CAMBRIDGE, March 2009
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CAMBRIDGE, March 2009. INNOVATION DRIVEN ACQUISITIONS OF HIGH-TECH START-UPS: NEW INSIGHTS FROM THE INCENTIVE AND COMPETENCE PERSPECTIVES. Massimo G. Colombo, Politecnico di Milano. The acquisition of high-tech start-ups.

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Massimo G. Colombo, Politecnico di Milano

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CAMBRIDGE, March 2009

INNOVATION DRIVEN ACQUISITIONS OF HIGH-TECH START-UPS: NEW INSIGHTS FROM THE INCENTIVE AND COMPETENCE PERSPECTIVES

Massimo G. Colombo, Politecnico di Milano


The acquisition of high-tech start-ups

  • Surge of interest in the M&A literature on the acquisition of high-tech start-ups (Bloningen and Taylor 2000, Desyllas and Huighes 2008).

  • Key element of the external technology sourcing strategies of large established firms (Kale and Puranam 2004).

  • The post-acquisition reorganization process (Jemison and Sitkin 1986, Haspelagh and Jemison 1991) crucially influences the innovation impact of these acquisitions.

  • Focus of the extant literature on the dichotomy between structural separation and structural integration.

  • Less attention to non-structural (i.e. behavioral) aspects, with a few exceptions (Ranft and Lord 2002, Graebner 2004).


The acquisition of high-tech start-ups

  • Aim of the paper:

    • Focus attention on a particular aspect of the post-acquisition reorganization process: should decision authority over the post-acquisition innovation activity of the acquired start-ups :

      • delegated to the acquired key inventors;

      • or centralized within the acquiring firm?

    • Management of high human capital individuals: key aspect of the post-acquisition reorganization process.

    • New insights from combining:

      • Arguments inspired by the competence-based perspective;

      • Arguments rooted in the economics of organizational design (Colombo and Delmastro 2008) relating to individual incentives.


The acquisition of high-tech start-ups

  • Theoretical model which predicts under which circumstances delegation is more effective than centralization.

  • Testable propositions relating to:

    • The direct effect on the effectiveness of delegation of the type of acquisition:

      • explorative or exploitative.

    • The interaction effect between the type of acquisition (either explorative or exploitative) and:

      • The technological relatedness between the acquiring and acquired firms;

      • The establishment of prior alliances between them;

      • The prior acquisition experience of the acquiring firm.


The extant empirical literature: Stylized facts

  • The innovation impact of the acquisition of high-tech start-ups often is disappointing:

    • Poor post-acquisition innovation output of the acquired inventors (Kapor and Lim 2007);

    • Departure of star scientists and engineers (Ernst and Vitt 2000).

  • Moderating effect of the structural integration of the acquired start-up as opposed to structural separation:

    • structural integration generally damages post-acquisition innovation output (Paruchuri et al. 2006, Kapor and Lim 2007);

    • Stronger negative effect if:

      • the acquired firm is in explorative stage (Puranam et al. 2006);

      • the acquirer use the acquired start-up as a source of ongoing innovations (Puranam and Srikanth 2007);

    • Smaller negative effect if the acquiring firm has greater acquisition experience (Puranham and Srikanth 2007).


The extant empirical literature: stylized facts

  • Structural integration is more likely (Puranam et al. 2008):

    • with strong interdependencies between the acquiring and acquired firms;

    • when the combining firms lack “common ground” (i.e. operate in different technological areas)

  • The negative effect of structural integration are not uniform across individual inventors (Paruchuri et al. 2006): inventors that suffer the most are:

    • those with divergent technological expertise from the one of the acquiring firm;

    • those that rely more on co-authorship.


Open issues

  • Need to go beyond structural aspects of the post-acquisition reorganization (Haspelagh and Jemison 1991, Pablo 1994, Larsson and Finkelstein 1999, Ranft and Lord 2002, Zollo and Sing 2004).

  • Importance of managerial aspects: delegation of decision authority.

  • Structural separation and delegation of decision authority are (almost) independent aspects: structural separation is compatible with centralization of decisions (and viceversa).

