Public offerings decrease innovation at technology companies
TweetFollow Us on Twitter

Public offerings decrease innovation at technology companies

For many entrepreneurs, it is a dream on par with finding the Holy Grail: an initial public stock offering that can turn a startup into the next Google and a 20-something founder into the next mega-millionaire.

Yet, for all that money and drama, do initial public offerings (IPOs) speed up technological innovation?

Not necessarily. An eye-popping new study by Shai Bernstein, an assistant professor of finance at the Stanford Graduate School of Business, finds that innovation slowed down by about 40 percent at tech companies after they went public.

In a meticulous analysis of patent data from nearly 2,000 companies, Bernstein found that newly public companies became noticeably more incremental and less ambitious with their in-house research than comparable firms that stayed private.
And that’s not all.

Top inventors were much more likely to leave if their companies went public, and the ones who stayed behind showed a steep decline in "innovation quality." Indeed, the newly public tech companies became much more dependent on buying technology from outside -- usually by making corporate acquisitions.

That’s almost the opposite of what one might expect. Young tech firms go public on the strength of their innovative promise, and going public provides them with cash to double down on their research and development.

From the vantage point of public policy, IPOs may still be a net positive for tech innovation. Many companies go public because they have just scored a major breakthrough and use their new resources to scale up the business. And even if newly public companies do become less daring, they can still propel innovation indirectly by paying top dollar for startups. Google has bought 100 companies since it went public in 2004. Facebook paid $1 billion for Instagram just as it was going public in May 2012.

But Bernstein’s findings raise an important, but largely unexplored, management issue: IPOs appear to spur the outsourcing of innovation. It is a complex tradeoff, and one that tech entrepreneurs and investors may want to examine in more depth.

Bernstein reached that conclusion after a detailed comparison of patent data between companies that went public and similar companies that decided to stay private. All told, the study covered thousands of tech companies that either went public or withdrew IPO plans between 1985 and 2003.

To gauge "innovation," Bernstein collected data on nearly 40,000 patents awarded to companies both before and after they announced plans to go public. In addition to tracking the absolute number of patents, he estimated the innovative importance of each patent based on the number of times it had been cited in other patent applications.

The basic idea is straightforward: Patents that are cited more frequently are likely to represent more fundamental breakthroughs. But Bernstein also estimated the "originality" of patents, based on how many different technologies were cited. Last, but not least, he analyzed data about the inventors themselves.

Bernstein compared two categories of companies: those that completed public offerings and those that filed IPO registrations with the Securities and Exchange Commission but later withdrew them. To make apple-to-apple comparisons, he compared companies that were in the same technology sectors and that contemplated public offerings in the same year.

He found that the two groups of companies had broadly similar characteristics up to the point they decided to go public or stay private. Both groups had high-quality patents that were much more heavily cited than those of companies that didn’t try to go public. The two groups were also similar in size, age, and research spending.

And there were no significant differences in the quality of the IPO underwriters, which is often a proxy for the quality of the companies.

Not surprisingly, the biggest distinction between the companies that went public and those that stayed private was the stock market’s appetite at the time. If the tech-heavy NASDAQ went into a swoon just after a company filed to go public, the company was much more likely to call off its plans. Almost one third of all the abandoned IPOs between 1985 and 2003 occurred in 2000 — the year the dot-com bubble collapsed.

The real difference in innovation came after companies completed public offerings. The average quality of those patents, as measured by how often they were cited, declined by about 40 percent in the five years after going public. By contrast, companies that remained private stayed on the same track as before.

Bernstein also confirmed what even blockbuster companies in Silicon Valley have worried about for years: IPOs can spark a brain drain.

He divided inventors into three categories: "stayers," "leavers," and "newcomers." Inventors were about 18% more likely to become leavers at companies that went public. Much more startling, however, was that the stayers saw a 48% decline in the quality of their patents. Inevitably, IPO firms recruited large numbers of newcomers.

One explanation for the brain drain is that top inventors have little incentive to stay after an IPO, in part because they often become overnight millionaires. An IPO also dilutes an inventor’s stake in subsequent breakthroughs because those future profits will be spread among many more investors.

Bernstein suggests that yet another important reason for the brain drain is that IPOs lead to different management incentives. Executives at publicly held companies may become more cautious, for example, because they are subject to market pressures and worry more about career threats and takeovers, and feel pressure to tell investors a simple story.

