1. © Charles W. Wessner Ph.D. 1 Global Scientific Innovation & Policy Transitioning Research Across the Valley of Death  4th Annual SABPA Pacific Forum November 8, 2008 University of California, San Diego Charles W. Wessner, Ph.D. Director, Technology, Innovation, and Entrepreneurship The National Academies

2. © Charles W. Wessner Ph.D. 2 The National Academies National Academy of Sciences –Chartered by Congress in 1863 –A self-perpetuating Honorary Society National Research Council (1916) –The Operating Arm of the National Academies National Academy of Engineering (1964) Institute of Medicine (1970) Today’s Presentation reflects my personal views

3. © Charles W. Wessner Ph.D. 3 Today’s Presentation New Realities in Innovation –China’s Drive for Innovation –Innovation Strategies from around the World What is the U.S. Innovation Strategy? –Strengths and Challenges –Troubling Trends in U.S. R&D Spending –Recent U.S. Policy Initiatives Innovation Myths and Realities –The Linear Innovation Myth –The Perfect Market Myth –The Venture Capital Solution Myth Transitioning Research Across the Valley of Death –The SBIR Innovation Awards Program –The NRC Evaluation of SBIR Conclusions

4. © Charles W. Wessner Ph.D. 4 The View From Some in the United States “Life is good, so why worry about the future?” The answer: “A good life today may not be a good life tomorrow” “Things change, & change rapidly” Dr. Wladawsky-Berger, IBM

5. © Charles W. Wessner PhD 5 The View from Abroad Innovation is a 21 st Century Reality “Compete or Be Left Behind”

6. © Charles W. Wessner, Ph.D. 6 A Chinese Perspective “In today's world, the core of each country's competitive strength is –intellectual innovation, –technological innovation, and –high-tech industrialization.” (1999)

7. © Charles W. Wessner, Ph.D. 7 China’s Drive for Innovation Government with strong sense of national purpose –Strong investments in education and training –Strategy to move rapidly up value chain –Effective requirements for training and tech transfer –Critical mass in R&D is beginning to be deployed to generate autonomous sources of innovation & growth Government goal is to acquire technological capabilities both to grow and to maintain national autonomy. Modified from C. Dahlman, Georgetown University

8. © Charles W. Wessner Ph.D. 8 China’s Remarkable R&D Growth 15.5% 6% 2007 1999

9. © Charles W. Wessner Ph.D. 9 China is Inspiring Innovation Policies Around the World India: Policy Liberalization is unleashing private industry to innovate and expand –Emerging as a center for high-end R&D –New focus on Biotech, following success in IT and Services Japan is Restructuring its Innovation System –High level policy focus and major investments Europe: Netherlands, France, and the United Kingdom are among those renewing & funding tech programs

10. © Charles W. Wessner Ph.D. 10 The Innovation Imperative 3 Key Points –Innovation is Key to Improving Global Health –Small Businesses and Universities Play a Key Role in the Innovation Process—essential for progress –New Institutions and Incentives are Required to Address Global Health Challenges

11. © Charles W. Wessner PhD 11 Addressing the Global Health Challenge How is the United States Responding to the Innovation Imperative? What are the key Advantages and Challenges for Innovation in the United States?

12. © Charles W. Wessner Ph.D. 12 Current U.S. Advantages in Innovation Key Advantage: A society open to innovation –Trust in Science & Scientific Institutions An economic and institutional infrastructure that quickly re-deploys resources to their most efficient use –Strong & diverse higher educational system –Deep and flexible capital and labor markets –Strong S&T institutions –Entrepreneurial Culture A large and integrated domestic market –Ability to grow new Large Firms

13. © Charles W. Wessner Ph.D. 13 U.S. Norms Create Positive Incentives for Entrepreneurs Positive Social Norms –High Social Value on Commercial Success –Forgiving Social Norms allow more than one try Entrepreneur-friendly Policies –Markets Open to Competition –Gentle Bankruptcy Laws permit rapid recovery –Taxes give Prospect of Substantial Rewards Strong Intellectual Property Regime: Encourages Research & Investment A Regulatory Perspective that Encourages Local Initiative

