Promoting Family: A Contingency Model of Family Business Succession

Susanne Royer, Roland Simons, Britta Boyd, Alannah Rafferty

Succession is a challenge to family businesses for a number of reasons, including the need to address the issue of intergenerational handover. This article focuses on one aspect of succession in family business by investigating when family members are preferred as successors. Results from 860 family businesses indicate that specic (tacit) knowledge characteristics combined with a favorable transaction atmosphere, in certain contexts, make a family member the most suitable successor. A conceptual model is presented that outlines when inside-family succession is preferred.

Introduction
An increasing number of family businesses are facing succession-related concerns (e.g., Astrachan, Allen, Spinelli, Wittmeyer, & Glucksman, 2003). At the same time, succession is often not effectively conducted, especially not during the lifetime of the founder (e.g., Fox, Nilakant, & Hamilton, 1996; for an overview, see Stavrou, 2003). It is not surprising, therefore, that the legal, nancial, and personnel implications of business succession are widely discussed in the literature (e.g., Lewis, 2000; Morrow, 2001; Rothwell, 2003; Sharma, Chrisman, & Chua, 2003). One key question when considering succession planning is to decide for or against a family member as a successor. Nepotism is suggested to be one reason that succession within the family occurs (Gersick, Davis, Hampton, & Lansberg, 1997). Pollak (1985, p. 587) argues that certain dangers are associated with internal successions and suggests that nepotism may prove a serious problem for the family rm. Barach, Gantisky, Carlson, and Doochin (1988) investigate the entry of the next generation into family businesses from a strategic perspective and report that choosing a

family insider may be against the interest of the group of family rm shareholders. Yeung (2000) describes how to deal with nepotism as a limitation to growth by investigating cooperation and training potential in Chinese family rms. However, researchers have not provided clear evidence that nepotism is a dominant reason for handing down family rms to other family members. Bjuggren and Sund (2002) and Lee, Lim, and Lim (2003) even come to the conclusion that valuable idiosyncratic knowledge of family members as a relevant factor is a much neglected topic of discussion in this context. This is the point of reference for this research. An issue that has yet to be addressed in this context is whether family succession is more or less appropriate in different industries since family rms seem to be especially protable in sectors such as construction or different kinds of crafts (e.g., Klein, 2000). In summary, an initial review of the literature reveals that while the literature on succession in family rms has made great strides in the recent past (e.g., Barach & Gantisky, 1995; CabreraSurez, De Sa-Prez, & Garcia-Almeida, 2001; Le Breton Miller, Miller, & Steier, 2004; Sharma & Irving, 2005), it is still unclear whether a family
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Royer, Simons, Boyd, Rafferty

member successor is more (or less) appropriate in different industry contexts. We address these issues here. In this article, we focus on family businesses that are called family rms because of the ownership structure of the company and the type and level of inuence the family has on the rm. In Daviss (2001) terminology, we take family-owned and managed as well as family-owned and led businesses into account. Regarding business succession, we focus on the situation where a new individual is placed in charge of managing and leading a family business. This person may be a family member or a family-outsider chosen from the external labor market. Several factors are likely to affect family business succession, including the intentions or perspectives of the next generation (Handler, 1994; Stavrou & Swiercz, 1998). A number of recent studies have found that the quality of interpersonal relationships inside the family inuence successful business processes (Cabrera-Surez, 2005; Yan & Sorenson, 2006). However, we identify the ability to acquire the predecessors key knowledge and skills as well as the commitment to the family rm (Bjuggren & Sund, 2002; Brockmann, Hoffmann, & Dawley, 2006; Cabrera-Surez, 2005; Cabrera-Surez et al., 2001; Lee et al., 2003; Sharma & Irving, 2005) as key factors affecting whether family business succession occurs. However, to date there has not been a theoretical framework available in the literature that considers the inuence of knowledge, the quality of interpersonal relationships, and the sector in which a rm is located on family business succession. This article addresses this limitation of current research by developing a contingency model of business owners orientations in succession choice linked to different types of relevant knowledge. Our objective is to clarify the reasons for an internal versus an external succession decision. We do this by systematizing particular business situations and linking them with different types of knowledge that a potential successor possesses. This article focuses on the potential of transaction cost theory to give insights into the costs
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associated with transferring valuable knowledge to successors from within the family versus from external successors. To differentiate succession situations, different kinds of relevant knowledge are categorized with regard to associated transfer costs. The result is a model linking contingent factors with successor choice (see the next section). The third section of the article describes the empirical investigation conducted to test the conceptual model. A discussion of the results and conclusions follow.

