Tracking product trademarks expands the understanding of innovation | So Good News
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R&D expenditures and patents alone are not effective measures of corporate creativity
High on the 10 commandments of business success is “innovate or die”. However, measuring innovation is difficult. It often boils down to tracking research and development expenditures and guiding patent activity.
This may work well for patent-heavy industries like tech and pharma, but even here the approach is far from ideal. Both Uber and Netflix were very innovative out of the box, but neither relied on patents.
Moreover, this approach is somewhat useless in industries where neither R&D nor patents are central to operations, such as finance and food. This continues the narrative that firms in industries with fewer patents are less innovative.
An article in the Journal of Financial and Quantitative Analysis shows that most innovation occurs in firms that do not engage in R&D or regularly withdraw patents.
By creating a database that tracks new product trademarks, the researchers found that the compensation of CEOs in low-patent industries depends on stock options because they tend to issue more new product trademarks.
And these new trademarked products seem to promote improved performance. Arizona State’s Lucille Trout, Hong Kong Polytechnic University’s Qin Li, UCLA-Irvine’s Devin Shanthikumar, and UCLA Anderson’s Siew Hong Teoh report that among firms that register more new products, both operating cash flow and return on assets are higher in the first and second years. trademarks.
The researchers tabulated the patent and product trademark activity of S&P 1500 companies between 1993 and 2011. They had more than 70,000 new product trademarks from nearly 3,000 firms to analyze.
As shown below, during the study period, new patents were highly concentrated in only a few industries, while new product trademarks were more widespread. (Note: To clarify product innovation, the team focused only on new product trademarks, ignoring trademarks associated with new branding/marketing slogans.)
More than half of the companies with new product trademarks that the researchers studied did not report investments in R&D. And more than 45% of firms with a trademark never registered a patent. These results show that R&D and patents cannot cover innovative activities that may end up in new products. Furthermore, the researchers estimated that the industries they classified as low-patent (fewer than 15 patents per year on average) accounted for more than 60% of the sales in their data set.
Stimulating innovation with stock options
Finding that a patent-only approach to measuring innovation is myopic, researchers have turned to new product trademarks as another possible proxy for innovation. They examined how likely CEOs with a passion for innovation were to lead stores that launched new product brands.
The large increase in CEO compensation since the mid-1990s is largely the result of issuing large portions of stock options.
Previous research has found that the more a CEO’s wealth depends on stock options, the more risky the firm is. The hidden connection is that Vega—a compensation measure that measures the sensitivity of CEO wealth to stock price volatility—is “a good proxy for managerial risk-taking incentives.” That is, a CEO who buys a lot of stock may be interested in a risky new product innovation that can only affect consumers and, therefore, Wall Street.
The researchers examined the amount of new product branding in relation to CEOs’ Vega levels. Among firms with patent activity, they controlled for patent activity in their analysis, given that a new trademark may be the final outcome of a patent.
The researchers found that moving from the 25th percentile to the 75th percentile in Vega increased product branding by 9%. Their findings apply to a wide range of firms, including low-patent firms and high-patent firms. Not surprisingly, patent-rich companies responded to Vega; The news here is evidence that even low-patent firms are innovating, and that option-based risk incentives work well for these firms.
The researchers found a similar compensation/innovation relationship when they reran the test based on the option dependence of employees other than the CEO.
Product branding as a performance driver
Previous research Teoh has collaborated on has been published in Management Science, Firms with multiple brands (product and marketing) exhibited higher stock returns over the next 12 months than inactive firms.
In this cycle, the innovative activity of the product is also related to the financial results of the firm. By tracking patent activity, the researchers found significant improvements in cash flow from operations and return on assets over the next 12 months and two years among firms more active in product trademarking. Again, the effect was stronger for both low-patent firms with a focus on product development innovation and high-patent firms with a focus on research and technological innovation.
The researchers concluded that their work “incentivizes CEOs to take risks promotes greater product innovation independent of patent innovation.” And it seems to lead to better firm performance.
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