House of Commons - Bridging the valley of death: improving the commercialisation of research

Bridging the valley of death: improving the commercialisation of research - Science and Technology Committee Contents

2 Innovation and the "valley of death"

9. The valley of death describes the point where a business, often a technology based business, has a working prototype for a product or service that has not yet been developed enough to earn money through commercial sales. The company needs to find sufficient money to develop the prototype until it can generate sufficient cash, through sales to customers, that would allow it to be self sufficient and grow. Growing companies will generate both jobs and wealth, a key objective for any government.

10. The Government recently published an Innovation and Research Strategy for Growth, which sets out how it plans to work with business and the knowledge base to underpin private sector led growth.[9] In the same week, the Government published its strategy for the life sciences, outlining how the Government will take action to make the UK a world-leading place for life sciences investment.[10]

11. Our predecessor Committee's 2010 The impact of spending cuts on science and scientific research concluded that the UK had an excellent research base but was still failing to maximise its potential by translating research into wealth and health. It recommended that the Government should consider increasing funding for the translation process to at least the same order of magnitude as that provided for basic research.[11] The 2009 inquiry Engineering: turning ideas into reality concluded that the UK was likely to miss out on the economic return associated with translating the findings of research into commercialised technologies, and called for a serious revision of the structures used to support the growth of fledgling industries.[12]

12. This Committee's 2011 inquiry into the Technology and Innovation Centres (now known as Catapults) cautioned that the limited funds available for innovation should not be monopolised by the TICs and noted that there was a lack of knowledge in the business world regarding existing UK research and development capabilities. The report recommended that the Technology Strategy Board (TSB) maintain a public list in the form of an online catalogue of centres that are ready and willing to work with business, in particular SMEs (small and medium enterprises), in specific technology areas.[13] A key feature of these centres was to follow the example of the Fraunhofer institutes in Germany in delivering long-term capital in an institution bringing together university expertise with private capital to produce industrial demand driven research and development.[14]

13. Evidence submitted by the Department for Business, Innovation and Skills (BIS) outlined the portfolio of policies that have been developed for the practical support for innovation which includes:

Initiatives managed by the Technology Strategy Board (TSB), including the Catapult centres, the Small Business Research Initiative (SBRI), Smart awards, and Knowledge Transfer Partnerships (KTPs)
R&D tax credits - provide tax relief for technological R&D
UK Innovation Investment Fund (UKIIF) - funding for venture capital
Patent Box - reduced tax on patents from 2013
Higher Education Innovation Fund - funding available to universities for knowledge transfer, provided through the Higher Education Funding Council for England (HEFCE).[15]

THE LINEAR MODEL OF INNOVATION

14. The Science and Technology Policy Research Unit (SPRU) at the University of Sussex, and Exeter Business School (EBS) expressed concern that the Government's strategy for growth[16] "still retains an implicit discredited linear model in many places" mentioning specifically the Knowledge Transfer Partnerships (KTPs).[17] Others who criticised the idea that there was a single 'valley of death' tended to argue that the concept encouraged people to think that innovation was linear, and that financial obstacles were only found in one place.[18]

15. The linear idea of innovation may be described in the following way:

16. The Higher Education Funding Council for England (HEFCE) highlighted to us that the role of universities may be less instrumental in the commercialisation process than is assumed:

The vast majority of new technologies in the world that become commercially adopted will be devised and developed in the business world, by entrepreneurs, technology consultants, large and small businesses and in supply chains (albeit, we believe, infused and informed by university ideas and human capital development). [...]we estimate that only 19% of patent application filings from [the] UK [originate in] universities[19]

17. SPRU & EBS[20] expanded on the contribution of the linear model to high technology manufacturing:

Much thinking about the commercialisation of research adopts an inappropriate and misleading 'linear model of innovation' in which university research generates innovations, that are then transferred and commercialised. Only 3% of the economy is in high tech manufacturing that draws on research in this way[21]

18. Written evidence from the Government noted that relatively little innovation was commercialised in this manner. Rather, the main route by which knowledge generated by the research base is commercialised is through "collaborative and contract research, consultancy, and the provision of professional training".[22][23]

19. The University of Manchester also criticised the linear model:

We have some discomfort with the phrase "valley of death" which implies that it is only necessary to get through this particular stage. In fact successful innovation is an interactive process in which commercialisation plans have to be effective in all stages and sometimes simultaneously.[24]

THE INNOVATION ECOSYSTEM

20. The four resources essential for economic activity are knowledge, finance, services and people. The challenge for government policy is to define how it provides an environment where those four resources can be accessed effectively by businesses that already exist and those that may start up and grow. This is as true of technology sectors as of the wider economy but the way in which the resources are made available and the particular kinds of knowledge, capital and people required (or the balance between them) may differ from the business community as a whole.

21. The organisations, relationships and flows of money and knowledge by which innovation can be translated into jobs and wealth, often termed the innovation ecosystem, is a complex one. Professor Georghiou of the University of Manchester provided us with a diagram that we reproduce below:

22. The context for the whole ecosystem is determined by the regulations, standards and the fiscal environment set by Government. Universities and Public Sector Research Establishments attract finance and produce trained people, knowledge and intellectual property. Research and Technology Organisations (RTOs) perform a similar but more commercially oriented function. Finance flows from Government, larger firms, seed and venture capital organisations, banks and public markets. Ultimately the innovations that generate jobs and wealth are developed by businesses large and small and depend on a complex web of finance and knowledge transfer between these public and private organisations. The purpose of innovation policy is to ensure that both knowledge and finance flow efficiently to support the commercialisation of innovative products and services.

