NIST GCR 02–841 Between Invention and Innovation An Analysis of Funding for Early-Stage Technology Development Prepared for Economic Assessment Office Advanced Technology Program National Institute of Standards and Technology Gaithersburg, MD 20899-4710 By Lewis M. Branscomb Aetna Professor of Public Policy and Corporate Management, emeritus Kennedy School of Government, Harvard University lewis_branscomb@harvard.edu Philip E. Auerswald Assistant Director, Science, Technology, and Public Policy Program Kennedy School of Government, Harvard University philip_auerswald@harvard.edu Grant 50BNB0C1060 November 2002

TABLE OF CONTENTS

PROJECT ADVISORY COMMITTEE

ABOUT THE AUTHORS

ABSTRACT

ACKNOWLEDGMENTS

EXECUTIVE SUMMARY

INTRODUCTION: MOTIVATION AND APPROACH

1. Motivation
   
2. Project Objectives
   
3. Approach
   A. Workshops
   B. Models for interpreting the data
   C. Assumptions and limitations
   
4. Project Outputs
   
5. Team
   

Part I: UNDERSTANDING EARLY-STAGE TECHNOLOGY DEVELOPMENT

1. The economic nature and value of technology-based innovations
   A. Toward a project-level definition of technology-based innovation
   B. Applied research? Seed investment? Defining “early stage”
   
2. From invention to innovation
   A. Modeling the interval between invention and innovation
   B. Three elements of Stage 3
   C. Infrastructure requirements and complementary assets
   D. Value capture
   
3. Funding institutions and their roles
   A. Corporations
   B. Venture Capital
   C. Angel Investors
   D. Universities
   E. State Programs
   F. Federal Funding
   
4. Conclusion
   

Part II: ESTIMATING THE DISTRIBUTION OF FUNDING FOR EARLY-STAGE TECHNOLOGY DEVELOPMENT

1. Overview
   
2. Results
   
3. Detailed assumptions underlying the two models in Table 1
   A. Corporations
   B. Venture Capital
   C. Angel Investors
   D. Universities and Colleges
   E. State Governments
   F. Federal Government
   

REFERENCES

ANNEX I. SUMMARY OF REPORT BY BOOZ ALLEN & HAMILTON

• Introduction
  
• Trends
  R&D Process Evolution: Increasing Complexity and Web-Like Process
  Pressure for Measurable Results: Financial Return
  Industry and Company Life-Cycle Influences
  
• Implications
  Scale and Scope Changes for R&D
  Bias Toward Product Development and Known Markets
  
• Emergent Responses
  Portfolio Management Models
  Alliances and Acquisitions and Venture Funds
  Spin-Out of R&D Function: ESTD Engines for Hire

ANNEX II. COMPANY NARRATIVES

1. Affymetrix
   
2. Energy Conversion Devices
   
3. Marlow Industries
   
4. PolyStor Corporation

ANNEX III. AGENDAS FOR WORKSHOPS AND PARTICIPANT BIOGRAPHIES

Washington, D.C. (Carnegie Endowment for International Peace): January 25, 2001

Palo Alto, CA (Xerox Palo Alto Research Center): February 2, 2001

Cambridge, Massachusetts (Kennedy School of Government, Harvard University): May 1 and 2, 2001
Keynote Speaker (May 1) 128

ABOUT THE ADVANCED TECHNOLOGY PROGRAM

ILLUSTRATIONS

• Figure 1. Estimated distribution of funding sources for early-stage technology development, based on restrictive and inclusive criteria
• Figure 2. Sequential model of development and funding
  
• Figure 3. The Valley of Death image
  
• Figure 4. An alternative metaphor for the invention-to-innovation transition: the Darwinian Sea
  
• Figure 5. Typical corporate R&D spending profile
  

TABLES

• Table 1. Estimates of funding flows to early-stage technology development (ESTD) from data on financial support for scientific and technological innovation (1998 data)
  
• Table 2. Fraction of corporate R&D in central research laboratories, selected companies, 1998
  
• Table 3. R&D Spending Profile by Industry
  

TEXT BOXES

• Text Box 1. The challenge of value capture
  
• Text Box 2. The corporate bias toward incremental innovation within the core business
  
• Text Box 3. Outsource R&D
  
• Text Box 4. Milestone financing
  
• Text Box 5. The Band of Angels
  
• Text Box 6. The validation role of federal funds

PROJECT ADVISORY COMMITTEE

Arden L. Bement
Basil S. Turner Distinguished Professor of Materials Engineering, Purdue University*

