Recently, in the Law, Economics, and Organization Seminar here at the Law School, I presented my paper, co-authored with Raphael Amit, entitled Family Control of Firms and Industries. In our study, we use the variation in the prevalence of family control within and across industries in the United States to test the two broad explanations for family control, which we refer to as “competitive advantage” and “private benefits of control”, and to identify which characteristics distinguish family controlled firms and industries from their non-family counterparts.
We construct two different tests of the two broad explanations. First, we analyze the relative sensitivity of family and non-family firms to industry profit shocks. We allow for firms’ responses to be asymmetric across positive and negative shocks. A lower sensitivity of family control to positive shocks would be consistent with a tunneling (i.e., private benefits appropriation) explanation. On the other hand, a lower sensitivity to negative shocks would be consistent with a “propping” explanation, suggesting that families do not always act in their own self-interest but instead, and seek to maximize value for the firm as a whole as implied by the competitive advantage explanation. As a second test, we estimate a propensity-score matching model of the effect of family control on the family premium, defined as the excess value of family firms relative to non-family firms in each industry. We use this model to test whether family firms dominate where they are valued the most (as a competitive advantage explanation would suggest) or the least (as a private benefits explanation would suggest).
We find that, just like in the cable and newspaper industries, the combination of competitive advantage and private benefits explanations to family control is the norm across our sample. We then analyze which factors, specifically, are driving our results. Consistent with the competitive advantage hypothesis, firms and industries are more likely to remain under family control when their efficient scale and capital intensity are smaller (the value-maximizing size argument), when the environment is more noisy (the control potential argument), and when the difference between long and short-term profitability is larger (the investment horizon argument). Consistent with the private benefits of control hypothesis, families are more likely to stay in control when there is dual-class stock in their firms. Overall, our findings suggest that family control results in net value creation for all of the firm’s shareholders, and not in a sheer transfer of value from outside investors to the founding family.
The full paper is available for download here.