DBJ Discussion Paper Series, No.0904

Adoptive Expectations:
Rising Sons in Japanese Family Firms

Vikas Mehrotora
Randall Morck
Jungwook Shim
Yupana Wiwattanakantang

September

2009

Discussion Papers are a series of preliminary materials in their draft form. No quotations,reproductions or circulations should be made without the written consent of the authors inorder to protect the tentative characters of these papers. Any opinions, findings, conclusions or
recommendations expressed in these papers are those of the authors and do not reflect theviews of the Institute.

First draft: June 30th 2007
This draft: September 24, 2009
Preliminary: Comments Welcome

Adoptive Expectations:
Rising Sons in Japanese Family Firms
Vikas Mehrotra,a Randall Morck,b Jungwook Shim,c &Yupana Wiwattanakantangd

Abstract

A unique Japanese practice of adopting adults, even if one has biological children, makes Japanesefamily firms unusually economically competitive. Using a large panel that very nearly comprises the
population of postwar listed nonfinancial firms; we find inherited family firms more important inpostwar Japan than generally realized, and also performing well – an unusual finding for a developed
economy. Adopted heirs’ firms outperform blood heirs’ firms, and match or nearly match founder-run
listed firms. Both adopted and blood heirs’ firms outperform non-family firms (excluding founders’firms). With blood heir gender and educational records as instruments, we find family succession
events “causing” elevated performance. These findings are consistent with adult adoptees displacing
blood heirs in the left tail of the talent distribution, with the “adopted son” job motivating star
managers, and with the threat of displacement inducing blood heirs to invest in human capital,
mitigating the so-called “Carnegie conjecture” that inherited wealth deadens talent.
KEYWORDS: ADOPTION, CORPORATE GOVERNANCE, FAMILY BUSINESS, INHERITED ABILITY,JAPAN, SUCCESSION.
G32, G34, M13
JEL CODES:a. A. F. (Chip) Collins Chair in Finance, University of Alberta School of Business, Edmonton CANADA T6G2R6. E-mail:vmehrotr@ualberta.ca Phonr: +1 (780) 492-2976
b. Distinguished University Professor and Stephen A. Jarislowsky Distinguished Chair in Finance, University of Alberta
School of Business, Edmonton CANADA T6G2R6; Research Associate, National Bureau of Economic Research. E-mail:randall.Morck@ualberta.ca. Phone: +1 (780) 492-5683.
c. Institute for Economic Research, Hitotsubashi University, Naka 2-1, Kunitachi, Tokyo, JAPAN 186-8603. E-mail:sim0625@gmail.com.
d. Institute for Economic Research, Hitotsubashi University, Naka 2-1 Kunitachi, Tokyo, JAPAN 186-8603. E-mail:yupana@ier.hit-u.ac.jp.

We are grateful for helpful comments from Joseph Fan, Masaharu Hanasaki, Katsuyuki Kubo, Seki Obata, Juro Teranishi
sensei, Hugh Pattrick and from seminar and conference participants at the University of Alberta, the University of Calgary,
the Chinese University of Hong Kong, Columbia University, Hitotsubashi University, IIM-Bangalore, the Indian School ofBusiness, Kobe University, Kyoto University, London School of Economics, London Business School, the University of
Lugano, and Osaka University. We acknowledge financial support from the Grant-in-Aid for Scientific Research (kakenhi)
provided by the Japanese [Ministry of Education, Culture, Sports, Science and Technology (MEXT) and the Murata
Foundation. All remaining errors are the authors’ responsibility.

“Better to have daughters than sons, for then I can choose my sons.” Mitsui patriarch.

1.

Introduction

If talent and intelligence were reliably inherited, biologically or environmentally, family firms

should dominate economic activity. However, such traits are, at most, unreliably geneticallyinherited (Herrnstein and Murray 1994; Heckman1995). Moreover, restricting the top job to family
truncates non-family executives’ career options, inducing an adverse selection problem in thehiring and retention of outsiders (Aronoff and Ward, 2000) and limiting the efficacy of CEO

tournaments in eliciting lower-level executives’ effort (Lazear and Rosen, 1981; Demsetz, 1996;

Frank and Cook, 1996). Perhaps most damning, the US robber baron Andrew Carnegie (1899)

famously conjectures that enormous inherited wealth “generally deadens the talents and energies”– a premise supported in US tax data (Holtz-Eakin et al. 1993). Given this threefold competitive
disadvantage, the wisdom of the Chinese proverb “wealth shall not pass to a third generation”
follows.

The benefits of entrusting corporate governance to business families are less definitive.

Theses that family firms have a competitive advantage in longer term thinking or lessen agency
conflicts lack empirical support (Bertrand and Schoar, 2006). Empirically support instead suggests

family control is a feasible second best solution around dysfunctional institutions, such as weakshareholder rights (La Porta et al. 1999; Burkart, Panunzi and Shleifer 2003) or widespread

corruption (Khanna and Palepu 2000; Khanna and Rivkin 2001), which correlate strongly withfamilies dominating big business (La Porta et al. 1999; Fogel, 2007). Family firms also performbetter in less developed economies (Khanna and Yafeh, 2007) and worse in more developed
economies (Bennedsen et al. 2007; Morck, Wolfenzon, and Yeung, 2006).

Japan is a highly developed economy with solid institutions, and its big businesses are

generally thought professionally managed (Porter, 1990). However, using a panel of nearly all

nonfinancial firms listed from 1949 (when stock markets reopened) through 1970, and followed

until 2000, we find inherited family control commonplace in large Japanese businesses. Moreover,
we show firms controlled by heirs to outperform like professionally managed firms. These results
are highly robust and an analysis of succession events suggests family control “causes” good
performance, rather than the converse.

To explain this seeming paradox, we highlight two unique facts about Japanese familybusinesses. First, business families in Japan continue to practice a form of arranged marriages
called omiai, literally meaning “arranged seeing”, where the girl meets an approved groom

presumably selected by the business patriarch based on business acumen. Second, Japanese2families commonly adopt an adult son if nature provides either none or inadequate natural ones.

Business families often select such adopted sons from the ranks of their most promising top
managers. The firm, the “new” son usually takes the family name in a legal adoption process,swears allegiance to his new ancestors, and in most instances also marries a daughter of the current

patriarch – hence the Mitsui patriarch’s quip above. Adult adoptions are commonplace in Japan, butrare elsewhere in Asia and the West. This Japanese propensity to adopt highly successful adults,
rather than needy children, evokes stiff rebuke from foreign child advocates and researchers alike. 1

We postulate that adult adoption invigorates family firms in two ways, thus explaining theabove paradox. First, adult adoptions mitigate the suboptimal succession problem in Burkart et al.
(2003): having drawn blood heirs from the far left tail of the talent bell curve, a business family canrecover by adopting a top manager as a more able son. This presumably attenuates the lower talent

tail of observed heirs and broadens the upper tail. Second, unlike their peers in foreign family firms,
Japanese professional executives can aim for the top job of “heir” a prize not normally considered in

discussions of Western family firms. Finally, blood sons, knowing adopted adult sons can displace
them, dare not let their talents and energies be deadened. As the threat of a hostile takeover, rather

than its actual occurrence, spurs professional managers to efficiency; the threat of displacement by
a “better” son may well mitigate the Carnegie conjecture.

We posit that these effects explain the incidence and prosperity of large old-money family

firms in postwar Japan. Elsewhere (Mehrotra et al. 2009), these considerations have lead us to

speculate that selecting sons-in-law on the basis of business acumen might partially mimic these
positive effects of adopting talented outsiders into the family, and that arranged marriages mightthus be an important social construct in explaining the prevalence of family firms in many moreconservative societies .

The remainder of the paper is organized as follows. In section 2 describes Japanese

adoption practices and highlights their stark distinctions from those of other countries – Westernand Asian. Section 3 describes our data and variables; and section 4 contains our empirical test
results. Section 5 concludes.

1 See, for e.g., Hayes and Habu (2006), who the effect of adoptions on child welfare as “questionable” in Japan.

3

2.

Family Firms and Japanese Traditions

Differences between Japan and other countries are easily exaggerated.

However, Japan

unquestionably has a very unique concept of adoption, and this provides a unique set of
institutional constraints around family firms.

2.1

Pitfalls of Dynastic Corporate Governance, and a Japanese Solution

Dynastic corporate governance is subject to two fundamental problems: heirs who do not inherit
business acumen and heirs whose upbringing renders them unqualified.

Leading a great business requires intelligence; though of a form clearly different from thegeneral intelligence measured by IQ tests.

Business acumen probably depends on social oremotional intelligence (Thorndike, 1920; Payne, 1983), and perhaps other traits (Gardner, 2007),

complementing general intelligence (Cote and Miners, 2006). Business acumen, like other humancharacteristics, is likely subject to “regression to the mean”. That is, outliers with extreme traits

arise occasionally, but each successive generation of the family’s progeny average ever closer to theglobal population mean (Galton, 1886). General intelligence is, at most, only partially inherited(Herrnstein and Murray, 1994; Heckman, 1995; Devlin et al. 1997), so it seems implausible thatbusiness intelligence would reliably run in families.

Another reason for positing a competitive disadvantage to hereditary corporate control

arises from recent work showing that the CEO labor market is efficient in offering highcompensation premiums for slight edges in talent because this induces tournament competition for
the top job (Lazear and Rosen, 1981; Demsetz, 1996). This is important for two reasons. First, asmall edge in CEO talent applied over the assets of a large firm is plausibly an economicallysignificant competitive advantage for the firm (Frank and Cook, 1996). But more importantly, atournament to become CEO elicits effort from middle and lower-level executives who aspire to the

top job. Restricting the pool of CEO candidates to family members should be costly on both counts:
First, the most talented potential CEO in the family is unlikely to be better than the most talented

potential CEO in the population. But more important, professional executives working for thefamily firm are not eligible for the tournament and their effort is correspondingly lessened, or lessaligned with the firm’s prosperity if the ambitious executive must contemplate switching employers
to have a shot at the top job.

A third reason for doubting the efficacy of dynastic corporate governance is the so-called“Carnegie conjecture.” Arguing that the wealthy should bequeath their fortunes to schools, libraries,4

parks, music halls, and the like, the US steel tycoon Andrew Carnegie (1891) writes: “the parent

who leaves his son enormous wealth generally deadens the talents and energies of the son, andtempts him to lead a less worthy and less useful life than he otherwise would.” Concluding that
inherited wealth is destructive to both the heir and society, Carnegie argues that those who

accumulate great fortunes have a duty to redistribute their wealth during their lifetimes to leave alegacy of elevated social welfare.

