Are Small Family Firms Financially Sophisticated?

ARE SMALL FAMILY FIRMS FINANCIALLY SOPHISTICATED?
1*
Alberta Di Giuli
ISCTE Business School
alberta.digiuli@iscte.pt
Stefano Caselli
Bocconi University
stefano.caselli@unibocconi.it
Stefano Gatti
Bocconi University
stefano.gatti@unibocconi.it
February 2011
Abstract
We study the drivers of financial sophistication in small family firms. Sophistication

is defined as the use of non-basic financial products such as options, swaps, debt
restructuring, and mergers and acquisitions (M&A) advisory services. Our analysis is based
on a unique dataset with detailed information on 187 Italian family firms. We find that the
main drivers of financial sophistication are: 1) the generation that currently owns the firm; 2)
the presence of a non-family CFO; and 3) the existence of a non-family shareholder. We
analyze the impact of these factors on the following four classes of non-basic financial
products: corporate finance, cash management, corporate lending and risk management. Our
results can be used to determine the characteristics of financially sophisticated family firms
and whether their corporate governance and ownership structure increase the use of non-basic
financial products.
JEL classification: G32; G21

Keywords: Family firms; Small firms; Financial products
*The authors thank Josh Lerner, John Doukas and seminar participants at the Conference of the International
Council for Small Business, Johannesburg June 2004, the 18th Australasian Finance and Banking Conference,
Sydney, December 2005, the 15th EFMA Annual Meeting, Madrid, July 2006, for helpful comments and
suggestions.
1
1. Introduction
This paper examines the adoption of financial products by small family firms (SFFs).
While most SFFs adopt a wide range of basic financial products (such as electronic fund
transfers, remote banking, international bank transfers, bill discounting, advances subject to
collection, and mortgages), only a limited number of SFFs utilize non-basic products (such as
mergers and acquisitions, leveraged buy-outs, management buy-outs and debt restructuring
advice, cash management, short money, factoring, financial leasing, syndicated loans,
commercial paper advisory and structuring, futures, swaps, options and forwards). We are
particularly interested in understanding the characteristics of this second group, financially
sophisticated SFFs.
Most of the existing literature on SFFs focuses on basic lending products. We study a
broader set of financial products. A more financially sophisticated firm that chooses to adopt
non-basic financial products is sending a signal to financial institutions that the firm is
seeking a long-term relationship with banks. In fact, relationship banking is defined as “the
provision of financial services by a financial intermediary that i) invests in obtaining
customer specific information… and ii) evaluates the profitability of these investments
through multiple interactions with the same customer over time and/or across products.”
(Boot, 2000, p.10, emphasis added). Two critical dimensions of relationship banking are the
existence of proprietary information and multiple interactions, “often through the provision of
multiple financial services” (Boot, 2000, p.10).
Relationship banking, as Boot (2000) shows, is comprised not only of the provision of
funds, but also other financial services such as cash management. These services expand the
amount of information available to the intermediary. The information that banks obtain in
selling multiple services – particularly non-basic ones – to the same customer may be of
value in lending to that customer (Degryse and Van Cayseele, 2000).
2
For small medium enterprises credit availability is a very important element for their
development (Binks and Ennew, 1997), and banks are the main provider of credit. Binks and
Ennew (1997) argue that, “participative firms [small firms that seek to establish a relationship
with the bank]… receive much better quality with respect to charges and interest rates”
(p.173; see also Berger and Udell, 1995). Banks in fact might provide loans that are not
profitable in the short run for the financial institution but that could build an advantageous
long-term relationship with the firm (Boot, 2000).
Hence, a firm’s interest in a broader choice of non-basic products is a signal to banks
that a firm may be looking for a special relationship with the financial institution, which
could lead to a higher level of care and attention, less credit constraints and, consequently, to
higher growth opportunities that are essential to small and medium enterprises (SMEs). For
this reason, it is important to study not only the lending products, but the entire range of non-
basic financial products bought by SMEs.
Our analysis focuses on family firms (FFs) among the universe of small businesses
(SBs). In the U.S. they generate 60% of the country’s business revenues (Heck and Stafford,
2001). SFFs play a key role around the world.

1
Furthermore, FFs are predominant among SBs in Italy (Corbetta and Montemerlo,
1999; Donckels and Fröhlich, 1991) and in the U.S. FFs constitute one-third of S&P 500
firms (Anderson and Reeb, 2003; Perez-Gonzalez, 2006).2
1
Morck, Stangeland and Yeung (2000) study family businesses around the world. They use the average
billionaire wealth (over national GDP) as a proxy for the incidence of family businesses in different countries.
The level of incidence of family businesses varies a lot across countries (1.1% for the United Kingdom, 2.4%
for OECD countries as a whole, 4.4% for the United States and Canada, 4.5% for Latin American economies,
13.3% for East Asian economies). Bennedsen, Nielsen and Wolfenzon (2004) define a FF as one in which the
family has at least 50% ownership, and find that 89% of companies in Denmark are family businesses.
3
SFFs have particular financial needs that stem from their small size and the nature of
family ownership.3 In addition, SFFs have fewer resources compared to larger firms to
survive changes in the state of the economy.4 In this context, our empirical study addresses
the following questions: 1) Do SFFs use only basic financial products (such as checking and
saving accounts), or do they also make broad use of non-basic products (such as mergers and
acquisitions advisory, factoring and leasing)? 2) What are the characteristics of financially
sophisticated SFFs in terms of generation, size, governance and financial advisory?
To address these questions, we formulate a questionnaire in collaboration with the
Chamber of Commerce of Milan, and sample 544 small firms that operate in Italy. We ask
the surveyed firms to report an extensive list of characteristics and financial policies. In
particular, our questionnaire gathers detailed information about demographics, ownership
structure, governance, financial management, key financial decision makers, financial
products purchased and reasons for satisfaction or dissatisfaction in relations with banks.
Among the financial products adopted by SFFs, we distinguish the basic from the
non-basic products as defined above. We divide non-basic products into four broad categories
depending on the needs served: 1) corporate finance products, 2) cash management products,
2
According to the Federal Reserve’s 1998 Survey of Small Business Finances, SBs contribute half of U.S.
private sector output (Bitler, Robb and Wolken, 2001). Interestingly, more than 90% of SBs in the U.S. are
managed by their owners.

3
Financial management is particularly critical for these firms. For a review of the SB financing literature, see
Berger and Udell (1998). Aronoff (1998) studies the complexity of the financial techniques adopted, while
Coleman and Carsky (1999), Cole and Wolken (1995) and Bitler, Robb and Wolken (2001) study the use of
financial products mainly focusing on lending products.

