Faculty of law blogs / UNIVERSITY OF OXFORD

Do Board Interlocks Increase Innovation? Evidence from a Corporate Governance Reform in India


Manasa Patnam
Raghavendra Rau

Directors often sit on the boards of different companies at the same time. These interlocking boards are a common feature of the corporate landscape around the world. When directors serve on multiple boards, they intentionally or unintentionally transfer knowledge across companies, which increases companies’ investment in research and development (‘R&D’). It also leads companies to change their patenting strategy and to file more patents on their inventions abroad. These are the main findings of our article recently published in the Journal of Banking and Finance.

A key challenge in empirically analyzing the effect of board interlocks on outcomes, including innovation and patenting, is that directors are not randomly assigned to companies. Companies judiciously select the members of their boards as they have an important supervisory role and provide essential input that helps management in making strategic decisions. Because the director choice is endogenous to the firm, it is difficult to argue that a director causes specific changes in a company’s behavior. It may simply be that a company who was planning a specific type of change in policy, employed a particular director with expertise in that area, to bring about that change.

In our article, to identify the causal nature of director action on firm policy, we rely on a sweeping corporate governance reform that took place in India in the early 2000s, the Clause 49 reform. The reform required companies to maintain a minimum share of non-executive directors. This requirement forced a subset of companies to change their board structure, in most cases by hiring more non-executive directors. Of course, it is possible that companies who were forced to adjust their board structure were not comparable to firms that did not have to make any changes, and hence it can be argued that our results cannot really be generalized to all firms.

To address this concern, we construct a subsample of companies that did not have to adjust their board structure because they were already compliant with the new regulation. However, the directors of some of these companies were hired by companies that did have to change their board structure. Hence, any change in behavior for a firm that did not change any of its directors cannot be caused by new directors coming in (because there are none). It had to be caused by the fact that their directors are now employed by a set of new firms and have gained connections and information by doing so.

We show that firms whose directors were appointed to the boards of other companies significantly increased their R&D spending. On average, we find that a company increases its R&D spending by around US$200,000 as a result of one of its directors sitting on another company’s board. This is a sizeable effect in the Indian context. Reflecting an increased potential for knowledge exchange, the effect is substantially stronger if a director sits on the boards of companies in the same technology space.

Our sample firms also increase their number of patent filings. However, this effect is limited to patent filings abroad, specifically in the US and Europe. Further analysis reveals that firms in fact increase the number of filings abroad for a given dollar spent on R&D. Simply put, they file more patents for the same amount of R&D. A closer look at the citations received by these patents from other patents reinforces the notion that the increase in the number of foreign patent filings reflects a change in the firms’ patent strategies. As a result of more board interlocks, companies are more likely to choose to protect their inventions not only domestically but also abroad.

Overall, our results suggest that the sharing of board members across companies can have important effects on companies’ innovative and patenting activity. Shared directors serve as a channel for the transmission of information across companies.

Christian Helmers is an Assistant Professor of Economics at the Leavey School of Business at Santa Clara University.

Manasa Patnam is an Assistant Professor of Economics at CREST-ENSAE.

Raghavendra Rau is the Sir Evelyn de Rothschild Professor of Finance at Cambridge Judge Business School.


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