14. © Charles W. Wessner Ph.D. 14 The Small Businesses Advantage U.S. Small Businesses generated 60 to 80 percent of net new jobs annually over the last decade Employed 39 percent of high tech workers, such as scientists, engineers, and computer workers Produced 13 to 14 times more patents per employee than large patenting firms –Patents are of High Quality –Twice as likely as large firm patents to be among the one percent most cited Small Companies are a Key source of Innovation by themselves and for Large Companies Sources: SBA Office of Advocacy (2005) data drawn from U.S. Bureau of the Census; Advocacy-funded research by Joel Popkin and Company (Research Summary #211); Federal Procurement Data System; Advocacy-funded research by CHI Research, nc. (Research Summary #225); Bureau of Labor Statistics, Current Population Survey; U.S. Department of Commerce, International Trade Administration

15. © Charles W. Wessner Ph.D. 15 America’s Secret Weapon: We Invest in R&D The U.S. government supports R&D that serves important national needs –For example, in areas such as national defense, health, energy, the environment, natural resources, and agriculture. The U.S. government supports most of the nation's basic or fundamental research and much of the applied research –Focused on gaining knowledge or understanding phenomena irrespective of any specific application –Mission needs often drive research

16. © Charles W. Wessner Ph.D. 16 Another “Secret Weapon:” The Research University A limited number of U.S. universities have received the bulk of research funding Universities are entrepreneurial –Faculty compete for federal grants –Presidents compete for donations and earmarks –States provide limited support U.S. research universities produce top quality science and commercialize the results –Research is both basic and applied This results in both good research and socially useful applications

17. © Sujai Shivakumar PhD 17 What is the Bad News?

18. Charles W. Wessner, PhD18 Federal Funding for R&D has been declining in real terms

19. 19 Significant Drop-off in NIH Funding

20. 20 Impact of Declining Health R&D Budgets Missed opportunities to pursue promising research and technologies Cohorts of new Post-Docs with limited opportunities for new RO1 grants –Excludes the young and the women A growing budget should let NIH –Invest in new grants for new researchers –Encourage more cooperation across institutions and with industry

21. 21 More Bad News: Pharma is experiencing declining returns on investment Number of new drug registrations (US) Global R&D $bn

22. 22 Concerns about Allocation: 58% of U.S. Federal R&D is for Defense

23. 23 …But DoD Focus is on Development Is U.S. R&D Leadership Therefore a Myth? The focus on weapons development and testing overstates the R&D element of the budget. It is often not basic or even applied research but rather testing and certification.

24. 24 Growing Chorus of Concern on US Innovation Policy National Innovation Initiative (2004) –Led by IBM and leading Universities –Ignored by the White House, but not by the Congress President’s Council of Advisors on Science and Technology’s Reports (2004) –Called for renewed investments in US Science & Engineering Capabilities –Called Attention to Growing Global Challenge in IT Manufacturing & Competitiveness Rising Above the Gathering Storm (2006) –A major National Academies assessment requested by the US Congress –Warns of an “abrupt” loss of US leadership unless timely and adequate investments are made to support R&D

25. 25 Concerns about U.S. Competitiveness led to the America Competes Act Signed into Law on August 6, 2007 Authorized (but did not allocate) $43.3 billion in federal spending in FY 2008-2010 in Science, Engineering, Mathematics, & Technology research “America Competes” Promised to –Double budgets of NSF, DOE’s Office of Science, NIST, MEP –Increase funding for new researchers The new law reflects recognition that the U.S. needs to change policy to meet the global innovation challenge Only one problem, the funding was not provided!

26. 26 R&D Funding Lost Out to: The huge expense of the Iraq war Election year focus on funding deficits Complacency about the U.S. position in the world Pervasive myths about the power of "Perfect Markets” Result: Shortfall in support for the research and the infrastructure that supports future wealth generation What are some of these Myths?