Empirical studies in developed economies generally find heir-controlled firms tounderperform significantly (Morck et al. 1988, 2000; Bertrand and Schoar, 2006; Bennedsen et al.

2007; Villalonga and Amit, 2007; Miller et al. 2007; and others). Studies to the contrary generally

use extremely broad definitions of “family firms” (Bertrand and Schoar, 2006) – for example,

Anderson and Reeb (2003) number founder-controlled firms such as Berkshire Hathaway andMicrosoft among ”family firms”.

Inherited corporate control clearly “causes” depressed

performance because firms’ share prices drop immediately upon the news of the CEO job passing toan heir (Smith and Amoako-Adu, 2005; Perez-Gonzalez, 2006; and others). Holtz-Eakin et al.
(1993) find evidence supporting the “Carnegie conjecture” by inferring “deadening” from heirs’ US

tax returns before and after receiving legacies. Business historians Landes (1949) and Chandler(1977) some countries’ superior economic performance to their professionalized big businesssectors outpacing economies still relying on family firms. Family firms in developing economies, incontrast, are often found to exhibit superior performance (Khanna and Palepu, 2000; Khanna andRivkin, 2001); perhaps reflecting a dearth of trained professional managers, family connections
substituting for dysfunctional markets, or the value of business families’ political connections(Morck et al. 2005). Despite a preponderance of theory and evidence panning dynastic corporate

governance, the persistent dominance of very large family firms in most economies remains apuzzle (La Porta et al. 1999; Landes, 2006). This stylized fact suggests the existence of solutions to
the pitfalls of dynastic corporate governance.

The great Tokugawa era merchant families - the Mitsui and Sumitomo especially - foundworkable solutions to these problems in adoptions, arranged marriages, or both. For example, theSumitomo mixed adoptions with arranged marriages. Thus, Masatomo Sumitomo (1585-1652)
arranged his daughter’s marriage to his nephew, Tomomochi Soga, who replicated foreign copper

smelting techniques. Using Sumitomo money, and taking the Sumitomo name, he founded a copper
refinery that bankrolled the family for centuries.

Other business families also used arranged marriages and adoptions of sons-in-law to bringtalented men into the family – and some reputedly valued marriageable daughters more highly thansons (Morikawa, 1992, p.53). Many daughters, after all, let the patriarch select top businessmen as
5

sons-in-law, and then make the best among these his son. 2 Arranged marriages feature in familybusinesses elsewhere (James, 2006; Landes, 2006), but adoption as a form of executive
compensation is (as far as we know) a uniquely Japanese invention. 3

2.2

Japanese Adoption Practices

With this distinctly mercantile ethos well-preserved, adoption remains common in modern Japan.

Paulson (1983) reports that 30% of her survey respondents respond affirmatively that “an adoptee

was among their relatives”. Comparative statistics are difficult because many countries keep
adoptions confidential, but Yamahata (1977) estimates adoption far more popular in modern Japan
than in any other country, with the possible exception of the United States.

However, most U.S. adoptees are children, while Japanese adoptees are overwhelmingly

adults. Moriguchi (2007) reports that 2.5% of U.S. children are adopted, the highest rate per capita
in the world: 31.4 per 1000 births, or 127,000 adoptions (Child Welfare Information Gateway,2004) 4 in 2000. This compares with only 1.6 child adoptions per 1000 births in Japan that year. Of

the 80,790 adoptions reported in Japan in 2000, only 1,718 were of children; and all but 362 ofthese were by grandparents or step-parents. The other 79,072 adoptions, 97.9% of the total, wereof adults by adults.

Since 1988, the law permits two forms of adoption (yôshi). 5 One form, special adoption(tokubetsu yôshi), resembles Western practices, and permanently transfers a child younger than six(eight in certain foster care cases) to adoptive parents. A special adoption severs all legal links
between the child and its biological parents, and is designed to advance the welfare of a needy child(Hayes and Habu, 2006). This is a new, imported, and rarely used procedure. The courts approve
only a few hundred each year in Japan – 521, 362, and 350 in 1995, 2000, and 2002, respectively. 6

The traditional form of adoption, now called ordinary adoption (yôshi engumi or fûtsu yôshi),remains far more common. The adoptee is usually an adult male who, in return for an inheritance,

agrees to carry forward the adopting family’s name. Both parties to the adoption transaction must
be above the age of consent (over 15) or court approval is required – except for adoptions of one’s
2

For e.g., the Suzuki family has adopted sons-in-law in the past and promoted them to top management even when

own blood sons were available for the position.
3 Chen (2004) argues that the uniquely Japanese custom of using adoptions as a successor strategy can
explain differences between Japanese and other Asian business groups.
4
See www.childwelfare.gov/adoption.
5 This discussion follows Hayes and Habu (2006, ch. 1).
6 Hayes and Habu (2006, Table 2, p 137) and Ninomiya (2006, p. 192).

6

grandchildren or step-children (Civil Code §798). The adopted heir must also be at least a day

younger than the adoptive parent. Adoptees’ average age at adoption is over twenty, and the vast
majority of adoptions registered in Japan each year between consenting adults (Bryant, 1990, p.

300). Elsewhere, adult adoption is vanishingly rare (Kitsuse, 1964). 7 O'Halloran (2009) notes thatJapan’s “…continuing tradition of providing for the adoption of adults, is without any comparable
precedent among developed nations.”[Table 1 about here]

Table 1 summarizes these patterns in adoptions through the postwar period. More recent

statistics show much higher rates of adult adoption than earlier in the postwar period, averaging 97

to 98% from 1985 on. Thus, of the 83,505 adoptions registered by Koseki offices in 2004, only

1,330 (2%) were of children. The higher rates of child adoption in the years immediately following
the war are perhaps due war orphans.

Ordinary adoption sanctifies the voluntary severing of most, but not all, ties to one’s birthparents and their replacement with fealty to one’s new parents. The adoptee may often remain incontact with his birth parents, and may even inherit from them. If the adoptive relationship is
disrupted, the adopted child may return to his biological parents.

Calling ordinary adoption a transaction is appropriate, for Hayes and Habu (2006, pp. 2-3)

explain that “in Japanese society there continues to be a vein of unsentimental pragmatism towards
adoption arrangements. There is a fairly widespread view that it is ethically acceptable for parents

to become adopters for worldly objectives, even if they do not intend from the outset, to love thechild as their own.” Lebra (1989, p. 203) clarifies that “nurturance and intimacy were secondary or

irrelevant to the mandate of professional succession, and often were completely absent from theadoptive relationship – even where the adoptee was destined to become the new head of thehousehold.” 87 The Common Law, from which most English speaking countries derive their legal systems, initially did not

sanction adoption. Although the practice occurred informally, adoptees could not inherit unless named asheirs in a legal will. Legislation permitting legal adoptions passed in the mid-19th century in the United States,
and in 1926 in the United Kingdom (Bryant, 1990, n. 6) Adult adoption, though legal in 47 U.S. states and theDistrict of Columbia, remains rare and controversial for allowing the circumvention of gay marriage
restrictions (Paveno, 1987). Thus Wadlington (1966, p. 409) thunders that "our present system adoption isdesigned to create through artificial means something resembling as closely as possible a normal parent-childrelationship and not a freak or totally new form of relation."
8 Quoted in Hayes and Habu ( 2006, p. 11)

7

Most ordinary adoptees are of adult sons (Paulson, 1984, p.165, 289) because the practice isdesigned to rescue biologically ill-fated families, not to provide for a needy child. 9 Hayes and Habu
(2006, p. 1) elaborate: “Adoptions can be used to reconstruct patriarchal families. Families withsuperfluous sons would pair them off in a combined marriage and adoption to families withdaughters.” Since the incest law only proscribes sex between biological siblings, a daughter andadopted son may marry. That a term, muko yôshi, exists to describe a husband-who-is-also-an-

adopted-brother indicates this to be an accepted and relatively commonplace form of adoption; andPaulson (1983) reports 55% of adoptions in 1981 to be of sons-in-law. Of course, if a desirable

potential son is already married, an adult married couple can also be adopted in a single transaction.
Parents who adopt adult sons either lack biological sons or desire better quality sons thannature provided. Although Nakane (1967) argues that families seldom disinherit biological son infavor of an adopted son, subsequent ethnographic work convincingly refutes this. Beardsley et al.
(1959) report at least one instance of adopted sons superseding biological sons in the histories of
25% to 33% of rural families; Pelzel (1970) estimates its frequency at 25%, and Bachnik (1983)

puts its incidence at 34%. Pre-modern records indicate even higher frequencies (Bachnik, 1983, p.
163).

The patriarch of a family business can thus adopt a new son, say a star manager, should his

biological sons prove uninterested or incapable of honoring the family name. This occurs withsome regularity (Paulson, 1984, 165-75; Kurosu, 1998; Hayes and Habu, 2006, p. 2). In this context,translating yôshi as adoption might be confusing. Terms like protégé or successor seem at least as

appropriate as adopted son. Similar relationships, between family business patriarchs and favoredjunior associates who become “like sons”, may well occur less visibly in Western countries.

This echoes a linguistic ambiguity as to what constitutes a family versus a firm. A Japanesefamily business is referred to as a house (ie or 家), as in the House of Mitsui; but ie can also meanfamily or household. 10 This conflation also occurs in West, as with the House of Windsor and J.P.

Morgan’s 19th century investment bank, the House of Morgan (Goodman, 2000, p. 20). Repackaging

a business as a family is readily dismissible as “an ideological obfuscation created by those at the
top of the economic hierarchy.” 11 But something more is clearly going on where a top

managersubsequently becomes the head of an adopting family as well as that family’s businesses.

9 The remainder include minors as well as adults of both genders, but the vast majority are presumably males.

A stigma attaches to adopting females because of past abuses.

10 The ie lost its legal status after World War II (Oppler, 1976, pp. 116-120); but Bachnik (1983) outlines its

continued informal usage and the difficulties this causes translators.
11 Hayes and Habu (2006, p. 12)

8

It is tempting to see adoption as a liberal adaptation allowing “competent individuals tosurmount rigid social barriers” in Japan’s hierarchical society (Burke, 1962, p. 108-9). Haynes andHabu (2006, p. 12) more warily suggest that “the overlap between family and business concerns,
potentially at least, forms an integrated social ethos in which the aspirations of a powerless childcan find a place.” Although, they caution against pressing this too far, noting that many ordinary
adoptions are within extended families, Macfarlane (2002) notes that “those who were adopted

were not necessarily or even primarily blood relatives” and cites several studies that support theview that “adoption became a mechanism for social mobility” in pre-modern Japan.

