Do Managerial Practices Matter in Innovation and Firm Performance Relations? New Evidence from the UK

Date01 October 2017
Published date01 October 2017
Do Managerial Practices Matter in
Innovation and Firm Performance
Relations? New Evidence from the UK
Ilayda Nemlioglu and Sushanta K. Mallick
School of Business and Management, Queen Mary University of London Mile End Road, London E1
The innovation and rm performance relationship remains a puzzle, as all types of
innovation are not equally benecial. Besides, better-managed rms can perform
better. Integrating these two strands of literature, we examine whether managerial
practices explain this relationship using data from UK rms during 19922014.
We nd that rms which focus on R&D activities jointly with better managerial
practices benet favourably. During the post-crisis period, higher intangibles are
only benecial when combined with R&D activity. Also rms with better
managerial practices and innovative activities exhibit a positive effect of higher
leverage. Finally, an inverse U-shaped result supports the Schumpeterian theory
of creative destruction.
Keywords: firm performance, firm profitability, financial crisis, leverage, intangi-
ble assets, R&D intensity, innovation, managerial practices, panel data models
JEL classification: C33,G01,G1,G3,O3,O32,O34
Earlier versions of this paper were presented at the following conferences, namely MMF
(Money, Macro and Finance Research Group) 2013 in London; EEFS (European
Economics and Finance Society) 2013 and 2014 in Berlin and Thessaloniki, respectively;
EPIP (European Policy on Intellectual Property) 2014 in Brussels at the European
Commission, and IFABS (International Finance and Banking Society) 2015 in Hang Zhou,
China. The authors would like to thank the Editor and the anonymous referee of this journal
for their very constructive comments and suggestions on an earlier version of this paper.
We are also thankful to Keith Pilbeam, Philip Rawlings and Michela Vecchi for their
comments in improving this paper. We are solely responsible for any errors that might yet
European Financial Management, Vol. 23, No. 5, 2017, 10161061
doi: 10.1111/eufm.12123
© 2017 John Wiley & Sons, Ltd.
1. Introduction
While investigating the relationship between innovation and rm performance, the key
unresolved question is whetherhigher intellectual capital is benecial or unfavourable to
rm performance, as not all types of innovation positively inuence rm performance.
Existing research in this regard remainsunclear on the effects of intangibles and does not
provide a consensus onhow to measure intellectual capital, given the declinein valuation
of intangibles followingthe global nancial crisis. Evidence from studiessuch as Hall and
Oriani (2006)and Bloom and Van Reenen (2010) shows that productivitydifferences have
been the focus of researchers for decades and, traditionally, those differences were
attributed to R&D investments. In other words, the residual in production that is not
accounted for by the usual inputs (such as labour, capital and intermediate inputs) is
assumed to be the product of R&D that produces technical change.
For that reason, it is
vital to observe the impact of R&D on rm performance. On the other hand, Bloom and
Van Reenen (2007, 2010) and Bloomet al. (2012) argue that the literature fails to consider
the differences in managerial practices among rms that contribute to better rm
performance. In this paper, we try to integrate these two strands of literature, whilst also
considering therole of intangibles on rm performance in terms of protabilityin the
pre-and post-crisis periods.
One strand advocates the i dea that performance diff erences across rms are the
result of different manageme nt practices (see Bloom and Van Ree nen (2007, 2010),
Bloom et al. (2012), Keller (2009, 2011)), while th e second strand of literature cent res
its arguments upon innovat ion activities by using R&D investment, R&D intensi ty and
related company intangib les as a proxy to explain dif ferences in rm performance.
However, as the studies that focus on mana gerial practices do not consider inno vative
activities such as R&D, paten ts, intangible assets, the R &D arguments (see studies
such as Hall (2010, 2011), H all and Oriani (2006) and Hall et al. (2007, 2009, 2010
and 2013)) become important si nce R&D activities explain pe rformance differences
across rms.
