The Governance of Family Firms

Abstract

In the last decade, corporate governance research has documented that families control most publicly-traded firms around the world. This finding has triggered a considerable body of research that seeks to understand the governance of family firms and their impact on firm performance. This chapter critically examines this literature. The chapter highlights that the main governance issue facing family firms is balancing the benefits associated to having a controlling family with the challenges this structure imposes on minority shareholders. Common governance mechanisms are less likely to be effective whenever control and decision-rights are concentrated around a family. The chapter emphasizes the crucial role of family governance on the allocation of resources and reviews recent studies that seek to understand the impact of family characteristics on firm decisions and performance. The chapter also discusses some of the most important topics for future research. 1 Forthcoming, R. Anderson and K. Baker (Eds), Corporate Governance, (John Wiley & Sons) (forthcoming, 2010). 2 INTRODUCTION Corporate governance deals with collective action problems facing a firm’s alternative stakeholders. To address these conflicts, firms often rely on large shareholders, who combine substantial ownership and control rights to affect decisions. Around the world, the most common large shareholders are families (La Porta, Lopez-de-Silanes, and Shleifer, 1999; Morck, Stangeland, and Yeung, 2000; Claessens, Fan, and Lang, 2000; Faccio and Lang, 2002; Anderson and Reeb, 2003a; Villalonga and Amit, 2006). The prevalence of family firms has sparked a growing body of research that focuses on the governance of these firms. This chapter attempts to summarize the main issues in this literature and to highlight its future potential. The chapter emphasizes four main issues. First, family firms are a promising area of research. Family businesses play a prominent role in the allocation of resources that is still understudied by a literature that historically views such businesses as an anomaly. Family firms are widespread around the world and are also correlated with significantly more variation than other firms in measures of economic output. The literature does not currently provide a comprehensive understanding of the governance mechanisms that drive these extreme outcomes or that explain why family firms are the dominant form of organization in the world. Second, an important challenge in the advancement of this area of research is the lack of a clear definition of a family firm. Different researchers define family firms in various ways, but the definition used is crucial to (1) understand the many seemingly unrelated stylized facts documented in the literature, and (2) flesh out the specific governance challenges facing these firms. This chapter provides a narrow definition of family firms and then uses it to make an array of empirical predictions that distinguish family from other firms. Third, in terms of corporate governance, a major challenge has been to identify the distinguishing characteristics of family firms relative to other firms. Family businesses, like other corporations with ownership concentration, typically have a dominant shareholder. As a result,