The Japanese government restricts adult adoption for fiscal reasons. The 1988 revision to

the tax law prevents testators evading inheritance taxes via multiple adoptions. Thenceforth anadopter with one or more biological children may bequeath to one adoptee only, and an adopter
lacking any biological children may bequeath to two adoptees (Nakagawa, 1991, 89). A parent

might still adopt many sons in order to have a broader choice of successors, but since only one may
inherit, the supply of eager second, third, and forth adoptees is likely to be meager.

Foreigners periodically sought to change Japanese adoption practices, which seemed

immoral to Chinese and Western sensibilities alike. Chinese legal imports, beginning with the Taiho

Code of 702 A.D., sought to impose Confucian morals restricting adoptions to blood relatives (Mass,
1989, 9-11, 25, 72). In seeming deference to European sensibilities, Japan’s imported Civil Code(§792-3) mandates that the adopted child be at least a day younger than the adopting parent(Takenoshita, 1997, p. 9). 12 Both sought to fit Japanese pegs into foreign holes. The Taiho Code wassoon “improved”, and modern registries sometimes let a younger parent adopt an older child “bymistake” (Nishioka, 1991, pp. 232-4).

Foreign criticisms of Japanese adult adoption practices are not entirely groundless. Before

the Great War, families adopted children as de facto slaves, sold by their biological parents; andbrothel owners adopted their prostitutes. 13 Draft dodgers became “only sons” of childless families,

and thus escaped conscription (Paulson, 1984, 278-9). Adult adoptions are also used to hideaffaires or to circumvent money lending laws (Bryant, 1990).

But Japan’s adult adoptions doubtless primarily evoke condemnation because theychallenge the conventions of other cultures. Elsewhere in East Asia, adoptions are a duty of blood

relatives, but “the more rigid forms of Confucianism have not constrained non-relative adoption in

12 Japan’s adopted Civil Code is frequently described as imposing primogeniture and other Western concepts
of inheritance, and Western advisors apparently also believed this (see e.g. Morris, 1894). However, Bachnik(1983, esp. pp. 168-9) explains at length how the Japanese wording of the Meiji Civil Code clearly permits thecontinuation of traditional adoption practices. See Wadlington (1966) on the importance of age differences in
U.S. adoption law.
13 Oppler (1976, 113 n 3; Paulson (1983, p. 271 & 275)

9

Japan to nearly the same degree as elsewhere” (Kaji, 1999; see also Bryant, 1990, n. 32). 14 This

shocked and appalled Confucian traditionalists, like Dazai Shundai (1680-1747), who deplores

Japan's “lawlessness”, and singles out its “barbarous” and “promiscuous” adoptions as “a major

example of chaos” (Lebra, 1989, p. 185; quoting Kirby, 1908). In the same vein, the 19th century

historian Shigeno Aneki (1887) compares the “evils” of adoption to those of imperial abdication(Lebra, 1989, p. 186).

The above is a vast oversimplification, but conveys the gist of adoption practices as theyaffect Japanese family businesses. We distill two key economic implications.

First, Japanese family businesses confronted with an heir who is incapable or ill-disposed totake over the family business can readily adopt a more able son. Adoption lets family firms expand

their successor searches beyond biological sons, and even beyond blood kin and in-laws, to include
virtually the same applicant pool a widely held professionally managed firm might tap. In theory atleast, Japanese family firms ought to be able to meld such benefits as family ownership confers withthe free-ranging competition among potential successors that helps put the most able managers incharge of professionally-run firms.

Second, the threat of adoption may induce a greater work ethic in biological children, for“the eldest son too was sometimes forced out into the world, if a more competent younger or
adopted son was appointed to succeed to the family property or rights” (Burke, 1962, p. 109).
Adult adoptions may thus help counter the famous Carnegie Conjecture that inherited fortunes sodeaden initiative and distort perspective as to virtually guarantee failure in running a great
business.

3.

Data Description

We begin with 1,433 non-financial firms that listed in all Japanese stock exchanges (the Tokyo,
Nagoya, Fukuoka and Osaka stock exchanges) from 1949 (when markets reopened after the war to

new listings, as well as previously listed prewar firms) through 1970. We follow these firms from1962, when standardized financial disclosure begins, until 2000 or a delisting, whichever comes
first. 15 Our need for complete data on each firm’s ownership structure, board, and financial

variables during that period cuts the sample to 1,367 firms. Our sample includes 95% of all listed
firms during this window.

14 Quoted in Hayes and Habu (2006, p. 11).

15 Between 1970 and 1990, only 31 firms in our sample delist. A further 95 delist from 1991 through 2000.
The remarkable longevity of Japanese firms prior to the 1990s corroborates Fogel et al. (2008).

10

3.1

Data sources

Our ownership data are from the Development Bank of Japan database for 1981 through 2000, as

are our accounting data from 1962 through 2000. The Toyo Keizai database provides information

on boards from 1989 through 2000. For prior years and years with missing data, we hand-collectownership, board, and financial data from hardcopy annual reports available at the Institute of
Innovation Research of Hitotsubashi University.

Ownership data disclosed in annual reports include: (1) the stake of each of the top ten

shareholders, (2) the combined stake of all banks, and (3) the combined stake of all othercorporations. Board data include detailed information on board members’ education (alma mater,

major, and graduation year), birth date, year initially hired, year appointed to the board, year madePresident (shacho) and Chairman (kaicho), and prior work experience.

We identify each firm’s founder by consulting the following sources: (1) company archives(shashi) commemorating firms’ anniversaries); (2) Toyokeizai Shimposha (1995), (3) Nihon Keizai

Shimbun (2004), and (4) company websites. To identify the family relationship among the founding
family members, we use various books published in Japanese: (1) Tokiwa shoin (1977) provides

family trees of 1002 business leaders, (2) a series of books published by Zaikai Kenkyusho (1979,

1981, 1982, 1983, 1985) provides the names of family members of the board of listed firms, and (3)the thirty-eight book volumes published by Nihon Keizai Shimbun (2004) provide biography of 243

top business leaders during postwar Japan. Additional information on family relationships is

obtained from the following sources: a number of volumes of equivalent to “Who is Who” publishedby Jinjikoshinjo, the Nikkei Telecom 21 database of corporate news from 1975 on in the Nikkei

newspapers (Nihon Keizai Shimbun, the Nikkei Business Daily, the Nikkei Financial Daily and the

Nikkei Marketing Journal), and website searches. We combine all this information to constructfamily trees naming all the members of each firm’s founding family, and their relationships to eachother. This information lets us identify each firm’s founder(s), ultimate owners, and if each
President/Chairman is related to the founding family by blood, marriage or adoption.

3.2

Defining and classifying family firms

Previous family firm studies have been criticized for overly broad definitions of family firms(Bertrand and Schoar, 2006) that also include firms run by their founders. We therefore use analternative term, the Japanese word don (ドン, lit. boss) and designate firms run by their founder or11their progeny as don firms. 16 By “run” we mean that the founder or founding family retains either asignificant equity stake or a significant role in management. We consider the individual whoestablishes a business as its founder. For example, a business established in the Edo period,

restructured into a partnership during the early Meiji era, incorporated in the early 20th century,

taken public in the 1920s, and relisted in 1949, is founded by the person who first established it in
the Edo period. We thus define a don firm as one with a member of its founding family listed amongits top ten shareholders or serving in a leadership position: either as President (shacho) or Chairman(daihyo torishimariyaku kaicho). If only one founding family member fulfills these requirements,

we call that person the firm’s don. If more than one founding family member appears in these roles,

we define don as the one serving as President or Chairman. If both positions are occupied bymembers of the founding family, we define don as the older. Thus, if a founder is a top ten

shareholder, but does not serve as President or Chairman, and an heir serves in a leadership

position, the heir is classified as don. This is clearly a judgment call, but we presume that, in thesefirms, the heir is the actual decision-maker.

Firms lacking dons we call non-don firms. We thus employ the following indicator functions

in our analyses:

1

if firm j has a don in year totherwise[1]𝛿𝛿(don)𝑗𝑗 ,𝑡𝑡 ≡ �0[2]𝛿𝛿(non-don)𝑗𝑗 ,𝑡𝑡 ≡ �
10

if firm j has a don in year totherwise

We also partition non-don firms into those that had a don at one time during our sample period,

denoted former-don firms; and firms that had a don at no time during our sample period, denoted

never-don firms.

Because founders need not, and often do not, bequeath control to their heirs, don firms

include many businesses that ought not to be considered family firms.

For example, when

Villalonga and Amit (2006) apply this criterion to the United States, both Microsoft and Berkshire

Hathaway meet the test – although their founders, Bill Gates and Warren Buffett, both explicitly
bequeathed their fortunes to charities, not their children. They therefore recommend a tighter

definition of family firms as those in which control has actually passed to the founder’s heirs. We
therefore denote true family firms as those whose current don is the previous don’s heir. This

16 For lack of a better term, we use this somewhat archaic title for a high-status male, now seldom foundexcept in formal business letters. The title derives from the.Latin dominus, meaning lord, via Portuguese don.

12

narrower definition understates the incidence of family firms, for it excludes firms run by founders
who do not plan to pass control to their heirs. However, it has the virtue of including only firms

unambiguously identifiable as family firms. Other don firms – those still run by their founders – wecall founder-run firms. We formalize this with the indicator variables[3]𝛿𝛿(founder)𝑗𝑗 ,𝑡𝑡 ≡ �
0[4]𝛿𝛿(family)𝑗𝑗 ,𝑡𝑡 ≡ �
01

1

if firm j 's don in year t is its founderotherwise

if firm j 's don in year t is an heir
otherwise

Finally, we partition true family firms into subcategories according to the position of thecurrent don and his relationship to the previous one. A firm whose current don serves as president

or chairman and is the previous don’s biological son we call a blood heir firm. A firm whose current

don serves as president or chairman and is the previous don’s adopted son or son-in-law we call a
non-blood heir firm. Our data include no instances of daughters taking over. A third category of truefamily firm arises where a biological heir ranks among the top ten shareholders, but delegates boththe President and Chairman positions to professional managers (in the remainder of the paper, we
refer to the President as the CEO, for consistency with prior literature, even though the Japanesetranslation for the top executive is closer to the English President). These we denote sarariman
firms. 17

Our data contain no non-blood heirs adopted as children, consistent with the rarity of thispractice. Almost all of the legally adopted heirs in our sample also marry a daughter of the founding

family. We have two instances of control passing to an ordinary adoptee who is not also a son-in-law.