23. Insurance companies and pension funds have been major investors in this area but, in recent years, have become more cautious in their investment portfolio.[25] It was with some concern that we heard that a venture capitalist who made an investment in ARM[26] in the 1990s gauged that ARM would not, in today's financial environment, have received that funding[27] without which it might have failed to become one of the world's leading computer chip manufacturers. The issue of institutional investment will be considered in more depth later in the report.

24. Rolls Royce pointed out in their evidence that a common misconception was that innovation happened in smaller companies when a significant amount of innovation came from within large companies.[28] They highlighted their participation in networks alongside universities and small and medium sized businesses.[29] In October 2011, the Confederation of British Industry (CBI) published the Future Champions report which highlighted the relative value of medium sized businesses to the economy. The report pointed out that firms with a turnover of between £10 million and £100 million represent less than 1% of businesses but generated 22% of economic revenue and 16% of all jobs, suggesting that growing this size of company would have a disproportionately beneficial impact on wealth and jobs creation.[30]

25. Having outlined the innovation system in the UK we next consider where that system may not be functioning and how it might be improved.

Access to money and equipment

26. For a business to be successful it must, over time, generate more money than it spends. However, the timescale for achieving a positive cash position can be lengthy; Amazon famously operated successfully, for seven years, spending more money than it was making.[31] Technology companies are similar in that they often need to invest heavily before they can demonstrate the potential to be profitable.[32] If they cannot find patient investors, then they may go out of business or be forced to sell out cheaply before they realise their potential.[33]

PICKING WINNERS

The challenge is to ensure that appropriate types of finance are available at all stages of a company's development and, as resources are always limited, that they go to the companies that will use them to best effect. It is widely accepted that Government is unable to "pick winners" (though we learned that resources available to the TSB means that it has to do so in allocating grants such as SMART awards). Recent reports on patents relating to graphene suggest that despite the £50m commitment from the government, China is taking a lead in this field. The University of Oxford had "concerns about strategies that rely on predicting technology futures and 'winners'".[34] The SME Innovation Alliance also warned against the Government "picking winners" or allowing "the 'Great and Good' to judge or select winners: such panels will always pick the well presented, apparently 'safe', project and miss the exciting and good".[35] However, we were told that Government does need to make choices in terms of which sectors to prioritise when assisting R&D investment and may, on occasion, need to go further.[36]

27. Sir Peter Williams, Vice President of the Royal Society and Chairman of the National Physical Laboratory, told us that there might be times when the Government needed to be brave and back good companies but that when it does, such as in the case of graphene,[37] "you are going to have to try to pick two or three winners and give them not sub-critical but super-critical financing, so that you do enable them to be a leader in the facilitation and deployment of this remarkable substance in new applications".[38]

FINDING THE CASH TO DO BUSINESS

Equity capital and public market finance

28. A traditional route for start-up companies is to seek capital from personal sources then look for business angels and venture capitalists. Capital of this nature is usually acquired by exchanging part ownership of the company (equity) meaning that the original entrepreneurs see their interest in the company diminish over time:

The key point is that, if you are an entrepreneur and you have to go and get money, you virtually sell 95% of your idea very quickly either to venture capital, AIM[39] or whatever. You are left with 5%. That literally leaves the vast majority of people emotionally drained of the energy to take their idea forward.[40]

The SME Innovation Alliance were also concerned about how the need to seek venture capital increases the chance of control of the company and its technology moving overseas:

The VC funding model is also a systematic means to export UK technology. The vast majority of funds come from overseas. If a company has three funding rounds, and if 80% of funds are non-UK, then mathematically the chances of control remaining in the UK after three rounds is 0.8%[41]

29. Anne Glover, co-founder and Chief Executive of Amadeus Capital Partners Ltd, explained one reason for the short term nature of equity investment:

The reason that our time scales are short is that at the moment, historically, until [the Business Growth Fund] came along, the availability of the next stage of capital was too weak. Basically, we had to assume that we could work only with our own and that made us much more risk averse. If there was a ladder of financing that worked, we would take the long-term risks and be happy about it.[42]

We heard that the short timescales of venture capital investment means that small companies are often developed for the sole purpose of being sold[43] and that, as most buyers are overseas, many of these companies and their technology end up being developed overseas.[44] An example of this is referred to in our previous report on Technology Innovation Centres, see paragraph 5.

