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The Role of Foreign Partners as Investors or Customers in the Development of Small Innovative Businesses in Snezhinsk

Vladimir V.Klimenko and Andrei G.Kruglov *

Snezhinsk City Administration

Opportunities for restructuring science-intensive industry in Russia largely depend on the efficient operation of the innovation chain from scientific idea to industrial technology to production of goods that can attract solvent customers. For a number of objective and subjective reasons, this chain is now broken in Russia.

At the very beginning of the country's economic transition to market relations, great hopes were pinned on possibilities for using the scientific and technical achievements of Soviet science and science-intensive industry in order to attract major investments. These expectations were based on well-founded high estimations of the scientific and technical potential of the USSR and on the immense resource investments that had been made in the scientific-technical sector of the economy (primarily in the military-industrial complex and related spheres in both the Academy of Sciences system and higher education).

Today it can be stated that all of these expectations have led to practically nothing. In fact, there has been a brain drain of relevant specialists to the United States, Europe, and other countries. Counterpart investments have generally been connected with the raw materials industries and the service sphere, with minimal use of Russia's intellectual potential. There have been practically no investments in the scientific-technical sector. The main reason lies in the fact that this sector was arranged in an absolutely non-market-oriented manner and actively resisted any possible changes.

* Translated from the Russian by Kelly Robbins.



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Page 148 The Role of Foreign Partners as Investors or Customers in the Development of Small Innovative Businesses in Snezhinsk Vladimir V.Klimenko and Andrei G.Kruglov * Snezhinsk City Administration Opportunities for restructuring science-intensive industry in Russia largely depend on the efficient operation of the innovation chain from scientific idea to industrial technology to production of goods that can attract solvent customers. For a number of objective and subjective reasons, this chain is now broken in Russia. At the very beginning of the country's economic transition to market relations, great hopes were pinned on possibilities for using the scientific and technical achievements of Soviet science and science-intensive industry in order to attract major investments. These expectations were based on well-founded high estimations of the scientific and technical potential of the USSR and on the immense resource investments that had been made in the scientific-technical sector of the economy (primarily in the military-industrial complex and related spheres in both the Academy of Sciences system and higher education). Today it can be stated that all of these expectations have led to practically nothing. In fact, there has been a brain drain of relevant specialists to the United States, Europe, and other countries. Counterpart investments have generally been connected with the raw materials industries and the service sphere, with minimal use of Russia's intellectual potential. There have been practically no investments in the scientific-technical sector. The main reason lies in the fact that this sector was arranged in an absolutely non-market-oriented manner and actively resisted any possible changes. * Translated from the Russian by Kelly Robbins.

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Page 149 Major industrial enterprises categorically refused to change their organizational structures, management systems, and technological cycles, and as a result their products could not compete with foreign analogues in terms of price and quality. Despite the enormous number of brilliant scientific ideas that have been generated in research institutions, there were no promising technologies or developments that could be quickly produced and marketed in product form. As for the small businesses that emerged in the late 1980s and early 1990s, they were generally structures without their own facilities and equipment, completely dependent on their landlords. In recent years, Russian entrepreneurs have gained a much better understanding of the requirements of potential investors and have made more sober assessments of their proposals and capabilities. But unfortunately, along with greater understanding of the situation among potential participants in the investment process, new problems have appeared in all segments of the innovation chain. Material resources have been exhausted, equipment has become outdated, facilities have fallen into disrepair, and financial reserves have been completely drained. The technological foundation laid in Soviet times was largely exhausted (some ideas and developments became obsolete, while the developers of others either emigrated or shifted to different sectors of the economy), with very weak efforts being made to restore and augment it. Regarding Snezhinsk, at first all activities concerned with international relations were generally concentrated at the city-forming enterprise. The main reason for this could be found in the special regime and the undeveloped city infrastructure, which in the past mainly fulfilled the function of supporting the operations of the city-forming enterprise. In the early 1990s the city became responsible for social issues, public utilities, and other matters, and a growing number of enterprises involving private capital began to appear, with most of them providing intermediary or retail and wholesale trade services. Only recently has some progress been seen in the development of small businesses using conversion technologies and developments. This process has been facilitated by the city administration's policies in support of new production facilities and by the substantial increase in the number of entrepreneurs owing to job cuts at the city's main enterprise. The period from 1998 through 2000 saw the appearance of a new source of investments in innovation-oriented business in Snezhinsk, namely foreign investments. The Nuclear Cities Initiative (NCI) is the main investor in Snezhinsk in this sphere. A program for the accelerated creation of new jobs in Snezhinsk has been established under NCI auspices. Table 1 provides brief information on projects proposed for implementation under the NCI framework in accordance with Article 2 of the agreement.

