Abstract

Complex firms may have larger pools of resources to gain higher rate of technology innovation, but their governance processes could be either hindered by bureaucratic inefficiencies or enhanced through extensive internal and external knowledge-sharing mechanisms. Recently, the conceptualization of firm complexity has evolved significantly, moving beyond simple proxies, such as the number of business segments or geographic diversification, to more sophisticated measures that capture the true operational and informational complexity stakeholders face when analyzing firms (Bonsall et al., 2017). While firm size has long been recognized as a fundamental characteristic in measuring firm complexity due to its ubiquity and ease of measurement, Dyer et al., (2017) argue that complexity measures should capture various aspects of firm performance such as transparency, governance effectiveness, and stakeholder engagement. The growing need for an all-encompassing proxy for measuring firm complexity is further supported by Loughran and McDonald (2024), who present a multi-dimensional proxy using the textual analysis of a firm's 10K filing statement. Using a text-based measure of complexity, we examine whether and how firm complexity affects innovation. The results indicate a positive association between complexity and innovation. Further analyses suggest a positive influence on diversified and ESG-focused firms. The findings challenge the traditional view that complexity is a hinderance, as our results demonstrate that it may serve as a strategic asset when combined with effective governance and risk management initiatives.

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