Transaction Costs and Knowledge Transfer in Family Businesses: The Contingency Model of Family Business Succession
Transaction cost theory identies family businesses as one part of the economy of family organizations (Williamson, 1989). The principal assumption of transaction cost economics (Coase, 1937, 1984; Williamson, 1975, 1985) is that individual behavior is governed by bounded rationality and opportunistic self-interest. Transaction economic concepts suggest that information can be asymmetrical and that transactions are not costless. In transaction cost research, the appropriateness of different organizational forms and modes of governance is analyzed and the role importance and difculty of contracting as well as the importance and implications of the uniqueness of assets (e.g., specic knowledge) is demonstrated. The objective is to select the governance mode for a transaction that causes the lowest costs, taking the economic use of scarce resources as an efciency criterion. Therefore, transaction cost theory is an appropriate tool to analyze different situations of succession in family rms and derive conclusions regarding the person with the lowest transaction costs regarding the transfer of relevant knowledge. Knowledge transfer in this context has to be imagined as a process in which an organization recreates a complex, causally ambiguous set of routines in new settings and keeps it functioning (Szulanski, 1999, p. 5). The problems associated with such a process of knowledge transfer are

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Promoting Family: A Contingency Model of Family Business Succession

often referred to as being sticky (Szulanski, 1996; von Hippel, 1994). Stickiness in knowledge transfer, by denition, hinders knowledge from transferring (Jensen & Szulanski, 2004, p. 509).

The Value of Internal Family Succession

Pollak (1985) discusses the advantages and disadvantages of family businesses from a transaction cost perspective and identies a number of advantages of family rms, including incentives, control, altruism, and loyalty. Pollak suggests that family rms are most appropriate in uncertain environments or societies where nonfamily members are not expected to behave in a reliable and honest way, as well as in sectors with relatively simple technologies. A relevant aspect in the transaction cost economic framework lies in the construct of knowledge idiosyncrasy, which is caused by tacit or implicit knowledge. Polanyi introduced the term tacit knowledge to acknowledge that we can know more than we can tell ([1966] 1997, p. 136). This statement implies that some knowledge can be acquired only by learning by doing. Bjuggren and Sund (2002) show from a transaction cost perspective that the selection of a family insider as a successor is not only preferable in an uncertain environment but also when so-called idiosyncratic knowledge is considered highly relevant to the successful operation of the business. Lee et al. (2003) use a transaction cost and game theoretical framework to analyze the impact of specic human capital in the form of idiosyncratic knowledge, as well as capabilities of internal family successors, on succession decisions. One of the central results of their study is identifying the problem that as soon as a family selects an outsider as the successor, this individual appropriates a major share of protability, which increases with his or her assessed ability. Choosing a family member as successor may protect a business from this danger and make the transfer of successrelevant idiosyncratic knowledge easier. Further, a high level of mutual trust and honesty can often be observed inside family rms (e.g., Dyer & Handler, 1994; Pollak, 1985). Mutual

trust and honesty lead to a favorable transaction atmosphere. The transaction atmosphere consists of all sociocultural and technical factors that affect the transaction costs of different coordination and motivation instruments (Picot, Dietl, & Franck, 2005, p. 61). Communication processes are a relevant basis of interaction between human beings (Habermas, 1981, 1984). Picot et al. (2005) show that Habermass lifeworld concept can help in analyzing and understanding communication processes. A particular lifeworld implies a specic form of living that impacts the thinking and communication adopted by actors. The complete background knowledge that makes communication possible is specic to a lifeworld. The interpretation of statements and information depends on the contextual lifeworld. Actors from different lifeworlds thus may have difculty when communicating. When internal succession occurs, family members usually have a similar lifeworld, which simplies communication processes and enhances trust building. Social control and longterm relations between family members often lead to situations where a favorable transaction atmosphere exists. This is of special relevance in environments where opportunistic behavior may be hard to detect. In addition, it has been suggested that larger and older family companies have developed formal mechanisms for ensuring family health and maintaining family stability (Astrachan, 2003, p. 2). Such mechanisms can include family councils or assemblies, as well as family constitutions or regular family meetings (Aronoff, Astrachan, & Ward, 1998; Aronoff & Ward, 1992). In summary, combining the outlined knowledge elements and the transfer costs associated with external succession with the likelihood of a favorable transaction atmosphere in family rms, it seems reasonable to argue that family members or internal family successors have advantages compared to outsider successors. Family culture in this context can be a valuable resource (Zahra, Hayton, & Salvato, 2004). For example, a clan structure can be an efcient organizational form that reduces transaction cost compared to markets and hierarchies (Ouchi, 1980; Ouchi &
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Royer, Simons, Boyd, Rafferty

Price, 1978; Wilkins & Ouchi, 1983). Some family cultures generate the congruence of goals and shared assumptions and values that create the efciency of organizational clans in a highly insecure environment. If family culture is transferred to the family rm, the family becomes the organizational clan.

