Why larger firms produce higher value inventions

A working paper published in the National Bureau of Economic Research asked the question, “Do large firms produce more valuable inventions, and if so, why?” An excerpt of an analysis of the paper that appeared in the November 2022 issue of the NBER Digest follows with additional consideration from SSTI Vice President Mark Skinner on its implications for technology-based economic development.

Larger firms tend to profit more from their inventions than do their smaller counterparts. In Invention Value, Inventive Capability, and the Large Firm Advantage (NBER Working Paper 30354), Ashish Arora, Wesley M. Cohen, Honggi Lee, and Divya Sebastian find that this does not occur because large firms produce inventions of higher technical quality. Rather, it is because they extract more value from their inventions, likely through more effective commercialization, which includes product development, marketing, distribution channels, and manufacturing. The researchers estimate that doubling a firm's size is associated with an increase of between 5 and 16 percent in the value of a given invention, depending on whether one controls for the firm's capitalization.

Invention value was measured in two ways. One relied on the rise in the patent-owning firm's stock price just after a patent was issued. The other used the share of inventions patented in multiple jurisdictions. Filing in multiple jurisdictions is costly, and the researchers assume that patent applicants were likely to incur those costs only if they believed a given invention was of high value. Invention quality was measured using the number of forward citations for each patent, reflecting the view that inventions of higher technical quality will induce others to patent similar or follow-on inventions.

While average invention value increased with firm size, average invention quality declined by an estimated 2.7 percent when firm size doubled. This translated into about 0.04 fewer normalized citations. For comparison, the average number of forward citations of a patent…was 1.3.

The option to sell or license patents or access outside commercialization capabilities reduced the large firm advantage. The researchers found that small firms that sell patents to larger firms indirectly take advantage of the commercialization capabilities of their larger counterparts. In industries in which patents are commonly sold, the relationship between firm size and the private value of an invention was about 13 percent weaker, and the relationship between firm size and invention quality was about 11 percent weaker, than in other industries.

The core finding that larger firms are more adept at capturing an invention's value suggests that larger firms can afford to support lower quality inventions while smaller firms, due to their limited commercialization capabilities, tend to focus their efforts on the highest quality inventions.

— Linda Gorman for the November 2022 issue of the NBER Digest [edited for space considerations]

SSTI comments on the TBED policy implications: Based on these findings, should venture development organizations and state TBED programs shift their focus from startups to exclusively helping large companies? Of course not. The research confirms those big guys have the resources to commercialize. Local startups and small innovative companies, however, might be more successful in scaling into large job-creating firms with at least three additions, which can be supported by good public-private TBED policy:

1. solid commercialization expertise from a nonprofit provider focused on the company’s success and the economic development results that success will yield;
2. commercialization, pre-seed, and seed financing – each taking various forms, but all sharing a commitment to the product’s and the company’s success; and,
3. appropriate connections to larger firms with track records of relevant, related product development and market success.

With adequate resources, smaller firms may be able to reach deeper into their portfolio of quality inventions and innovations, increasing their chance of growth and local economic impact.  See Invention Value, Inventive Capability, and the Large Firm Advantage.