MEASURING AND EXPLAINING MANAGEMENT PRACTICES ACROSS FIRMS AND COUNTRIES October 2007

MEASURING AND EXPLAINING MANAGEMENT PRACTICES ACROSS FIRMS AND COUNTRIES

October 2007

Nick BloomStanford & NBER

John Van ReenenLSE & NBER

MOTIVATION

Large persistent productivity spread across firms and countries:

people typically claim this is due to differences in “management”

• But what is the role of management?

• And why does it vary so much across firms and countries?

SUMMARY OF THE PAPER (1 of 3)

(1) Measuring Management

•Develop a survey tool to “measure” management practices

• New data on 732 firms in US,UK, France & Germany.

•Management data:

• Appears consistently measured within firms

• Correlated with productivity, profits, Tobin’s Q, growth & survival

• Robust to measurement error and bias


(2) Explaining Management

•Observe big spread in management practices (Fig. 2 over)

• Wide cross firm spread (like profits & productivity)

• Significant differences across countries

• US 1st, Germany 2nd, France 3rd and UK 4th

•Demonstrate that two factors appear significant:

• Production market competition – positive effect

• Family managed firms – negative effect

• Family firm ownership but not management is fine

• Family ownership and management problematic, particularly under primo geniture CEO succession

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FIRM LEVEL AVERAGE MANAGEMENT SCORES

France n=137 n=157

n=290n=154UK US

Germany


(3) Quantifying this Effect

•Competition and family-management important, explains about 50% of firm-level management tail; and between 1/3 to 2/3 of US-Europe management gap:

• Europe has lower levels of competition

• UK & France also many more primo geniture family firms due to Norman legal origin & tradition

1. Why should management practices vary?

2. “Measuring” management practices

3. Evaluating the reliability of this measure

4. Describing management across firms & countries

5. Explaining management across firms & countries

OUTLINE

Why Should Management Practices Vary?

Two models - not mutually exclusive

•“Optimal choice of management practices”

• Another factor of production (like advertising)

• No “better” or “worse” style of management – depends on firm’s circumstances

•Exogenous managerial inefficiency (Mundlak, 1961; Lucas 1978)

• Part of total-factor productivity

• Strictly “better” or “worse” styles of management

•Empirically we find some support for both

SOME RELATED LITERATURE - EXAMPLESManagement, organisation & performance

• HRM / Management practices: Ichinowski, Shaw, and Prenushi (1997), Ichinowski and Shaw (1995), Black and Lynch (2001), and Lazear (2000); Cappelli and Neumark (2001), Bartel, Ichniowski and Shaw (2004),

• Organisational practices: Bresnahan, Brynjolfsson and Hitt (2002) and Caroli and Van Reenen (2001)

• Individual managers: Bertrand and Schoar (2003)

Competition and firm performance

• Empirics: Nickell (1996), Syverson (2004), and Aghion, Bloom, Blundell, Griffith, and Howitt (2005)

• Dynamic theory: Jovanovic (1982) and Hopenhayn (1992)

• Theory: Schmidt (1997), Raith (2003) and Vives (2004)

Productivity dispersion & dynamics

• Establishments: Baily, Hulten, and Campbell (1992), Bartelsman and Dhrymes (1998), and Jensen, McGuckin and Stiroh (2001), Foster, Haltiwanger and Syverson (2003)

• Countries: O’Mahony & Van Ark (2004), Caselli (2005)

Family firms

• Empirical: La Porta, Lopez-De-Silanes and Schleifer (1999), Bertrand et al (2004), Villalonga and Amit (2004), Bennedsen, Nielsen, Perez-Gonzales & Woflenzon (2005),

• Theory: Burkart, Panunzi and Schleifer (2003), Caselli and Gennaioli (2005)

• Economic History: Landes (1969), Chandler (1994), Nicholas (1999)

STEPS TO TRY TO MEASURE MANAGEMENT

1) Developing management practice scoring

• Scorecard for 18 monitoring, targets and incentives practices

• 45 minute phone interview of (manufacturing plant) managers

2) Obtaining unbiased responses

• “Double-blind”

•Interviewers do not know company performance

•Managers are not informed (in advance) they are scored

3) Getting firms to participate in the interview

• Introduced as “Lean-manufacturing” interview, no financials

• Endorsement of Bundesbank ,UK Treasury, Banque de France

• Run by 10 MBAs (loud, assertive & business experience)

Score (1): Measures tracked do not indicate directly if overall business objectives are being met. Certain processes aren’t tracked at all

(3): Most key performance indicators are tracked formally. Tracking is overseen by senior management

(5): Performance is continuously tracked and communicated, both formally and informally, to all staff using a range of visual management tools

MONITORING - i.e. “HOW IS PERFORMANCE TRACKED?”

