The role of corporate governance in the nexus between litigation risk and corporate innovation

Abstract

Amid ongoing discussion over the merits and demerits of litigation, this study addresses the impact of litigation risk on corporate innovation at Chinese listed firms from 2014 to 2022. We exploit Two-Stage GMM, DID model, and PSM techniques to address endogeneity. We find that both litigation risk and financial constraints significantly hinder innovation. We highlight the corporate governance index as a potential moderator, which mitigates the negative impacts of litigation risk and fosters innovation. Additionally, our findings emphasize the pronounced decline in innovation among highly constrained firms compared to their counterparts with low constraints. Recent changes in China's Patent Law and Copyright Law suggest a tangible increase in innovation activities since their implementation, even within a stringent legal environment. Our findings remain robust to the use of alternative measures and estimation techniques. By addressing significant gaps in the literature, our research offers actionable insights for decision makers, emphasizing the strategic importance of corporate governance in navigating legal complexities, enhancing innovative capacity, and driving sustainable growth and competitive advantage in today's business landscape.