It's not the Size, but the Way They Use Financial Products
The universe of Small Family Firms (SFFs) is important, partially unexplored and full of prejudices whereas the common understanding is that the smaller the firm the poorer are both managerial skills and financial capabilities. However, the evidence coming from the paper Are Small Family Firms Financially Sophisticated? by Stefano Caselli, Stefano Gatti (both Department of Finance) and Alberta Di Giuli (ISCTE Business School), forthcoming in Journal of Banking and Finance (Volume 35, Issue 11, November 2011, doi: 10.1016/j.jbankfin.2011.03.021), gives a very different and more complex perspective.
The main finding coming from the paper is that SSFs which are able to keep their family nature and culture but also insert a variety of different factors improving their managerial attitude show a stronger level of financial sophistication and a higher capability to react to market because of their better financial background. The main factors are related to new generations, to external shareholders and to external managers becoming CEO and/or CFO.
To understand whether SFFs use only basic financial products (such as checking and saving accounts) or make also broad use of non-basic products (such as mergers and acquisitions advisory, factoring and leasing) and to realize what are the characteristics of financially sophisticated SFFs in terms of generation, size, governance and financial advisory, the authors formulated a questionnaire in collaboration with the Chamber of Commerce of Milan, and sampled 544 small firms that operate in Italy. The surveyed firms were asked to report an extensive list of characteristics and financial policies. Non-basic products were divided into four broad categories depending on the needs served: corporate finance products, cash management products, corporate lending products, and risk management products. For each category, the authors developed a score of financial sophistication that measures the number of different non-basic products a firm adopts.
SFFs are extremely sophisticated, especially with regards to the corporate lending and corporate finance product categories. Generation, external ownership, and non-family CFOs affect SFFs choices of non-basic financial products, although differently in the four product categories studied.Firms that have an external shareholder and that hire a non-family CFO show a wide variety of non-basic financial products in three of the four product categories (cash management, corporate lending and risk management), and hence are more willing to have the "multiple interactions" with banks that lead to stronger relationships with financial intermediaries.
These results are relevant for SFF owners' choices when they seek to establish a long-term relationship with a bank (for example, whether to hire a non-family member as CFO or to allow an external shareholder in the ownership structure) and for financial institutions that target SFFs.
These results have practical implications for the choices of SFF owners regarding the existence of a non-family CFO, CEO and non-family shareholders. A firm that is searching for a strong and long-term relationship with banks through multiple interactions (i.e. the purchase of multiple products from a bank) and is seeking, for example, a higher level of sophistication in terms of cash management products, should consider hiring an external CFO.In contrast, hiring a non-family manager would have no impact.
Consideration of the pros and cons of allowing an external shareholder into the ownership of a company should take into account the higher level of financial sophistication that the presence of an external shareholder can provide for corporate lending and risk management products. Firms in their first and second generations should be aware of their tendency to have a low level of financial sophistication, which could undermine their relationship with banks and eventually their growth.
The findings might also be useful for the financial institutions that supply financial products to SFFs. They could eventually tailor their products based on SFF characteristics (generation, presence of external shareholders and CFO).