Financial performance and non‐family CEO turnover in private family firms under different conditions of ownership and governance

• Author: Daniel Pittino,Alessandro Minichilli,Francesca Visintin
• DOI: http://doi.org/10.1111/corg.12201
• Published date: 01 September 2017
• Date: 01 September 2017

ORIGINAL ARTICLE

Financial performance and non‐family CEO turnover in private

family firms under different conditions of ownership and

governance

Francesca Visintin

1

|Daniel Pittino

2

|Alessandro Minichilli

3

1

Department of Economics and Statistics,

University of Udine, Via Tomadini 30/a,

33100, Udine, Italy

2

Jönköping International Business School,

Jönköping University, PO Box 1026, SE ‐551

11, Jönköping, Sweden

3

Bocconi University, Department of

Management & Technology, AIdAF‐Alberto

Falck Chair of Strategic Management in Family

Business, Via Roentgen 1, 20136, Milan, Italy

Correspondence

Daniel Pittino, Jönköping International

Business School, Jönköping University, PO

Box 1026, SE‐551 11, Jönköping, Sweden

Email: daniel.pittino@ju.se

Abstract

Manuscript Type: Empirical

Research Question/Issue: Family firms, as insider‐controlled companies, should be less

likely to exhibit CEO turnover after poor performance and may thus promote enhanced focus

on long‐term goals. However, when a non‐family CEO is in charge, the relatively limited empirical

evidence is contrasting. Some studies find that only family CEOs are immune from the threat of

dismissal following poor financial performance, while other studies show that family firms disci-

pline their CEOs for poor financial performance regardless of their family status. In this work,

we try to reconcile these contrasting findings and investigate what ownership and governance

conditions influence the owners’pressure on the CEO to achieve short‐term financial results.

Research findings/insights: Drawing on a longitudinal dataset that covers the entire

population of Italian medium and large family companies, we find that when family ownership

is concentrated in the hands of few family shareholders or there is a low number of family

members involved in the board of directors, non‐family CEOs are less likely to be dismissed after

poor performance.

Theoretical/Academic Implications: Our study, adopting the behavioral agency theory as

the guiding framework, highlights the importance for governance decisions of the potential goal

divergence among principals in closely held ownership structures. Our results also add to the still

scant literature on the relationship between family owners and non‐family CEOs.

Practitioner/Policy Implications: Our research suggests that, in the decision to hire a non‐

family CEO, family business owners should not only assess their gaps in managerial skills but also

carefully consider the ownership structure and family involvement conditions. On the side of

professional non‐family managers, our results offer insights on ways to address the employment

relationship with the controlling family.

KEYWORDS

Corporate Governance, behavioral agency theory, non‐familyCEOs, ownership structure, private

family firms

1|INTRODUCTION

The decision to dismiss a CEO after short‐term negative financial

performance is one of the most extensively studied phenomena in

the field of corporate governance, particularly in large listed companies

(see, e.g., Huson, Parrino, & Starks, 2001; Kaplan & Minton, 2012;

Volpin, 2002). The sensitivity of CEO turnover to negative financial

results is considered a signal of an effective corporate governance

system, whereby the board has the power and the will to dismiss a

self‐interested agent and the market for corporate control represents

a real takeover threat to companies with falling share prices (Lel &

Miller, 2008; Shleifer & Vishny, 1997).

The assumption behind this argument lies in the original setting of

the empirical studies, namely the Anglo‐Saxon, outsider‐dominated

Received: 16 September 2015 Revised: 19 November 2016 Accepted: 17 January 2017

DOI: 10.1111/corg.12201

312 © 2017 John Wiley & Sons Ltd Corp Govern Int Rev. 2017;25:312–337.wileyonlinelibrary.com/journal/corg

system of corporate governance, and follows directly from agency the-

ory, which suggests that when direct monitoring is not feasible, an

assessment of the agent based on financial outcomes is the most effi-

cient solution (Eisenhardt, 1989). Also, it is in line with a situation of

diffused ownership, in which case profit maximization targets, usually

assessed on a quarterly or annual basis (e.g. Hitt, Hoskisson, Johnson,

& Moesel, 1996; Hoskisson, Hitt, & Hill, 1993), are an appropriate

and universal proxy for the utility of company owners.

Though the use of measures of performance based on the finan-

cial outcome is efficient in the case of outsider systems of corporate

governance, where the owners are external to the company manage-

ment, it is not so for the insider case, where shareholders are in the

position to closely and actively monitor the behavior of the CEO,

have the incentives to do so, and therefore should not need to rely

on output measures, and in particular on short‐term indicators of

financial performance (Eisenhardt, 1989; Jensen & Meckling, 1976).

Insider shareholders can indeed discriminate among causes of poor

performance, understand when they are connected with a misman-

agement and/or incompetence of the CEO, or with, for example, a

negative economic conjuncture, and make the right attribution

(Walsh & Seward, 1990).