Note: All 18 dimensions and over 50 examples in Bloom & VanReenen (2006).

ADDITIONAL CONTROLS FOR BIAS & NOISE

8 INTERVIEWEE CONTROLS

• Gender, seniority, tenure in post, tenure in firm, countries worked in, foreign, worked in US, plant location, reliability score

3 INTERVIEWER CONTROLS

• Set of analyst dummies, cumulative interviews run, prior firm contacts

5 TIME CONTROLS

• Day of the week, time of day (interviewer), time of the day (interviewee), duration of interview, days from project start

MANAGEMENT SURVEY SAMPLE

• US (290), UK, France and Germany (≈150 each)

• Medium sized manufacturers (100 - 10,000 employees, median ≈ 600)

•Medium sized because firm practices more homogeneous

•Manufacturing as easier to measure productivity

• Obtained 54% coverage rate from sampling frame

•Response rates uncorrelated with performance measures

ADDITIONAL MATCHED DATA WE COLLECTED

HR Survey

• Skills, demographics, hours, organisational characteristics, number of competitors etc.

Ownership & Family Survey

• Shareholders & managerial characteristics, family involvement, family progression rules etc.

Performance Data

• Separately match company accounts - so collect management and performance data from completely different sources

Industry and Trade Data

• OECD




a) Internal/External validation

b) Contingency

c) Measurement error/bias



INTERVAL VALIDATION OF THE SCORING

1

2

3

4

5

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`

1st interview

2nd i

nte

rvie

w

• Re-interviewed 64 firms with different interviewers and managers

Firm average scores (over 18 question)

• Firm-level average correlation of 0.759

EXTERNAL VALIDATION OF THE SCORINGPerformance measure

cit

cit

ccitm

ccitk

ccitl

cci

cit uxmklMNGy '

ln(capital)

ln(materials)

management(average z-scores) ln(labor)

other controls

• Use up to 11 years of accounting data for 1994-2004

country c

• Note – not a causal estimation, only an association

Dependentvariable

Sales(in Ln)

Sales(in Ln)

Sales(in Ln)

ROCE Tobin Q (in Ln)

Sales growth

Exit

Estimation1 OLS OLS OLS OLS OLS OLS Probit

Firms All All All All Quoted All All

Managementi

0.085(0.025)

0.034(0.011)

0.042(0.012)

2.469(0.688)

0.250(0.075)-

0.018

(0.006)

-0.200[0.026]

Ln(Labor) it

0.999(0.014)

0.539(0.021)

0.540(0.021)

2.172(1.202)

0.209(0.109)

-0.022

(0.011)

0.233[0.045]

Ln(Capital) it

0.103(0.013)

0.104(0.013)

-0.148(0.899)

-0.029(0.086)

0.024

(0.008)

-0.158[0.045]

Ln(Materials) it

0.362(0.020)

0.354(0.020)

-0.439(0.723)

0.130(0.050)

-0.010

(0.007)

-0.084[0.231]

Controls1 No Yes Yes Yes Yes Yes Yes

Noise controls No No Yes Yes Yes Yes Yes

Observations 6,267 5,350 5,350 5,089 2,635 4,777 709

Firms 732 709 709 690 374 702 709

EXTERNAL VALIDATION: PRODUCTIVITY & PROFIT

1 Includes country, year, SIC3 industry, skills, hours, firm-age, and public/privateRobust S.E.s in ( ) below. For probit p-values in [ ] below

EXTERNAL VALIDATION – ROBUSTNESS

Productivity correlations robust to type of TFP estimation

• OLS, Olley-Pakes, GMM & Within-Groups

Results also significant in most recent cross-section (2003/04)

Results significant in both Anglo-Saxon (US and UK) and

European (France and Germany) country subsets

CONTINGENT MANAGEMENT PRACTICES

Dependent VarHC

Management

FC Manage

ment

HC-FC Manage

ment

HC-FC Manage

ment

HC-FC Manage

ment

Level Firm Firm Firm Firm Industry

Ln (% degrees)i

firm level

0.220

(0.039)

0.100(0.043)

0.120(0.043)

Ln (ave wage)i

firm level0.337

(0.122)

Ln (% degrees)j

Industry level (US)

0.281(0.169)

Standard Errors Robust Robust Robust Robust Clustered

Firms 732 732 732 424 732Note: “HC management” average z-score of the 3 most human capital focused questions (questions 13, 17 and 18). “FC management” average z-score of the 3 most fixed capital focused questions (1, 2 and 4). “HC-PC management” is the difference of these two measures.

