Emerging Markets Finance and Trade

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The Effect of Financing on Firm Innovation:

Multiple Case Studies on Chinese Manufacturing
Enterprises

Yu Shi, Lei Gong & Jin Chen

To cite this article: Yu Shi, Lei Gong & Jin Chen (2018): The Effect of Financing on Firm
Innovation: Multiple Case Studies on Chinese Manufacturing Enterprises, Emerging Markets
Finance and Trade, DOI: 10.1080/1540496X.2018.1478284

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Emerging Markets Finance & Trade, 1–26, 2018
Copyright © Taylor & Francis Group, LLC
ISSN: 1540-496X print/1558-0938 online
DOI: https://doi.org/10.1080/1540496X.2018.1478284

The Effect of Financing on Firm Innovation: Multiple Case

Studies on Chinese Manufacturing Enterprises
Yu Shi1, Lei Gong2, and Jin Chen 3

1
School of Management, Zhejiang University, Zhejiang, China; 2Guanghua School of Management,
Peking University, Beijing, China; 3School of Economics and Management, Tsinghua University,
Beijing, China

ABSTRACT: This article investigates the effects of financing on innovation through multiple case studies of
Chinese manufacturers: M&G, Haier, SAIC Motor, and Sifang. Although financing enables firms to access
more capital and nonfinancial resources that can fuel innovation in technology, management, cultural, and
business models, it also forces firms to adhere to stricter disclosure requirements and some myopic
incentives that may constrain innovation. We find a complex and dynamic relationship between financing
and innovation. As for technology innovation, the quality of internal innovation declines after financing,
and firms experience a drop in both the patent growth rate and the R&D/asset ratio. However, firms acquire
external innovation with their additional money in hand, so the quantity of inventions increases. The
impact of financing on management, cultural, and business model innovation is positive. Our analysis
reveals that financing changes firm strategies in pursuing innovation.
KEY WORDS: Chinese manufacturing industry, effect, emerging market, financing, innovation

It is generally accepted that innovation has a major impact on wealth and long-term growth in
industrialized countries. In recent years, companies have become aware of their need to expand
their capacity for innovation. However, the widely accepted major bottleneck in innovation (Hall
and Lerner 2010) is financial constraints, which can be overcome through external financing. Thus, the
relationship between financing and innovation is a significant subject of study.
Theoretically, financing either feeds or constrains innovation. The existing literature, which is
mostly on developed countries, points out the positive and negative impacts of corporate debt on
innovation. On the one hand, the pressure of debt repayment reduces firm enthusiasm and willingness
to engage in long-term investment (Ortega-Argiles, Moreno, and Caralt 2005). Moreover, firms with
higher leverage have even greater difficulty in obtaining outside funding (Jensen 1986; Lasfer 1995;
Stulz 1990), thus missing out on favorable investment opportunities. On the other hand, debt can
positively affect enterprise innovation decision-making (Czarnitzki and Kraft 2009) by restricting the
behavior of managers (Hart and Moore 1995). Similarly, previous studies on equity financing have not
yet determined the net effect of equity financing on firm innovation activity. Improved financing is
supposed to encourage innovation because the firm might invest in innovative projects or directly
acquire external innovation (Bernstein 2015). However, disclosure requirements and short-term market
incentives can be detrimental to innovation (Wies and Moorman 2015).
Thus, the actual effect of financing on firm innovation is still unclear in the literature, especially for
firms in emerging markets. By analyzing typical manufacturing firms in China, our article provides a
unique view of how firms change their innovation behavior in response to capital inflow. China is an
ideal place to study this issue because it is a representative emerging market (Dorrucci, Pula, and
Santabárbara 2013), and nowadays emerging market play an important role in the world economy as
the driving force of development to some extent. We find that manufacturing plays a key role in

Address correspondence to Jin Chen, School of Economics and Management, Tsinghua University, Beijing,
China. E-mail: [email protected]
Color versions of one or more of the figures in the article can be found online at www.tandfonline.com/mree.
2 Y. SHI ET AL.

China’s growth model. According to the World Bank database (http://databank.worldbank.org/data),

manufacturing accounts for nearly 30% of China’s gross domestic product (GDP) since 2013. To
achieve a more sustainable GDP growth rate, the Chinese government is encouraging manufacturing to
transform and upgrade. Financing innovative projects can improve performance at a firm while it is in
the process of transformation and innovation. To explore our research question on the role of finance
in this process, we rely on detailed firm-level data on Chinese companies.
This article contributes to the literature in the following ways. First, our article extends the
traditional concept of innovation in terms of four broad factors: technology innovation, management
innovation, cultural innovation, and business model innovation. These four factors comprise the core
competences of a firm. Taking the macro environment of an enterprise into consideration, we build a
multidimensional model, including key elements and their dynamic relationship, inspired by the
concept of total innovation management (Chen and Bei 2009; Xu 2007). We believe that innovation
flows through the entire business and operational processes of a firm. Second, we examine both debt
financing and equity financing in Chinese manufacturing enterprises, contributing to the literature on
financing as well as on emerging markets.
We use the case study research method. Given the unique institutional settings in China, companies
have found their niche in the market and a special way to survive. By carefully studying the stories of
typical firms, we are able to conclude in a comprehensive way that the influence of financing on
management, cultural, and business model innovation is positive, while the impact on technology is
mixed.
The remainder of our article proceeds as follows. In the second section, we summarizes the prior
literature, and in the third section we present our analytical framework. The fourth section outlines our
research method. The fifth section analyzes the effect of financing on innovation by analyzing multiple
case studies, and in the sixth we offer our conclusions.

Literature Review
According to Schumpeter (1934, 1942)), there are several types of innovation: technology innovation,
organizational/administrative innovation, and market innovation, etc. Knowing that financing can have
different effects on different types of innovation, we next review the literature on each type of
innovation separately.1

Technology Innovation
The literature on the relation between external financing and technology innovation at firms does not
reach consistent conclusions because the external financing of firms has different characteristics
depending on its source.
For example, obtaining bank loans, as one choice of external financing, requires information such
as an investment plan and the firm’s financial status whereas obtaining financing by issuing securities
(bonds or stocks) does not. Banks may alleviate not only managers’ moral hazards but also agency
problems between managers and creditors through a credit grading system ex ante (Aghion and Bolton
1992) and a monitoring role for their firm ex post (Diamond 1984). When firms try to fund new and
risky projects outside the banks’ experience and knowledge, the traditional criteria for bank loans may
discourage managers who are interested in investing in innovative projects and even deter them from
pursuing the projects (Rajan and Zingales 2003). Rajan and Zingales (2003) write that the direct
financing of securities is beneficial to managers who wish to engage in innovative technological
activities, as it gives them greater discretion in investment decisions on technology innovation.
 THE EFFECT OF FINANCING ON FIRM INNOVATION 3

Management Innovation
Contingency theory (Burns and Stalker 1961) states that an organization is, above all, an adaptive
system that evolves by reacting to its environment. Thus, an innovative company with financing is
ready to alter its organizational structure to achieve better future innovations. The effect of structural
formalism and centralized decision-making on innovation is still unclear. Formalism allows young
companies to clarify roles and to reduce ambiguity, therefore allowing them to concentrate their efforts
and limited resources. This, in turn, promotes effectiveness, improves morale, and increases innova-
tion. In the same way, centralization in these companies, which are distinguished from other compa-
nies by the absence of bureaucratic hierarchy, gives entrepreneurs the necessary freedom to be
assertive and commit resources (Van De Ven 1986). In contrast, at older companies, the widening of
the activity spectrum and the establishment of a relatively long chain of command weaken firms’
innovative capacity through this sophisticated formalism and increased centralization of decisions
(Walsh and Dewar 1987).