Among the insider models of corporate control, family ownership

is the most prevalent, as family firms are recognized as the dominant

type of organization around the world (Claessens, Djankov, & Lang,

2000; Faccio & Lang, 2002; La Porta, Lopez‐de‐Silanes, Shleifer, &

Vishny, 2002). In the case of family firms, the same original theorists

of agency theory have advanced the argument that agency costs are

reduced to the minimum (Fama & Jensen, 1983; Jensen & Meckling,

1976), at least as far as the principal–agent relationship is concerned.

When, as is the case for family firms, direct monitoring is feasible

and shareholders have all the incentives to engage in such activity,

agency theory suggests the following: “A simple case of complete

information, is when the principal knows what the agent has done.

Given that the principal is buying the agent’s behavior, then a

contract that is based on behavior is most efficient. An outcome‐based

contract would needlessly transfer risk to the agent, who is

assumed to be more risk averse than the principal”(Eisenhardt,

1989, p. 61).

The application of agency theory to family firms leads to the

expectation that the turnover of the CEO would be unrelated or only

weakly related to ex‐post assessment of financial performance.

Instead, a thorough monitoring of the CEO, based on behavior, is

expected to either lead to turnover even before the negative financial

performance occurs (when the ongoing assessment of the agent is

negative) or to a continuance of the contract (when the negative per-

formance is attributed to other factors or the goals of the principals

differ from the immediate financial performance) (Walsh & Seward,

1990). Nevertheless, despite the predictions of the theory, a number

of studies analyzing family owned firms have documented a negative

relationship between the CEO turnover and financial performance,

particularly when the CEO is not a member of the family.

For example, Volpin (2002) finds that if the majority shareholder is

a family, the sensitivity of the CEO turnover to negative performance

is high, while it is not if the majority shareholder is a bank or the state,

or if the CEO is a family member. The author goes as far as finding a

positive relationship between the extent of cash flow rights of the

majority shareholder and the sensitivity of non‐family CEO turnover

to performance, which is the opposite of what the theory would

suggest. Similar results are also found by Brunello, Graziano, and Parigi

(2003) and by Li and Srinivasan (2011).

More recently González, Guzmán, Pombo, and Trujillo (2015), find

a strong sensitivity in the CEO turnover–performance relationship,

even on a sample of private family businesses, namely in a type of

company where the opportunities for the monitoring and disciplining

of the CEOs are close to the ideal. In partial contrast with Brunello

et al. (2003), González et al. (2015) also show that family and non‐

family CEOs are equally exposed to the threat of dismissal following

poor financial performance.

A possible explanation for this puzzling evidence might reside in

the presence of agency tensions between principals, namely between

the family as a controlling shareholder and other minority shareholders

(e.g. Schulze, Lubatkin, & Dino, 2003; Schulze, Lubatkin, Dino, &

Buchholtz, 2001; Villalonga & Amit, 2006). The use of financial out-

come‐based systems to assess the CEO would represent in this case

a means to signal to the market an alignment of the interests of major-

ity shareholders with those of minority ones (e.g. La Porta et al., 2002).

However, this agency‐based explanation may apply to situations of

quasi‐outsider companies, where the majority shareholder controls a

small percentage of shares and unsatisfied minority shareholders may

significantly impact on the share price, but is much less appropriate

in companies with limited floating shares and even less in privately

held companies.

The ambiguous results from the application of agency theory to

CEO turnover in family firms seem thus to suggest that agency‐

based models are not suitable for this type of firm (e.g. Tsai, Hung,

Kuo, & Kuo, 2006).

Nevertheless, an explanatory framework is absolutely needed, as

the sensitivity of CEO turnover to financial performance is related to

the building blocks of competitive advantage of family firms. Com-

pared to large public companies, which assess their CEOs according

to the ability to achieve immediate financial results (e.g. Le Breton‐

Miller & Miller, 2006), family firms tend to value non‐financial dimen-

sions of performance, such as socioemotional returns (Berrone, Cruz,

& Gómez‐Mejía, 2012; Gómez‐Mejía, Cruz, Berrone, & De Castro,

2011; Gómez‐Mejía, Haynes, Núñez‐Nickel, Jacobson, & Moyano‐

Fuentes, 2007), promoting long executive tenure (Gómez‐Mejía,

Núñez‐Nickel, & Gutierrez, 2001), and favoring interpersonal and

trust‐based coordination (Cruz, Gómez‐Mejía, & Becerra, 2010). These

features, it has been shown, are at the core of the outperformance of

some of these companies, in particular in that they foster their long‐

term orientation (Lumpkin & Brigham, 2011; Miller & Le Breton‐Miller,

2005). Indeed, the disposition of family firms toward long‐term value‐

creating activities has been shown to encourage entrepreneurship and

innovation (e.g., Zahra, Hayton, & Salvato, 2004), enrich the endow-

ment of core competences and strategic resources (e.g. Carney,

2005; Sirmon & Hitt, 2003), and sustain the company’s viability across

generations (e.g. Zellweger & Sieger, 2012).

High levels of sensitivity of CEO turnover to financial perfor-

mance, which are observed especially when a non‐family CEO is in

charge, may thus indicate that family firms depart from the specific

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