We therefore designate firms whose current dons are their previous dons’ sons-in-law as asecond category of non-blood heir firms. This is justifiable if the dons impose arranged marriages

on their daughters, but may be problematic if daughters chose their own mates. The former

assumption is reasonable because arranged marriages (omiai), in which dons select husbands fortheir daughters on the basis of business advantage, remains commonplace in Japanese businessfamilies (Hamabata (1991) and Kerbo and McKinstry, 1995).

17 The Japanese term for a professional manager is sarariman, from the English “salary man”. The term
connotes an executive who works long hours, but does not control his destiny.

13

[5]

1
if firm j 's don in year t is a blood heir𝛿𝛿(blood heir)𝑗𝑗 ,𝑡𝑡 ≡ �
0 otherwise[6]

if firm j 's don in year t is a adopted son or son-in-law𝛿𝛿(non-blood heir)𝑗𝑗 ,𝑡𝑡 ≡ � 1
0 otherwise[7]

𝛿𝛿(sarariman)𝑗𝑗 ,𝑡𝑡 ≡ �
01

if firm j is a don firm in year t, but run by a professional CEO
otherwise

We do, however, have 20 cases in which founders are succeeded by temporary sararimanCEOs, who are subsequently succeeded by a blood or non-blood heir. Inspection of news reports

describing these cases make the temporary status of these transition CEOs clear: they are minding
the firm while grooming the designated heir, or while the designated heir concludes otherbusinesses or commitments before taking charge of the family firm. Examples are Toyota Motors
and Canon. These interim CEOs are not considered heirs, nor are they on par with sarariman CEOs

in a chain of sarariman CEOs, providing professional management over the long term. Therefore wedropped these cases from our sample.

The partition of family firms in [5], [6], and [7] raises the issue of whether non-blood heirs –adopted sons or sons-in-law – should be identified as an alternative to heirs or an alternative tosarariman CEOs. We explore this by comparing the tenures of the three categories of successor.
Founders unsurprisingly remain at the helm longest: serving for a mean tenure of 30.23 years anda median tenure of 30 years. Sarariman CEOs in family firms have the shortest tenures: averaging
only 6.31 years with half gone after 5 years. However, blood and non-blood heirs’ tenures are

essentially identical: blood heirs average 18.74 years and non-blood heirs average 18.4 years; halfof blood heirs are gone after 16 years and half of non-blood heirs are gone after 17 years.

We

conclude that non-blood heirs’ control positions are as secure as those of blood heirs, and that bothare far more secure than the positions of sarariman CEOs. 18

The number of don firms varies by year. For example, the initial 1962 cross-section of ourpanel contains a total of 1,060 firms. Of these, 37% are don firms, and the remaining are non-don

firms. Of the don firms, we classify 17% as founder-run and the remainder (20%) as true family

firms. Of the true family firms, 41 are run by non-blood heirs – comprising almost a fifth of family
firms and 4% of the full sample. Of the non-blood heirs, 22 are adopted sons, all of whom also
18

Studying S&P 500 firms from 1992 through 2004, Coates and Kraakman (2007) report the mean tenure of hired
CEOs to be 5.5 years and that of equity control blockholder CEOs to be 13.4 years.

14

marry the previous don’s daughter, and the remaining 19 are sons-in-law who are not formally

adopted.

By the end of our analysis period, in 2000, don firms represent 31% of the total sample,

down from 37% in 1962.

Founder-run firms decline to less than 1% by 2000 (as founders retireor pass away). True family firms represent about 30% of the sample in 2000 (about the same levelfrom 1980 onwards). Non-don firms represent almost 70% of all firms in 2000.

The total fraction of don firms in Japan resembles the fraction of “family” firms reported

among U.S. Fortune 500 reported by Anderson and Reeb (2003), whose definition of family firm

resembles ours for don firms. Thus, while neither America nor Japan is usually considered an

economy of family firms; dons, and perhaps their heirs too, may be more important than generally
accredited in both countries.

When family firms are defined as those controlled by second or later generation heirs, only

7% of the Fortune 500 firms in Villalonga and Amit (2006) qualify. This is substantially less thanour 30% figure for inherited family control in all listed Japanese firms; however, our sample

includes all listed firms. Family control in postwar Japan is clearly economically significant – a fact

generally not acknowledged in discussions of Japanese corporate governance.

3.3

Variables

We measure several dimensions of firm performance. A multidimensional approach is needed
because Japanese law does not mandate that firms be run to maximize shareholder value, andbecause banks and employees interests are often posited to trump those of shareholders (Porter etal., 2000). We describe each variable in turn. Summary statistics are displayed in Table 2.

Robustness checks using alternative definitions of the variable are deferred to section 4.4.
[Table 2 about here]

Firm valuations
We gauge shareholder valuation by a firm’s Tobin’s average Q ratio (Q) - its market value toinvestors divided by its replacement cost. This is essentially the firm’s value to shareholders

divided by the value of its measurable physical assets. A higher Q means the firm’s value isaugmented by greater net intangible assets – presumed, partly at least, to reflect superior past
management and superior expected future management. Average Q ratios, relative to industry

benchmarks to exclude factors beyond managers’ control, are therefore sensible measures of the15

quality of corporate governance (Morck et al. 1988; Gompers et al. 2003; Bebchuk and Cohen,2005) when stock markets are passably efficient, and perhaps even during bubbles.

We define market value as the price of the firm’s stock times the number of shares

outstanding plus the book value of its total liabilities. This values control blocks at public shareprices.

We estimate replacement cost as the book value of total assets plus adjustments for equity

holdings and real estate. Almost ten percent of the assets of the typical firm in our sample areshares in other firms, and these are carried at historical cost. We therefore multiply the book valueof a given firm’s equity holdings in a given year by the cumulative return of the Nikkei Index fromwhen the equity was acquired to the present. To estimate the age of equity holdings, we look at all
past acquisitions and disposals of equity, and assume that the most recently acquired shares are thefirst to be disposed of. Nominal sales are used throughout because inflation remained very low
throughout the postwar period.

Real estate holdings, also carried at book, are adjusted

analogously using the Japanese Real Estate Index.

Current profitability
Our second performance measure is each firm’s return on assets (ROA), defined as operating income

divided by replacement cost, as estimated above. Operating income is earnings before interest costs,

tax, and depreciation and amortization. This figure captures a firm’s current profitability, a measureof short-term financial performance.

Sales growth
Many scholars argue that Japanese firms, at least for a large part of the postwar period, competed togain market share, rather than augment profits or shareholder value. 19 Regardless of the social

welfare implications of such alternative objective functions, the degree to which different

categories of our firms deviate from value maximization is of interest. We therefore examine sales
growth rates as an alternative performance measure. We define sales growth as the logarithm of
the firm’s current year sales less the logarithm of its sales one year earlier.

Employment growth
Another common argument is that Japanese firms’ objective is employment, rather thanshareholder value (e.g. Geringer et al. 1999).

Again, knowing the extent to which different

19 See, among others, Abegglen and Stalk (1985), Johnston (1995), and Tsuru (1996).

16

categories of our firms deviated from value maximization is of interest. We therefore examinelabor force growth rates as another alternative performance measure. We define employment

growth as the logarithm of the firm’s current year number of employees less the logarithm of thenumber of its employees one years prior.

Control variables
The statistical tests in the next section require various controls. Industry indicator variables aredefined using the 2-digit industry classification code in the Development Bank of Japan data.

Leverage is long-term debt scaled by estimated replacement cost. Capital expenditure for year t isdefined as the change in fixed assets from year t-1 to year t, plus depreciation in year t. It is scaled
by total sales in year t.

Firm age is measured from the year of incorporation of the firm. Firm size is defined as thelogarithm of replacement cost. Risk is measured as the standard deviation of monthly stock returns
using the lagging three years of stock prices. This variable is used in certain robustness checks.

4.

Findings

4.1

Subsample comparisons

Our first sets of statistical tests, shown in Table 3, contrast dimensions of firm performance acrossdifferently controlled firms. Across the board, founder-run firms are the best performers, followedby non-blood heir-run firms. Though non-don firms are the largest of all, non-blood heir-run firms

are substantially larger than all other don firms. However, they are not greatly different in terms ofleverage. Unsurprisingly founder-run firms are younger than all other categories, and also lesswidely held, though non-blood heir-run firms are the second least widely held category.

Oursample is very nearly equal to the full population of listed Japanese firms, so the numbers in Table 3
are essentially population means, and thus meaningful without formal statistical tests.
[Table 3 about here]

To compare performance across these categories formally, we perform t-tests across

categories, controlling for year and industry fixed effects, clustering residuals by firm to compensate
for longitudinal persistence. To do this we run regressions of the form

17

[8]

K

38

26

k =1

s =1

i =1

π j ,t = a i + ∑ bk ⋅ δ (k ) i ,t + ∑ d s ⋅ δ s (t ) + ∑ hi ⋅ δ i (i ( j , t )) + e j ,twhere π j,t is firm j’s performance in year t (in terms of one of ROA, Q, sales growth or labor force

growth); the δ (k ) i ,t are a proper subset of indicator variables [1] through [7], with k one of founder,
blood heir, non-blood heir, or non-don. The δs are year fixed effects; the δi are industry fixed effects;

and the ej,t are residuals, clustered by firm. The t-tests are to reject the null hypothesis that acoefficient bk is zero, and are displayed in Table 4.

In terms of profitability and shareholder valuation, founder firms statistically significantly

outperform every other category of firm except non-blood heirs, whose firms perform statisticallyindistinguishably from founder firms. Founder firms significantly outperform non-blood heir firms

only in sales and labor force growth rates. This is unsurprising, since Table 2 shows non-blood heirfirms to be substantially larger (¥164B versus ¥58.2B) and older (43 versus 29 years since
founded), and are thus plausibly less prone to very rapid growth.

The panel using non-don firms as the benchmark shows family firms (don firms excluding

founder firm) outperforming non-don firms across the board. Notably, this performance premium
rests primarily upon blood heir-run firms and non-blood heir run firms, not on family firms run byprofessional sarariman CEOs.

The second panel, using firms run by their founders’ blooddescendents as the benchmark, confirms that founders outperform founders’ progeny across theboard; but that blood heirs outperform all categories of firms save those run by non-blood heirs.

Non-blood heirs outperform or tie all categories save founders, and sarariman firms outperform noother category at all, and lag all other classes of don firms.

