«BI Norwegian School of Management Hand-in date: 01.09.2011 Thesis supervisor: Øyvind Bøhren Program: Master of Science in Business and Economics ...»
Do family ﬁrms grow diﬀerently than
GRA 1900 Thesis
BI Norwegian School of Management
Hand-in date: 01.09.2011
Thesis supervisor: Øyvind Bøhren
Program: Master of Science in Business and Economics
Torbjørn Magnussen and Martin Bie Sundelius
This thesis is a part of the MSc programme at BI Norwegian School of
Management. The school takes no responsibility for the methods used,
results found and conclusions drawn.
This thesis seeks to explain family ﬁrm growth in a corporate governance context, and provide statistics on how family ﬁrms grow in Norway. We set up a simple panel data model based on contemporary knowledge, and ﬁnd that family ownership has something to say on growth. We ﬁnd that unlisted family ﬁrms show lesser growth than non-family ﬁrms. Even after we consider for ﬁnancial stress and other known factors inﬂuencing growth, the eﬀect still persist.
Acknowledgment We would like to thank our supervisor Øyvind Bøhren for his guidance and feedback along the way.
Contents 1 Introduction............................. 5 2 Literature review.......................... 5
2.1 Family ﬁrms............................. 6
2.2 Growth............................... 7
2.3 Agency theories........................... 8 Agency Problem 1 (A1).................. 8 Agency Problem 2 (A2).................. 8 Agency Problem 3 (A3).................. 9
2.4 Diversiﬁcation loss......................... 9
2.5 Short-termism........................... 10
2.6 Control variables.......................... 10 Industry........................... 10 Firm size.......................... 10 Age............................. 11 Financial constraints.................... 11 Financial performance................... 11 Separation
1 Introduction The recent ﬁnancial crisis has shown us how important growth is, and that the consequence of weak growth can be social unrest and political instability.
In this context we know that the economy in our part of the world is very dominated by family ownership (Morck, Wolfenzon, and Yeung, 2005). Since these families might have diﬀerent attitude towards investment projects, it will be very interesting to see if this corporate governance issue of aligned interest will result in diﬀerent growth rates. Because there is a diﬀerence and corporate governance will matter for the economy. Also, in the real economy, family owners would clearly beneﬁt on both the cost and on controlling their ﬁrms by their own, rather than hiring professional managers. Although aligned interest of ownership and management is beneﬁcial for the owner, it might not be beneﬁcial for overall economical growth, because the family ﬁrms might have conﬂicting incentives and preferences. We will contribute with using a huge and very detailed Norwegian dataset, and exploratively investigate whether a theoretical corporate governance framework could explain some of the diﬀerent growth rates that exist between family and non-family ﬁrms. Our
research question is:
In what way does family ownership inﬂuence the growth of a com- pany?
Speciﬁcally, we are analyzing in what direction does family ownership contribute to the growth of the ﬁrm. Our research question signals that we believe that there are certain inﬂuencing factors arising from a family ownership.
The research question should be read in the context of the growing corporate governance literature, particularly the stream related to family ownership. Indirectly, we also examine if families invest diﬀerently, although we are unable to provide much empirical insight to the same. This thesis questions whether family ownership creates a better growth-conditions than those created by a non-family ﬁrm.
This paper is structured as follows: It starts with a review of existing literature, theory and empiric followed by our research and ﬁnally our methodology is presented.
2 Literature review
The corporate governance literature on family control is divided into what can be coined the competitive advantage and the private beneﬁts of control (Villalonga and Amit, 2010). The ﬁrst category of papers seeks to explain that there is a competitive advantage with family control, i.e., the structure 2 Literature review 6 of ownership and control is optimal and provide better alignment of interests among the most important stakeholders in the ﬁrm. The second category explains why family ownership is beneﬁcial for the family only, while it is nonbeneﬁcial for minority owners. Fortunately, some of the literature is supported by quantitative empirical investigations, and we will refer to some of these results during the course of this paper. It is important to mention that it is only recently that corporate governance from a quantitative ﬁnancial perspective has gained momentum in terms of published articles. We review literature with the objective of giving a theoretical foundation for our model, based on theories on ﬁrm growth, ﬁnancial theories and theoretical propositions taken from the corporate governance area.
