By Jangwook Lee, Fellow at KDI
※ This article is part of KDI Journal of Economic Policy, August 2020
It has been extensively documented that innovative capabilities are important for firms’ growth and performance. Measuring innovation by firms has always attracted much attention from researchers in economics. One method by which to do this is to measure innovation with R&D expenditures, but one problem is that not all R&D leads to technological progress, and they are an input into innovation processes, not an outcome of these processes. Patents are another frequently used measure of firms’ innovative capabilities in the literature. The value of a patent is recognized in part by the patent office, which allows us to infer technological progress. The patent system requires three conditions to be met for the granting of a patent: utility, novelty, and non-obviousness.
A large body of research has studied the relationship between patents and firm value. Since Griliches (1981) found a positive relationship between the market value of a firm and its patents, much subsequent research has shown that patents and their characteristics are associated with firm value. Hall, Jaffe, and Trajtenberg (2005) find that the quality of patents as measured by patent citations is correlated with firm value. Since then, citations have become a popular proxy for firms’ technological advances.
However, one area less studied is whether the patents of a firm do in fact lead to an increase in firm value in the Korean context. Because patent systems differ across countries, the legal rights and economic value of a patent can vary depending on where it is granted. Considering patents as a proxy for innovation is relatively common in the research on Korean firms, and it is an important empirical question as to whether the relationship between patents and firm value still holds in Korea as it does in foreign contexts.
Several studies have assessed the effects of firms’ patents in Korea, though these have limitations. Youn (2004) represents one of the first papers to investigate the relationship between patents and firm value in Korea. The author finds a positive effect of patents on firm value, but the analysis includes only 242 firms, excluding non-renewed patents. Jeong and Kim (2017) demonstrate a relationship between US patents held by Korean firms and firm value, but they focus only on firms with US patents, not Korean patents. It is difficult to uncover implications pertaining to the Korean patent system in such a case. Recently, there has been some effort to construct large-scale firm-level patent data for Korean firms. Lee, Lim, Kim, Song, and Jeong (2019) match firms in FnGuide with patents. However, they focus on constructing patent-firm data itself, not providing an analysis of the effects of patents.
This paper exploits the commercial database ORBIS Intellectual Properties (IP) provided by Bureau Van Dijk. By merging ORBIS IP with FnGuide 5.0, I construct panel data for all listed firms in Korea with patent grant information from 1993 through 2015. To the best of my knowledge, this is the first paper to investigate whether the patents of a firm do in fact increase firm value with large-scale firmlevel patents and financial data in Korea.
This paper investigates how the characteristics of the patents of Korean firms affect the firms’ market value. I estimate firm value (Tobin’s q) equations driven by the Cobb-Douglas production function by means of non-linear least squared estimation, a standard approach in the literature. This specification enables me to compare the effects of patents in Korea with the results from overseas studies. I use three variables for measuring firms’ innovation: R&D stock/assets, patent stock/R&D stock, and citation stock/patent stock (hereafter referred to as R&D/asset, patent/R&D, and citation/patent, respectively).
Interestingly, contrary to the expectation that patents in Korea lead to an increase in firm value, the coefficient of patent/R&D is positive but not statistically significant. The coefficient of citation/patent is found to be statistically significant, but the magnitude is low compared to those in earlier work. Tobin’s q increases by 0.5% with a one-unit increase in citation/patent, which is weak compared to prior studies. On the other hand, R&D/asset is strongly correlated with Tobin’s q. As R&D/asset increases by 1%p, Tobin’s q increases by about 1%. The magnitude of the R&D/asset effect is similar to or greater than those in previous studies conducted overseas.
I also investigate whether the effects of patents on firm value vary across industries. Given that the importance of technology differs depending on the industry, the effect of patents on firm value can also differ across industries. Consistent with my expectation, I find that the effects of patents on firm value in knowledge-intensive industries such as pharmaceuticals are very strong, whereas conventional manufacturing industries such as metals show weak effects. These findings corroborate the previous analysis results of the paper.