Cultural Innovation
Finance can have a positive effect on cultural innovation and further motivate technology innovation,
because technology innovation is significantly and positively correlated with a culture of continuous
improvement at the firm (Motwani et al. 1999). Moreover, employee perception of support for
innovation (Jung, Chow, and Wu 2003) is positively related with innovation. Some studies find that
staffing companies with highly educated, technically qualified, and experienced personnel with diverse
backgrounds is an important determinant of innovation (Shefer and Frenkel 1998; Souitaris 2002b).
Other human resource strategies, such as training (Baldwin and Johnson 1996; Souitaris 2002a), job
security (Michie and Sheehan 2003), motivation through the system of compensation (Baldwin and
Johnson 1996), and the annualization or modulation of work time (François, Favre, and Negassi 2002)
are positively correlated with innovation. All these human resource strategies can be implemented with
sufficient financing and will help companies obtain a qualified and motivated workforce—comprising
employees, engineers, and technicians—that is capable of creating new technologies and absorbing
externally developed technology (Hoffman et al. 1998).

Figure 1. Analytical framework.

4 Y. SHI ET AL.

Analytical Framework
Mechanism
To investigate the effect of financing on company innovation, we build a comprehensive model
including key elements and dynamic relationships, shown in Figure 1. Financing enables companies
with improved access to more capital and nonfinancial resources, including inventors and technology,
to increase firm innovation levels (Wies and Moorman 2015). The immediate cash inflow relieves a
firm’s financial constraints, which are widely accepted as a major bottleneck in innovation (Hall and
Lerner 2010; Tellis, Prabhu, and Chandy 2009). But it also brings disclosure requirements and
oversight that increase the spillover of sensitive information to competitors and reduce the benefits
from innovation (Brau and Faw 2006; Spiegel and Tookes 2008). So, we regard non-capital resources,
capital, and oversight as external factors that affect company innovation in several ways. We mainly
examine four types of innovation: technology innovation, management innovation, cultural innova-
tion, and business model innovation. Derived from the total innovation management (TIM) structure
established by Xu (2007) and Chen and Bei (2009), technology innovation, regarded as the foundation
of the core competence and the guarantee of sustainable growth, involves R&D investment, technique
innovation, new product and production optimization; management innovation indicates reform of the
management structure and system to reduce management cost and improve efficiency; cultural
innovation refers to traditions and celebrations used to encourage and motivate employees to think
about or make something new. In addition to the classic TIM structure, we introduce an additional but
necessary type: business model innovation. It sounds similar to “marketing innovation” or “new ways
to organize business” in Schumpeter (1934), but with some major differences. Schumpeter’s concept
of marketing innovation includes the implementation of a new marketing method involving significant
changes in product design or packaging, promotion, or pricing. Organizing business innovation is the
implementation of a new organizational method in the firm’s business practices, workplace organiza-
tion, or external relations. Neither describes the connotation of a business model used here. In effect,
contemporary business model innovation is only about 10 years old and has recently come into fashion
along with the flourishing of e-commerce. What is attractive about it is that it requires neither new
technologies nor the creation of new markets: It is about delivering existing products produced by
existing technologies to existing markets (Girotra and Netessine 2014). It is about trying to discover
new business opportunities and realize revenue sources by mixing and integrating products and
service.
Based on these components, the framework depicts how financing activities improve innovation
performance with these external factors caused by financing activities and drive the company to
achieve competitive advantage over time. Specifically, according to our conclusions in the literature
review, financing can have a positive impact on technology innovation. External financing makes
firms rely more heavily on buying external technologies (Bernstein 2015), and public listing can
enhance firm recognition and reputation, which can be leveraged to attract inventors and strengthen
bargaining power (Brau and Faw 2006), which can significantly accelerate technology innovation.
However, considering that some key inventors are more likely to leave to establish their own start-up
after the company goes public (Bernstein 2015), we use a bidirectional arrow between inventors and
technology innovation in our framework to connote their bilateral relationship.
Similarly, financing also influences management innovation, cultural innovation, and business
model innovation. Because of the improvement in the financial environment, a firm is likely to change
its managerial characteristics (Fischer and Pollock 2004), culture (Motwani et al. 1999), key internal
operations, and strategic activities (Wu 2006) to adapt to their increased resources, better opportunities,
and probable stricter oversight. Specifically, there are three possible theories that illustrate the effect of
financing on these dimensions of innovation. The first is peer pressure theory. As Kandel and Lazear
(1990) state, peer pressure is an effective motivator in an industrial environment. Equilibrium effort is
higher with peer pressure than without it. Hence, companies under pressure from their industrial
competitors and oversight from the stock or debt market tend to generate more innovation in
 THE EFFECT OF FINANCING ON FIRM INNOVATION 5

management, cultural, and business models. The second is the career concerns theory advanced by
Holmström (1999). Under this theory, shareholders like to attribute innovation failures, even those for
purely stochastic reasons, to poor managerial skill. As a result, concerns about the impact of innova-
tion on investors’ perception of managers’ ability, that is, career concerns, lead to an aversion to
innovation. Increased monitoring may allow investors to distinguish between unlucky negative draws
and managerial skill (Aghion, VanReenen, and Zingales 2013), which helps protect managers from
adverse reputational consequences of innovation. In private firms, where ownership is concentrated,
investors have a greater incentive to monitor managers, which gives them more incentive to innovate.
In contrast, dispersed ownership at public companies leads to lower incentives to monitor, which may
dissuade managers from innovating. The third is the quiet life theory. According to a simple variation
of Holmstrom and Tirole (1997), the theory is based on the idea that innovation is a difficult task with
some private cost, risk of failure, and deviation from standard routines (Bertrand and Mullainathan
2003). As a result, managers and employees prefer to keep their old ways instead of challenging the
so-called quiet life. In privately owned companies, investor monitoring may lead managers to lose
their jobs if they do not innovate, while, under public ownership, weaker investor incentives for
monitoring may allow managers to innovate less.
Not only does financing have an effect on innovation, but innovation in return gives feedback to
external factors, such as resources, capital, and environment. For example, if the firm is innovative, its
reputation will rise, and sales revenue will increase accordingly; then market monitors will receive the
feedback and invest more resources and capital in this firm, and inventors attracted by the fame and
salary will be keen to join in. With the enhancement of the “finance-innovation” loop, companies that
excel at technology innovation, management innovation, cultural innovation, and business model
innovation will strengthen competitive advantage in the end.

Table 1. Variable description.

Indicator of
Type of innovation innovation Measurement

Technology innovation Internal innovation Number of inventors who stay with the company
Number of patent applications
Number of patent citations
R&D expenditure
External innovation Amount of technology acquired from outside the firm
Number of flow-in inventors
Innovation quantity Number of incremental innovations
Number of new products
Innovation quality Number of breakthrough innovations
Number of innovations in categories in which the firm is not
experienced
Management Innovation Management system –
R&D structure –
Manager motivation –
Cultural innovation Employee trainings –
Entertainment –
activities
Welfare and benefit –
Business model – –
innovation
6 Y. SHI ET AL.

Table 2. Patent types at Haier in 2013–2015.

% Invention % Utility Model % Design

2013 72.2% 27.8% 0.0%

2014 62.8% 35.0% 2.2%
2015 60.6% 37.3% 2.1%

Notes: % invention, % utility model, and % design are calculated as the number of invention/number of patents, number
of utility model/number of patents, and number of design/number of patents, respectively.
Source: CSMAR database.

