ent 486 final exam

In most countries, the board of directors is responsible for the following tasks:

- Appoint, monitor and dismiss top management team members, including the CEO - Invoke the general assembly - Set dividend policy - Review the business strategy with the top management - Set strategic guidelines for management based on guidelines by owners

Complexity of Family Control

- Complexity of family control rises with the number of family owners and managers - With increasing numbers of family owners and managers, the need for coordination, communication and hence governance rises while the potential for conflict also grows - The addition of generations influences the owners' identification and attachment to the firm

Amount of Family Control

- Determines the degree to which the family is able to influence power and influence over strategic decisions - Depending on the type and degree of family control, family firms face different opportunities and threats

Business Setup

- Typically, an owning family defines itself as an entrepreneurial actor striving to nurture a business - Over time, the family shifts from a "family business" to a "business family" deriving identity from the development of the business - Later on, the business family may develop a significant portfolio of businesses through a family office

underlying governance problems

1. altruism-induced governance problem 2. owner holdup governance problems 3. majority-minority owner governance problems 4. family blockholder governance problems

ownership governance

1. execution of voting rights 2. stalemates 3. transfer of shares 4. dissolution of shareholder agreements

Why do family firms need governance?

1. motivation of family owners 2. functionality of traditional governance mechanisms in family firms 3. governance problems in family firms

the four wealth governance constellations

1. the uncoordinated family 2. embedded family office 3. single-family office 4. family trust/foundation

socioemotional wealth dimensions

1. transgenerational control 2. benevolent social ties 3. identity and reputation 4. emotions and affect

embedded family office

The family appoints a fiduciary form within the existing asset structure to manage its wealth - May ask the accountant, treasurer, or CFO of the family firm This approach is attractive to families with a trusted manager embedded within the family firm seeking a convenient and cost-efficient solution to wealth challenges An embedded fiduciary serves 2 masters; the family and the firm, which sometimes have diverging interests This embedded officer may emerge as an influential information and power broker

Dependence on Family

The firm may be exploited or mismanaged by incompetent or even unethical family owner-managers Relational conflicts between family members can be destructive Conflicts may impair a firm's ability to take important strategic decisions

What distinguishes family firms from other types of organizations?

The influence of the family on the firm The ways through which the family controls its firm

Majority-minority owner governance problems

The majority and minority owners may be in disagreement about goals, level of risk taking, and information access These problems are particularly severe if the family has excessive control over the firm (e.g., the family has super voting shares)

Family owners harming nonfamily managers

The nonfamily manager will always be at the mercy of the family owners Two-class organization Family firms will find it difficult to attract and retain highly skilled managers, and motivate their employees

Human Capital

Acquired knowledge, skills, and capabilities of employees Lack of talent within family and hard to retain nonfamily talent

Role Ambiguity

Actors in family firms often have to play multiple roles The multiple and often conflicting perspectives complicate decision making and communication Role overlap in family firms requires a tolerance for ambiguous situations that cannot be resolved by considering only one dimension of a problem Role ambiguity can result in confusion, frustration, and conflicts among actors

Altruism leads to:

Adverse selection based on family status over competence Makes it hard to sanction someone whom one loves (parents sanctioning children, and vice versa) Creates an incentive for the parties (children) to shirk and free ride given the expected benevolence and inability to sanction by the other party (parents)

Declining Entrepreneurial Orientation

Any firm has to be entrepreneurial to survive—but as family firms mature, they may lose their entrepreneurial drive and hunger for growth and success Keeping up an entrepreneurial spirit across generations is a serious challenge

the resource based perspective

Assumes that resources are the foundation of firms' sustained competitive advantage and performance Resources encompass both the tangible and intangible assets of the firm

Internal governance mechanisms

Boards of directors—less likely to be installed in family firms or filled with family members Concentrated ownership—the controlling family may have misaligned interests Performance-based pay—unwilling to provide incentives for nonfamily managers

A family charter may be used to address ownership topics:

Can in-laws be owners? Can nonfamily managers own stock? Can a trust hold stock for the benefit of the family or others? Must family members meet certain requirements to be owners?

