The big R&D spender doesn't win.
The big R&D spender doesn't win.

Published: January 22nd, 2016

We need startups more than ever. That’s my conclusion after listening to David Watters’ talk on Canada’s innovation ecosystem. When I say startups, I mean new companies that scale to enterprise-size fast. Why is this important? First of all, you have to appreciate Watters.

His slender build, gentle manner and dry wit make you think “favourite grandfather,” but don’t be fooled. Watters is an economist with a razor sharp mind crossed with Stephen King. He tells economics stories that will give you nightmares.

David is old school. He speaks softly and carries a big stick. A big data stick. Not the real-time online glitz of the Amazons and Facebooks. This is the slow-time mining, smelting, pondering, pounding and polishing of staggering amounts of economic data into razor-edged diamond-hard nuggets of insight. They have a terrible beauty.

THE ROAD NOT TAKEN

Watters gave this title to his talk at the Munk School on Canada’s innovation ecosystem. Watters documented how Canada was on the path to the knowledge economy, but has now steered off it. He also suggests ways to steer back on track. Watters spoke for 2 hours to a packed room and nobody left early.

Here’s my summary of Watters’ talk in seven tweet-able nuggets:

  • 10 years ago Canada’s total R&D spend was average for OECD countries. Today it’s 35 per cent below the average.
  • Uh oh.
    Uh oh.

    Canada let off the R&D gas pedal and its peers pressed on. Even laggards like Spain, Italy, Portugal and Hungary could soon pass Canada.

  • To get Canada’s total R&D spend back to the OECD average we must invest $81 billion more in R&D over the next five years.
  • To restore Canada’s R&D base there is no surplus public money or appetite to borrow, nor tolerance of new taxes on people or companies.
  • Canada needs a plan to get back to the OECD R&D average. We need to align on where to spend, what investment to make, and timelines for action.
  • One option: help Canada’s companies to sell more. They can invest more in R&D and it ensures long term public R&D will still be funded.
  • $1 trillion in new sales over the next 5 years gets Canada’s R&D spend up to the OECD average. With a small home market, exports must lead.

While Watters suggested some other strategies, I think he’s onto something with this goal of five years to add $1 trillion in new revenue. Call it the Five to One plan.

WHY BOOSTING SALES IS THE PLACE TO START

When revenue increases, even if the percentage allocated to R&D stays the same, actual dollars spent go up. That’s a no brainer.

But it turns out that sales is the key to R&D in surprising ways.

ROI. Consider what Booz Allen found when it tracked the R&D spend and financial performance of 1,000 companies for 10 years. Spending more on R&D didn’t guarantee better financial results. I repeat: the biggest R&D spender was not automagically the best financial performer.

In fact, top performers are often average R&D spenders.

R and D bottom feeders are dinner for innovators.
R and D bottom feeders are dinner for innovators.

However Booz Allen also found that no top performer got there by low-balling its R&D spend. No R&D bottom feeders are ever found among top financial performers.

Watters glossed over the fact, but the R&D spend of the average Canadian company has fallen to 26th out of 32 countries. That is bottom-feeder territory.

Innovation. This, Booz Allen found, is what does drive outstanding financial results. Innovation encompasses R&D, and much more. Innovation is composed of three activities: listening to customers, translating what they say into outstanding products and services, and the market-sell-distribute machine.

Innovation is a holistic process. Sales, marketing, R&D, engineering, product management, finance and operations all have to be synced up to get innovation that sells.

Sales doesn't have to feel like this.
Sales doesn’t have to feel like this.

When it comes to listening to customers, Sales must play a vital role. So does marketing. I believe that the long-term trend of Canadian companies exiting early is a big reason for poor innovation results. After a company sells out the engineering team is usually left in Canada but all the global marketing and sales functions are moved to the new headquarters. Rarely do these functions remain in Canada. Over time, you wind up with a large talent pool of branch plant farmers and a too small a lineup of global hunters.

Morale. Watters’ research shows that 40,000 R&D workers lost their jobs between 2008 and 2012 – all in the private sector. This sends a strong message to R&D workers to get out of Canada. The rest of the world is happy to have them – there is a global shortage of R&D workers and their skills are very portable. For R&D workers to stay in Canada they need to be confident that opportunities are better here than elsewhere.

WHY ARE STARTUPS IMPORTANT?

We need a lot of growth. Over the next five years, a big rebound in resources is unlikely. Whether or not the current commodity price plunge is temporary or permanent, we’re too dependent on resources. Startups, companies with the potential to grow to global scale, fast, are a good fit for our needs. For these companies, our education system churns out some of the best STEM (science-tech-engineering-maths) talent in the world.

MANUFACTURING WILL HAVE A ROLE TOO

A counter intuitive result of the computer revolution is that it’s revitalized manufacturing. The relentless forward march of compute power is leading to better design and production tools that create customized products at mass production prices. More product variability raises the value of skilled labour and short supply lines. So, around 2010, the 20-year trend to send manufacturing overseas for cheap labour began to reverse. In the U.S. there’s been a big manufacturing rebound. It’s been slow to reach Canada and we need to understand how to change that.

A MODEST PROPOSAL FOR THE FIVE TO ONE PLAN

Here’s five ideas to jump start everybody’s thinking:

  • Target. Exports are key. The Canadian market is too small, made smaller by interprovincial trade barriers.
  • Support. Watters’ data says that if Canada’s exporters must deliver all the new revenue they will have to triple in size by 2020. They need help.
  • Celebrate. Linamar shows that better productivity, more jobs and sales aren’t mutually exclusive. How they do it must become better known.
  • Educate. Apple, Google, etc., hire our STEM grads, that talent is good. Skills and experience are scarce to grow global businesses. CanExport may help.
  • Incent. Only BC directly taps the skills and experience of successful founders via its angel investor tax credit. It should be a national program.

Is this a perfect plan? Will it be enough? It doesn’t matter.

What matters is that we get started.

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  • Thank you for bringing up the Booz Allen report. Its finding are almost entirely overlooked by innovation policy “experts”. As Michael Schrage observed in a Financial Times in 2005:

    “What is not fine – what is deceptive and destructive – is perpetuating a myth that the economic health of a country or of a global enterprise can be measured by how much it allegedly spends on R&D as a bid to invent the future. Europe should pay far more attention to the innovation value it creates rather than the level of corporate R&D funding. Its economic future depends on it.”

    • Geoff Foulds

      Luc, thank you very much for pointing out Michael Schrage’s article. I was unaware of his work.