4
“Financial management of family business used to be straightforward. A business was bootstrapped or started
with a loan from Uncle Harry and typically had as its goal making plenty of cash (but not profit) and getting and
staying out of debt. Sophisticated financial management was for Wall Street, not Main Street” (Aronoff, 1998,
p.183).
4
3) corporate lending products, and 4) risk management products. For each category, we
develop a score of financial sophistication that measures the number of different kinds of
products a firm adopts. For example, a firm has the highest level of financial sophistication in
the corporate finance category if it adopts all four non-basic products in that category during
the three years period (2000-2002) covered by the survey.
We analyze the following SFF characteristics: 1) the generation of the family that
owns the SFF; 2) the presence of an external (i.e., non-family) chief executive officer (CEO)
and chief financial officer (CFO); 3) the existence of external shareholders; and 4) the size of
the firm. Our main finding is that SFFs are extremely sophisticated, especially with regards to
the corporate lending and corporate finance product categories. Generation, external
ownership, and non-family CFO 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 an
higher variety of non-basic financial products adopted 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.
The paper proceeds as follows. Section 2 defines SFFs, while Section 3 describes the
criteria for financial sophistication and the non-basic financial products. Section 4 reviews
the relevant literature and introduces the hypotheses. Section 5 explains the data and
methodology. Section 6 presents the results and Section 7 discusses them. Section 8
concludes.
5
2. FFs and SBs
This section explains our criteria for defining SFFs, which are based on the definition
of 1) SBs and 2) FFs. For SBs, we adopt the European Union (EU) definition, which is based
on the following ceilings for inclusion in the SME category: 250 or fewer employees,
turnover of less than or equal to 50 million Euros and total assets of less than or equal to 43
million Euros (Commission of the European Communities, 2003).
We base our definition of FFs on past studies. La Porta et al. (1999), Claessens et al.
(2000) and Faccio and Lang (2002) use 10% and 20% ownership thresholds to study large
publicly held firms. However, the appropriate threshold to define a firm as a “FF” should be
based on the dispersion of corporate ownership within a country. For example, Bennedsen et
al. (2004) adopt a 50% ownership threshold in the case of Denmark.
To qualify as a FF in our definition of SFFs, we adopt a strict criterion by adding to
the EU definition of SB the following filters for a firm to qualify as a FF: 1) the family has a
majority stake (more than 50% ownership); 2) the family is involved in the business and
family members have effective decision power (either because the CEO is a family member
or the family controls the majority of the board); and 3) the CEO recognizes that the firm is a
family business.
3. Financial sophistication and non-basic financial products
Our database contains a range of financial products that are more or less widely
adopted. We identify two broad classes of products according to the number of firms that use
them. On the one hand, basic products are essentially commodities adopted by almost all
firms (95%). They are essential to the operations of the firm and they have no correlation
with any of the firm’s characteristics (such as size, generation, external CEO or shareholder).
6
These basic products include electronic fund transfers, remote banking, international bank
transfers, bill discounting, advances subject to collection and mortgages.
On the other hand, non-basic products are used only by a subset of firms. Non-basic
products are mergers and acquisitions (M&A), leveraged buy-out (LBO), management buy-
out (MBO), debt restructuring advice, cash management, short money, factoring, financial
leasing, syndicated loans, commercial paper advisory and structuring, futures, swaps, options
and forwards. Consistent with the findings of Elliehausen and Wolken (1990), the use of our
complex product categories increases with firm’s size.5
In our data set, there are two additional products (corporate credit cards and finance
bills) that we exclude from the analysis. We exclude corporate credit cards because the
distinction between corporate and personal credit cards is often arbitrary. We exclude finance
bills because they are adopted by only a very small number of firms (3 firms).
We classify non-basic products into four different categories based on the needs
served: 1) corporate finance, 2) cash management, 3) corporate lending, and 4) risk
management. For each of these categories, our score of financial sophistication counts the
different kinds of products adopted at least once by a firm. For example, if a SFF uses three
of the four non-basic products we have identified in the corporate finance category, this
firm’s score of financial sophistication in the corporate finance category is three. Table 1
summarizes our classification of non-basic financial products.
5
Elliehausen and Wolken (1990) analyze the following products: Checking, savings, leasing, line of credit,
mortgage, motor vehicle loan, equipment loan, and other types of loans. The percentage of SBs that adopt these
products is similar to the percentage that adopts the products analyzed in our study. Elliehausen and Wolken
(1990) classify leasing and lines of credit as complex products. As with our non-basic products, these complex
products are adopted by a subset of firms. The use of non-complex products is not linked to any particular
characteristic of the small firms.
7
* * * Insert Table 1 about here * * *
For the purposes of this study, we define a firm to be more financially sophisticated in
one of the four specific financial product categories when it uses a broader range of non-basic
financial products within this given category. The measures of financial sophistication
presented in the literature are based either on the financial techniques adopted (such as capital
budgeting, discounted cash flow analysis, and risk management), as in Filbeck and Lee
(2000) and Aronoff (1998), or on President/CEO self-assessment, as in Sonfield and Lussier
(2004).6 Therefore previous studies on financial sophistication mainly focus on internal
financial methods rather than external products provided by financial intermediaries.
Furthermore the existing literature on financial products focuses on lending products (see
Coleman and Carsky, 1999). Finally we are not aware of any study that analyzes the financial
products used by SFFs and the drivers of their choices.
The literature on FFs is recent, although growing (for a review of the family
businesses literature, see Bird et al., 2002; Rogoroff and Heck, 2003; Sharma, 2004; Winter
et al., 1998, among others). Recently, academics have turned their attention to the differences
in performance and value of FFs vs. non-FFs, and of FFs with differing characteristics.7 The
newness of the literature about FFs in general and FFs’ financial issues in particular, can
6
In the survey, the authors ask firms’ presidents or CEOs to give a score between 7 (“describes our firm”) and 1
(“does not describe our firm”) to the following statement: “This firm’s top management uses sophisticated
methods of financial management (such as capital budgeting, breakeven analysis, discounted cash flow, sales
forecasting, etc.)” (Sonfield and Lussier, 2004, p. 202).

7
See Adams, Almeida and Ferreira, 2009; Anderson and Reeb, 2003; Basu, Dimitrova and Paeglis, 2009;
Bennedsen and Nielsen, 2010; Burkart, Panunzi and Shleifer, 2003; McCann, Leon-Guerrero and Healey, 2001;
McConaughy and Phillips, 1999; Morck, Stangeland and Yeung, 2000; Perez-Gonzalez, 2006; Sraer and
Thesmar, 2007; Villalonga and Amit, 2006.
8
explain why there is a large gap in knowledge of the financial products adopted by these
firms.8 The SB financial literature focuses mainly on credit constraints and the financing of
SBs (for a review of the literature, see Berger and Udell, 1998).
Few studies have analyzed financial products; again, they focus mainly on credit
products (Biltler et al., 2000; Cole and Wolken, 1995; Elliehausen and Wolken, 1990).
We mainly refer to studies about financial techniques and to the few about financial
products in order to identify those SFF characteristics that might lead to the adoption of non-
basic products (and consequently to an understanding of the level of financial sophistication
of each SFF). Past studies find that some variables do affect the use of financial techniques,
specifically, size, generation, presence of an external CEO or CFO, and presence of an
external shareholder (a non-family member). In the next section, we present the main
characteristics that previous studies find to be drivers of the use of financial techniques.
Based on these characteristics, we then build our hypotheses.
4. Hypotheses
4.1. SFFs and generation
The first SFF characteristic analyzed in our study is the generation of the family that
owns the firm. Filbeck and Lee (2000) analyze the extent of implementation by FFs of capital
budgeting, risk adjustment and working capital techniques, which they use as proxies for the
sophistication of a firm’s financial management. They find that third and older generations
SFFs tend to implement more sophisticated techniques compared to firms in their first and
second generations. However, the evidence in Filbeck and Lee (2000) that third-generation
and older companies adopt more sophisticated financial analysis techniques is mixed; they
8
Among the few studies about FFs and financing issues Boubakri and Ghouma (2010) show that family control
has a positive effect on bond yield-spreads and a negative effect on bond ratings.
9
find differences between generations only for some of the techniques analyzed (namely the
risk management technique of Monte Carlo simulation and the working capital techniques of
sales forecasting and accounts receivable).
The literature also finds that FFs in their second, third, fourth and later generations are
less valuable (in terms of Tobin’s Q) than firms in their first generation (see Villalonga and
Amit, 2006). However, to our knowledge, no study examines the differences in the financial
products used and their drivers.
Hence we analyze the sophistication of firms’ financial policies by focusing on their
current family generation. We argue that third and older generations develop more
sophisticated financial policies than their predecessors in order to respond to the increasing
complexity and diversity of the firm’s financial needs. According to this theoretical and
empirical groundwork, we make the following hypothesis:
H1: Third and older generations SFFs are more financially sophisticated than first- and
second-generation SFFs.
4.2. SFFs and external CFO and CEO
The second aspect analyzed is the existence of a non-family CEO and/or CFO. There
are few studies in the literature on the effects of an external CEO or CFO on financial
techniques and innovation and results are mixed. Filbeck and Lee (2000) argue that FFs with
an external CFO 1) tend to use more sophisticated capital budgeting techniques and 2)
employ less modern risk-adjustment techniques.
There is no direct evidence with respect to the impact that external CEOs and CFOs
have on the incentives to adopt innovative financial products. However, the presence of a
10
professional CEO in a SFF seems to affect the broader inclination to innovate. Furthermore,
especially in the case of descendants, non-family CEOs and CFOs enhance firm performance
and value (see Anderson and Reeb, 2003; Bennedsen et al. 2007; Burkart et al., 2003; Caselli
and Di Giuli, 2010; Caselli and Gennaioli, 2003; Morck et al., 2000; Perez-Gonzalez, 2006;
Smith and Amoako-Adu, 1999; Villalonga and Amit, 2006). Based on these findings, we
expect that the introduction of a non-family CEO or CFO to the firm will govern the choice
of financial products used, leading to our second hypothesis:
H2: SFFs with an external (non-family) CEO or CFO are more financially sophisticated than
those without an external (non-family) CEO or CFO.
4.3. SFFs and external shareholders
The third characteristic of FF that we study is the presence of non-family shareholders
within the company’s ownership. Filbeck and Lee (2000) find that FFs characterized by
“outside influence” (i.e., external shareholders on the board of directors), are more likely to
employ sophisticated modern capital budget techniques compared to other family businesses,
though they are less likely to use modern risk-adjustment techniques.
External shareholders can play an important networking role, facilitating access to
resources and, in the context of our study, financial products that the firm might otherwise
not have been able to access. An outside shareholder can be the bridge between a SB and
financial markets and institutions (as shown in Voordeckers et al., 2007). By extension, we
argue that the presence of external shareholders should increase the level of financial
sophistication in terms of products used.
11
H3: SFFs with external shareholders are more financially sophisticated than SFFs without
external shareholders.
4.4. SFFs and size
Finally, we turn to the effect of firm size on the financial sophistication of SFFs. Gallo
and Vilaseca (1996) analyze Spanish FFs and find a significant relationship between the size
of the firm and the different types of financing products purchased. The authors observe that
the variety of products purchased is greater for large FFs. Bitler et al. (2000) and Cole and
Wolken (1995) observe that the likelihood of a SB using a financial service increases with its
size.
Using the 1993 National Survey of Small Business Finances, Coleman and Carsky
(1999) analyze the financial products used by SFFs. Their study focuses on credit lending.
The authors find that increasing SFF size has a positive impact on the adoption of these
financial products. Niskanen and Niskanen (2006) observe that the use of accounts receivable
is positively related to SB size in the Finnish market. Based on these findings, we argue that
size is a driver of financial policy sophistication.
H4: Larger SFFs are more financially sophisticated than smaller ones.
5. Data and methodology
5.1. Sample and questionnaire
12
We sent our questionnaire to 544 businesses.9 The sample closely resembles the
composition of the screened universe with respect to the number of firms in each industry and
the average number of employees in each firm. The questionnaire response rate was rather
high – 205 firms, or 38%. This is probably due to the fact that the questionnaire was
introduced along with the annual survey of the Chamber of Commerce.10 The questionnaire
has five sections:
1) general information about the firm: legal status, year of constitution, industry, number of
employees, assets, sales, leverage, and cash flow;
2) ownership structure and governance: number of family members involved in the business,
presence of external shareholders, generation of the family that currently owns the
business, presence of a family or non-family CEO, recognition by the CEO that the firm is
a FF, existence of a parent firm, number of branches, and presence of a fund in the
ownership structure;
3) general information about the financial management and the key financial decision
makers: number of banks (native and foreign) used by the firm, purchase of products from
investment banks and presence of an external CFO;
9
These are the firms annually surveyed by the Chamber of Commerce that satisfy our criteria for small
businesses family firms. That is, they are small businesses according to the EU definition, and they have a single
owner with absolute control (see Section 2).

