Understanding Private-Sector Decision Making for Early-Stage Technology Development
A “Between Invention and Innovation Project” Report

II. HISTORICAL BACKGROUND

INDUSTRY R&D: HISTORICAL CONTEXT AND RECENT TRENDS

Rosenberg and Birdzell (1985) document the advent, at the end of the nineteenth century, of the corporate research laboratory. “Until about 1875, or even later, the technology used in economies of the West was mostly traceable to individuals who were not scientists, and who often had little scientific training.”¹³ The first corporate laboratories were engaged in “testing, measuring, analyzing and quantifying processes and products already in place.”¹⁴ Later a small subset (notably Thomas Edison’s Menlo Park laboratory) began bringing “scientific knowledge to bear on industrial innovation,” producing inventions in pursuit of “goals chosen with a careful eye to their marketability.”

The dramatic trend toward the consolidation of American business in the first quarter of the 20th century had a direct impact upon the organization of industrial innovation. As early as 1928, Joseph Schumpeter was to observe that in the new era of oligopolistic markets dominated by large trusts, “innovation is ... not any more embodied typically in new firms, but goes on, within the big units now existing, largely independently of individual persons.... Progress becomes ‘automatised,’ increasingly impersonal and decreasingly a matter of leadership and individual initiative.” (Schumpeter 1928: 384–385).¹⁵ Writing in 1959, Jewes, Sawers, and Stillerman reinforce Schumpeter’s theme:

In the twentieth century … the individual inventor is becoming rare; men with the power of originating are largely absorbed into research institutions of one kind or another, where they must have expensive equipment for their work. Useful invention is to an ever-increasing degree issuing from the research laboratories of large firms, which alone can afford to operate on an appropriate scale … Invention has become more automatic, less the result of intuition or genius and more a matter of deliberate design.” (quoted in Rhodes 1999: 212)

Where industrial innovation in the 19th and early 20th centuries was identified with the work of individuals—Samuel Morse, Eli Whitney, and Thomas Edison—by the 1960s and 1970s it was identified with corporate entities—Bell Telephone Laboratories, General Electric (GE), RCA Laboratories,¹⁶ the IBM T.J. Watson Research Center, and the Xerox Palo Alto Research Center (PARC). In each of these famed research settings, goals were far-sighted. Management focused on attracting the most able researchers, then providing them with a great deal of latitude. The Laboratories’ scientific achievements, recognized by several Nobel prizes, brought these companies great prestige.

Despite their great success in advancing scientific and technological frontiers, the great U.S. research laboratories often (one might say, systematically) failed along one critical dimension: the ability to take inventions that were unrelated to core lines of business and translate them into viable commercial innovations within the sponsoring company.¹⁷While some firms sought to imitate Bell with commitments to basic science— in many instances making a serious effort to incubate within the firm ideas that the product line divisions could commercialize—few firms survived long in this mode. The freedom to take a more creative approach to corporate research was widely welcomed by industry scientists, but it did not address the requirements for commercializing radical innovations.¹⁸

Inherently transient circumstances contributed to the ability of Bell Telephone, IBM, Xerox, and other leading research corporations to support sustained investments in fundamental science distant from market applications. In the case of Bell Telephone, market dominance was government granted. For other U.S. firms, the capacity to maintain market dominance was artificially enhanced by the crippling of international competition as a result of World War II. Over the last quarter of the 20th century, deregulation and the resumption of international competition contributed to the erosion of the ability of U.S. technology corporations to sustain funding of basic research not linked to core corporate activities. Indeed it was government support of academic research and national laboratories that generated a new and successful mode of high technology innovation—the start-up further nurtured by angel investment and venture capital and a variety of important public policies.¹⁹

Trends in the valuation of publicly traded companies also had indirect but significant impacts on corporate R&D. The widely observed phenomenon of “conglomerate discount”²⁰ indicated a general reversal of the prior trend toward consolidation as a pathway of corporate growth. Corporate managers contended with a Wall Street climate that persistently penalized those that lacked focus. At the same time, especially in the decade of the 1980s, increased international competition in high tech product markets has put tremendous pressure on costs—contributing to agglomeration of firms within well defined lines of business (merger waves), reorganizations, and “downsizing.”

By the end of the 1980s, most U.S. research firms were seeking to link research activities more closely to existing lines of business and new management tools to match the apparent efficiency of the Asian competitors. Richard Lester’s analysis of how U.S. firms were able to restore their competitiveness in the 1990s concludes that a broad variety of management tools and practices were invoked.²¹ More mature and sophisticated forms of technical management in industry focused on core business interests and, while they expected the corporate laboratory to create commercializable technologies, began to look increasingly outside the firm for innovative components and subsystems. Some (at GE for example) turned to more disciplined priorities, tightly coupled to core business interests. Formal processes of risk management and metrics for tracking progress toward documented goals were introduced.²² Others (IBM, for example) began to see the central corporate laboratory as an instrument for informing decisions about technology choices, identifying directions for new business opportunities, and evaluating the intellectual assets of competitors and potential partners. Firms also began to outsource more of their needs for component innovation to small and medium-sized enterprises, both at home and abroad, reducing the dependence on corporate laboratories for component innovations.