CONCERNS WITH OUR MANAGEMENT MEASURE?

Three potential issues:

1) Measurement error (classical), but

• Attenuation downwardly biases our results

• We try to control for this with “Noise” controls (management & interview characteristics)

CONCERNS WITH OUR MANAGEMENT MEASURE?

(2) Firm performance-related measurement bias in management score (i.e. the “happy manager” problem), but

• Surveying methodology using examples tries to minimize this

• Competition and management positively linked (later)

• Management-performance link is as important in France & Germany (where managers less likely to “talk up” Anglo-Saxon practices) as it is in UK & US

• No link between past productivity growth & management

• Not all questions significant (and not linked to “subjectivity”)

• Other subjective questions insignificant – i.e. “feel-good” work-life balance questions, organisational devolvement questions

So potential problem – but no evidence that major phenomenon

CONCERNS WITH OUR MANAGEMENT RESULTS?

(3) Reverse causality (management correctly measured but better firm performance causes better management),

• Yes – but main point of performance estimations is external validity of the measure

• Also note that if interpretation is effect of management on productivity note that the bias is ambiguous




4. Explaining management across firms & countries:- competition- family managed firms

OUTLINE

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FIRM LEVEL AVERAGE MANAGEMENT SCORES

France n=137 n=157

n=290n=154UK US

Germany

COUNTRY LEVEL MANAGEMENT SCORES*

3.07

3.14

3.31

3.35US

Germany

UKTypical UK managers?

Bad manufacturing management - a UK tradition?

“Efficient management is the single most significant factor in the American productivity advantage”[Marshall Plan Anglo-American productivity mission, 1947]

France

3.58

3.25

3.13

US FIRMS ARE ALSO BETTER IN EUROPE

Average management score by firm type in UK, France and Germany*

Domestic

Non-US multinational subsidiary

US multinational subsidiary

* Controls for any sample selection on size (direct and group) and listing

# in sample

379

44

20




4. Explaining management across firms & countries:- competition- family managed firms

OUTLINE

Factors we did not find a significant relationship for

Unions: negative but not significant•But: (i) sample ≈ 450 firms; and (ii) issues over causation•Was negative and significant for two individual practices:• Fixing/firing bad performers,• Rewarding good performers

CEO Pay: no link in levels – but issues over causation

Ownership/Governance: positive but insignificant for ownershipconcentration and board indepedence measures:

•But sample only UK/US quoted firms (≈ 350)

Leverage: nothing with debt/equity – but issues over causation

Competition & Models of Management Practices

“Exogenous managerial inefficiency” – positive impact

•Selection models Hopenhayn (1992) or Syverson (2004)

“Optimal choice model” – ambiguous impact

•In contracting models balance between opposing profit and market-size effects (Raith 2003, Vives 2004).

Competition proxies Dependent variable: Management

Import penetration (SIC-3 industry,1995-1999)

0.144(0.040)

0.156(0.084)

1 - Lerner index1

(SIC-3 industry except firm itself, 1995-1999)

1.515(0.683)

1.318(0.637)

# of competitors(Firm level,2004)

0.142(0.051)

0.145(0.049)

Full controls2,3 No Yes No Yes No Yes

COMPETITION AND MANAGEMENT PRACTICES (TABLE 4)

1 Lerner index = (operating profit – capital costs)/sales ≈ rents2 Includes 108 SIC-3 industry, country, firm-size, public and interview noise

(analyst, time, date, and manager characteristic) controls, = 732 obs3 S.E.s in ( ) below, robust to heteroskedasticity, clustered by country-industry

3 competition proxies from Nickell (1996) & Aghion et al. (2005)

FAMILY FIRMS & MANAGEMENT – AN OLD TOPIC

Alfred Chandler1 and David Landes2 both claimed UK & French industrial decline relative to US & Germany linked to family firms

“The Britain of the late 19th Century basked complacently in the sunset of economic hegemony. Now it was the turn of the 3rd generation…and the weakness of British enterprise reflected their combination of amateurism and complacency”