10
The distribution of firms that answer the questionnaire accurately represents the sample and consequently, the
universe of firms. The only exception is in the “agriculture, hunting and forestry” industry, from which we
received no responses; however, these firms comprise only 1% of our SFF universe. We also study firms that did
not reply. They do not show particular characteristics in terms of industry, employees, age or legal status. In
addition, to control for selection bias in the response of the questionnaire, we use a Heckman selection model
(Heckman, 1979). For an application of selection models in corporate finance see Li and Prabhala (2007).
13
4) products purchased: electronic fund transfers, remote banking, cash management,
international bank transfers, corporate credit cards, bill discounting, advances subject to
collection, factoring, financial leasing, operating leasing, mortgages, syndicated loans,
commercial paper, finance bills, money at short notice (short money), futures, options,
swaps, forwards, securitization, M&A, LBO, MBO and debt restructuring advice. In our
questionnaire, we ask if the firm has used each kind of product (e.g., M&A advisory)
during the period 2000–2002. This variable takes the value of 1 if the product was used or
zero if it was not.11
Analyzing the questionnaire results against our definition of a FF, we find that all but
18 of the respondents in our sample are family businesses in the sense that they satisfy the
following two requirements: family involvement in the business, and recognition by the CEO
that the firm is family-run (see Section 2). Among the 18 exceptions, in some firms the family
is no longer involved in the business and in others, the CEO does not consider the firm to be
family run due to the fact that the business is transitioning to non-family status. Table 2
contains descriptive statistics of the main variables analyzed.
5.2. The model
We examine the four product categories separately. Our first task is to explain how we
measure them. In our questionnaire, we ask if the firm has used each type of product (e.g.,
leasing) in the period 2000–2002. This yields a dummy with value 1 if the type of product
was used, 0 if it was not. We sum up the dummies for each category (for example, for the
corporate finance category we have four kinds of products/dummies to add, with a final value
11
An explanation of the main financial products analyzed in this study is provided in the Appendix, Table A.
14
that ranges from 0 to 4, while for the cash management category we have 2 kinds of
products/dummies and the category score ranging from 0 to 2) in order to obtain one score for
each product category (four scores in total).12
We subdivide the non-basic products into the categories of corporate finance (M&A,
LBO, MBO and debt restructuring advice), cash management (cash management and short
money), corporate lending (factoring, financial leasing, syndicated loans and commercial
paper advisory and structuring) and risk management (futures, swaps, options and forwards).
The above mentioned four scores constitute the dependent variables
( CATEGORY _ SOPHISTICATION ) in the regressions we run.13 According to our
hypotheses, the model (and consequently the regressions we perform), has the following
specification:
CATEGORY _ SOPHISTICATION i j = α 0 + α 1 SECONDGi + α 2THIRDOLDERGi + α 3CEOi +

