Unravelling the relationship between absorptive capacity, innovation, and financial performance: A longitudinal study

Abstract

This study explores the intricate relationships among absorptive capacity, innovation, and financial performance in nonfinancial firms. Using data from COMPUSTAT spanning 1966 to 2020, including 25,392 observations, Tobin's Q is used as a measure of financial performance. Absorptive capacity, measured by the ratio of research and development expenses to total revenue, has a significant positive direct impact on both innovation and financial performance. However, innovation, represented by the natural logarithm of total intangible assets, has a negative influence on financial performance and mediates the positive relationship between absorptive capacity and financial performance. This reveals the suppressive role of innovation in the absorptive capacity-financial performance relationship. This challenges the conventional belief that innovation invariably leads to improved financial outcomes, highlighting the nuanced dynamics involved. The study underscores the trade-offs between short-term gains and long-term potential, emphasizing the complexity of organizational success in today's competitive landscape.