Advising / Consulting / Issues in the Family Enterprise

All in the Family? An exploratory study of family member advisors and firm performance

The Practitioner(Authors: Lucia Naldi, Francesco Chirico, Franz W. Kellermanns, and Giovanna Campopiano)

Research Applied précis prepared by Thomas V. Schwarz, Babson College & Black Forest, LLC

Almost all firms use advisors of some type. Often, we think of advisors as external to the firm and family. However, we also know that family firms commonly use their own family members as advisors. Many of us have had clients where the daughter-in-law acts as the attorney for the firm, or where a CPA son (who doesn’t work for the family firm) offers accounting advice. This study used a sample of 128 Swedish small and medium-sized manufacturing family firms that participated in a phone survey about the use of family member advisors and how that impacted firm performance.

Why do family firms use family members as advisors instead of external advisors possessing specialized knowledge? Some of the rational reasons include; the desire to keep family firm information private, the importance and complexity of underlying family relationships and culture, the alignment of interests, the length of learning curves and the level of trust.

Relying totally on family member advisors can have its drawbacks, though. What are reasons for limiting the use of family member advisors? Is there an optimum number of family member advisors that a family firm should consider? Building upon the vast literature of stewardship and agency theories, the authors hypothesize that the initial use of family member advisors is beneficial because family member owners and managers align their motives with the objectives of the organization that serves the future generations – they put the firm’s objectives ahead of their own. Further, they develop a community culture based on good relationships with staff and nurturing strong relationships with external stakeholders

However, as the number of family member advisors increases, self-interest and corresponding agency cost grows. As a consequence, the family firm may underinvest in growth and innovation. Further, the family members as a group may use the business to serve only the family and its needs (e.g., constancy of dividends) at the expense of other shareholders.

Combining these perspectives suggests that there will be an optimum number of family member advisors that a firm should consider. The range of use of family member advisors, either formally or informally and not employed within the firm, was from zero to six in the sample for this study. Empirical results indicate that up to two family member advisors add to economic performance (increased ROA and ROE) but beyond two is detrimental since the pursuit of individual benefits outweighs stewardship motivations. See Figure 1 for a graphic display of these results.

Founding generations are known to be different in many ways and results are often unique when compared to subsequent generational leadership. Such is the case for this study as well. When looking at the founding generation alone, there is no overall benefit or cost with the addition of family member advisors. Perhaps this is due to the strength of founder leadership. However, the study found that using family member advisors had a deleterious effect on family companies in later generations. The authors hypothesize that this might occur because family member advisors may try to preserve “the way things have always been done here.” Figure 2 graphically shows these results.

Since this is the first empirical study to look at family member advisors, practitioners and family businesses need to be cautious in applying some of the findings. However, here are some things to keep in mind:

  • Both family member advisors and family businesses need to be aware of the advantages and disadvantages of using family member advisors.
  • Family business leaders need to balance external advisors and family member advisors.
  • Even though family member advisors do no harm to family business performance (at least in this study), too much reliance on family member advisors by later generations may lead to agency problems and fail to solve family business issues.

A practitioner that would like more understanding is directed to the discussion section of the paper where the authors provide a more detailed overview of the findings and the limitations of applying the results in the absence of yet to be conducted additional research.

Read the entire article here.

About the contributor

Thomas V. Schwarz, FFI Fellow, is visiting scholar at Babson College in MA. He is also manager of Black Forest, LLC in FL. Tom can be reached at tvschwarz@hotmail.com.

 

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