Firm Innovation in Emerging Markets?

What Determines Firm Innovation in Emerging Markets?

“Firm ownership and legal organization are also important determinants of firm dynamism”(Ayyagari, Demirguc-kunt and Maksimovic(2007)). Privately owned firms are in general more dynamic and innovative than state owned enterprises. “State ownership is particularly a detriment to core innovation as well as to opening new plants and signing new joint ventures and licensing agreement. Firms organized as corporations are more dynamic than firms organized as proprietorships, partnerships or cooperatives. Identity of the controlling shareholder seems to be particularly important for introduction of new technology, and those private firms whose controlling shareholder is a financial institution or another domestic corporation or the government tends to be less innovative” (Ayyagari et al. (2007)). Firms are more innovative greater the number of competitors, if the firm has better technology compared to the competitor, and if it is an exporting firm. “Foreign competition, in particular, has a positive influence on the innovation and dynamism rates of firms” (Ayyagari et al. (2007)). Firms are more dynamic in their inter-firm relationships by signing new joint ventures and licensing agreements and in their sourcing decisions if they have one or more foreign competitors and in cases where they report foreign competition to be the most important influence in their reducing production costs or developing new products. “By contrast, having a state-owned competitor does not have a significant effect on firm innovation” (Ayyagari et al. (2007)).

While some amount of managerial experience (3-10 years) is good for dynamism, firms with managers in the job for more than ten years are less innovative and dynamic, suggesting that entrenched managers negatively impact this process. There is more limited evidence that a higher education level of the manager and a greater percentage of workforce with more than twelve years of education, are associated with increased innovation and dynamism. Higher educational levels are correlated with the probability that firms discontinue existing products, close plants and enter inter-firm agreements like foreign joint ventures and licensing agreements. After controlling for the number of establishments, larger firms and young firms are more dynamic. Firms with higher growth opportunities, as proxied by capacity utilization rates, are also more dynamic. “Given the importance of technological advances for growth, it is important to ask whether financial development promotes growth by fostering innovation and thus increasing efficiency. Such an effect would occur if the financial system has an important role in supplying capital to firms that are innovating or restructuring their operations in ways that make them more efficient”. (Ayyagari et al. (2007)). Of particular interest is the effect of the interaction between the firm’s organizational structure and the level of competition on the rate of dynamism. “As the intensity of competition increases, a firm’s freedom to deviate from efficient investment and innovation policies decline, a contrary argument would suggest that as the level of competition increases, the firm’s ability to enter into beneficial implicit contracts with customers and suppliers may decrease because the value of maintaining a reputation for also decreases” (Ayyagari et al. (2007)) With the opening of borders to trade and foreign investment, globalization brings opportunities and pressures for domestic firms in emerging market economies to innovate and improve their competitive position. Many of these pressures and opportunities operate through increased competition from and linkages with foreign firms.

“Innovation can occur anywhere, and venture-capital investing can happen anywhere, as well” (Marc,W.(2007)). Several things need to be taken into consideration when starting a new company. At the top of the list is the source of capital and the location. Further consideration needs to be given to the factors that affect both capital and location. For instance, the decision to start a company at a particular location can depend on the available customer base in a particular area. (Marc,W.(2007)) states that “When you’re starting a new company and you’re not in a large venture-capital market, you need to look at venture capital as a local business and decide where your company will be located and your capital will come from”.

Regarding raising capital for the company, (Marc,W.(2007)) advices that a company’s best chances of raising money is in its local area. He states “Look at the centers of excellence wherever you are located. It’s best to leverage what’s in your own back yard so you can strive to be the best in the world at what you do. In addition, you’ll need to look in your own back yard for venture capital”.

When raising funds locally, companies need to be more capital efficient because there’s not as much money to go around. Secondary or smaller market venture capital funds are often less significant in size so their deal size is smaller. Thus, the startups they fund will receive smaller investment funds. If you align with a local venture capital firm, there’s a good chance they’ll have expertise in your industry and will understand your market. Before choosing a firm, you’ll want to find someone who’s an industry achiever, establish a relationship and ask that person to be on your board of directors. If you’re working in the semiconductor industry, having someone that is esteemed in that field will help when you’re seeking funding.

When you do move on to the next round of funding, having someone on board that is well-respected can provide a level of legitimacy that helps you overcome your geography. Liberalization and Globalization in any Economy exposes the market to competition. Depending upon their positioning, managers can respond in a variety of ways.

By better understanding the relationship between their company’s assets and the particular characteristics of their industry, managers can also anticipate how their strategies may evolve over time. As more and more companies learn to compete in the global markets, we are bound to see a growing number of aggressive “contenders”. Many of the most successful companies will remain focused on their local markets, strengthening their main sources of competitive advantage. Others will build on a successful defense of their domestic markets and look for opportunities abroad.

Moreover, there is a lower bound on quality that any firm has to maintain in order to survive, thus creating a range (“window”) of quality levels in which firms can operate. What matters is relative quality at both the firm and country levels, and with globalization the lower bound on the window of opportunity rises for firms that were previously shielded from the competition by higher quality firms in advanced economies. Each emerging market has a difference in profile; strategy approach of the company will vary on the nature of its industry and the firm’s capability, among other factors. However, too many manufacturers get caught up in the strategies and the products that have generated them revenue in the past, missing the opportunity to win new customers and profitable market share through innovations in emerging markets. Organizing to innovate in emerging markets has fundamental implications.

Emerging markets present a unique profile of risks – geopolitical, regulatory, financial, currency, and governance risks among others. Among the greatest concerns facing manufacturers in emerging markets are potential threats to intellectual property rights, whether through outright theft of proprietary know-how or counterfeiting of products.

“Emerging markets are becoming the home for new product and service innovation. But tapping the talent and growth potential of these rising economies often requires manufacturers to shed many of their assumptions about customer needs, employee expectations, operations, and innovation that they have learned in the developed economies”. (Deloitte in Hungary-Hungary(2006)).They will need to look beyond traditional strategies in order to meet the unique needs of these markets, while still using the efficiency and expertise provided by their global networks. Those that do so successfully will be most likely to thrive as the rules of global competition are rewritten in the years ahead


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Ayyagari, Meghana, Asli Demirgüç-Kunt and Vojislav Maksimovic (2007), "Firm Innovation in Emerging Markets?", World Bank Policy Research Working Paper 4157 (March); pdf on BB.

Levine, Ross, Norman Loayza and Thorsten Beck (2000), "Financial Intermediation and Growth: Causality and Causes", Journal of Monetary Economics 46, 31-77; pdf on BB.

Deloitte in Hungary - Hungary (English)(2August2006). Innovation in Emerging Markets{,1015,sid%253D10889%2526cid%253D125771,00.html}

Marc, Weiser.(2007). Working with a venture firm in emerging Markets

Sutton, John (2007) “Quality, Trade and the Moving Window: The Globalization Process,” August, unpublished paper, London School of Economics.

Cohen, W. (2005) “Empirical Studies of Innovative Activity,” in Stoneman, P. (ed.), Economics of Innovation and Technological Change Handbook. Oxford: Blackwell Publishers Ltd., pp. 182-264.

Gorg, Holger and David Greenaway (2004) “Much Ado about Nothing? Do Domestic Firms Really Benefit from Foreign Direct Investment?” World Bank Research Observer, 19(2): 171-197.

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