Unravelling the relationship between absorptive capacity, innovation, and financial performance: A longitudinal study

This study explores the intricate relationships among absorptive capacity, innovation, and financial performance in nonfinancial firms. Using data from COMPUSTAT spanning 1966 to 2020, including 25,392 observations, Tobin's Q is used as a measure of financial performance. Absorptive capacity, measured by the ratio of research and development expenses to total revenue, has a significant positive direct impact on both innovation and financial performance. However, innovation, represented by the natural logarithm of total intangible assets, has a negative influence on financial performance and mediates the positive relationship between absorptive capacity and financial performance. This reveals the suppressive role of innovation in the absorptive capacity-financial performance relationship. This challenges the conventional belief that innovation invariably leads to improved financial outcomes, highlighting the nuanced dynamics involved. The study underscores the trade-offs between short-term gains and long-term potential, emphasizing the complexity of organizational success in today's competitive landscape.