Burkart, Panunzi, and Shleifer, Family Firms

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Burkart, Panunzi, and Shleifer, Family Firms

• Journal of Finance, 2003
• (theory paper)

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Motivation and Contributions

• Family control is pervasive around the world
• Need to combine in one unified framework the twin
  conflicts
• manager outside owners
• large shareholder minority shareholders
• Examine the decision to separate ownership from
  control (management) key is succession (a choice
  variable in this model)
• Consider collusion (results in positive premium
  for control block) and non-collusion (monitoring
  is public good) between the founder and
  professional manager

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Diversion slide on Bequests (why ownership
depends on values), by Brad DeLong

• Why important?
• Proportion of wealth accumulation of any cohort
• Creation of wealth inequality
• Consistent or against values?
• Why people leave bequests?
• Make children happy
• Motivator for good behavior (the carrot)
• Insurance against inequality of skill among
  children

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Diversion slide on Bequests 2

• Historical role of bequests
• Post-medieval Anglo-Saxon world
• Low rates of net saving
• Primogeniture (maximize the wealth and power of
  the eldest male)
• Entail (legal rules that bind the current
  possessor of an estate to maintain and transmit
  the principal value a servant, not a master)
• Bottom line long-term male lineage wealth
  accumulation program
• 19th century America
• Land-rich, high-growth, equal opportunities
• Inherited wealth under suspicion
• Industrial statesmen, aka robber barons
• Andrew Carnegie he who dies rich, dies in
  disgrace

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Diversion slide on Canada (why ownership depends
on history, regulation and taxation), by Morck,
Percy, Tian and Young 2004

• Early French colonialism Jean Baptist Colbert,
  the intellectual father of French mercantilism,
  used Canada as a lab for mercantilist
  experiments
• until 1793 under the British rule French civil
  law was upheld because it better restricted land
  grabs by the local elite
• Settlement vs. resource extraction colony
• The Hudson Bay Co. opposed settlement to keep its
  links with trappers exclusive
• State control begins with WWI and steadily grows
  until the 90s

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Diversion slide 2 on Canada

• late 1960s rise of the widely held firm
• Revolution Tranquille in Quebec revival of
  subsidies
• the Caisse was created by the Party Quebecois
  when they came in power in 76 to inject
  francophone control in the corp. sector
• 70s renewed political respectability for state
  intervention , Trudeau nationalizations
• 80s government returned but there was no single
  point of contact for business this resulted in
  a new golden business opportunity consulting
  business
• family controlled groups have superior
  rent-seeking skills in such institutional
  environment
• Late 80s - Privatizations by the Mulroney Tories
  Air Canada, Canadian National Railways, Petro
  Canada, Polysar Chemical energy, Westcoast
  Energy

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Existing Theories on the benefits of preserving
family control

• Overview in Anderson Reeb (2003)
• Imperfect Capital Markets
• Bhattacharya Ravikumar (2001, 2002)
• Amenity potential benefits for the
  owner/founder
• introduced by Demsetz Lehn (1985), Grossman
  Hart (1988)
• The utility consequences of being able to
  influence the type of goods produced by the firm.
  
• nonpecuniary private benefits of control
• does NOT come at expense of profits
• Example media ownership - Djankov et al. (2003)
• Family name adds value benefits for all owners
• Reputation
• Political Connections - Faccio (2002), not
  modeled by BPS
• Expropriation
• classical Jensen Meckling (1976), Shleifer and
  Wolfenzon (2002)
• private benefits of control are at expense of
  profits (minority shareholders)

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Model Outline

• Founder looking for a manager to succeed him
• retiring, etc.
• recognizes own inferior abilities to run the firm
  (consistent with empirical evidence Morck et al.
  (2000), Perez-Gonzales (2001))
• equivalent to There exists a better qualified
  manager
• NO superior manager with sufficient resources to
  buy the firm outright
• Founder has 3 options
• sell out completely
• hire a pro manager AND retain control to monitor
• keep the firm in the family
• Founder max-s own welfare
• retained block
• revenues from sold shares
• amenity potential

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Model anchors and key assumptions

• trade-off b/w superior pro manager and discretion
  to expropriate
• level of legal protection of outside owners
  determines the maximum possible degree of
  expropriation
• legal protection (measured by ) vs. efficiency
  of monitoring (k)
• Substitutes, when is the measure of
  shareholder protection
• complements k
• firm size is exogeneous, no investment decision
  considered
• direct collorary If the founder is the best
  manager, then no shares are sold and there are no
  agency problems.
• firm cannot opt into more protective legal regime
  via a contract, such as cross-listing or a better
  corporate charter.

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Summary of results

• Extreme 1 When Amenity potential is very large,
  no pro manager
• Extreme 2 When discrepancy b/w pro and
  founder/heir abilities is very large and Amenity
  potential small, always pro manager
• Middle ground Decision to keep control in the
  family depends on quality of legal protection
• When legal protection is good no monitoring
  necessary, pro manager is best
• When legal protection is moderate monitoring
  pays, pro manager is also beneficial
• When legal protection is weak pro manager not
  hired

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Time line
The models is solved by backwards induction.
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Notation 1
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Notation 2
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Solution under non-separation

• ownership structure is indeterminate
• founders welfare is independent of legal
  environment
• the sum of security and private benefits is
  constant

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Solution under non-collusion
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Detailed Solution under non-collusion (Lamma 2) 1
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Detailed Solution under non-collusion (Lamma 2) 2
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Overall equilibrium (compare VNS and VS) for B at
extremes (Prop 1)

• Within a country (legal protection is const.)
• founder may find it optimal to keep control even
  with very strong protection (US media, sports
  companies)
• founder hires a pro manager if sufficiently
  incompetent (W. Europe utilities and telecoms)

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Overall equilibrium (compare VNS and VS) for
moderate B (Prop 2)
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Figure 2
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Definition of C0, C1 and C2
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Additional results

• main problem with models predictions
• under separation founders block trades at a
  discount
• stems from monitoring being a public good (free
  rider problem)

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Figure 3