27. © Charles W. Wessner, PhD 27 The U.S. Myth of Perfect Markets Strong U.S. Myth: “If it is a good idea, the market will fund it.” Reality: –Potential Investors have less than perfect knowledge, especially about innovative new ideas –“Asymmetric Information” leads to suboptimal investments This means that it is hard for small firms to obtain funding for new ideas George Akerlof, Michael Spence and Joseph Stiglitz received the Nobel Prize in 2001, "for their analyses of markets with asymmetric information“ What do these “market imperfections” create?

28. ©Charles W. Wessner PhD28 Federally Funded Research Creates New Ideas Innovation & Product Development Capital to Transform Ideas into Innovations No Capital The Early-Stage Funding Valley of Death Dead Ideas

29. ©Charles W. Wessner PhD29 Venture Capital: A Powerful Tool Venture Capital refers to –Equity investments made to fund the launch, early development, or expansion of a young company with perceived long-term growth potential. –Involves a substantial element of risk Venture Capital brings –Capital for Firm Development –Management Expertise –Market Expertise –Reputational Benefits But Private Venture Capital Markets are Limited –This reality is not always recognized by policymakers, both in the U.S. and elsewhere

30. ©Charles W. Wessner PhD30 The Myth of U.S. Venture Capital Markets Myth: “U.S. VC Markets are broad & deep, thus there is no role for government awards” –“If you have a good idea, a good team, and you sell it well, you will be funded George Scalise, President SIA, 29 April, 2008 Reality: Venture Capitalists have –Limited information on new firms –Prone to herding tendencies –Focus on later stages of technology development –Most VC investors seek early exit

31. ©Charles W. Wessner PhD31 Large U.S. Venture Capital Market is Not Focused on Early-Stage Firms Information on potential product is limited: Risk is too high –Proof of concept/prototype often absent or not yet achieved –Even Angel investors need more information Fund Operations: Small Investments have High Overhead Costs –Most Early Stage firms need investments in the $100K to $700K range –Average VC investment is $8.3 million –Most VC firms do not want to manage numerous small investments See the current Funding break out

32. ©Charles W. Wessner PhD32 The Venture Capital Constraint Large U.S. Venture Capital Market is Not Focused on Seed/Early-Stage Firms Source: PriceWaterhouseCoopers/Thompson Venture Economics/ NVCA 2007 Seed Stage: $1.2 billion 415 Deals Early Stage: $5.2 billion 995 Deals Expansion Stage $10.8 billion 1235 Deals Later Stage $12.2 billion 1168 Deals Total: $29.4 Billion

33. © Charles Wessner, Ph.D. 33 How to Bridge the Valley of Death? The US “System” includes (incoherently) –University Research supported by DoE, DoD, NSF & NIH –DARPA Funding for long-term goals –Proof of Principle & Prototype with SBIR –Joint Ventures with ATP/TIP –Industry-led Consortia for Standards & Joint Research –Tax Credits – Broad R&D and New Investment Tax Credits –All complemented by an Entrepreneurial- friendly Policy Environment

34. The Role of the Small Business Innovation Research (SBIR) Program A Public-Private Partnership that “Works”

35. © Charles Wessner, Ph.D. 35 SBIR Program—Key Features Long-lived: –In place for 25 years –Created by the Small Business Innovation Act of 1982 & renewed in 1992 & 2001 Decentralized: –Each Agency uses its funds to support (or create) research by small companies –Program ownership rests with many agencies, not a single “tech agency” Large Scale: –Largest U.S. Innovation Partnership Program –Currently a $2.3 billion per year Focus on the Valley of Death –Funds Proof of Concept to help firms across the Valley of Death and attract private capital or public contracts

36. . 36 The SBIR “Open Innovation” Model PHASE I Feasibility Research PHASE III Product Development for Gov’t or Commercial Market Private Sector Investment Tax Revenue Federal Investment PHASE II Research towards Prototype Social and Government Needs $750K$100K R&D Investment Non-SBIR Government Investment $143 billion

