Social Connections and Innovation in Diversified Conglomerates

We study the effect of social connections between divisional managers and CEO on the scale and success of innovation activities in U.S. diversified conglomerates. Divisional managers who previously worked or studied with CEO file a greater number of patents during their tenure at the segment. These patents receive more citations in future and represent a greater scientific and economic value. To provide causal support for our findings, we exploit plausibly exogenous variation in connections caused by CEO non-performance related retirements. The difference-in-difference estimation shows that after the CEO leaves the office, connected segments experience drop in a quantity and quality of innovation activities. The effect of connections to CEO on the innovation outcomes is stronger in the firms with high internal information asymmetry. These findings can imply that socials connections help to mitigate adverse selection problems associated with risky R&D investments