Sarariman-run family firms’

performance is statistically indistinguishable from that of non-don firms.
[Table 4 about here]

4.2

Regressions controlling for firm characteristics

Table 5 expands upon the results in Table 4 by controlling for firm characteristics: size, leverage,
capital spending, and age in regressions of the form
[9]

K

N

38

26

k =1

n =1

s =1

i =1

π j ,t = a i + ∑ bk ⋅ δ (k ) i ,t + ∑ c n ⋅ x i ,t + ∑ d s ⋅ δ s (t ) + ∑ hi ⋅ δ i (i ( j , t )) + e j ,t18

where π j,t is one of our firm performance measures, the δ (k ) are some proper subset of the firm-

control indicator variables [1] through [7], the xj,t are control variable, the δt are year fixed effects,the δi are industry fixed effects, and the ej,t are residuals, again clustered by firm.

As in Tables 3 and 4, founder-run firms and family firms both significantly outperform non-don firms in all dimensions. Larger firms and firms with more aggressive capital budgeting
generally outperform, while more leveraged firms and older firms generally underperform.
[Tables 5 and 6 about here]

After controlling for these firm-level characteristics, in addition to industry and year fixed

effects, and again clustering residuals by firm, Table 5 reconfirms the superior performance offounder and family firms across all dimensions of firm performance.

Table 6 replicates the regressions in Table 5, but using different firm categories as thebenchmark for statistical comparison. The pattern of signs and significance levels in Table 6 is little
different from that in Table 4.

In terms of profitability and shareholder valuation, founder firms statistically significantly

outperform every other category of firm except non-blood heirs, whose firms perform statisticallyindistinguishably from founder firms in terms of accounting profits and shareholder valuations. As

in Table 4, founder firms significantly outperform non-blood heir firms in sales and labor force

growth rates. Since firm size and age ae among the control variables in Tables 5 and 6, neither ofthese factors can explain the high growth rates of founder firms. This suggests that the founders offirms that list during their founders lifetimes are an unusual class of people, perhaps possessing ascarce entrepreneurial talent (Knight, 1921; Hayek, 1945; Schumpeter, 1950).

The panel using non-don firms as the benchmark again shows non-founder family firms

outperform non-don firms across the board, save that non-blood heir firms no longer outgrow non-don firms. The margin by which non-blood heir firms outperform non-don firms in terms ofaccounting profits and shareholder valuations now exceeds that for blood heir firms; and thisdifference is highly significant for accounting profits – though not for valuations. After controllingfor size, age, leverage, and capital spending, non-blood heirs match or surpass blood heirs.

Sarariman-run family firms’ performance again lags that of the other two types of family firm, withperformance statistically indistinguishable from that of non-don firms.

4.3

Causality
19

The t-test and regression results above demonstrate a set of positive correlations between firm

performance and family control. However, causation could run either way. Non-blood heirs might
replace biological sons in the negative tail of the talent bell curve; and the threat of being replaced
by a non-blood son might blunt the deadening of talent Carnegie (1899) postulates afflicting heirs
to great fortunes.

But converse causality is also possible. A current don might be more prone to pass control

to a beloved son if the firm is running more smoothly; and the son might covet control of a better

performing family firm more earnestly (Bennedsen et al. 2007). Smith and Amoako-Adu (2005)

and Perez-Gonzalez (2006) overcome this endogeneity problem with event studies that show stock
price declines upon the announcement that control is to pass to a son, rather than a professional
manager, in Canadian and US family firms, respectively. Bennedsen et al. (2007) overcome theproblem by noting that family succession is more likely, independently of firm performance, if theold don’s firstborn child is a son, rather than a daughter. This lets them infer that inherited
corporate control causes poor performance in Danish family firms.

We lack the precise succession announcement dates used by Smith and Amoako-Adu(2005) and Perez-Gonzalez (2006), so we cannot perform precise abnormal stock return event

studies; and we lack information on the gender of dons’ firstborn children, so the technique ofBennedsen et al. (2007) is also unavailable to us. We therefore develop a set of endogeneity tests
that utilize information we do possess about controlling families and employ an event study
methodology.

We define the succession event as one where control is transferred from a don firm to a

successor who may be either part of the family (via blood line or via adotion), a sarariman, or an

outsider in cases where the founder or his heirs decide to exit the business. We identify 918 suchsuccession events with incumbent founder or family control. We drop 18 cases where control shifts

from a founder to a co-founder, 130 cases where succession involves either an incoming oroutgoing temporary sarariman, and 117 cases where the succession event was within 7 years of aprevious succession event. This leaves us with 653 succession events where control is transferred
to either a founder or family nominee or to an outsider via a sell-off. We lose another 228 firms forlack of family structure data, leaving us with a usable sample of 425 succession events. These arelisted in the first two columns of Table 7.

The most common succession events – 57% of the total – are to blood heirs, reinforcing theimportance of traditional family firms in Japan. However, almost one in ten family firms opts fornon-blood heirs; and almost one in five turns management over to a sarariman and becomes a20

seemingly passive investor. In over 85% of successions, the family thus remains – either in charge
or as a blockholder. The family cashes out in less than 15% of successions.
[Table 7 about here]
Our strategy is to look at performance increases around succession events, and regressthese cross-sectionally on indicator variables for the different types of succession shown in Table 7.
That is, we run regressions of the form

[10]

K

N'

S

I

k =1

n =1

s =1

i =1

∆π j = a + ∑ bk ⋅ δ k (k ) j + ∑ c n ⋅ x j + ∑ d s ⋅ δ s (t ) + ∑ hi ⋅ δ i (i ( j )) + e j

where the xj are control variable, the δ(t) are succession year fixed effects, set to one if succession joccurs in year t and to zero otherwise; the δ(i) are industry fixed effects; and the ej are residuals.

We now think of the j as indexing successions rather than firms. In fact, some firms have more than

one succession event in our long panel of data. We return to this issue in the robustness section
below.

The dependent variable, ∆π j , is the change in one of firm j’s performance measures. That is,∆πj can be any one of ∆ROAj, ∆Qj, ∆sales-growthj, or ∆labor-growthj. Differences are the average over

the two years following the succession event year minus the average over the two years prior to thesuccession event. Performance during the succession event year is excluded because we cannot datethe successions precisely. The two-year window corresponds to the standard interval between
renewals of Japanese CEO s’ positions by theirs board.

The control variables, xj, include firm size, firm age, leverage, and capital expenditure. We

include these because larger, older, less leveraged firms plausibly have more stable performanceover time, and because firms with larger capital budgets allow greater scope for unqualified CEOs tocause damage. Succession year fixed effects should remove macroeconomic factors, and industry
fixed effects should remove industry related performance trends, also plausibly unrelated to theeffects of succession.

The δ (k ) are now defined according to what happens after the old don steps down. The

options are encoded as follows[11]𝛿𝛿(blood heir)𝑗𝑗 ≡ �
01
if firm j 's new don is a blood heir of the old donotherwise
21

[12]

[13]

[14]

𝛿𝛿(non-blood heir)𝑗𝑗 ≡ � 1 if firm j 's new don –san is the old don's adopted son or son-in-law
0 otherwise1𝛿𝛿(sarariman)𝑗𝑗 ≡ �010𝛿𝛿(cash out)𝑗𝑗 ≡ �

if firm j 's controlling family hires a professional CEO
otherwise
if firm j 's controlling family liquidates its control block
otherwise

Our regressions [10] are run on a sample of 425 successions, of which 242 are to blood heirs,

42 are to non-blood heirs, 81 leave sarariman CEOs running firms with family blockholders, and 60
see the family cashing out and departing completely from the scene. Table

8summarizes

theregression results. Only the coefficients of the succession type indicator variables are shown; thoseof the controls and fixed effects are suppressed for brevity. The table shows the largest relative

performance increase to occur when non-blood heirs take over, and the largest relative

performance declines when the family turns the firm over to a sarariman, but remains a blockholder.
Successions to blood heirs and cashing out are in between, and statistically indistinguishable.

However, the pattern is strongest in current ROA, the most short-term of our performancemeasures, and weakest in Q, the most forward looking. This raises endogeneity concerns: perhaps
non-blood heirs are chosen more often by firms anticipating good times; perhaps sarariman CEOs
are hired by family firms when bad times are ahead and no family member dares step in.
[Table 8 about here]

To explore these issues, we estimate two-stage least squares (2SLS) analogs to theregressions in table 8. Our first-stage multinomial probit regressions use exogenous instrumental
variables to estimate the probabilities of different sorts of successions, denoted δˆk , j ; and the second

stage regressions substitute these probabilities for the actual succession indicator variables, theδ (k) j in [10], in specifications otherwise identical to those used in Table 8.
Our 2SLSprocedure thus uses multinomial probit regressions of the form

[15]

M

N"

38

26

m =1

n =1

s =1

i =1

δ (k ) j = ∑ g m ⋅ z m, j + ∑ c n ⋅ x j + ∑ d s ⋅ δ (t ( j )) + ∑ hi ⋅ δ (i ( j )) + u j22to estimate probabilities for different types of succession and cross sectional OLS to estimate theexogenous effects of these succession types on firm performance, viz.
[16]

K

N'

S

I

k =1

n =1

s =1

i =1

∆π j = a + ∑ bk ⋅ δˆk , j + ∑ c n ⋅ x j + ∑ d s ⋅ δ s (t ) + ∑ hi ⋅ δ i (i ( j )) + e j

To operationalize the strategy in [15] and [16], we require variables that are plausibly

exogenous for economic reasons, correlated strongly with the actual succession choices, anduncorrelated with the true residuals in [6]. We consider the following as potential instruments:

Obviously, if the departing don lacks male issue, the firm is less likely to pass to a blood heir.

Although women in Japan are making major strides towards career equality in other spheres,

female CEOs remain rare. There are only four female dons in our sample from 1962-2000. Our first
instrument is therefore an indicator variable set to one if we are able to document the existence of amale blood heir to the current don, and to zero otherwise. We construct this variable by scanning
through our director database for sons of dons, consulting firm and family histories, and checking
the Japanese equivalent of Who’s Who, and other sources as described in section 3.1.

A second factor in the don’s decision to bequeath control to a blood heir is the ability ofthat heir. A more demonstrably able biological son is presumably a stronger succession candidate,

all else equal. We are able to gauge biological sons’ general intelligence using their university

degrees earned. This is because Japan has two clearly differentiated types of universities: imperial
universities, to which admission is based solely on merit via entrance examination scores; andother universities, admission to some of which is possible by dint of special quotas for graduates of
expensive preparatory schools affiliated with these universities.

The imperial universities – Tokyo University, Kyoto University, Tohoku University, Osaka

University, Kyushu University, Hokkaido University, and Nagoya University– along withHitotsubashi University, each conduct their own rigorous entrance examinations, and theirstudents are widely acknowledged to be selected solely on merit. Consequently, a degree from animperial university reliably implies that a biological son has a high level of intelligence, and thispresumably correlates with ability. Other universities, such as the highly regarded private Keio and
Waseda universities also boast very highly qualified academic faculty.