30. We have been told that the UK needs to change the financial environment to incentivise more smaller companies to grow further independently rather than sell out to a larger, and probably foreign, competitor.[45]

31. The issue of long term capital has been the subject of a recent report to the Department of Business Innovation and Skills. That report noted a failure in the marketplace to provide significant sums of patient capital to enable companies to develop and grow.[46] We were also told that many UK institutional investors had withdrawn from the UK stock markets, Katie Potts of Herald Investment Management Ltd, stated:

pension fund and insurance companies at their peak in 1994 owned about 60% of the UK stock market. They have now withered to less than 20%, and they have been replaced by overseas investors, who do not look at smaller companies and do not care about early stage companies. That degree of shrinkage means cash outflow. [...] It makes me weep having gone through the risk phase and then finding that foreign companies buy them too cheaply.[47]

32. In her written evidence she had explained the reasons for this change:

These institutions were professional long-term stable investors, with good corporate governance skills who controlled executive remuneration etc. It is a tragic and devastating unintended consequence of the abolition of ACT relief, combined with the rising liabilities for defined benefit pension schemes as life expectancy has grown, and investment returns have diminished. The accounting requirement to disclose these liabilities with valuation methodologies which discourages equity investing has been the final death knell, which has led to the disappearance of institutional investors on the registers of our investee companies.[48]

33. The CBI, Future Champions, report highlighted the difficulty of medium sized companies in the UK accessing a functioning bond market such as those found in Germany and the US, which further accentuates the lack of capital to technology companies. The report stated:

Many large firms have found that issuing debt either through a private placement or through public bond markets, has a number of advantages; they can make a return on investment over long time periods and choose investors that share in their objectives, all without reducing the equity stake of existing shareholders.[49]

34. Stephen Welton of the Business Growth Fund also highlighted the importance of medium sized businesses:

I think the fact you can raise money for businesses that are more mature in and of itself is not a bad thing. What we want to do is expand the number of growing medium-size companies. Based on the research we have done, there are 5,000 companies currently in the UK turning over between 2.5 million and 100 million, growing in excess of 10% per annum.[50]

They are not growing at 50% compound per annum, but they have grown well. These are the businesses which can go from 2.5 million, 5 million, 10 million to 20 million. The economic effects of that are dramatic in terms of employment, tax revenues and everything else, but that market needs funding from investors and banks.[51]

Non-equity based capital

35. Not least because of the concerns over ownership which are noted above, public sector grant funding (UK and EU), which does not require any loss of equity, is an enticing prospect for small technology companies. Its disadvantage is that it is often highly bureaucratic to apply for[52] and, in some cases, highly competitive and only enough to "get an idea off the ground".[53]

36. Another non-equity option could be a loan from a bank. The Government has schemes to encourage bank lending to business, for example the 'Enterprise Finance Guarantee' scheme[54] and, under the Merlin agreement,[55] banks have pledged to proactively support, and invest in, small businesses. Early in 2012 Government provided banks with £20 billion at low rates of interest for the National Loan Guarantee Scheme[56] so that they could provide small businesses with loans up to one percent cheaper[57] than they might otherwise be offered.[58] However we heard that banks were requiring entrepreneurs to provide security to obtain these loans. For example Dr Worswick, Chairman, Cobalt Light Systems, stated that:

We approached HSBC, with whom I had had a very long and excellent relationship, under the Government loan guarantee scheme. We wanted to borrow £400,000 for working capital on a specific project. It took a fair amount of time but that is okay; they had due diligence and so on. Remember that 75% of that—£300,000—was covered by Government guarantees. They then turned round and said, "Well, the directors of the company will have to warrant the other £100,000."[59]

In some cases, the only security available may be a family home. The Minister recognised that banks had become bad at lending where there were no assets such as a house to guarantee a loan. He did point out however that under the Enterprise Finance Guarantee Scheme conditions "lenders must not take a charge on the principal private property".[60]

37. Matthew Bullock was head of Barclay's technology financing team in Cambridge for ten years. He told us it was possible for banks to fund technology innovation:

We provided bank finance in Barclays for the kind of venture I am talking about, not the one that was running very quickly towards product development and going down through the negative loop. We lent very consistently. We had a loss rate of one sixth of the bank's average over a 10-year period, and basically it was a very good business. We rotated our finance because basically we were providing working capital finance against contract payments from creditworthy customers who we were satisfied would be very sound debtors. We had to monitor things very closely, which we did, but it was basically quite good business for banking.[61]

38. We were encouraged that there might be a remedy for some of these problems in the near future. While we were inquiring into this issue, Rt Hon Vince Cable MP, the Secretary of State for Business, Innovation and Skills, announced that a bank for business will be established within the next 18 months. This was confirmed by the Chancellor of the Exchequer in the Autumn Statement[62] but details of how this bank will be constituted or operate are not expected until spring 2013.

39. We are concerned that our small companies are too often bought up by larger overseas companies before they can develop into the medium sized enterprises that would produce substantial jobs and wealth in the UK. We are convinced that while equity investments have a place, too many companies are forced into over-reliance on this route because other types of funding are unavailable. We recommend that the proposed bank for business, possibly in partnership with the Business Growth Fund, be used to promote a bond market for medium sized businesses, thus providing growing small businesses with an additional source of funding.

40. We have concerns that regulation to de-risk pension and insurance funds has had the effect of starving technology companies of a source of long term patient capital. There is a need to deploy these funds more usefully. We recommend that the Government investigate the potential to require funds to have a proportion of European SME equities.

41. Lloyds Banking Group run a scheme where senior staff attend a Warwick based engineering course designed to help them make better decisions on financial risk by giving them a better understanding of some emerging technologies.[63] We recommend that the bank for business adopts such an approach for its staff from the outset.

