Will VC Funding Take the Small Out of SBIR?

Jere Glover scanned the audience at last month's SBIR/STTR Conference in Madison and tried to be reassuring about the current Washington machinations regarding small business innovation. "It's one thing for me to tell you Congress isn't so stupid as to allow the [SBIR] program to expire," he stated. "It's another thing to tell you to start planning on that as a business."

Glover, executive director of the Small Business Technology Council, touched on one of many points of uncertainty as yet another reauthorization deadline approaches on May 31. It is the 11th reauthorization since Congress began to string the program along through temporary continuing resolutions (CRs). Entrepreneurs at the conference learned that competing bills in the House and Senate would give majority venture-backed firms different slices of a pie that heretofore has been largely reserved for them. Not only would many prefer an end to the CR merry-go-round, but they would like the program to remain centered on small business innovation.

SBIR and STTR stand for Small Business Innovation Research and Small Business Technology Transfer. The programs were established in the early 1980s to address the paltry share of federal research dollars going to the nation's small businesses.

Under the programs, 11 federal agencies, most notably the National Institutes of Health and the Department of Defense, set aside 2.5% of their external research budgets to make grant awards.

Many Wisconsin biotechnology and other technology companies have been among the grant winners. The Wisconsin Technology Council reports that between October 2003 and March 2010, 134 state companies secured SBIR grants worth a combined $190 million to develop new technologies with commercial potential. Some of them eventually secured venture capital commitments.

The United States still commits a much smaller percentage of research dollars to small companies than the European Union, but now it appears that larger venture capital backed firms, even under the Senate bill favored by most at the recent conference, will have access to at least 25% of available SBIR funding. Under the current program, VC-backed firms can get SBIR funding, but only if they are not majority VC owned.

"There certainly has been a lot more controversy over the program in the last few years, particularly as it relates to allowing majority-owned, venture-backed firms to participate in the program," noted Pat Dillon, northwest regional director for the Wisconsin Entrepreneurs' Network. "That, in itself, is a big issue."

 

Small business blues

The 25% figure was the result of a compromise between the Small Business Technology Coalition, the Biotechnology Industry Organization, and the National Venture Capital Association. It was part of a "clean" bill that was headed for enactment during the last hours of the 111th Congress, but the language was stripped out and replaced with another measure. Since then, the House of Representatives has shaped its own bill that would make up to 45% of SBIR funds available to firms in which venture capital firms have a majority stake.

In addition, the House bill is anything but clean. As the SBIR conference convened, it had no less than 126 amendments, and very few had anything to do with small business innovation. Even more distressing from the standpoint of small businesses, some would like hedge funds and private equity investors to get a share of the funds, raising the specter that a Bernie Madoff type could make off with SBIR funds.

"Small business is everyone's second priority in Washington," Glover lamented. "The problem is that they don't get to the second priority."

SBIR funding often is the only source of capital for small business research and development, distributing roughly $2.5 billion in funding annually to small businesses. Venture investors rarely get involved at that early stage of research, which "obviously needs to be done before you can take something further," Dillon said. As a result, last year the venture capital industry committed only $1.7 billion to early-stage companies.

One local biotech company that has leveraged SBIR funds is Lucigen Corp. The Madison company has parlayed $11 million in such grants into breakthroughs linked to its DNA cloning technology, which has cloned things previously thought to be unclonable, and into new enzyme discovery.

Jeff Williams, president of Lucigen, said the company's track record on SBIR indicates that even basic science can lead to business opportunities. "Without that funding," he said. "we wouldn't have that basic underlying technology that gives us a competitive advantage in the market."

Orbitec [see IBtv on IBMadison.com] is another area recipient of SBIR funds.

The argument in favor of permitting more venture-backed firms into the program is that it will lead to more productive use of SBIR allocations. The rationale is that VC-backed companies have been more thoroughly vetted in terms of their potential market opportunities, and so the government benefits from that investment info.

"There is certainly some logic to that," Williams acknowledged, "but it goes against the whole concept of the SBIR program."

David Mead, founder and CEO of Lucigen, is no fan of the House bill, and its favorable treatment of majority venture-backed companies is a prime reason. Mead noted that if the House gives 45% of the available SBIR money to "non-small businesses," and an additional $75 million in SBIR dollars go to the agencies for administrative costs, which is called for in the bill, the loss to "actual small businesses" would be close to $1.2 billion.

Manufacturing grants

Dillon, who believes SBIR/STTR should be a permanent program, believes Wisconsin can secure more program dollars by getting small, technology-based manufacturers into the SBIR act. The Wisconsin Entrepreneurs' Network has received Small Business Administration funding to create and launch Innovation 25, a pilot program aimed at securing more funding for technology-based manufacturing firms.

These firms have historically not participated in the SBIR program, but Dillon sees no reason they cannot use research funds to develop and commercialize new products and services.

"We want to create a community of first-time SBIR winners, getting people from the wannabe stage to the winner's circle," Dillon said. "We need more of that in Wisconsin. We have the manufacturing platform in place to accomplish this."

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