David Audretsch and Erik Lehmann have put together an edited volume, collecting articles broadly related to corporate governance in small- to medium-sized firms (SMEs). While several excellent surveys of corporate governance already exist (see e.g. Shleifer and Vishny, 1997; Becht et al., 2003), the topic has received much less attention as it specifically applies to smaller, especially privately held, firms. In fact, the separation between ownership and control – the conventional starting point for most corporate governance scholarship – only applies to large publicly held firms where diffuse shareholders have little incentive to monitor management. By contrast, many privately held firms are owner operated. Even if a privately held firm has hired an outside manager, the firm's shareholders – typically a small group of investors – can more effectively monitor management than can a diffuse group of public-company shareholders. Put simply, standard corporate governance mechanisms operate differently in the context of SMEs. Audretsch and Lehmann's new book addresses this gap in the literature.
The book includes 37 papers from various disciplines: finance, management, economics, and other areas of social sciences. By bringing these works together into a single volume, Audretsch and Lehmann provide an excellent overview of existing research. The collection of papers also highlights, however, the underdeveloped state of scholarship, both theoretical and empirical, on the topic. This last point is not lost on the editors, who note that “corporate governance in small and medium-sized firms suffers from a having a shadowy existence in business and economics.” Hopefully, this volume will stimulate future research.
The editors provide an introductory chapter which explains the motivation for a volume devoted to governance arrangements in SMEs. The remainder of the book is organized into five parts. Part I starts with several foundational papers (e.g. Jensen and Meckling, 1976; Fama, 1980; Fama and Jensen, 1983) grounding the theory of corporate governance in agency costs and viewing the firm as a nexus of contracts designed to minimize such costs. The second half of Part I includes seven papers which extend and contextualize the basic theory when applied to SMEs. These papers also provide a nice overview of existing corporate governance research related to SMEs. Part II examines the effect of managerial ownership on the performance of SMEs. The papers in this section address the tradeoff between incentive alignment and risk bearing by management, and show that a large ownership interest in an SME may be used not simply to provide incentives, but also to protect an entrepreneur's relationship-specific investment into the business.
Parts III and IV cover market and institutional mechanisms that address agency conflicts. Part III includes six papers, primarily empirical, which explore how effectively various markets – the product market, the market for corporate control, and the market for managers – constrain agency conflicts in the context of small privately held firms. At least for SMEs, there is reason to be optimistic regarding market constraints. SMEs are too small and undiversified to absorb large losses and thus are subject to a form of Darwinian-like selection. Unfortunately, business failure in SMEs appears to be driven more by bad luck than by managerial misbehavior. Furthermore, the fact that institutional mechanisms matter in SMEs is evidence that market constraints are imperfect at best.
Part IV includes 11 papers related to the operation of two such institutional mechanisms: the board of directors and monitoring by large shareholders. These mechanisms operate differently in the context of privately held firms as compared to large publicly traded firms. The board of directors in a small firm focus less on monitoring and more on advising management. Papers in this section also explore the use of outside directors in SMEs. The remainder of Part IV addresses governance by large blockholders. In particular, papers examine three particular blockholders: family shareholders, banks, and venture capitalists.
The last section of the book – Part V – includes four papers that broadly take a life-cycle approach to the governance of SMEs. Papers in this section note that the board of directors performs different roles at different points in a firm's life.
These papers, and others earlier in the volume, highlight a frustrating challenge for scholarship devoted to SMEs. A wide spectrum of different types of businesses fall under the label “SME.” The category sometimes includes owner-operated single-owner firms, family-owned businesses both large and small, privately held firms, VC-backed startup firms, and even some smaller publicly traded firms. Unfortunately, theory and empirical results developed in one setting may not generalize. A result is that the literature often splinters into separate subcategories that are not in dialogue with each other. One of the real strengths of Audretsch and Lehmann's new volume is that it pulls together articles from all of these areas and thus forces them into a common dialogue. Hopefully this effort will challenge scholars to build more robust theories of corporate governance that transcend the boundaries between different types of SMEs.
Overall, this book provides an excellent overview of existing corporate governance research in SMEs. Inevitable in any edited volume or survey, some noteworthy contributions are not included in this volume. First, I wish the editors had included Aghion and Bolton (1992) or other theory pieces from the financial contracting literature. Such work is particularly relevant to the study of SMEs, since the standard model is based on a single entrepreneur seeking outside financing. Second, I would be remiss if I did not mention legal scholarship on the plight of minority shareholders in privately held firms. Though there is less separation between ownership and control in closely held firms there is greater risk of a controlling shareholder diluting or otherwise expropriating the interests of minority shareholders (Hetherington and Dooley, 1977). Of course, in any collection of articles one can always find additional materials that could be included. The book already includes 37 excellent papers, and provides a nice survey of existing scholarship in the field. I plan to add this book as a primary reference for students taking my seminar on corporate governance, and I would highly recommend it to anyone looking for an overview of different approaches to the study of corporate governance in SMEs.