Benevolent social ties

Capture the degree to which members of controlling families value relationships with individuals characterized by goodwill, mutual support, benevolence, and loyalty Emphasizes the importance of long term relationships with family members but also employees, customers, suppliers, etc.

Identity and Reputation

Captures the degree to which the controlling family extracts value from identifying with the firm The controlling family may benefit from the reputation of the firm Intertwined nature of family and firm identity is a double-edged sword

Transgenerational control

Captures the utility a family has by controlling the firm with the intent to pass it on to future family generations Family firms may have an emotional attachment derived from the tradition of controlling the company

corporate governance

Concerned with the efficient cooperation of the board, managers, and shareholders - One-Tier: members of the board are allowed to both executive directors and board members - Two-Tier: An executive board and a separate governance board

the agency perspective

Concerned with the efficient governance of the firm, and therein in particular with the collaboration between owners and managers

the uncoordinated family

Control over the management of family wealth is kept in the hands of the family, without any coordination of family member interests Each family owner has unmediated and potentially uncontrolled access to the family's assets within legal confines Prominent among founding and 2nd generations This approach minimizes expenses, increases privacy, and eliminates double agency costs The lack of coordinating mechanisms is highly susceptible to family conflicts

Culture of Commitment & Support

Corporate culture with social norms of support, harmony, and trust Heightened commitment among family and non-family employees Employees are willing to contribute beyond expectations- increasing the firm's resilience

"Principal-agency costs"

Costs that arise for owners if they wish to ensure that managers act in the owner's interests

Cousin Consortium

Cousins (of 2 or more family branches) as owners

preference reversal under vulnerability

Despite the overall preference of SEW viewpoint, family firms may be willing to give priority to the financial viewpoint and accept SEW losses under certain conditions Vulnerability leads to family firms to reverse their usual preferences and pursue more standard economic strategies

Two central features of the definition: (family business)

Dominant control in the hands of the family: the channels through which this control is exercised may vary significantly depending on the complexity, size, and age of the firm and on the particular value system and goals of the family Transgenerational outlook: points to the particular relevance of succession and long-term value creation, aspects that are either absent or less relevant in nonfamily firms

Family Enterprise

Extended family controls portfolio of business activities

family values and goals

Families should define a values-based foundation for their family governance regulations because (1) it gives family members a strong reason to stick together, (2) provides a common ground from which the family can hammer out the details of family governance

Family owners monitoring nonfamily managers

Families tend to own controlling stakes in their firms and to control those firms rather tightly Due to undiversified wealth position Family owners have the power as well as the financial incentive to curb self- serving behavior by managers

Efficient Leadership

Family blockholders ensure the efficient use of their resources Results in more parsimonious, cost-conscious administration

Family owners expropriating nonfamily minority owners

Family blockholders may not always behave in a way that maximizes the wealth of all stakeholders Family blockholders may extract private benefits from the firm Actions that are valuable to the family owners but costly to nonfamily owners Called 'principal-principal' conflicts

the traditional assumptions about family blockholders are often inaccurate in practice

Family firms do not only strive for financial goals—they also value noneconomic goals There can be conflict and misaligned interests within the family group Family members can use their power to the detriment of nonfamily minority owners Adverse selection problem may arise, leading to incompetent management and inappropriate monitoring Family owners often have to impose governance regulations on themselves so that their involvement does not impede the business

Reputation

Family firms possess unique reputations and brands; being trustworthy and quality- driven Customers may value a family's long-term personal engagement Family firms can also have a negative reputation of being resistant to change, using outdated business process, or being stagnant

Family involvement in new entrepreneurial activity

Family governance can determine the ways through which the family supports the ENT activity of next-generation family members