Measurement
According to our framework and earlier studies, we examine four types of firm innovation: technol-
ogy, management, cultural, and business model. The variables of each type of firm innovation are
described in Table 1.
Following Bernstein (2015) and Wies and Moorman (2015), we introduce four indicators of
technology innovation including: internal innovation, external innovation, innovation quantity, and
innovation quality. As Wu et al. (2013) argues, internal innovations including internal R&D are
internal firm boundaries, and the external innovations including technology mergers and acquisitions
are external firm boundaries. To capture internal innovation, we measure changes in the number of
inventors and of patents. Patenting activity reflects the quality and extent of firm innovation, and the
use of patenting activity as a measure of innovation is widely accepted (Hall, Jaffe, and Trajtenberg
2001; Lanjouw, Pakes, and Putnam 1998). The number of patent citations also captures the economic
importance of the innovation, as it correlates with a firm’s market value (Hall, Jaffe, and Trajtenberg
2005). Another widely used measure, R&D expenditures, is mentioned at the beginning of every case
but might not be calculated in the analysis. This is because research finds that R&D expenditures are
not deterministically related to a product introduction’s timing (Lerner, Sorensen, and Strömberg
2011), and different accounting rules make R&D expenditures a noisy measure of innovation (Hall
and Lerner 2010). However, we regard the proportion of R&D expenditure to revenue and asset
according to a reference value. Hence, we select the number of patents and patent citations produced
by inventors who stay with the company as a measure of internal innovation.
We divide external innovation into technology acquired externally and newly hired inventors. We
follow Bernstein (2015) and count the number of the technologies or patents obtained through M&A
or purchased directly and the number of new inventors who are hired or recruited after the related
financing activities, according to earlier literature.
To measure innovation quantity, we collect the number of total new products introduced in a given year and
the number of incremental innovations. To define incremental innovation, Munson and Pelz (1979) argue that
incremental innovations are minor improvements or simple adjustments in current technology. The major
difference captured by breakthrough innovation (which we talk about below) and incremental innovation is
the degree of novel technological process content embodied in the innovation and, hence, the degree of new
knowledge embedded in the innovation. Rogers (2003) conclude that incremental innovations are less
complex and are more compatible with complementary products currently being used. And incremental
innovations are more likely to cannibalize existing products from the firm, which, depending on margins, may
reduce firm profits (Wies and Moorman 2015).
To capture innovation quality, we measure the number of breakthrough innovations and the number of
innovations in which the firm has no previous experience. As previous papers have argued, stock returns are
seven times larger for breakthrough innovations than for incremental innovations (Srinivasan et al. 2009), and
breakthrough innovations have a higher impact on Tobin’s q and abnormal stock returns than incremental
innovations (Sorescu and Spanjol 2008). Moreover, breakthrough innovations are more likely to grow
 THE EFFECT OF FINANCING ON FIRM INNOVATION 7

markets and to create loyal customers (Wies and Moorman 2015). When a company introduces an innovation
in a category or industry in which it has no experience, we call that kind of innovation “innovation in new-to-
the-firm category.” Hence, breakthrough innovation and innovations into inexperienced categories can reflect
firm innovation quality.
Financing may have some impact on three aspects of management innovation. First, affordable
financing is critical for building and improving management systems, including quality and information
systems. Quality management is also considered a source of competitive advantage for companies and a
valuable tool in market competition (Crosby 1979; Dale and Plunkett 1995; Deming 1982), and it can be
conducive to fostering innovation (Martínez-Costa and Martínez-Lorente 2008). In this section, we
examine how sufficient cash inflow influences companies to deploy advanced management systems,
such as total quality management (TQM), customer relationship management (CRM), or enterprise
resource planning (ERP). Second, we investigate whether the R&D structure has improved or totally
changed. Third, agency problems associated with financing, such as entering public equity markets, may
undermine managers’ incentives for innovation (Berle and Means 1932; Jensen and Meckling 1976).
According to the career concerns hypothesis (Holmström 1999) and the quiet life hypothesis (Bertrand
and Mullainathan 2003), financing brings in new investors who offer different monitoring and oversight,
which can significantly affect managers’ incentives for carrying out innovation.
We evaluate the effect of financing on cultural innovation with some apparent and direct indicators,
such as whether it leads firms to improve worker training and entertainment in terms of both frequency
and quality, and whether the company improves staff welfare and benefits.
In business model innovation, it is not usual to see a firm change or establish a new business
model after receiving financing. Thus we give a detailed analysis only if the sample company is
relevant to this situation, and if not, we deal with this issue briefly. We investigate whether and
how the company changes its business model vertically (lengthen the value chain) or horizontally
(involve new business). However, the sample limitation should not be interpreted as a rejection of
the conclusion that financing has no effect on business model innovation. We give the related
conclusion in our first case.

Research Method
Case Study
Limited research has been conducted on the relationship between financing and innovation, with few case
studies related to empirical research. According to the conventional wisdom, empirical research is more
reliable for revealing overarching principles, but case studies can provide a deep analysis of certain phenom-
ena and show how results change across cases (Flyvbjerg 2006). We can reach conclusion more effectively
with a large number of thoroughly executed case studies (Kuhn 1987). The theory that results from building on
case studies is often novel and testable (Eisenhardt 1989). Because most existing research is conducted
empirically, we think it is worthwhile to study some typical companies and to generalize the effect of financing
on enterprise innovation presented in earlier quantitative analysis. Additionally, according to Dorrucci, Pula,
and Santabárbara (2013), as a representative emerging market, China is still using a producer-biased and
export-led growth model that is unsustainable in the long run. This model tends to engender, as an inherent by-
product, serious imbalances that cannot be addressed without a fundamental overhaul of the model itself.
Therefore, the political will to redirect China to a growth model that is more sustainable is needed. Under
current circumstances, companies have their own course to sail. Too many control variables need to be
introduced in the empirical analysis with possible endogeneity problems. Therefore, we believe that studying
representatives of typical Chinese companies can lead to sound conclusions. For the reasons given above, the
case study method is a necessary and sufficient method for this research.
8 Y. SHI ET AL.

Company Selection
This article presents multiple cases of companies that are highly motivated to engage in innovation and
have the capacity to do so. We focus on a traditional but pivotal industry: manufacturing.
For some time now, attention worldwide has focused on the role of finance in internet-related
industry, but lately it has turned back to manufacturing, as seen in development plans introduced by
various leaders. In the United States, plans for developing manufacturing were articulated in the US
Manufacturing Enhancement Act passed in 2010 under President Barack Obama, and in his campaign
speech in June 2016 Donald Trump vowed to “bring manufacturing back to the US.” The European
Union promotes the “Reindustrialization of Europe” and “Industry 4.0,” first introduced by the
German government in 2013. The latter program consists of digitizing industrial production and
outlines a vision of smart factories.
Around the same time, China unveiled its national development plan for transforming Chinese manu-
facturing, titled “Made in China 2025,” introduced by Premier Li Keqiang in March 2015. The plan proposes
a three-step strategy for transforming China into a leading manufacturing power by 2049. This plan, which
has a significant emphasis on innovation, is designed to put China on a new path to industrialization.
Manufacturing is broad and diverse, however, so we needed to narrow our focus to avoid
diluting our conclusions because of the influence of different levels and types of manufacturing
companies. Therefore, we selected our sample companies from light manufacturing and heavy
manufacturing.2
We selected companies based on the following criteria. To be considered, a company had to:
1. Be a leading company in a specific category (based on revenue, market share, and reputation).
2. Be in operation for more than 10 years, with abundant financial information and innovation
details.
3. Show engagement in significant financing behavior, involving either equity or debt.
4. Have high availability of sufficient materials and data, such as site visit record and survey
results.
The first criterion ensures high reliability and representativeness of the sample in the specific field.
Prominent companies are usually worth studying because of their strong R&D capability and manu-
facturing capacity.
The second criterion ensures that the sample companies have survived their first three to five years,
which are the most challenging according to the enterprise life-cycle theory, and have a relatively
stable organizational structure and business model. We chose the specific threshold of 10 years
because the length of a typical fixed investment cycle (called a Juglar cycle) is around 10 years
(Korotayev and Tsirel 2010). We assume that manufacturing firms that have experienced an entire
Juglar cycle have developed a spirit of innovation in order to survive.
This article is trying to reveal how financing affects company innovation supported by the third
criterion. Companies must have already obtained financing from capital markets or credit markets to
qualify for this study.
The fourth criterion ensures that we can obtain the information and data required for unbiased,
accurate, and comprehensive results.
Based on these criteria, we selected four companies:
● M&G Chenguang Stationery3 and Haier4 in light manufacturing,
● CRRC Qingdao Sifang5 and SAIC Motor6 in heavy manufacturing.
We obtain the SIC code for each company from the official website of China Securities Regulatory
Commission (http://www.csrc.gov.cn/pub/newsite/).
 THE EFFECT OF FINANCING ON FIRM INNOVATION 9