However, alternate

admissions paths – in particular, via university-run prep-school channels – make their degrees lessreliable certifications than those granted by the imperial universities. Biological sons who attended

Imperial universities are almost surely quite intelligent; those who attended other universities
might or might not be.

23

Our second instrument is therefore an indicator variable set to one if we are able todocument the existence of a male blood heir to the current don who graduated from an imperial

university, and to zero otherwise. We construct this variable by scanning through our director
database for sons of dons, consulting firm and family histories, and checking the Japaneseequivalent of Who’s Who, and other data sources described in section 3.1.

The distribution of imperial university graduates across blood and non-blood heirs isshown in the rightmost two columns of Table 7. Of the 242 biological sons who take over the firms

covered, only 51, or 21%, attended an imperial university; while 17, or 41% of the 42 non-blood
heirs did so. Non-blood heirs are thus far more likely to be imperial university graduates than blood

heirs (t-test p = 0.0204, however their talent is obviously not exogenous since they are selected for
adoption based upon talent (Kerbo and McKinstry, 1995) . Our instrument is therefore set to one
only for blood heirs who graduate from an imperial university.

Even if the current don has a biological son, and even if that son is highly intelligent, theson may not be interested in the family business. Moreover, even if the don has an intelligent son,he may not wish to found a business dynasty, and may keep relations away from his firm.

Our third instrument is therefore a measure of the strength of the ties of the don’s family

to his firm. We gauge this with an indicator variable set to one if the don has any blood relations on

the board at the time of the firm’s IPO, and zero otherwise.

As the old don ages, his abilities are likely to wane and pressure to step aside grows

stronger, all else equal. Seppuku (ritual suicide to remove disgrace) aside, the don cannot readilyalter his biological aging process. Our fourth instrument is therefore the old don’s age measured at
the succession year.

A highly talented outgoing don may value talent in a successor more highly. We therefore

gauge the departing don’s talent with a fifth instrumental variable: the educational attainment of
the old don, set to 1 if he attended an Imperial university, and to zero otherwise.

Finally, a previous non-blood heir sets a precedent, and may increase the odds of another.

Our final instrumental variable is therefore a measure the departing don’s cultural amenability toadult adoption. This is an indicator variable set to one if either the incumbent don is himself an

adopted son or the controlling family, at some time in the past, including years prior to the IPO,
adopted an adult son; and to zero otherwise.

Latent variables are always a concern in econometric frameworks of this sort, and aredealt with by including appropriate control variables.

Obviously, macroeconomic effects caninfluence successions and change firm performance. We therefore include succession year fixed
effects in both stages of our estimation. Many latent factors plausibly affect particular industries, so
24

we include industry fixed effects in both stages. Older, highly leveraged, or larger firms may bequalitatively different from younger, less leveraged, or smaller ones, so we include logarithms offirm age and size, and book leverage, defined as in [10], in the second stage regression. We also
include capital expenditure to control for the effect of investment on performance changes.

Our fist stage estimation shows the instrumental variables to be highly jointly correlatedwith the actual succession outcomes. A Hausman test (Nakamura and Nakamura, 1981) comparing

the likelihood ratios of running the 1st stage multinomial probit with the instruments versus
without them – that is, with only the controls and fixed effects – rejects joint insignificance ( χ 62 =22.5, p < 0.0000), a level well below the threshold normally required to pass weak instruments
tests (Stock et al. 2002).

Our second stage results, shown in Table 9, again show that non-blood heir successions

induce the greatest performance gains. Cashing out induces a greater ROA increase than does

either hiring a sarariman CEO while retaining an equity block in the firm, or passing control to a
blood heir.

The latter is marginally superior to sarariman (p-value=009) in ROA, thoughstatistically indistinguishable in other dimensions.

Q ratios show no significant differences across succession types. This may reflect the more

forward-looking nature of shareholder valuation based performance estimates. Once succession islocked in as far as the controlling family is concerned by the values of the various instrumental

variables we employ, shareholders might be able to see this coming – and perhaps more than two

years before the actual succession. In an efficient market, share prices should discount likely
succession events, and this tells against the power of Q ratios in Table 9.
[Table 9 about here]

4. 4

Robustness checks

The results in the tables above survive a large battery of robustness checks. In describing these, we

say the robustness check generates qualitatively similar results if the pattern of signs, significancelevels, and rough coefficient magnitudes is identical to that shown in the corresponding tables.

We check for outlier influence using Cook’s D statistics, and find all of our results to beunaffected by extreme observations. We have replicated both the panel results as well as the event
study results both by including and excluding outliers, and find qualitatively similar results. In

particular, we find that founders and non-blood heirs continue to out-perform blood heirs,
25sarariman, and non-don firms, and that transitions to non-blood heirs are followed by superior
performance improvements vis-à-vis other successor groups.

Our standard errors adjust for heteroskedasticity and are clustered by firm to account forthe persistence of firms’ data within our panel, and for more than one succession event per firm inour causality analysis. Using simple pooled OLS standard errors greatly magnifies our t-ratios, andrenders virtually all coefficients in all the tables statistically significant. Not clustering by firm alsomagnifies t-ratios in our causality study, and some differences that are insignificant in Table 8 andTable 9 attain statistical significance.

In particular, sarariman successions induce lower

performance in terms of accounting profit than blood heirs. In fact, sarariman successions areassociated with the lowest performance among the four types of successors.

We pool sons-in-law and adopted sons, who are also sons-in-law, together and call these

non-blood heirs. However, the two subgroups might have different performance effects. We
therefore

rerun all our regressions treating these as separate classes of family firms. We findformally adopted sons-in-law to outperform blood heirs in terms of accounting profit rates by
0.58% - a magnitude greater than that by which all non-blood heir firms outperform blood heirfirms; but the p-level (p = 0.15) now falls below standard thresholds of statistical significance.

Formally adopted sons’ firms outperform other sons’-in-laws’ firms across the board – by 0.131%
in ROA, 0.0106 in Qs, 0.015% in sales growth, and 0.28% in labor force growth; but none of thesecoefficients is statistically significant. Formally adopted sons-in-law and other sons-in-law haveotherwise similar tenure as CEO in their firms – the former serve for a median length of 19 years, vs.
17 years for the latter. Overall, the data suggest that formally adopted sons-in-law and other sons-in-law are qualitatively similar in comparison to other groups (such as blood heirs, sarariman, andnon-don firms), and that their mutual differences are statistically insignificant. We therefore

continue to treat them as one group.

We define ROA as operating income divided by replacement cost, taken as the denominatorin our Tobin’s average Q measure. If we instead define ROA as operating income over the bookvalue of assets, qualitatively similar results ensue throughout.

We define sales growth as the logarithm of the firm’s current year nominal sales less thelogarithm of its sales one year earlier. Inflation was very low throughout our sample, but wenonetheless repeat our tests using inflation real sales, and find qualitatively similar results. We also
repeat all our tests with 3- and 5-year sales growth numbers, and find qualitatively similar results

again. Using the logarithm of current employees less the logarithm of employees three and five
years earlier to measure labor force growth likewise yields qualitatively similar results.

26

In the tables, leverage is long-term debt scaled by estimated replacement cost.

Asrobustness checks, we redefine leverage with total debt, rather than long term debt, in the

numerator; with unadjusted book value of assets in the denominator; and with both changed.
Qualitatively similar results ensue in all three cases.

We also repeat our tests using alternative definitions of family control. 20 For example, we

define family firms as those where the founding family owns the largest share of equity. When wedo this, we find that the rank order of performance presented earlier is preserved. That is, founders

and non-blood heirs continue to outperform non-don firms in ROA and valuations. For sales growthand employee growth, only founder and blood-heir firms outdo the non-don firms. When we definefamily firms as those where the founding family owns at least 10% of the equity, we get qualitatively
similar results.

Another possibility is that founders may be disinclined to pass on the reins to family firms.

We call these firms Bill Gates type firms. We do not find a statistically significant difference

between Bill Gates type founders and other founders. However, blood-heirs, and non-don firms,

continue to lag in performance compared to either founder type, while non-blood heirs don’t, as per
results presented in earlier sections. Thus founders appear to display superior performance
regardless of their succession preferences.

We also perform a battery of robustness checks specifically on our causality analysis. First,

Tables 8 and 9 use the old don’s attendance at an Imperial University as a proxy for his inate

intelligence. University educations were less accessible to low-income families in earlier decades,
so this may miss highly intelligent founders from poor families. We therefore re-do our 1st stage IV

regressions using a different proxy for the outgoing don’s intelligence – the average annual ROA of

the firm under the don’s watch excluding the 5 years immediately prior to the succession event.

The second stage coefficients are qualitatively similar to those in the tables and, in many cases, theirsignificance levels are much better. However, past performance is less clearly exogenous thanuniversity education, so we use the latter in our primary results.

Second, Tables 8 and 9 measure performance gains by average performance in the 2 years

after the succession less average performance in the 2 years before the succession. If we use 3 years

averages after and before, significant levels weaken somewhat, but the patterns of coefficientmagnitudes and signs remain unchanged. Still significant are the ROA differences between blood

heirs and non-blood heirs, and between non-blood heirs and sarariman. When we use 3-year
averages, the significance level for the employee growth difference between blood heirs and non-blood heirs increases to 0.08, but is insignificant at conventional levels. Overall, the 3-year averages
20 These results are not tabulated, but available from the authors upon request.

27

for pre and post succession events are materially similar to those that we report in the tables here
using two year pre and post averages. .

5.

Conclusions

Inherited family firms are a more important part of the postwar Japanese economy than is generally

realized. In 2000, roughly a third of listed Japanese firms were run by their founders’ heirs or had
his heirs as major equity blockholders. We also find that family firms tend to stay in the family –over 85% of intergenerational transitions preserve family control.

This is puzzling, for Burkart et al. (2003) model inherited family control prevailing where

private benefits of control exceed the benefits of diversification. Even if the families’ private benefitsof control are primarily non-pecuniary (Demsetz and Lehn, 1985), block and voting premiums

should reveal the value families implicitly ascribe to these benefits. Yet international comparisonsusing block and voting premiums to infer the sum of pecuniary and nonpecuniary private benefitsof control show these to be meager in Japan (Dyck and Zingales, 2004; Nenova, 2003).