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Page 150 TABLE 1Proposed Projects   Required Funding (thousands of dollars) Project Total 2001 2002 2003 2004 2005 Number of jobs Open computer center   120 Creation of a pharmaceutical packaging facility (project cost: $360,000)   300   90 Development of telecommunications (project cost: $185,000)   120   20 Mechanical unit   90   12 Processing of semiprecious and precious stones   150   10 Development of bar-coding technologies   275   150 Positron tomography (PET) center 1500   50 Production of autonomous heating systems using Uran boilers (project cost: $592,000) 150 100 Production of quick-to-assemble residential buildings (project cost: $1,107,000) 400 250 Production of high temperature furnaces and heating elements 75 12 Production of equipment for enhancing the mobility of the disabled 120 24 Production of thermoplastics and disposable dishes (project cost: $270,000) 150 20 Snezhinsk Energy-saving Company (project cost: $600,000) 600 60 Production of air purification systems (project cost: $200,000) 200 20 Construction of box factory   350 Production of polymer asphalt-concrete mixtures (project cost: $3,000,000) 500 30 Installation of automated unit for producing emulsified asphalt (project cost: $360,000) 100 15

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Page 151 TABLE 1 (continued)   Required Funding (thousands of dollars) Project Total 2001 2002 2003 2004 2005 Number of jobs Production of metal-plastic pipes (project cost: $4,650,000) 2600   50 Design work on transport packing casks 200 35 Development of city telephone network   135 Production of radiation-resistant optic fibers 700 40 Water-jet cutting technology for decorative stone processing 250 10 TOTAL   1,603 One example that can be cited is the Spectrum-Conversion Research and Production Enterprise, a limited liability company. Its founders are the Snezhinsk City Administration and various private individuals. Its primary activities involve developing and manufacturing conversion-oriented products. Design of prosthetic legs. In every country there is an urgent demand for prosthetic equipment. In the United States alone, there are 260,000 disabled persons who have had one or both legs amputated, and this figure increases by 40,000 annually. These disabilities cost a billion dollars annually just to provide for the initial needs of the patients. The problem is even more urgent in the countries of the Commonwealth of Independent States than it is in the United States. Funding has been provided by the Initiatives for Proliferation Prevention (IPP) program of the U.S. Department of Energy (DOE) and by the National Center for Medical Rehabilitation Research (NCMRR) of the U.S. National Institutes of Health (NIH). High-temperature furnace and heating elements. The All-Russian Scientific-Research Institute of Technical Physics (VNIITF) has developed expertise in designing and manufacturing high-temperature furnaces and related heating elements. Personnel with such skills are continuing this work with Spectrum-Conversion, and the company plans to commercialize these developments. Processing of semiprecious and precious stones. There is an enormous amount of low-grade ore that includes stones similar to precious and semiprecious stones used in jewelry. Spectrum-Conversion has demonstrated its ability to select and improve the quality of some of these