Identity & Reputation

Family members put their money and personal names at stake Heightened awareness about the public perception of the firm and its offerings Family firms prioritize the develop of strong brands over time

Financial Capital

Family money may come with unique contractual implications May be willing to provide capital at a lower rate Often have longer investment horizons

Fewer Conflicts of Interest Between Owners & Managers

Family relationships between owners and managers can increase trust and goal alignment- which may spare costly control and incentive mechanisms

Dominant family coalitions have unique:

Goals Preferences Abilities Biases

Long-Term Orientation & Continuity

LTO results in lower turnover in top management and longer investment horizons Pursue strategies profitable in the long run - increasing credibility among stakeholders

Agency Costs Because of Altruism

Nepotism may lead to inappropriate staffing decisions and adverse selection problems Family members (children) may free ride on the goodwill of the family (parents) Family occur agency costs in a different form

Succession Challenges

Only 30% of family firms survive succession. Over 3 generations, this falls to only 3% Can often involve conflict, power struggles, and emotionally laden discussions about justice and fairness

Common pitfalls of family firm definitions:

Overlooking the Heterogeneity of Family Firms: - Family firms do not share a single mode of governance structure Simplifying the Definition of Family: - The definition of what a family is and who belongs in it may differ widely across cultures - Family structures change over time with changing social norms Underestimating the Value of Studying Family Involvement Along Various Dimensions: - Not all families have the same influence over their business

Emotions and Affect

Owners may derive nonfinancial value from the pleasant emotions or affect they experience because of their association with the firm From this perspective, the firm is a cherished possession to which the owners affectively commit

Family control captures the degree of family involvement in:

Ownership Management Governance functions

Sibling Partnership

Ownership and management shared among siblings

Owner-Manager

Ownership and management in the hands of a single family member

Family involvement in philanthropy

Philanthropic activity may be an additional reason to commit to the firm and its objectives May support family members in need or support education of its members

Business First Philosophy:

Prioritize innovation, change, growth and profit Economic motives Focus on short-term relationships with stakeholders

External Governance Mechanisms

Product market competition—may be unwilling to let go of poor performing lines due to legacy concerns Managerial labor market—may be unwilling to fire underperforming managers if they are family members Threat of takeover—threats are limited due to tight family ownership control

Family blockholder governance problems

Relates to unaligned interest within the group of family owners

Resource Constraints

Relying on the family as the main source of financial capital may impose a serious constraint on innovation and growth Most business-owning families are risk averse due to their undiversified wealth Relying on family to fill management positions may limit the talent

Presumed logic of firm system

Renewal Rational Meritocracy Short-term perspective Financial Values

single-family office

Set up as a distinct organizational entity and acts as an organizational intermediary between individual family members' interests and the family's assets Benefits include: privacy, independence from 3rd parties, minimized tax obligations, greater control over assets and better investment controlling Single family offices are prone to double agency costs Often depend on a large amount of family wealth to manage, in order to cover the costs of operating a single-family office

Family First Philosophy:

Socioemotional wealth Prioritize emotional attachment to the firm Focus on trust, support, and social ties with stakeholders

Social Capital

Structural—based on network ties and configuration of the network Cognitive—shared language and narrative Relational—trust, identification, and obligations

Physical Capital

Tangible resources such as property, plant and equipment Also a particular location or setup/layout of plant or store Many established family firms have unique physical assets Families often have valuable real estate locations or inimitable processes

familiness

The unique bundle of resources a firm has because of the interaction between the family and the business

Stage of Control

This dimension distinguishes family owners from other types of block holders Families with a long duration of ownership may show a heightened concern for their: - Entrepreneurial legacy - Commitment to the historic roots of the business - High level of emotional attachment to the firm Exit options vary over generations

Presumed logic of family systems

Tradition Emotional/irrational Nepotism Long-termPerspective Nonfinancial Values

Owner holdup governance problems

Unfolds when family owners supervise nonfamily managers Nonfamily employees are exposed to risks of misconduct, temperament, and opportunism by the owners

