Vertical merger,R&D collaboration and innovation

This paper studies the effects of vertical merger and R&D collaboration activities on firms' innovation decisions and stock returns based on a continuous-time real option model under market and technological uncertainties. Our analysis confirms vertical merger's benefit in amplifying the potential gain from innovation through eliminating inefficiencies. We show that vertical merger boosts innovation incentives in two ways: it reduces the optimal innovation threshold when firms suspend the project and increases R&D investment when firms launch the project. If vertical merger is not possible, R&D collaboration can improve firms' innovation levels as an alternative decision, but inefficiencies still exist which implies less pronounced stimulation effects. Both vertical merger and R&D collaboration can reduce firms' risk when conducting innovation project and weaken the positive R&D-returns relation and financial constraints-returns relation, while these effects of vertical merger are stronger than those of R&D collaboration.     

The explanatory power of R&D for the cross-section of stock returns: Japan 1985–2000

This paper examines the role of research and development (R&D) in explaining the cross-section of stock returns in Japanese market for the period from 1985 to 2000. Economic intuition suggests that expected stock return and the risk of return should be positively related to R&D. We find moderate evidence that the average stock return is positively related to R&D expenditure in that period. The relation, however, is not stable over three subperiods of the sample. In the bubble-forming period (1985–1989), the average return is in fact slightly negatively related to the R&D intensity. In the burst-of-bubble period (1990–1992), the relation is slightly positive. Only in the post-bubble period (1993–2000) is the R&D effect positive and significant. We also examine the relations of the total risk and systematic risk of returns with the R&D intensity and find that only in the post-bubble period the R&D intensity contributes positively to the risks and its explanatory power is low.     

R&D investment and distress risk

This paper proposes that besides volatility, R&D can increase firms' distress risk through another channel. Unlike capital investment, R&D is more inflexible and subject to high adjustment costs. Moreover, R&D intensive firms face severe financial constraints and are more likely to suspend/discontinue R&D projects. Therefore, firms' distress risk increases with their R&D intensity. Using a large panel of US companies over the 1980 to 2011 period, I find a robust empirical relation between R&D and distress risk, primarily among financially constrained firms. Moreover, the effect of R&D on distress risk is magnified during economic downturns. I also find that firms that have been previously successful in R&D or firms with high analyst coverage can mitigate the relationship between R&D and distress risk.     

Value chain capability,value strategies and firm default risk

Firm stakeholders are paying more attention to the firm risks rather than merely focusing on returns. Among those risks, a firm's ability to repay its debt increasingly becomes a yardstick to evaluate a firm and predict the security level of returning its borrowings. This situation is directly related to a firm's default risk. The current article links the firm's value strategies and capabilities to firm default risk reduction. Specifically, this article conceptualizes and operationalizes a new firm capability, value chain capability, and examines how this capability and two firm value strategies, R&D and advertising, reduce the firm's default risk. Meanwhile, the authors formulate the value chain capability's moderating effects on the relationships between the two value strategies and firm default risk. The findings suggest that value chain capability and advertising help the firm reduce default risk. R&D will have the same effect only when a firm has high value chain capability.     

Corporate Governance and Its Impact on R&D Investment in Emerging Markets

Corporate R&D activities are inherently risky but also difficult to monitor. Against this background, we examine the impact of ownership concentration and legal shareholder rights protection on corporate R&D investments in emerging markets. Based on a comprehensive sample of publicly listed firms from 24 countries, we find that R&D intensity is lower in firms with (strategic) block ownership, and this effect is more pronounced in countries with stronger shareholder rights protection. This suggests that, similar to the situation in developed economies, dispersed ownership, which allows shareholders to diversify their investment risks, is beneficial for corporate R&D and that this effect is intensified by more developed institutions.     

The effect of R&D on future returns and earnings forecasts

Prior studies attribute the future excess returns of research and development activity (R&D) firms to either compensation for increased risk or to mispricing. We suggest a third explanation and show that neither the level of R&D investment nor the change in R&D investment explains future returns. Rather, the positive future returns that prior studies attribute to R&D investment are actually due to the component of the R&D firm??s realized return that is unrelated to R&D investment but present in R&D firms. Our results suggest that the excess returns of R&D firms are part of the larger value/growth anomaly. In addition, we show that while future earnings are positively associated with current R&D, errors in earnings expectations by investors and analysts are not related to R&D investment.     

Scale effects of R&D as reflected in earnings and returns

Using returns to scale as a conceptual foundation, we explore how R&D-related earnings performance and earnings variability depend upon firm size. We find that the positive association between the level of future earnings and R&D intensity increases with firm size, and that the positive association between the volatility of future earnings and R&D intensity decreases with firm size, consistent with R&D productivity increasing with scale. We also show that R&D scale is associated with lower market returns, consistent with the idea that R&D investment risk declines with scale.     

Opciones reales: una propuesta para valorar proyectos de I+D en centros públicos de investigación agraria

Investment decisions in research and development (R&D) are important to the success of organizations, especially for public research. This paper evaluates an R&D project (seed breeding) using the traditional method, the Net Present Value, and the more contemporaneous technique of real options. Economic Surplus Theory and Monte Carlo simulations are used to estimate social benefits. The results indicate that the real-options approach is a useful tool for assessing R&D public projects.     