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Page 152 stones. They have developed processes that include appropriate temperature, pressure, vacuum, and atmosphere (various gases) needed to increase the value of the stones (for example, by increasing the brightness or changing the color from dark to light). This process produces an attractive increase in the value of the stones. For instance, unprocessed cubic zirconium stones initially costing $1 per carat could be sold at a price of $30 per carat after processing. The first stage of the project will involve the processing and sale of perfected stones. The second stage will entail obtaining a safety license for the processing of such precious stones as sapphires and low-grade emeralds (grade 3). The second stage will also include the training of four people in stone cutting and polishing. Production of automobile parts jointly with Kirkham Motorsports and the Kansas City Plant. Commercial development of bar-coding technologies. The enterprise Identification Technologies Company (ITECH), which was founded in 2000 under an agreement between the City Administration and Oak Ridge Laboratory, also obtained assistance from NCI. The enterprise supplies the Russian market with identification equipment produced by such American companies as InfoSight Corporation and Telesis for the marking of various products. The first General Agreement under NCI, # 17B–99380V, was signed between the Snezhinsk City Administration and Oak Ridge National Laboratory on January 25, 2000, for more than $2 million. Creation of the company was based on the following objectives: distribution and installation of advanced technologies for automated accounting of materials and products at enterprises in the region and around the country as a whole creation of additional jobs in the city on this basis Plans called for these objectives to be pursued in three stages. In the first stage, the main emphasis was on selecting foreign partners that produced the equipment the region needed for the marking and automated identification of materials. The necessary dealership or representation agreements were to be signed regarding the delivery of the required equipment and materials. This stage also included training sales and service personnel, conducting market research studies and an advertising campaign, and establishing contacts with potential customers. In the second stage, plans called for focusing on the creation of conditions for guaranteed after-sales service of installed equipment. The production facilities were to be developed, and staff members from client organizations were to be trained on operating and maintaining the purchased equipment.

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Page 153 In the third stage, the production of certain types of equipment was to be established onsite. The number of people employed at the enterprise was to reach 150 by the time this stage was completed. At present, almost all tasks planned for the first stage have been fulfilled. The necessary agreements have been signed with a number of leading U.S. producers of identification technologies (Intermec, Telesis, InfoSight, Hersh). An advertising campaign was launched in the Urals region. Company personnel are being trained at the headquarters of the equipment producers. Organization of production of Uran heating boilers. This project involves the organization of serial production of autonomous heating systems based on Uran boilers. In the initial stage, plans call for producing 10-kW–1,000-kW heating boilers that will operate on natural gas or liquid fuel. The anticipated output will be 1,250 200-kW boilers per year. The system includes a boiler, fuel burner device, automatic safety and control system, circulation pump, and offset thermostat regulator (for small-power boilers). Municipal Internet infrastructure and new opportunities for business. This project includes the creation of a municipal Internet infrastructure that will link city organizations by means of a computer network. The approximate cost of the project is $200,000. The new municipal Internet infrastructure will produce the following positive results: It will preserve jobs or create new ones at enterprises selling and installing computer and communications equipment. It will create a new sector of the job market in Snezhinsk: Internet design and software companies, electronic business, news services, and library and consulting services. It will make it possible to move forward on projects with Oracle (creation of a centralized municipal data storage facility) and Lucent Technologies (sale of equipment for the telecommunications sector). Besides the international programs, commercial relations with foreign partners in the innovation business sector are developing extremely poorly, if not worse. Initial experience has been accumulated by Diapason, which began actively working with Chinese enterprises in 1992. Diapason was founded by private individuals in the aim of profiting from the implementation of scientific-technical projects in the area of environmental protection. To commercialize its developments, the company began shipping tractors to China. As payment for the equipment, the company received shipments of consumer goods, which were then sold in the Urals region. The company operated successfully from 1992 to 1995. The company invested part of the profits from its commercial activity into the

