Characteristics: A Study of Indian Basic Chemical Industry
11.2 Review of Literature
This section deals with literature survey on innovation and firm characteristics. The focus is mainly on studies dealing with Indian industries, though studies on other countries have also been mentioned.
Innovation as defined by Kamien and Schwartz (1982) includes ‘all those activ- ities, from basic research to invention to development and commercialization, that give rise to a new product or means of production.’ Thus innovation can be con- sidered to include all those activities that lead to process and/or product related improvements in a firm. Cohen and Levin (1989) too observe that one of the fun- damental problem in the study of innovation and technical change in industry is the absence of proper measure of new knowledge and its contribution to technologi- cal progress. Therefore they note that studies have frequently employed innovative measures based on either innovative inputs (sources) or outputs.
In the Indian context Desai (1985) observed six sources of technology being uti- lized by the manufacturing firms. These included technology imports and corporate R&D. Recent studies in the Indian context (Basant, 1997; Siddharthan and Safarian, 1997; Narayanan, 1998, 2004; Siddharthan and Rajan, 2002) have considered inno- vative sources in mainly four forms: in-house R&D, import of capital goods, import of designs, drawings and formulae through royalties, technical fees and lump sum payments, and foreign direct investments.
In-house R&D is the source of building knowledge through internal means. Gen- erally, it takes the form of incremental improvements in the given process or product through minimal investment. However, a firm may invest substantial amount on in- house R&D in order to bring about revolutionary technique of production or a novel product in the market. Import of capital goods, that is, machinery and equipment brings with it the latest technology though it is embedded in the capital good itself.
The firm may be able to introduce a better product in the market by merely using the newly acquired machinery. However, over time the actual technology embodied in the capital good may get diffused in the industry through means of reverse engineer- ing. Some firms may try to acquire technology in disembodied form through import of designs, drawings and formulae against royalties, technical fees and lump sum payments. The products or processes introduced by the firm using these designs and drawings may again be new to the local market until the technology gets diffused.
A strategic behavior commonly seen in firms belonging to developing countries is the import and adapt (IAT) strategy (Katrak, 1989). Frequently firms that import technology also use in-house R&D for adapting the technology to suit local condi- tions. This is especially seen during the initial stages of technological development.
In case of India, empirical studies such as Siddharthan (1992) and Sujit (2004) have found technology imports and in-house R&D to be complementary. Siddharthan and Rajan (2002) too on the basis of their survey of literature and various case studies conclude that in India’s context technology transfer and in-house R&D efforts are by and large complementary and so the successful strategy for firms would be to have an in-house R&D base along with import of technology.
172 S. Bhat and K. Narayanan Foreign equity participation can also be a mode for acquiring new technological and managerial practices through intra-firm knowledge transfer. These are mainly tacit knowledge transfers that help the firm in improving its overall capabilities and thus achieving a better position in the market (Siddharthan, 1992; Siddharthan and Safarian, 1997). Frequently, in developing countries such as India, foreign firms are willing to part with this knowledge only when they have a stake in the local firm’s equity. Apart from the tacit knowledge transfer the foreign (equity) collabo- rators may also induce increased in-house R&D and technology imports in the local firms suggesting a package deal for technology transfer. With an aim of improving its position in the market, an entrepreneur would have to decide on the combination of the various sources of technology to invest on. This decision, however, would be influenced by the entrepreneurial quality of the firm. In the present study the authors look at five firm characteristics, which indirectly capture the quality of the entrepreneur. The five firm characteristics considered are ownership, market share, age, profit margin and degree of vertical integration of the firm. An entrepreneur can both directly or indirectly choose to adopt a specific level of these characteristics, and thus determine its own quality.
Romijn (1996) has observed that the extent to which a firm engages in technolog- ical efforts is influenced by ownership category as well. Whenever required a firm belonging to a business house can easily get resources for investing in innovative activities from other firms under the same business family. Again, the innovation strategy of a firm associated to an MNC would generally be influenced by the poli- cies and practices of its parent firm. Thus the affiliation of the firm would directly reflect the quality of the entrepreneur and can therefore influence the technological strategy adopted by the entrepreneur.
Market share of the firm captures the scale of operation of the firm. It also rep- resents the relative position or size of the firm with respect to other firms in the market. Given its technological abilities, an entrepreneur can decide as to what pro- portion of its resources it would like to devote for production and what proportion for other investment activities such as innovative efforts. Thus, the scale at which an entrepreneur decides to operate on can influence the technological strategy that it adopts.
