Contractual and relational governance in family firms : effects on strategic decision-making quality and firm performance

Abstract

This dissertation aims to contribute to research on family firm governance, an area that has attracted only little attention in the past. Governance of family firms differs from corporate governance of diffusely-owned, large corporations because important owners, i.e. the owner family members, may have multiple roles in the business, and because relationships between key stakeholders are enduring, and the shares of family firms are, to a degree, illiquid. Because of such characteristics, the governance of family firms presents a distinctive challenge for research and practice. The overall research question of the dissertation is: What are the impacts of the governance mechanisms on the performance of family firms? The study specifically focuses on relationships between family firm governance and strategic decision-making quality, defined in terms of decision quality and decision commitment.

This study develops and tests two models of family firm governance, one focusing on "contractual", and the other on "relational", governance. Mirroring the prescriptions of agency theory, contractual governance addresses aspects of the formal control exercised by the boards of directors. The contractual governance model argues that ownership structure determines the composition of the board of directors, and that representation of outside members on the board influences how the board functions and affects strategic decision-making quality. A relational governance perspective is used because the social ties are strong in family firms, providing potential for social control. Drawing on social capital theory, the relational governance model addresses different forms of social capital embedded in social relationships. The relational governance model argues that social interaction is a key factor influencing the formation of a shared vision and trust; these in turn, improve the strategic decision-making quality. The model also posits that social interaction within the owner family can be increased by establishing various family institutions. Decision quality and decision commitment are used as dependent variables in the models. Constructs related to both contractual and relational governance are employed as independent and mediating variables. Links between decision-making quality and overall firm performance are tested in a third model.

The hypotheses are tested using mail survey data from 192 family firms in Finland. The study uses confirmatory factor analysis to validate the constructs and multiple regression analysis to test the hypothesized relationships. For multi-item constructs, previously validated operationalizations are used whenever possible. The validity and reliability of the constructs are further checked using secondary proxies obtained through telephone interviews. The hypotheses on governance mechanisms, as well as those on the influence of these on decision-making quality, are mostly supported in the empirical analyses. Also, the results suggest that contractual and relational governance mechanisms are complementary rather than mutually exclusive. Hypotheses on the relationship between the decision-making quality variables and the overall family firm performance received partial support. This dissertation contributes to the understanding of how family firms are governed and of the impacts of various governance mechanisms on family firm performance. The results of the dissertation support the claim in the extant literature that family firms need to address the governance of the family in addition to the governance of the business. The dissertation proposes relevant practical implications for family firm owners and executives, and suggests directions for future research.