42. The bank for business announced by the Government may provide a useful go-between for institutional investors and technology businesses. We urge the Government proactively to seek to develop not only the market in technology equities but to ensure that the market has ready access to information that may change the perception of these equities and their relative risk and create mechanisms, such as the Lloyds scheme, to help fund managers understand evolving technologies. However, reporting requirements and other costly regulatory burdens on UK-based listed companies, especially in the AIM market, should be kept to a 'fit for purpose' minimum.

43. The development of companies may not be linear but it is important that, at whatever stage a company finds itself, there is an obvious next investment step to take. If the investment ladder is not complete then companies may take development steps at inappropriate times. For example, Birmingham University pointed out that without access to proof of concept funds, universities may establish companies too early in order to qualify for SMART.[64]

44. The Wellcome Trust was concerned that

the Government's ambition for university knowledge exchange income from external sources to grow by 10 per cent over the next three years [...] will encourage universities to see their interactions with businesses within a context of short-term revenue generation, rather than sharing knowledge for longer-term public benefit. It may dissuade them from seeking out local partnerships that will create jobs and see intellectual property retained within the UK, if greater profit can be made from licensing technology internationally.

45. We recommend that the Government re-examine their portfolio of interventions to determine where gaps may lie and to ensure there is a consistent spread of funding across the spectrum of business need. It is important that government funding fits the needs of growing companies rather than company growth having to adapt to gain government funding. It is also important to ensure that the incentives from Government tend towards greater growth and retention of jobs and wealth creation in the UK.

GETTING ACCESS TO THE NECESSARY TECHNOLOGY

46. The successful commercialisation of research requires parallel efforts to develop manufacturing technologies. Professor Bill O'Neill, University of Cambridge, stated:

Translational research and development has been widely recognised as of vital importance to ensuring that the UK gains a wealth creation dividend from investment in science. However, the importance of parallel research and development in the supportive manufacturing sphere has, until recently, received less attention.

[...]

For some inventions, for instance in the material sciences, manufacturability has remained a constraining challenge for years after the invention's market potential has been recognised. These, wasteful, fallow years could have been foreshortened if the manufacturing research and development effort had been mobilised sooner.[65]

47. Rolls Royce identified a need for national manufacturing infrastructure that could support pre-production R&D:

Our overseas competitors benefit significantly from access to rigs and facilities in National research centres which are funded and maintained at the state-of-the art out of the public purse (e.g. NASA in the USA, DLR in Germany, ONERA in France). In the UK, such facilities have largely been privatised. It is no surprise then that many of these facilities have been, or are being closed as they cannot be maintained as a commercial operation, or else face under-investment so that they become uncompetitive. Such facilities are essential to take technology through the TRLs 4, 5 and 6.[66]

As example, Rolls Royce pointed to the lack of a UK engine altitude test facility, the repeated threat of closure of the Noise Research Centre in QinetiQ and the difficulty the Aircraft Research Centre in Bedford has faced in seeking to modernise facilities.[67]

48. Dr Eoin Sullivan of the Centre for Science, Technology and Innovation Policy at the University of Cambridge wrote of the importance of manufacturing requirements:

Public science and engineering research programmes typically focus on building one technology artefact to demonstrate innovation/technology; but lack resources to address risks in maturing manufacturing processes. [68]

The following graphic was produced, by Dr O'Sullivan,[69] to demonstrate the close relationship required between a developing technology and the manufacturing capability necessary for its eventual commercial production.

49. Engineering the Future hoped that the Catapult centres[70] and Local Enterprise Partnerships could "effectively reduce investment capital requirements for companies entering certain markets by offering open access prototyping, scale-up and demonstration facilities".[71] The University of Birmingham believed the key to the catapults contributing in this way lay in "how "open access" these facilities will actually be and/or what funding streams will be available to enable such access".[72] The Royal Society for Chemistry wrote:

Access to facilities could be improved by providing funding to small and medium enterprises (SMEs) to use the new facilities. A good model was the funding offered for the Industrial Biotechnology pilot plant facilities at the Centre for Process Innovation and this should be replicated for other centres part of the HVM Catapult[73]

50. Dr Ruth Mallors, Director of the Aerospace, Aviation and Defence Knowledge Transfer Network, told us that "there are lots of facilities in [the university sector], but there is not an overarching understanding of what bits we need nationally to create a national capability".[74] She added that an "overarching strategy and facility approach is not there, particularly for industries where physical and virtual testing is so important because of safety and the regulatory environments. It is becoming an increasingly big issue for those sectors".[75] We heard of other examples of facilities that could provide the basis of a national infrastructure. Examples include the Open Innovation campus in Stevenage in the biosciences,[76] the National Physical Laboratory in Teddington and the Rutherford Appleton Laboratory in Didcot.

51. We share the concerns of our witnesses that the UK small business sector lacks access to large scale test and experimental production facilities. We recommend the Government to find a way to ensure that those facilities that do exist can be more readily accessed by business, that gaps in requirements are identified and a fund established to subsidise those facilities that cannot afford to remain at the leading edge in a purely commercial environment.

52. We urge the Government, when looking at the issue of production facilities, to ensure that the Technology Strategy Board and other commercialisation activities address whether projects are properly supported in issues of manufacturing capability.

