Academic research shows that family firms – the most prevalent type of business organization around the world – make decisions about acquisitions differently. Some aspects of such distinct acquisition behavior have been identified clearly. For instance, family firms undertake acquisitions less often than nonfamily firms. Other aspects, however, are far less understood. Whether family firms are more or less inclined to acquire targets in similar or unrelated industries is one of these more controversial aspects of family firms’ acquisition behavior, which we investigate in our study published in the Journal of Management Studies.

Why do companies acquire one another and why family firms do it differently?

Companies undertake acquisitions to pursue a broad range of growth and value-creation opportunities. These include – but are not limited to – expanding the firm’s product portfolio, securing some novel technology or entering new markets. Several decades of research on the performance effects of acquisitions, however, show quite unambiguously that companies often struggle to capture the value that they intend to create through these transactions. To make a very long story short, the main reasons why firms fail to capture acquisitions’ value relate to overestimating potential synergies and the target’s value, having an excessive confidence in the ability to turn around under-performing targets as well as facing difficulties in the integration of the acquired entities. Regardless of the specific reason why a particular acquisition may ultimately impact a company’s bottom-line negatively, the intrinsic riskiness of these transactions is thought to lie at the core of family firms’ distinctive acquisition behavior. Specifically, family firms make their strategic decisions based on two fundamental utility functions concerning both the financial outcomes and the impact on the affective endowment that the family vests in the firm (i.e., its socio-emotional wealth). Unfortunately, gains in one of these utility functions often come at the expense of losses in the other utility function. This is what is referred to as “the mixed-gamble” of family businesses.

Why are acquisition decisions mixed gambles?

Family firms’ acquisitions entail potential losses in terms of both financial results and socio-emotional wealth. Broadening the firm’s product, technology or market portfolios, for instance, often requires new expertise and knowledge, which results in hiring new managers, directors and advisors as well as building relationships with new suppliers and partners. In turn, this may cause tensions between family managers and non-family professionals that climb towards apical positions within the organization. In addition, ties to new organizations may erode long-lasting relationships with historical partners and suppliers. Finally, more diversified product portfolios may dilute the consistency of the firm image and the significance of the firm-family identity relationship. In sum, these examples of potential socio-emotional losses add to the intrinsic financial riskiness of an acquisition and are even higher in the case of unrelated acquisitions. Relative to nonfamily firms, then, family firms that undertake an acquisition face an additional layer of risks, which they need to balance with the intrinsic financial risk. As a result, what we propose in our study is that the extent of an acquisition’s financial riskiness determines how much socio-emotional risk family firms can afford to bear: the smaller the former, the larger the latter.

How we tested this risk-containment acquisition strategy and what we found

We analyzed a global sample of over one thousand international acquisitions by listed family and nonfamily firms. We found that family firms tend to acquire related targets (i.e., operating in the acquiring firm’s original industry) when market uncertainty, which we captured through a measure of sales variability, is high. The underlying rationale is that acquisitions’ financial risk tends to be higher in more uncertain markets, so that the room to accept higher socio-emotional risk from unrelated targets will be small. However, we also found that, when the formal institutions of the host country are similar to those of the home country, family firms are more open to acquire targets in different industries – and thus to take on additional socio-emotional risk – even when market uncertainty is high.

So what?

The main takeaways of our theory and findings unfold over two dimensions. On the practical side, we show market observers (analysts, investors, scholars, students, etc.) that family firms’ strategic decisions are not necessarily conservative or cautious – as past scholarship traditionally contends – but they are simply crafted to account for more than just the financial risk. On the academic side, our results suggest that the markets and the institutional contexts influence family firms’ decision to undertake diversifying acquisitions. As past research paid little attention to such contexts, our results help reconcile the contradictory empirical finding of previous studies.

If you are interested in learning more about family firms’ acquisition decisions, please take a look at our full study here: https://onlinelibrary.wiley.com/doi/full/10.1111/joms.12932