Innovation is a key driver of prosperity and growth. Firms and their shareholders typically say that they care about long-term value creation. One would therefore expect that the incentives given to company management would, on balance, encourage innovation. This study of incentives in the FTSE 350 suggests that the opposite is the case. It finds that:

• Just 16 per cent of total FTSE 350 annual bonus conditions encourage spending on innovation compared to 39 per cent which discourage it
• Long-term incentive plans are even more strongly skewed towards discouraging executives from innovating at a ratio of 6:1
• This happens despite the fact that companies, investors and regulators agree on the need to promote innovation

The benefits from correcting this could be very large indeed. For the firms concerned, it should prompt an internal examination of the real incentives or disincentives to innovate. For shareholders, including fund managers, it should prompt a re-consideration of whether they should be approving incentive packages that discourage innovation.

Policy recommendations

• Companies should examine their remuneration packages to encourage the pursuit of innovation and long-term value creation
• Investors should use their power to demand better incentives for investment in innovation, as many companies begin the three-year cycle of shareholder votes of remuneration packages
• The Financial Reporting Council (or its successor body) should explicitly include innovation as a measure of effective stewardship
• Government should consider whether the value-for-money of R&D tax credits is reduced by improper executive incentives