Data
The empirical setting for our study is the manufacturing industry—a key economic sector in China in terms of
employment and share of GDP. From 2015 to 2017, manufacturing comprises about 30.53% of GDP and
22.31% of employment in industry on average.7 It also contributes outstanding stock market performance by
an average annual growth in total returns to shareholders of 42.97% over the past decade8 . Importantly for
our study, the sector heavily relies on innovation as a growth strategy (Sorescu and Spanjol 2008).
To conduct our case study research, we assembled a dataset from several sources:
● The Incopat database (www.incopat.com), for information on technology citation, patent applica-
tions, and operations;
● The China Stock Market and Accounting Research (CSMAR) database, for information on
financing behavior, including the type and scale of financing activities and innovation character-
istics such as the number of new products, inventor turnover, and R&D expenditure;
● The Wind database, for financial data including assets, liabilities, revenue, and profit;
● The Shanghai Security Exchange (SSE) database and the Hong Kong Exchange News database,
for basic information including management structure and business model in annual reports and
other important announcements;
● Additional information and data on firm characteristics, operational mechanisms, incentive
systems, and strategy roadmaps from various sources, including field investigations, question-
naires, and interviews with managers at different levels and employees.

Company Background
M&G Chenguang Stationery
Founded in 1996, Shanghai M&G Stationery (henceforth, M&G) is a Chinese-based company
mainly engaged in the research and development, design, manufacture, and sale of general
stationery, including writing instruments, student stationery, and office stationery. The company
is also involved in the development of fine stationery experience centers, the provision of one-
stop office service platforms, as well as internet and e-commerce platforms. With a 300,000-
square-meter industrial park and over 10,000 employees, M&G is the premier comprehensive
stationery manufacturer and supplier in China and has exported products to 35 countries.9

Haier
Haier Group was founded in 1984 and is headquartered in Qingdao, China. The company focuses
mainly on the production and sale of “white goods,” such as refrigerators, freezers, washing machines,
air conditioners, water heaters, kitchen appliances, small appliances, and smart home appliances. It
also provides integrated services such as logistics and product distribution.10

SAIC Motor
SAIC Motor Corporation Limited (henceforth, SAIC Motor) is the largest auto group in China, head-
quartered in Shanghai. It provides research, production, sales, and logistical services for vehicles (pas-
senger cars and commercial vehicles) and components (engines, gearboxes, powertrains, chassis, interior
and exterior, and electronic components). It also offers vehicle telematics, second-hand vehicle trading,
and auto financing services. Vehicle companies affiliated with SAIC include Morris Garages, SAIC Motor
Commercial Vehicle, Shanghai Volkswagen, Shanghai General Motors, Shanghai General Motors Wuling,
Nanjing Iveco Automobile, SAIC-IVECO Hongyan, and Shanghai Sunwin Bus Corporation.11
10 Y. SHI ET AL.

CRRC Qingdao Sifang

As the core and prominent subsidiary of China Railway Rolling Stock Corporation (CRRC),
Qingdao Sifang is China’s leading industrialization base for designing, developing, manufactur-
ing, and maintaining high-speed rail trains and subway, intercity commuter, and light rail cars
and an important export manufacturing base for national rail transportation equipment. It exports
to more than 20 countries. Headquartered in Qingdao, a maritime and land transportation hub,
Sifang began as a German locomotive works in 1900. With its record on rolling stock research
and manufacture, Sifang has accumulated a highly serialized product portfolio, covering high-
speed and intercity electric motor-train units (EMUs) at different speeds and with different
composition.12

Case Studies
M&G Chenguang Stationery
Innovation Generalization
Because of its advantages in designing, branding, marketing, and funding, M&G holds an advanta-
geous position at the both ends of the “smiling curve,” and its market share is likely to grow steadily.13
Figure 2 illustrates the firm’s R&D expenditures and their proportion of revenue and assets from 2013
to 2016.

Financing Activities
After operating for 18 years, M&G listed on the Shanghai Stock Exchange in January 2015 at RMB
13.15 per share, raising RMB 789 million. The funds will be used mainly for marketing network
expansion and upgrades, as well as the construction of manufacturing R&D bases for writing
instruments. The net value per share rose from RMB 2.93 before listing to RMB 4.15 after its initial
public offering (IPO). The major shareholders and majority owners are Chen Huwen, Chen Huxiong,
and Chen Xueling, who have a combined 71.5% stake after the IPO, which indicates a high
concentration of equity ownership.

120 7.00%

100 6.00%
5.00%
80
4.00%
60
3.00%
40
2.00%
20 1.00%
0 0.00%
2013 2014 2015 2016

R&D (RMB million) % of Revenue % of Asset

Figure 2. R&D at M&G, 2013–2016. Source: M&G annual reports and CSMAR database.
 THE EFFECT OF FINANCING ON FIRM INNOVATION 11

Technology Innovation
Internal Innovation. As seen in Figure 2, R&D expenditures increased every year before M&G’s
IPO in 2015, with a peak that year at RMB 105 million. However, the year after IPO it declined by
10.8%, and the total was even less than that in 2014 and 2015. In terms of capital, internal R&D seems
to fall after the IPO, and patents the year after the IPO declined to 374, a dip of 20.4%. Although the
number of patents the next year increased to 428 (rising 14.4%), the total was still below the 470
before the IPO. This trend is consistent with ones seen in earlier studies. Agency problems between
management and shareholders, in the form of career concerns or the quiet life hypotheses described in
the mechanism section, can impede internal innovation at firms.

External Innovation. M&G attracted more researchers after its IPO. The number increased to 357
(an increase of 8.8%), comprising 10.3% of all employees in 2016. However, M&G has never
purchased any external patents, designs, or technology and relies completely on in-house R&D.
Until recently, it rarely sought to acquire another company, but in June 2017, M&G announced its
acquisition of Office Depot (a leading e-commerce office supplier). This acquisition offers a retail
sales outlet and should help M&G gain market share as well as build on its existing strength in office
sales. Synergies will boost M&G’s offline channels, production advantage, and capital platform.

Innovation Quantity. As a leading creative stationery manufacturer, M&G launches thousands of

new products every year. After its IPO, the number of new products increased rapidly, with double-
digit growth every year, to 2262 in 2016. The firm begins its R&D by exploring customer demand and
then creating production processes, which can help them pitch and position their goods more
accurately. In this way, each innovation leads to the manufacture of a variety of products. For instance,
product families including colored pencils (with many subvarieties), markers, and water-color paint
brushes. In a similar fashion, multiple new products have been released in other product families: gel
and ballpoint pens, propelling pencils, and calligraphy brushes. This kind of incremental innovation
offers minor new benefits but helps to satisfy customer desire for variety within a segment and appeals
to many different customer segments. Moreover, offering more variety increases the firm’s shelf space
at retailers, which prevents competitors from expanding their displays.

Innovation Quality. Before its IPO, M&G had the most advanced technology and the most complete
production line in the industry. Other than the MIKRON-24 machine tool (imported from Switzerland)
and the mold machine tool, all its processes and equipment were produced in-house. Nonetheless, the
pen nib that M&G produces can compete with those from the well-known Swiss company Premec,
and its ink compares favorably with Japanese inks. After its IPO, M&G built a national key laboratory
to help it maintain its technological advantage and develop further.

Management Innovation
Before its public listing, M&G had already received the ISO certification. The additional money from
the IPO funded investment for building and improving some of its operating systems. For instance, the
company imported a FineReport business intelligence platform and built an office automation system
(OAS) in 2015. A manufacturing execution system (MES) was deployed in 2016 to eliminate paper
records, which helped to improve the accuracy, efficiency, and controlling power throughout the
production process. At the same time, it improved and upgraded its electronic public relations
(EPR) system, distribution resource planning (DRP), customer relationship management (CRM), and
e-business suite (EBS). This accelerated improvement in its operating systems also upgraded its
internal oversight and reputation maintenance.
12 Y. SHI ET AL.

