Why do some family businesses out-compete? Governance, long-term orientations, and sustainable capability.

This article seeks to link the domains of corporate governance, investment policies, competitive asymmetries, and sustainable capabilities. Conditions such as concentrated ownership, lengthy tenures, and profound business expertise give some family-controlled business (FCB) owners the discretion, incentive, knowledge, and ultimately, the resources to invest deeply in the future of the firm. These long-term investments accrue from particular governance conditions and engender competitive asymmetries--organizational qualities that are hard for other firms to copy, and thus, if tied to the value chain, create capabilities that are sustainable. Investments in staff and training, e.g., create tacit knowledge and preserve it within the firm. Investments in enduring relationships with partners enhance access to resources and free firms to focus on core competencies. And devotion to a compelling mission dedicates most of these investments to a core competency. When such investments are farsighted, orchestrated, and ongoing, capabilities will tend to evolve in a cumulative trajectory, making them doubly hard to imitate and thereby extending competitive advantage. Arguments are supported by making reference to the literature on corporate governance and agency theory and to emerging research on FCBs.

Introduction

Recent evidence suggests that family-controlled businesses (FCBs) significantly outperform their rivals in returns on assets and sales (Anderson & Reeb, 2003; Anderson, Mansi, & Reeb, 2003; McConaughy, Matthews, & Fialco, 2001; Weber, Lavelle, Lowry, Zellner, & Barrett, 2003), market valuations or "Tobin's Q" (Villalonga & Amit, 2006), revenue growth for the first generation (Weber et al., 2003), and firm longevity (de Geus, 1997; Mackie, 2001). This article attempts to explain such findings by arguing that certain unique governance conditions make some FCBs especially apt to invest profoundly for the long term, thereby helping to create inimitable or "asymmetric" capabilities that sustain competitive advantage (Miller, 2003). It proposes various governance and leadership conditions that produce a long-term investment perspective within some FCBs, and suggests the nature of the capability-creating investments that will result from that perspective.

The literature on the resource-based view of the firm and on dynamic capabilities argues that firms are able to outperform if they can develop valuable resources and capabilities that rival firms cannot imitate or substitute (Barney, 1991; Helfat, 2000; Teece, Pisano, & Shuen, 1997). Studies about how companies develop such advantages indicate that they must invest generously, and in a concerted way, in core capabilities and resources, and build these cumulatively by exploiting path dependencies (Dieryckx & Cool, 1991). Investments may include those in knowledge capital (Winter, 2003), corporate culture (Barney & Hansen, 1994; Eisenhardt & Martin, 2000), exceptional infrastructure and business models (Sanchez & Heene, 2000), and win-win relationships with value chain partners (Hagel & Singer, 1999).

The thesis of this article is that certain types of family businesses are especially apt to develop distinctive core competencies. First, they embrace a number of governance and leadership conditions that invite long-term investments and increase the resources available to invest (Carney, 2005; Habbershon & Williams, 1999; Sirmon & Hitt, 2003; Williamson, 1999). Second, their investments are especially likely to take the form of (1) generously funding a substantive mission and its central competencies, (2) fostering the talent to create those competencies, and (3) building close relationships with outside stakeholders that access resources and allow a firm to focus on what it does best. Such investments create competitive asymmetries in that they are difficult to emulate for firms with different governance structures given the different incentives and conditions associated with those structures (Miller, 2003).

The first section of the article discusses the governance drivers of the long-term orientations of some FCBs. The second section describes the roots, nature, benefits, and requisite co-conditions of those orientations, and links these orientations to superior, sustainable core capabilities.