+ α 4 CFOi + α 5 EXTERNALS i + α 6 EMPLOYEESi + α 7 CONTROL _ VARIABLES i + ε i ,
where CATEGORY _ SOPHISTICATION i j is the score of product category sophistication
(measured for each category separately), with i = 1,...,187 firms studied, and j = 1,…,4
product categories analyzed (1 = corporate finance, 2 = cash management, 3 = corporate
lending, 4 = risk management).
12
We show statistics for each product category in Section 6.1. Correlations among the products are available
upon request.
13
By adding the dummies of the products adopted, we implicitly assign the same weight to each product within
the same category. We do this deliberately, because our goal is to understand the firm’s overall financial policy,
rather than the drivers of each single product. The only differentiation we make is related to the product
category.
15
We show the independent variables in Table 3 with their expected signs. The expected
signs are based on the hypotheses of Section 4 (for the CEO, CFO, SECONDG,
THIRDOLDERG, EXTERNALS and EMPLOYEE). We also expect INVESTMENTB to be
positively related to the use of financial products. If a firm used an investment bank to buy a
product other than the ones we account for, the investment bank could establish a relationship
with the firm, acting as a kind of external CFO. We have no expectation for the variable
BANK (number of commercial banks from which the firm has bought at least one product).
One might reason that the higher the number of banks, the higher the chance of using
different financial products; on the other hand, the lower the number of banks, the greater the
chance that a single bank could establish a strong relationship with a firm and advise it to
purchase a broader variety of financial products (Boot and Thakor, 2000).
We also control for several accounting variables: the value of the average ratio of
sales over assets (SALES/ASSET) and the value of this ratio in 2000 (SALES/ASSET 00),
the average leverage in the three years (LEVERAGE), and the leverage in the year 2000
(LEVERAGE 00), the standard deviation of the sales in the three years (SALES VOL), and
the compound annual growth rate of the sales (SALES CAGR).
Less profitable firms (profitability is measured with SALES/ASSET and
SALES/ASSET 00) might need to buy corporate lending products, but at the same time they
might be less inclined to make acquisitions (therefore have a lower need for corporate finance
products). Firm with a high level of leverage (LEVERAGE, LEVERAGE 00) or with volatile
sales (SALES VOL) might need to buy more risk management products and to better control
their cash flows (and therefore acquire cash management products). Finally firms that are
growing in term of sales (SALES CAGR) might be willing to buy corporate finance products
(they might want to acquire other firms), but at the same time might need more sophisticated
cash management tools (hence the need for cash management products).
16
We do not use a logistic regression since our dependent variables are not binary, but
scores. We follow the analysis of Filberk and Lee (2000) concerning the impact that firm
characteristics have on the adoption of various financial techniques, and the analysis of
McConaughy and Phillips (1999) on the impact that family generation has on firm
performance and financing. In the above studies the authors use OLS regression. We use
standard OLS regressions as well, however, we also use Heckman selection model (see
Heckman, 1979). Results show that we do not incur in any selection bias.
Regarding the Heckman selection model, in the selection equation we use as
independent variables most of the variables introduced in our outcome equation
(EMPLOYEE, PARENT, INDUSTRY DUMMIES, SALES/ASSET, SALES/ASSET 00,
LEVERAGE, LEVERAGE 00, SALES VOL, SALES CAGR) plus the average value of the
assets in three years (ASSET). These are the variables available for both the firms that answer
the questionnaire and for the ones that don’t answer. For the firms that don’t answer we
obtain the data from the Chamber of Commerce (and we double check the answers of the
firms that answer). The results of the selection equation are reported in the Appendix, Table
B.
In the selection equation we cannot use variables related to the generation of the
family, the family status of the CEO and CFO, the existence of external shareholders, the
number of banks and the existence of a relationship with an investment bank because we can
obtain these data only through the questionnaire. However, we do not think that the above
variables should influence the probability that a firm answers the questionnaire. We believe
that the only variables that might affect the probability of answering the questionnaire are
17
related to size that we measure both with the number of employees and with the amount of
assets. Bigger firms might have an office dedicated to public relations/ more resources to
answer the questionnaire.
In our regressions we control for serial correlation and heteroskedasticity using the
Huber White Sandwich Estimator for variance. Finally we do not use panel data analysis,
given that our dependent variables do not change over time. Among our robustness checks
we run Tobit regressions (we control for selection bias also in the Tobit regressions). Results
are robust.
6. Results
6.1. Financial sophistication scores: Dependent variables
*** Insert Table 4 about here***
In Table 4 we show the descriptive statistics of our dependent variables
( CATEGORY _ SOPHISTICATION j ). The mean scores of the corporate finance, cash
management, corporate lending, and risk management product categories are 1.716, 0.433,
2.283, and 0.919 respectively. However, it is difficult to compare them. Hence, we divide
each mean score by the total number of products in the respective category (for example, for
the corporate finance category, we divide the mean by 4). Results show that SFFs are more
financially sophisticated in their choice of corporate finance and corporate lending products
than in their adoption of cash management and risk management products.
SFFs use, on average, almost half of the non-basic products in the corporate finance
category. At the same time, SFFs buy, on average, more than half of the non-basic financial
products in the corporate lending category. These two categories show a low standard
18
deviation. On the other hand, SFFs use, on average, less than a quarter of the non-basic
products of cash management and risk management. However, both these categories present a
very high standard deviation. Hence, there is a large difference among SFFs with respect to
their use of non-basic products in these categories: SFFs use either all of the non-basic
products in the cash management and risk management categories, or none of them.
On average, SFFs are more financially sophisticated relative to the corporate finance
and corporate lending product categories than for the cash management and risk management
product categories; however, in the cash management and risk management product
categories the use of non-basic products by SFFs varies substantially across firms.
6.2. Correlations matrix
Before discussing our regression results, we analyze the correlation structure between
the independent variables. As we show in Table 5, some of the variables are significantly
correlated. The main correlations are:
1. CEO and CFO are both positively correlated with the EXTERNALS (correlations of
0.587 and 0.381). An external shareholder would probably be more willing than a family
owner to hire a non-family professional.
2. EXTERNALS is positively correlated with EMPLOYEE (correlation 0.260) and
THIRDOLDERG (correlation 0.196). As firms grow in size and generation they might
need external capital.
3. EMPLOYEE is positively correlated with THIRDOLDERG (correlation 0.431), possibly
because the firm grows in size with each generation. EMPLOYEE is also positively
19
correlated with CEO (correlation 0.219) and CFO (correlation 0.244). Bigger firms might
need a more professional managerial/financial advice.
4. SECONDG and THIRDOLDERG are negatively correlated (correlation –0.464). By
definition, if a firm is in its second generation, it cannot be in its third or older
generation.14
5. INVESTMENTB is positively correlated with EMPLOYEE (correlation 0.439) and
THIRDOLDERG (correlation 0.326). When the firm becomes larger (EMPLOYEE) and
older (THIRDOLDERG), it has stronger needs for particular advice, expertise, and
products (INVESTMENTB).
6. BANK is positively correlated with EMPLOYEE (correlation 0.682). It is very common
in Italy for firms to have more than one bank instead of establishing a strong relationship
with a single bank, especially as the firm grows in size (Pozzolo, 2004).
7. THIRDOLDERG is positively correlated with BANK (correlation 0.338), probably due to
the fact that firms in their third generation or older tend to be larger than first- and
second-generation firms. Similarly, THIRDOLDERG is positively correlated with CEO
(correlation 0.197). Older and bigger firms might need a more professional managerial
advice.
8. CEO is positively correlated with CFO (correlation 0.553). External managers might
better understand the importance of having an external finance specialist.
9. INVESTMENTB and CFO are positively correlated (correlation 0.325). An external CFO
might better know the value of the advice obtained from an investment bank.
14
Note that the negative correlation is not equal to -1 because we use the first generation as the benchmark for
the dummies SECONDG and THIRDOLDERG.
20
We run diagnostic statistics to understand whether our regressions could be affected
by multicollinearity. Eigenvalues statistics, the analysis of tolerance and the variance
inflation factors show that there is not a multicollinearity problem.15 We now turn to the
results of the regressions.
6.3. Regressions
* * * Insert Tables 6-9 about here * * *
Table 6-9 reports the results of the regressions. Columns 1-8 of our tables show
standard OLS regressions. In column 9 we use the Heckman selection model to show that we
do not incur in any selection bias.16 As an additional robustness check we run Tobit
regressions (column 10).
Being at the third generation or older (THIRDOLDERG) is associated with a positive
impact for a SFF in its use of corporate finance (Table 6) and cash management products
(Table 7). SECONDG is positively and significantly correlated only with the use of corporate
lending products (Table 8); however the variable is only significant at the 10% level and
loses its significance when we control for profitability and leverage.
The presence of an external CFO (CFO) has a significant and positive impact on the
use of cash management products (Table 7), while the existence of an external shareholder
15
Statistics available upon request.
16
The selection equation is run on 526 firms. We sent the questionnaire to 544 firms. 205 answer the
questionnaire but only 187 are FFs according to our definition. In our selection equation we take away from the
544 firms the 18 companies that answer the questionnaire but are not FFs according to our definitions and are
not taken into account in our outcome equation. These 18 firms cannot be considered as firms that do not answer
the questionnaire and at the same time are also not considered in our outcome equation.
21
(EXTERNALS) has a positive and significant effect on the adoption of corporate lending
(Table 8) and on risk management products (Table 9). Size (EMPLOYEE) is positively and
significantly related with the use of corporate finance products (Table 6) and with cash
management products (Table 7). However in the case of the cash management products firm
size is only marginally significant. Contrary to our expectations, the presence of an external
manager (CEO) has no impact on any of the product categories analyzed.
Controlling for profitability (SALES/ASSET), leverage (LEVERAGE), sales
volatility (SALES VOL) does not change the effect of our main independent variables on the
product sophistication scores. The results do not change if we measure sales and leverage in
the first year, i.e 2000 (SALES/ASSET 00 and LEVERAGE 00).17 Controlling for sales
growth (sales CAGR) does not change the main results as well.
Among the control variables listed above the only significant variables are
SALES/ASSET and SALES/ASSET 00, both negatively and significantly correlated with the
use of cash management and corporate lending products. More profitable firms need to
borrow less and might not need a careful management of their cash.
7. Discussion
7.1. H1, the generational impact
Consistent with our first hypothesis, the generation of the owner is a critical
determinant of the level of financial sophistication of the firm, although only for the
corporate finance and cash management categories. THIRDOLDERG is positive and
significant for both these categories.
17
Instead of SALES/ASSET, SALES/ASSET 00 and SALES VOL we have also used the Cash Flow (statistics
not reported). Results do not change.
22
As for the corporate finance products, firms at their third or later generation are more
willing and have more capital to acquire new companies, as opposed to grow internally. Such
companies are also more likely to have an established reputation, and have grown enough to
either raise a sufficient amount of debt for an LBO or to be targeted for a leveraged
acquisition or an MBO. Firms in their third or later generation are more likely to have an
external manager or CFO and to incur an MBO. Finally, these firms are more interested in
restructuring debt compared to firms still in their first two generations.
As in the case of corporate finance products, younger firms do not have or feel the
need for cash management products. We argue that corporate finance and cash management
products are more important later in a firm’s life. The need for external growth, debt
restructuring, or cash management is uncommon in the first phases of a firm’s development.
Once the firm has accumulated enough cash, built its reputation, has stable cash flow and
wants to grow or better manage its cash or debt, it is more willing to search for corporate
finance and cash management products.
As one might expect, the corporate lending products analyzed are not linked to the
family generation that runs the firm (which is somewhat related to the firm’s age). In contrast
with corporate finance and cash management services, corporate lending products are
important in every stage of a company’s development. While a startup is unlikely to need
debt restructuring, financial leasing or factoring may become necessary at any time. As with
corporate lending, risk management products are important at each stage of a firm’s life and,
consequently, in each generation.
It is difficult to compare our results to the previous literature, since most previous
studies on the financial management of small and/or FFs focus on financial techniques rather
than products. However, consistent with Filbeck and Lee (2000) – who primarily examine
capital budgeting, risk adjustment and working capital management techniques – we find no
23
effect of the first or second generation on SFFs use of financial products, while third
generation or older firms tend to be more financially sophisticated in terms of corporate
finance and cash management products. Summing up, H1 is not rejected for the corporate
finance and cash management product categories and is rejected for corporate lending and
risk management product categories.
7.2. H2, the effect of external CEO and CFO
The presence of an external CFO has a significant and positive impact only on cash
management products. The CFO is mainly dedicated to cash management activities.
Interestingly, the presence of an external (non-family) CEO does not have any
influence on any of the product categories analyzed. The results are somewhat difficult to
disentangle. With regards to corporate lending and risk management products, it appears that
the presence of an external shareholder has a stronger impact than the existence of an external
CEO. The mentioned networking role of external shareholders is more important for
accessing resources – in our case corporate lending and risk management products – than the
presence of an external CEO. As for cash management products, the presence of an external
CFO drives the choice of those products more than the existence of a non-family CEO (see
Caselli and Di Giuli, 2010, for more on the importance of an external vs. a family CFO).
The presence of an external CEO does not drive the choice of corporate finance
products, whose use should be linked more to the strategic planning of the firm (and therefore
to the CEO). Instead, the use of corporate finance products seems to be driven mainly by the
generation controlling the firm.
Our results are consistent with Filbeck and Lee (2000), who find that the presence of
an external CFO positively affects the use of some financial techniques, and with Caselli and
Di Giuli (2010), who demonstrate the positive effect that a professional CFO has on firm
24
performance as opposed to a family CFO. In summary, H2 is not rejected for the cash
management product category and is rejected for corporate finance, corporate lending and
risk management products.
7.3. H3, The external shareholder influence
The presence of an external shareholder is significant for corporate lending and risk
management products. According to these findings, external shareholders have a greater
effect on corporate lending and risk management than on corporate finance and cash
management activities. It appears that an external shareholder may help the firm gain access
to corporate lending and risk management products.
Our results are consistent with Filbeck and Lee (2000). They find that “external
influence” positively drives some of the most sophisticated financial techniques (specifically
capital budgeting). According to the authors, outside influence tends to make the financial
management process more objective. A further step would be to analyze in more detail the
impact of different types of external shareholders. In summary, H3 is not rejected for the
corporate lending and risk management products and is rejected for cash management and
corporate finance products.
7.4. H4, the size effect
Size is significant for corporate finance products and, marginally, for cash
management products. In both cases however, the value of the coefficient is close to zero;
therefore the impact of the variable is weak.18 Hence, among SFFs, differences in size are not
large enough to justify completely different uses of financial management products.
18
We also measure size by asset amount and obtain the same results (available upon request).
25
Niskanen and Niskanen (2006) find that in SBs size is positively related to the use of
accounts receivable, negatively related to the use of credit discount and has no effect on the
use of accounts payable. Similarly and consistent with our results, Filbeck and Lee (2000)
analyze the impact that size has on the use of various sophisticated financial management
techniques and obtain mixed findings; the variable is significant only for some financial
techniques.
On the other hand, Biltler et al. (2000) and Cole and Wolken (1995) analyzing credit
financial products, find that almost all of them increase in use with firm size (although their
findings are based on mean differences, hence there is no control for other variables).
Similarly, Gallo and Vilaseca (1996) find a positive relationship between FF size and variety
of financial products analyzed. However, their study focuses on big FFs, not small ones.
Finally, Coleman and Carsky (1999) find that size is an explanatory variable for some credit
products, although a direct comparison with our results is not possible since they analyze
products that differ from ours (with the exception of financial leases). In summary, H4 is not
rejected for the corporate finance and cash management products and is rejected for corporate
lending and risk management products.
7.5. The control variables
INVESTMENTB is a key determinant of the risk management products. If an
investment bank has sold a product to a firm, it might have a better knowledge of that firm’s
management and thus a greater chance of establishing a relationship with it, leading to the
sale of products that have not only risk management functions, but that are also speculative.
The number of commercial banks from which the firm has previously bought one
product affects the future purchase of products only for cash management products. The
higher the number of banks, the broader the variety of cash management products acquired:
26
the purchase of a cash management product is the easiest way to start a relationship with a
bank. Finally, the presence of a parent firm does not affect the choice of financial products
under consideration. Table 10 summarizes the results of the paper for all product categories
analyzed.
** * Insert Table 10 about here * * *
8. Conclusions
Our study focuses on the financial sophistication of SFFs, measured with the variety
of non-basic financial products adopted. These non-basic products have been subdivided into
the categories of corporate finance (M&A, LBO, MBO and debt restructuring advice), cash
management (cash management and short money), corporate lending (factoring, financial
leasing, syndicated loans and commercial paper advisory and structuring) and risk
management (futures, swaps, options and forwards).
We find that SFFs are financially sophisticated (in the sense that they make
considerable use of various kinds of non-basic financial products) particularly with respect to
the corporate lending and corporate finance product categories. The drivers of each product
category are different. SFFs in their third or older generation are more financially
sophisticated relative to the corporate finance and cash management products category than
SFFs in their first and second generations, while SFFs with an external CFO are more
financially sophisticated than SFFs without an external CFO in terms of the cash
management products they use. Finally, SFFs with an external shareholder are more
financially sophisticated with respect to the corporate lending and risk management products
they adopt. The presence of an external CEO does not affect financial sophistication in any
category, while size has a weak effect on a firm’s use of corporate finance and cash
27
management products. SFFs that have purchased at least one product from an investment
bank are more financially sophisticated relative to risk management products than firms that
have not.
These results have practical implications for the choices of SFF owner 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. Our 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 shareholder and
CFO).
Further research might take another perspective and study SFF perception of the
supply of financial products from banks. Do SFFs think that banks understand their financial
product needs? Do SFFs have difficulty in obtaining the products needed? Are SFF
characteristics understood by banks? Addressing the limitations of this study could lay the
groundwork for future research. Finally, all data pertains to firms in Italy. Future research
could test the broader applicability of the results by studying data on SFFs in other countries.
A cross-country study with subsamples from different timeframes could provide some insight
28
into the financial product policies of SFFs around the world and the impact of changes in
economic conditions, cultures and government policies, among other factors.
29
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34
Table 1 Use of non-basic products
This table shows the percentage of small FFs analyzed that use the financial products studied. For a description
of the products see Table A, Appendix
Product Categories Products Percentage of SFFs that Use Them
Corporate Finance M&A advisory 60.43
LBO 45.45
MBO 34.76
Debt restructuring advisory 31.02
Cash Management Cash management 29.41
Short money 13.90
Corporate Lending Factoring 56.68
Financial leasing 77.01
Syndicated loans 33.16
Commercial paper structuring and advisory 61.50
Risk Management Future 16.58
Option 28.88
Swap 17.65
Forward 28.88
35
Table 2 Descriptive statistics
This table shows descriptive statistics of the main independent variables (described in table 3)
Obs Mean Median Std. Dev

