Actively Keeping Secrets From Creditors: Evidence From the Uniform Trade Secrets Act

Abstract

We find that an increase in a firm’s incentives to use trade secrets to protect its intellectual property results in a more actively managed capital structure. Exploiting U.S. states’ adoption of the Uniform Trade Secrets Act as a positive “shock” in the protection afforded to trade secrets, we find that firms covered by the Act reduce debt levels while increasing investments in intangibles. Additional tests suggest that firms fund these financing and investment activities by issuing more equity. Consistent with an increase in overall intangibility magnifying contracting problems with creditors, we find that covered firms experience higher costs of debt.

Trade secrets protection and stock price crash risk

“…As discussed above, many studies show that trade secrets protection tends to increase information opacity (Ali et al., 2018; Glaeser, 2018; Guernsey et al., 2022). In accordance with this finding, we conjecture that firms protected by trade secret laws are less likely to release their proprietary information and thus reduce the risk of losing their trade secrets to their rivals.…”

“…Many studies use UTSA as an external shock to the protection of trade secrets. Recent papers in this area examine the UTSA effect on R&D and innovation activities (Barankay et al., 2018; Png, 2017a; 2017b), financial leverage (Guernsey et al., 2022), and corporate disclosure (Glaeser, 2018; Guo et al., 2017). Related to this study are the ones regarding the UTSA effect on information asymmetry and firm disclosure (Glaeser, 2018; Guernsey et al., 2022; Guo et al., 2017), although empirical evidence is mixed.…”

“…Prior studies show that trade secrets protection leads to increased information asymmetry between managers and investors or among investors (Ali et al., 2018; Glaeser, 2018; Guernsey et al., 2022). An extensive literature also documents that increased asymmetric information results in stock price crashes (Bleck & Liu, 2007; Hutton et al., 2009; Jin & Myers, 2006; Kim et al., 2011a, 2011b, Kim et al, 2014).…”

“…Guernsey et al. (2022) argue that the adoption of the Uniform Trade Secrets Act (UTSA) leads to more secrecy because firms subject to the UTSA are more likely to invest in intangible assets but reduce patenting activities. However, we cannot rule out the possibility of decreased stock crash risk following trade secret laws.…”

“…This is supported by Glaeser (2018), who finds that a decrease in a firm's proprietary disclosure following the protection of trade secrets leads to high information asymmetry. Guernsey et al (2022) argue that the adoption of the Uniform Trade Secrets Act (UTSA) leads to more secrecy because firms subject to the UTSA are more likely to invest in intangible assets but reduce patenting activities. However, we cannot rule out the possibility of decreased stock crash risk following trade secret laws.…”