“French enterprise was family-owned and operated, security-orientated rather than risk-taking, technologically conservative and economically inefficient”

1 Alfred Chandler, “Scale and Scope: The Dynamics of Industrial Capitalism”, (1994)2 David Landes, “The Unbound Prometheus: Technological Change and Industrial Development in Western Europe from 1750 to the Present”, (1969)

WE DO FIND GREATER UK & FRENCH FAMILY MANAGEMENT IN OUR DATA (100 YEARS ON),

% UK Fra Ger US

Family1 largest shareholder 30 32 30 10

Family1 largest shareholder and family CEO

23 22 12 7

Family1 largest shareholder, family CEO & primo geniture2 15 14 3 3

1 Family defined as 2nd generation or beyond (so not the founder). Shareholdings combined across all family members. 2 Based on question: “How was management of the firm passed down: was it to the eldest son or by some other way?”. Non primo geniture alternatives in frequency order: other sons, son in-laws, daughters, brothers, wives, nephews and cousins.

WHY DOES FAMILY INVOLVEMENT VARY ACROSS COUNTRIES?• Historical differences

• UK & French tradition of Primo Geniture:

[Oxford English Dictionary, 2005] “Feudal rule of inheritance introduced into England by the Norman Conquest. Replaced Teutonic gavelkind. Obligatory until the Statute of Wills [1540]. Still common in many places”

• US and German tradition of equal division (Menchik, 1980)

• Estate tax headline rates1: on family firms

• US ≈ 50% France ≈ 25%

• UK = 0% Germany ≈ 15%1 Rate on a $25m firm. In practice these taxes are often reduced/avoided by advanced tax planning, although this involves foresight, financial costs and some control loss.

FAMILY FIRMS AND MODELS OF MANAGEMENT PRACTICES

Likely family impact depends on involvement

•Ownership but not management probably positive

• Concentrated ownership so better monitoring

•Management probably negative

• Smaller pool to select CEO from

• Possible “Carnegie” effect on future CEO’s

• Both effects will be worse with primo geniture (succession of eldest son to CEO position)

FAMILY OWNERSHIP AND FAMILY MANAGEMENT (TABLE 5)

% Dependent variable: Management

Family1 largest shareholder-0.029(0.094)

0.304

(0.166)

Family1 largest shareholder & family CEO

-0.100(0.078)

-0.175(0.188)

Family1 largest shareholder, family CEO & primo geniture

-0.281(0.097)

-0.382(0.128

Observations2 732 732 732 732

1 Family defined as 2nd generation or later2 Note includes SIC-3 digit, country, skills, firm size, firm age & public controls

QUANTIFYING THESE EFFECTS:

• ACROSS FIRMS

• ACROSS COUNTRIES

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Density

1 2 3 4 5Average management score across questions and interviews - note dropping lean3

0.2

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.6

.8

11.2

Density

1 2 3 4 5Average management score across questions and interviews - note dropping lean3

MANY COMPETITORS AND NO (PG) FAMILY CEO

FEW COMPETITORS AND/OR (PG) FAMILY CEO

2.7% firms in tail1

9.0% firms in tail1

1 Tail defined as a score ≤ 2. In the whole sample 6.9% of firms are in the tail.Sample splits significantly different at 5%, but not if exclude firms with score ≤ 2

N=415

N=317

Dependent variable Management

Country is US Baseline Baseline Baseline Baseline Baseline

Country is Germany-0.045(0.064)

-0.081(0.075)

-0.090(0.075)

-0.051(0.074)

0.010(0.076)

Country is France-0.202(0.086)

-0.183(0.104)

-0. 131(0.103)

-0.075(0.102)

-0.028(0.102)

Country is UK-0.276(0.078)

-0.276(0.093)

-0.227(0.091)

-0.199(0.091)

-0.126(0.079)

Family owned, family CEO & primo geniture

-0.638(0.101)

-0.628(0.100)

-0.584(0.098)

# of competitors0.142

(0.052)0.161

(0.051)

Ln (% employees with a degree)

0.145(0.037)

Public & size controls No Yes Yes Yes Yes

Observations 732 732 732 732 732

ACCOUNTING FOR THE CROSS-COUNTRY SCORES

1 OLS on 732 observations. S.E.s in ( ) robust to arbitrary heteroskedasticity

• Original methodology for measuring management

• Product market competition & family management important

• Explain 50% of tail of badly managed firms

• Explain 2/3 of US-France gap & 1/3 of US-UK gap

• Last summer ran 3500 firm survey on firms in Europe, US and Asia covering management and organisational structure

Research design very flexible so any suggestions welcome

Quotes:

TO SUMMARIZE

BACK-UP

MY FAVOURITE QUOTES:

[Male manager speaking to an Australian female interviewer]

Production Manager: “Your accent is really cute and I love the way you talk. Do you fancy meeting up near the factory?”