Figure 3. The R&D structure of M&G before and after IPO.

Another big area of management innovation after the IPO was the restructuring of the research and
design division (see Figure 3). Previously, it consisted of several divisions, including product planning,
product design, and mold design; they were orderly but rigid and sometimes slow. The company
reorganized those functions, establishing a novel R&D center based on people, which means that
divisions formerly identified by its function were now identified by the person who is the chief talent
or specialist in a particular field. Although the old structure seemed relatively flat and efficient,
different divisions frequently overlapped, which leads to inefficiency and a loss of quality. For
example, if two separate teams were responsibility for addressing an issue, they both wanted to be
in charge. As a result, progress on the task is delayed because it was not clear who was the leader. In
the new organizational structure, specific individuals rather than divisions could take the initiative and
responsibility for an assignment. They are able to deliver a completed task directly and quickly to the
division or team leader—with no overlap, no excuses, and no unfinished tasks. This looks a little
bureaucratic from the perspective of classic management theory, but this system achieves efficiency
and quality.
In evaluating the manager’s motivation, we derive a somewhat different conclusion from the earlier
literature. Managers remain highly motivated to innovate, independent of short- or long-term profit.
That is not what the quiet life hypothesis or career concerns theory suggests: that a manager has
myopic incentives and values profit the most. We analyze the reason for this result and attribute it to
the relatively high concentration of ownership. After the IPO, the Chen family, founder of the
company, retains control, which ensures fewer agency problems. Under their monitoring, managers
are willing to do what the big shareholders want them to do.

Cultural Innovation
M&G had a strong innovation environment when we conducted our field investigation. From the slogans
posted in their office to their research laboratory, to their factory, creativity is recognized as an important
core value almost everywhere in the industrial park. Based on this vision and culture, in 2016, after its
IPO, the company organized 135 in-house training sessions and 70 off-site learning opportunities. Some
social activities, such as events and parties, were held biweekly. Experienced inventors voluntarily
taught new employees and helped them to develop their skills quickly. Its Research Division has a
regular study program with the Manufacturing Division. Typical incentives, such as project bonuses and
promotions, existed before the IPO. After the firm went public, many new initiatives were introduced, for
example, supporting outstanding inventors and managers and funding trips for them to go to Europe and
Japan to study advanced technology and management. Additionally, a promotion and training program,
called MT, identified outstanding new graduates for their management potential.
 THE EFFECT OF FINANCING ON FIRM INNOVATION 13

Business Model Innovation

M&G started as a traditional stationery manufacturer. After operating successfully for almost 20 years,
the company enlarged the range of its business, even entering a relatively unknown area with the
assistance of capital raised on the stock market. The founding of M&G Colipu and M&G Life were
two critical steps in the transformation of M&G from a stationery manufacturer to a comprehensive
supplier of office services and one-stop shop. M&G Colipu, directly led by the company chairman,
Chen Huwen, has expanded from traditional stationery to office equipment (e.g., printers and com-
puters) for customers that include local governments, large public institutions, and enterprises.
Because of its inherent advantage over its competitors in R&D and effective distribution channels,
Colipu quickly achieved considerable success, supported by a group of employees whose average age
is under 30. With more than 30,000 products and 16,300 customers (including more than 20 Fortune
500 companies), Colipu increased its revenue by 126.8%, to RMB 515 million, in 2016 over the
previous year. In another attempt to branch out, the firm opened M&G Life, led by the company
president, with the aim of becoming the Chinese equivalent of Muji (a popular Japanese retailer
offering stationery, household items, and apparel). Revenue for the entire firm rose by 168.8% over the
previous year, reaching RMB 151 million. A total of 173 M&G Life sales offices and 2 M&G shops
are now open throughout China. The company plans to continue to earn customer loyalty and become
a premier source of fashionable stationery and other household items.

Competitive Advantage
This nearly 20-year-old stationery manufacturer, instead of relying on steady profits in the traditional way,
continuously engaged in creating and innovation, improving operating systems and exploring new
business opportunities, especially after its IPO. Going public generated changes in external factors,
including capital availability, access to non-financial resources, and oversight. All these elements catalyzed
reactions by internal factors to achieve synergy. Technology innovation steadily progressed, supported by
an improved management structure and information system, and was facilitated by a culture of creativity
and a sustained training and promotion program. After accumulating enough experience and resources, the
firm turned to new businesses with large margins and stable and rapid growth.14

3,500 4.00%

3,000 3.50%
2,500
3.00%
2,000
2.50%
1,500
2.00%
1,000

500 1.50%

- 1.00%
2011 2012 2013 2014 2015 2016
R&D (RMB million) R&D/revenue (%) R&D/asset (%)

Figure 4. R&D characteristics at Haier in 2011–2016. Source: Haier annual reports and CSMAR
database.
14 Y. SHI ET AL.

Figure 5. Haier’s innovative dynamic network. Source: Haier official website.

Figure 6. The driving mechanism of Haier’s management innovation. Source: Haier’s official website.

350 330

300 269
250
200
150 133
99
100
43
50
9
0
2Q15 3Q15 4Q15 1Q16 2Q16 3Q16

Figure 7. Sales volume of Haier’s customized products (1000 units). Source: CICC research database.
 THE EFFECT OF FINANCING ON FIRM INNOVATION 15

Haier
Innovation Generalization
The Haier Group is the world’s leading brand in major household appliances based on sales and is
transforming itself from a traditional manufacturer to an open entrepreneurship platform. Figure 4
shows the characteristics of R&D at Haier in 2011–2016.15

Financing Activities
Investors are attracted to Haier for its special characteristics, such as good products and high service
quality, and the company has seized opportunities to leverage resources from KKR and Alibaba,
including the following.16
● In October 2013, Qingdao Haier introduced KKR as a strategic investor to acquire a 10.0% stake
of RMB 3.4 billion, at RMB 10.83 per share.
● In December 2013, Alibaba bought a 9.9% stake in Goodaymart, an integrated service Haier
brand, together with convertible bonds for HKD 2.8 billion.

Technology Innovation
Internal Innovation. Although Haier applied for 212 patents in 2013, 320 in 2014, and 381 in 2015,
the rate of growth in number of patent applications declined after equity financing from KKR and
Alibaba in 2015; the year-on-year growth rate was 50.9% in 2014, but fell to 19.1% the following year.

External Innovation. In 2015, Qingdao Haier had plenty of cash, which it used to acquired Haier
Group’s overseas consumer appliance assets, which included R&D centers in Japan, Europe, and the
US. Haier completed its acquisition of GE in 2016, helping the company to establish a localized and
integrated model of design, manufacturing, and marketing on a global scale. These mergers and
acquisitions have a positive effect on Haier’s ability to engage in technology innovation.
Haier experienced technology and inventor inflow from acquired firms, which it is using to create
new products. For example, after acquiring Fisher & Paykel and Sanyo’s Southeast Asia business,
Haier leveraged the technologies and inventors it obtained to develop a line of ultra-quiet washing
machines and ultra-thin air conditioners.
At the same time, using its resources, the Haier Group built a worldwide network in manufacturing,
R&D, and trade. By leveraging Haier’s global R&D resources, Casarte, one of the few successful
domestic high-end brands developed in-house, has prospered. Casarte’s average unit price (refrigera-
tors and washing machines) is more than double the sector average in China. According to China
Market Monitor (CMM), in the first half of 2016 Casarte accounted for 54.3% of the refrigerator
market and 61.5% of the washing machine market at prices above RMB 10,000.

