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Corporate diversification and CEO turnover in family businesses: self-entrenchment or risk reduction?

Abstract

Our study investigates differences in CEO turnover between focused and diversified firms to determine whether diversification strategies are necessarily associated with governance efficiency in family businesses. We find that large family CEO firms are more likely to engage in corporate diversification than are small non-family CEO firms and their CEOs are seldom replaced. Large family CEO diversified firms also have lower turnover sensitivity relative to focused firms. The results imply that the CEOs of diversified firms have entrenched themselves, thereby increasing agency costs within family businesses. However, we fail to find diversification discounts in family businesses. It is interesting that CEOs tend to diversify their businesses in order to decrease firm risk. Founding families favor risk-reducing decisions in order to maintain family wealth and prestige; suggesting that family businesses are more interested in survival than growth. Although family businesses may benefit from risk reduction, a negative relationship between diversification level and CEO turnover is still evidence of poor corporate governance. Agency theory may not completely account for the adoption of diversification strategies in family businesses and corporate diversification may weaken the effectiveness of internal monitoring mechanisms.

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Fig. 1

Notes

  1. All samples in our database are family businesses affiliated with family business groups. Following the research of Khanna and Palepu (2000), we analyze business groups based on firm-level observations. There are several reasons for doing this: (1) each firm is a separate legal entity responsible to their stockholders; (2) the disclosure of financial information should be made by each firm, not by a business group; (3) a great deal of potential information may be lost when individual firm’s measures are aggregated into group measures.

  2. Chrisman et al. (2005) suggest that family influence is a necessary but insufficient condition for familiness.

  3. For descriptions of family businesses belonging to pyramid groups in most countries see La Porta et al. (1999), Claessens et al. (2000), and Claessens et al. (2002).

  4. The Taiwan Stock Exchange (TSE) Corporation founded in 1961 is the sole centralized securities market in Taiwan. The Over-the-Counter (OTC) market was named Gre Tai Securities Market (GTSM), and formally established on November 1, 1994; like most stock exchanges it is a part of the market for the circulation of securities. As for Taiwan’s primary market, the 696 companies listed on the TSE in Sep. 2005 possessed a total market capitalization of NT$14,441 billion (US$438 billion). Meanwhile, the number of GTSM-listed companies in Sep. 2005 also increased to 501; the corresponding total capital amount increased to NT$1,131 billion (US$34 billion). In addition, the total trading value on the TSE is about 8 times larger than that of GTSM. More information can be found at http://www.tse.com.tw and http://www.otc.com.tw

  5. The capital issued of each IPO (Initial Public Offering) on the TSE should be greater than 600 million NTD (US$18 million); that on the OTC should meet the listing requirement of 50 million NTD (US$1.5 million).

  6. The classifications of SMEs may vary from time to time and from country to country. The Taiwanese Ministry of Economic Affairs definitions of SMEs are enterprises with less than 200 employees (1992) and firms with less than 400 employees (1999). This threshold of SMEs was redefined due to revenue changes. The definition also varies country to country. For example, in the US, a small business must meet numerical size standards as defined in the Small Business Size Regulations, 13 CFR 121––less than 500 employees. Based on this requirement, a small family business chosen in Daily and Dollinger’s (1993) study is a firm with fewer than 500 employees and sales less than 30 million USD.

  7. Relevant information can be found at http://emops.tse.com.tw/emops_all.htm

  8. To compare with other studies, our investigation also examines the robustness of the main findings to different classifications for CEO change. Considering that CEOs leave their jobs for diverse reasons, this difference seems slightly small. The signs of the coefficients on independent variables are generally consistent with Tables 4 and 5.

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Correspondence to Wen-Hsien Tsai.

Appendix

Appendix

Appendix Principal reasons for CEO departure

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Tsai, WH., Kuo, YC. & Hung, JH. Corporate diversification and CEO turnover in family businesses: self-entrenchment or risk reduction?. Small Bus Econ 32, 57–76 (2009). https://doi.org/10.1007/s11187-007-9073-y

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Keywords

  • Corporate governance
  • Agency theory
  • Family businesses
  • Corporate diversification
  • CEO turnover
  • Survival analysis

JEL Classification

  • L26