Interviewer “Sorry, but I’m washing my hair every night for the next month….”

The British Chat-Up


Interviewer: “How many production sites do you have abroad?

Manager in Indiana, US: “Well…we have one in Texas…”

Americans on geography

Production Manager: “We’re owned by the Mafia”

Interviewer: “I think that’s the “Other” category……..although I guess I could put you down as an “Italian multinational” ?”

The difficulties of defining ownership in Europe


The bizarre

Interviewer: “[long silence]……hello, hello….are you still there….hello”

Production Manager: “…….I’m sorry, I just got distracted by a submarine surfacing in front of my window”

The unbelievable

[Male manager speaking to a female interviewer]

Production Manager: “I would like you to call me “Daddy” when we talk”

[End of interview…]

Score (1) People are promoted primarily upon the basis of tenure

(3) People are promoted upon the basis of performance

(5) We actively identify, develop and promote our top performers

INCENTIVES - i.e. “HOW DOES THE PROMOTION SYSTEM WORK?”


Score (1) Goals are either too easy or impossible to achieve; managers low-ball estimates to ensure easy goals

(3) In most areas, top management pushes for aggressive goals based on solid economic rationale. There are a few "sacred cows" not held to the same rigorous standard

(5) Goals are genuinely demanding for all divisions. They are grounded in solid, solid economic rational

TARGETS - i.e. “HOW TOUGH ARE TARGETS?”


Dependent Var

Ln (Sales)

Ln (Sales)

Ln (Sales)

Ln (Sales)

Ln (Sales)

Estimation1 Reduced form, OLS Full, OLS Full, IV

Management0.042

(0.012)0.216

(0.097)

Competition (Import penetr.)

0.089(0.032)

0.088(0.032)

Family CEO & primo geniture

-0.060(0.030)

-0.058(0.030)

Instruments(F-test)

Imports,Family(20.79)

Over-identifying restriction (p-val)

0.520

% 75:25 TFP gap accounted for

12% 63%

I.V. MANAGEMENT IN PRODUCTION FUNCTION

1 Other variables include log(Labor), log(Capital), log(Materials), country, year, SIC3 industry, skills, hours, firm-age, and public/private. All 709 observationsS.E.s in ( ) below, robust to arbitrary heteroskedasticity

-.2-.1

0.1

.2ep

hi_o

rig/e

phi_

p5/e

phi_

p95

1 2 3 4 5Log firm age

ephi_orig ephi_p5

ephi_p95

AGE AND MANAGEMENT PRACTICES (KERNEL1)

Firm age (in logs)

Man

agem

ent

scor

e

10 years

1 Point-wise confidence intervals (in feint) generated from 1000 bootstraps

75 years

34

56

7S

ales

per

em

ploy

ee

-2 -1 0 1 2Management Score

bandwidth = .8

Lowess smoother

FAMILY OWNERSHIP PROBIT

Dependent variableFamily owned, family CEO & primo geniture1

Country = UK0.109

[0.015]

Country = France0. 096[0.042]

Country = Germany0.058

[0.303]

Log (employees)-0.022[0.012]

Log (firm-age)0.052

[0.017]

Industry controls Yes

Observations 718

1 Marginal effects, p-values in [ ] brackets underneath

SOME LIMITED EVIDENCE FOR EFFORT EFFECTS?

*Includes 108 SIC-3 digit dummies, country dummies, firm size and type

S.E.s robust to arbitrary heteroskedasticity, clustered by country-industry

Dependent variable

Managerial Hours Worked

Lerner index(5-yr lagged)

6.660(4.129)

1.809(5.869)

Import penetration (5-yr lagged)

-0.230(0.444)

1.082(0.948)

Number of competitors

1.155(0.509)

0.935(0.623)

Firms 727 727 733 733 733 733

Observations 727 727 733 733 733 733

Full controls* No Yes No Yes No Yes

MEASURING AND EXPLAINING MANAGEMENT PRACTICES ACROSS FIRMS AND COUNTRIES October 2007

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