The impact of internationalisation of research on firm market value

Paola CriscuoloTanaka Business SchoolImperial College London

Trends in R&D internationalisation

Source: National Science Foundation “Science and Engineering Indicators”

Motivations for R&D internationalisation process

• Home-base exploiting – To support local production

• Home-base augmenting– To tap into local pockets of excellence (Florida,

1997, Kuemmerle 1999, Patel and Vega 1999)

New R&D organizational structures

New technologies are mostly created at centre

Central R&D

Each R&D unit assumes a leading role in the creation of technological assets in a particular area (Chiesa,1996, Gassmann & von Zedtwitz 1999 Criscuolo & Narula, 2007)

R

R

R

R

Global R&D networks: Novartis

Why MNEs are adopting this complex structure?

• The assumption is that MNE can“efficiently fish for knowledge in a global pool, harness that knowledge for innovation, and then harvest its value for its stakeholders” Doz et al. (2001) “From Global to Metanational”

But firms are struggling...

• Doz et al. (2006) found that: – coordination across research sites is weak; the number of cross-

border projects is relatively low; foreign subsidiaries are not tapping into a broad range of external partners

• As one of Siemens’ CEO acknowledged: – “we still need much more co-operation with outstanding

universities around the globe: our research co-operation still has a distinctly German flavour”

• Cross-borders knowledge transfer and integration are hindered by organizational and technological distance and MNEs suffer from organizational inertia (Criscuolo and Narula, 2007)

Are MNEs benefiting from global R&D strategies?

• Impact on innovative performance (mixed evidence):– Japanese Pharmaceutical MNEs with foreign R&D

produce more patents (Penner-Hahn & Shaver, 2005)

– Pharmaceutical MNEs with a greater number of R&D locations produce less patents (Furman et al. 2006)

– Dispersing R&D has negative impact on patents quality, however when innovative teams build on knowledge from different locations come up with patents with higher value (Singh 2007)

Are MNEs benefiting from global R&D strategies?

What is the impact on financial performance of dispersing R&D?

Internationalisation of production and firm performance

• Internalization theory (Buckley & Casson, 1976): FDI occurs when firms can maximize profits by creating internal markets for intangible assets

• Mixed empirical evidence

• But evidence that R&D intensity has a moderating impact:– Mock and Young (1991) state: “the value of multinationality

stems from the possession of intangible assets and the value of these intangible assets increases with the degree of multinationality”

• Benefits of internationalization are linked to R&D internationalization

Organizational learning perspective

• Focus on learning opportunities generated by a

geographically dispersed network of operation (Hitt et al. 1997, Barkema & Vermeulen 1998, Zahra et al. 2000)

• Ability to absorb external knowledge depends on existing R&D capabilities (Cohen & Levintahl,

1990)

• Thus need to have a geographically dispersed network of R&D facilities

Market value & R&D

• Technological activities intangible capital future profits reflected in market valuation

• Markets value R&D stock, innovation output, but also innovation quality (Hall et al. 2005) and coherence of firm knowledge base (Nesta & Saviotti, 2006)

• Investors appear to value not only quantity but also nature and properties of firm knowledge capital

Hypotheses

• H1: Geographical dispersion of research activities has a positive impact on firm market value

• H2: The higher the level of firms local embeddedness in host regions scientific community the higher their market value

• H3: The more that firms are able to integrate knowledge from foreign locations the higher their market value

Embeddedness

• Concept initially defined at the level of the individual– Granovetter (1985): most individual behaviours are closely

embedded in networks of interpersonal relationships. The strength of these trust-based relationships in a social network is defined as embeddedness

• Uzzi (1996) and Gulati (1999) applied the concept of embeddedness to firms

• Key elements of an embeddeded relationship (Gordon and McCann 2000) – firms are more willing to engage in risky co-operative projects– firms may act as a group in order to support and achieve a

common and mutually beneficial objective

Local embeddedness

• Foreign subsidiaries are outsiders in the host region (Solvell & Zander, 1995)

• Crucial to be embedded in the local network to access information & knowledge, especially if tacit

• Local embeddedness has positive impact on foreign subsidiary performance and innovation (Andersson, Forsgren & Holm, 2002)

Hypotheses

• H1: Geographical dispersion of research activities has a positive impact on firm market value

• H2: The higher the level of firms’ local embeddedness in host-region scientific communities the higher their market value

• H3: The more that firms are able to integrate knowledge from foreign locations the higher their market value

Knowledge integration

• Knowledge integration is crucial to create value – “the critical source of competitive advantage is knowledge

integration rather than knowledge itself” (Grant, 1996)

• Synergies between R&D sites and international cross-fertilization of knowledge might lead to technological upgrading (Bartlett & Ghoshal 1990, Zander 1999)

Hypotheses

• H1: Geographical dispersion of research activities has a positive impact on firm market value

• H2: The higher the level of firms local embeddedness in host regions scientific community the higher their market value

• H3: The more that firms are able to integrate knowledge from foreign locations the higher their market value

Data: Publications

• Scientific publications by the 1998 Fortune 500 pharmaceutical and chemical MNEs (29 firms) between 1990 - 2005– To capture the geography of their research activities

