3
Findings and Recommendations

FINDINGS

  1. The advantage of the DoD SBIR Fast Track program is that it emphasizes the need to leverage third-party funding to achieve mission goals and commercialization.

    • Fast Track seeks to improve commercialization of innovative technologies through preferential evaluation and efforts to close the funding gap that can occur between Phase I and Phase II of the SBIR program.

    • The time-lag between the conclusion of Phase I and the receipt of Phase II funds can create cash-flow problems for small firms. Fast Track provides expedited review and essentially continuous funding from Phase I to Phase II as long as applying firms can demonstrate that they have obtained third-party financing for their technology.1

  1. The 2001 evaluation of Fast Track by another National Research Council committee found the DoD SBIR Fast Track program to be effective.2

    • The program was found to be effective in:

      • Leveraging public funding with private investments;

1

Third-party funding, in this case, is most often acquisition program funding.

2

See National Research Council, The Small Business Innovation Research Program: An Assessment of the Department of Defense Fast Track Initiative, Charles W. Wessner, ed., Washington, DC: National Academy Press, 2000. Given that virtually no published analytical literature existed on SBIR, this Fast Track study pioneered research in this area, developing extensive case studies and newly developed surveys.



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3 Findings and Recommendations FINDINGS A. The advantage of the DoD SBIR Fast Track program is that it emphasizes the need to leverage third-party funding to achieve mission goals and commercialization. Fast Track seeks to improve commercialization of innovative o technologies through preferential evaluation and efforts to close the funding gap that can occur between Phase I and Phase II of the SBIR program. The time-lag between the conclusion of Phase I and the receipt of o Phase II funds can create cash-flow problems for small firms. Fast Track provides expedited review and essentially continuous funding from Phase I to Phase II as long as applying firms can demonstrate that they have obtained third-party financing for their technology.1 B. The 2001 evaluation of Fast Track by another National Research Council committee found the DoD SBIR Fast Track program to be effective.2 The program was found to be effective in: o Leveraging public funding with private investments; 1 Third-party funding, in this case, is most often acquisition program funding. 2 See National Research Council, The Small Business Innovation Research Program: An Assessment of the Department of Defense Fast Track Initiative, Charles W. Wessner, ed., Washington, DC: National Academy Press, 2000. Given that virtually no published analytical literature existed on SBIR, this Fast Track study pioneered research in this area, developing extensive case studies and newly developed surveys. 74

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FINDINGS AND RECOMMENDATIONS 75 Focusing management attention on markets and on obtaining private capital, thereby improving commercial outcomes of SBIR projects; and Winnowing out projects that lacked commercial potential, either for procurement or private markets. In sum, the 2001 report found that DoD’s Fast Track Initiative was o achieving its objective of greater commercialization and recommended that the program be continued and expanded where appropriate. This update of the 2001 study finds that Fast Track continues to be o successful in reducing the funding gap between Phases I and II; however, the percent of Fast Track awards reporting no gap has decreased and the average gap has increased in recent years.3 C. Firms that apply for Fast Track tend to be new to the program and younger than average SBIR firms.4 Fast Track firms have had far fewer past Phase II awards than the o overall population. Sixty-four percent have had no prior Phase II awards. Among the firms surveyed, the group that applied only for Fast Track had the smallest percentage over $5 million in annual income and the highest percentage under $5 million in annual income.5 Fast Track is successful in involving firms with no prior SBIR o experience. This is important, but the number of Fast Track awards remains small, lessening the significance of this effect.6 D. This study has found that, while effective, the DoD SBIR Fast Track program has some structural limitations. These include: Phasing. Fast Track requires firms to obtain funding commitments o prior to completing Phase I. This means attempting to find such funding very early in Phase I or even before it starts—i.e., before the demonstration of feasibility is completed. Given the uncertainty about a project’s viability, the terms investors require are likely to be less favorable at this stage. Need for equity. Many small innovative firms are reluctant to part o with equity that is often demanded by private sector investors. In 3 See Figures 2-24 and 2-15. 4 See Figures 2-3, 2-4, and 2-6. 5 See Figure 2.6. 6 Only 2.5 percent of Phase II awards are Fast Track. The survey indicates 64 percent of Fast Track participants are first time Phase II awardees. However, for the other 97.5 percent of the DoD Phase II program, 37 percent are first time Phase II. Thus, only 4.4 percent of all first Time Phase II awards are on Fast Track proposals. See related Recommendation C.