Corporate taxation and the quality of research and development

This paper examines the impact of tax incentives on corporate research and development (R&D) activity. R&D tax incentives are commonly provided as special tax allowances or tax credits. In recent years, several countries also reduced their income tax rates on R&D output with the purpose to foster R&D activity. Previous papers have shown that all three tax instruments are effective in raising the quantity of R&D related activity. We in turn assess the impact of corporate tax incentives on the quality of R&D projects, i.e., their innovativeness and earnings potential. Using rich data on corporate patent applications to the European patent office, we find that a low tax rate on patent income raises the average profitability and innovation level of the projects undertaken in a country. The effect is statistically significant and economically relevant and prevails in a number of sensitivity checks. Generous R&D tax credits and tax allowances are in contrast found to exert a negative impact on project quality.     

Does the Riskiness of R&D Outweigh Its Benefits? The Perspective of US Private Lenders

We investigate the relationship between R&D investments and loan spread. Prior research documents that R&D is associated with greater future benefits and risks, suggesting that the valuation of R&D depends on a tradeoff between the two. Some research finds that bondholders consider that the benefits of R&D outweigh its risks: R&D is negatively associated with bond yields. This is surprising given that debt holders are more concerned about downside risk due to asymmetric payoffs. Using data on private debt from the US, we find an overall positive association between loan spread and R&D intensity, suggesting that the riskiness of R&D appears to outweigh its benefits for private lenders. Furthermore, an asymmetric payoff structure implies that the risks of R&D for lenders increase with default risk. Consistent with this argument, we find a positive association between R&D and loan spread for firms that are smaller, with high default‐risk ratings, unrated (no public debt), or in industries with weaker legal protection. Unrated firms are in the most R&D‐intensive group and make up nearly 60% of the firms with private debt. Consequently, studies that exclude unrated firms are likely to present an incomplete picture of the perspective of debt holders on R&D.     

Equity compensation and the sensitivity of research and development to financial market frictions

When financial market frictions exist, executives may have to decide which investment activities to reduce when internal funds decrease. Expenditures on research and development (R&D) may be particularly vulnerable because of the long-term nature of innovative activity. We find that equity compensation is associated with lower levels of firm R&D expenditures. Rewarding executives to incur more risk has little effect on R&D expenditures, but rewarding executives for higher returns reduces R&D expenditures and makes R&D expenditures more sensitive to financial market frictions. In contrast, cash compensation reduces the sensitivity of R&D expenditures to financial market frictions.     

Excess Returns to R&D-Intensive Firms

Recent studies indicate that both current R&D investment levels and current or recent changes in R&D investment are positively associated with subsequent excess (risk-adjusted) stock returns. The tentative explanation offered for these results is that shares of R&D-intensive firms are mispriced because investors fail to see through earnings distortions caused by conservative accounting for R&D costs. However, an alternative explanation is that conventional controls for risk do not completely capture the riskiness of R&D-intensive firms, causing measured excess returns for these firms to be biased upward. This study provides evidence useful for distinguishing between the mispricing and risk explanations for R&D-related excess returns. Overall, our empirical results suggest that the positive association between R&D investment levels and excess returns is more likely to result from failure to control adequately for risk than from mispricing. On the other hand, our results do not rule out the possibility of a second source of excess returns that are due to mispricing and that are associated with changes in the level of R&D investment.     

R&D intensity for innovative and adaptive purposes in overseas subsidiaries: Evidence from Japanese multinational enterprises

This paper investigates the causes of R&D activities of overseas subsidiaries using firm-level panel data for Japanese multinationals. We distinguish between overseas innovative R&D (basic and applied research) and adaptive R&D (development and design) and examine how the intensity of each type of R&D is determined, using Amemiya Generalized Least Squares estimation. Our findings suggest that overseas innovative R&D aims at the exploitation of foreign knowledge, whereas adaptive R&D has no such aim. In addition, the size of the host country’s market positively affects both types, whereas geographic distance between the host and the home country has a negative impact. Finally, the parent firm’s knowledge is found to increase the size of overseas adaptive R&D but not innovative R&D. Based on a theoretical model, we interpret this evidence as showing that knowledge of the parent firm is not fully utilized in innovative R&D of its subsidiary.     

Cultural attributes and risk perception: the moderating role of different types of research and development

Drawing on the grid–group culture theory, this study examines hypotheses to explain how the cultural attributes of an organization influence professionals’ perceptions of risk in the context of research and development (R&D) activities. Specifically, we explore whether two dimensions of cultural attributes – the grid dimension and the group dimension – affect organizational commitment and risk perception. We also investigate whether the impact of the cultural attributes on risk perception is mediated by organizational commitment and whether different types of R&D activities – applied research and developmental research – serve as a moderating variable on the relationships among cultural attributes, organizational commitment, and risk perception. The partial least squares method was used to analyze data collected from full-time senior researchers with over five years of experience at a large technology institute. Our findings indicate that cultural attributes influence the risk perception of R&D professionals through the mediating function of organizational commitment. Further, we found that different types of R&D activities have moderating effects on the relationship between organizational commitment and risk perception.     