• In science-based sectors firms publish selected results to increase their visibility and to be ‘plugged’ into the scientific community (Cockburn & Henderson, 1998, Tijssen 2004)

Data: Co-authorship

• Co-authorship behaviour by foreign subsidiaries scientists– To capture both local embeddedness and knowledge integration

from multiple locations

• Co-authorship captures knowledge exchanges since it often entails face-to-face interactions, extensive discussions, joint problem solving, exchanges of information and tacit knowledge

• CHI indicator to assign each publication to a particular sub-discipline (e.g. Microbiology, Pharmacology)

Publication & co-authorship trends

Number of

papersNumber of

coauthorships

Share of coauthorship

with locals

Share of intrafirm

coauthorshipAbbott Labs 3,094 142 450 12.9 12Akzo Nobel 639 305 528 8.3 14Aventis 5,065 1,179 5,290 7.3 9.5Basf 1,715 414 795 9.8 13.8Bayer 2,724 1,028 2,716 9.6 9.9Bristol-Myers 4,060 282 1,028 5.2 20.4GSK 4,977 2,697 11,826 6.9 15.7Henkel 235 96 179 12.8 7.8Merck & Co 4,575 1,516 3,115 6.9 33.5Mitsubishi Kasei 943 12 21 19 0Monsanto 1,507 63 131 11.5 21.4Novartis 5,861 2,854 8,119 10.6 15.7Pfizer 3,839 1,145 2,907 4 14.2Procter & Gamble 1,933 251 913 5.3 14.7Roche 8,206 5,662 16,891 10.5 5.8Sumitomo 974 4 15 26.7 26.7Wyeth 2,155 81 257 9.3 34.2

Firm

Number of

papers

Foreign subsidiaries

The model

• v log of Tobin’s Q proxied by ratio of market capitalisation divided by total assets

• rda (R&D intensity) log R&D expenditure over total assets

• inta (Intangible assets) log investments in other intangible assets over total assets

• X control variables: firm size (log sales), financial leverage (log ratio total liabilities over total assets), publication intensity (log ratio publications over R&D expenditure), time dummies

itititititititit uXintklembherfaintrdav 653210

Geographical dispersion

Herfindahl-based index of geographic distribution of firm i

publications in countries n at time t. If equals to 0 publications

concentrated in one country

2

1

n

t,i,n

t,i,nit pub

pubHerf

Local embeddedness

• Weighted average of subsidiaries’ co-publications with local counterparts

kknit

knit

kknit

knitit coauth_total

coauth_local

coauth

coauth

nklemb

1

Weights: share of co-authorships in region n, in discipline k and year t over total number of co-authorships in that region

What do I mean by local co-authorship?

• A publication that includes two scientists from GSK subsidiary in Research Triangle Park (North Caroline), two scientists from the University of Duke (North Caroline), and one scientist from the University of Wisconsin, would generate six co-authorships but only four will be considered as local

Knowledge integration indicator

density of intra-firm co-authorship network

21 /)g(g

tiesintk

itit

itit

Novartis intra-firm co-authorship network in 2005

Econometric issues

• Problems of heteroskedasticity and autocorrelation – Kmenta (1986) autoregressive heteroskedastic

model – But suitable only when N, the number of firms, is

lower than T, the number of periods– Fixed effect AR(1) and adjust for panel

heteroskedasticity using the White’s correction

Results from fixed effect Kmenta (1986) autoregressive heteroskedastic model

Model 1 Model 2 Model 3 Model 4

Financial Leverage -0.41*** -0.42*** -0.43*** -0.38***

-0.13 -0.12 -0.12 -0.12Intangible assets -0.02 0 0 0

-0.02 -0.02 -0.02 -0.02Size 0.06 0.09 0.08 0.09

-0.09 -0.08 -0.08 -0.08

R&D intensity 0.36*** 0.38*** 0.39*** 0.40***

-0.07 -0.07 -0.07 -0.07

Publication Intensity 0.07 0.08* 0.12*** 0.13***

-0.04 -0.04 -0.04 -0.04

Herfindhal index 1.08*** 1.18*** 1.59***

-0.38 -0.37 -0.36

Local embeddeness 6.69*** 6.48***

-1.79 -1.75

Knowledge Integration -1.17***

-0.38

H1

H2

H3

Findings

• Investors seem to perceive the creation of a global network of research facilities as an opportunity to increase future profits

• Higher levels of local embeddedness are associated to higher market values

• Investors do not to value positively efforts to achieve synergies across geographical boundaries

Implications

• Global R&D strategy– Broaden the search outside the national boundaries– Being open and connected to the local scientific community– Do not ‘desperately seek synergy’ (Goold & Cambell 1998,

Kretschmer & Puranam, 2007)

• Support for the organizational learning perspective on internationalisation

• Extend our understanding of the relationship between multinationality and firm performance

Limitations

• Econometric issues: – R&D intensity is predetermined rather than exogenous – persistence in market value shocks requires lagged values of

Tobin’s Q and generalised method of moments (GMM) estimator

• Local embeddedness is a characteristic of the subsidiary not of the MNE

• Local embeddedness captured with a very crude indicator

Future research

• Increase the sample of firms

• Identify collaborative partners and develop a better measure of embeddedness

• Explore impact of local vs non-local scientific collaborations by foreign subsidiaries