SECONDG 187 0.45 0.00 0.50
THIRDOLDERG 187 0.21 0.00 0.41
CEO 187 0.22 0.00 0.42
CFO 187 0.17 0.00 0.37
EXTERNALS 187 0.17 0.00 0.37
INVESTMENTB 187 0.16 0.00 0.36
BANK 187 3.66 3.00 2.08
PARENT 187 0.30 0.00 0.46
EMPLOYEE 187 39.34 37.50 33.81
SALES/ASSET 187 1.16 1.08 0.23
SALES VOL 187 1.01 0.31 1.72
LEVERAGE 187 1.52 1.20 0.68
SALES CAGR 187 0.10 0.08 0.10
36
Table 3 Definitions of the independent variables
VARIABLES DEFINITION EXPECTED SIGN
SECONDG Dummy with value 1 if the firm is in the second generation, zero otherwise. ?
THIRDOLDERG Dummy with value 1 if the firm is in the third generation, zero otherwise. +
CEO Dummy with value 1 if the manager is a non-family member, zero otherwise. +
CFO Dummy with value 1 if the CFO is a non-family member, zero otherwise. +
EXTERNALS Dummy with value 1 if there is a non-family shareholder, zero otherwise. +
EMPLOYEE Number of employees of the firms used as a proxy for size. +
CONTROL VARIABLES
INVESTMENTB Dummy variable with value 1 if there is an investment bank from which the +
firm has bought at least one financial product that is different from the ones
included in our dependent variables, zero otherwise.
BANK Number of commercial banks from which the firm has bought at least one ?
product.
PARENT Dummy with value 1 if the small FF has a parent firm, zero otherwise. ?
SALES/ASSET Average of the ratio of the sales over the assets in the three years analyzed -with CLa products
+ with CFb products
SALES/ASSET 00 Ratio of the sales over the assets in the year 2000 - with CLa products
+ with CFb products
LEVERAGE Average of the ratio of debt over equity in the three years analyzed + with RMc &
CMd products
LEVERAGE 00 Ratio of debt over equity in the year 2000 + with RMc &
CMd products
SALES VOL Ratio of the standard deviation of sales over the mean of sales in the tree years + with RMc &
analyzed CMd products
CAGR SALES CAGR (compound annual growth rate) of the sales measured in the three + with CFb &
years analyzed CMd products
INDUSTRY Dummy variables for the industries ?
a corporate lending
b
corporate finance
c
risk management
d
cash management
37
Table 4 Financial sophistication scores: Descriptive statistics
This table shows descriptive statistics of the dependent variables (category_sophistication scores). We subdivide
the financial products into four categories: corporate finance products (M&A, LBO, MBO and debt
restructuring advice); cash management (cash management and short money); corporate lending (factoring,
financial leasing, syndicated loans and commercial paper advisory and structuring); and risk management
(futures, swaps, options and forwards).
Statistics CATEGORY_SOPHISTICATION
Corporate Finance Cash Management Corporate Lending Risk Management
Products Products Products Products
Mean 1.716 0.433 2.283 0.919
Median 2.000 0.000 2.000 1.000
Standard Deviation 0.989 0.613 0.972 1.010
Variance 0.978 0.376 0.946 1.020
Minimum 0.000 0.000 0.000 0.000
Maximum 4.000 2.000 4.000 4.000
Mean/Total Number Products in
each category (Maximum) 0.429 0.216 0.570 0.229
Standard deviation/Mean 0.576 1.415 0.425 1.098
38
Table 5 Correlations among main independent variables
*, **, and *** indicate significance at the 0.1, 0.05, and 0.01 levels (2-tailed), respectively. P values in parentheses
EXTERNALS CEO EMPLOYEE SECONDG THIRDOLDERG PARENT BANK INVESTMENTB CFO SALES/ASSET LEVERAGE SALES VOL SAL. CAGR
EXTERNALS 1 0.587*** 0.260*** 0.031 0.196*** -0.077 -0.030 0.047 0.381*** 0.049 -0.076 0.219* 0.087
(0.000) (0.000) (0.673) (0.007) (0.298) (0.680) (0.520) (0.000) (0.504) (0.296) (0.084) (0.236)
CEO 1 0.219** * 0.081 0.197*** -0.134* 0.070 0.159** 0.553*** 0.067 -0.127* 0.248* 0.079
(0.003) (0.272) (0.007) (0.068) (0.340) (0.030) (0.000) (0.355) (0.082) (0.079) (0.278)
EMPLOYEE 1 -0.153** 0.431*** -0.159** 0.682*** 0.439*** 0.244*** 0.142* 0.104 0.685* 0.281***
(0.036) (0.000) (0.030) (0.000) (0.000) (0.001) (0.052) (0.155) (0.075) (0.000)
SECONDG 1 -0.464*** -0.037 -0.203*** -0.120 0.060 0.062 0.046 -0.123* -0.021
(0.000) (0.611) (0.005) (0.103) (0.415) (0.394) (0.528) (0.091) (0.771)
THIRDOLDERG 1 -0.111 0.338*** 0.326*** 0.161** 0.069 -0.054 0.356* 0.048
(0.130) (0.000) (0.000) (0.028) (0.344) (0.458) (0.086) (0.513)
PARENT 1 -0.137* -0.091 -0.139* -0.126* -0.081 -0.008 -0.0432
(0.062) (0.215) (0.058) (0.083) (0.266) (0.917) (0.556)
BANK 1 0.291*** 0.032 0.078 0.143* 0.543* 0.231*
(0.000) (0.665) (0.283) (0.051) (0.076) (0.085)
INVESTMENTB 1 0.325*** -0.108 -0.014 0.406* 0.208*
(0.000) (0.138) (0.841) (0.072) (0.065)
CFO 1 0.108 -0.053 0.308* 0.172*
(0.140) (0.463) (0.069) (0.078)
SALES/ASSET 1 0.744*** 0.041 0.010
(0.000) (0.572) (0.892)
LEVERAGE 1 0.076 0.281***
(0.298) (0.000)
SALES VOL 1 0.680***
(0.000)
SAL. CAGR 1
39
Table 6 Firm characteristics and corporate finance products
This table shows the effect of firm characteristics on the corporate finance’s sophistication score. Columns 1-8
show results of standard OLS regressions. In column 9 we use Heckman selection model (Heckman, 1979) to
control for selection biases. Column 10 shows results of a Tobit regression. *, **, and *** indicate significance
at the 0.1, 0.05 and 0.01 levels, respectively. P-values are in parentheses.
OLS OLS OLS OLS OLS OLS OLS OLS Heckman Tobit
(1) (2) (3) (4) (5) (6) (7) (8) (9) (10)
SECONDG 0.031 0.038 0.036 0.039 0.036 0.025 0.034 0.013 0.012 0.012
(0.844) (0.804) (0.816) (0.800) (0.819) (0.873) (0.830) (0.938) (0.938) (0.946)
THIRDOLDERG 0.487** 0.500** 0.494** 0.515** 0.502** 0.499** 0.512** 0.440* 0.441* 0.484*
(0.025) (0.022) (0.024) (0.020) (0.022) (0.022) (0.019) (0.055) (0.053) (0.055)
CEO -0.113 -0.115 -0.116 -0.099 -0.106 -0.110 -0.104 -0.132 -0.131 -0.147
(0.620) (0.613) (0.609) (0.667) (0.644) (0.634) (0.649) (0.563) (0.544) (0.562)
CFO 0.288 0.303 0.303 0.316 0.311 0.264 0.262 0.265 0.264 0.326
(0.162) (0.151) (0.149) (0.131) (0.136) (0.204) (0.204) (0.219) (0.194) (0.212)
EXTERNALS -0.023 -0.030 -0.026 -0.043 -0.031 -0.039 -0.040 -0.029 -0.029 -0.119
(0.926) (0.904) (0.919) (0.866) (0.901) (0.877) (0.873) (0.909) (0.903) (0.669)
EMPLOYEE 0.006** 0.006** 0.006** 0.007** 0.007** 0.006* 0.005* 0.004* 0.004* 0.005*
(0.044) (0.041) (0.041) (0.038) (0.040) (0.059) (0.066) (0.082) (0.095) (0.085)
INVESTMENTB 0.137 0.110 0.111 0.083 0.095 0.105 0.106 0.083 0.085 0.085
(0.542) (0.640) (0.636) (0.727) (0.687) (0.646) (0.640) (0.730) (0.711) (0.749)
BANK 0.024 0.022 0.023 0.019 0.021 0.019 0.019 0.019 0.019 0.012
(0.585) (0.610) (0.606) (0.663) (0.645) (0.658) (0.656) (0.681) (0.663) (0.823)
PARENT 0.058 0.049 0.048 0.049 0.047 0.054 0.055 0.024 0.023 0.019
(0.690) (0.739) (0.744) (0.741) (0.749) (0.708) (0.702) (0.876) (0.877) (0.912)
SALES/ASSET -0.179 -0.335 0.438 0.561 0.156
(0.566) (0.477) (0.799) (0.738) (0.928)
SALES/ASSET 00 -0.171 -0.259 -0.526 -0.560 -0.215
(0.529) (0.513) (0.714) (0.690) (0.885)
LEVERAGE 0.068 1.330 1.310 1.284
(0.643) (0.186) (0.168) (0.312)
LEVERAGE 00 0.043 -1.283 -1.269 -1.264
(0.758) (0.185) (0.163) (0.312)
SALES VOL 1.030 0.076 0.083 0.105
(0.236) (0.283) (0.222) (0.256)
SALES CAGR 0.834 0.189 0.129 0.162
(0.164) (0.841) (0.887) (0.884)
CONSTANT 1.140*** 1.352*** 1.347*** 1.428*** 1.385*** 1.065*** 1.088*** 1.276** 0.939 1.208**
(0.000) (0.003) (0.001) (0.005) (0.002) (0.000) (0.000) (0.018) (0.147) (0.028)
IND. DUMMIES Y Y Y Y Y Y Y Y Y Y
OBSERVATIONS 187 187 187 187 187 187 187 187 187 187
R-SQUARE 0.22 0.22 0.22 0.22 0.22 0.23 0.23 0.24 0.09
ADJ. R- SQUARE 0.17 0.16 0.16 0.16 0.16 0.17 0.17 0.16
40
Table 7 Firm characteristics and cash management products
This table shows the effect of firm characteristics on the cash management’s sophistication score. Columns 1-8
(1) (2) (3) (4) (5) (6) (7) (8) (9) (10)
