Agency problems in large family business groups.

Greater managerial ownership in family firms need not mitigate agency problems, especially when each family controls a group of publicly traded and private firms, as is the case in most countries. Such structures give rise to their own set of agency problems, as managers act for the controlling family, but not for shareholders in general. For example, to avoid what we call "creative self-destruction," a family might quash innovation in one firm to protect its obsolete investment in another. At present, we do not know whether these agency problems are more or less serious impediments to general prosperity than those afflicting widely held firms.

Executive Summary

Much discussion of corporate governance problems highlights managers' failure to act for shareholders in widely held firms. This discussion typically assumes that greater insider ownership leads to better corporate governance. This is because managers who own larger equity blocks in their firms are less likely to take actions that reduce the value of their shares. This logic, taken a step further, suggests that agency problems might be minimized in narrowly held firms, such as those controlled by families.

This framework is certainly relevant in economies, such as the United States and United Kingdom, where most large firms are widely held. However, in other countries, most large firms are parts of family business groups. In a family business group, a family firm holds control blocks in several publicly traded firms, each of which holds control blocks in yet more publicly traded firms, and so on.

We show that such structures give rise to their own set of agency problems. In widely held firms, the concern is that professional managers may fail in their fiduciary duty to act for public shareholders. In family business group firms, the concern is that managers may act for the controlling family, but not for shareholders in general. These agency issues are the use of pyramidal groups to separate ownership from control, the entrenchment of controlling families, and non-arm's--length transactions (a.k.a. "tunneling") between related companies that are detrimental to public investors. At present, we simply do not know if these agency problems are more serious impediments to general prosperity than those afflicting widely held firms.