William Bonvillian
Office of Senator Joseph Lieberman

Christopher M. Coburn
Executive Director, CCF Innovations, Cleveland Clinic Foundation

Wesley Cohen
Professor, Department of Social and Decision Sciences, Carnegie Mellon University

Maryann Feldman
The Jeffrey Skoll Professor of Innovation and Entrepreneurship, Rotman School of Management, University of Toronto

Mark Myers
Xerox Corporation (ret.) and Wharton School, University of Pennsylvania

E. Rogers Novak, Jr.
Founding Partner, Novak Biddle Venture Partners

Rosalie Ruegg
President and Director of Economic Studies, TIA Consulting

Kenneth D. Simonson
Senior Economic Advisor, Associated General Contractors of America

Jeffrey E. Sohl
Director, Center for Venture Research, University of New Hampshire,
Whittemore School of Business and Economics

Charles W. Wessner
Program Director, Board on Science, Technology and Economic Policy, National Research Council

_____________________
*Position at the time of service on this committee. Dr. Bement is currently Director
of the National Institute of Standards and Technology (NIST).

Return to Table of Contents.

ABOUT THE AUTHORS

Philip E. Auerswald is Assistant Director of the Science, Technology, and Public Policy Program and an Adjunct Lecturer at the Kennedy School of Government, Harvard University. His research pertains to science and technology policy, the economics of technological innovation, and industrial organization. Auerswald holds a Ph.D. in Economics from the University of Washington and a B.A. in Political Science from Yale. With Lewis Branscomb, Auerswald is the co-author of Taking Technical Risks: How Innovators, Executives and Investors Manage High Tech Risks (MIT Press, 2001). He is a contributor to The Emergence of Entrepreneurship Policy: Governance, Start-Ups, and Growth in the Knowledge Economy (Cambridge University Press, forthcoming) and the Santa Fe Institute Series in the Sciences of Complexity (Addison Wesley). He has served as a consultant to the Commonwealth of Massachusetts’ Department of Economic Development; in the context of that work he is principal author of Competitive Imperatives for the Commonwealth: A conceptual framework to guide the design of state economic strategy. Additionally, Auerswald has served as a research consultant to, and reviewer for, the National Research Council’s Board on Science, Technology, and Economic Policy.

Lewis M. Branscomb is Aetna Professor of Public Policy and Corporate Management (emeritus) at Harvard University. He is emeritus director of Harvard’s Science Technology and Public Policy Program in the Belfer Center for Science and International Affairs, and a member of the Center’s Board of Directors. Branscomb received the BA in physics, summa cum laude, from Duke University in 1945 and PhD in physics from Harvard in 1949, when he was appointed Junior Fellow in the Harvard Society of Fellows. He is a recipient of the Vannevar Bush Award of the National Science Board, the Arthur Bueche Award of the National Academy of Engineering, the Gold Medal of the U.S. Department of Commerce, and the Okawa Prize in Communications and Informatics. He received the Centennial Medal of the Harvard University Faculty of Arts and Sciences in 2002. He holds honorary doctoral degrees from sixteen universities and is an honorary associate of the Engineering Academy of Japan.

Branscomb pioneered the study of atomic and molecular negative ions and their role in the atmospheres of the earth and stars and was a co-founder of the Joint Institute for Laboratory Astrophysics (JILA) at the University of Colorado. While there, he was Editor of the Reviews of Modern Physics. After serving as director of the U.S. National Bureau of Standards (now the National Institute of Standards and Technology) from 1969 to 1972, he was named vice president and chief scientist of IBM Corporation and a member of the IBM Corporate Management Board. In 1980 President Carter appointed him to the National Science Board and was elected chairman in the same year, serving until May 1984.

Branscomb was appointed by President Johnson to the President’s Science Advisory Committee (1964-1968) and by President Reagan to the National Productivity Advisory Committee. He is a member of the National Academy of Engineering, the National Academy of Sciences, the Institute of Medicine and the National Academy of Public Administration. He is a director of the AAAS and a director of the National Research Council. He is a former president of the American Physical Society and a former president of Sigma Xi.

