Family Owned Business Institute

Research Scholar's Abstracts 2009 - Esra Memili, Kaustav Misra, James Chrisman

Non-family Managers' Compensation in Family Firms: Tournament and Game Theory Perspectives
Esra Memili, Kaustav Misra, James J. Chrisman
2009

In our research, we use elements of tournament theory to model the managerial compensation decisions of small and medium-sized family firms concerning non-family managers. We explain how competition in the managerial labor market can affect non-family employees' compensation in family firms. Importantly, we argue that the pursuit of non-economic goals in family firms may limit non-family managers' opportunities for career advancement. This managerial disincentive would seem to require family firms to offer higher compensation in order to attract non-family managers with talents equivalent to those available to non-family firms. Furthermore, the cost of effort in hiring non-family managers may be greater for family firms because doing so can decrease their ability to achieve non-economic goals. Accordingly, we suggest that the utility of hiring family managers rather than non-family managers has both economic and non-economic elements. As tournament theory assumes a one-round game, we also draw on game theory to deal with longer term and mixed strategies in explaining the managerial compensation decisions of family firms. This analysis reinforces our preliminary conclusions. A long-term Nash equilibrium is only achieved when the compensation packages of family and non-family firms are equivalent. However, family firms are at an inherent disadvantage in hiring non-family managers and have a non-economic disincentive to do so. Thus, the movement toward equilibrium in the managerial labor market can result in the winners curse for family firms in attracting qualified non-family managers. In order to hire them, they must overpay and reduce their aspirations for non-economic goal achievement. Consequently, the preference of family firms to hire family managers rather than non-family managers is economically rational.