2.1 Family ﬁrms Agency problems and growth are two subjects that have considerable attention, particularly on the aggregate (macro) level. The subject is studied from a range of perspectives, and much of the research have been qualitative, for instance in strategy and organizational disciplines. Still, an increasing amount of literature is being conducted in a quantitative manner due to the increasing availability of data. Little research has been done on the relationship between family ownership and growth in unlisted companies. The aim of this thesis is to investigate how family ownership aﬀects the growth rate of family ﬁrms.
An outcome of our research will be increased clarity on how family ﬁrms grow, and how this growth diﬀers from non-family private ﬁrms.
Generally, non-listed ﬁrms owned by large families dominate the economy Morck, Wolfenzon, and Yeung (2005). Furthermore, a signiﬁcant part of the corporate governance literature concerning family ﬁrms has been conducted on listed ﬁrms. One explanation is the scarce availability of reliable data material and the fact that most research is done on the Anglo-Saxon countries that are known to have a large part of their companies listed.
The literature does not provide us with a clear deﬁnition of a family ﬁrm.
Several empirical studies use diﬀerent thresholds on ownership concentration as a proxy for control of the ﬁrm. There has been several diﬀerent thresholds levels which creates a dummy variable in the corporate governance literature.
The most common threshold is the 20% threshold. In contrast, the literature uses ownership concentration and low thresholds, often in the 10-20% region on listed ﬁrms. The low threshold is often explained by small owners not attending board meetings and in that way a large investor could control a ﬁrm with a smaller fraction of ownership.
Investing in unlisted family businesses is something that the most successful and wealthy investors do. For instance, Warren Buﬀet, the third richest man 2 Literature review 7 in the world looks for family businesses when he is searching for new ﬁrms in Europe1. He has successfully pursued a strategy of acquiring family ﬁrms and let the family still be in-charge of the ﬁrms (in which many have been unlisted beforehand). Since the one of the worlds best investors ﬁnd special value in family ﬁrms, it it interesting to get more insight into the mechanics and incentives of family ﬁrms.
Summarizing, family ﬁrms are special because they are governed diﬀerently and have a diﬀerent investment behavior. Understanding family ﬁrms can be valuable for an investor. Next subsection will mention some growth insights and how they are related to family ﬁrms.
2.2 Growth Coad and Holzll (2010) ﬁnd that growth rate are hard to predict, and that it is better modeled as a random process, because there is very little persistence in the growth rate. Growth levels are not clustered in certain sectors, nor are the high growth ﬁrms young or small. Another insight they provide us with is that growth distribution is heavily tailed, in which the tail provides the growth of the economy, and where the average ﬁrms create very moderate growth levels.
Also, many managers are very concerned about growing their ﬁrms. Growth is associated with more prestige for some managers. Still, for some families, growth might be a result of more risk-taking.
Few studies of family ﬁrms have been done with growth as a dependent variable. On the contrary, performance is often the object of measure for empirical studies. Still, growth is indirectly used in studies as a control variable. Lately empirics have shown that listed family ﬁrms increased their sales on an average by 2% more than that of non-family listed ﬁrms from 2006-2009 (Villalonga and Amit, 2010). Another study with 1000 listed French ﬁrms in the period from 1994-2000 revealed a sales growth rate of 16% for family ﬁrms that were run by the founders, and 7% for both descendant managed and widely held non-family ﬁrms (Sraer and Thesmar, 2007). Thus they argued that family ﬁrms signiﬁcantly outperformed comparable non-family ﬁrms. Their deﬁnition of a family ﬁrm required one family to own a voting block of at least 20%.
