David Ross is CEO of Ross Video, a Canadian technology company that has experienced the challenges of transitioning from small, to medium, to large.
Recently, the federal government unveiled the new supercluster program to the tune of $950-million toward 5G networks, clean tech, self-driving cars and more.
The thinking behind this was straightforward – the government should choose and support the development of specific technologies where Canada can win globally. Contrast this thinking with the $4-billion Scientific Research and Experimental Development Tax Incentive Program (SR&ED) that supports almost any small company that is willing to invest in new technology development, regardless of a proven market need or path to market.
In the middle is IRAP, a relatively small program of $175-million which is a part of the NRC's budget, in which advisers provide grants to companies with good technology ideas and a high likelihood of successfully bringing them to market. While the supercluster and IRAP are great programs, they do have a feel of a planned economy rather than free market, with government ultimately choosing where the money goes. On the other hand, no venture capitalists would hand out money to startups without a proven business plan, which is kind of what SR&ED does.
So how is this working for Canada? The stats will show that we have an enormous number of tiny startups, a declining number of mid-sized Canadian tech companies and very few Canadian tech giants. You could argue that the distribution of Canadian tech companies parallels the programs we have.
Suppose there was a way for the government to automatically direct support to clear market winners that are doubling down to take their companies to the next level? How do you pick a winner? How about companies that export a high percentage of their sales? It's one thing to sell locally; it's quite another to be successful selling around the world against global competition.
Canada still has the North American free-trade agreement (for now), has just signed the Comprehensive Economic and Trade Agreement with Europe and hopefully can keep the Trans-Pacific Partnership going. That's exciting, but trade deals are a double-edged sword – we have access to their markets while they fight to take over ours. What are we doing to arm Canadian companies to win and sell farther than just to the United States? The competition is coming.
Direct subsidies to exporting companies are obviously off the table as they violate World Trade Organization rules and a whole host of other agreements. There's a loophole, though – research and development grants. Governments are still permitted to invest in corporate R&D development however they see fit. If the government chooses to help companies that are successful exporters and that are investing in R&D to aid in globalization for their next great product, that's within the rules of fair play. Interestingly, the extra R&D money would free up money inside those companies to invest in global sales teams and international marketing to sell even more abroad.
We can do this without creating any new programs, no additional bureaucratic overheads, and even no extra funding. Simply add a term to the SR&ED refund equation to decrease the "grind down" of the funding eligibility of companies in proportion to the percentage of sales that they export.
If you are unfamiliar with the term "grind down," it refers to a mechanism in the SR&ED program that decreases the cash returned to companies as they grow or become mildly profitable. The original idea was to spark innovation and startups, but looking at the stats we don't have an innovation problem – we have a commercialization of innovation problem.
Perhaps we should be redirecting some (but not all) of that funding to mid-market winners with proven track records that are reinvesting in R&D rather than endless startups. Not only do these mid-market companies have proven business plans with proven paths to export markets, the increased exports shift the balance of trade and bring foreign money into the country to help further pay for the program.
Understand that, as a company grows, it needs cash to fund that growth. When startups transition into medium-sized companies, the SR&ED cash rebates plunge and the search for alternative funding begins. If these companies are cautious and have some cash flow, the Business Development Bank of Canada will offer (expensive) sub-debt support that is far preferable to equity investment but not nearly as appealing as SR&ED cash rebates. The rest have to find equity funding and the best valuations come from U.S. equity funds with three- to seven-year exit time frames. By the end of that period, the new Canadian darlings we tout in the news are almost always sold to larger U.S. companies and become R&D outposts with the "business" jobs going to the United States in addition to the financial rewards.
Canada desperately needs more government backing to encourage our mid-sized companies to scale and compete on the global stage. Decreasing the SR&ED grind down in proportion to company exports is an easy yet powerful mechanism to make this happen.
Eds Note: An earlier version of this column incorrectly stated the size of the IRAP program as $59-million. It is, in fact, a $175-million program.