To generate a sustainable competitive advantage, firms must possess and combine resources that are at once:

VRIN valuable rare inimitable non substitutable

Under a SEW mindset:

actors are risk averse because, all other things being equal, risk threatens the status quo and hence detracts from SEW

Effective governance ensures that the 4 governance areas are

aligned and form an integrated governance system

leveraging resources

building on established core competencies.

definition of ownership governance

legally defines firm-related ownership aspects—such as the overall ownership strategy and the age at which family members can become owners

Reasons to conceal family influence

legitimacy concerns

strengths of family firms

lower traditional agency costs efficient leadership continuity & long term orientation resource advantages culture of commitment and support identity and reputation

What is our overarching goal as a family?

mission

family charter

not a legally binding document, but it emotionally binds family members to a joint and concerted governance of business, ownership, family and wealth Offers families a chance to consolidate all the governance pieces into a document Can serve as a guiding principle for future situations such as succession Includes things pertaining to governance, wealth, values, etc.

What are the core values that characterize us as a family?

overarching values

Resource Advantages

human capital & knowledge social capital financial capital

family trust/foundation

A transferor allocates wealth in a trust or a foundation to the benefit of a recipient Families may opt for trusts for tax reasons Parents may also set up trusts to limit their children's access to wealth due to fear that the children will ruin the assets or that the wealth will ruin the children Advantages: protect the firm from family conflict, protect family from extravagant lifestyles, tax benefits, privacy, secure control, coordination of dynastic ambitions Disadvantages: administrative costs, lack of loyalty of trustee to instruction by settlor and to trustee, inertia and unwillingness to take ENT risks by trustee by fear of liability claims

Independent of the constellation, there are 3 overarching governance goals:

competence cohesion control

Under what conditions is family influence good for firm performance?

contingency perspective

wealth governance

deals with the question of how families efficiently organize and monitor the management of their wealth so as to preserve and grow it in the long term

To what degree is family influence good for firm performance?

degree perspective

weaknesses of family firms

dependence on family agency costs because of altruism succession challenges resources constraints declining entrepreneurial orientation role ambiguity

The ____________ comprises all family members above a certain age and are often the family shareholders

family assembly

The __________ serves as the family assembly's governing group and manages the family's business and financial affairs

family council

Aligned interests

family firm owners are also managers, so the interests are naturally aligned Benefits from increased performance and a natural competitive advantage

Selecting resources

given the limited funds for acquiring resources, family firms have an incentive to make sure they select the resources that can be efficient

What organizational processes drive family firm performance?

process perspective

deploying resources

refers to the adoption, rollout and implementation. Family firms face challenges as their long-term processes impede adoption of new resources

bundling resources

the creative (re)combination of resources, that are available inside the firm. FF's have a lot of tacit knowledge that aids in bundling

Governance refers to

the system of structures, rights and obligations by which corporations are directed and controlled

Socioemotional Wealth is defined as:

the total stock of affect that the family has vested in the firm

The need for appropriate governance structures in family firms becomes even more apparent due to

the various and often subtle ways through which the family influence can limit the efficient working of the business

Firms and industries are more likely to remain under family control when

their efficient scale and capital intensity are smaller, when the environment is more noisy, and when there is less stock turnover

The traditional agency view of family owners assumes:

there is no need to monitor the family

overarching goal of family governance

to secure the efficient operation of the family in matters related to the firm

Reasons to expose family influence

tradition, image, relationship quality

What is the family's goal with regard to business growth, risk taking and entrepreneurship?

values about being in business

Misaligned interests

when owners and mangers are family members, firms suffer from altruism problems Altruism undermines the cooperation and performance of the business

Who is part of the family and who is not In which aspects of our lives do we wish to work together jointly, and in which aspects do we act as individuals?

who we are