Firms beneﬁt with economies of scale, for example, by serving larger markets and minimizing ﬁxed cost as a part of the total cost picture. Growing ﬁrms attract more qualiﬁed employees due to better expected career opportunities, and the growth is often more sustainable than performance on proﬁtability (Coad, 2009). Growth is a critical factor in the investors’ process of valuing ﬁrms (Koller, Goedhart, Wessels, Copeland, McKinsey, and Company, 2005).
http://www.bloomberg.com/apps/news?pid=newsarchive&sid=aIz3cvRYvHW0 Retrieved 08/26/11 2 Literature review 8 To achieve growth a ﬁrm needs to have the capital to invest and the growth opportunities. To detect the growth opportunities the ﬁrm needs the knowledge to detect them. They also need the power to act upon them before they disappear.
Hamelin (2009) studied the ﬁrm growth of French non-listed SMEs. We categorize this as a study on the micro level since the sample consisted of accounting statements from many individual ﬁrms. Her result was that family ﬁrms grow slower than non-family ﬁrms. Hence we adopt the following
HA1 : Family ﬁrms grow slower than non-family ﬁrms.
To sum up, growth is hard to predict. Furthermore, unlisted ﬁrms have different growth percentages than those that are listed ﬁrms. Still, growth is important for the ﬁrm, investors and the economy. In addition, SME family ﬁrm grows slower than non-family ﬁrms in France. We adapt Hamelin (2009) as our base case and follow her methodology in our model.
2.3 Agency theories Agency Problem 1 (A1) In one of the most cited articles about corporate governance Jensen and Meckling (1976) incorporated agency theories into a ﬁnancial setting. They identiﬁed and modeled agency conﬂicts between owner (principal) and management (agent), which they labeled A1. The theory argues that there is less reason to monitor this conﬂict in an owner managed ﬁrm than it is in a family ﬁrm because of the aligned interests with respect to growth opportunities and risk preferences.
Agency Problem 2 (A2) A2 is between the majority owner who controls the ﬁrm, and the minority owners, who might be exploited. Speciﬁcally for family ﬁrms, there have been a series of debates on exploitation of private beneﬁts of control (Grossman and Hart, 1980).Here, the incumbent owning management exploit the minority shareholders through extracting beneﬁts. The cost can be allocated either from the management to the shareholders, or from large shareholders to minority shareholders. It is appropriate to restrict the problem to exploitation of minority shareholders (A2), because the managementshareholders problem (A1) is not relevant for a family ﬁrm by deﬁnition. In a series of seminal articles, Porta, Lopez-De-Silanes, and Shleifer (1999) found evidence of pyramid structures, and a split of controlling and owning shareholder classes, both with the suspected intention of taking advantage of the private beneﬁts. This is a cost for both the minority shareholders, and the society, which might result in a growth that is not optimal compared with the ﬁrm’s growth potential.
2 Literature review 9 Unlisted ﬁrms generally have higher ownership concentration. A1 is less likely to be a severe problem for the total population of unlisted ﬁrms. On the other hand, A2 is a signiﬁcant problem because dominant owners want to exploit the minority owners.
Agency Problem 3 (A3) A3 is the possible conﬂict between shareholders and creditors. Because the family ﬁrm have less incentive for transparency, we expect A3 to be higher. As a consequence banks will be more reluctant to give loans, causing ﬁnancial constraints and hence underinvestment. A3 might also reduce the willingness to take risky project and thus give a lower growth rate. On the other hand Myers (1977) has shown that with leverage being too high the ﬁrm underinvests because of to much debt. Less capital makes the ﬁrm prioritize between positive NPV projects. Family ﬁrms are reserved from issuing stocks because they do not want to dilute their ownership. This could make the family ﬁrms more capital constrained than other private ﬁrms. The argument that ﬁrms with a high debt are more eager to grow is working in a diﬀerent direction than the capital constraint argument. Family ﬁrms are more willing to lever up because of the high beneﬁt of increasing the sales.