Creating the right environment

INCENTIVISING R&D ACTIVITY

53. The key government support for companies investing in research and development is the R&D tax credit which provided "over £1 billion of support [...] through the Small and Large Companies schemes in 2009-10".[77]

54. Research carried out by HM Revenue and Customs in November 2010 showed that between 2003 and 2008 the tax credit successfully encouraged business expenditure in research and development (BERD) to grow from £11.33 billion to £14.99 billion while the amount of that spending used to claim tax credits grew from 50% to 72% of R&D expenditure.[78] Interesting features of the analysis within the report were that the main sectors claiming the credit were Real estate, Renting and Business activities (36% in 2007-08, 40% in 2008-09) and Manufacturing (31% in 2007-08, 40% in 2008-09);[79] and that over the period 2004-05 to 2008-09 'high tech' accounts for "two thirds of SME claims accounting for over 90% of the tax cost" (the corresponding figures for large company 'high tech' claims are 42% and 74%).[80] A key feature was that 80% of the tax credit was claimed by large rather than small and medium sized businesses:

For 2008-09, the most recent year for which figures are complete, 6,600 SMEs made claims averaging £40k each, whereas 2,190 large companies made average claims of £328k.[81]

55. Prior to the 2010 General Election, the Conservative Party commissioned James Dyson to develop proposals to make Britain the leader in Europe for hi-tech exports. He recommended that the tax credit be refocused on "high tech companies, small businesses and new start-ups in order to stimulate a new wave of technology".[82] Greater support for SMEs was a feature of many responses to this inquiry particularly from industry and trade associations.[83]

56. In oral evidence, Sir Peter Williams and Sir David Cooksey, both of whom participated in the working group that first recommended the tax credit to the Treasury,[84] advocated a greater refocusing of the credit to SMEs:

I have to say that, reflecting today, 10 or more years on, that scheme has been highly effective with SMEs. Can we have some more, please? It probably has not conditioned behaviour in R and D of larger companies. They willingly bank the cheques. It is always good news. I sat on the boards of two major plcs who received considerable R and D tax credits during my time as an [non-executive director]. I do not think you are moving the needle with big companies, but, boy, are you moving the needle with smaller companies.[85]

Both Sir Peter and Sir David appeared before our predecessor Committee in 1998 subsequent to the publication of their report to the Treasury. At that time they spoke of the measure as a way of encouraging the growth of smaller businesses by helping them stretch the value of their capital:

in most of these companies, anything up to 70 or 80 per cent of their total expenditure in the early phase is on research and development in one form or another. If you are able to offset this expenditure as a tax credit which could accrue within the company against taxable income paid elsewhere, then that would be extremely helpful because it would just make that investment last that much longer[86]

Sir Peter was certain that the tax credits could do more to help emerging technology based companies if they were better focussed on smaller companies, possibly with some reallocation from larger companies.[87]

57. HMRC published an assessment in November 2010 which showed the various impacts of the tax depending on the nature of the company. Data from Table 2 in the document, Effect of tax credits and grants for R&D,[88] is reproduced below. It demonstrates very different responses to the R&D tax credit between a range of firm sizes:

R&D tax credits

One person, one product May not claim

Small research-based business Useful bonus may increase amount of R&D conducted

Established SME, suite of products Regular claims good for cashflow

May increase amount of R&D conducted

High tech, high ambition Nice to have, but not factored in to decisions

Large company, separate R&D function Political statement of support for R&D in UK

Little direct impact on amount of R&D

58. During 2011 the Government consulted twice on R&D tax credits. In response to the first consultation the Government indicated that it did not intend to refocus the tax to high technology firms along the lines of the Dyson report but it did introduce a range of measures to increase the benefits to SMEs.[89]

59. The Government indicated that it would not follow the James Dyson report recommendations that the tax credit should be refocused on high technology sectors or on small and start-up companies. The R&D tax credit has been successful in increasing spend by business on research and development but this has, mostly, been within larger companies. We recommend that the Government identify the reasons why R&D spend still appears to be drifting away from the UK despite the benefits enjoyed by larger companies. We also believe that there needs to be a mechanism to support SME's who do disproportionately badly from the current scheme.

60. A number of submissions highlighted the need to develop more medium sized companies. The SET Squared partnership indicated that "One of the biggest problems facing the UK economy is its relative inability to develop and retain mid-sized high growth companies".[90] Cambridge Enterprise Ltd stated that "if retaining and developing such companies in the UK are objectives, they would be assisted by a consistent national strategy to develop companies beyond the early stage".[91] Mark A Phillips, first Chairman of BRITEST Ltd and a visiting professor at Leeds University Business School, highlighted a potential problem that a lack of medium sized companies might cause:

In fields like high precision engineering and robotics the UK appears to lack companies of sufficient scale to engage in major manufacturing development programmes and we have had to look to Europe and the Far East to provide partners with the required capability.[92]

61. We conclude that the Government needs to distinguish in its innovation policy between small and medium enterprises: a single SME category is too broad.

62. Engineering the Future and the University College of London both welcomed the Government's action to exempt universities from VAT on shared services and that such action was "a strong signal of support from government". However the Wellcome Trust raised an issue in relation to the Francis Crick Institute:[93]

zero rating for new charitable buildings can only be retained if the building is used 95% for non-business charitable purposes. In the case of the Francis Crick Institute, this will restrict the ability to conduct on-site technology transfer and commercialisation activities.[94]

This was expanded upon on our visit to the Advanced Manufacturing Research Centre in Sheffield and subsequently detailed in writing.[95] A recent change in VAT rules meant that it imposed an additional cost on the "construction, equipment and running costs" of their Knowledge Transfer Centre and AMI Training Centre that can only be recouped by increasing the cost of apprenticeship fees to those companies seeking to train their future staff.

