Corporate Innovation's Impact on the Cost of Equity: Evidence from China's Listed Companies

Abstract

In the context of considering the double-edged sword of corporate innovation, this study investigates whether and how corporate innovation affects the cost of equity. Using a patent-based innovation dataset of China's A-share publicly traded companies from 2009 to 2020, the study reveals that corporate innovation is associated with the cost of equity. The results show corporate innovation and the cost of equity have an inverted U-shaped relationship. In the initial stage of innovation, corporate innovation leads to an increase in the cost of equity, exacerbating the problems it brought to the company; but in the middle and late stage of innovation, as the level of innovation increases, the cost of equity experiences a sharp decrease, suggesting that continuing participating in innovative activities can mitigate the problems and even reverse problems into benefits. This study also explores the role of government subsidies as mediator on the association between corporate innovation and the cost of equity. The findings show that subsidies mediate the relationship between corporate innovation and the cost of equity. Innovation can attract more government subsidies and meanwhile, there is an inverted U-shaped relationship between subsidies and the cost of equity. The results provide empirical evidence to encourage managers to invest in innovative activities and also suggestions to policy makers to inject more funds to initial-stage innovative companies to foster innovation development.