Online Reviews, Legitimacy, and (In)Formal Entrepreneurship

Online reviews found on websites like Yelp are an increasingly popular source of information for consumers. While an increasing number of studies find that online reviews influence firms' financial performance, less is known about their effect as a viable alternative to formal legitimating mechanisms such as licensing on the distribution of entrepreneurs between the formal and informal sectors. Using an original dataset of the California moving industry between 2004-2016, we find a curvilinear association between the number of unlicensed firms and the likelihood that informal entrepreneurs will apply for a license (i.e., transition from the informal to the formal sector). We also find that likelihood to be negatively associated with that firm’s online ratings, and with the popularity of online reviews in the area. These findings suggest that entrepreneurs may now rely more on online mechanisms to legitimate their firms than more traditional formal legitimating mechanisms such as licensing.