Different Types of Knowledge

Knowledge can be differentiated into a number of different types, including general, technical, and experiential knowledge. Although general knowledge (e.g., knowledge such as how to add numbers) is relatively cheap to communicate and transfer to others, that is not necessarily the case for technical knowledge, which can be easily transferred to scientists from a particular eld but bears a cost with regard to the transfer to others. The knowledge of the chemical structure of a new pharmaceutical would, for example, be difcult to explain to someone without the relevant technical knowledge of pharmacy and chemistry (e.g., Huang, 1999; Jensen & Meckling, 1992). The kind of knowledge that is associated with the highest transfer cost is experiential knowledge, which can be dened as that intuitive knowledge, based upon training and experience, which is incapable of translation into written form (Williamson, 1975, p. 35; see also Bonus, 1986, p. 328). For example, colors can be experienced only by people who are able to see them and cannot be explained to a person born blind. Experiential knowledge forms the basis for craftsmanship or the building of musical instruments as well as the development of certain software. Idiosyncratic knowledge cannot be readily formalized and relates to specic conditions of place and time. For example, idiosyncratic knowledge is seen as essential with regard to many agricultural tasks (e.g., Dietl, 1993, p. 178), such as the knowledge of when exactly to start harvesting wine. This knowledge takes into account location- and weather-specic conditions. Idiosyncratic knowledge can also be related to the skills of certain individuals, handling of certain materials, or the preferences of certain customers (e.g., William18

son, Wachter, & Harris, 1975, pp. 256257). Longenecker and Schoen (1978) give a good illustration of how idiosyncratic knowledge may be acquired, showing the different stages of a father-son succession. In the rst stage, the son becomes aware of some facets of business and is then exposed to family members as well as the family-specic jargon. Later, the son works part time in the family business before starting to work full time in the business at nonmanagerial jobs. After awhile, the son works as manager to nally achieve the stage of a de facto leader (for a similar example, see Handler, 1989). One crucial facet of experiential knowledge in family businesses lies in exploiting the specic business networks that often form one essential pillar of successful business activities. Lee et al. (2003) suggest that idiosyncratic knowledge in family rms is often more person specic than rm specic and, therefore, is only accessible to family members or trustworthy agents. The success of a family rm in terms of its protability often depends on idiosyncratic knowledge that the managing family members possess. This knowledge consists of important personal contacts and networks and the ability to motivate employees to cooperate, as well as knowledge about local conditions and internal processes in the family rm. An insider can acquire this knowledge by learning by doing and observation.

The Contingency Model of Family Business Succession

The arguments in the previous section suggest that a family member as a successor is benecial in terms of the strategically relevant transfer of knowledge. However, one potential problem is that an inside-family successor may not possess the capabilities, competencies, and talent to manage the rm adequately. A potential internal successor has to have the experiential knowledge learned in the lifelong process of being a family (business) member as well as the general knowledge of how to manage a business and relevant technical industry-specic knowledge. As

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Promoting Family: A Contingency Model of Family Business Succession

Relevance of general and technical industry-specific knowledge

Relevance of experiential family business-specific knowledge

LOW

HIGH

Inside and outside option have same probability to be success promising

LOW

(I = O)

Outside option has higher probability of being success promising because of the greater range of talents with general/technical knowledge available on the market (I < O) Inside option is preferable (I > O), if: ISGKI + ISTKI + FSEKI ISGKO + ISTKO

I
HIGH

II

Inside option has higher probability of being success promising because of access to experiential knowledge (I > O)

III

IV

Figure 1 The Contingency Model of Family Business Succession.

soon as an external manager has an advantage with regard to industry-specic general management and technical knowledge, the outside option has to be further analyzed. Or, in a more formal way, the inside-family option is at least as suitable as the outside-family option only as long as:

ISGK I + ISTK I + FSEK I ISGK O + ISTK O ,

where: ISGKI = Industry-Specic General Knowledge of inside-family successor; ISTKI = Industry-Specic Technical Knowledge of inside-family successor; FSEKI = Family Business-Specic Experiential Knowledge of inside-family successor; ISGKO = Industry-Specic General Knowledge of outside-family successor; ISTKO = Industry-Specic Technical Knowledge of outside-family successor. Who the preferred successor is depends on the difculty of transferring relevant knowledge within a business in a specic industry environment. We differentiate situations with high or low

relevance of experiential family business-specic knowledge and situations with high or low relevance of general and technical industry-specic knowledge, resulting in the four-eld matrix depicted in Figure 1. Square I of Figure 1 describes situations where the relevance of industry-specic, general, and technical knowledge, as well as family businessspecic experiential knowledge, is low. Examples of rms tting into this category are a kiosk at an airport or a petrol station next to the highway. For these businesses, it can be assumed that all outlined kinds of knowledge are of rather low relevance with regard to realizing competitive advantage. In such businesses, an insider or an outsider are both suitable and selling the business would be possible. From this reasoning, a rst hypothesis can be derived. Hypothesis 1. In Low (FSEK) Low (ISGK + ISTK) conditions (low relevance of industry-specic, general, and technical knowledge as well as family business-specic experiential knowledge), there will be no difference in preference for internal or external successor.
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Royer, Simons, Boyd, Rafferty