SECONDG -0.096 -0.085 -0.089 -0.085 -0.089 -0.094 -0.098 -0.094 -0.094 -0.265
(0.296) (0.351) (0.330) (0.350) (0.334) (0.305) (0.288) (0.323) (0.298) (0.376)
THIRDOLDERG 0.277** 0.296** 0.287** 0.295** 0.283** 0.273** 0.261* 0.250* 0.249* 0.657*
(0.041) (0.027) (0.032) (0.029) (0.035) (0.047) (0.058) (0.074) (0.059) (0.089)
CEO -0.084 -0.088 -0.089 -0.089 -0.094 -0.086 -0.090 -0.108 -0.108 -0.308
(0.439) (0.407) (0.406) (0.402) (0.372) (0.438) (0.423) (0.353) (0.323) (0.458)
CFO 0.361*** 0.383*** 0.382*** 0.382*** 0.378*** 0.369*** 0.377*** 0.389*** 0.389*** 0.995**
(0.009) (0.005) (0.005) (0.005) (0.006) (0.007) (0.006) (0.003) (0.001) (0.020)
EXTERNALS -0.047 -0.057 -0.050 -0.056 -0.047 -0.041 -0.036 -0.044 -0.044 -0.145
(0.704) (0.645) (0.687) (0.657) (0.707) (0.741) (0.772) (0.732) (0.718) (0.750)
EMPLOYEE 0.003* 0.004* 0.004* 0.004* 0.004* 0.003* 0.004* 0.003 0.003 0.008
(0.083) (0.051) (0.055) (0.052) (0.058) (0.078) (0.066) (0.115) (0.112) (0.190)
INVESTMENTB 0.062 0.022 0.027 0.024 0.036 0.073 0.081 0.044 0.044 0.082
(0.694) (0.886) (0.861) (0.870) (0.812) (0.640) (0.596) (0.763) (0.751) (0.835)
BANK 0.045 0.042* 0.042* 0.043* 0.044* 0.046** 0.047** 0.044* 0.044* 0.120
(0.149) (0.074) (0.070) (0.082) (0.073) (0.047) (0.041) (0.071) (0.056) (0.192)
PARENT -0.073 -0.086 -0.086 -0.086 -0.086 -0.071 -0.071 -0.096 -0.096 -0.380
(0.358) (0.283) (0.284) (0.284) (0.290) (0.370) (0.375) (0.269) (0.246) (0.198)
SALES/ASSET -0.263 -0.251 0.044 0.056 0.549
(0.120) (0.466) (0.953) (0.937) (0.833)
SALES/ASSET 00 -0.226 -0.179 -0.270 -0.309 -1.412
(0.127) (0.546) (0.759) (0.711) (0.642)
LEVERAGE -0.005 0.419 0.427 1.744
(0.966) (0.564) (0.536) (0.427)
LEVERAGE 00 -0.023 -0.421 -0.427 -1.741
(0.844) (0.546) (0.518) (0.419)
SALES VOL -0.355 0.036 0.034 0.096
(0.520) (0.539) (0.543) (0.485)
SALES CAGR -0.523 -0.851 -0.832 -2.231
(0.197) (0.249) (0.231) (0.214)
CONSTANT 0.085 0.397 0.359 0.391 0.339 0.111 0.118 0.451 0.554* -0.015
(0.429) (0.107) (0.115) (0.203) (0.207) (0.351) (0.293) (0.139) (0.065) (0.987)
OBSERVATIONS 187 187 187 187 187 187 187 187 187 187
R-SQUARE 0.29 0.30 0.30 0.30 0.30 0.29 0.30 0.31 0.15
ADJ. R-SQUARE 0.24 0.25 0.25 0.24 0.24 0.24 0.25 0.24
41
Table 8 Firm characteristics and corporate lending products
This table shows the effect of firm characteristics on the corporate lending’s sophistication score. Columns 1-8
(1) (2) (3) (4) (5) (6) (7) (8) (9) (10)
SECONDG 0.221 0.244 0.238 0.246 0.236 0.218 0.224 0.237 0.262 0.262
(0.155) (0.117) (0.124) (0.113) (0.127) (0.164) (0.149) (0.127) (0.114) (0.126)
THIRDOLDERG 0.202 0.240 0.225 0.278 0.255 0.208 0.222 0.302 0.251 0.330
(0.279) (0.207) (0.233) (0.148) (0.176) (0.263) (0.231) (0.144) (0.170) (0.181)
CEO 0.034 0.027 0.024 0.064 0.061 0.036 0.041 0.084 0.026 0.120
(0.878) (0.896) (0.908) (0.763) (0.774) (0.874) (0.856) (0.716) (0.916) (0.630)
CFO -0.079 -0.034 -0.031 -0.003 -0.002 -0.090 -0.099 0.024 0.046 0.004
(0.717) (0.873) (0.886) (0.990) (0.993) (0.683) (0.654) (0.915) (0.842) (0.987)
EXTERNALS 0.512** 0.491** 0.505** 0.461* 0.484** 0.504** 0.499** 0.478** 0.495** 0.589**
(0.033) (0.037) (0.031) (0.052) (0.040) (0.037) (0.041) (0.050) (0.030) (0.032)
EMPLOYEE 0.004 0.005 0.005 0.005* 0.005* 0.004 0.004 0.007* 0.006 0.007
(0.170) (0.102) (0.104) (0.084) (0.090) (0.192) (0.215) (0.077) (0.107) (0.110)
INVESTMENTB 0.349 0.269 0.271 0.200 0.212 0.333 0.325 0.213 0.116 0.264
(0.126) (0.247) (0.240) (0.397) (0.373) (0.147) (0.155) (0.390) (0.593) (0.316)
BANK 0.051 0.046 0.047 0.040 0.040 0.049 0.047 0.052 0.063 0.053
(0.191) (0.283) (0.227) (0.310) (0.309) (0.211) (0.223) (0.207) (0.149) (0.326)
PARENT -0.126 -0.152 -0.157 -0.152 -0.159 -0.128 -0.128 -0.108 -0.151 -0.117
(0.351) (0.262) (0.248) (0.267) (0.245) (0.348) (0.349) (0.464) (0.381) (0.485)
SALES/ASSET -0.534* -0.897** -0.974 -0.863 -1.049
(0.066) (0.025) (0.371) (0.541) (0.475)
SALES/ASSET 00 -0.518** -0.843** 0.159 0.458 0.148
(0.045) (0.014) (0.903) (0.775) (0.931)
LEVERAGE 0.159 0.663 0.662 0.742
(0.218) (0.528) (0.580) (0.553)
LEVERAGE 00 0.158 -0.490 -0.460 -0.537
(0.195) (0.638) (0.696) (0.662)
SALES VOL 0.513 -0.098 -0.149 -0.120
(0.582) (0.225) (0.113) (0.180)
SALES CAGR 0.667 1.471 1.883 1.654
(0.343) (0.195) (0.128) (0.132)
CONSTANT 1.754*** 2.387*** 2.383*** 2.564*** 2.523*** 1.717*** 1.713*** 2.310*** 4.050*** 2.314***
(0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000)
OBSERVATIONS 187 187 187 187 187 187 187 187 187 187
R-SQUARE 0.21 0.22 0.22 0.23 0.23 0.21 0.22 0.24 0.09
ADJ. R-SQUARE 0.16 0.16 0.17 0.16 0.17 0.15 0.16 0.16
42
Table 9 Firm characteristics and risk management products
This table shows the effect of firm characteristics on the risk management’s sophistication score. Columns 1-8
(1) (2) (3) (4) (5) (6) (7) (8) (9) (10)
SECONDG -0.130 -0.130 -0.130 -0.128 -0.131 -0.135 -0.128 -0.135 -0.133 -0.249
(0.399) (0.404) (0.404) (0.409) (0.397) (0.376) (0.406) (0.393) (0.370) (0.355)
THIRDOLDERG -0.058 -0.056 -0.056 -0.023 -0.030 -0.047 -0.039 -0.042 -0.043 -0.142
(0.820) (0.828) (0.826) (0.927) (0.906) (0.852) (0.877) (0.873) (0.863) (0.717)
CEO 0.001 0.001 0.001 0.033 0.033 0.004 0.008 0.026 0.023 -0.102
(0.997) (0.997) (0.998) (0.896) (0.895) (0.987) (0.975) (0.918) (0.922) (0.800)
CFO 0.024 0.026 0.027 0.053 0.052 0.005 0.006 0.012 0.014 -0.019
(0.924) (0.923) (0.919) (0.839) (0.841) (0.984) (0.982) (0.967) (0.957) (0.962)
EXTERNALS 0.473** 0.472** 0.472** 0.445** 0.453** 0.460** 0.460** 0.448** 0.449** 0.748*
(0.042) (0.040) (0.041) (0.044) (0.045) (0.041) (0.037) (0.044) (0.047) (0.081)
EMPLOYEE -0.001 -0.001 -0.001 -0.001 -0.001 -0.001 -0.001 -0.002 -0.002 -0.004
(0.851) (0.857) (0.859) (0.898) (0.890) (0.804) (0.795) (0.725) (0.689) (0.538)
INVESTMENTB 0.877*** 0.875*** 0.873*** 0.820*** 0.822*** 0.851*** 0.855*** 0.803*** 0.802*** 1.203***
(0.002) (0.002) (0.002) (0.006) (0.004) (0.003) (0.003) (0.008) (0.005) (0.003)
BANK 0.076 0.076 0.076 0.070 0.069 0.072 0.073 0.062 0.062 0.117
(0.118) (0.122) (0.122) (0.159) (0.162) (0.135) (0.131) (0.213) (0.188) (0.166)
PARENT 0.015 0.014 0.013 0.014 0.011 0.012 0.013 -0.012 -0.011 0.028
(0.910) (0.915) (0.918) (0.914) (0.931) (0.927) (0.920) (0.927) (0.932) (0.917)
SALES/ASSET -0.017 -0.332 0.159 0.039 0.121
(0.956) (0.472) (0.930) (0.982) (0.964)
SALES/ASSET 00 -0.026 -0.313 -0.404 -0.366 -0.286
(0.923) (0.428) (0.790) (0.798) (0.901)
LEVERAGE 0.138 -0.099 -0.078 -0.731
(0.391) (0.930) (0.942) (0.713)
LEVERAGE 00 0.139 0.219 0.204 0.818
(0.371) (0.844) (0.846) (0.677)
SALES VOL 0.842 0.046 0.039 0.024
(0.472) (0.649) (0.684) (0.864)
SALES CAGR 0.596 0.157 0.180 0.874
(0.480) (0.900) (0.855) (0.615)
CONSTANT 0.530 0.551 0.563 0.705 0.686 0.470 0.494 0.667 0.978 -0.031
(0.114) (0.191) (0.149) (0.118) (0.189) (0.122) (1.011) (0.172) (0.171) (0.971)
OBSERVATIONS 187 187 187 187 187 187 187 187 187 187
R-SQUARE 0.20 0.20 0.20 0.20 0.20 0.20 0.20 0.20 0.06
ADJ. R-SQUARE 0.14 0.14 0.14 0.13 0.13 0.14 0.14 0.12
43
Table 10 Summary of findings
This table shows the hypotheses presented in the paper and main findings
Hypotheses Product Categories
Corporate Finance Cash Management Corporate Lending Risk Management
H1 Third-generation and older SFFs Not rejected Not rejected Rejected Rejected
are more financially sophisticated
than first and second-generation
ones.
H2 SFFs with an external CEO or Rejected Not rejected Rejected Rejected
CFO are more financially (only for
sophisticated. external CFO)
H3 SFFs with external shareholders Rejected Rejected Not rejected Not rejected
are more financially sophisticated.
H4 Larger FFs are more financially Not rejected Not rejected Rejected Rejected
sophisticated than smaller ones.
44
APPENDIX
Table A Definitions of the products studied

