Date Submitted: 18 Jul 2017
Good corporate governance is increasingly considered one of the prime drivers of business success. Through transparency, equitable treatment of all shareholders, and a robust system of sound practices and procedures, good corporate governance can enhance performance and growth, both in the individual firm and at the national level.
A solid corporate governance framework is particularly important for family firms, which face unique challenges as they balance the advantages and disadvantages of family involvement in the business.
Based on an analysis of 56 family-controlled listed companies in 14 jurisdictions,* the CFA Institute report, Corporate Governance for Asian Publicly Listed Family-Controlled Firms, identifies opportunities to enhance corporate governance structures for family firms in the region. The report reveals how effective corporate governance can help these companies—and the regions in which they operate—continue to achieve economic success.
FAMILY FIRMS AS THE DRIVERS OF ASIA’S FUTURE GROWTH
Over the last few decades, Asian family firms have played a pivotal role in fueling the region’s economic growth, and their influence will continue to rise. By 2025, the number of firms in Asia with revenue exceeding USD1 billion is expected to be nearly equivalent to that in developed economies globally. Family firms will represent 75% to 80% of those entities.
However, the growth of Asian economies in recent decades has been largely propelled by low labor and production costs. As the performance of Asian economies begins to mirror that of developed economies, their future capacity for growth will not be sustainable if they are competing on cost alone. To remain competitive, Asian family firms must innovate, expand outside of traditional markets, and professionalize, which will necessitate the tapping of global talent and capital. This will put pressure on these firms to have a corporate governance structure in place that can meet international standards and investor expectations.
CHALLENGES FOR ASIA’S FAMILY FIRMS
Challenges of Internationalization
Between 2000 and 2010, the total market capitalization of Asian family firms grew significantly. A major driving force behind this was an entrepreneurial desire among Asian family firms to use capital market funding to expand in new markets, with the number of listed family firms increasing 62%. As more family firms use capital markets to fund their internationalization plans, they will face the challenge of developing sound corporate governance frameworks that meet the needs of the heightened regulatory environment and the scrutiny that comes with being listed.
Challenges of Professionalization
Although Asian family firms prefer to pursue family-management succession plans, many recognize the need to capitalize on external talent to meet future business pressures. Efforts to professionalize a family firm, however, may be double-edged.
On the one hand, professionalization might boost a firm’s effectiveness. On the other hand, professionalization might give rise to additional agency costs, such as the need to offer incentives to align the interests of professional management with those of family members. If a family firm is to realize the benefits of bringing in external talent, then that incoming management will need the freedom to do the job for which they were hired. Defining an optimal equilibrium between family culture and external professionalism is therefore imperative to facilitate future value creation without incurring greater expenses.
Challenges of Dispersed Ownership
The average percentage of family ownership of large-size family firms in Asia is substantially lower than that seen in their European and North American counterparts. This implies increased ownership diversity, which can result in two major issues. First, with a widely dispersed minority ownership structure, the entity is potentially exposed to greater majority/minority owner conflicts. Second, Asian family owners who wish to expand their businesses while still retaining control may rely more on creditors than on further equity dilution. This could potentially lead to greater shareholder/creditor conflicts. Family firms should develop corporate governance policies to address these concerns.
WHERE CORPORATE GOVERNANCE CAN PLAY ITS PART
Research is inconclusive on whether the family-firm construct enhances or diminishes corporate governance practices. In theory, the long-term horizon and closer alignment of principal-agency interest in family firms should improve corporate governance. However, those same features could prove problematic by increasing risk, whether as a result of a lack of transparency, entrenchment, or wealth expropriation from minority owners.
A solid corporate governance framework is essential for family firms to effectively balance the advantages and disadvantages of family involvement in the business. Combining governance, management, and ownership in the hands of family can bring benefits, but this centralized decision-making structure inevitably brings risks. Sound corporate governance practices can help family firms include different perspectives on their boards, which can mitigate risks. Moreover, such practices can help family firms balance the interest of different stakeholders, a task essential to the long-term sustainability of these entities. As well, sound corporate governance practices can help family firms reduce their cost of capital and reduce capital waste, making them more attractive investment targets and more competitive entities.
THE WAY FORWARD
The complex challenges facing publicly listed family firms in Asia are influencing the underlying corporate governance frameworks of those firms. Through a holistic understanding of corporate governance features supporting firm performance and value across the region, these firms will be better able to address the difficulties they face and to thrive in the future. The development of policy recommendations that assist in enhancing the corporate governance practices of Asian publicly listed family firms will also increase protection for minority owners from wealth expropriation by the majority, controlling family owners.
Learn more about how corporate governance can impact family firm value and success at www.cfapubs.org/toc/ccb/2017/2017/1.