Innovation Quantity. Casarte has continually introduced new products. For example, new refrig-
erators include the third-generation the French-style Rondo, six-door models, and Italian-style three-
door models. In washing machines, the second-generation Yunshang series of compound washing
machines are noteworthy for their multifunction.
Furthermore, input from external technologies, inventors, and ideas has encouraged Haier to win
consumers by developing a larger variety of products with fashionable designs and the leading
technologies. In 2015 Haier unveiled an air-suspension compressor refrigerator, which has better
energy savings and temperature control, and in 2016, it launched a refrigerator without a compressor.
In 2010 it introduced a washing machine with more stable operations and less noise and in 2015 a
16 Y. SHI ET AL.

washing machine that did not need regular self-cleaning. Leading technologies, such as an Fisher &
Paykel Appliances direct-drive motor, undergird all these innovations.

Innovation Quality. Categories established by the State Intellectual Property Office distinguish
invention, utility, and design patents. As shown in Table 3, among these types, inventions account
for fewer patents over time, declining from 72.2% of patents in 2013 to 60.6% in 2015. Since 2014,
the patent grant time for Haier has gotten longer. Invention grants are the highest-quality type of patent
(Zhang, Li, and Ho 2017), and a shorter grant time reflects higher quality, so the longer grant time may
indicate that the quality of Haier’s internal innovation began to decline after it received financing.
Haier noticed the tradeoff between financing and a decline in internal innovation and knew that it
could not achieve breakthroughs in product innovation relying on internal ideas alone. To address this
issue, the company established an internal product development and venture capital platform by
creating small teams and leveraging the support from capital markets. This move is part of Haier’s
plan to escape the restrictions of being a large enterprise.

Management Innovation
Innovative Dynamic Network Organization. To better balance between financing and innovation,
Haier Group’s CEO, Zhang Ruimin, implement an innovative management philosophy to convert a
traditional closed hierarchical system into a networked node organization, integrating first-class
resources from around the world in an open way.
The logic shown in Figure 5 is as follows: an organization is usually a pyramid, with employees at
the bottom and leaders at the top. People at higher levels give orders to those at lower levels, and
subordinates are supposed to obey their superiors. In the process of promoting its win-win model
combining individuals and goals, Haier flattened the organization into a dynamic network.
Haier is exploring ecosystems in a platform organization. Having a platform organization means
resources are mobilized and dispersed on demand, and employees work either on site or remotely
online. The employees, who used to wait for directions from the upper levels and take orders passively,
now become interfaces linked to resources. Haier calls this platform HOPE (Haier Open Partnership
Ecosystem), which is designed to be an incubator for competitive smart products in the future.17

The Driving Mechanism. To ensure the smooth transition of employees, divisions, and enterprises,
in 2015 Haier focused on the construction of two major platforms—the investment-driven platform
and the user payment platform. The investment-driven platform shown in Figure 6 is meant to
transform the enterprise from a control organization to an endlessly entrepreneurial ecosystem and
provide financial support for entrepreneurs at different stages of business. Haier aims to use financial
power to drive its managerial innovation (see the Supplementary Material for an illustration, available
online).

Cultural Innovation
The main guiding principle in Haier’s enterprise culture is “Human value comes first,” and staff
members are no longer employees and managers but, rather, entrepreneurs and dynamic partners.
In 2016, using funds raised through financing, Haier launched several equity incentive plans and an
employee stock ownership plan to improve staff welfare and benefits. In addition, the company offers
flexible training programs for employees to improve their skills.
 THE EFFECT OF FINANCING ON FIRM INNOVATION 17

7,000 3.00%

6,000
2.50%
5,000

4,000 2.00%

3,000 1.50%
2,000
1.00%
1,000

- 0.50%
2008 2009 2010 2011 2012 2013

R&D (RMB million) R&D/revenue (%) R&D/asset (%)

Figure 8. R&D characteristics of SAIC Motor in 2008–2013. Source: SAIC Motor annual reports and
CSMAR database.

Business Model Innovation

Haier is trying to transition from large-scale manufacturing into large-scale customization to meet
client customization demands and achieve industrial upgrading. In 2015 the firm launched customized
home appliances, in which consumers order customized products on platforms such as diy.haier.com
and www.ehaier.com. For instance, consumers can choose the capacity, temperature control method,
door materials, and design for refrigerators, the capacity, color, and window type for washing
machines, and the power, appearance, and additional functions for air conditioners. They can even
observe the customization process online. Since this service was launched, it has enjoyed rapid
growth, and sale volume in the third quarter of 2016 reached 330,000 units according to Figure 7,
showing a large potential consumer market.
The customization service was initiated based on Haier’s leading role in smart manufacturing and
logistics. With financial support from strategic partners, the firm set up seven internet factories and
seamless, visible, and transparent manufacturing in 2015.

Competitive Advantage
Haier’s vision and mission are to become the leader in the industry and the first choice of users, as
well as the top competitive solution provider for consumer products. The management innovation

Table 3. Use of proceeds.

Capital demand Proceeds to be invested
Purpose (RMB billions) (RMB billions)

1 Proprietary brand’s passenger vehicle investment project 60.471 55.310

1. Proprietary brand’s passenger vehicle project (second phase) 36.720 35.060
2. Proprietary brand’s passenger vehicle R&D project 23.751 20.250
2 Proprietary brand’s business vehicle investment project 11.785 11.785
3 Double-clutch automatic transmission assembly project 6.565 5.965
4 Construction of technology center 28.040 26.940
Total 106.861 100.000

Source: SAIC Motor official website.

18 Y. SHI ET AL.

Table 4. Invention characteristics of SAIC motor in 2010–2012.

No. of applications First-year grant Second-year grant Third-year grant Fourth-year grant Grant rate

2010 90 0 1 3 9 73.3%
2011 94 0 0 0 11 45.7%
2012 114 0 0 2 11 11.4%

Source: CSMAR database.

has helped Haier establish a co-creating and win-win ecosystem centered on users that can achieve
win-win results for ecosystem stakeholders. In return, the platform nurtures technology innovation,
cultural innovation, and business innovation. In other words, the four types of innovation have a
synergistic effect due to the effective use of financing, further enhancing Haier’s competitive
advantage.18

SAIC Motor
Innovation Generalization
As China’s largest carmaker and a Fortune 500 company, SAIC is accelerating crossover technological
innovations as well as its global business. Figure 8 shows Haier’s R&D expenses, R&D/revenue, and
R&D/assets in 2008–2013.19

Financing Activities
In 2010, SAIC Motor privately issued 720.98 million A-shares at a price of RMB 13.87 per share and
received gross proceeds of approximately RMB 10 billion. Shanghai Automotive Industry Corporation
(Group), the company’s largest shareholder, purchased 10% of these privately issued shares, with a
total value of RMB 1 billion. Table 5 details how the proceeds were used.

Technology Innovation
Internal Innovation. The firm applied for 322 patents in 2010, 310 in 2011, and 379 in 2012. This
shows that the year after the non-public offering the number of patent applications declined, but two years
later, it began to rise again. In 2010 the growth rate year on year was 98.8%, but in 2011 it was −3.7%.
Agency problems between management and shareholders, in the form of career concerns or the quiet life
hypotheses, described in the mechanism section, can hinder firms from engaging in internal innovation.

External Innovation. In 2011, SAIC Motor purchased assets worth RMB 29 billion from Shanghai
Automotive Industry Corporation (Group), by privately issuing 1.76 million A-shares at a price of
RMB 16.53 per share. The underlying assets comprise 19 patents from Shanghai Automotive Industry
Corporation (Group), of which 16 were transferred to SAIC Motor. In this way, SAIC Motor acquired
16 external innovations directly through equity financing.

Innovation Quantity. With the help of the patents acquired and other internal technologies, SAIC
Motor and its subsidiaries achieved the following in 2011:
● National product announcements: 1017 (whole vehicle)
● New declarations in the environmental protection catalogue: 587
● New applications of product 3C compulsory certification: 243
 THE EFFECT OF FINANCING ON FIRM INNOVATION 19

It is clear that technology innovation has a significant impact on the company’s product develop-
ment and sales promotion, 81.8% of which came from new products.