Prior research suggests that citations represent importance differentially depending on the type. Who cites who indicates a linkage between technology (Li, Chambers, Ding, Zhang, and Meng, 2014) and knowledge flows (Alcácer and Gittelman, 2006). Self-citations, citations coming from subsequent patents owned by the same firm, are known to be strongly associated with the market value of a firm (Hall, Jaffe, and Trajtenberg, 2005). Based on prior research, this paper undertakes a closer examination of whether self-citations increase the market value of Korean firms more so than normal citations do (including both self- and non-self-citations). Self-citations closely related to the market value of a firm may mean that the analyses in this paper are consistent with those in the literature. The results show that self-citations are positively correlated with market value and that the economic significance is approximately five times larger than that associated with normal citations.
It is widely understood in financial economics that firm value represents the discounted sum of the income of the future. If patents are associated with firm value, the patents should be linked to future performance measures such as net income and sales. To find how firm value and patents are related, I estimate panel regressions of patent variables on firm performance variables. This analysis sheds light on the linkage between patents and firm value. Specifically, a variable that shows a strong effect on firm value, such as self-citations, is expected to predict future earnings better. Consistent with the previous analysis, the estimation results show that self-citation/patent does predict future earnings while patent/asset and citation/patent do not show a correlation with future earnings.
My sample includes all patents of listed Korean firms granted in all countries around the world. The sample enriches the credibility of the analysis by measuring exclusive rights to use technologies in the global market. However, one may raise the concern that multiple patents in the same patent family contain the same technology, meaning that patents can be over-counted relative to the knowledge contained in them. However, this is not the case here because the value of patents not only comes from the technology itself but also originates from legal protections. Nonetheless, I construct the sample only with the first patents in the patent families and check the robustness of the analysis. The results are consistent with the previous analysis, showing that patents and citations in Korea are weakly associated with the market value of a firm. I also check the robustness of the results by excluding the 1997-1998 Asian financial crisis and the 2008 global financial crisis periods to rule out the effect of exceptional economic shocks. The results are consistent with the main findings.
This paper has valuable implications for policymakers in Korea. The results imply that the Korean patent system does not play a critical role in increasing the market value of a firm. There have been studies positing that legal protection rights are weak in Korea compared to those in foreign countries. Ryu (2019) argues that the Korean patent system is very conservative in setting punitive damages in infringement cases and that there is no clear standard of willful infringement. Not only does the patent system weaken patent value per se, but also it reduces incentives for firms to file patents for valuable technologies. There is also the possibility that firms prefer to choose to keep their technologies secret instead of pursuing patent protection (Chung, 2017). Retaining secrecy of technology may be optimal for a firm but may not be socially optimal in that there would be no knowledge spillover. This paper provides evidence that the patent system in Korea should be improved. To promote knowledge spillover and achieve a socially optimal level of innovation, policymakers in Korea should enhance patenting incentives to promote innovation in Korea.
Patent incentives refer to the appropriability from which a firm can create economic value. It can take the form of strong exclusive rights with regard to the technology in patents. Heavy punishments in cases of patent infringement are one good example. Prior research suggests that the Korean patent system is not good at providing proper protection in infringement cases. This could result in a weak association between patents and firm value. Thus, I suggest that policymakers should improve the actual rights of patents so that firms have more of an incentive to file patents and furthermore to invest more resources in innovation.
The remainder of this paper proceeds as follows. Section 2 describes the patent data and financial data used in the analysis. Section 3 develops the estimation equations of patent variables and firm value. Section 4 presents the estimation results, and Section 5 reports robustness checks. Lastly, section 6 closes with a conclusion.
※ This paper is based on Lee, Jangwook, 2019(forthcoming), “A study on firm-level effects of knowledge capital: focusing on patents and citations of firms,”
KDI (in Korean).