63. We recommend that the Government address the issue of VAT and how it might ensure that VAT rules allow academic teaching and research to sit alongside commercial and incubation activities within public or charitably funded laboratories and research centres without creating a financial burden for the institute.

Regulation

64. On its website the Department for Business, Innovation and Skills says:

Cutting red tape and improving our regulation and policies is a key priority for BIS. We aim where appropriate, for a light-touch regulatory environment, with less red tape and burdens on business, whilst protecting the public, consumers and employees.[96]

65. We were provided with several examples of regulation in the bio-pharma sector impeding product innovation. David Cooksey told us that, even in the USA, it was simpler and cheaper to conduct in-human trials:

The sheer cost, bureaucracy and difficulty of getting that done in this country means that, of the portfolio of companies that I have been involved with, probably more than 75% of them have given up in this country and have gone to do their trials in Philadelphia, Boston or North Carolina, because they can get it done quicker and cheaper and with a system that delivers more coherent results.[97]

This was supported by evidence from Action on Hearing Loss:

Hearing research that does take place in the UK can be undermined by an overly complex regulatory and governance environment. An Action on Hearing Loss-funded project, investigating genetic predisposition to hearing loss caused by a specific class of antibiotic often used to treat life threatening infections in premature babies, has been held up for over two years due to the complicated bureaucracy involved in conducting clinical research at multiple sites in the UK and the lack of support to help researchers navigate the regulatory process.[98]

Action on Hearing Loss already sent the majority of their research overseas, mostly due to a lack of appropriate research capacity; a trend that is not likely to be reversed in the face of a difficult regulatory system.[99]

66. The British Society of Plant Breeders were concerned that regulation surrounding GM was so difficult that procedures that might be classed as GM were avoided.[100] The Aerospace, Aviation & Defence Knowledge Transfer Network highlighted the difficulties of innovating in a highly regulated environment such as aerospace when the regulations are complex and fragmented,[101] LGC[102]pointed to regulation as a barrier to the introduction of innovative procedures.[103] Rees Ward, Chief Executive Officer, ADS,[104] indicated that better information from Government could help industries working in highly regulated sectors:

Different sectors require slightly different approaches here, but the broad picture is that we need to understand in highly regulated and government dominated sectors where the government wants to go in the long term[105]

67. Tim Crocker of the SME Innovation Alliance believed that not only did the regulatory burden fall more heavily on smaller businesses, it also added to the liabilities of doing business:

If I want goods signed off for sale in this country, I end up signing the certificate of compliance. If I go to a German test house, the test engineer, who is an employee of the German state, signs it off. That is a massive liability difference.

68. The CBI also raised the issue of regulation, noting that intelligent regulation could drive innovation as long as companies were provided with certainty. This could be accomplished if the Government was able to:

Inform businesses of future planned changes in the regulatory environment, allowing time to plan and comply with new rules
Provide a degree of flexibility in how regulations could be met
Provide clarity in requirements and ensure new rules were not open to misinterpretation
Ensure poor regulations were dealt with effectively and that additional burdens or conflicts were not placed on business by overlapping or multiple layers of regulation.[106]

69. Iain Gray, Chief Executive, TSB, maintained that, in Germany, standards were used to drive innovation rather than being an inhibitory factor and that, "There are a lot of non-financial ways in which [the TSB] can help business".[107] The Minister indicated that he was open to exploring options that might reduce burdens on small businesses:

We have flagged an issue that we should do more work on to try to understand this German system, though as I say, we are not necessarily sure that the earlier evidence absolutely matches our understanding of how it works. But we will undertake to look into it further.[108]

The Government, in 2011, published an independent review on how the impact of health and safety regulation might on business might be reduced "maintaining the progress that has been made in health and safety outcomes".[109]

70. Poor regulation adds to the risk burden of entrepreneurs. We welcome the proactive response of the Minister on the issue raised in evidence to us and recommend the TSB to undertake a review of regulatory burdens on technological innovation in the UK. This review should be consistent with the advice to Government by Professor Ragnar Lofstedt on Health & Safety matters but should not include just a list of regulatory burdens in need of reform but a roadmap of how that reform might be used to drive innovation and which institutions should take the lead.

INTELLECTUAL PROPERTY

71. Innovators often have an unrealistic expectation of the worth of their IP; the BioIndustry Association identified a problem with university technology transfer offices and businesses having different perceptions of the value of intellectual property:

Research conducted by the Advanced Institute of Management Research (AIMR) and Imperial College Business School showed that between 2004 and 2008 an increasing number of firms reported a range of problems that they consider barriers to greater collaboration with [Technology Transfer Offices] including a perceived lack of realistic expectations.[110]

The Royal Society of Edinburgh underlined the problem:

There is a common perception among industry and investors that universities can be unrealistic in negotiating terms on the transfer of IP, often expecting large percentage returns even where IP is not assigned but exclusive licence granted. In a company's early years, when cash flow is often a make-or-break issue, heavy repayments to the university in the form of licence payments or wage costs for academics involved, can be a significant factor in the success or failure of commercialisation.[111]

The Minister was aware of this issue:

One thing that does concern me is that perhaps in the past there was a kind of target culture when notching up patents was the priority, especially as universities and researchers do sometimes exaggerate the starting value of their discovery and underestimate the value added by the commercial development of the discovery. Sometimes you can have a dialogue of the deaf in a negotiation where the university sits and thinks it has high value for the IP they have, whereas the commercial entrepreneur thinks that is exaggerated. There are areas where we can improve here.[112]

72. Patent laws were introduced to encourage inventors to put their ideas into the public domain by providing them with a period in which they would have a monopoly on benefits from the use of that technology. It is commonly believed that patents prevent others from using the technology but in fact it only provides an inventor with a right to take legal action against a third party whom they believe has used the technology. The onus is on the patent holder to prove the breach: a patent holder must be aware that a breach has occurred and have sufficient funds to take the matter to court. Small technology companies can find it difficult to protect their IP. Tim Crocker, SME Innovation Alliance, stated that:

you cannot exercise the rights of those patents unless maybe you have got a fighting fund of half a million quid; and that would be a minimum sort of fighting fund, as lawyers would advise you. [...] if you are a £20 million-worth company [you] can't continually fight half-a-million quid battles to enforce your commercial rights.[113]

73. The result is that the easiest way for a small technology company to realise the value of a patent is probably to sell the patent, or the company, to a larger competitor rather than attempt to exploit a technology they could not afford to protect.[114]

74. The Minister acknowledged that a problem existed for smaller companies. He was not aware of any Government initiative to address it,[115] though he did indicate actions taken to alleviate some aspects of the current system:

There has been some improvement in the Patents County Court. In terms of companies getting protection through law, we have tried to lower the costs for them of protecting their patents through the legal system. We have also tried to help provide alternatives to court action, including hearings before the [Intellectual Property Office] tribunal or using the [Intellectual Property Office's] mediation and patent opinion services.[116]

The Intellectual Property Office (IPO) offers a mediation service "to help companies and individuals involved in intellectual property (IP) disputes" covering all intellectual property, "unregistered copyright and design rights, as well as registered rights such as patents, trademarks and registered designs".[117] There is however no requirement for companies to use mediation nor a compulsion to abide by any ruling of a mediator.

75. We note that the Business, Innovation and Skills Committee in its report The Hargreaves Review of Intellectual Property: Where next? stated that the needs of SMEs in the area of intellectual property was

an important area to address to support growth in the economy and we recommend that in its Response to this Report the Government set out in detail its commitment to this service in terms of money and resources.[118]

While the Government did not set out any detail in its response it said that "Ensuring that these businesses, which make up 99% of UK enterprises and nearly 60% of UK employment, can maximise the value of their intellectual property assets is key to economic growth".[119]

76. We judge that the IPO mediation service could be more heavily used to arbitrate in matters of intellectual property. We recommend that the Government require the use of mediation before any legal action can be taken in a UK court, both speeding up the resolution of disputes and reducing the costs of protecting intellectual property. We also recommend that refusal to engage in mediation be taken into account in awarding costs.

77. It is unsurprising that universities generate intellectual property. Academic research is ideally placed to discover or stumble across innovative materials or behaviour that may prove commercially viable. HEFCE estimated that 19% of patent filings in the UK came from university sources.[120] The Government has encouraged universities to exploit this resource and several sources of funding have been developed to facilitate exploitation of university IP.[121] The Higher Education Innovation Fund (HEIF), provided by HEFCE[122] for the purposes of knowledge exchange, was popular among those universities that wrote to us as was the recent Government move to focus the HEIF more closely on universities where there has been greater success in translating IP into business opportunities.[123]

78. We heard of cases where universities had been reluctant to patent innovations discovered by academics. Dr Peter Dean, Founder and Chairman, Cambio Ltd, gave us an example of university technology failing to translate into UK wealth creation due to patent issues:

We produced a patent [to do with diabetic management], which the university did not support financially in any way. The company involved, which was Canadian, suggested that they take all the patent costs and run the patent for us, which was fine. At the end of six months they pulled out; they said they had changed their objectives and were doing something else. As a result, the University of Liverpool was asked to support the patent through its foreign filings and whatever. It refused to do that, and the patent was sold to the USA for a pittance. The USA completed the patent. There are 283 million diabetics in the world. That University of Liverpool test is used pretty much throughout the world, but there is no royalty coming to this country because of the failure to strategise the patent process.[124]

79. Patents are only useful if they are exploited. We were told by Trevor Francis, Technical Director, Byotrol Technology Ltd, that universities, due to the expense of maintaining IP, may allow their patents to lapse with the consequence that the intellectual property "simply passes into the public domain instead of potentially passing to companies that could equally use that patent for knowledge and exploit it".[125]

80. Professor Nick Wright told us that some universities have, as a result begun an experiment in easy access IP:

several members of the Russell Group universities banded together into what is called the Easy Access IP consortium. That is quite an innovative arrangement created by Steve Beaumont, a very forward-thinking guy, at the University of Glasgow. It is a system whereby UK companies can access IP from member universities for free, provided it is to the benefit of the UK. That is an excellent scheme. There are other schemes. In the north-east, we have a similar scheme, allowing collaborative working between Newcastle and Durham universities, for example.[126]

Rolls Royce warned of broader access to open data that might also have relevance to easy access IP:

Proposals [...] for increasingly 'Open Data' must be implemented with great care. If such proposals help all companies access the mass of data in the public domain more effectively and free up Government-owned data for easier access, they are to be welcomed. However, if they make it easier for our overseas competitors to access and exploit the research base in the UK, especially those elements where UK companies, like our own, have made a significant contributions, then, far from promoting growth in the UK, they could be severely damaging our competiveness.[127]

81. We recommend that the Government assess the benefits of the Easy Access IP experiment and whether it improves the flow of IP not just between universities but into wealth creation activities within the UK.

