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The rise and fall of family firms in the process of development

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Abstract

This paper explores the causes and the consequences of the evolution of family firms in the growth process. The theory suggests that in early stages of development, valuable family specific human capital stimulated the productivity of family firms and the development process. However, in light of the rise in the importance of managerial talents for firms’ productivity in later stages, family firms generated a misallocation of managerial talents, curbing productivity and economic growth. Evidence supports the dual impact of family firms in the development process and the role of socio-cultural characteristics in observed variations in the productivity of family firms.

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Notes

  1. Moreover, the quality of management practices used by family firms is positively correlated with the level of income per capita, even after accounting for the (statistically insignificant) share of family firms in the economy.

  2. For a related view of management as an endogenous technology choice, see Bloom et al. (2016).

  3. A similar result is obtained in a different theoretical setting by Hémous and Olsen (2017), who consider the role of relational contracts and the negative (positive) effects that tight business relationships have on broad (specific) innovations.

  4. By making the one-child assumption, we consciously ignore the important and complex effects that the size and structure of the family have on business succession, management practices and performance. For example, the bigger the family, the wider the pool of potential successors and the greater the chance of leaving the business leadership to a talented heir. However, as family size increases, the “productivity” of family name, reputation and contacts for doing business increases too. Moreover, personal and professional conflicts between family members tend to increase with family size, causing problems of ownership transfer and management inefficiencies (Bertrand et al. 2008; Ellul et al. 2010).

  5. The possibility of hiring professional managers is considered in Sect. 3.2. Following Lucas (1978), physical capital can be introduced without affecting the qualitative results of the model by assuming a small open economy with perfect capital mobility and no financial frictions.

  6. Consistent with the managerial value of family specific human capital, companies managed by dynastically-promoted CEOs maintain more stable and effective labor relations with employees than non-family firms (Sraer and Thesmar 2007; Mueller and Philippon 2011), and dynastically-promoted CEOs are more likely among firms whose founder has been involved in politics (Xu et al. 2015).

  7. To illustrate, when Toyota Motor Corporation was hit by a series of scandals relating to the safety of its vehicles, the company soon announced that a member of the Toyoda family after more than fifteen years would return to the helm, relying on the Toyodas’ reputation and name more than on the specific entrepreneurial skills of the new leader (Bennedsen and Fan 2014, p. 32).

  8. In Appendix D we show that our results are robust to more general functional forms for managerial capital that also account for the possible complementarity between entrepreneurial and family specific human capital, as well as for the possibility that the family specific human capital contributes to enhance the entrepreneurial human capital of family members.

  9. The case \(\phi \ge 1\) is analyzed in Appendix B.

  10. This simplifying assumption undervalues the insurance effects of the family specific human capital and, if something, it goes against our theory. Actually, if parents had to choose the education and occupation of the children before knowing their talent, the time spent in absorbing the family specific human capital could be a sort of insurance policy that is more valuable as more risk-averse parents are.

  11. If we assume that entrepreneurship is more risky than wage employment and low quality entrepreneurs are more likely to go bankrupt, the role of family specific human capital could be weaker. However, the insurance nature of the family specific human capital, besides supporting income, can also limit the probability of going bankrupt. In this case, it is still more rewarding for the least talented heirs to continue the family business rather than work in the labor market.

  12. This excludes scale effects on the economy growth rate. Results are qualitatively robust if we assume that the growth rate depends on the total amount of entrepreneurial human capital (see Appendix C).

  13. When the productivity of the family specific human capital is extremely high, \(\phi \ge 1\), all family businesses use “crony” management practices, there is no firm entry and no social mobility, and the economy is stagnant at a zero growth rate (Appendix B).

  14. In Appendix E, we consider the case in which the licenses must be paid in advance by workers’ descendants, who can use monetary bequests left by parents and financial resources raised in the capital market. In this setting, as long as capital markets are complete, the initial distribution of parental wealth does not affect occupational choices and therefore the aggregate equilibrium, which are qualitatively the same as in the basic model when we abstract from capital markets. By contrast, under imperfect capital markets, the initial wealth of parent workers influences the decisions on the descendants’ careers. However, the introduction of this additional source of advantage for family firms simply exacerbates the misallocation of talents induced by the family specific human capital, leaving our results qualitatively unchanged.

  15. Given the static nature of the analysis, we drop the time indicator as long as it does not generate confusion.

  16. Alternatively, we could assume that the family specific human capital is in part linked to family ownership and in part to family management, and that the former can be transferred to professional managers. If we also assume that, due to organizational frictions, managing an enterprise as an external manager rather than as an owner reduces the productivity of entrepreneurial human capital, then the most talented workers’ descendants would have a stronger incentive to be employed as external managers rather than acquire a business license. However, the insurance effect of the family specific human capital for entrepreneurs’ descendants would remain unaltered, and the possibility of a polarization equilibrium as well.

  17. We thank the authors for sharing an extended version of their public datatset. For details on the survey and firm level variables, see Bloom et al. (2012) and Appendix F.1.

  18. The details on source and construction as well as summary statistics of the variables are in Appendix F, where we also show that our results are robust to the use of other cultural and institutional variables such as trust, ethnic and linguistic fractionalization and family structure, executive constraints, legal origins and the single components of Institutional quality and Barrier to entry index.