Without private benefits of some sort, family control should be unsustainable in acompetitive economy for three fundamental reasons. First, intelligence is at most only partially andundependably inherited (Herrnstein and Murray, 1994; Heckman, 1995; Devlin et al. 1997), andbusiness talent is plausibly a dimension of intelligence (Thorndike, 1920; Payne, 1983, Gardner,

2007), perhaps complementing general intelligence (Cote and Miners, 2006). Second, the Carnegie(1899) conjecture that immense inherited wealth deadens talent finds empirical support (HoltzEakin et al. 1993). Third, reserving the top job for family precludes open CEO tournaments, which
Lazear and Rosen (1981), Demsetz (1996), Frank and Cook (1996), and others show highly effectiveat wringing effort from executives throughout the firm.

This threefold competitive disadvantage readily explains the subpar performance ofinherited family firms observed in the U.S. (Morck et al. 1988; Perez-Gonzalez, 2006; Villalong andAmit, 2007; Miller et al. 2007), Canada (Morck et al. 2000), Denmark (Bennedsen et al. 2007), andother countries (Bertrand and Schoar, 2006); and the rapid diminution of family equity blocks
observed in the United Kingdom (Franks et al. 2004).

Yet we find Japanese family firms puzzlingly competitive. They outperform professionallymanaged firms in both profitability and in market valuation (as measured by Tobin’s Q). They also
display higher growth in sales and employees.
generation founders from the comparison.

28

These results persist when we remove firstJapan thus appears to resemble developing economies, where Khanna and Rivkin (2001)

report old-moneyed family firms to be top performers. They link this to the importance of businessfamilies’ reputations and political or economic connections in countries where corruption isprevalent and formal institutions are weak (Faccio, 2006; Morck and Yeung, 2003; Fogel, 2007),
arguing that family control confers genuine economic benefits in these environments. Yet Japanscores very low on international surveys about corruption and its institutions are strong (La Portaet al. 1997, 1999). Corruption scandals and institutional flaws appear from time to time in Japan,

but not clearly more often than in the United States or United Kingdom. Moreover, professional
networking is intense in Japan (Gerlach, 1997), so family ties should be correspondingly devalued.

Thus, although we cannot categorically rule out “connections” as underlying Japanese family firms’
admirable performance, we conclude that this is implausible.

We trace the relative success of family firms in Japan to a unique custom of incorporating

fresh blood into the family via adult adoptions (mostly through in-marrying the founder’sdaughters), a practice that to the best of our knowledge, remains particular to Japan. Adopting

highly qualified adults to head family businesses has the triple effect of replacing untalented blood
heirs, eliciting effort from professional managers who might be “promoted” to adopted son, andeliciting effort from blood heirs who live under an ever present threat of being replaced by a “better”

adopted son. Consistent with this logic, we find a broad body of evidence consistent with family

firms run by adopted heirs outperforming family firms run by blood heirs, and with that bothoutperforming family firms run by professional sarariman CEOs and non-family firms.

As in other corporate governance settings, such as hostile takeovers, the threat mattersmore than the caning. During the height of the US hostile takeover wave in the 1980s, only one inten takeovers was manifestly hostile, with the target board advising shareholders not to tender(Morck, Shleifer and Vishny, 1988a). Yet the threat of a hostile takeover was thought to elicit

economically significant greater effort from CEOs across the board (Shleifer and Vishny, 1997).

Only one in ten successions in our sample are to non-blood heirs. Perhaps, as in Voltaire's (1759)
Candide, "'In this country, it is good, from time to time, to kill an admiral, to encourage the others”. 21

Our findings suggest that the unexpectedly high incidence and prosperity of old-moneyedfamily firms in Japan need not disturb the generality of a key premise of the business history
literature: that professionalization raises firm efficiency (Landes, 1949; Chandler, 1977). While

Japan is much less unique than often portrayed (Beason and Patterson, 2006), the practice of adultadoptions into business families appears to be genuinely exceptional. This practice, and the

incentives it creates for both professional managers and potential heirs, plausibly renders Japanese

21 “Dans ce pays-ci, il est bon de tuer de temps en temps un amiral pour encourager les autres”, Voltaire (1759, p.
X)

29

family firms more professionally managed than their peers elsewhere. However, even in theabsence of adult adoptions, carefully selected sons-in-law might have similar effects. This suggeststhat family firms might better prosper where arranged marriages are more socially acceptable,consistent with evidence presented by Mehrotra et al. (2009).

30

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6

Table 1: Adoption Statistics.

Special adoptions, explicitly modelled on the foreign practice of finding homes for orphans
and mistreated or unwanted children, are a recent innovation. Ordinary adoptions, incontrast, are a deeply rooted Japanese tradition, in which parents needing an heir adopt achild or adult.

1955

Ordinary adoptions Total adoptions ofof minors
minorsAll Adoptions

Special adoptions

yôshi engumi

tokubetsu yôshi

miseinen yôshi

101,963

0

26983

26,983

Total adoptions ofadults74,9801965

82,1760

15,01815,01867,158

1975

86,844

0

6,771

6,771

80,073

1985

91,186

0

2,804

2,804

88,382

1990

82,007

738

1,502

2,240

79,767

1995

79,381

521

1,111

1,632

77,7492000

80,790

362

994

1,356

79,434

2002

85,674

350

960

1,310

84,364

2004

83,505

332

998

1,330

82,175

Sources: Tokubetsu yôshi and Child Adoptions Approved by the Court: Supreme Court of Japan. shihôtôkeinenpô Kajihen arefrom issues of the Annual Report of Judicial Statistics (Table 3 of Volume 3, Family Cases). Adoptions registered by Koseki offices
are from issues of the Ministry of Justice Annual report (Hômu nenkan).

7

Table 2: Summary Statistics for Main Variables

ROA is the ratio of operating income to adjusted total assets. Q-ratios is market value overreplacement cost, with market value defined as replacement cost less book value of equity
plus market value of equity; and replacement cost defined as assets adjusted by marking realestate and equity cross holdings to market. Sales and employee growth statistics are basedon year to year percentage growth. Leverage is defined as long-term debt scaled by total
assets. Industry-adjustment is based on subtracting the median value for the matching twodigit Japanese exchange industry code firms, excluding the sample firm. Total assets are inbillions of yen; leverage is long-term debt over replacement cost; capital expenditure is yearon-year change in fixed assets plus depreciation over lagged sales. Capital expenditure is theratio of annual capital investments to sales; firm age is years since founding; founder + heirs
ownership is the combined stake of the founder and all members of the founding family.
Total sample size is 49,638 firm-year observations.
MeanMedianMaximum

MinimumStandard
deviation

ROA

4.60%

3.92%

30.4%

-19.0%

4.50%

Industry adj ROA-0.650%-0.940%26.0%-22.8%

3.89%

Q

1.40

1.28

5.79

0.29

0.416

Industry adj Q-0.061-0.103

3.81

-1.98

0.368

Sales growth (%)

8.02%

6.15%

115%

-70.3%

16.0%

Industry adj sales growth-0.727%-1.26%

117%-87.6%

13.1%

Employee growth (%)-0.336%-0.480%59.0%-65.4%

8.12%

Industry adj employee growth-0.611%-0.489%111%-90.2%

9.03%

Total assets (billion Yen)

189

32.4

16,1000.17

667

Leverage

0.119

0.095

0.670

0.000

0.106

Capital expendtiture

0.03410.016

1.2415-1.1691

0.0952

Firm age

44.9

44.0

110

4.00

18.3

Performance

Other Firm Characteristics

8

Table 3: Firm performance and characteristics

Don firms’ founders’ families are either a top 10 equity blockholder, or serve as President or
Chairman. Founder firms are don firms by dint of their founders’ equity block or top
management position. Heir-managed firms are don firms by dint of the equity block or
management position of a member of their founding family other than the founder. In blood
heir firms, this is a biological descendent of the founder; in non-blood heir firms, this is anadopted son or son-in-law. Other variables are as defined in Table 2.

Performance
ROA
Industry-adjusted ROA
Q
Industry-adjusted Q
Sales growth
Industry-adjusted sales growth
Employee growth
Industry-adjusted employee growth
Other Firm Characteristics
Total assets (billion Yen)
Leverage
Firm age
Family ownership, %Firm-year observations

Don firms
Family firms
NonBlood
blood
heirs
heirs

Sarariman

Non-donfirmsFounder
firms

All

7.12%
0.69%
1.46
0.0434
14.7%
1.81%
2.42%
1.06%

4.64%
-0.46%
1.43-0.03267.62%-0.75%-0.23%-0.60%

4.57%-0.49%
1.43-0.0280
7.61%-0.69%-0.13%-0.48%

5.79%
0.19%
1.46
0.01259.64%-0.32%
0.31%-0.45%

3.75%-1.03%
1.40-0.1032
5.56%-1.47%-1.31%-1.35%

4.24%-0.91%
1.37-0.0893
7.28%-1.06%-0.75%-0.84%

58.2
0.104
29.2
16.3
4,272

120
0.094745.5
12.6
13,882114
0.0944
46.1
13.1
9,730

164
0.0949
43.4
15.7
2,125

106
0.0960
45.2
7.37
2,027

237
0.131
46.7
0.000
31,4849

Table 4. Relative performance by control classification, ANOVA results

Variables are as defined in Tables 2 and 3. T-tests adjust for industry and year fixed effects,
and for firm-level clustering of residuals. Numbers in parentheses are p-levels for rejecting
the null hypothesis of identical means. Boldface denotes significance at 5% or better.
BenchmarkNon-don firms

Premium for
Don firms
Founders
Blood heirs
Non-blood heirs
Sarariman

Blood heirs

Founders
Non-blood heirs
Sarariman
Non-donNon-blood heirs

Founders
Blood heirs
Sarariman
Non-donSarariman

Founders
Blood heirs
Non-blood heirs
Non-don

ROA, %
0.483(0.00)
1.46(0.00)
0.445(0.00)
0.975(0.00)
0.138(0.55)
1.01(0.00)
0.530(0.05)-0.308(0.21)-0.445(0.00)
0.481(0.14)-0.530(0.05)-0.837(0.01)-0.975(0.00)
1.32(0.00)
0.308(0.21)
0.837(0.01)-0.138(0.55)

Q
0.062(0.00)
0.127(0.00)
0.067(0.00)
0.093(0.00)
0.004(0.87)
0.061(0.00)
0.026(0.41)-0.063(0.02)-0.067(0.00)
0.035(0.29)-0.026(0.41)-0.089(0.02)-0.093(0.00)
0.123(0.00)
0.063(0.02)
0.089(0.02)-0.004(0.87)

