Curb Your Innovation: Corporate Conservatism in the Presence of Imperfect Intellectual Property Rights1

In this paper we analyze the effects of information leakage on the incentives to innovate in firms. We analyze a situation in which an employee in a firm is inspired with a new idea for a product. In a framework in which Intellectual Property Rights on ideas are absent, we analyze the employee’s decision of whether to disclose the idea within the firm or to form a spin-out. We next look at the shareholders of the original firm and analyze their incentives to promote creativity and innovations among employees. Our analysis highlights the effects of the distribution of shares within the firm and the firm’s size on the incentives and behavior of firms towards innovation. In particular we highlight the following findings: (i) Often employees may not implement an idea neither within nor outside the firm. (ii) The ownership structure affects the incentives to promote innovation in firms. (iii) Firm shareholders may have incentives to curtail innovation even if these innovations are expected to be revealed within the firm. (iv) Firms may buy-off potential innovative agents, by providing them with compensation plans that dominate leaving the firm, or revealing new ideas within the firm. (v) Information leakage concerns affect both the hiring and the information provision decisions of the firm.