Unleashing Private Sector Energy R&D Executive Summary
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Private companies have led technological revolutions that transformed industries such as computers and medicine, but the energy industry remains stuck in the past: our transportation system is 93% dependent on petroleum, and only 3.4% of our electricity is generated by solar, wind, and geothermal sources. America will be far wealthier, more secure, and more competitive with a rich array of sustainable, domestic energy options. U.S. energy companies can be leaders in the development of our future energy technologies, but they must make R&D a central part of their business models, and the government must create a public policy environment that is favorable to long-term, high-risk investments in R&D by private firms.
To learn how these goals can be achieved, we interviewed R&D leaders at 16 large, innovative companies on three topics: how they structure and manage their R&D activities, what government policies are helpful to their R&D efforts, and what are the most serious obstacles they face to greater R&D success.
How R&D is Funded and Managed in Private Companies
Structure of the Research Group
Most interviewees’ companies have a central research group, though all perform product development activities outside of this group (often in business units). Centralized R&D structures tend to promote the sharing of technology across different arms of the company. They also encourage risk-taking and long-term thinking, increasing the likelihood of achieving a fundamental breakthrough. On the downside, there can be a disconnect between centralized research and the company’s business needs. A distributed research structure promotes development that is more aligned with business needs and has a shorter time to market. This increases its short-term economic impact but risks lessening long-term success by failing to produce major breakthroughs.
Global Location of R&D
Almost every interviewee’s company performs significant R&D overseas, and overseas R&D is generally increasing in importance relative to R&D in the United States. The most common reason for overseas R&D is to work with local clients, understand local markets, and design products for those markets. Many of these countries have large economies with low national R&D intensities, implying that some movement of R&D overseas is not driven by specific policies, but is a matter of R&D in those countries “catching up” to what is merited by the countries’ market sizes. Another important driver of R&D movement overseas is a desire to co-locate research with manufacturing facilities. Reversing the decades-long decline in the importance of manufacturing to the U.S. economy would have the co-benefit of promoting more domestic R&D. Inexpensive natural gas, which is used as a feedstock in industrial processes, is starting to drive some manufacturing investments in the U.S. Lastly, companies move R&D overseas to gain better access to talent, an issue discussed in “Obstacles to Greater R&D Success” below.
Gating Mechanisms and Terminating Research Projects
Research is an inherently risky enterprise, and some failed projects are inevitable. Companies typically maintain a portfolio of different projects and routinely terminate failing ones so that funding may be directed to more promising options. The most common reasons for terminating projects are a lack of commercial potential for the innovation and technical issues with the product or the science. An objective “gating mechanism,” which requires projects to meet specific milestones, can prevent projects from dragging on for years, consuming staff time and money, without clear progress toward a commercializable outcome.
Research Partnerships
All of our interviewees’ companies engage in research partnerships. Some provide unrestricted research grants to universities in order to form relationships with faculty, gain access to graduate students in their fields, and help these students develop their skillsets. Many also sponsor specific projects at universities with a potential product use in mind. In these cases, they desire to own or easily license the IP resulting from the partnership. Although corporate funding for academic R&D increased in the last decade, it declined in importance relative to other sources of funding and now represents just 7% of universities’ R&D budgets. Many corporations also partner with national labs, often using a cooperative research and development agreement, or CRADA. Partnering with national labs is considered to be quite expensive, but worth the money, due to the labs’ highly specialized facilities and expert staffs. CRADAs are generally well-regarded by participants and are effective at stimulating private research and patents, as they demand commitment and buy-in from both research partners.
Policies that Effectively Promote R&D Worldwide
Grants and Contract Research
By a large margin, direct funding of research through grants and government contracts is regarded as the most helpful policy to promote private R&D. 32% of federally-funded R&D is carried out by businesses. Grants and contracts often require a private company to contribute matching funds to a research project. This can be effective at eliciting much greater levels of private R&D investment than would have occurred without the matching government funds. However, the funds offered by the government must be comparable to the company’s own investment in order to affect the company’s research agenda.