Drivers of Long-Term Orientations in Family Businesses

We define long-term orientations as priorities, goals, and most of all, concrete investments that come to fruition over an extended time period, typically, 5 years or more, and after some appreciable delay. Indeed, performance may suffer during the initial years as the firm invests for the future or undertakes initiatives with significant short-term costs. Long-term priorities include good stewardship aimed at reducing risk or building up resources. Long-term goals are more specific and might involve achieving enduring quality--or innovation leadership. Long-term investments are actual expenditures and resource allocations intended to realize these long-term goals, and that have similar time horizons and anticipated payback periods (James, 1999). These include research and development (R & D) projects, major new infrastructure expenditures, and investing in reputation or enduring relationships with employees, clients, suppliers, or the community.

We shall propose a number of leadership and governance elements that might drive long-term orientations. These range from family ownership, control, and knowledge of the business, to long CEO tenures and consideration for later generations of owners and managers. Such drivers provide the incentives, discretion, resources, and information to implement a long-term orientation. Although we expect the drivers to be more prevalent among FCBs than elsewhere, they will by no means be present in all FCBs, or entirely absent in non-FCBs. Indeed, our propositions will argue that a long-term orientation will be a function of the nature and prevalence of the drivers (see Table 1).

Long CEO Tenures

Family CEOs stay at the job on average of three to five times as long as the CEOs of non-FCBs (Lansberg, 1999; Ward, 2004). The tenures at family controlled firms typically exceed 15 years, and, over the histories of firms like Timken, Michelin, Coors, and Cargill, they have often exceeded 20 years (Miller & Le Breton-Miller, 2005). Their ownership and status give many family CEOs the power to stay at their jobs for such long periods. These executives may also have an incentive to hold office until the next generation is ready to take over.

The anticipation of lengthy tenures drives some leaders to take a farsighted, steward-like perspective of the business. It makes them reluctant to engage in risky expedients such as unrelated diversifications, hazardous acquisitions, or shortsighted downsizing, that drain resources and may haunt them later in their tenures (Amihud & Lev, 1999; Morck, Shleifer, & Vishny, 1990). Other habits that may be born of protracted tenures are conservative financial leverage, careful cash management, and assiduous preservation of resources (Dreux, 1990).

In a more proactive vein, lengthy tenures may encourage investment in long-term projects such as infrastructure creation and R & D. Farsighted executives are willing to commit to projects that will enhance company performance only years hence (Casson, 1999; James, 1999). Moreover, when executives' tenures are long, their knowledge of the company tends to be deep (Miller & Shamsie, 2001). Such knowledge may be especially rich where years have been spent learning the business at close quarters with relatives (Lansberg, 1999). Thus, close familiarity with the business on the part of owners and top managers has been shown to reduce uncertainty about future cash flows and therefore lengthen performance and investment time horizons (James, 1999; Laverty, 1996). Owners or managers who profoundly understand a business are more confident in their ability to manage and control it, and less fearful about projects with longer term payoffs (Milliken, 1987). They also are less apt to stray from areas of core competency (Miller & Shamsie, 2001). (1)

This long-term orientation is in striking contrast to what happens at many publicly traded non-FCBs (Jacobs, 1991 ; Khurana, 2003). CEO tenures have shrunken over the last 2 decades from about 8 to less than 4 years, while top executive incentive pay has risen dramatically, often to over 85% of total compensation, and is mostly based on near-term share prices (Khurana, 2003; Miller & Le Breton-Miller, 2005). Board supervision, increasingly, has taken the form of scrutinizing the quarterly numbers and distributing rewards and punishments accordingly. So the pressure on CEOs to get quick results is immense. Common ways of doing that are cost cutting to increase profits, and acquisitions to boost revenues (Morck et al., 1990). Investments that compromise current profits or benefit only the next cohort of executives are avoided (Jacobs, 1991; James, 1999).

Proposition 1a: Longer anticipated CEO tenures in FCBs will correlate with (1) stronger attitudes of stewardship (e.g., fewer unrelated acquisitions, risky projects, and avoidable episodes of downsizing), (2) deeper knowledge of the business and tolerance for uncertainty, and (3) longer time horizons and investments in focal capabilities.

Concern for Subsequent Generations