Innovation Isn’t Just About Technology. It’s Also About Accounting.

When people hear the phrase “innovation policy,” they usually think about government funding, intellectual property protections or investments in scientific research.

Few think about accounting standards.

Yet accounting rules determine how companies report billions of dollars in research and development spending every year. Those rules influence what investors see, how managers communicate uncertainty and, potentially, how firms organize innovation itself.

That question motivated my recent co-authored research published in Research Policy.

With Kazuyuki Motohashi of the University of Tokyo and Tomomi Takada of Kobe University, we examined a unique period in Japan when companies had a choice in how they accounted for R&D expenditures. Our study is titled, "R&D Accounting and Innovation Signaling: Insights from Japan's Pre-Regulation Era."

Exploring Japan's Unique pre-2000 Accounting Standards

Before 2000, Japanese firms could either expense R&D immediately or capitalize it as an asset on their balance sheet. After 2000, Japan required all firms to expense R&D, similar to the approach U.S. Generally Accepted Accounting Principles (GAAP) had required since 1975.

The Japanese setting gave us a rare opportunity to study how accounting choices relate to innovation outcomes and what happens when those choices disappear.

Using patent applications and patent citations from nearly 1,000 Japanese firms, we found a striking pattern.

Before the regulatory change, Japanese firms that capitalized R&D tended to produce patents with greater technological impact. Their innovations received more citations and demonstrated broader technological influence. Firms that expensed R&D, meanwhile, generated higher patenting volume.

These findings suggest that different firms used different signaling strategies.

Capitalizing R&D required ongoing documentation, monitoring and impairment testing. That process created a credible signal that managers believed certain projects had strong future potential. Expensing R&D avoided those requirements but encouraged firms to rely more heavily on patent filings as an alternative way to communicate innovation activity.

The most interesting results emerged after Japan eliminated the capitalization option.

Former capitalizers increased their patenting activity significantly. However, innovation quality did not improve.

In other words, firms produced more patents but not necessarily more impactful innovation.

This distinction matters because policymakers often assume that uniform reporting rules make companies easier to compare. But true comparability works differently: similar things should look alike, and different things should look different. Forcing economically distinct innovation projects to be reported the same way—for example, requiring every firm to expense R&D immediately—doesn't improve comparability. It undermines it.

Accounting Rules Can Influence Organizational Behavior

The findings also raise broader questions about the role of accounting standards.

Accounting is often viewed as a passive measurement system that simply records economic activity. But accounting rules can also influence organizational behavior.  

In our study, capitalization requirements appeared to encourage information systems that helped firms track, evaluate and differentiate innovation projects. Removing those requirements may have changed how firms communicated innovation both internally and externally.

Today, standard setters globally such as the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) are revisiting how intangible assets should be reflected in financial statements. As economies become increasingly dependent on knowledge, technology and innovation, those discussions are becoming more important.

Our research suggests policymakers should consider not only how accounting standards affect investors, but also how they affect the innovation process itself.

The broader lesson is simple: accounting choices are not merely reporting decisions. They can shape the incentives, information flows and behaviors that drive innovation.

And that makes accounting far more consequential than many people realize.