Where do the capabilities of new developing country firms come from? One answer is from other firms: employees spin off to launch their own businesses. In this project, Marc Muendler and James Rauch (University of California, San Diego) compute, for the first time, the share of employee spinoffs in a representative sample of a developing country's new firms using precise and replicable criteria. Their project will compare basic indicators of spinoff performance to other entrants, and track teams of founding co-workers through the economy to illuminate the process of intra-organizational learning and subsequent knowledge dissemination through spinoffs.
Using a comprehensive linked employer-employee database from Brazil for the period 1995-2001, Muendler and Rauch are able to apply alternative approaches to identifying employee spinoff firms and to let each approach act as a check on the robustness of the other. Depending on definition, employee spinoffs account for between one-sixth and one-third of the new firms in Brazil's private sector during this period. Initial results show that, regardless of definition, size at entry is larger for employee spinoffs than for new firms without parents but smaller than for diversification ventures of existing firms. Similarly, exit rates for employee spinoffs are less than for new firms without parents and comparable to those for diversification ventures of existing firms. These results are consistent with the idea that a spinoff partially inherits its spawning parent's productivity through the knowledge that the founding workers take with them.
Preliminary results also support the hypothesis that spinoffs originate with teams of employees that form inside the parent firms. The idea is that firms, like cities, bring people together in ways both planned and unplanned. By greatly increasing the frequency of interactions between people, a firm enables employees to learn about each other's capabilities. This information can prove useful to an employee who is about to found a spinoff firm. In support of this idea, Muendler and Rauch document in preliminary analysis that team members maintain their employment with a spinoff longer than other employees whom the spinoff hires at birth. Muendler and Rauch's planned research will reveal more about which employees at parent firms join spinoffs, and will address the impact of parent characteristics on the number and the sizes of teams formed as well as the determinants of team quality as reflected by the performance of the spinoff they found.
Employee spinoffs raise important issues for innovation and growth policy. It is common for employers to have key employees sign contracts that restrict their ability to compete with their former employers after separation. Governments must decide whether to enforce these "non-compete covenants." Muendler and Rauch's preliminary results for Brazil support the contention that variations in enforcement can influence the incubation of new firms and innovation in industry clusters. Their initial finding that employee spinoffs outperform other new entrants favors innovations in entrepreneurship policy, such as in Tunisia, for instance, where state enterprises have offered their employees two-year leaves during which they can attempt to start their own businesses.
