FINANCING OF INNOVATION BY STARTUP COMPANIES

• Sponsoring Institution: National Institute of Food and Agriculture
• Project Status: COMPLETE
• Funding Source: HATCH
• Reporting Frequency: Annual
• Accession No.: 0220295
• Project Start Date: Oct 1, 2009
• Project End Date: Sep 30, 2010
• Program Code: [(N/A)]- (N/A)

Recipient Organization
CORNELL UNIVERSITY
(N/A)
ITHACA,NY 14853

Performing Department
Applied Economics & Management

Non Technical Summary
Promoting innovative start-up firms is a major policy goal for New York State. According to case studies of upstate New York high-technology companies conducted by students in the Department of Applied Economics and Management at Cornell University, access to external finance is a key issue constraining technology commercialization and firm growth. Availability of external sources of finance is thus likely to significantly influence New York State firms' ability to engage in risky new product or process development projects. The goal of this project is to improve our understanding of the effects of external financial resources on innovation activities of start-up companies. Our scholarly contribution will arise from the detailed analysis of the different types of external finance moderated by a variety of institutional environments within the United States and across Asia. Practical implications of our results will be valuable for current and future managers of growth-oriented businesses in diverse industries ranging from agriculture and food to electronics and services. A central goal is also to generate new insights related to financing of innovation activities by startup firms for economic development policymakers in New York State. Immediate stakeholders and beneficiaries include the entrepreneurial community in Central New York and undergraduate business students at Cornell University. Both groups have participated in designing the research questions and will also be engaged in the evaluation of the results and defining how to implement the insights through follow-up research and outreach. The state-of-the-art knowledge generated in the project will thus feed back to the stakeholders through ongoing relationships. External beneficiaries also include state policymakers in charge of economic development issues. For example, the research design enables detailed analyses of the effectiveness of government grant funding in supporting firms' innovation activities.

Animal Health Component

100%

Research Effort Categories

Basic

(N/A)

Applied

100%

Developmental

(N/A)

Classification

Knowledge Area (KA)	Subject of Investigation (SOI)	Field of Science (FOS)	Percent
602	6110	3010	20%
602	6110	3100	20%
602	6120	3010	30%
602	6120	3100	30%

Knowledge Area
602 - Business Management, Finance, and Taxation;

Subject Of Investigation
6110 - Economy of the United States and sectors thereof; 6120 - International economy and sectors thereof;

Field Of Science
3010 - Economics; 3100 - Management;

Keywords

innovation,

external finance

startup companies

Goals / Objectives
The goal of this project is to improve our understanding of the effects of external financial resources on innovation activities of start-up companies. Our scholarly contribution will arise from the detailed analysis of the different types of external finance moderated by a variety of institutional environments within the United States and across Asia. Practical implications of our results will be valuable for current and future managers of growth-oriented businesses in diverse industries ranging from agriculture and food to electronics and services. A central goal is also to generate new insights related to financing of innovation activities by startup firms for economic development policymakers in New York State. The first research objective is to empirically establish the causal link between firm's external financial resources and innovation outcomes. Second, we will demonstrate that different types of external finance have different effects on innovation, thus, the mix of financial resources matters. Third, we will shed light on how financial and political institutions moderate the availability and effects of the different types of external finance. This objective is expected to generate important policy implications. Fourth, we will compare the financing of innovation in four strategically important industries (agriculture, food, electronics, and telecommunications) across industrialized and emerging economies. This will generate managerial insights relevant for innovative New York State companies. The final objective is to disseminate and discuss the results and insights gained within the entrepreneurial, policy, and student communities. This research will help improve the allocation of public funds for innovation, a central economic policy concern. For example, our data will be able to address the question of whether and when investment grants increase firms innovation output. Further, since our analyses are not limited to high tech but cover diverse industries such as agriculture, food, and services sectors, the research will improve our understanding of innovation finance in a variety of settings. Managers of innovative New York State companies will benefit from the industry-specific analyses, enhancing the priority area of economic vitality of local communities. Finally, insights from this research will enhance teaching and outreach within the Cornell community. In particular, undergraduate business students in the innovation strategy course are engaged in ongoing case studies of local high-technology companies. Both students and local entrepreneurs will benefit from the state-of- the-art knowledge to be generated.