Product Categories Products Definition
Corporate Finance M&A Advisory M&A advisory involves corporate finance strategy and management directed toward the merging and
acquisition of companies as well as other assets.
LBO An LBO occurs when a financial sponsor gains the majority of the target company’s equity using a
significant amount of senior or subordinated/mezzanine debt (in the form of bank loans or corporate bonds).
MBO An MBO occurs when a company's managers buy or acquire a large part of their company.
Debt restructuring A method used by companies with outstanding debt obligations to alter the terms of the debt agreements.
Cash Management Cash management The strategy and relative tools aimed at optimizing the management and investment of liquidity.
Short money A line of credit that allows the customer to borrow money for liquidity needs. It is a particular kind of short
term lending by banks.
Corporate Lending Factoring A type of asset-financing arrangement in which a company uses its receivables as collateral in a financing
agreement. The company receives an amount that is equal to a discounted value of the receivables pledged.
Financial leasing A written agreement under which a property owner allows a tenant to use the property or asset for a specified
period of time and rent with the right to purchase it at the residual value.
Syndicated loan A very large loan in which a group of banks work together to provide funds to one borrower. Usually one
lead bank takes a small percentage of the loan and syndicates the rest to other banks.
Commercial paper An unsecured obligation issued by a corporation or bank to finance its short-term credit needs, such as
accounts receivable and inventory. Maturities typically range from 2 to 270 days.
Risk Management Future A standardized, transferable, exchange-traded contract that requires delivery of a commodity, bond, currency
or stock index at a specified price on a specified future date. Futures are different from generic forward
contracts in that they contain standardized terms, trade on a formal exchange, are regulated by overseeing
agencies and are guaranteed by clearinghouses.
Option The right, but not the obligation, to buy (for a call option) or sell (for a put option) a specific amount of a
given stock, commodity, currency, index or debt at a specified price (the strike price) during a specified
period of time.
Swap An exchange of streams of payments over time according to specified terms. The most common type is an
interest rate swap, in which one party agrees to pay a fixed interest rate in return for receiving an adjustable
rate from another party.
Forward A contract that obligates one party to buy and another other party to sell a financial instrument, equity,
commodity or currency at a specific future date.
45
Table B Selection equation
This table reports the results of the probit selection equation used for the Heckman selection model (Heckman,
1979). In the selection equation the dependent variable is a dummy equal to one if the firm surveyed answers the
questionnaire, zero otherwise. Among the independent variables we use ASSET (the average value of the assets
in the three years considered). ASSET is the only variable that is not in the outcome equation. *, **, and ***
indicate significance at the 0.1, 0.05 and 0.01 levels, respectively. P-values are in parentheses.
EMPLOYEE 0.000
(0.916)
PARENT -0.013
(0.919)
SALES/ASSET 0.694
(0.565)
SALES/ASSET 00 -0.069
(0.952)
LEVERAGE -0.141
(0.876)
LEVERAGE 00 0.089
(0.918)
SALES VOL 0.023
(0.728)
SALES CAGR -0.092
(0.909)
ASSET 0.075
(0.421)
CONSTANT -1.105***
(0.000)
INDUSTRY DUMMIES Y
OBSERVATIONS 526
46