Many studies have asserted that innovative efforts are highest in larger and/or leading firms (Schumpeter, 1943; Brozen, 1951; Mansfield, 1963, 1964; Braga and Willmore, 1991; Kumar and Saqib, 1996; Basant, 1997; Sujit, 2004). Some of the reasons sited (Brozen, 1951; Mansfield, 1963; Symeonidis, 1996) in favor of the view are involvement of large fixed costs which can only be covered when sales are sufficiently large; scale and scope economies in the production of innovations;
exploitation of unforeseen innovations by large diversified firms; spreading the risks of R&D by large firms through undertaking of many projects at a given time; and better access to external finance for the large and/or leading firms. However, there are also counter arguments (Symeonidis, 1996) such as existence of decreasing returns to scale in the production of innovations due to loss of managerial control and bureaucratization of innovative activity and sluggishness due to market power in the absence of strong competitive pressures. Still others (Scherer, 1965; Kamien
11 Indian Basic Chemical Industry 173 and Schwartz, 1975; Kamien, 1989) believe that both large and small firms have a role in the innovation process since each can concentrate on the tasks it does rela- tively better. For example, a large firm can focus on innovation in capital-intensive technologies and small firm can focus on innovation in labor-intensive technology.
The evolutionary framework (Nelson and Winter, 1977) and the capability lit- erature (Lall, 2001) recognize the importance of time (experience) or learning by doing in influencing the technological strategy chosen by an entrepreneur. Accord- ing to studies dealing with evolutionary framework (Nelson and Winter, 1977;
Basant, 1997; Narayanan, 1998) technological regime or technological paradigm can be considered as design configuration including policy environment that acts as a framework for production or operation of a firm in an industry and the trajectories as the paths of advancement within the given technological regime/paradigm. The firms, over time, try to achieve different technological sophistication by either shift- ing to a different trajectory of operation through innovation in existing processes and products or shifting to a totally new technological paradigm through inventions.
The capability literature recognizes that with age, firms can accumulate technolog- ical capabilities, which in turn can influence the strategy of the firm for shifting to a different technological trajectory and/or paradigm. Though shifting to what tra- jectory or paradigm may be determined by the prevailing capabilities of the firm, however, firms often put in extra efforts in the form of technological investments to acquire further capabilities that would make the trajectory and/or paradigm shift a success. Thus, the level of capabilities that the firm chooses to acquire over time also reflects the quality of the entrepreneur which in turn influences the kind of tech- nological strategy that the firm is willing to invest on for further enhancement of its capabilities.
Another quality that surfaces as an important factor in deciding the technologi- cal strategy adopted by an entrepreneur is based on the ability of the entrepreneur to raise finance for investment. A firm may either get finance as a loan from finan- cial institutions like banks or may reinvest its own profits. As the theory of internal financing suggests, taking a loan may involve commitment and high risk and so firms may prefer internal financing to taking loans. A similar viewpoint emerges when Kamien and Schwartz (1975) assert that only firms generating a substantial cash flow would be able to support a sizable R&D effort since they may be unwill- ing or unable to borrow large funds to finance development of a new product or process. This means that high current profits, as a source of liquidity, are neces- sary for in-house R&D. Thus, profit margins of the firm would reflect the quality of the entrepreneur in terms of its ability to generate internal finance for investing in different innovative sources.
According to the theory of firm, ease of entry to and exit from any industry also determines the behavior of the firms in that industry. Frequently high vertical integration in the firms has been considered as a form of entry barrier for other new firms trying to enter an industry (Hay and Morris, 1991; Brocas, 2003; Narayanan and Banerjee, 2004).
Vertical integration captures the extent to which the firm carries out the vari- ous functions like purchasing, employment, design, production, and sales within the
174 S. Bhat and K. Narayanan firm. In other words, it captures the extent to which the firm has internalized various stages of production. The downstream producer, that is, the firm that is buyer of a technology or component may find it profitable to integrate with upstream innova- tor, that is, the seller of the component or technology, especially if the underlying efficient technology is costly. Once the supplier and buyer of the technology are integrated, any rival firm cannot easily compete using the same technology. Since all aspects of production would be internalized, therefore higher vertical integra- tion in the firm may lead to reduction in technology purchase from the market against licenses and royalties and have moderate effect on R&D intensity. Cohen and Levin (1989) assert that a firm’s degree of vertical integration may actually increase the amount of R&D undertaken because of the possibility of economies of scope (producing more than one product in the same plant) and diversification.
Thus, depending on the threat that it is facing, an entrepreneur may decide on what proportion of operations to internalize and what proportion to subcontract. In the process the entrepreneur would also decide as to the mode of innovative efforts that it would like to adopt.