America’s innovation engine is running out of gas. Corporations in the US have been slashing internal long-term research and development spending for decades and, most recently, investments in venture capital-backed start-ups.
Confronting an increasingly competitive global economy and the emergence of well financed centers of innovation outside of long dominant Silicon Valley, the case for a major reversal could not be stronger, nor could the consequences for failure be higher.
The time has come for today’s equivalent of the Manhattan Project that built the atom bomb – an initiative focused on the creation of value from ideas through innovation.
Partnering the market knowledge and distribution channels of large corporations with the imagination, creativity and risk capital that have shaped Silicon Valley as the focal point for technology-driven innovation for 50 years is paramount. Through integration with our universities, and with long term research support from the federal government, the US can reverse the perilous slide in core and applied research that have been the foundation on which the modern US economy has been built.
The bottom line – corporations can and must help to redefine the role of American competitiveness and venture capital and leading-edge start-ups are their natural allies and compatriots. Consider, for example, the fall of General Motors, once the biggest industrial company in the world and now the beleaguered ward of the US government.
If it had removed its blinkers and realised it could no longer pursue a business model based on the now-defunct era of cheap energy, it might have invested in, say, Tesla Motors, the prominent California maker of all-electric vehicles. Then GM might have averted its fate.
A significant reduction in the innovative role of major US corporations has been under way for three decades. Just a generation ago, AT&T’s Bell Labs, IBM’s Watson Labs and Xerox’s Palo Alto Research Center were key engines of American innovation and the envy of the developed world. In 1981, US corporations with more than 25,000 employees represented about 70% of the investment in industrial innovation in America, according to the National Science Foundation. By 2006, that figure had plummeted to 37%.
Fortunately, a new model of US innovation emerged to pick up the slack. Backed by VCs, and in partnership with major university research centres, the world’s best and brightest engineers and scientists demonstrated they could out-innovate the corporate labs of the past. These innovation machines – VC-backed start-ups – proved that risk-oriented entrepreneurs, rewarded commensurately for success, could redefine an economy.
While large corporate R&D nosedived, small companies increased their investment in R&D from 10% of the US total to almost 40% between 1981 and 2005. In fact, public companies that were originally VC-backed today represent 17% of the US gross domestic product and have created more than 12 million high-paying jobs in the past 30 years.
Sadly, corporate investments in VC have subsequently declined precipitously. Corporations have shied away from VC investing because it is long-term and does not mix well with shorter-term corporate planning, or with Wall Street’s insistence on predictable quarterly earnings. This has to change. And now is a great time for a turnround in corporate venturing – start-up valuations are unusually low, the cost of innovation in many areas has fallen precipitously, and start-ups are willing partners as they seek to access major markets.
It is important that this occurs before America’s longstanding and successful economic model, already badly frayed, deteriorates further. That could make today’s beleaguered American lifestyle permanent. The legacy of this issue is not as obvious as it might seem.
Most knowledge-workers think of innovation as a straight line. The reality, however, is that it comes in waves. The semiconductor, the minicomputer, the microprocessor, client/server computing and the internet all induced tsunamis of innovation. As excitement about the technologies grew, so did the corporate interest in investing in start-ups at the cutting edge of these developments and the perceived value and valuations of these start-ups.
But the tide flows both ways, and corporate interest in entrepreneurial companies and their valuations comes and goes with the surges of innovation. One dramatic example was internet exuberance during the dot.com boom a decade ago. US corporate venture capital investments soared from $1.8bn in 1998 to $16.2bn in 2000, accounting for 16% of all VC invested that year.
The Nasdaq stock market subsequently nosedived, and the perceived value of entrepreneurial companies swung to the other extreme. Corporate investments in internet start-ups and others fell to $1.6bn in 2002. Five years ago, corporate interest in entrepreneurial companies began rebounding and waned again sharply in 2008.
Corporations jump in and out of investing because they pay too much attention to short-term financial considerations, consumer trends and the health of the economy. This is a recipe for failure.
When corporations decide to invest in start-ups, they must be mindful of an inherent mismatch in cultures. Large corporations measure themselves by how many employees they have, their public market value and their brand recognition. They are cautious in their approach to investing in new technologies and are resistant to change.
The venture-backed entrepreneurial community is exactly the opposite. Start-ups take pride in being small, fast, efficient and bold.
The process of combining the two cultures requires acknowledgment from both parties of what each type of company does well and what it does not. The key is to cre- ate the right type of relationship at the right time – an eco-system – hence my reference to the Manhattan Project.