Tuesday, May 5, 2009

Should the NIH be allowed to play by different SBIR rules?

It's the issue that just won't go away. Eligibility for SBIR awards for VC controlled companies.

Will somebody please tell me why companies that now have received millions of dollars of outside investment would even care about grabbing a relatively few thousand dollars of grants intended for startups.

Reminds me of the rich bully on the playground stealing lunch money from the weaker and poorer kids.

The Small Business Technology Council (SBTC) sent out an appeal to its membership yesterday. I'm going to provide it verbatim:

Sign on to the NIH Letter Today!

During a recent hearing SBTC Executive Director Jere Glover testified before the Technology and Innovation Subcommittee of the House of Representatives’ Science and Technology Committee. Glover documented the success of the federal Small Business Innovation Research (SBIR) Program, which is due for renewal by Congress.

During the hearing Chairman David Wu (D-Ore.) suggested a compromise that would allow National Institute of Health (NIH) applicants to be exempt from affiliation rules preventing large venture capital (VC) owned companies from participating in the SBIR program, while keeping the restrictions in place for all other agencies. Glover objected to this compromise, pointing out that many small biotech companies oppose VC involvement in the SBIR, including those in the SBTC membership.

In response to this, an SBTC NIH member has drafted a letter to send to Rep. Wu urging him not to allow VC owned companies unrestricted access to the SBIR program. SBTC would like as many biotech and medical device firms as possible to sign on to this letter to show Wu that opposition to VC involvement in this program is not just limited to Department of Defense (DoD) awardees.

If you are a NIH awardee and would like your name on this letter, please send an email to Alec Orban.

Take Action Today!

View the NIH Letter
View Jere Glovers Testimony
Sign on to the NIH Letter

OK, here's your chance to voice your opinion. If you're a "biotech or medical device" company and wish to sign onto the letter, click the links above and do so.

If you have a good reason that you don't want to sign the letter (other than not wanting to stick your neck out), please use the Comments feature on this Blog and tell me your reasoning. I really want to understand the underlying thinking here.

My position on the VC issue is well documented. I am opposed to changing the eligibility rules. However, I'm a realist. If we must compromise on this in order to get SBIR reauthorized, than so be it. But let's do it smart and not fundamentally change the program.

So, convince me it's a good idea to broaden SBIR eligibility. Even selectively.

And please cut the crap about having had eligibility "taken away". We all know that really isn't true.


Bruce said...

It's really pretty simple to understand if you have ever been part of a small company that has taken venture funding. When you take that money, you are no longer in control. You don't control strategy, or spending, or hiring decisions. You basically become, in effect, a subsidiary of the VC fund, and VC members of the board can easily get together and vote you off the board and out of your management job if they feel it is necessary to safeguard their investment. This is not how a small business operates.

Carl Nelson said...

It sounds like Bruce wants the fruits of capitalism without paying capital’s price. Which raises the question of what should government be doing with SBIR. It should never be a free-market government’s role to substitute free capital for private capital if the enterprise is mature enough to compete for private capital. Making life cheaper or easier for the company owners should not be a government objective. Such a free-market government, as the USG claims to be, should intervene only when the market fails to advance an enterprise that will produce a large societal benefit. Unfortunately, the politics of subsidies accepts “market failure” far too easily so it can justify paying off constituencies. SBIR has proved to be dependent on such politics since after two decades it cannot show that it qualifies as a true “market failure” situation. Nor will SBIR ever be able to prove its “market failure” qualification if the federal agencies are free to spend the money on whatever R&D they choose with no success criteria beyond spending at least the minimum mandated money. Not to worry, though, since I don’t see much evidence that Congress thinks like a free-market government.

Bruce said...

Carl says "it should never be a free-market government's role to substitute free capital for private capital if the enterprise is mature enough to compete for private capital." This is precisely the reason why I believe that VC-funded firms should not be eligible for SBIR funding. If they have significant private capital backing, they should compete on the same terms as the major contractors, and not in the pool that is reserved by Congress to enable genuine small businesses to compete for federal research funding against better-capitalized and more mature adversaries.

