The Return to Risk Tradeoff in Norwegian Family Firms

Abstract

In this master thesis we investigate whether a tradeoff between return and risk exists for Norwegian non-listed family firms. Financial theory suggests that higher performance in terms of return on an asset comes as a compensation for a higher level of risk on that asset. Since the family relation between the controlling owners of the firm, and or between the owners and the CEO, may induce other incentives and motivations regarding return and risk preferences, this relationship seems to break when it comes to non-listed family firms in Norway. Previous literature is rather narrow by only separating between family and nonfamily firms. In order to provide more transparency to the topic and new contribution to literature, we define four different types of family firms. The entrepreneurial family firms are where a single owner is also CEO, and the firm age is not above ten years. The single owner family firms are where the owner is also CEO and the firm age is above ten years. Further, we define the classical family firms where there is more than one owner from a family where that family has ultimate ownership above 50%. For the classical family firms, we divide between those who have CEO from the family with the largest ultimate ownership and those who do not. According to theory and previous literature, the different firm types are supposed to behave differently as a result of different governance structures and preferences regarding time horizon for goal setting, profit maximization versus non-financial benefits and possible agency costs. The findings of this thesis suggest that indeed, the different firm types do behave differently, which may seem to have an effect on the return to risk tradeoff. By breaking down the family firm structure in different definitions, we learn that the picture is more nuanced and complex than initially anticipated. To investigate our hypothesis, the methodology for the core segment of analysis includes pooled least squares models and fixed effects models. For the purpose of robustness tests, propensity score matching models, Heckman self-selection models and switching regressions models are used. Consenting literature suggests that young entrepreneurial firms take on extensive risk without obtaining the performance to justify it. To investigate whether this relationship holds for the Norwegian firms, an additional cohort study is also conducted. We use the same methodology regarding models, however the sample is quite different. In this study we compare firms which are born in the same year over five years. The cohort sample also allows us to make descriptive inferences regarding firm survival. The thesis provides evidence which suggests that all family firms with family CEO, compared to non-family firms, seem to enjoy higher performance, measured by return on assets, while bearing less risk, measured by volatility in revenue. Finally, the entrepreneurial family firms and the classical family firms with family CEO are associated with the highest return to risk ratio. Most intriguing is it that the results from the core analysis and the cohort study find contradicting evidence to the literature which suggests that entrepreneurial firms are burning money. Striking results suggest that the return to risk tradeoff from financial theory may not hold and thus provide evidence to support that family related characteristics indeed have an effect on performance, risk and the return to risk tradeoff.