Square II of Figure 1 is characterized by high relevance of industry-specic general and technical knowledge and low relevance of family business-specic experiential knowledge. In this situation, it is more probable that a suitable successor is found outside the family because of the greater range of talents with relevant knowledge available on the external labor market. This does not suggest that family members per se are inferior with regard to technical and general knowledge; if there is a successor from within the family with all relevant knowledge at hand, that would be optimal. However, since the outside market for talented human resources is much larger than the family internal market for such persons, it is suggested that there is a higher probability of nding a tting successor externally than internally. Firms in industries such as biotechnology or information technology would t into this category. The relevance of general and technical industry-specic knowledge is so crucial that family-rm- or even person-specic experiential knowledge disappears into the background. From this reasoning, a second hypothesis can be derived. Hypothesis 2. In Low (FSEK) High (ISGK + ISTK) conditions (i.e., high relevance of industry-specic general and technical knowledge and low relevance of family business-specic experiential knowledge), external will be preferred to internal successors. Square III of Figure 1 illustrates situations where a high relevance of family business-specic experiential knowledge is combined with low relevance of industry-specic general and technical knowledge. These situations may imply a preference for internal successors. Firms tting in this category can be found in the area of construction (empirical studies show that construction family rms realize 100% more turnover per employee than nonfamily businesses) (Klein, 2000) or rms engaging in different crafts (empirical studies show that in this sector, family rms realize 300% more turnover per employee than nonfamily rms) (Klein, 2000). These rms are typically
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small and medium-sized enterprises that are handed down from generation to generation. Often, the relevance of the experiential knowledge is so central that such rms die when no offspring is ready to take over. It often is impossible to sell such businesses since the valuable resources can hardly be recognized from outside and it becomes difcult to attract external buyers. For the same reason, it may be difcult to take an outsider as an employed successor if this outsider has not already worked in the rm for quite a while and thereby achieved the status of a quasi-family member. Building on this chain of arguments, a third hypothesis can be derived. Hypothesis 3. In High (FSEK) Low (ISGK + ISTK) conditions (i.e., high relevance of family businessspecic experiential knowledge combined with the low relevance of industry-specic general and technical knowledge), internal successors will be preferred to externals. Finally, Square IV of Figure 1 displays the combination of high relevance of industry-specic, general, and technical knowledge as well as family business-specic experiential knowledge. As long as the family member has more knowledge than the outsider, an internal successor will be preferable. It is also important that the offspring is expected to act less opportunistically than an outsider and that the family has better information about his or her qualications. However, if the internal successor brings less knowledge than an external candidate or there is no offspring available, the problem is how an outsider can achieve the relevant experiential knowledge. Some evidence suggests that it is possible to transform an outsider into a quasi-family member. Examples of rms tting into Category IV are companies building special machines or designing and/or manufacturing musical instruments on a largerscale basis, often operating in certain market niches as specialized medium-sized suppliers. From this reasoning, Hypothesis 4 is derived. Hypothesis 4. In High (FSEK) High conditions (ISGK + ISTK) (i.e., high relevance of industry-

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Promoting Family: A Contingency Model of Family Business Succession

specic general and technical knowledge as well as family business-specic experiential knowledge), the equation will hold true. That is, the internal successor will be preferred to an external one as long as the family member has more knowledge than the outsider.

in terms of company size [F(2, 4280) = 3.02, p > 0.05], geographic location (state [F(3, 4278) = 1.82, p > 0.05], or national zone [F(3, 4278) = 2.44, p > 0.05].

Empirical Evidence From Australian Family Firms

The transaction-cost-based framework developed above systematizes and claries relations between knowledge specicities and successor selection taking into account other contributions by Lee et al. (2003) and Bjuggren and Sund (2002). The next step is to test this model in an applied setting. Hypotheses 1 to 4 reect the suggested relations between knowledge factors and preference for internal successors. These hypotheses were tested in order to contrast the theoretical model with empirical data. As such, the theoretically derived propositions regarding succession are tested on 860 Australian family businesses. The results of this empirical study are outlined below.

