How Does Hedge Fund Activism Reshape Corporate Innovation?

Abstract

This paper studies how hedge fund activism reshapes corporate innovation. Firms targeted by hedge fund activists experience an improvement in innovation efficiency during the five-year period following the intervention. Despite a tightening in R&D expenditures, target firms experience increases in innovation output, measured by both patent counts and citations, with stronger effects seen among firms with more diversified innovation portfolios. We also find that the reallocation of innovative resources and the redeployment of human capital contribute to the refocusing of the scope of innovation. Finally, additional tests refute alternative explanations attributing the improvement to mean reversion, sample attrition, management's voluntary reforms, or activists' stock-picking abilities. AbstractThis paper studies how hedge fund activism reshapes corporate innovation. Firms targeted by hedge fund activists experience an improvement in innovation efficiency during the five-year period following the intervention. Despite a tightening in R&D expenditures, target firms experience increases in innovation output, measured by both patent counts and citations, with stronger effects seen among firms with more diversified innovation portfolios. We also find that the reallocation of innovative resources and the redeployment of human capital contribute to the refocusing of the scope of innovation. Finally, additional tests refute alternative explanations attributing the improvement to mean reversion, sample attrition, management's voluntary reforms, or activists' stock-picking abilities.JEL Classification: G23, G34, O31

Behind the Scenes: The Corporate Governance Preferences of Institutional Investors

“…6 For example, Smith (1996) studies CalPERS, Carleton, Nelson, and Weisbach (1998) study TIAA-CREF, Becht et al (2009) study the Hermes U.K. Focus Fund, and Dimson, Karakas, and Li (2015) study another U.K. activist. 7 See Brav, Jiang, et al (2008), Brav, Jiang, andKim (2015), Bebchuk, Brav, and Jiang (2015), Brav et al (2014), and Gantchev, Gredil, and Jotikasthira (2015).…”

The Effects of Activist Investors on Firms’ Mergers and Acquisitions

“…For example, Brav, Jiang, and Kim (2015) focus on hedge fund activists (HFAs) and find that HFAs enhance firm productivity and increase firm focus. In Brav et al (2018), HFAs increase innovation efficiency. Additionally, Bebchuk, Brav, and Jiang (2015) find no evidence that HFAs reduce firm operating performance in the long term.…”

Selling Innovation in Bankruptcy

“…However, recent high-profile cases such as Eastman Kodak revealed the important role of selling innovation in corporate bankruptcies. 2 More broadly, as the economy becomes more reliant on knowledge and technologies (Peters and Taylor, 2017), innovation emerges as an asset class that influences debt financing (Hochberg, Serrano, and Ziedonis, 2017;Mann, 2017), and that is closely evaluated by the equity market (Brav, Jiang, Ma, and Tian, 2017;Kogan, Papanikolaou, Seru, and Stoffman, 2017). Selling innovation in bankruptcy-sitting at the intersection of the bankruptcy institution, capital markets, and the market for technologies-thus becomes increasingly relevant to policy makers, investors, and stakeholders alike.…”

“…In contrast, we find little evidence that bankrupt firms reallocate underexploited innovation. In fact, bankrupt firms reallocate strategically important patents, while this type of patents are more likely to be kept by firms not in distress (Akcigit, Celik, and Greenwood, 2016) and by firms undergoing asset restructuring without financing needs (Brav et al, 2017).…”