Business Group Networks and Group Innovation in Emerging Markets

Business Group Networks and Group Innovation in Emerging Markets

Business groups, a constellation of legally independent firms operating under common administrative and financial management and connected by various types of ties, have been recognized as an important innovation powerhouse in emerging markets such as Korea and Taiwan(Chang, Chung, & Mahmood, 2006; Mahmood & Mitchell, 2004; Mahmood & Singh, 2003). Given the pervasive networks between business group members (Hamilton, 1996), scholars have assigned an important role to intra-group networks in understanding where the innovativeness of business group arises in emerging markets. Particularly, scholars have focused on three most commonly observed types of ties in business groups, i.e., buyer-supplier ties, equity ties and interlocking director ties (Belenzon & Berkovitz, 2010; Khanna & Rivkin, 2006; Mahmood, Zhu, & Zajac, 2011). Specifically, buyer-supplier ties within business groups connect firms engaged in commercial transactions and enable them to transfer production materials and market information across firm boundaries. Equity ties connect group members who hold equity stakes in each other through cross-shareholdings, providing a channel for the transfer of financial investment and control. Finally, director ties connect group members as they share the same individuals on the boards, and hence enable group members to coordinate strategies and governance (Mahmood et al., 2011).

One explanation on how intra-group networks may facilitate group innovation is that intra-group networks reduce the transaction costs in the innovation process as they create internal capital market, and internal labor market which fill in the institutional voids in the external market (Belenzon & Berkovitz, 2010; Khanna & Rivkin, 2001; Mahmood & Mitchell, 2004). Unlike innovation in advanced economies, innovation in emerging economies often face difficulties in raising external capital, recruiting talent or protecting intellectual property rights to fuel innovation due to the undeveloped institutions. However, such problems are greatly attenuated in business groups as the networks linking group members cultivate trust and reduce opportunism among group members (Chang et al., 2006) and hence incentivize members to extensively involve in exchanging resources such as financial capital and research personnel with each other, sharing innovation risks and protecting innovation returns within the group boundaries. The creation of such internal markets of capital, labor and intellectual property rights compensates