Do family firms have a magic ingredient?


Do family businesses perform better than non-family firms? Maybe, but perhaps not in the way that people often say.

There are several family business indexes that seem to show that family firms outperform non-family firms spectacularly. For example, $100 invested in the the Credit Suisse/Holt index of family firms in 2004 would be worth $212 today, compared to about $160 for the MSCI World index.

The DAX Family 30, an index of 30 of the biggest German family-owned firms, also outperforms the DAX, the index of all firms listed in Germany, and has lower volatility. Over 10 years, your capital would have appreciated almost 350%.

This suggests that family firms have some sort of magic ingredient that makes them more successful than non-family ones. But what is it? Credit Suisse is vague on what creates the index’s outperformance, saying that “common arguments” to explain family business outperformance include their long-termism, an absence of conflict of interests between what benefits the owners and the business, and that they tend to concentrate on a core business.

But once you start looking under the bonnet things are not so straightforward. For a start, what is a family firm? For inclusion in the DAX Family 30 a family must own 25% of the business, and have just 5% of voting rights. You might argue that this is setting the bar low.

If they have so little management input, can the family “culture” still be said to have any impact on the way the firm is run? This is a bit like homeopathy, where hugely diluted potions retain a “memory” of an active ingredient.

Purists might argue that once it lists any shares at all, then the firm is fundamentally a different kind of beast. Philippe Poletti, head of mid-cap buyout at Ardian, a private equity firm that specialises in helping family businesses grow, says that “the family cannot manage the business in the same way, and at the end of the day the spirit is not the same.”

Even if what the indexes show is true, and family firms do outperform non-family ones, that might be largely because of a selection bias. Jess Chua of Lancaster University Management School’s family business centre, says that some research on family firms has found that businesses in which a family owns just 5% of shares outperform.

But these cases are rare. “In a business that has family influence in the board of directors, or is family managed, and the family owns only 5%, they must be doing an exceptional job. If not, they would have been kicked out by the non-family shareholders.” To generalise from such exceptional situations to say that all family firms are exceptional is a big jump.

Early-stage family firms, in the founder or second generation, also tend to perform very well. But the key ingredient is not their family ownership, but their youth: many successful businesses have spectacular early growth.

Nadine Kammerlander, a family business expert at the University of St Gallen, says that the academic evidence suggests that overall family firms do not perform better or worse than others, but that  “what you do find is that family firms either overperform, or underperform. The variance is much higher.”

What determines this, largely, is the amount of shares the family owns. Kammerlander says that there is a sweet spot of 30-50% share ownership.

“The reason is that you still have the family influence, you can monitor the managers very well, you can put the long-term focus onto the firm, you can harness the benefit of being a family firm, but there are still control mechanisms that prevent the negative sides of family influence,” she says. “The tendency to take money for private purposes, the tendency to be a bit blind about the abilities of the son who the family want to be the next CEO, and so on.”

This raises a deeper question: what is good performance? The indexes look only at the share-price, but families can have other aims: to make the business stable for the long term, to provide a job for their children, or to provide employment in their home town, for example. Efficiency is not everything.

One of the reasons that Ardian likes family firms, says Philippe Poletti, is that “they have not always tried to optimise everything”, which means that there is scope for a private equity firm to help them “go further and faster”.

And he says that owners often want to take things steady. “They have a life and a family and a social life in the town where their business is, and we want to help them build while keeping their life in their home-town,” says Poletti.

There is more than one kind of success. Those indexes essentially see family firms through a non-family prism — and maybe this isn’t such a good thing.