Carl Nelson said...

Although Bruce wants the government to favor small business over large entities (including non-profits and foreign entities), he hasn’t yet stated a compelling reason for doing so. I have seen no evidence that the government is selecting large business over better qualified small business for government R&D. If that assertion cannot be demonstrated to be false, there has to be some compelling societal reason for shunting federal work to a politically favored class. The one reason I can perceive for favoring small business is market agility for new technology, for example, young Apple over old IBM for a new kind of small computer. But unfortunately, the bulk of SBIR for two decades is not going to such agile enterprises.

There is also an acceptable case for funding new technology in firms already partly funded by venture capital. That is technology too technically uncertain even for venture capital. Remember that VC is usually an investment in business risk, not high technical risk. Apple was not so much a technical risk as a business risk; it was much more likely that the Apple would work than that a large profitable market would ensue. Much of SBIR now goes to low technical risk followed by zero market potential.

I would support an SBIR that funds high technical risk for early development – not mere science where knowledge is the only product, nor incremental advance in known technology – in companies poised to attract follow-on investment to complete the development and move the result to some market. My experience as an SBIR funder was that there are far fewer such companies out there with qualifying ideas than there is SBIR money to pass around to the politically favored class of small S&T companies. I had at most $40M of SBIR a year for a wide array of broadly useful technologies and I lost no sleep over funding or not funding the companies that were just on or below the cut line. Although I spent all the required money, I would not have argued to keep the last quarter of the money because we would have lost great SBIR opportunities.

Let there be an SBIR with a compelling case for political intervention in federal agency R&D investment. And just being small and doing good work does not qualify. Let’s also put Fred Patterson in an influential position to invent the criteria by which such an SBIR would achieve that proper goals.

Anonymous said...

I hardly think small S&T companies are a favored political class. The entire weight of the system seems to be against us. The Austin Chamber of Commerce just sent out an email voicing their support for VC subversion of the SBIR program, asking us to sign on to a DC fly-in to state the case. The text: "Support for SBIR reauthorization with the recommendation that legislation to reauthorize the SBIR program reinstate eligibility for small emerging technology companies which receive a majority of funding from multiple venture capital companies." A fallacy, since these companies were never eligible to begin with under the rules.
The reality is that the NIH and NSF are of an academic mindset that doesn't want to fund small independent companies. The SBIR grants that they (are forced to) give out are usually to companies launched by an academic who remains with the university. This is also, not coincidentally, the preferred scenario for VC involvement, so that the technical founder is safely out of the way and doesn't need a large return from his participation in the company. I.e. the VC can buy off the Founder cheaply. I've seen this happen from both inside and out, as an applicant and a reviewer for NIH. Since the NSF/NIH Conflict of Interest rules doesn't forbid a competitor from reviewing a grant, there is an incentive from non-disruptive firms to sit on panels and kill new ideas (or steal them, as happened to one of my proposals). For DoD and DoE, which get much more scrutiny about where/how the money performs, the situation is a bit different. Their solicitations are more focused on deliverable products, so the money naturally gravitates to those companies that can deliver (i.e. have track record). But those companies eventually grow or get acquired and become ineligible for SBIR. Some have done very well straddling the line (Foster MIller comes to mind), but are still eligible for non-SBIR contracts and grants.
That is the point that is lost here. The VC backed companies can still compete for the remaining 97.5% of NIH dollars (RO1's etc.), so they're crocodile tears of being left out are sickeningly arrogant. Especially when they are sitting on an estimated $200-BILLION in capital. (And investing over 40% overseas - which is another topic all together!)
You may have guessed that I have a personal dog in this fight, since the VCs have refused to fund my company over the past 8 years, belittled our SBIR efforts ($1.6MM) as "proving that you're not serious about growing your company," and moved away from funding early- and seed-stage companies in general (except those where the Founder can be eliminated cheaply - see above). Frankly, the VC model is not what it used to be and not what it should be. Allowing them to persist in their dysfunction with SBIR money is not the solution.