Information Transparency and Investment in Follow-on Innovation

Abstract

This study examines the role of information transparency in facilitating peer firms' investment in follow-on innovation. We capture information transparency with both textual and numerical information disclosed in 10-Ks. Using patent citations to proxy for investment in follow-on innovation, we predict and find a positive association between transparency at the knowledge source and follow-on innovation. We further show that the effect of information transparency varies with the degree of uncertainty around technological innovation. Thus, the evidence suggests that information transparency facilitates investment in follow-on innovation by resolving uncertainty associated with investment in technological innovation. An analysis using the cited firms' going-private decision as a negative shock to information transparency confirms the significant effect of a cited firm's disclosure on its decision to invest in follow-on innovation. Our study contributes to the literature on the positive externalities of peer-firm disclosures and highlights the important role of information transparency in shaping innovation investment decisions.