Preference for an internal or external successor. In addition to a range of questions regarding the demographic nature of the CEO, company, and the availability of internal successors, two successor preference questions were asked. The rst question asked: If you had to choose a successor for your company today would you choose a family or non-family member? The second question asked the business owner: When you step down, would you prefer to appoint a family member as successor to your rm? The second question was used in this study based on respondent feedback that the rst question was somewhat unclear. Low and high knowledge industries. In determining whether a rm fell into low or high categories along the dimensions general/technical versus experiential knowledge, we used two allocation approaches. The rst approach involved using two industry experts. One expert was an insolvency expert while the other expert was a venture capital investment manager. Each expert coded each industry that provided information for the study into the various quadrants of the model based on the experts own perception of the types of knowledge relevant to business performance. The industry experts were blind to the hypotheses being tested in the study. We found a 94% concurrence in allocations by the two experts. In cases where industries were not similarly allocated in relation to the types of knowledge relevant to business performance, we asked the experts to discuss the industry with each other and decide whether they could reach agreement regarding the primary knowledge demands in that industry. We also generated a set of items to assess different types of knowledge by drawing on the theoretical literature. A range of items to assess the different types of knowledge studied were
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Methodology Sample. A questionnaire was sent to 4,471 family rms in eastern Australia and 73 family rms in Tasmania. In total, 1,108 surveys were returned, representing a 24% response rate. Of the 879 surveys that were completed by family rms, some rms had changed their ownership structure since creation of the mailing list. Initial screening of the data resulted in the removal of 19 cases due to the presence of multivariate outliers, leaving 860 rms in the study. The data were analyzed to determine whether rms that responded versus that those that did not respond differed in terms of company size (i.e., small, medium, and large), geographic location (i.e., Queensland, New South Wales, Victoria, and Tasmania), or national location (i.e., metropolitan, provincial, rural, and remote). Analyses revealed no signicant differences between respondents and nonrespondents

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Royer, Simons, Boyd, Rafferty

selected. To measure the relevance of general/ technical knowledge, we created a scale based on 11 items drawn from the existing empirical literature. An example item is: This business needs a manager with lots of technical knowledge. To measure experiential knowledge relevance, we created a scale based on 15 items.An example item is: A manager of this business requires a lot of specic knowledge not easily picked up outside the rm. Prior to conducting this study, an initial test of the knowledge items was conducted. A sample of 22 Australian MBA students rated their employing organizations in terms of the types of knowledge used in that organization. The item reliabilities were acceptable for the general knowledge items (Cronbach alpha = 0.74), the technical items (Cronbach alpha = 0.76), and the experiential items (Cronbach alpha = 0.80). Based on these early ndings, the items were then presented to a set of academic experts. These experts were asked to allocate the items into three groups assessing general knowledge, experiential knowledge, and technical knowledge. All items except for two were grouped in the expected way, indicating a 92% agreement between item and concept, suggesting a high degree of face validity. We asked the two industry expert raters to consider each of the industries studied using the general/technical knowledge and the experiential knowledge scales that we developed and described above. Using the industry experts ratings, we used median splits on the two scale scores to identify rms that could be considered as low and high on general/technical knowledge and experiential knowledge. This procedure allowed us to maximize cell size similarity so as to ensure the greatest possible statistical comparisons. Comparing the two allocation systems (the qualitative judgment of knowledge requirements in industries and a quantitative assessment of industry knowledge requirements) revealed a 70% agreement on placement of the rms into the quadrants using the two measures. We ran the results using both allocation systems to determine which method was more accurate. Table 1 summarizes the allocation process of knowledge factors
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to knowledge types. Based on the empirical data, general knowledge (GK) had an alpha reliability of 0.83 (ve items), while technical knowledge (TK) had an alpha reliability of 0.93 (six items). Experiential knowledge had an alpha of 0.80 (15 items).

Test of Hypotheses
A preliminary exploratory factor analysis of all survey questions indicated that a common method factor was not likely to be present as all the items were not found to load on a single dominant factor. Based on these ndings, no further steps to control for common method variance (CMV) were taken. Apart from the multivariate outliers indicated in the above, no further challenges to statistical assumptions (e.g., normality, linearity) were found. An exploratory factor analysis with an oblique rotation was conducted on the knowledge items to determine whether the initial literature review and expert opinions were supported. With the exception of two items, a simple structure was identied, with items loading on only a single factor at 0.3 or above. The two itemsDrive to Generate a Prot and Preservation of Family Financial Interestswere removed and the analysis was rerun. This analysis revealed a three-factor solution (using an eigenvalue of 1.00 or greater) that accounted for 69.5% of the variance. The rst factor comprised technical knowledge items and accounted for 31.4% of the variance. The second factor comprised general knowledge items and accounted for 24.0% of the variance. The third factor comprised experiential knowledge items and accounted for 14.1% of variance. Table 2 shows the detailed results of this analysis. These results suggest that with the exception of two items, the overall allocation of items to knowledge types provided by the academic experts was supported by the data. Intercorrelations between factors were calculated and signicant, although low. A small correlation was identied between general and technical knowledge (r = 0.14), but no other signicant correlations were identied between the factors

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Promoting Family: A Contingency Model of Family Business Succession