Innovation Quality. As the core innovation capacity of a company is reflected by inventions, we

take a closer look at the invention characteristics of SAIC Motor, as illustrated in Table 6. Since
2011, although the number of applications each year increased slightly, the patent grant time for
SAIC Motor has been longer. In addition, since 2010 the grant rate, defined as the number of
inventions granted by the government divided by the number of invention applications, has fallen.
Both the grant time and grant rate seem to indicate that the quality of SAIC Motor’s internal
innovations declined after it received financing.

Management Innovation
With financial support, SAIC Motor hopes to prioritize innovation, and so it reoriented its organizational
structure. It established several new departments, such as the Strategic Research and Knowledge Information
Center, the Foresight Technology Research Department, the Technology Management Department, the
Information Strategy and Systems Support Division, and the International Business Department.

Cultural Innovation
SAIC engineers created an innovation forum and thereafter organized 87 engineer forums, with
topics including new technology development, which dominated the forums held in 2016. On the
“engineer’s home of innovation” platform, engineers enjoy not only a relatively relaxed discussion
environment but also legal support for future innovation, allowing them to form their own Silicon
Valley.
SAIC Motor’s financing strategy has permitted the creation of a new management incentive plan to
encourage better performance and will help sustain the company’s future growth.

Business Model Innovation

SAIC Motor is extending its value chain in the new economy based on its transformation strategy. Its
auto e-commerce, internet car, and auto financing business will not only complement its car manu-
facturing business and enhance its brand value but also foster new drivers of growth. These businesses
are expected to grow rapidly.
Specifically, in addition to creating chexiang.com, China’s first e-commerce vehicle company,
SAIC Motor launched achezhan.com, an after-sale service chain company, in October 2014 to
exclusively target the after-sales service market. It was also the China’s first after-sales service chain
company founded by a vehicle manufacturer.
SAIC Motor is extending value chain in new economy based on its transformation strategy.
● In 2014 the company introduced the first O2O auto project.
● The financial business unit in the first quarter of 2015 and the loan balance of GMAC-
SAIC Motor and SAIC Motor Finance, companies focusing on auto finance, reached nearly
RMB 50 billion and RMB 40 billion respectively, keeping pace with some city commercial
banks.
● As regards service trade, Anji Logistics is expected to bring rapid profit growth to SAIC Motor.
20 Y. SHI ET AL.

2000 7.00%

1500 6.00%

1000 5.00%

500 4.00%

0 3.00%
2010 2011 2012 2013 2014

R&D (RMB million) R&D/revenue (%) R&D/asset (%)

Figure 9. R&D characteristics of Sifang in 2010–2014. Source: SCR annual reports and Sifang site visit.

Table 5. Details of the two financing rounds.

Capital raised by CSR Invested in Sifang
(RMB billion) Interest rate (RMB million)

2011 2 5.38% 890

2012 2 4.38% 1170
Total 4 2060

Source: CSR annual reports and company announcement, issuer bank records.

Competitive Advantage
By tapping the capital market, especially venture capital and mergers and acquisitions, SAIC
Motor experienced rapid growth in technology innovation with the use of local innovation
incubators, accelerators, and other resources. Financing first affected technology innovation,
which promotes management innovation and business model innovation. To better facilitate
business model innovation, staff are encouraged to innovate every time and everywhere, changing
the traditional enterprise culture. Synergistic effects further enhance the company’s core
competence.20

CRRC Qingdao Sifang

Innovation Generalization
China Railway Rolling Stock Corporation (CRRC) Sifang has competitive innovation capacity in
researching, developing, and manufacturing high-speed EMUs (electric motor-train units) and intercity
EMUs. Figure 9 shows Sifang’s R&D expenses, R&D/revenue, and R&D/asset in 2010–2014.21

Financing Activities
Before CSR and CNR merged in 2015, Sifang was a subsidiary of CSR and had little ability to tap the
capital market directly. Money came from the parent firm in an internal transaction. Hence, we
investigate the financing activities of CSR and CRRC (after the merger) in recent years, and filter
specific capital that flowed into Sifang. CSR floated short-term bonds in late 2011 and early 2012. We
traced the part of these two bond-funded capital projects that was invested in Sifang for the research,
 THE EFFECT OF FINANCING ON FIRM INNOVATION 21

design, and manufacture of new high-speed railway cars and intercity commuter trains. Table 8 shows
the details.

Technology Innovation
Internal Innovation. As seen in Figure 9, after the financing rounds in 2011 and 2012, the ratio of R&D
to revenue and assets both decline significantly, to 15.4% and 30.2% respectively. As important indicators
of internal innovation, these ratios show that the company contributed less to internal invention based on
revenue. Another pivotal indicator is that the number of patents increased yearly, but the growth rate
slowed sharply, to −45.6% in 2013 and −86.9% in 2014, after capital infusion. This is compelling evidence
that internal innovation contracted after the financing was received. This might be because the company
prefers to spend on purchases of external technology rather than study new technologies in house.

External Innovation. After receiving financing from capital markets, Sifang remained focused on
enlarging and improving its research team, which numbered 1689 at the end of 2014, 21.6% of the
staff. Although the growth rate did not greatly change after the financing came on board, the
structure and composition of the R&D team became stronger. The team in 2014 consisted of 27
researchers with PhDs, 549 with master’s degrees, and 236 leading master technicians, which
represented increases over the levels in 2012. This implies that the firm used the fresh capital to
attract graduates with higher education and research achievements and more professional and more
highly skilled specialists.
In 2003–2006 Chinese high-speed rail manufacturers went on a foreign technology acquisition
spree during the initial stage of development. Now, however, fewer overseas purchases for new
technology are made, in part because China has built its own R&D structure and mastered the design,
manufacturing, and detection process, including electrical power systems, braking and security
systems, materials technology, and signal-control systems. In some of these systems, Chinese firms
are using the leading technology in the world. Nevertheless, with the support of the capital inflow,
Sifang purchased BOGE Rubber & Plastics from the German auto parts maker ZF to improve its
noise-cancelling technology.

Innovation Quantity. With the capital inflow, Sifang expanded so that it could manufacture more
new products and a larger variety of each innovation, including core equipment, electrical and signal-
control systems, and new passenger cars. The revenue from new products increased by 19.7% in 2013
over the year before, in comparison with a decline of 6.18% in 2012, which reflects the impact of
financing.

Innovation Quality. To maintain its leading position in the industry, Sifang has continually propelled
radical innovation, with 15 breakthrough inventions from 2010 to 2014, mostly in 2010 and 2012. For

Table 6. Breakthrough innovation applications and adoptions at Sifang.

No. of applications No. of adoptions Rate of adoption

2010 6501 6347 97.6%

2011 11,020 10,081 91.4%
2012 19,960 18,514 92.7%
2013 13,456 11,820 87.8%
2014 13,610 11,472 84.3%

Source: Company data.

22 Y. SHI ET AL.

Table 7. Training and researcher salaries at Sifang (in RMB).

2010 2011 2012 2013 2014

External training 741 1260 1173 888 1566

Exchange learning 50 75 160 228 300
Average salary of researchers 104,439 112,311 128,199 135,010 162,436
Average training expenditure 1596 2374 1746 3357 4952
Bonus as % of salary 43.7% 49% 36.5% 37.4% 56.2%

Source: Company data.

example, in 2012, Sifang successfully developed the first intercity EMU in China and set up a new
technical platform for intercity EMU called CINOVA. In 2011, the National Engineering Research
Center for High-speed EMU became the first engineering center in the field of rail equipment
manufacture to be formally established. At the same time, the first very-high-speed test train was
manufactured, which can travel at more than 500 kph. We use the ratio of the number of adoptions to
the number of application for breakthrough innovations to examine the quality of innovation.
Table 9 shows that, after financing was received in 2012, the rate of adoption for breakthrough
innovations declined steeply, from 92.7% in 2012 to 84.3% in 2014. This illustrates that financing had
a negative impact on innovation quality.

