Inventor CEOs

Emdad Islam is an Assistant Professor at the Department of Banking and Finance at Monash University and Jason Zein is Associate Professor at UNSW Business School. This post is based on their recent article, forthcoming in the Journal of Financial Economics.

The academic literature has established that individual CEOs possess an idiosyncratic “style” which can be detected in their corporate decision making. One important, yet unexplored aspect of CEOs’ personal background that can influence their style, is the extent to which they possess hands-on innovation experience as inventors. In our recent article, we examine whether this dimension of a CEO’s personal background impacts upon a firm’s innovation activities.

A possible channel through which individuals acquire and refine specialized skills is through hands-on experience. In our study, we conjecture that  CEOs’ inventor experience may endow them with valuable innovation-related insights that translate into a superior ability to evaluate, select and execute innovation-intensive investment projects for the firms they lead.

An anecdote that helps to illustrate the validity of this hypothesis in practice is provided by Sanjay Mehrotra, the CEO of Sandisk, but also an inventor with more than 70 patents registered in his name. In describing how his inventor experience has enhanced his executive capabilities he notes: “It’s helped me a great deal in understanding the capabilities of our technology, and in assessing the complexities of the challenges ahead. That makes a big difference in determining strategic plans and in managing execution. It becomes easier to focus attention on the right issues”.

Yet, the relationship between Inventor CEOs and corporate innovation is not obvious. While technically adept, Inventor CEOs may not be as capable of marketing or commercializing their firms’ technologies. Further, inventors may have difficulty accepting ideas that lie outside the domain of their specific expertise.  For related reasons, venture capitalists often replace technical founders with professional management teams. Thus, whether an inventor background enhances a CEO’s ability to successfully stimulate firm-wide innovation is an open empirical question.

To determine the effect of CEOs’ inventor experience on their firms’ innovation, we assemble a dataset that tracks the patenting history of CEOs in U.S. high-technology firms in the S&P1500, over a 17-year period prior to the start date of our analysis. CEOs that are awarded at least one patent in their own name are designated as “Inventor CEOs”. We document the presence of Inventor CEOs in 23% of all firms and 18.7% of all firm-years in our sample.

Our baseline analysis reveals that firms led by Inventor CEOs are associated with a greater volume of registered patents, more highly cited patents and greater innovation efficiency. They are also more likely to spur ground-breaking or disruptive innovations, shown by their greater propensity to produce patents that are cited in the 99th percentile of the citation distribution within their technology class-year. Not only are these patents more scientifically important, they also possess significantly greater economic value.

Inventor CEO-led firms also tend to make more breakthrough new product announcements, indicating that the patents filed under their tenure also translate into more successful products. Looking within the sample of Inventor CEOs we find that CEOs with a history of high-impact patents have an economically stronger association with successful firm-level innovation, relative to those with a history of low-impact patents.

We also attempt to tie the specific technology class experience of an Inventor CEO more closely to his firm’s innovation outputs. We find that technology classes in which an Inventor CEO possesses hands-on experience are associated with a 36 percent increase in our measure of patent output. Patents filed in these technology classes are also more economically valuable and scientifically important. Within Inventor CEO-led firms, patents filed in technology classes aligned with the CEO’s experience are on average worth $10.6 million more than patents in other technology classes. These patents are also significantly more likely to be cited in the 99th percentile of the citation distribution within their technology class-year.

The correlation we establish between Inventor CEOs and corporate innovation can be interpreted in at least two ways. First, firms with higher innovation potential may optimally hire Inventor CEOs because they have the relevant skillset to achieve the firms’ objectives (i.e. assortative matching). For example, a firm may wish to innovate in a promising new technology class, and thus hires an Inventor CEO with relevant experience in this class. The second interpretation is that Inventor CEOs may be imprinting their idiosyncratic “style” on the firm by exploiting their learning-by-doing advantage to pursue innovation-intensive investment opportunities in technology classes related to their own experience. It is important to note that both interpretations imply that Inventor CEOs possess a unique innovation enhancing skillset. Nonetheless, it is only under the second interpretation that one can deduce that it is not just a firm’s optimal strategy driving its innovation outcomes, but that an Inventor CEO plays a causal role in forming and executing his firm’s innovation strategy.

We attempt to distinguish between these two interpretations of our results by studying plausibly exogenous CEO turnover events (e.g. sudden deaths, health shocks etc.). Using a difference-in-difference matching estimator methodology, we show that firms exogenously switching from Inventor to non-Inventor CEOs experience an economically sizable and statistically significant decline in corporate innovation outputs and impact, relative to a matched set of control firms that also experience an exogenous CEO turnover, except from a non-Inventor to another non-Inventor CEO. These same results cannot be replicated when we use earlier non-turnover years as placebo events. Further, we also find that turnovers involving Inventor to non-Inventor CEOs tend to be characterized by exogenously smaller replacement pools, suggesting that it is unlikely that the reduction in post-turnover innovation occurs because the board intentionally selects a replacement CEO style associated with lower innovation.

To further explore the impact of exogenous CEO departures, we study how these turnovers alter the technological focus of a firm’s innovation. We analyze whether the unexpected departure of an Inventor CEO alters the number and impact of new patents filed by a firm in technology classes where the outgoing Inventor CEO has hands-on experience, relative to a counterfactual set of technology classes where he does not. We find that a switch from an Inventor to a non-Inventor CEO significantly reduces the number, impact and value of new patents filed in technology classes where the outgoing Inventor CEO’s experience lies.

Overall, our results paint a consistent picture of the unique innovation-enhancing capabilities that CEOs with hands-on experience “doing” innovation bring to their firms.

The complete article is available here.

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