Table 1 Allocation of Knowledge Factors to Knowledge Types Item Step 1 Literature/ Authors G q6a q6b q6c q6d q6e q6f q6g q6h q6i q6j q6k q6l q6m q6n q6o q6p q6q q6r q6s q6t q6u q6v q10a q10b q10c q10d q10e q10f q10g Understanding of relationship with clients/ customers Understanding of relationship with suppliers Understanding of relationship among employees Understanding of competitors Understanding of business context Understanding business philosophy/strategy Understanding how to manage relationships between all stakeholders Demonstrated commitment to business/values Demonstrated understanding of product/services Demonstrated ability to extract above average returns Drive to generate a prot Previous management experience Based on degree of business ownership Prior legal knowledge Prior marketing knowledge Prior industry experience in other rms Prior experience in the same rm Clear vision for the future Loyalty to the family structure Tradition of handing the business down Preservation of family nancial interests Understanding of business processes that arent documented Knowledge gained at university or other educational institutions (e.g., MBA) Social competence Intercultural competence General work experience Knowledge gained in other rms in the same industry Knowledge gained in this particular rm in the form of documented, formalized knowledge Knowledge gained in this particular rm in the form of knowledge acquired in a learning-by-doing process T E X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X Step 2 Experts Step 3 Exploratory (EFA) E X X X X X X X X X X X X D X X X X X X X D X X X D X D X X X X X X X D X G T E X X X X X X X X X X D X D X X X X Step 4 Conrmatory (CFA) G T E X X X X X X X X X

G = General T = Technical E = Experiential X = Unique Loading D = Dropped from the analysis Shaded = Modication from previous step

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Royer, Simons, Boyd, Rafferty

Table 2 Item Loading from Unforced Oblique Rotation Factor Analysis Q# q10a q10e q6l q6p q6o q6n q10d q6j q6r q10b q10c q6c q10g q6b q6g q10f q6q q6i q6e q6d q6h q6f q6a q6s q6v q6t Item Knowledge gained at university or other educational institutions (e.g., MBA) Knowledge gained in other rms in the same industry Previous management experience Prior industry experience in other rms Prior marketing knowledge Prior legal knowledge General work experience Demonstrated ability to extract above average returns Clear vision for the future Social competence Intercultural competence Understanding of relationship among employees Knowledge gained in this particular rm in the form of knowledge acquired in a learning-by-doing process Understanding of relationship with suppliers Understanding how to manage relationships between all stakeholders Knowledge gained in this particular rm in the form of documented, formalized knowledge Prior experience in the same rm Demonstrated understanding of product/services Understanding of business context Understanding of competitors Demonstrated commitment to business/values Understanding business philosophy/strategy Understanding of relationship with clients/customers Loyalty to the family structure Understanding of business processes that arent documented Tradition of handing the business down Eigenvalue % Variance Technical 0.891 0.881 0.850 0.841 0.668 0.561 0.830 0.821 0.759 0.748 0.643 0.772 0.738 0.737 0.724 0.721 0.703 0.688 0.669 0.660 0.634 0.632 0.630 0.610 0.581 0.426 4.5 14.1 General Experiential

8.8 31.4

7.1 24.0

scores. These ndings, combined with the reliability data, support the argument that the three factors were not only discernible but were also reliable. Although some modest relationships were apparent between the measures, they appear to share very little variance with one another.

Industry expert allocations to quadrants. To test whether there was any signicant difference in preferences for internal/external successors across the four conditions of general/technical and experiential knowledge relevance (High Low) a 2 2 multivariate analysis of covariance
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(MANCOVA) was conducted. A number of factors were controlled for in the analysis, including the degree of business ownership by the current CEO, the availability of family members for succession selection, the previous experience of family members in management roles, and the stage of the business life cycle (i.e., new, young, growing, mature). The analysis was conducted twice, once for each allocation system (qualitative expert ratings and quantitative ratings). In the next step, the expert allocation of rms to the four conditions took place. Results of MANCOVA indicated a signicant interaction between general/technical relevance and experi-

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Promoting Family: A Contingency Model of Family Business Succession

Likelihood of Employing Internal Successor

100%

Empirical Allocation - Low Idio/Experiential Empirical Allocation - High Idio/Experiential Expert Allocation - Low Idio/Experiential Expert Allocation - High Idio/Experiential

80%

60%

40% Low General/Technical Relevance High

Figure 2 Empirical/Expert Allocation of Conditions.

ential relevance [F(4, 855) = 32.09, p < 0.001, r2 = 0.23]. Results indicated that the low general/ technical industry conditions combined with a low need for experiential business-specic knowledge resulted in a higher than 50% likelihood chance of selecting an internal successor. These results do not support Hypothesis 1 where an equal chance of selecting an internal or external successor was predicted. Similarly, when high general/technical industry conditions were combined with low need for experiential business-specic knowledge, it was hypothesized that outside successors would be preferred over internal successors. This was not found; therefore, Hypothesis 2 was not supported. However, the orientation toward outsiders was stronger under these conditions than seen for Hypothesis 1, which suggests a similar pattern of results, as was hypothesized. Analyses indicated support for Hypothesis 3, in which internal successors would be favored under conditions of high need for experiential businessspecic knowledge. Additionally, comparing low and high general/technical industry conditions (when there was high need for experiential business-specic knowledge) revealed that the mean likelihood of selecting an internal successor was not signicantly different. However, a higher mean likelihood for selecting internal successors was noted for high general/technical industry conditions compared to low general/technical

knowledge industry conditions. Figure 2 summarizes these results. Taking only those rms that fell in the high/ high category we assumed that if ISGKI = ISGKO and ISTKI = ISTKO, then the likelihood of employing an internal successor should be correlated with FSEKI. This was supported by a multiple regression of the knowledge factor scores on the likelihood of employing an internal successor for those in the high/high group. Only the experiential factor scores were predictive of the likelihood of employing an internal successor [F(1, 213) = 16.81, p < 0.001, r2 = 0.14]. These results support Hypothesis 4.

