Monday, April 20, 2015

Thinking about family firms

The Economist has a really nice special report on family firms in the April 18th issue. I think this is a fascinating topic. I don't know the literature on this well, but I'd like to. Here's a literature survey from a recent working paper by Mullins and Schoar:

These studies document that family firms, on average, tend to be smaller than non-family firms, have lower performance, weaker governance structures, and are often concentrated in older, more regulated industries (e.g. Morck, Strangeland, and Yeung, 2000, and Claessens et al., 2000, 2002; Faccio and Lang, 2002; Anderson and Reeb, 2003; Bertrand and Schoar, 2006). Attention has also focused on the importance to firm outcomes of the CEO position (e.g. Bennedsen et al., 2010, 2012) and on the individual characteristics and styles of CEOs (e.g. Bertrand and Schoar, 2003; Malmendier and Tate, 2008; Schoar and Zuo, 2011).

Mueller and Philippon argue that "family firms are particularly effective at coping with difficult labor relations" because they can provide a more credible implicit contract; it would be interesting to study job flows specifically at family vs. non-family, controlling for size and age. In any case, I'm already obsessed with the fact that private firms are different from public firms; these data on family firms give me another thing to obsess over.

Recent literature also finds that transfer of control from founders to heirs can be hard on a firm, though transferring control to professional CEOs is less costly. The tricky problem, of course, is that selection effects might mean that founding CEOs are high ability, but there is less reason to assume that their heirs will be. From The Economist:

The biggest problem for family companies is the distinct possibility that the children or grandchildren of business founders may not match the founder for either brains or character. Warren Buffett, a veteran investor, once compared family succession to “choosing the 2020 Olympic team by picking the eldest sons of the gold-medal winners in the 2000 Olympics”. A family grandee says that the biggest barrier to keeping the family show on the road is the “growing sloth of family members”. And CEOs who bear the family name are far more difficult to sack than hired hands, even if they turn out to be useless. 

Why do I find this interesting? I think a lot about young firms and entrepreneurs generally, and how they matter for macroeconomics. One way to model questions in entrepreneurship is to follow Quadrini (2000) and separate the entrepreneurial sector from the "corporate" sector (where entrepreneurs are special in that they are linked to households); this is a nice modeling approach that I use in my research. But firms that start out as entrepreneurs or family affairs don't always stay that way forever, and there may be interesting things going on during the transition to more "mature" ways of doing business.

When thinking about the macroeconomic role of family firms it's important to get the weights right. From a macro perspective, simply looking at what percent of firms are family firms will give us an exaggerated sense of how much they matter (remember: most firms are small, but most people work at large firms). Says The Economist, "Family businesses make up more than 90% of the world’s companies. Many of them are small corner shops." I think you could replace "many" with "nearly all".

What I would really like to see are figures on the share of employment or revenue accounted for by family firms. The Economist doesn't give us that, but they do cite a BCG study finding that family firms account for 33 percent of U.S. firms with revenue over $1 billion. That's a lot--more than I would have expected! It's not just Cargill and Koch. Some of these firms are publicly traded; many of them are not--a reminder that a lot of activity does not show up in SEC filings.

More broadly, this stuff about family firms is a reminder that management matters.

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