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REVISITING THE DEPARTMENT OF DEFENSE SBIR FAST TRACK INITIATIVE 76 addition, the pressure to obtain private sector investment can act as a disincentive for more innovative endeavors.7 E. Firms that have participated in either Fast Track or Phase II Enhancement found that experience to be a positive one. Ninety percent of the surveyed firms participating in Fast Track and 95 o percent of those participating in Phase II Enhancement reported satisfaction with their decision.8 o Compared with the control group, the Fast Track and the Phase II Enhancement programs have achieved greater commercialization outcomes, and improved take up of technologies by DoD components. F. The Phase II Enhancement offers additional support beyond that provided through Fast Track. The Phase II Enhancement: Does not require evaluation of the Phase II proposal outside of the DoD o component’s normal evaluation process, providing firms additional time to locate third party investors and place less of a burden on management. Employs criteria established by the component to meet the priorities of o the component, making the Phase II Enhancement program responsive to the needs of the component. Provides firms extensive time to locate a third party investor since o proposals are not due until late in Phase II and provides additional time (normally one additional year) and additional SBIR funding to the firm, providing added flexibility for firms. Provides the opportunity, based on a project’s technical achievement, to o leverage acquisition program funding to increase the level of funding available; i.e., an acquisition program has its R&D investment in Phase II Enhancement matched by SBIR funding, enabling it, thereby, to achieve more with its program funding.9 G. Participation in Fast Track has declined in recent years. For the first four years of the Fast Track program, 7 percent of the DoD o Phase II SBIR awards were Fast Track. For the most recent four years, 7 Venture capitalists are typically reluctant to invest in highly innovative and, thus, highly risky endeavors. For an empirical analysis, see Gavin C. Reid and Julia A. Smith, Risk Appraisal and Venture Capital in High Technology New Ventures, New York: Routledge, 2007, p. 27. Given the difficulty of obtaining such funding, requiring co-investment from venture capital can thus serve as a disincentive for firms with highly innovative ideas from participating in the SBIR program. 8 See Figure 2-21: Decision to use Fast Track or Phase II Enhancement. 9 See Chapter 1, section on “DoD Initiatives to Improve Commercialization: The Phase II Enhancement.”

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FINDINGS AND RECOMMENDATIONS 77 less than 2.5 percent of the DoD Phase II SBIR awards were Fast Track. From 2002 to 2005, DoD components awarded five times as many o Phase II Enhancement awards as Fast Track Awards.10 RECOMMENDATIONS A. To encourage greater commercialization, the DoD SBIR program should retain its focus on obtaining matching private and/or procurement funds. The need for incentives to match these funds as technical progress warrants and is enhancing program outcomes. B. The DoD Phase II Enhancement program should be continued and expanded as appropriate. Given that the Enhancement provides additional support beyond o that available through the Fast Track program, DoD should expand the Phase II Expansion program, as appropriate. These positive user-based outcomes suggest that DoD should, to the extent feasible and appropriate, expand the Phase II Expansion program within the services, organizations, and agencies of DoD, keeping in mind that the program has multiple objectives (not just commercialization) and that not all firms can or should be expected to acquire matching funding. Given that long gaps in funding make it difficult for a small o company to sustain its research projects, DoD should consider increasing the duration of gap funding for all Phase II selections. The average gap between the end of Phase I and the start of Phase II leads many firms to stop work or to work at a reduced pace. Some of these firms may be selected subsequently for a Phase II Enhancement award. 11 An analysis of whether the funding gap between Phase I and Phase II has changed over the years would be useful to DoD’s consideration of how much to increase the duration of gap funding.12 C. The Fast Track program should be continued, given its success in encouraging firms with little or no prior SBIR experience to innovate and commercialize their product. 10 The DoD SBIR public Web site indicates that 77 Fast Track awards were made during the years 2002 to 2005. During that period, the Web site indicates that 395 Phase II Enhancement awards were made. 11 See Figures 2-14 and 2-15. 12 See “Areas for Future Research,” particularly with respect to the statistical analysis of the survey response data, in Chapter 1 of this report.

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REVISITING THE DEPARTMENT OF DEFENSE SBIR FAST TRACK INITIATIVE 78 Fast Track is suited to early-stage projects, often pursued by newer o firms. These firms often face a funding gap and can benefit from incentives to seek investors. (See Finding B). In light of this study, some modifications to the Fast Track program o might be considered. These could include increasing the number of Fast Track awards by identifying those projects and firms that could most benefit from the Fast Track alternative, and reducing delay as much as possible between Phase I and Phase II. Given the benefits offered by Fast Track, the program should be o continued, even if a larger number of firms will continue to work with the Phase II Enhancement approach. D. DoD should encourage continued experimentation by management in the SBIR program. As the positive example of the Phase II Enhancement illustrates, DoD o should continue to experiment with potential refinements to its SBIR program. Both the Congress and the Department management should provide the o flexibility and the resources to continue program experimentation, monitor progress, and evaluate outcomes.13 E. DoD should continue regular assessments of SBIR program results. As the study demonstrates, regular assessments provide a valuable o means of improving and adapting the program to address evolving mission needs and technological advances. Cross-agency comparisons of the impact of the Phase II Enhancement o programs could prove useful for the continued refinement of the SBIR program. 13 See Recommendations D and E (Chapter 2) in National Research Council, An Assessment of the SBIR Program at the Department of Defense. Charles W. Wessner, ed., Washington, DC: The National Academies Press, 2008. Recommendation D states that “DoD should encourage and support pilot programs that evaluate new tools for improving the program’s overall performance.” Recommendation E states that “to carry out the measures recommended above to improve program utilization, management, and evaluation, the program should be provided with additional funds for management and evaluation.”