Structure and Content: Interorganizational Referral Valence and Limited Partner Investment Decisions

Abstract

Network theory has long assumed interorganizational relationships act as pipes transmitting information across the market, but have rarely considered the effect of the content of such information on organizations’ behavior. In particular, scholars have attributed the well documented phenomenon of triadic closure – the tendency of actors to form direct ties with those that they are indirectly connected to through shared partners – to the flow of referrals across the indirect ties, without considering whether such referrals are positive or negative. I argue that the effect of indirect ties will be contingent on the performance of the collaboration across the existing ties: success will increase the chance of positive referrals and triadic closure, but failure will lead to negative referrals and reduce the probability of closure. Furthermore, the reputation of the shared partner will magnify the effects of both positive and negative referrals. Finally, actors will reduce their reliance on referrals if they have access to other sources of public or private information about the prospective counterparties. I find support for these hypotheses with a longitudinal dataset of the investment decisions of Limited Partners (LP) investing in Venture Capital (VC) firms.