Chengwei Liu & Dawn Eubanks, Associate Professors, Warwick Business School
Nepotism is detrimental to family businesses – more than 70 per cent of them fail after the first generation primarily due to poor succession decisions. Despite this well-known statistic nepotism persists, why?
One possible reason is that the family business founder may wrongly believe that their offspring, typically their son, is the most skilled candidate for the job. Consider the example of Jack, a family business owner, who is considering two candidates to succeed his position, his nephew Tom, and another non-related candidate Sam.
Due to adverse economic conditions, both Tom and Sam fail to impress Jack and both leave the company. Although neither got the job initially, Jack later hears from Tom’s mother in a family gathering that Tom is doing well in a new job and Jack then reconsiders offering him the role. The same luxury is not afforded to the second candidate, however, as he is not part of Jack’s social network.
This case illustrates a subtle sampling bias. It is natural for us to reduce interactions with those who disappoint us, even when the disappointment may result from factors beyond their control, like the bad luck suffered by Tom and Sam. But a second chance may favour those connected through a social network. This can lead to an overestimation of the ability of those within one’s clique and an underestimation of those outside the clique, resulting in nepotism.
One can argue that a father chooses his son as a successor to avoid creating conflict within the family, and that this is considered more important than the well- being of the company.
We argue that the father should take into account the long- term effect of the well-being of his son in this decision. If his son is not the ‘right’ person to run the family business, he could likely ruin the business. The father should consider a possibly better scenario: hiring a professional outsider to sustain the business while his son uses the resources from the company to realise his real potential, rather than being forced to stay.
So what is the main reason for 70 per cent of family businesses failing with its second generation? It is a simple answer in our view: the offspring who inherit the business are overconfident. On one hand, the son or daughter does not have what it takes to run the business – one should expect the skill is likely to regress downward to the mean from the founder (the father) to the son or daughter.
On the other hand, the sampling bias and the expectations from others may make the son (and the father) believe he is qualified for running the business. This combination is the most notorious business killer: overconfidence.
So what can be done?
One possible solution to nepotism is to draw lessons from Japanese family businesses. Family businesses in Japan have taken to adoption to find an appropriate successor, with adoption of males between 25-30 making up 98 per cent of total adoptions.
Another solution to overcome the sampling bias is to increase the interaction with the failed, rejected candidates who are outside the family. If leaders can use some contacts that enable information to be collected about external candidates, the sampling bias induced by nepotism can be weakened. So looking back at our example, Jack may have given Sam the same second chance he gave Tom. Leaders have to act against their natural tendency and sample those external candidates with initial negative impressions to avoid hidden gems being wrongly dismissed.
[This article is based on the work by Chengwei Liu, Dawn Eubanks and Nick Chater, of Warwick Business School, titled “The weakness of strong ties: Sampling bias, social ties, and nepotism in family business succession” published in The Leadership Quarterly.]
About the Author
Chengwei Liu is an Associate Professor of Strategy and Behavioural Science at Warwick Business School, UK, who has won several awards for papers published in management and interdisciplinary journals such as Organization Science and PNAS.
Dawn Eubanks is an Associate Professor of Behavioural Science at Warwick Business School. Her research findings appear in journals such as The Leadership Quarterly, Journal of Applied Social Psychology, Creativity Research Journal, and Human Resource Management Review.
[Image courtesy of Sira Anamwong at FreeDigitalPhotos.net]