Corporate innovation can disrupt entire industries, but it can also lay the foundations for a company’s long-term success. Just look at the likes of Apple and Microsoft.
That’s why we launched our ‘Innovation Superstars’ research series last year, to better understand this process and to help us quickly spot success stories.
In the first instalment – Identifying the most productive US-listed firms – we used productivity to benchmark the effects of innovation across firms in the Russell 3000 Index. This uncovered large, and sustained, differences between innovators and laggards.
For the second paper – The search for clusters of innovators – we compiled a bespoke database of innovation indictors, using millions of datapoints, to better understand the similarities across the most innovative US companies.
The latest paper – The abrdn Innovation index – builds on the earlier work to create a ranking of US companies that identifies the most innovative, as well as up-and-coming ‘superstars’.
How the ranking works
US companies in the Russell 3000 Index are ranked annually by how intensively they conduct innovative activities. This ranking is weighted by how important each activity is in driving productivity.
The index measures the boost to productivity performance we might expect from a company’s innovation activities and distils these efforts into a single score – making them comparable across companies and time.
What did we find?
A handful of familiar names – Microsoft, Qualcomm, Intel and Apple – occupy the top four positions. Amazon and Oracle are also in the top 15 (See Chart 1). This is mainly due to the volume of patents that these firms file.
In terms of industries, publishing/telecommunications (Microsoft, AT&T, Oracle) and electronics (Medtronic, Boston Scientific, Texas Instruments, Broadcom) are well represented.
Perhaps most surprising was the presence of Halliburton, a mining company. Halliburton operates in an industry not noted for innovation, but it does provide a range of technical services for energy companies that require a high level of expertise in extraction and engineering.
Chart 1: Innovation superstars
Does innovation translate into investment returns?
We found evidence that a higher ranking was, on average, consistent with stronger equity returns, after modelling how a firm’s performance on the index might influence its returns and taking into consideration other factors, such as firm size.
When we plotted the annual returns for an equally weighted portfolio of the top 25 performers in the Innovation index from 2001 to 2019, we found that these innovators performed better than the broader Russell index. What’s more, the disparity in performance widened after 2012 (See Chart 2).
We found evidence that a higher ranking was, on average, consistent with stronger equity returns
Chart 2: Innovation leaders usually deliver stronger returns
Source: Eikon, abrdn, as of 2022
This suggests companies are being rewarded by investors for delivering innovation in a sustained way. In the second paper of this series, we found that there’s little change over time within the ranks of these innovation leaders.
Where are the hidden gems?
There may also be top performers in sectors not known for innovation. For example, Stericycle Inc. doesn’t make it into the top 10% of the overall ranking, but it’s the highest-ranking utility company.
Given that the relative performance of sectors changes across different phases of an economic cycle, the ability to identify high-ranking companies within sectors that overall may not be high in the index can be a useful insight.
If an investor wanted to position a portfolio to adopt a more defensive stance, they could still gain exposure to a relatively innovative firm, even in a less innovative industry.
Movers and shakers
The results also show a handful of less well-known names – up-and-coming firms that may eventually break into the top ranks.
This could help us spot examples of firms which are at an earlier stage of their innovation journey – making breakthroughs which will take time to crystallise into rapid growth and further investment.
There aren’t many such companies. But some, like Amazon, have become household names. In the case of Amazon, it only reached its current position near the top of the ranking in 2015, following years of improvements.
We all know the success that accompanied this journey in terms of market capitalisation and equity performance.
Final thoughts
Not every company will follow Amazon’s path, but where there’s information within a company that’s making rapid and sustained progress up our Innovation index, this could help investors spot firms with significant growth potential.
Using bespoke databases and cutting-edge research, we’ve been able to peek inside the opaque process that is corporate innovation, and to identify in real time those companies that have been most successful at it. It seems the market rewards these innovation ‘superstars’.
That said, we need to be aware of the limitations of our methodology – there are some innovation indicators that we should be monitoring, but aren’t, because they can’t be quantified (e.g. company culture and leadership). There are others that we can’t get quality data for.
The index can be a useful tool to complement what’s already being done by active managers when constructing a portfolio. The final paper in this series will take a closer look at this process.