Quantitative allocation of industries to knowledge quadrants. We also examined results based on the allocation of rms to knowledge quadrants using the median split approach. Results of MANCOVA indicated a signicant interaction between general/technical relevance and experiential relevance [F(4, 855) = 45.74, p < 0.001, r2 = 0.32]. The same pattern of statistical results was found as for expert allocation, in which Hypotheses 1 and 2 were not supported and Hypothesis 3 was supported. Taking only those rms that fell into the high/ high category, experiential knowledge scores were predictive of the likelihood of employing an internal successor, using multiple regression
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Royer, Simons, Boyd, Rafferty

[F(1, 213) = 15.46, p < 0.001, r2 = 0.14]. These results support Hypothesis 4.

Discussion
This research aimed to address some major research gaps in the succession literature. In particular, we proposed that whether it is better to have an internal or external successor depends on the features of the situation as well as on the characteristics of the potential successor. We built on the work of Lee et al. (2003) as well as on that of Bjuggren and Sund (2002). We extended the perspective of Bjuggren and Sund on legal institutions, which sought to explain succession in Sweden, and systematize Lee et al. suggestions by suggesting greater specicity in the analysis of knowledge types and industry contexts. Further, we developed an innovative empirical design to generate empirical data on this relevant topic. Our theoretical and empirical analysis indicates that in situations where family business-specic experiential knowledge is highly relevant, family members are the preferred choice for succession in family businesses. If no appropriate internal successor is available, there is a need to transform an outsider into an insider-substitute or, in other words, to select a quasi-family member, such as a long-term employee, as a successor. An important contribution of this study was the decision to use a transaction cost perspective. This approach enabled an in-depth modeling and analysis of systematic situation features as well as actor characteristics and the inherent consequences for family succession. Our primary aim was to argue that selection of family successors is due, at least in part, to functional characteristics, in contrast to a purely nepotistic explanation. The theoretical model that we developed was empirically tested with data from 860 Australian family rms. We argued, in Hypothesis 3, that when the relevance of family business-specic experiential knowledge is high and the relevance of industryspecic general/technical knowledge is low, internal family successors are preferred. This was
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identied as being a 7786% average likelihood, depending on the method of allocation of rms to industry conditions (expert or empirical allocation, respectively). Results of our empirical study suggest that when the relevance of family business-specic experiential knowledge is low and the relevance of industry-specic general/ technical knowledge is also low, there was a lower preference for internal successors (67% and 58% for expert and empirical allocation, respectively). Therefore, the rst hypothesis was not supported; however, these likelihoods were noticeably higher than the anticipated 50% likelihood. When the relevance of family business-specic experiential knowledge is low and the relevance of industryspecic general/technical knowledge is high, an external successor is the most likely to be preferred (Hypothesis 2). This hypothesis was not supported as external selection was not statistically signicantly different from internal selection (49% and 43% for expert and empirical allocation, respectively). Despite the lack of support for Hypothesis 2, a reinterpretation of the results could be made in relation to the situation where relevance of family business-specic experiential knowledge is low and the relevance of industry-specic general/ technical knowledge is low (Square I of Figure 1). In this case, we hypothesized that the chance of selecting internal and external successors should be equivalent, yet we did not nd this. Instead, we found a tendency to prefer internal successors. Based on our argument, we might then conclude that there is yet another factor or set of factors at play that account for the difference of some 17% or 8%, depending on the allocation system used. We assume, therefore, that our model, although more advanced than previous conceptions, may benet from further investigation in future research. These results could potentially be explained by drawing on the idea of nepotism. That is, this result suggests that a nepotistic or sentimental inuence may also have been evident in the study. It is possible that this inuence was present in all tested conditions, leading to an ination of the likelihood of selecting an internal successor in all

