Do firms’ performance act as a catalyst of innovation: empirical evidence from innovative Indian manufacturing firms

Purpose This paper aims to explore whether firms’ performance determines innovation using a sample of Indian manufacturing firms. The impact of innovation on firms’ performance across specific countries has been discussed in the literature. However, the effect of firms’ performance on innovation output, especially for a developing country like India, remains an open question. Against this backdrop, this paper investigates whether firms’ performance determines innovation in Indian manufacturing firms. Design/methodology/approach The authors use patent filing information to instrument innovation and total factor productivity to instrument firms’ performance. The patent data are collected from the Patent Search and Analysis Software database and firm-level data from the Centre for Monitoring Indian Economy’s Prowess database. The study uses a sample of 309 Indian manufacturing firms from 2005 to 2021. Given the count nature of the data set used in this study coupled with over-dispersion issues, the authors have used the negative binomial regression to estimate the empirical specification of the models. There could be a possible problem of endogeneity due to the contemporary nature of innovation and firms’ performance. Therefore, to address the possible issues of endogeneity in the model, the authors have used the Generalized Method of Moments (GMM) estimators for more robustness checks of the empirical results. Findings The empirical results exhibit a positive and significant impact of firms’ performance on the innovation output, validating that firms’ performance determines innovation in Indian manufacturing firms. The posterior estimation results using GMM estimation also corroborate that firms’ productivity is a determining factor for the innovation output of Indian manufacturing firms. Furthermore, empirical results exhibit that the ex ante innovativeness of the firms substantially affects the current innovation. This validates that the firms’ prior experience, learning by doing and past innovative efforts are more likely to precipitate more innovation in the current period. Originality/value This paper’s main contribution is empirically estimating whether firms’ performance determines innovation, which is hardly discussed in the existing innovation literature, specifically using Indian manufacturing industries. Further, it adds to the existing literature in two other prominent ways. First, this paper investigates whether firms require ex ante expertise to innovate or if a firm starting from scratch can innovate significantly without any hindrances. Second, it enriches the literature by instrumenting innovation in output terms with the patent application against input measures of innovation, such as research and development expenditures, acquisition of machinery and equipment, while discussing the relationship between firms’ performance and innovation, specifically in the context of a developing economy like India.