Abstract
Entrepreneurial firms commonly become family small businesses. This study aims to highlight the financial strategy underlying the development of smaller family companies. A brief introduction about the definition and role of the family business is followed by a review of the debate on the finance gap that puts constraints on the survival and long-term growth and prosperity of smaller privately companies. Evidence is drawn from a database of smaller firms with family owner-managers in Portugal, in order to determine their attitudes towards and experiences of venture capital and financing and other capital options. We conclude by discussing some tentative policy implications for regional development from the perspective of owner managers, service providers and policy-makers.
TopIntroduction
It is well known that family firms make up a large proportion of businesses and play a significant role in the world economy.1 This chapter focuses on the issue of the financial development of Portuguese family businesses. In particular, it analyses whether the financial characteristics of private family firms are likely be different from private non-family firms and discusses the role of private family firms in regional economic development.
Current literature on the issue on financial development provides evidence that family firms adopt different financial practices from their non-family counterparts. Private family firms in particular are at a disadvantage when it comes to obtaining long-term debt and external equity. This may be the result of the unique characteristics of private family business, namely overlapping owner-managerial and financial market imperfections (Cosh & Hughes, 1994; Chittenden, Hall, & Hutchinson, 1996; Lopez-Gracia & Aybar-Arias, 2000). Not surprisingly, private business owners often harm their growth potential because they do not address evolving growth barriers on the financial, managerial, technological and marketing side or other family objectives may even take priority over refrain growth (Poutziouris & Chittenden, 1996). This chapter expands on prior research in that it focuses on analyses of financial development of Portuguese private family firms and comparisons to non-family firms.
The aim is to address the following questions: do private family firms tend to use more internally generated funds for their development than private non-family firms and do private family firms have a stronger antipathy towards external private venture capital as compared to private non-family firms that can limit growth opportunities?
The empirical analysis is based on a sample of Portuguese private family companies between 2010 and 2012. Portugal is classified as the country of civil-law origin with the highest level of ownership concentration (La Porta, Lopes-de-Silanes, Shleifer & Vishny, 1998). There is a large predominance of small and micro-sized companies in the Portuguese economy that are characterised by family firm governance.
We find that private family firms tend to be slow in growth, have superior profitability margins and retained profit, and are less interested in venture capital. The family firms have significantly lower leverage ratios than non-family firms. Additionally, we find that although the directors of family firms are about the same age as those of non-family firms, they have much more experience, are less likely to be female, and live nearer the business. Our results indicate that the financial development of Portuguese private family firms is also consistent with the “conservative philosophy” of family firms which could hamper their business growth. We demonstrated that family firms are sceptical about growth due to their control and their dependence on external funds.
This study makes several contributions to the literature. First, as Howorth and Ali (2001) note, the Portuguese family firm has not been adequately explored in research. This chapter adds to the corporate governance literature, providing financial evidence on Portuguese family firms. We show that private family firms are systematically dependent on internally generated funds for their development which can be the cause of problems. Second, we provide evidence that furthers the explanation for the difference in the financial development of private family and non-family firms (Poutziouris, 2006). Specifically, the majority of family firms have a relatively short-term approach to financing which may lead to capital deficiencies and lower growth than in non-family firms.
The chapter has practical implications. We contribute by examining the importance of both financial development and family firms to the financial orientation of firms and discuss the impact for regional and economic development. Our results demonstrate that private family firms have a lower level of leverage than non-family firms, and this reflects the overall economic situation of these firms in Portugal. Hence, our findings have implications for users of the information in financial statement, such as pension funds, banks, insurance companies and other financial investors.
Key Terms in this Chapter
Family Firm: The typical family business has generally been characterised as an organisation that is controlled and usually managed by multiple family members, often from various generations.
Financial Sources: Financing for firms comes from three sources: internal funds, debt and new equity.
Stewardship Theory: Departing from on sociology, stewardship theory substitutes the assumption of opportunistic behaviours by agents, and suggests that agents are motivated by goals other than private economic interests. This leads to a natural alignment of their interests with those of other principals.
Family Culture: The set of values, defined by behaviours, that become embedded in an enterprise as a result of the leadership provided by family members, past and present. Family unity and the nature of the relationship between the family and the business also define this culture.
Pecking-Order Theory: Pecking-order theory maintains that businesses adhere to a hierarchy of financing sources and prefer internal financing when available, and that debt is preferred over equity if financing is external.
Ownership Control: The rights and responsibilities family members derive from significant ownership of voting shares and the governance of the agency relationship.
Agency Theory: The relationship between the principals, such as shareholders and agents such as the company executives and managers. A principal-agent relation exists when one party (the agent) agrees to act on behalf of another party (the principal). Agency theory views the firms as a bundle of contracts, and focuses on potential conflicts of interest arising from asymmetry of information between two contractual parties, i.e. the principal and the agent.