37. . 37 Is the Program Successful? Just completed Academies study found that “The SBIR program is sound in concept and effective in practice.” Many kinds of successes –Knowledge Creation Success –Mission Success –Firm and Job Creation Success –Commercialization Success –NASDQ Success

38. © Charles W. Wessner Ph.D. 38 SBIR’s Knowledge Success SBIR Pushes the Scientific Frontier –Awards select for High Risk, Novel Research –Project failures are associated with technically challenging projects and not a sign of program failure SBIR Creates Multiple Knowledge Outputs –SBIR projects yield new scientific & engineering data –Results visible in numerous publications, patents and licenses, research equipment SBIR Enhances Human Capital –Opportunities for research and training for junior research staff –Knowledge gained often applied to other research projects

39. © Charles W. Wessner Ph.D. 39 SBIR’s Mission Success: NIH At NIH, SBIR funds projects that have a positive impact on health –NIH awards are selected for their potential to advance knowledge and provide new solutions in health care and bio-medicine SBIR companies bring new products to Market, including: –Improved Dialysis catheters –Safe mass inoculation technologies –High throughput screening assay to identify specific inhibitors of smallpox variola virus

40. © Charles W. Wessner Ph.D. 40 SBIR’s Innovation Success 40 percent of NIH funded firms in the NRC survey reported SBIR projects that reached the marketplace –More are expected to reach the market over time Support for Commercialization of Ideas –NIH’s SBIR Technology Assistance Programs help awardees develop and implement effective commercialization plans Helps Attract Additional funds from Angels, VC –Angel Investors: 37 percent of NRC survey respondents attracted additional investment from Angels and other sources –Venture Funding: SBIR is a signal of research quality and commercial potential. Over $1.5 billion in added VC investments between 1992 and 2005 –Acquisition: e.g., Philips acquisition of Optiva for $1 billion

41. . 41 SBIR Awards Have a Substantial Impact on Participating Companies Company Creation: 20% of responding companies said they were founded as a result of a prospective SBIR award Research Initiation: SBIR awards played a key role in the decision to pursue a research project (70% claimed as cause) Company Growth: Significant part of firm growth resulted from award Partnering: SBIR funding is often used to bring in Academic Consultants & to partner with other firms

42. . 42 SBIR’s NASDQ Success: Martek Martek manufactures Micronutrients for Infant Formula: DHA and ARA are produced from microalgae in a patented process Martek CEO Pete Linsert credits SBIR with helping to develop these products –Martek’s 2007 Market Capitalization = $665 million

43. © Charles W. Wessner Ph.D. 43 “The SBIR program has become a key force in the innovation economy of the United States” SBIR now accounts for nearly a quarter of all ‘U.S. R&D 100’ winners, an annual list of top 100 innovations –Source: Block and Keller, “Where do innovations come from?” July, 2008 SBIR Founded

44. Conclusions

45. © Charles W. Wessner, PhD45 “ Innovation” is the Key to how Nations Improve Health in the Twenty-first Century Supporting innovation should be recognized as a central function of the government –Key to a nation’s wellbeing and competitiveness Need for Public-Private Partnerships –Programs like SBIR spur entrepreneurship, develop knowledge, address national missions –Concept has been successfully adapted to other innovation systems Successful Innovation policies require sustained attention & regular review –Sustained, policy attention –Requires an understanding of the innovation ecosystem

46. © Charles W. Wessner Ph.D. 46 Our Common Challenge Adjusting to the new Globalization Dynamic is the Challenge of the 21 st Century This involves National Initiatives to encourage change through competitive incentives: –Incentives for entrepreneurial activity for Small Firms, Large Firms, and Universities –Incentives (not mandates) for cooperation among all actors –Public-private partnerships like SBIR can play an important role Mutual Learning and Cooperation are Essential for our Common Future

47. © Charles W. Wessner Ph.D. 47 Thank You Charles W. Wessner, Ph.D. Director, Program on Technology, Innovation and Entrepreneurship The U.S. National Academies 500 Fifth Street NW Washington, D.C. 20001 cwessner@nas.edu Tel: 202 334 3801 http://www.nationalacademies.org/step