Purpose: The purpose of this study is to investigate factors that influence the application of governance mechanism in family small and medium-sized enterprises (SMEs) in Indonesia.
Design/methodology/approach: This study used multiple regression analysis to examine the hypothesis. For data collection, questionnaires were distributed to 337 owners and managers of SMEs around 7 districts in Java Island in Indonesia.
Findings: The result indicates that uncertainty influences the application of formal governance in family SMEs in Indonesia. Meanwhile, asset specificity has impact on both formal and relational governance in the context of firms. Financial and non-financial objectives did not impact both formal and relational governance.
Research limitations/implications: Though this research was carried out in a particular cultural context, this study was not specifically designed to examine the interaction between cultural variables and family corporate governance variables. In the future, there is need for a study that examines how culture can influence the practice of formal and relational governance in family business.
Practical implications: The study will give guidance to owners or managers of family business in terms of governance mechanism when uncertainty increases. This evidence suggests that family firms need to adopt formal governance within family firms when uncertainty exists.
Social implications: The research finding indicated that uncertainty influenced the application of formal governance in family SMEs in Indonesia. This research finding suggests that family firms need to adopt formal governance when uncertainty exists. The adoption of formal governance, however, may implicate to some others organizational areas in family firms such as leadership, recruitment and selection and corporate culture.
Originality/value: This study is one of the few on family SMEs, which applied the transaction cost theory. Most of the studies use agency theory for investigating governance mechanism in the family business. This study is one of the few on family SMEs, which applied the transaction cost. This study provides an explanation about a factor that influences a family firm to choose formal and relational governance within the firm.