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Promoting Family: A Contingency Model of Family Business Succession

squares of the model. Although no attempt was made to assess this ination factor, visual interpretation of the results suggests that it could be as large as a 17% or 8% bias (for expert and empirical allocation, respectively) toward family members across the sample if we use the results of Square I rms (see Figure 1) as the basis of our estimation. Such an ination factor was not predicted prior to the development of the hypotheses and appears to account for discrepancies between hypothesized likelihoods and the data received. With the assumption of an overall bias toward family members, the model proposed appears to have been fully supported and works as intended. Specically, the rms in Squares III and IV of Figure 1 are more likely to prefer internal candidates to a greater degree than rms in Square I, and rms in Square II are statistically less likely to prefer internal candidates than rms in Square I. Alternatively, the bias identied could be due to other relevant factors not currently incorporated into the model; further research is recommended to clarify this possibility. The ndings of this study illuminate situations where nonfamily successors are suitable. That is, external successors are often appropriate in situations where educational skills, work experience, and success in other rms of the same industry are demanded. This does not mean that family insiders lack these relevant skills. However, when technical and general industry-specic knowledge is of high relevance, family members should be compared to external applicants and go through the same assessment process as external candidates. Situations that require an internal succession candidate are characterized by a need to understand the relationships among employees and the internal rm knowledge acquired in a learning-by-doing process. These results support the rationale underlying the hypotheses of this study and the literature that suggests that idiosyncratic knowledge and stakeholder relationships are important in order to achieve competitive advantages in family businesses. Furthermore, as predicted, internal succession was preferred when experiential knowledge was considered important to the rm. Similarly, when rms required less

experiential and more general/technical knowledge, outsiders were more likely to be preferred. We also found that when the relevance of family business-specic experiential knowledge is high and the relevance of industry-specic general/ technical knowledge is high, internal family successors are preferred only when the candidate is regarded as having more combined knowledge (either internal or external). In other words, insiders and outsiders were considered on their merits or as equally valuable. The contingency model that was developed in this article suggests that family members are better successors in situations where family business-specic experiential knowledge is essential to gain competitive advantage. This model was partially supported in the empirical study. The results suggest that the context does affect succession preferences and choice. Furthermore, it appears that there are some contexts in which there is a rational reason for retaining and leveraging family business-specic knowledge. In such circumstances, there appears to be an advantage associated with the selection of family members or long-term employees as successors. The results demonstrate consistency even when the allocation of rms to high/low importance of general/ technical and idiocyncratic/experiential knowledge was conducted using a qualitative allocation procedure or a quantitative procedure using expert ratings to allocate rms to low and high industry groups. There was a high degree of overlap in the results obtained using the two allocation systems, suggesting that both approaches may be useful in future research.

Concluding Remarks
Japans family businesses have a longer life span than family businesses in many other countries. One reason for that may not only be the long-term orientation of these businesses but also the clear preference for internal successors or at least quasifamily members, such as sons-in-law who are transformed into family insiders (Kondo, 1990; Lee et al., 2003). This attitude to succession could be identied as a relevant aspect of success in this
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Royer, Simons, Boyd, Rafferty

study. The possibilities for transforming an outsider into an insider substitute, therefore, need to be further investigated. This transformation would especially require an understanding of all stakeholder relationships and internal rm processes. To acquire this idiosyncratic knowledge, the external successor needs time, but work and industry-specic experience could accelerate this process. Family rms often show extremesthey appear to be either very successful or very unsuccessful and only rarely do they fall into the ranks of mediocrity. This suggests that family rms are able to realize sustainable competitive advantages if they have the relevant family business-specic tacit kinds of knowledge and are able to effectively transfer them to the next generation. If they do not possess the relevant knowledge or are not able to transfer it successfully, no competitive advantages can be reached. So why do so many family rms fail? Although it is still unclear, the answer may lie in the correct identication and utilization of the tacit experiential knowledge. Perhaps an individual is selected who has the correct knowledge but is relatively unaware of the reasons for her or his succession or perhaps is unaware of how to utilize this knowledge to full effect. This ongoing lack of awareness is further compounded in subsequent successions. Unsuccessful family internal successions are thus a problem of the society and economy as much as a problem of the involved family. More support could be given to family rms in this relevant phase of transition after the identication and empirical test of aspects that show an economic reasoning for internal succession in certain contexts. Legal preferences for internal compared to external succession, for instance, can be justied on the basis of the ndings. Future research in the area should investigate the possibilities of improving communication and awareness of knowledge types and reasons for succession, as well as the possibilities of transforming family outsiders into insider-substitutes. An alternative route of equal relevance for family rms in practical terms would be to think about possibilities to more effectively prepare family
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insiders for their tasks in the family business, as well as to consider ongoing succession. With regard to future research, it would be interesting to analyze the reaction of stock prices to the announcements of successions within or without the family for family businesses in the form of an event study from different areas to get more insights into industry-related differences between the success probability of internal and external successors.

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Susanne Royer, International Institute of Management, University of Flensburg, Munketoft 3b, D-24937 Flensburg, Germany; royer@uni_ ensburg.de. Roland Simons, Faculty of Information Technology, Queensland University of Technology, Level 5 Margaret St., Brisbane QLD 4000, Australia; r.simons@qut.edu.au. Britta Boyd, Institute for Border Regions Studies, University of Southern Denmark, Alsion 2, DK-6400 Snderborg, Denmark; bri@sam.sdu.dk. Alannah Rafferty, School of Psychology, University of Queensland, St. Lucla QLD 4072, Australia; a.rafferty@psy.uq.edu.au.

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