Project Methods
This research is based on quantitative empirical analyses of survey data collected by the Kauffman Foundation and the World Bank. These data contain detailed firm-level information about American and Asian firms' basic characteristics, financial structures, and innovation outcomes. With thousands of firm responses, it is possible to gain great statistical precision in the main analyses as well as examine various subsamples of countries and industries to shed light on more specific research questions. To address the first objective, the innovation process will be empirically modeled to estimate the impact of external financial resources on innovation decisions of firms. Instrumental variable methods will alleviate the concern of unobserved heterogeneity. Second, we will estimate the effects of different types of external finance, such as funding from commercial banks, equity markets, government, and extended families. Third, the moderating effect of political and economic institutions on the financing of innovation will be assessed using supplementary information about country-level political constraints and economic development. This step requires additional data collection. Toward the fourth objective, analyses are carried out at the level of individual industries (agriculture, food, electronics, and telecommunications) to illuminate the role of external finance in specific production environments. The final objective is approached by participating in regional policy and entrepreneurship community events and by redesigning class lectures and case study interviews.

Progress 10/01/09 to 09/30/10

Outputs
OUTPUTS: This one-year project has resulted in three working papers that examine the financing of innovation. Two completed studies focus on Asian emerging economies (one is a cross-sectional study of firms in 18 countries and the other is a country study of Chinese firms) using World Bank enterprise surveys. One study focuses on early-stage innovating firms in the US using the Kauffman Foundation firm survey. Results and insights across the three different datasets provide can be compared and provide an interesting view into the effects of economic and political institutions on innovation through financial resources. The results have been presented in major conferences such as the Academy of Management, the DRUID conference on entrepreneurship and innovation, and Wharton Technology Conference, and the papers will be submitted to major applied economics journals in coming months. Principal investigator and co-investigator also visited and made presentations at Imperial College Business School (London UK) on the project results and ongoing work, and formed new intellectual collaborative relationships there. Further dissemination will involve developing the academic insights into more practitioner-oriented recommendations and articles and presenting these to the startup and economic development communities in Central New York. PARTICIPANTS: Principal Investigator: Associate professor Aija Leiponen Co-investigator: Dr. Jiahong Zhang (completed PhD degree in AEM in July 2010) Collaborators and contacts: Prof. Hazem Daouk (Cornell); Prof. Jeff Prince (Cornell); Prof. Chiaran Driver (U. London); doctoral student Anna Grosman (Imperial College London) Partner organization: Imperial College Business School, London UK. The project provided training for Ms. Zhang during the last year of her doctoral studies, funded an academic visit to Imperial College London, and enabled her to finish her dissertation and broaden her portfolio of projects and papers. TARGET AUDIENCES: Target audiences include academic peers in the field of economics and finance of innovation; local entrepreneurs and policymakers in Central New York; and student audiences in Cornell University. The project substantially enhances the PI's ability to include material on financial aspects of innovation in undergraduate and graduate teaching programs. It also generates opportunities to further collaborate within Cornell University with colleagues in the fields of development and finance. Finally, upon return to Cornell University from academic leave next summer, I have new ideas, evidence and material to discuss and further build on in my extension and engagement work with local practitioners. PROJECT MODIFICATIONS: Nothing significant to report during this reporting period.

Impacts
Statistical analyses of the three datasets have generated a number of new insights on issues influencing the origins and effects of financing of innovation. The first study of Asian emerging economies highlights the role played by democratic institutions in ensuring that financial resources are allocated to the best possible innovation projects. In countries, where institutional development is poor (i.e., where there are few political players with veto power), exogenous changes in access finance does not impact innovation outcomes, whereas in countries where institutional development is strong, finance enhances innovation. The second study sheds new light on the role of state ownership in Chinese firms in moderating the incentives to innovate and subsequent capital structure outcomes. Innovation investments are found to lead to higher leverage ratios only for state-owned firms, whereas privately-owned firms demonstrate no such relationship. We interpret this to mean that credit constraints are significantly tighter for privately-owned firms, the result of which is that when these firms attempt to innovate, they need to rely mainly or solely on internal sources of finance, whereas state-owned firms have access to external debt finance. Finally, both the first and the third study examine the sources of external finance related to innovation investments and outcomes. We find that many innovative small firms depend on such informal sources of finance as family members and friends. These types of external finance have not been highlighted before, even though we find statistically significant effects on innovation in both the emerging economy and the US samples. In contrast, early-stage firms in the US also benefit from equity funding from more advanced financial institutions such as angels and venture capital, and also that from government and credit cards, whereas these types of sources are either not available or not useful in most emerging economies. However, both datasets show that debt funding from banks is not associated with innovation activities, and that equity finance has the strongest effects on innovation. These results suggest that financial policies efforts aimed at enhancing innovation should be focused on setting up competitive processes (to improve allocative efficiency) that either make available or enhance private provision of equity-based funding for growth-oriented innovative companies. This is our main policy message that we aim to disseminate to scholarly and practitioner audiences in the next stage of this work (after the project has officially finished).

Publications

• No publications reported this period