Incentives to Innovate and the Decision to Go Public or Private
London School of Economics - Department of Finance; European Corporate Governance Institute (ECGI); Centre for Economic Policy Research (CEPR)
University of California, Berkeley - Haas School of Business
Andre C. Silva
Universidade Nova de Lisboa, Nova SBE
May 7, 2012
Review of Financial Studies, Forthcoming.
ECGI - Finance Working Paper No. 279/2010
AFA 2011 Denver Meetings Paper
MIT Sloan Research Paper No. 4799-10
We model the impact of public and private ownership structures on firms' incentives to invest in innovative projects. We show that it is optimal to go public when exploiting existing ideas and optimal to go private when exploring new ideas. This result derives from the fact that private firms are less transparent to outside investors than are public firms. In private firms, insiders can time the market by choosing an early exit strategy if they receive bad news. This option makes insiders more tolerant of failures and thus more inclined to invest in innovative projects. In contrast, the prices of publicly traded securities react quickly to good news, providing insiders with incentives to choose conventional projects and cash in early.
Number of Pages in PDF File: 58
Keywords: Innovation, Going Private, Going Public
JEL Classification: G2, G3, O3
Date posted: March 11, 2010 ; Last revised: December 20, 2013