By Emilie R. Feldman
GE, Alphabet, Siemens, Facebook, Honeywell, Amazon, LVMH, Apple, and 3M. What do these companies have in common? All of them are modern-day “corporate parents” that own and manage multiple subsidiaries within the same corporate household. For these subsidiaries, does being owned by one corporate parent help or hurt performance relative to what their performance would be if they were owned by a different corporate parent? In other words, how much value do corporate parents create (or destroy) for their individual subsidiaries? This is the question I set out to answer in my recent SMJ paper.
You might be asking yourself, “Wait, don’t we already know the answer to this question? It seems pretty fundamental.” Surprisingly enough, the answer is “Not really.” Some research has produced theoretical arguments about and practical examples of the different ways in which corporate parents might improve or reduce the performance of their subsidiaries. A few studies have investigated the situations in which corporate parents might add more or less value to their subsidiaries. Despite these ideas, though, prior research hasn’t really been able to measure the so-called “corporate parenting advantage” because it’s hard to get good data on individual subsidiaries within corporate parents and, even if you could, there are few real-world situations where it is possible to compare the performance of the same subsidiary operating under two different corporate parents.
The corporate parenting advantage is thought to result from four key sets of functions that corporate parents perform. First, some corporate parents, like GE or Danaher, may be better than others at enabling their subsidiaries to function well as stand-alone entities. This can involve selecting, appointing, and developing key subsidiary executives; approving or rejecting subsidiary budgets, strategic plans, and proposals for capital expenditures; providing advice and policy guidance; or even creating valuable incentive systems and corporate cultures. Second, some corporate parents, like Pepsi or Disney, might be better than others at enhancing the linkages among their subsidiaries by sharing activities or exploiting synergies; sharing skills and resources; or implementing transfer pricing mechanisms. Third, some corporate parents, like Berkshire Hathaway, might be better than others at centralizing functions (such as finance, marketing, or human resources), services (such as administration, catering, or security), and access to financial capital. Fourth, and finally, some corporate parents, like Cisco or Google, may be better than others at selecting which businesses to enter or exit and when and how to do so, as well as nurturing new businesses or integrating acquired businesses.
In my research, I identified a novel empirical context that would allow me to measure the corporate parenting advantage: electric and gas utilities in the United States. This context has two key advantages. First, with rare exception, utilities are subsidiaries of holding companies (corporate parents), and extensive data are available on these subsidiaries. Second, the Public Utility Holding Company Act of 1935 (PUHCA) was a law (on the books from 1935 to 2004) that divided the population of holding companies into two groups and subjected one of them to regulation by the Securities and Exchange Commission (SEC). The holding companies that were regulated under PUHCA faced limitations on their ability to parent their subsidiaries, in that the SEC regulated their ability to make acquisitions, upstream or downstream funds, provide centralized services, and raise cash through the issuance of securities—all key corporate parenting activities. By contrast, the holding companies that were exempt from PUHCA faced no such restrictions. Together, these two factors allow me to measure the corporate parenting advantage in this particular context because PUHCA regulated the ability of some holding companies (but not others) to parent their subsidiaries, and data are available to compare the performance of similar subsidiaries that were owned by each type of holding company.
My research shows that comparable utilities that were owned by regulated holding companies have about one percent lower return on assets than utilities that were owned by exempt holding companies, and that this performance difference disappears once PUHCA was repealed in 2005 and the legal restrictions on parenting were lifted. These results allow me to infer the corporate parenting advantage in two complementary ways. First, my findings reveal that similar subsidiaries that have fully-effective corporate parents outperform subsidiaries that have partially-effective corporate parents. Second, my results also show that when partially-effective corporate parents gain the full ability to parent their subsidiaries, the prior underperformance of their subsidiaries disappears.
In sum, the key contribution of this study is to rigorously measure the corporate parenting advantage. My work offers important implications for corporate strategy research and practice, with the potential to influence not only decisions about how to manage subsidiaries in multi-business firms but also about when and how to change firm scope.
About the Author:
Emilie R. Feldman is an Associate Professor of Management at the Wharton School of the University of Pennsylvania. Her research focuses on corporate strategy and corporate governance in multi-business firms.