would supersede him to head the firm’s North American operations.

• He was with the firm for 18 years

• He later turned around Nissan

Succession

Another important issue is the transition from one generation to another:

•Firms where incoming CEOs are related to the departing CEO, to a founder, or to a large shareholder by either blood or marriage underperform in terms of operating profitability and market-to-book ratios, relative to firms that promote unrelated CEOs.

•This lower performance is prominent in firms that appoint family CEOs who did not attend “selective” universities.

Adoption

Adoption may be a way out:

•The practice of adopting adults, even if one has biological children, makes Japanese family firms unusually competitive.

• Inherited family firms are performing well – an unusual finding for a developed economy.

• Adopted heirs’ firms outperform blood heirs’ firms, and match or nearly match founder-run listed firms.

• Both adopted and blood heirs’ firms outperform non-family firms.

Adoption

Adult adoption:

•Removes incompetent heirs from management

•Motivates blood heirs to work harder

•Motivate star managers

Marriage

Family firms use marriage as a mechanism to establish long-term networks.

•For example, Thailand.

Marriage in Thailand

• Out of 200 marriages of the offspring of big business owners in Thailand during 1991-2006, more than two-thirds help connect the group to business or political networks.

• Network marriages are associated with an increase in stock prices.

• Particularly true when the business

• depends on state concessions

• operates in the property and construction industry

• is diversified

• relies heavily on debt

Conclusion

Family firms are:

•Economically important

•Different from non-family firms in many respects

•Heterogeneous in several dimensions

•Affected by family decisions