Are Small Family Firms Financially Sophisticated?

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ARE SMALL FAMILY FIRMS FINANCIALLY SOPHISTICATED?

We study the drivers of financial sophistication in small family firms. Sophistication

JEL classification: G32; G21

particularly interested in understanding the characteristics of this second group, financially

provision of financial services by a financial intermediary that i) invests in obtaining

multiple financial services” (Boot, 2000, p.10).

value in lending to that customer (Degryse and Van Cayseele, 2000).

long-term relationship with the firm (Boot, 2000).

Hence, a firm’s interest in a broader choice of non-basic products is a signal to banks

basic financial products bought by SMEs.

2001). SFFs play a key role around the world.

firms (Anderson and Reeb, 2003; Perez-Gonzalez, 2006).2

sophisticated SFFs in terms of generation, size, governance and financial advisory?

To address these questions, we formulate a questionnaire in collaboration with the

particular, our questionnaire gathers detailed information about demographics, ownership

structure, governance, financial management, key financial decision makers, financial

managed by their owners.

financial products mainly focusing on lending products.

the three years period (2000-2002) covered by the survey.

although differently in the four product categories studied.

financial institutions that target SFFs.

million Euros (Commission of the European Communities, 2003).

al. (2004) adopt a 50% ownership threshold in the case of Denmark.

To qualify as a FF in our definition of SFFs, we adopt a strict criterion by adding to

3. Financial sophistication and non-basic financial products

transfers, bill discounting, advances subject to collection and mortgages.

complex product categories increases with firm’s size.5

served: 1) corporate finance, 2) cash management, 3) corporate lending, and 4) risk

summarizes our classification of non-basic financial products.

characteristic of the small firms.

(2000) and Aronoff (1998), or on President/CEO self-assessment, as in Sonfield and Lussier

(2004).6 Therefore previous studies on financial sophistication mainly focus on internal

financial methods rather than external products provided by financial intermediaries.

products used by SFFs and the drivers of their choices.

forecasting, etc.)” (Sonfield and Lussier, 2004, p. 202).

Thesmar, 2007; Villalonga and Amit, 2006.

basic products (and consequently to an understanding of the level of financial sophistication

specifically, size, generation, presence of an external CEO or CFO, and presence of an

Based on these characteristics, we then build our hypotheses.

4.1. SFFs and generation

sales forecasting and accounts receivable).

products used and their drivers.

Hence we analyze the sophistication of firms’ financial policies by focusing on their

empirical groundwork, we make the following hypothesis:

4.2. SFFs and external CFO and CEO

employ less modern risk-adjustment techniques.

of financial products used, leading to our second hypothesis:

those without an external (non-family) CEO or CFO.

4.3. SFFs and external shareholders

The third characteristic of FF that we study is the presence of non-family shareholders

though they are less likely to use modern risk-adjustment techniques.

External shareholders can play an important networking role, facilitating access to

sophistication in terms of products used.

4.4. SFFs and size

size is a driver of financial policy sophistication.

5. Data and methodology

5.1. Sample and questionnaire

has five sections:

employees, assets, sales, leverage, and cash flow;

investment banks and presence of an external CFO;

owner with absolute control (see Section 2).

collection, factoring, financial leasing, operating leasing, mortgages, syndicated loans,

zero if it was not.11

* Insert Table 4 about here*