Branscomb is the co-chair, with Richard Klausner, of the Academies’ study entitled Making the Nation Safer: The Role of Science and Technology in Countering Terrorism, released on June 25, 2002 and published by National Academy Press on August 2, 2002. He has written extensively on information technology, comparative science and technology policy, and management of innovation and technology. In addition to more than 450 published papers, his recent books are Taking Technical Risks: How Innovators, Executives, and Investors Manage High Tech Risk, (with Philip Auerswald, 2000); Industrializing Knowledge: University-Industry Linkages in Japan and the United States (edited with Fumio Kodama and Richard Florida, 1999); Investing in Innovation: A Research and Innovation Policy that Works (edited with James Keller, 1998); Korea at the Turning Point: Innovation-Based Strategies for Development (with H.Y. Choi, 1996); Japanese Innovation Strategy: Technical Support for Business Visions (with Fumio Kodama, 1993); Empowering Technology: Implementing a U.S. Policy (1993); Converging Infrastructures: Intelligent Transportation and the National Information Infrastructure (with James Keller, 1996); Informed Legislatures: Coping with Science in a Democracy (with Megan Jones and David Guston, 1996); Confessions of a Technophile (1994); and Beyond Spinoff: Military and Commercial Technologies in a Changing World, (with J. Alic, et.al., 1992).

Return to Table of Contents.

ABSTRACT

The purpose of the Between Invention and Innovation project is to support informed design of public policies regarding technology entrepreneurship and the transition from invention to innovation by providing a better understanding of the sources of investments into early-stage technology development projects. National investment into the conversion of inventions into radically new goods and services, although small in absolute terms when compared to total industrial R&D, significantly affects long-term economic growth by converting the nation’s portfolio of science and engineering knowledge into innovations generating new markets and industries. Understanding early-stage technology development is important because a national and global capacity to sustain long-term economic growth is important.

The project has sought to answer two sets of questions:

• What is the distribution of funding for early-stage technology development across different institutional categories? How do government programs compare with private sources in terms of magnitude?
  
• What kinds of difficulties do firms face when attempting to find funding for early-stage, high-risk R&D projects? To what extent are such difficulties due to structural barriers or market failures?
  

We have pursued two approaches in parallel to arrive at a reasonable estimate of the national investment in early-stage technology development: first, learning from the observations of practitioners in the context of a series of workshops held in the U.S., and second, collecting the data available on early-stage technology development investments from other studies and from public statistical sources. These approaches have been supplemented by four case studies conducted by a team of Harvard researchers and a set of forty-six in-depth interviews of corporate technology managers, CEOs, and venture capitalists conducted on our behalf and with our direction by Booz Allen & Hamilton.

We found that most funding for technology development in the phase between invention and innovation comes from individual private-equity “angel” investors, corporations, and the federal government-not venture capitalists. Our findings support the view that markets for allocating risk capital to early-stage technology ventures are not efficient. Despite (or in response to) market inefficiencies, many institutional arrangements have developed for funding early-stage technology development. This suggests that funding mechanisms evolve to match the incentives and motivations of entrepreneurs and investors alike.

We also found that the conditions for success in science-based, high-tech innovation are strongly concentrated in a few geographical regions and industrial sectors, indicating the importance in this process of innovator-investor proximity and networks of supporting people and institutions. Among corporations, the fraction of R&D spending that is dedicated to early-stage technology development varies both among firms and within industries. The latter variation may be related to industry life cycles. Overall, we found that the federal role in early-stage technology development is far more significant than would be suggested by an uncritical glance at aggregate R&D statistics. Federal technology development funds complement, rather than substitute for, private funds. Decisions made today regarding the nature and magnitude of federal support for early-stage technology development are likely to have an impact far into the future.

Return to Table of Contents.

ACKNOWLEDGMENTS

We are particularly grateful to the members of the advisory committee, as listed at the opening of this report, and to participants in the three Between Invention and Innovation workshops, as listed in Annex III. The collective observations and perspectives of these individuals comprise the most valuable content in this report. We owe special thanks to Ronald Cooper, Paul Reynolds, Hans Severiens, and Jeffrey Sohl for consultations regarding the difficult task of estimating investments by “angel” investors into early-stage technology development. We additionally thank Cooper for providing us with unpublished data relevant to our study. Ambuj Sagar contributed to the report via numerous discussions throughout the process as well as through the writing of the brief company narratives presented in Annex II. Teresa Lawson of Lawson Associates Editorial Consulting ably edited the entire report (including company narratives) and the separately published case studies. Stephen Feinson assisted with workshop organization and project administration.

We would also like to thank Darin Boville, the original contracting officer, formerly of the Advanced Technology Program, for his insights and guidance at the initial stages of the project. Connie Chang, Senior Economist at ATP and the contracting officer for the project, ably managed the work to its conclusion. We benefited from additional comments by reviewers at ATP, including Anya Frieman (Economist), John Hewes (Information Coordinator), Omid Omidvar (Program Manager), and Stephanie Shipp (Director of the Economic Assessment Office.)