10

Sales growth,%
0.373(0.02)
2.78(0.00)
0.443(0.02)
0.454(0.18)-0.064(0.85)
2.34(0.00)
0.011(0.98)-0.507(0.17)-0.443(0.02)
2.33(0.00)-0.011(0.98)-0.518(0.27)-0.454(0.18)
2.85(0.00)
0.507(0.17)
0.518(0.27)
0.064(0.85)

Labour growth, %0.292(0.03)
1.64(0.00)
0.420(0.01)
0.233(0.38)-0.283(0.25)
1.22(0.00)-0.187(0.51)-0.703(0.01)-0.420(0.01)
1.41(0.00)
0.187(0.51)-0.516(0.14)-0.233(0.38)
1.93(0.00)
0.703(0.01)
0.516(0.14)
0.283(0.25)

Table 5. Performance regressions, founder, family, and other firms

Variables are defined in Tables 2 and 3. Regressions are on firm-level panel data from 1962
through 2000. Total observations equal 47,102 for Q-regressions and 49,638 firm-years for allothers.
ROA, %Q

Sales growth, %Labour growth, %Founder firms

1.14(0.00)

0.109(0.00)

2.42(0.00)

1.44(0.00)

Family firms

0.371(0.00)

0.049(0.00)

0.360(0.02)

0.304(0.01)

Firm size

0.120(0.00)

0.005(0.24)

0.325(0.00)

0.258(0.00)

Leverage-0.0951(0.00)-0.0085(0.00)-0.072(0.00)-0.0678(0.00)

Capital expenditure

0.0324(0.00)

0.0046(0.00)

0.168(0.00)

0.155(0.00)

Firm age-0.0159(0.00)-0.0001(0.88)-0.0361(0.00)-0.0250(0.00)

Constant

7.36(0.00)

1.88(0.00)

5.09(0.00)

1.77(0.01)

Adj. R2

0.33

0.35

0.31

0.17

Number of firm clusters

1,367

1,289

1,367

1,367

Year fixed effects

Yes

Yes

Yes

Yes

Industry fixed effects

Yes

Yes

Yes

Yes

11

Table 6. Performance and family control, regressions summary

Variables are defined in Tables 2 and 3. Regressions are on firm-level panel data from 1962
through 2000, and include the control variables listed in Table 5. Total observations equal
47,102 for Q-regressions and 49,638 firm-years for all others.
BenchmarkNon-don firms

Blood heirs

Non-blood heirs

Sarariman

Premium for

ROA, %Q

Sales growth, %Labour growth, %Don firms

0.539(0.00)

0.0622(0.00)

0.809(0.00)

0.553(0.00)

Founders

1.14(0.00)

0.11(0.00)

2.41(0.00)

1.44(0.00)

Blood heirs

0.332(0.02)

0.053(0.00)

0.449(0.01)

0.446(0.00)

Non-blood heirs

0.850(0.00)

0.076(0.01)

0.385(0.22)

0.147(0.54)

Sarariman

0.0471(0.84)-0.0007(0.98)-0.111(0.74)-0.230(0.33)

Founders

0.811(0.00)

0.056(0.00)

1.965(0.00)

0.996(0.00)

Non-blood heirs

0.519(0.04)

0.023(0.45)-0.064(0.85)-0.299(0.25)

Sarariman-0.285(0.24)-0.054(0.03)-0.560(0.11)-0.675(0.01)

Non-don-0.332(0.02)-0.053(0.00)-0.449(0.01)-0.446(0.00)

Founders

0.293(0.34)

0.0330(0.30)

2.03(0.0001.29(0.00)

Blood heirs-0.519(0.04)-0.0229(0.45)

0.0636(0.85)

0.299(0.25)

Sarariman-0.804(0.01)-0.0769(0.03)-0.496(0.26)-0.377(0.25)

Non-don-0.850(0.00)-0.076(0.01)-0.385(0.22)-0.147(0.54)

Founders

1.10(0.00)

0.11(0.00)

2.52(0.00)

1.67(0.00)

Blood heirs

0.285(0.24)

0.0540(0.03)

0.560(0.11)

0.675(0.01)

Non-blood heirs

0.803(0.01)

0.077(0.03)

0.496-(0.26)0.377(0.25)

Non-don-0.0471(0.84)

0.0007(0.98)

0.111(0.74)

0.230(0.33)

12

Table 7. Succession Events

Sample is all changes in control from 1962 to 2000 in all Japanese firms initially listed
between 1949 and 1970. This includes prewar firms that relisted when stock markets
reopened in 1949. The imperial universities – Tokyo University, Kyoto University, and several
others – and Hitotsubashi University admit solely on academic merit. Entrance to otheruniversities is possible by attending expensive affiliated preparatory schools.
Successor type
Blood heir

Events Successor sub-type
242 blood heir is a merit university graduate
blood heir is not a merit university graduate
Non-blood heir
42 non-blood heir is legally adopted son and son-in-law
non-blood heir is son-in-law, but not legally adopted son
Sarariman
81 family retains top ten equity stake (sarariman-run family firm)
Subtotal of family firm successions

Events
51
191
20
22
81
365

Cash out
Grand total

425

60
425

family not listed among top ten shareholders (non-don firm)

13

Table 8: Performance changes around succession events

Variables are defined in Tables 2 and 3. Cross-section regressions are on event-level data.
Events are all 425 old don departures from 1962 through 2000 for which control variables
data are complete, and are subdivided according to whether the successor is the old don’s
blood heir, non-blood heir, a professional manager (sarariman) running a firm in which theold don’s family remains a top ten blockholder, or a professional manager running a firm inwhich the family is no longer a top ten blockholder (cash out). Regressions control for firmage, firm size, leverage, capital spending, and succession year and industry fixed effects.
Some firms have more than one succession event, so standard errors are clustered by firm.
BenchmarkNon-blood heir

∆ROA
-0.0235∆Q
0.0333∆Sales growth-0.0784∆Labor growth-0.0228(0.00)(0.47)(0.00)(0.10)-0.0340-0.0333-0.0623-0.0110(0.00)(0.52)(0.02)(0.55)-0.0182

0.0624-0.0568-0.0174(0.02)(0.41)(0.04)(0.30)

Non-blood heir

0.0235-0.0333

0.07840.0228(0.00)(0.47)(0.00)(0.10)

Sarariman-0.0105-0.0666

0.01620.0118(0.03)(0.10)(0.41)(0.39)Cash out

0.00530.0291

0.02170.0054(0.33)(0.65)(0.25)(0.64)

Blood heir

0.01050.0666-0.0162-0.0118(0.03)(0.10)(0.41)(0.39)

Non-blood heir

0.03400.03330.06230.0110(0.00)(0.52)(0.02)(0.55)Cash out

0.01580.09570.0055-0.0064(0.01)(0.15)(0.82)(0.68)-0.0053-0.0291-0.0217-0.0054(0.33)(0.66)(0.25)(0.64)

0.0182-0.0624

0.05680.0174(0.02)(0.41)(0.04)(0.30)-0.0158-0.0957-0.0055

0.0064(0.01)(0.15)(0.82)(0.68)

Premium for
Blood heir
Sarariman
Cash out

Blood heir

Sarariman

Cash out

Blood heirNon-blood heir
Sarariman

14

Table 9: Exogenous performance changes around succession events

Variables are defined in Tables 2 and 3. First stage regressions are multinomial probits ofsuccession choices on instruments and control, and are described in [15]. Second stage crosssection regressions are on event-level data and are described in [16]. Events are all 425 old
don departures from 1962 through 2000 for which control variables data are complete, andare subdivided according to whether the successor is the old don’s blood heir, non-blood heir,a professional manager (sarariman) running a firm in which the old don’s family remains a
top ten blockholder, or a professional manager running a firm in which the family is no longer
a top ten blockholder (cash out). Second stage regressions control for firm age, firm size,
leverage, capital spending, and succession year and industry fixed effects. Some firms havemore than one succession event, so standard errors are clustered by firm.
BenchmarkNon-blood heir

Premium for
Blood heir
Sarariman
Cash out

Blood heirNon-blood heir
Sarariman
Cash out

Sarariman

Blood heirNon-blood heir
Cash out

Cash out

Blood heirNon-blood heir
Sarariman∆ROA-0.0261∆Q-0.0725∆Sales growth-0.1253∆Labor growth-0.0525(0.0034)(0.3230)(0.0029)(0.0331)-0.0412-0.1125-0.1450-0.0826(0.0009)(0.3075)(0.0054)(0.0212)-0.01820.0291-0.0006-0.0273(0.2249)(0.8349)(0.9917)(0.4117)0.02610.07250.12530.0525(0.0034)(0.3230)(0.0029)(0.0331)-0.0152-0.0399-0.0197-0.0301(0.0940)(0.6167)(0.5485)(0.1488)

0.00780.1016

0.12470.0252(0.4962)(0.3758)(0.0012)(0.2505)

0.01520.03990.01970.0301(0.0940)(0.6167)(0.5485)(0.1488)0.04120.11250.14500.0826(0.0009)(0.3075)(0.0054)(0.0212)0.02300.14160.14450.0553(0.1335)(0.3519)(0.0094)(0.0852)-0.0078-0.1016-0.1247-0.0252(0.4962)(0.3758)(0.0012)(0.2505)

0.0182-0.0291

0.00060.0273(0.2249)(0.8349)(0.9917)(0.4117)-0.0230-0.1416-0.1445-0.0553(0.1335)(0.3519)(0.0094)(0.0852)15

Figure 1. Prevalence of Founder and Family Controlled Firms: 1962 to 2000

The graph includes all firms trading on Japanese stock exchanges between 1949 and 1970, forwhich accounting and governance data are available from 1962 through 2000 (or delisting).
Family firms count a founding family member among their top 10 shareholders, directors
empowered to sign for the firm, or as CEO. All other firms are non-don firms. Founder-run
firms are family firms whose founder fills one or more of these criteria. All other family firms
are heir-run. Among these, blood heir firms have a biological descendent of the founder andnon-blood heir firms an adopted son or son-in-law filling one of these roles. A sarariman
firm’s founding families remains a top 10 shareholder, but provides neither a CEO nor asigning director, instead entrusting these positions to professional managers. Former family
firms are one-time family firms that became professionally-run firms. The maximum andminimum cross-sections are 1,319 and 1,107 firms, respectively.
1400

1200

1000

800

600

400

200

0

2000

1998

1996

Former-Don Firm

1994

1992

1990

1988

16

1986

Sarariman

1984

1982

1980

Non-blood heir

1978

1976

1974

Blood heir

1972

1970

1968

1966

1964

1962

Founder

Non-don Firm