Regulations to Provide R&D Targets and Justification to Management
Regulations (such as fuel efficiency, safety, or emissions standards) can provide direction to a company’s research efforts by giving clear, technical targets to a research team. Regulations also sometimes helped R&D leaders make a business case to corporate management for robust support of research. Regulations need not be a net cost to a firm; a company with a better research organization may find ways to achieve compliance at lower product cost than competitors, enabling them to gain market share once a regulation takes effect. However, in order to support innovation, regulations must give companies the flexibility to choose their methods of compliance and avoid prescribing the use of particular technologies or strategies.
Foreign Economic Support
Foreign governments sometimes provide considerable support for companies’ R&D efforts, including generous R&D tax credits, free or subsidized land and buildings, a good education system, and funding local university or graduate students’ internships with the company. These supports are most helpful if offered together, as a package. No single factor, like a generous R&D tax credit, is by itself sufficient. For instance, India has the world’s most generous R&D tax credit but a low national R&D intensity, while Germany has no R&D tax incentives but manages to be an innovation leader thanks to a variety of other support mechanisms.
Obstacles to Greater R&D Success
Lack of Access to Talent
The most commonly-cited obstacle to greater R&D success is a lack of access to talent in the United States. This problem has education- and immigration-related aspects. In international tests, students in U.S. primary and secondary schools score below the OECD average in math and about average in science. The discrepancy can be largely explained by the high U.S. poverty rate, since U.S. schools in low-poverty areas outperform schools in foreign countries with comparable poverty rates. The United States possesses 27-38% of the top 200 universities, but only 9% of the top 100 universities less than 50 years old, revealing a trend toward the increasing quality of foreign scholarship. Additionally, the percentages of U.S. university graduates with degrees in science, technology, engineering, and mathematics (STEM) as well as education have waned since the early 1980s. With respect to immigration, the U.S. has strict quotas on both Permanent Resident Cards (green cards) and work visas, and there is a backlog of green card applications that is many years in length for most workers. Employers must go through a difficult, bureaucratic, and time-consuming process to sponsor workers for visas and green cards, which sometimes drives them to open R&D labs in other nations. Groups across the political spectrum have called for streamlining visa and green card procedures, addressing the application backlog, increasing quotas, and giving green cards to graduates of U.S. universities in STEM fields.
Inconsistent or Insufficient Tax Credits
Interviewees also highlighted the inconsistency of the R&D tax credit and the Production Tax Credit (PTC), as well as the low value of the R&D credit, as a significant barrier to greater R&D success. Each of these tax credits has been allowed to expire repeatedly and been extended, often retroactively, for no more than a year or two at a time. In the wind industry, the irregularity of the PTC has led to a boom-and-bust cycle of sales, with installations down 76-90% during the expirations of the PTC in 2000, 2002, and 2004 relative to the preceding years. Research is a long-term investment, so the irregularity and brief extensions of the R&D tax make it difficult for companies to consider the tax credit when making R&D funding decisions. Thus, the tax credit incentivizes less private-sector R&D than would a long-term credit of equal magnitude. Additionally, the value of the R&D tax credit is on the low side, such that the U.S. ranks 27th out of 42 major countries in terms of R&D tax credit generosity.
Difficulty Licensing IP from Universities
In recent years, schools have been increasingly interested in retaining ownership of IP in hopes of earning royalties through technology licensing, while companies feel they should receive a royalty-free license to any IP they helped to create through funded projects. Disagreements in IP negotiations with universities often prevent companies from partnering with particular schools. Some schools, such as the University of Minnesota and Penn State, are beginning to offer new IP licensing procedures designed to emphasize effective partnerships over the possibility of royalties.
Conclusion
Our interviews provide insights for energy-sector businesses, and for any innovation-driven business, on how successful companies structure and manage their R&D. There are also lessons for government concerning which policies are most effective at promoting R&D. Perhaps most importantly, we have found that the current public policy environment poses challenges that businesses cannot solve on their own, and these problems are hindering U.S. technological innovation. This must change. If government and business can work together to foster a climate that promotes innovation, then private-sector R&D can help set us on a path to an affordable, secure, and clean energy future.