  19. Given that our main variable of interest varies at country level (i.e., Individualism), throughout we present estimates with robust standard errors clustered at country level. However, since the small number of clusters could bias the estimates, in unreported regressions available upon request, we checked that our results are robust to clustering at country\(\times \)industry level, with 1598 or 392 clusters depending on whether we use either the three or two-digits sector classification, or yet clustering at industry level only (with 153 three digits clusters).

  20. This is calculated as follows. The average value of Individualism is 59.8, while the least individualistic countries (China and Singapore) have an Individualism value of 20. The average management quality is 2.937 in the overall estimation sample and 2.797 for the least individualistic countries. Then, the overall effect of Family firm on the management quality gap changes from \((20 \times 0.003-0.907)/2.797=-0.302\) to \((59.8 \times 0.003-0.907)/2.937=-0.247\) for the average individualistic country.

  21. In particular, we check the robustness to human capital, trust, ethnic and linguistic fractionalization, family structure, executive constraints, legal origins and the single components of Institutional quality and Barrier to entry index. By contrast, when we exclude Individualism, coefficients for Freedom of choice, Family ties, Institutional quality and Barriers to entry gain statistical significance, with the expected impact on the management quality gap (Table F.8 in Appendix).

  22. We aggregate the data at the US SIC 1987 2-digit classification (20 sectors). In our sample, the number of country-industry cells is 290, due to missing sectors in some countries and family firms in some country-industry cells. The missing cells are mainly concentrated in the least individualistic countries, China and Singapore, and in three industrial sectors below the average level of R&D intensity, Tobacco (code 21), Petroleum & Coal products (code 29) and Leather and leather products (code 31).

  23. In this way, we assume that firms between the 40th and 60th percentiles of management quality distribution cannot be easily distinguished in badly and well managed ones. In Appendix, we show that results are robust to the adoption of 25th and 75th quality percentile thresholds (Tables F.18 and F.23) or even to the assumption that all firms can be classified as badly or well managed, using the median (Tables F.19 and F.24).

  24. In Appendix, we show the robustness of these results to different empirical specifications (Table F.20), to several country \(\times \) industry and country \(\times \)R&D intensity controls (Tables F.21–F.22) as well as to different measures of Family firm quality\(^z_{sc}\) computed using either the 25th–75th or the 50th (median) quality percentile thresholds (Tables F.23–F.24).

  25. We choose the 2005 as the year closest to the time span of the WMS. According to the YIT measure (Bentzen et al. 2013), indeed, the first available years of Industrial transition before the 2005 are the 1986 and the 1987, while in our estimation sample firms are all interviewed between 2006 and 2012.

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Acknowledgements

We are extremely grateful to Oded Galor (Editor-in-Chief) for the guidance and valuable comments that greatly improved this paper and to four anonymous referees for their suggestions. We warmly thank, for useful comments and suggestions, Francesco Drago, Stelios Michalopoulos, Holger Strulik and Fabrizio Zilibotti, as well as participants at the Conference on Intergenerational Transmission of Entrepreneurship, Occupations and Cultural Traits in the process of long-run economic growth (University of Naples Parthenope), Workshop on Economic Growth (OFCE-Nice), 2012 Annual Meeting of the Italian Economic Society (Matera), Workshop on Structural Change, Dynamics and Economic Growth (Livorno), NEUDC 2013 Conference (Harvard University), \(5^{th}\) Workshop on Equilibrium Analysis (University of Naples Federico II), 2014 Annual Conference of the Royal Economic Society (Manchester), 2014 Summer School in Economic Growth (Capri), 2014 Summer Workshop in Economic Growth (University of Warwick), 2015 Barcelona GSE Summer Forum (Barcelona), 2015 European Economic Association – Annual Meeting (Mannheim), 2017 13th CISEI (Capri), ASREC Europe 2017 (Bologna), and seminars held at Brown University, CSEF, Kobe University, Polytechnic University of Marche and University of Cagliari. Maria Rosaria Carillo and Vincenzo Lombardo gratefully acknowledge financial support from University of Naples Parthenope through the research funds programme “Bando di Ateneo per il sostegno alla partecipazione ai bandi di ricerca competitiva per il triennio 2016–2018”.

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  1. Dipartimento di Studi Aziendali ed Economici, Università degli Studi di Napoli Parthenope, Palazzo Pacanowski, Via Generale Parisi, 13, 80132, Naples, Italy

    Maria Rosaria Carillo & Vincenzo Lombardo

  2. Dipartimento di Scienze economiche e statistiche and CSEF, Università degli Studi di Napoli Federico II, Complesso Universitario di Monte Sant’Angelo, Via Cintia, 21, 80126, Naples, Italy

    Alberto Zazzaro

  3. MoFiR, Ancona, Italy

    Alberto Zazzaro

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  1. Maria Rosaria Carillo
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Correspondence to Vincenzo Lombardo.

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Carillo, M.R., Lombardo, V. & Zazzaro, A. The rise and fall of family firms in the process of development. J Econ Growth 24, 43–78 (2019). https://doi.org/10.1007/s10887-019-09163-5

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