Agency Costs and Firm’s Innovation in Emerging Capital Markets

This paper examines the influence of agency problems on the innovation of firms in emerging capital markets. It focuses particularly on agency conflicts between managers and shareholders (proxied by institutional ownership, insider shares, state shares, and free cash flows) and innovation inputs measured by R&D expenditure and R&D intensity. Drawing on data from 8 European emerging markets over 8 years (2011-2018), the study shows that both institutional ownership and insider shares are positively related to R&D intensity, while state shares have a negative influence on R&D intensity. Contrary to expectations, the link between insider shares and innovation becomes insignificant in several analyses except for the one which includes the joint effect of firm size and ownership structure variables. Free cash flow reduces innovation of the firm which contradicts the existing theory suggesting a positive link between free cash flow and R&D investments. Besides the individual impact of agency problems on the innovation of the firm, this study additionally examines the joint effect of independent variables on R&D intensity. The results reveal that the joint effect of firm size with institutional ownership and insider shares reduces innovation, while the interaction of ownership structure variables and free cash flow reports insignificant results. Moreover, this study finds a negative joint effect of institutional ownership and financial leverage on the R&D intensity of public firms in emerging economies.