Innovation Specificity

Abstract

We study the composition of firms' innovation portfolios by machine-reading 90 million patent claims. Process-oriented patents fundamentally differ from other patents in terms of both motive and specificity: they are cost-savings-oriented, and they are rooted in firm-specific knowledge. On the former, process-oriented patents are more likely when the firm recently experienced higher costs relative to sales. To support the latter we offer several results. Process patents are more likely to cite past patents of the innovating firm, and they are undertaken by inventors who have more within-firm patenting experience. They also exploit known technologies rather than explore new ones. Finally, inventors with a greater fraction of their patents dedicated to process, are less likely to change firms. Process patents are also valued differentially in a way that reflects their specificity. Using the market for corporate control as a setting to assess the external value of innovation, we show that firms with a higher share of process patents in their innovation portfolios are significantly less likely to be acquired. Consistent with the specificity explanation, this effect reverses when there is a strong textual overlap between process patent descriptions and the acquirer’s product descriptions, indicating greater redeployability of innovation. When such overlap exists, acquisition announcement returns are also higher, and post-merger synergies—reflected in lower costs and higher operating margins—are more likely to materialize. Our study introduces a novel measure of innovation specificity and demonstrates its construct validity as well as its role in the market for corporate control.

Keywords: Innovation, Mergers and acquisitions, Patents, Specificity, Internal knowledge

JEL Classification: G30, G34, O3