Another aspect emphasised by Hall (2010), Hall and Lerner (2010), Borisova and
Brown (2013) and Brown et al. (2012) relates to the role of nancial constraints in R&D
activities by rms. The question then arises whether rms that are R&D and innovation-
based display differences in performance, after controlling for nancial leverage. In
other words, we examine whether nancial constraints impede innovation. Firms with
higher leverage ratios could have difculties in nancing innovation activities because
investors, banks or other nance providers usually seek tangible assets. When a company
does not have tangible assets, it is perceived as riskier, and investors are wary of
investing in them. Companies who are considered to be good performers are expected
to use their intangible assets (such as patents, brands, trademarks and trade secrets)
According to Hall (2011), even though some of the ideas discussed were estimated in his
1973 survey, Griliches (1979) is the rst and pioneering analytic survey on this topic. In that
article, Griliches laid out the structure of the problem in the production function context and
discussed two major measurement difculties: the measurement of output when a great deal
of R&D is devoted to quality improvement and non-market goods, and the measurement of
input, specically, of the stock of R&D capital. Also, Griliches (1998) summarises all his
writings on this topic.
© 2017 John Wiley & Sons, Ltd.
Do Managerial Practices Matter in Innovation 1017
and create tangibles out of them. Successful companies may have higher levels of
intangible assets, but they are successful due to their ability to turn those innovative
activities into assets. On the other hand, start-up companies may have good ideas, but if
those intangible efforts are not transformed into assets, they are perceived as non-
While the literature on manage rial practices lacks a focus on R&D, inta ngibles
and rm nancial constraints, t he R&D-focused literature ignores differences in
managerial practices whe n comparing rm performance. Therefore, this paper
combines both aspects to exami ne differences in rm performa nce. Besides, there is a
gap in both strands of liter ature in examining what h appens to R&D and innovativ e
activities during a crisis , and whether rms that are highl y innovative and those that
are better managed outperform o thers during the post-crisis pe riod. From the full
sample, we can see that the leverag e ratios appear dispersed but t hey vary differently
during pre- and post-crisi s periods. As shown in the de scriptive statistics, rms
leverage ratios were higher in the pre-crisis, but in the post-cri sis period, leverage
started to decline. Moreo ver, previous literature h as not explored whether the se
differences (pre- and pos t-crisis) change the relati onship between R&D, manag erial
practices, and their impac t on rm performance.
This paper uses UK rm-level data over the period 19922014 to investigate the
impact of managerial practices and innovation on rms protability. The paper is
motivated by four key questions. The rst one examines the impact of intangible assets
and R&D activity on rm performance. The second question examines whether better
managerial practices matter for rm performance. Additionally, the third question
elaborates how better managerial practices and innovation impact rms that are
nancially constrained. Finally, the fourth question examines how managerial practices,
R&D activity and intangible assets have impacted performance before and following the
recent nancial crisis. We nd that intangible assets together with R&D activity have a
positive impact on rm performance, as rms with only higher levels of intangible assets
do not always benet. Additionally, following the crisis, rms with high R&D activity
experienced a positive effect of intangibles on performance, as total assets became more
important in improving rm performance rather than intangibles that did not reect their
true valuation in the pre-crisis period. This paper suggests that rms with better
managerial practices tend to outperform, even when we consider the impact of the
nancial crisis, distinguishing rms with higher innovation activities and better
managerial practices. Finally, the paper nds an inverse U-shaped relationship between
intangible assets and rm performance. In the remainder of the paper, section 2 presents
the literature review and hypotheses development. Section 3 examines the data and
methodology, section 4 presents empirical results and the robustness checks. Finally,
section 5 concludes the paper.
2. Literature Review and Hypotheses Development
2.1. Impact of intangible assets on rm performance
Various empirical studies show the impact of intangible assets on rm performance. The
best-documented and most widely researched area is research and development (R&D)
(see Marr et al. (2003, 2004)). The key approach in the majority of the early studies such
as Hall and Vopel (1997) and Hall et al. (2005, 2007) was to relate the market value of a
© 2017 John Wiley & Sons, Ltd.
1018 Ilayda Nemlioglu and Sushanta K. Mallick

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