82. We understand the intent behind changes to HEIF that further reward institutions that have already benefitted from successfully commercialising their IP. We have concerns that IP transfer from universities that have been less successful in commercialising their IP may decrease further. We recommend that the Government review the situation after three years and publish a report on how the changes have contributed to increased IP transfer, job creation and related social benefits.

EVIDENCE BASED POLICY

83. It is important that Government policy, where possible, should be based on robust evidence and where that evidence may not exist that processes are in place to gather evidence of how any policy is performing. Dr David Connell, University of Cambridge, criticised the nature of information produced by government on innovation spending and policy:

If we look across Government organisations involved in technology, rather than providing annual reports in the format that you would see from a public company, they tend to produce brochures with examples of what they are doing at the time. It would be really good to know where the money went, actually, and to see some proper reporting to the kind of standards that we should demand.[128]

84. Dr Paul Nightingale, University of Sussex, made a similar point:

In terms of commercialisation, the UK is very good compared with the rest of Europe, with the possible exception of Scandinavia. There is an issue about relative amounts of GDP that we spend on university research. [...] The key issue is that we need proper evaluation of these schemes. We really don't know what works. It is very complicated right now and this has been a problem.[129]

Matthew Bullock highlighted the absence of information on activity by soft start companies:

An important point to make is that the development of technology products and equipment on contract—what the great, soft majority of smaller technology companies do—does not appear anywhere in the R&D statistics: the activity does not conform to the Frascati definition used by BIS/ONS to measure R&D activity; for the small supplier the activity is recorded as sales; and in their large customer's accounts it may appear as capital expenditure or revenue expense. The Frascati definition requires the activity to be speculative, without a firm sale in prospect[130]

85. The R&D Scoreboard was an information resource produced annually by the Department for Business Innovation and Skills. The Scoreboard provided an overview of spending on research and development by private companies. In 2010, the foreword to the Scoreboard indicated that, due to financial considerations, it was to be discontinued. Engineering the Future told us:

It is regrettable that BIS chose to withdraw funding from the well respected and widely used R&D Scoreboard in 2010. As a measurement of innovation, knowing the amounts of funding is of limited use, but without the Scoreboard there is no way of comparing R&D spend across the full range of industry sectors.[131]

The UK Deans of Science were concerned about evaluation and stated:

[Government] has also decided to stop funding the excellent R&D Investment Scoreboard so will have almost no robust way of judging the success or failure of any of its policies.[132]

86. We also heard that, between 1991 and 2004, the Bank of England monitored the availability of finance to small and medium sized enterprises (SMEs).[133] Their role was to identify any areas where access to appropriate finance seemed problematic, to investigate and highlight those issues with key stakeholders and to encourage them to find solutions, if any were needed. This work led to the publication of a series of reports and articles including a regular annual report on finance for small firms.

87. We consider that the R&D Scoreboard was a useful and widely respected source of information for technology businesses and we recommend that the Government should reinstate it. We also recommend that the Bank of England should resume their monitoring activity on the availability of finance to SMEs.

9 BIS, "Innovation and Research Strategy for Growth", December 2011, Cm 8239
http://www.bis.gov.uk/assets/biscore/innovation/docs/i/11-1387-innovation-and-research-strategy-for-growth Back

10 BIS, "Strategy for UK Life Sciences", December 2011
https://www.gov.uk/government/uploads/system/uploads/attachment_data/file/32457/11-1429-strategy-for-uk-life-sciences.pdf Back

11 Science and Technology Select Committee, "The impact of spending cuts on science and scientific research", Sixth report of 2009-10, HC 335, 23 March 2010 Back

12 Innovation, Universities, Science and Skills Select Committee, "Engineering: turning ideas into reality", Fourth Report of 2008-09, HC 50, 27 March 2009 Back

13 Science and Technology Select Committee, "Technology and Innovation Centres", 2nd Report of 2010-2012, HC 619, 17 February 2011 http://www.publications.parliament.uk/pa/cm201011/cmselect/cmsctech/619/61902.htm Back

14 Science and Technology Select Committee, "Technology and Innovation Centres", 2nd Report of 2010-2012, HC 619, 17 February 2011 , Chapter 3 http://www.publications.parliament.uk/pa/cm201011/cmselect/cmsctech/619/61902.htm Back

15 Ev 101-102, paras 41-58 Back

16 BIS, "Innovation and Research Strategy for Growth", December 2011, Cm 8239 Back

17 Ev143, paragraphs 19, 27 Back

18 For example, Ev 174, para 4; Ev 122, para 5; Ev w108; Ev 145; and Ev w42-43, paras 1.1, 4.1; 5.1 Back

19 Ev 140, para 27 Back

20 Science Policy Research Unit at the University of Sussex and the Exeter Business School Back