Employee Spinouts, Social Networks, and Family Firms

25 Pages Posted: 13 Dec 2013 Last revised: 28 May 2023

See all articles by James E. Rauch

James E. Rauch

University of California, San Diego (UCSD) - Department of Economics; National Bureau of Economic Research (NBER)

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Date Written: December 2013

Abstract

Recently collected data show that, within any manufacturing industry, vertically integrated firms tend to have larger, higher productivity plants, account for the bulk of sales, and also sell externally most of the inputs they produce. In a weak contracting environment characteristic of developing countries, vertically integrated firms are vulnerable to employee "spinouts": managers of input divisions can start their own firms, making customized inputs formerly provided internally subject to hold-up and capturing the profits formerly made from external sales of generic inputs. This vulnerability is shown to lead to inefficiently low entry. Vertically integrated firms can fight back by hiring managers for their input divisions who are members of networks that informally sanction hold-ups or children who keep profits "in the family" even if they spin out. This is shown to predict the association of co-ethnic networks with high rates of entrepreneurship and the prominence of family-owned business groups in developing country manufacturing.

Suggested Citation

Rauch, James E., Employee Spinouts, Social Networks, and Family Firms (December 2013). NBER Working Paper No. w19727, Available at SSRN: https://ssrn.com/abstract=2367137

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