Variety expansion,preference shocks,and financial intermediaries

We investigate the effect of lifetime uncertainty on economic growth by incorporating preference shocks into a variety-expansion model and comparing financial autarky and financial intermediaries. In this economy, long-term investment facilitates the promotion of R&D investment and the creation of new differentiated goods. Our results suggest that when risk aversion is high, an increase in number of differentiated goods slows down R&D investment through a decrease in the price index. Further, if the risk of early withdrawal and the liquidation cost of long-term investment are high, financial intermediaries have significant effects on the growth of variety.     

R&D tax incentives: a reappraisal

This paper examines R&D tax incentives in oligopolistic markets. We characterize the conditions under which tax incentives reach the socially desirable level of firm-financed R&D spending. The outcome of the market depends not only on the level of technological spillover in the industry but also on the degree of strategic interaction between the firms. One major result emerges from the model: The socially desirable level of R&D investment is not necessarily reached by subsidizing R&D. When the technological spillover is sufficiently low, the government might want to tax R&D investments, and this result does not necessarily arise because firms are overinvesting in R&D. There are also cases in which an R&D tax is desirable even though firms are underinvesting in R&D compared with the first-best optimum. In practice, this theoretical finding calls for a lower sales tax combined with an R&D subsidy in oligopolistic industries with high technological spillovers, and a lower sales tax combined with an R&D tax in oligopolistic industries with low technological spillovers.     

Conservatism, Growth and the Role of Accounting Numbers in the Fundamental Analysis Process

I evaluate the effects of conservative accounting for research and development (R&D) and past growth in R&D on: (1) the relation between aggregate earnings (deflated by price) and contemporaneous stock return, and (2) the association between estimates of value derived from the residual income valuation model (i.e., RIV estimates) and equity market value. I show that the conservative treatment of R&D affects the earnings/return relation only for firms that experience high growth in R&D during the return interval of interest. I also demonstrate that the effect of conservative accounting for R&D on the association between RIV estimates and equity market values is increasing in past growth in R&D.This revised version was published online in August 2005 with a corrected cover date.     

Cash flow uncertainty,financial constraints and R&D investment

Based on the data from Chinese listed companies of Shanghai and Shenzhen stock markets between 2005 and 2016, we systematically examine the relationship between cash flow uncertainty and R&D investment, and further research the moderating effect of financial constraints on the association between the two. Our empirical results find that R&D investment decisions tend to be more conservative and cautious due to cash flow uncertainty, which is not conducive to innovation efficiency. Firms with higher cash flow uncertainty invest more cautiously in R&D innovation, whereas firms with lower cash flow invest more boldly in R&D innovation. Financial friction may exacerbate the negative impact of cash flow uncertainty on innovation activities. Strategic cash holding can help firms better deal with the risks caused by cash flow uncertainty. In provinces with high marketization, the market competition intensifies, resulting in more significant cash flow uncertainty.     

Do regulatory policies matter to corporate innovation?

This paper examines the relationship between regulation and innovation from both theoretical and empirical perspectives. The theoretical model focuses on the role of competition policy (measured by increases in the number of firms) and the strength of intellectual property rights in fostering cost-reducing R&D, under both R&D competition and R&D cooperation. It is shown that, theoretically, competition policy and intellectual property rights are complements under R&D competition, while they are substitutes under R&D cooperation. Moreover, under R&D competition, innovation is maximized through strict competition policy and strong intellectual property rights; whereas under R&D cooperation, innovation is maximized through strict competition policy and weak intellectual property rights. The empirical model tests the effect of several regulatory policies on innovation in several MENA countries. The results of dynamic panel data regressions point that competition policy and intellectual property rights are complements. In addition to competition policy and intellectual property rights protection, the following country/regulation characteristics are considered: human capital, government efficiency, foreign direct investment, natural resources dependence, labor market regulations, and GDP level. The paper finds that the extent of regulations in all categories has statistically significant effects on R&D, except FDI. One explanation is that most FDI to the MENA region flows to natural resources and non-tradable sectors, which are less relevant to R&D than other sectors (e.g., manufacturing and information and communications technology sectors).     

CEO risk incentives and firm performance following R&D increases

In this study we analyze how CEO risk incentives affect the efficiency of research and development (R&D) investments. We examine a sample of 843 cases in which firms increase their R&D investments by an economically significant amount over the period of 1995–2006. We find that firms with higher sensitivity of CEO compensation portfolio value to stock volatility (vega) are more likely to have large increases in R&D investments. More importantly, we find that high-vega firms experience lower abnormal stock returns and lower operating performance compared to their low-vega counterparts following the R&D increases. Our main results hold in a variety of robustness tests. The results are consistent with the conjecture that high-vega compensation portfolios may induce managers to overinvest in inefficient R&D projects and therefore hurt firm performance.