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Page 154 promotion of its developments. Agreements to create new scientific-technical products were signed and implemented with companies from Snezhinsk, Chelyabinsk, and Yekaterinburg. The imposition of new customs legislation made shipments to China unprofitable. The company redirected its efforts to the Russian market, but the market situation made it impossible to invest considerable funds in promoting and organizing production of the new developments. As a result, Diapason ceased active operations in 1995. SnezhinskTechService is another enterprise that has worked with foreign partners. For a long time this company has specialized in producing nipple watering systems of its own design for poultry farms. In addition, the company designs and sells equipment and provides services for high-capacity transformer diagnostics. Last year, SnezhinskTechService signed a contract with a firm from the United Arab Emirates in the amount of $30,000. Under this contract, the company supplies watering systems to enterprises in Uzbekistan. To date, only $8,000 has been paid on the contract. An 18-month epic in the initiative of cooperation with the University of New Mexico technoparks program in fact brought no results for the Russian side. All appropriated funds were used in the United States. As a result, no response has been received on any of the joint projects that were discussed. Another enterprise, Pulse, tried to obtain support from NCI for its project involving the development of automated portable cardiographs for use in telemedicine. Negotiations have been held, and the project was discussed at the telemedicine session of the international meeting on medical research issues (September 24–27, 2001). The project was included as a top-priority element of the medical section of the Snezhinsk accelerated conversion plan, but it has nevertheless remained only on paper. A positive example of cooperation with foreign partners should also be mentioned. With the active support of the Foundation for Russian-American Economic Cooperation and the U.S. Department of Energy, the Snezhinsk City Administration established the Snezhinsk International Development Center (IDC) Foundation in 2000. We would like to note that the foundation was involved in joint efforts to organize the exhibition High Technologies of the Defense Complex 2001, which was held in Moscow at the Expocenter on Krasnaya Presnya. More than 300 enterprises from 22 Russian regions and Commonwealth of Independent States (CIS) countries took part. The closed administrative-territorial zones were represented by two cities, Snezhinsk and Tryokhgorny. Six enterprises represented Snezhinsk: Avangard, Home, Bars-70, SnezhinskTechService, Spectrum-Conversion, and VNIITF. The extremely high status of the forum led to high attendance, which gave the Snezhinsk enterprises a

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Page 155 good opportunity for seeking partners and customers, advertising and promoting their products, and conducting related market research. An analysis of the current situation indicates that Owing to the lack of resources, attempts by project initiators to finance commercialization at their own expense do not lead to the creation of efficient businesses. There are few chances for obtaining loans because of the high risks associated with innovation activity without any financial support. Participation in various joint programs is currently the most realistic way of attracting foreign partners in the innovation-oriented small business sector. Unfortunately, a certain degree of success has been achieved to date only in cases involving the funding of state- or city-owned enterprises. This can be explained by the following reasons: Risk. Investments in private enterprises are more risky if they are not backed with guarantees from the city administration or city-forming enterprise. However, private Western capital also has no intentions of relying on state or municipal enterprises. Varying objectives. The primary goal of the city administration is to create or preserve jobs in order to address the employment problem, which corresponds to the missions of most programs that provide support. The goal of private entrepreneurs is to create and develop an efficient business that makes a profit. However, striving to create a significant number of jobs without considering business efficiency itself often leads to the appearance of “investment-addicted” companies that perish as soon as investment “injections” cease. The effectiveness of support programs is reduced by existing restrictions and barriers, namely As a rule, the amount of support provided for a particular area is not enough to commercialize innovations. Most of the funds remain in the territory of the foreign partner. Discussion and coordination of a list of projects proposed for funding require a long period of time (up to several years). This substantially decreases the appeal of such support, especially for innovative businesses, because the life spans of competitive advantages in the market are not lengthy. Projects are being carefully worked out and subjected to expert evaluation of their economic viability and efficiency. In most cases a project represents merely an application for funding rather than a real business plan. Issues connected with the demand for future products or

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Page 156 services in the market are often poorly considered. In submitting a business idea for consideration, project initiators proceed from the available capabilities of a particular enterprise or region and not from market demand. In other words, they are trying to produce what they can, but not what consumers will buy. There is a lack of full supervision of the project, including regular assessments of the efficiency of investments. There is a lack of expertise in management and an absence of communication skills in dealing with foreign partners.