Management Innovation
With substantial capital flowing in, Sifang earned ISO27001 and ISO20000 quality certificates and
deployed International Railway Industry Standard (IRIS) quality management standards across the
company. The operating system, including RAMS of suppliers, CRCC certification, and TSI product
authentication, has been enhanced. The CAM autoprogramming system has been extended. The
information system has also been strengthened. ERP, PDM, MES, and MRO systems were established.
However, no major change was made in the R&D structure, though the investment was accelerated by
the construction of a key laboratory. With respect to manager motivation, according to our survey
consisting of 172 respondents, the lowest average score appears in response to the question about
whether they believe the company could survive innovation failure, which indicates that managers lack
sufficient confidence and motivation to push innovation.

Cultural Innovation
After 2012 the firm focused on building cultural innovation, improving its behavioral identification
and visual identification systems, which are designed to help with marketing and branding. It also
significantly increased its training and learning exchange programs. As shown in Table 7, in 2011 and
2012, the company held 1260 and 1173 external training sessions, respectively, and in 2014 it held
1566. Learning exchange programs were organized at national research institutes and universities,
numbering 75 and 160 in 2011 and 2012, respectively, and 300 in 2014. The average salary for
researchers was RMB 112,311 in 2011 and RMB 128,199 in 2012 and increased to RMB 162,436 in
2014. The average training expenditure per person also rose: from RMB 1746 in 2012 to RMB 4952
in 2014. Bonuses as a proportion of salary increased to 56.2% in 2014. Financing clearly had a strong
impact in this area.
 THE EFFECT OF FINANCING ON FIRM INNOVATION 23

Business Model Innovation

Our data and material do not show a strong effect on the business model caused by financing. It is
more likely related to the fact that China still considers itself in the primary stage of high-speed rail
manufacturing. It still has many technological challenges to overcome, so in the short term, Sifang is
likely to continue to be a traditional manufacturer of high-speed railway cars, passenger cars, domestic
subway cars, and intercity trains. However, Sifang is also using capital from its parent company to
develop its business in relatively minor ways, such as improving after-sale services, switching to and
investing in new energy, mining shale oil, and developing photovoltaic field.

Competitive Advantage
Using a leading simulation test platform, a complete high-level R&D team, and an open technology
innovation system, combining efforts at universities, research institutes, and enterprises, Sifang has
created strong technical innovation capacity through a scientific and strict R&D process. Capital
flowed from CSR, giving this effort a further push. Financing first affected cultural innovation, giving
researchers more incentives to innovate, then, having established and developed many new manage-
ment systems, it eventually engaged in technology innovation. The synergy generates a large compe-
titive advantage, enabling this prominent transportation manufacturer to remain in the top rank
worldwide.22

Discussion
Based on the case studies, we investigate how financing activity affects four types of firm innovation:
technological, management, cultural, and business model. We find a complex relationship among them
and synergistic effects at each company. Moreover, financing activity might have different impacts
across the four types of innovation at the firms examined. For instance, financing has a greater impact
on management innovation and business innovation at Haier and M&G, but a larger impact on
technology innovation at Sifang and SAIC Motor. To demonstrate these complex effects, we created
a quadrangle spider diagram to illustrate the sensitivity of each company to different innovation types
(see Figure 10).

Figure 10. Multidimensional innovation evaluation of sample companies.

24 Y. SHI ET AL.

The quadrangle spider diagram shows, for example, the impact of financing on innovation at the four firms,
in particular which company is more likely to be affected by financing in a specific type of innovation. The
scores on each axis indicate the relative rankings of influence, so the absolute score is not very meaningful.
The scores demonstrate the ranking of the firms for each type of innovation and rank the types of innovation at
each firm. The relative ranking is subjective, because it is based on data and analysis obtained from annual
reports, firm questionnaires (see Supplementary Material available online), and a site visit.
In Figure 10, M&G has the highest score, 8.7, indicating that business model innovation has a greater
impact, which reflects its expansion (Colipu and M&G Life), but technology innovation has the least impact.
This is likely related to the characteristics and nature of the light manufacturing industry. After fast develop-
ment, R&D has already formed solidly with less elasticity to capital. Firms usually prefer to pour money into a
new value-added business category to pursue new growth areas. Haier’s scores for technology innovation and
business model innovation are modest but those for management innovation and cultural innovation are high
—apparently, propelled by the HOPE program. It is not surprising to see that financing affects cultural
innovation the most because Haier’s culture is strong and sensitive to any changes. SAIC Motor has the
second-highest score for business model innovation, which might be a result of its shift to sales and after-sales
service. Sifang is a typical firm. The two lowest scores illustrate its stubborn structure caused by its history as a
giant state-owned enterprise, which engenders bureaucratic administration. However, the highest score for
technology innovation and the second-highest score for cultural innovation reveal its market orientation
strategy. Although this presents a paradox, it confirms rapid development based on freedom and dynamics and
ensures that this development follows the right path through its powerful and centralized organization.23

Conclusion
In this article, we analyze four Chinese manufacturers—M&G, Haier, SAIC Motor, and Sifang—and
find a complex and dynamic relationship between financing and innovation. In technology innovation,
the quality of internal innovation declines after financing, and firms experience a drop in both the
patent growth rate and the R&D/asset ratio. However, firms acquire external innovation with their
additional financial resources, and the quantity of inventions increases. Financing has a positive impact
on management, cultural, and business model innovation. Our analysis reveals that financing changes
firms’ strategies and enhances their competitive advantages as they pursue innovation.

Acknowledgments
The authors are grateful for valuable comments by the referees and the editor.

Supplemental data
Supplemental data for this article can be accessed on the publisher’s website.

ORCID
Jin Chen http://orcid.org/0000-0002-0156-9237

Notes
1. For research examining the determinants of firm innovation and the effects of financing on innovation, see
the Supplementary Material available online.
2 According to the industrial classification for national economic activities (GB/T 4754–2017, from official
website of Standardization Administration of the People’s Republic of China), light-manufacturing mainly
includes food, beverages, tobacco, textiles, clothing, leather products, footwear, wood products, electrical
 THE EFFECT OF FINANCING ON FIRM INNOVATION 25

machinery, stationery, printing and publishing, rubber products etc., while heavy-manufacturing includes metal
products, automobile, transportation equipment, electronic equipment etc.
3. Education, art, sports and entertainment products manufacturing, SIC-C24.
4. Electrical machinery and equipment manufacturing, SIC-C38.
5. Railway, ship, aerospace and other transportation equipment manufacturing, SIC-C37.
6. Automobile manufacturing, SIC-C36.
7. World Bank national accounts data, and OECD National Accounts data files.
8. Wind database.
9. To find out more about China’s stationery industry, see the Supplementary Material available online.
10. To find out more about Haier Group’s financial status and development, see the Supplementary Material
available online.
11. To find out more about SAIC Motor’s financial status, see the Supplementary Material available online.
12. To find out more about Sifang, see the Supplementary Material available online.
13. For more details about innovation at M&G, see the Supplementary Material available online.
14. For a summary of the effects of financing on M&G innovation, see Table S1 available online.
15. For more innovation details about Haier Group, see the Supplementary Material available online.
16. More details are in the Supplementary Material available online.
17. For more information about HOPE, see the Supplementary Material available online.
18. For a summary of the effects of financing on innovation at Haier, see Table S2 available online.
19. For more innovation details about SAIC, see the Supplementary Material available online.
20. For a summary of the effects of financing on innovation at SAIC Motor, see Table S3, available online.
21. For more details about innovation at Sifang, see the Supplementary Material available online.
22. For a summary of the effects of financing on Sifang innovation, see Table S4 available online.
23. A detailed discussion of technology innovation, management innovation, cultural innovation, business
model innovation, competitive advantage, effect, and feedback is in the Supplementary Material available online.

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