Group #3 Jason Franken Prasanna Karhade Hsiao-Ching Lee Jennifer Shen Marko Madunic

1. Absorptive Capacity: A New Perspective on Learning and InnovationWesley M. Cohen, Daniel A. Levinthal Administrative Science Quarterly, 1990 Group #3 Jason Franken Prasanna Karhade Hsiao-Ching Lee Jennifer Shen Marko Madunic

2. What is absorptive capacity? Absorptive capacity is defined as the ability of a firm to recognize the economic value of new, external information, assimilate this information, and apply it to commercial ends.

4. Absorptive Capacity @ Individual Level • Cognitive and behavioral research on memory development suggest that accumulated prior knowledge increases the ability to put new knowledge into memory and the ability to recall it • Prior knowledge enhances learning because memory is developed by associative learning • Events are recorded into memory by establishing linkages with pre-existing concepts • Acquisition of knowledge is possible, but this knowledge will not be well-utilized if individual did not possess the appropriate contextual knowledge

5. Absorptive Capacity @ Individual Level • Problem solving methods constitute the prior knowledge that permits individuals to acquire related problem-solving capabilities • i.e. students develop computer programs by analogy-to-example programs • Learning capabilities • Development of the capacity to assimilate existing knowledge (intensity effort is critical on early problems) • Problem solving skills • Capacity to create know knowledge • Creative capacity (psychology) = Absorptive capacity

6. Absorptive Capacity @ Organizational Level • Absorptive capacity – not only the acquisition or assimilation of information by an organization, but also the ability to exploit it • A.C. builds on prior investments in the development of individual ACs, and tends to develop cumulatively • A.C. is NOT the sum of absorptive capacities of its employees • “Gatekeeping" or "boundary spanning" activities with the external environment (outward-looking absorptive capacity) • Monitors the environment, translates information • Interaction within subunits (inward-looking absorptive capacity) • Interaction between subunits (cross-functional absorptive capacity).

7. Awareness of complementary expertise Know who knows what Path dependence Absorptive Capacity @ Organizational Level Exploitation of new knowledge Prior knowledge • Accumulating absorptive capacity in one period will permit more efficient accumulation in the next • Uncertain environment – affects expectation formation, better predictions of commercial potential of technological advances • LOCKOUT – firm ceases to invest in A.C. • Firm does not develop A.C. in initial period (firm not aware of signals that would revise its expectations) • No initial A.C. – more costly to develop in t+1 period • Leads to INTERTIA (Nelson and Winter,1982)

8. Absorptive Capacity @ Organizational Level Hypothesis: The greater the organization’s expertise and A.C., the more sensitive it is to technological exploiting opportunities (independent of current performance) Absorptive capacity and R&D investment

9. Technological opportunity Competitor Interdependence Appropriability Absorptive Capacity R&D Spending

10. Absorptive Capacity @ Organizational Level • 2 factors that will affect a firm’s incentives to learn and, consequently invest in A.C.: • Quantity of knowledge to be assimilated and exploited • Difficulty of learning • Sources that affect the ease of learning: • Complexity of knowledge to be assimilated • The degree to which the outside knowledge is targeted to the firm’s particular needs and concerns

11. Model of sources of a firm’s technical knowledge Absorptive capacity Own R&D Technical knowledge Direct effect of ease of learning: H1: As the ease of learning diminishes, learning becomes more dependent on firms own R&D Technological opportunity H2: Increase in technological opportunity will elicit more R&D in difficult learning environments Appropriability H3: Spillovers will provide a positive incentive to conduct R&D Spillovers of Competitors’ knowledge extraindustry knowledge

12. Data and measures • Cross-sectional survey data in the American manufacturing sector collected from R&D lab managers • DV: R&D intensity – firm’s business-unit R&D expenditures • 318 firms, 1719 business units; 1975-1977 • Technological opportunity – variables measuring the “relevance” or “importance” for technological progress • (7-point Likert scale) relevance of 11 basic and applied fields of science and the importance of external sources of knowledge • Extra-industry sources of knowledge: 1. equipment suppliers, 2. materials suppliers, 3. downstream users, 4. government labs, 5. universities

13. Results • Technological opportunity: • When learning is more difficult, an increase in the quantity of knowledge has a positive effect on R&D intensity • An increase in technological opportunity associated with basic science elicits more R&D (relative to applied science) • Appropriability: • When learning is difficult, high absorptive capacity becomes more important • As market becomes more competitive, high appropriability becomes important • The effect of R&D intensity of increasing appropriability is significantly greater in those industries in which the applied sciences are more relevant to innovation than the basic science

14. Implications for innovative activity • Firms are sensitive to the characteristics of the learning environment in which they operate • Firms conduct basic research less for particular results, rather to provide themselves with the general knowledge that will help to exploit useful scientific knowledge and technological knowledge through their own innovation • As firm’s technological progress becomes more closely tied to advances in basic science, a firm will increase its basic research • As field’s underlying technical advance within industry become more diverse, firms increase their R&D

15. Conclusion • If a firm wishes to acquire and use knowledge that is unrelated to its current activities, it must develop absorptive capacity