Impacts of R&D Expenditures On Firms’ Innovation and Financial Performance: A Panel Data Evidence from Ethiopian Firms

Abstract In the era of the rapid development of knowledge economy and science, all countries have thought highly of technical innovation and greatly increased investment in R&D from time to time. The vast literature indicates that the relationship between R&D and firms’ performance is highly complex while evidences suggest that R&D positively influences firms’ performance, yet the process how R&D activities influence firms’ performance is still mixing. This paper explores the impacts of investment in R&D on firms’ performance from 476 firms in Ethiopia by employing a combination of the fixed-effect, PSM and ETE estimation methods. The findings of this study support the existence of a strong interaction between R&D activities and firms’ performance. The empirical results reveal that investment in R&D positively influences both innovation and long-term financial performance, while it negatively impacts shorter-term financial performance. Moreover, results show that the impacts of R&D activities vary significantly along the different category of firms confirming that heterogeneity is possible issue among firms considered. The results also indicate that availability of credit is more important moderating factor for the relationship between R&D investment and firms’ performance than legal system. The results from the current study have important implications for firms especially those from developing countries like Ethiopia with growing R&D operations. We propose that Ethiopian firms should invest more on R&D activities, such as the production of fundamental research and applied research to have better performance and enhance their competitiveness in the future.