Agency Costs and Innovation

Posted: 17 Nov 2009

See all articles by Bengt R. Holmström

Bengt R. Holmström

Massachusetts Institute of Technology (MIT) - Department of Economics; National Bureau of Economic Research (NBER); European Corporate Governance Institute (ECGI)

Date Written: 1989


Investigates why large firms conduct less innovative research than small firms, with a specific focus on transaction cost and incentive considerations. This analysis examines two primary reasons for the reduced innovativeness in large firms, and arguments from recent literature are used to support the propositions put forth. These reasons are internal organization of the firm and the firm's relationship to the capital market. The large cost associated with managing a heterogeneous set of tasks, including hard-to-manage innovation activities, makes innovation less appealing to large firms. Further, increased innovation would force decentralization for large firms, as the innovative portions of the firm would require more independence and financial support. An additional pressure on large firms is that of investors. Management of these large firms often chooses short-term projects with some gain in order to meet the expectations of investors. These short-term projects are often at the expense of longer term innovation. A large firm's desire to protect its reputation causes it to act more cautiously and take fewer risks. (SRD)

Keywords: Organizational behavior, Organizational change, Risk orientation, Innovation process, Transaction costs, Management techniques, Firm centralization, Economic assistance, Risk assessment

Suggested Citation

Holmström, Bengt R., Agency Costs and Innovation (1989). University of Illinois at Urbana-Champaign's Academy for Entrepreneurial Leadership Historical Research Reference in Entrepreneurship, Available at SSRN:

Bengt R. Holmström (Contact Author)

Massachusetts Institute of Technology (MIT) - Department of Economics ( email )

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