In the past decade, real increases in U.S. national R&D have all come from industry. Industrially funded R&D has doubled, while Federal R&D has been relatively flat in total. Corporate R&D investments are highly concentrated; the top 500 firms accounted for nearly 90% of all corporate R&D expenditures.²³ Industry investments (including those by venture capital backed companies, but dominated by large corporations) continue to be the source of a substantial share of the resources utilizing basic science knowledge in their commercial products. However, these have increasingly been focused on near-term product developments leading to incremental increases in market share, in productivity, and product function.²⁴ Increases in efficiency come at a price: corporate investment may be decreasingly likely to produce the spin-off ventures and “knowledge spillovers” that have seeded the economic landscape with technology start-ups for over a generation. As Intel founder Gordon Moore recently observed:

One of the reasons that Intel has been so successful is that we have tried to focus R&D, thus maximizing our R&D yield and minimizing costly spin-offs. But successful start-ups almost always begin with an idea that has ripened in the research organization of a large company (or university). This is a fundamental tension between what is ideal for the individual technology firm, and the phenomenon that builds a dynamic high-technology region. Over time, any geographic region without larger companies at the technology frontier, or sizeable research organizations (either privately, within firms or within academia) will probably have fewer companies starting-up or spinning off, both because of lack of technically trained people and a shortage of ideas.²⁵

Research-intensive firms under pressure to focus on core lines of business are also mindful of past corporate failures to commercialize out-of-core innovations. In many cases research-intensive corporations have sought to employ seed venture funding and incubators as tools permitting additional flexibility without loss of focus. Venture funding and technology incubators are used to advance one or more of a variety of only loosely related corporate objectives:

• to move innovations developed “in-house” that are not relevant to core lines of business or encounter disruptive obstacles internally toward commercialization;
• to aid in the retention of talented researchers by providing them with an opportunity to spend some time working outside of the corporation toward commercialization of promising new technologies developed in-house;²⁶
• to support the development of new technologies for potential acquisition by the corporations;
• to nurture demand for core products by supporting complementary infrastructure (e.g., a semi-conductor firm supporting software development tailored to its new, high-performance products); or²⁷
• simply to earn maximal returns on investment.

While some core business innovations may represent radical advances in the sense that they are based upon fundamentally new technologies, if they do not encounter disruptive barriers either inside the firm or with customer acceptance, they are unlikely to be the sort of disruptive innovations that destabilize markets, create new opportunities for learning, and open up entirely new spheres of economic activity.²⁸ By isolating and examining the narrow slice of corporate research activities that actively support the development of disruptive innovations, we can gain important insights on the ways corporations seek growth and expansion through radical innovation, even as they focus on nurturing and cultivating their core lines of business.²⁹

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13. Rosenberg and Birdzell (1985: p. 242).

14. Rosenberg and Birdzell (1985: p. 246).

15. This argument was developed more fully, and famously, in Schumpeter (1942).

16. The David Sarnoff Research Center.

17. Smith and Alexander (1988) offer a narrative account of failures to commercialize innovations from Xerox PARC. Chesbrough and Smith (2000) detail the experience of each of the 35 firms that spun out of Xerox research centers from 1978 to 1998.

18. Indeed, Xerox PARC was known for brilliant contributions to the development of personal computers, but the parent corporation was notably unable to exploit these inventions for commercial success.

19. Among these policies were reduced capital gains taxes, ERISA changes allowing pension funds to invest in private equity markets, the Bayh–Dole Act allowing private ownership of patents from government-sponsored research, the Small Business Innovation Research Act and other provisions of tax law favoring startups.

20. See Berger and Ofek (1995) for empirical support.

21. Richard Lester The Productive Edge: How U. S. Industries Are Pointing the Way to a New Era of Economic Growth, (New York: W. W. Norton), 1998.

22. Hartmann and Myers, M., “Technical Risk, Product Specifications, and Market Risk,” in L.M. Branscomb and P. Auerswald, Taking Technical Risks, pp. 30–43.

23. C. Shepherd and S. Payson, “U.S. Corporate R&D, Volume I: Top 500 Firms in R&D by Industry Category.” National Science Foundation and U.S. Department of Commerce Topical Report (1999). Note that firms with fewer than four persons engaged primarily in R&D are not asked to respond to the survey, and many highly innovative small firms do not have an internal organization for R&D activities and thus do not report in these surveys. Thus R&D in the smallest firms is probably undercounted. In addition the R&D by large firms is heavily focused on D, while smaller high tech firms may focus on more radical technical ideas even though they may not call it “research.”

24. For a journalistic account of this trend, see Gina Kolata, “High-Tech Labs Say Times Justify Narrowing Focus,” New York Times C1, September 26, 1995.

25. Moore and Davis (2001). It is interesting that Intel compensates for this intensity of focus by managing the single largest corporate venture capital investment program—though this program is also focused on core interests, including application development to grow existing Intel market.

26. Chrysalis Technologies Inc., supported by Philip Morris, is an example.

27. Intel Capital is a leader in this strategy.

28. Clayton M. Christensen, The Innovator’s Dilemma: When New Technologies Cause Great Firms to Fail. Boston, Mass.: Harvard Business School Press, 1997.

29. We recognize that it is very difficult to develop a rigorous distinction between a radical innovation that leads to markets that lie totally outside a firm’s experience, a radical innovation that disturbs (or perhaps replaces) and existing firm’s business, and a new technology that transforms an existing line of business in a way the firm’s customers readily accept.

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Date created: October 7, 2005
Last updated: October 12, 2005

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