  • Need to take into consideration the longitudinal dimension of post-acquisition reorganization:

    • Timing of reorganization decisions;

    • Sunk costs and path-dependency.


The traditional view of the incentive perspective

  • Property rights theory (Aghion and Tirole 1994):

    • The acquisition of a high-tech start-up involves a change in the allocation of property rights;

    • The acquirer gains control over the post-acquisition innovation activity of the acquired start-up;

    • Acquired innovative entrepreneurs become salaried employees and have no ex-post bargaining power;

    • They lack appropriate incentives to make relation-specific investments;

    • If the relation-specific investments of acquired entrepreneurs are important for innovation: Negative effect on innovation


The traditional view of the incentive perspective

  • Traditional agency theory (Holmstrom 1989):

    • The acquisition of a high-tech start-ups by a (generally larger ) firm generates agency costs: Negative effect on innovation

    • Hidden action problems inherent in innovation activity become more severe and are a source of diseconomies of scale in R&D (Zenger 1994):

      • Free rider problems in team production as agents’ individual effort is difficult to monitor;

      • Indirect monitoring quite inefficient;

      • Externality in innovation activity: the incentives of the acquired innovators are disaligned with those of the acquiring firm;

    • Hidden information problems in the early post-acquisition period: difficult to identify who are the acquired key inventors.


New insights from recent developments in the incentive perspective

  • Innovation activity is modeled as a multi-task agency relation: the acquiring firm does not know in which task (R&D project) the acquired key inventors are most productive.

  • The acquired key inventors possess specific knowledge on local technological matters (Jensen and Meckling 1992).

  • This specific knowledge is based on “soft” information (i.e. non-verifiable from third party): room for strategic communication (Dessein 2002, Marino and Matsousaka 2005, Friebel and Raith 2007, Alonso et al. 2008, Dessein et al. 2008).

  • The acquired key inventors enjoy private benefits (Aghion and Tirole 1997) in performing R&D activity (“taste for science”).

  • Key dilemma:

    • If acquired key inventors are in charge of selection of R&D projects, the project they chose is likely to diverge from the one the acquiring firm would chose should it have the same information set;

    • if the acquiring firm is in charge the selected R&D project may not be the optimal one because of lack of relevant information.


New insights from recent developments in the incentive perspective

  • Need to elicit implementation effort from the acquired key inventors, which is complementary to good decision in R&D project selection (Raith 2004, Van den Steen 2006).

  • Technological uncertainty in R&D activity: it magnifies the information advantage of the acquired key inventors (Zabonjiik 1996, Prendergast 2002, Baker and Jorgensen 2003, Raith 2004).

  • The greater the “combination potential” of the acquisition, the greater the marginal product of the effort of the acquired key inventors, the more important effective R&D project selection (Raith 2004).

  • Externality problem: Need to coordinate decisions relating to the post-acquisition innovation activity of the acquired start-up with the other operations of the acquired firm:

    • lack of coordination generates bad performance;

    • locally optimal decisions need not to be optimal for the acquiring firm: trade-off between high-powered local incentives and firm-level incentives (Stein 2002, Alonso et al. 2008, Dessein 2008).


New insights from recent developments in the incentive perspective

  • For the acquiring firm it is important:

    • With delegation of decision authority to the acquired key inventors: to deter choice of low pay-off projects (Baker et al. 1992);

    • With centralization of decision auhtority: to enforce orders (Marino et al. 2006); difficult with star scientists:

      • They are difficult to replace if they decide to leave (Ranft and Lord 2000, 2002);

      • They can easily find a new job.

  • Different priors between the acquired key inventors and the acquiring firm (Zabonjik 2002, Van den Sten 2006, 2007):

    • with centralization of decision authority the acquired key inventors have low incentives to provide effort if they think that acquiring firm’s managers take bad decisions.

    • With delegation, the provision of high-powered incentives to acquired key inventors makes problems rising form divergence of decisions even worse.


The benefits and costs of delegation of decision authority to the acquired key inventors: a synthesis


Factors favoring/hindering the delegation of decision authority to the acquired key inventors


The role of technological relatedness, prior alliances, and prior acquisition experience


Delegation or centralization of decision authority: A synthesis


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