Private Equity Minority Investments: An Attractive Financing Alternative for Family Firms

Private equity minority investments have become an increasingly attractive financing alternative for family firms. However, admitting a private equity investor as a minority shareholder seems to contradict with the objective of the owner family to preserve their continuous and unlimited influence on the businesses since they must at least partially cede control over the firm to the private equity investor. Therefore, the purpose of this book is to identify the primary decision drivers for family firm entrepreneurs in seeking private equity financing despite the therein related partial loss of control. By giving special consideration to the potential cooperation mechanisms between the shareholders, this book goes beyond the scope of previous studies. Cooperation is thereby considered as a prerequisite for the success of minority investments because due to its minority position, the private equity investor is not able to implement its value creation strategy against the will of the family firm entrepreneur.

Autorentext

Alexander M. Franke, born in Frankfurt am Main, Germany in 1989, holds a degree in Business Administration (B.Sc.) and Finance (M.Sc) from Frankfurt School of Finance and Management. He gained first experience in the banking industry by working in the corporate finance department of a large German Landesbank. Today he works in the structured finance unit of a leading international bank in Frankfurt am Main. Focussing on corporate finance topics during his master studies, the author was fascinated by the increasing number of family firms accepting private equity firms as minority investors. His research led to the present study examining the cooperation mechanisms between family firms and private equity investors.

Leseprobe
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Chapter 3.1, Development of the research questions:
The first research question is formulated as: Why do family firms demand private equity minority investments? This research question is elaborated in order to obtain a wide range of reasons for family firms to accept private equity minority investments. The priority in the data gathering process for this part of the empirical study is to obtain a clear picture of the economic, financial and managerial situation of the family firm at the starting point of the equity minority investment. The thinking behind this approach is that in family firms, the family literally plays a key role that results in considerable distinctions when compared with other organisational forms of business. Research indicates that the strategic decisions of family firm owners are, to a large extent, driven by non-financial aspects that can be summarised with the term "socio-emotional wealth" (Mejía et al., 2007, p. 106). Due to their strong identification and emotional attachment to the business, owner families show a strong commitment to the preservation of family control in the firm. This is the reason why the strategic decisions of family firms and the ability of the family to take risk are highly dependent on the requirements of maintaining the optimal level of socio-emotional wealth (Mejía et al., 2007, p. 134). Family firms' demand for private equity financing, even in form of minority investments, seems to contradict with the concept of socio-emotional wealth preservation because to some extent, the family loses control over their business. Consequently, this thesis seeks to discover the reasons why family firms demand private equity minority investments despite this partial loss of control.
The second research question is formulated as: How do non-financial benefits influence the family firm's decision for private equity minority investments? The reasoning behind asking this research question is mainly attributable to capital structure theories. Studies on the capital structure decisions of companies have indicated that the financing decisions of companies follow a pecking order framework in which external equity is considered as the financing of last resort (Myers, 1984, p. 576). An empirical study conducted by Tappeiner et al. (2012, p. 45) shows that family firms have a demand for "smart money" and therefore value the experience, know-how and network of private equity investors when providing them with voting rights. With regard to the potential benefits of private equity as described in the literature review, the family firms' demand for non-financial benefits in the fields of corporate governance, professionalisation, financial network, M&A expertise, internationalisation and access to the portfolio companies' network have been examined in the context of the empirical study at hand.
Kaplan & Strömberg (2009, p. 143) indicate that private equity investors have developed operational engineering methods that enable them to create value as minority shareholders, i.e., without taking over the control over the whole company. In this regard, the third research question addresses the cooperation mechanisms between family firms and private equity investors: What are the mechanisms that incentivise the cooperation between family firms and private equity investors in the course of private equity minority investments? The consideration behind this question is to identify the mechanisms that allow private equity investors to implement their value creation strategy and apply their operational engineering methods in the family firm despite their minority position. There are basically two possibilities for private equity minority shareholders to exert influence on in the family firm. First, the private equity investor has the possibility to compensate for the lacking control rights through the determination of special contractual privileges. Second, the private equity investor can work to