To find out more, Bernstein compared companies with two different management structures. In the first group, chief executives were also chairmen of the board and had more autonomy to resist market pressures. The second group had separate chairmen and chief executives, which usually means the chief executive is less insulated from market pressure.

The result: Companies with separate board chairs and chief executives -- those more likely to be sensitive to outside investors -- saw a much bigger drop in innovation, and inventors were more likely to leave.

Bernstein cautions that initial public stock offerings still may be good for innovation in general. Public companies may not be as technologically ambitious or as willing to take risks as firms that stay private, but public companies have better access to capital for tapping innovation generated by smaller companies.

But going public clearly changes the mindset of companies, and that might be a reason for some companies to think twice about the Holy Grail.

 
AAPL
$118.80
Apple Inc.
+1.20
GOOG
$539.34
Google Inc.
-1.74
MSFT
$47.48
Microsoft Corpora
+0.01
MacNews Search:
Community Search:

Latest Forum Discussions

See All
view counter

view counter
view counter
view counter
view counter
view counter
view counter

Sunburn! Review
Sunburn! Review By Campbell Bird on November 26th, 2014 Our Rating: :: DON'T DIE ALONEUniversal App - Designed for iPhone and iPad Platform through the depths of space to make sure your entire crew dies together in this satisfying and intriguing puzzle platformer.   | Read more »
Black Friday has Started Early – Lots an...
It’s almost turkey time! Which means lots and lots of food but also lots and lots of sales. Some sales have even started a few days early, which is why we’ve put together a list of iOS games that are currently discounted (sometimes by a lot). Chances are this list is only going to get bigger as we approach the weekend, so check back in with us... | Read more »
Loose Leaf Review
Loose Leaf Review By Jennifer Allen on November 26th, 2014 Our Rating: :: SIMPLE SKETCHINGiPad Only App - Designed for the iPad Sketch out ideas with simple drawing tools, courtesy of Loose Leaf.   | Read more »
Screeny (Utilities)
Screeny 1.0 Device: iOS iPhone Category: Utilities Price: $.99, Version: 1.0 (iTunes) Description: Screeny is an utility app that helps you save space consumed by screenshots. It screens your camera roll and helps you to filter and delete screenshots that are no longer necessary.“If you’re looking to quickly delete any old... | Read more »
Tilt to Live Bundle Set to Arrive This T...
Tilt to Live Bundle Set to Arrive This Thanksgiving Posted by Ellis Spice on November 25th, 2014 [ permalink ] One Man Left has unveiled an upcoming Tilt to Live bundle, allowing players to get the series for a di | Read more »
BattleLore: Command (Entertainment)
BattleLore: Command 1.0 Device: iOS Universal Category: Entertainment Price: $9.99, Version: 1.0 (iTunes) Description: ***NOTE: Compatible with iPad 2/iPad mini, iPod touch 5 and up and iPhone 4S and up – WILL NOT RUN ON EARLIER DEVICES***EPIC FANTASY BATTLES | Read more »
Weather Or Not Review
Weather Or Not Review By Jennifer Allen on November 25th, 2014 Our Rating: :: STYLISH WEATHER REPORTINGiPhone App - Designed for the iPhone, compatible with the iPad Check the weather quickly and conveniently with Weather or Not.   | Read more »
The All-New Football Manager Handheld 20...
The All-New Football Manager Handheld 2015 is Available Now Posted by Jessica Fisher on November 25th, 2014 [ permalink ] Universal App - Designed for iPhone and iPad | Read more »
Six iOS Games to Get You Ready for Thank...
Image Source: Friends Wiki At this point in the month, you or at least a few people you know are probably getting ready to scramble around (or are already scrambling around) for Thanksgiving Dinner. It’s a hectic day of precise oven utilization, but there’s also the whole family and camaraderie thing. | Read more »
Call of Duty: Heroes: Tips, Tricks, and...
Hello Heroes: What’d we think of Call of Duty‘s take on Clash of Clans? Check out our Call of Duty: Heroes review to find out! Just downloaded Call of Duty: Heroes and need some handy tips and tricks on how to get ahead of the rest? As we often do, we’re here to help you out with getting started.   The Basics | Read more »
All contents are Copyright 1984-2010 by Xplain Corporation. All rights reserved. Theme designed by Icreon.