The Global Economic Impact of Private Equity Report 2008 - World ...

• These firms display no deterioration in the extent to whichtheir research is basic or fundamental after the private equityinvestments, as measured by patent originality and generality• The quantity of patenting does not appear tosystematically change after private equity transactions• The patent portfolios of firms become more focusedin the years after private equity investments• The increase in patent importance is the greatest in thepatent classes where the firm has had its historic focusand in those classes where the firm increases patentingafter the private equity investmentCollectively, these findings appear inconsistent with claimsthat private equity firms generate profits by sacrificingnecessary long‐run investments: rather, the private equityinvestments appear to lead to a beneficial refocusing of thefirms’ innovative portfolios.There are two sets of related literatures. First, a number ofworks have looked at the impact of leverage, which is aprominent feature of private equity investments, on innovation.These studies, which have typically examined publicly tradedfirms with differing debt levels, have reached ambiguousconclusions. On the one hand, there is a clear associationbetween more leverage and lower levels of R&D spending,as documented by Hall’s (1992) examination of over 1200manufacturing firms and Himmelberg and Petersen’s (1994)more targeted study of 170 small, high‐technology firms. Onthe other hand, the direction of causality is unclear: it is difficultto determine if debt leads to R&D cutbacks or if strugglingfirms simply have more debt and less spending on innovation.Hao and Jaffe (1993), who carefully grapple with this question,conclude that more debt can be shown to reduce R&Dspending only for the very smallest firms. For larger firms,the causal relationship is ambiguous.A second set of related papers examines innovative activityspecifically after leveraged buyouts. Hall (1990) looks at76 public‐to‐private buyouts (i.e. transactions where apublicly traded firm was purchased and taken private) ofmanufacturing firms that took place in the 1980s. She pointsout that the impact of these transactions on cumulativeinnovation is likely to be slight: while these firms represent4% of manufacturing employment in 1982, they only accountfor 1% of the R&D spending. Lichtenberg and Siegel (1990)examine 43 whole‐firm LBOs during the 1980s where thefirm files the Bureau of the Census’s survey on researchactivities (Form RD‐1) prior to and after the transaction. Theyfind that these firms increase research spending after theLBO, both on an absolute basis and relative to their peers.There are several reasons to revisit the question of theimpact of private equity investments on innovation. First, theprivate equity industry is much more substantial than it wasin the 1980s. This growth not only means that we have alarger sample to work with, but the changes in the industry(e.g. the increased competition among and greateroperational orientation of private equity groups) suggest thatthe earlier relationships may not hold today. In particular,transactions involving technology‐intensive industries havebecome more common in recent decades. It is also desirableto look beyond the public‐to‐private transactions thatdominate earlier samples. Finally, the computerization ofpatent records in the past two decades has enhanced ourability to study the impact on innovation.The plan of this paper is as follows. In Section 2, we describethe construction of the dataset. Section 3 reviews themethodology employed in the study. We present the empiricalanalyses in Section 4. The final section concludes the paperand discusses future work.2. The sampleTo construct the dataset, we identify a comprehensive listof private equity investments and match these firms to theUS patent records. This section describes the process.A. Identifying private equity transactionsTo identify private equity investments, we begin with theCapital IQ database. Capital IQ has specialized in trackingprivate equity deals on a worldwide basis since 1999.Through extensive research, Capital IQ attempts to “back fill”information about investments prior to this period. 2Our starting point is the list of transactions identified byCapital IQ that closed between January 1980 and December2005. We eliminate two types of transactions. First, Capital IQincludes some transactions by private equity groups that didnot entail the use of leverage. Many buyout groups made atleast some venture capital investments during the late 1990sand Capital IQ also captures a considerable number ofventure capital investments by traditional venture funds.Hence, we eliminate transactions that were not classified inthe relevant categories by Capital IQ (which involve thephrases “going private”, “leveraged buyout”, “managementbuyout”, “platform”, or slight variants). Second, the databaseincludes a number of transactions that do not have theinvolvement of a financial sponsor (i.e. a private equity firm).We eliminate these deals as well: while transactions in whicha management team takes a firm private using their ownresources and/or bank debt are interesting, they are not thefocus of this study. After these eliminations, the databaseconsists of approximately 11,000 transactions.We supplement the Capital IQ data with data from anothervendor, Dealogic. In many cases, Dealogic has morecomprehensive information about the features of thetransactions, such as the multiple of earnings paid and thecapital structure. It also frequently records information on2Most data services tracking private equity investments were not established until the late 1990s. The most geographically comprehensive exception,SDC VentureXpert, was primarily focused on capturing venture capital investments until the mid-1990s.28 Large-sample studies: Long-run investmentThe Global Economic Impact of Private Equity Report 2008