Reporting Regulation and Corporate Innovation

Abstract

We investigate the impact of reporting regulation on corporate innovation activity. Exploiting thresholds in Europe’s regulation and a major enforcement reform in Germany, we find that forcing a greater share of firms to publicly disclose their financial statements reduces firms’ innovative activities. At the same time, it increases firms’ reliance on patenting to protect their innovations, to the extent they continue innovating. Our evidence is consistent with mandated reporting having significant real effects by imposing proprietary costs on innovative firms, which in turn diminishes their incentives to engage in innovative activities. Importantly, we examine aggregate effects at the industry level, net of spillovers. Thus, our results imply that positive information spillovers (e.g., to competitors, suppliers, and customers) within industries are not large enough to compensate the negative direct effect on the prevalence of innovative activity. The spillovers instead appear to concentrate innovation among a few large firms in a given industry. In sum, financial reporting regulation has important distributional and aggregate effects on corporate innovation.