ECONOMICS

ABOUT THE AUTHORS: The authors are US staff members at the ISTC in Moscow. Maria Douglass is Senior Technology Implementation Manager and Peter Falatyn is Senior Advisor. The present article does not engage the ISTC or its member States. The authors acknowledge the contribution to this data collection project of the Center for Science Research and Statistics (Moscow).

The positive economic impact of small business and small technology is a documented fact. This study looks at high-tech small business formation and development aided by R & D funding from a leading nonproliferation organization, the International Science & Technology Center (ISTC -- see http://www.istc.ru).

The "word on the street" is that the ISTC excels in providing new occupations for weapons of mass destruction (WMD) scientists and engineers but has not assisted real commercial development in science-based institutions in its target area of the Former Soviet Union. Some attribute the lack of successful high-tech entrepreneurship among former WMD specialists to the lack of liquid financial markets that could provide an outlet for venture capital.

These assumptions do not accord with our own experience as practitioners. We have found a modest abundance of high-tech ventures of various kinds, and the key challenge facing them is not money. Likewise, the people with money, the would-be venture capitalists, complain of a shortage not of good technology but of real investment opportunities. What is missing?

** The International Science & Technology Center **

Between 1994 and 2001, the ISTC funded 1,500 scientific research projects in the amount of $400 million to engage over 40,000 weapons experts from the former Soviet military complex and direct their work toward peaceful research, thereby promoting nonproliferation. ISTC funding provides grant payments, equipment for project research, scientists' travel and other support.

** Data Collection Project **

In autumn 2001, the ISTC commissioned a study to assess progress made by ISTC-supported scientific research teams in creating and commercializing new technologies and in acquiring new entrepreneurial skills that will assist the teams after ISTC funding ends. The questionnaire development and polling of ISTC Project Managers was conducted by the Center for Science Research and Statistics (http://www.csrc.ru). Results from the study were received by the ISTC in April 2002.

The study was based on a questionnaire consisting of 36 questions on:

-- aspects of ISTC funding and forms of cooperation and maintenance of business contacts

-- productivity of R&D projects and their value for continuing research on the same subject

-- sources of financing for new research

-- forms of commercialization sustaining research activities

-- participation in programs focused on development of small and middle-sized business

The survey sample included all managers of ISTC projects either completed or near completion -- 534 people in all, located in 55 cities and towns in Russia, Armenia, Belarus, Georgia, Kazakhstan, and the Kyrgyz Republic. A total of 417 questionnaires were received from either ISTC project managers or their designees, a response rate of 78 percent.

Nearly a third of all respondents indicated that they were engaged in some form of the commercialization of the results of the ISTC project. Respondents broke down as follows according to the organizational form of their commercial activities:

We investigated the answers of the 22 "small enterprise" respondents in further detail. This included looking at patterns in the project managers' area of technological expertise, age, abilities in English, and access to the Internet. Eleven of the 22 were interviewed at greater length about their enterprises, the challenges facing them, and critical success indicators or factors.

** Observations **

Contrary to common notions concerning Russian business, we found that all respondents were happy to share information about their business activities. In fact, no interviewees declined to provide even annual sales figures when requested.

We were surprised to find that most of the small businesses were existing enterprises engaged in commercializing ISTC project results. We had expected promising results to precede business formation. One interviewee noted, that all of the laboratories in his institute that had survived the brain drain and funding crises of the early 1990s now had small businesses associated with them. They were born out of economic necessity, and were established in order to ensure the viability of scientific research in the laboratories.

We compared the distribution of small enterprises by technology area with the corresponding distribution of ISTC funding. A disproportionately large number of small business had been formed in the fields of Environment and Biotechnology. Conversely, a disproportionately small number were in expected fields such as telecommunications enabling technologies and information technologies. Given the fast pace of innovation in the latter areas, low barriers to entry, and low start-up costs, entrepreneurial developers of IT may have already been able to engage in commercial activity even without the help of the ISTC.

Two examples of successful small enterprises in the field of environmental technologies were studied in depth. These two firms focus on the Russian and "near-abroad" markets, where they are familiar with the regulatory environment and market requirements and well positioned to compete on cost. Five interviewees were key players in biotech spin-offs. In this field output was sold on both export and domestic markets and a wide range of commercialization strategies was used.

** Success Stories **

Three of the five small enterprises in biotechnology (OOO "Imtek" http://www.imtek.ru; ZAO "National Biotechnology"; and a spin-off from the Institute of Immunological Engineering, Lyubchany, Moscow Region) envision completing the development of drugs taken through the pre-clinical trials stage of drug discovery under ISTC projects. Two of the five ("Imtek" and a spin-off from the Institute of Highly Pure Biopreparations, St. Petersburg) are involved in supplying live cell cultures and microbiological strains for research and diagnostic assays. While Imtek is exclusively oriented toward the export market (chiefly Europe and North America), the Highly-Pure spin-off sells on the domestic market.

The sixth firm, Immunoscreen, one of five small enterprises coming out of the State Research Center for Biological Instrument-Making (Moscow) develops and manufactures test kits for screening newborn babies for congenital disorders. It supplies these test kits only to the Ministry of Health of the Russian Federation, although it is considering other potential markets in the former Soviet Union.

The enterprises studied did not emerge as an outcome of new technology developed with ISTC support. Rather, the project managers were able to use ISTC funding to expand or improve an existing product or product line that had already found a limited market niche. This enabled many of the small enterprise teams to conserve their very limited capital while still maintaining and expanding the scientific capabilities that had gotten them this far in their nascent enterprises. This was at a time when investor and government sources of R & D funding were either non-existent or rapidly drying up.

OOO "GlobalTest" -- a small enterprise based in the closed nuclear city of Sarov -- develops and manufactures specialized vibration sensors suitable for high-temperature, high-radiation applications in the nuclear power industry. Founded in 1991, GlobalTest received its first R & D funds from ISTC in late 1994. Now GlobalTest is offering over 50 products for use by power plants, automakers, and even Moscow's international airport Sheremetyevo.

The Executive Director of NTM-Protection, a designer and manufacturer of ecological control equipment, notes that the main competitors in his business area have completely different profiles. Yet due to timely feedback, NTM-Protection is practically a monopolist in its market segments. His business began in 1995, and received its first ISTC funding in 1997. In a short period of time, NTM-Protection was able to develop 6 different types of equipment using ISTC funding, all of which found success on the Russian market. Foreign competitors have been pushed out, unable to compete on price and service. Further, the ISTC framework of science research projects allowed weapons scientists to participate in NTM-Protection's commercial product development -- scientists who otherwise would have had no opportunity to work in commercial development.

A similar dynamic was discovered in the case of National Biotechnology, envisaged as the manufacturing and sales entity for drugs developed with ISTC support by the Institute of Applied Microbiology (Obolensk, Moscow region), and also in the case of another start-up from the Institute of Highly Pure Biopreparations. This appears to be a universal phenomenon. In an interview with one of the biotech entrepreneurs, it was noted that most research institutes establish such structures because they cannot accrue more than a certain portion of their revenue from manufacturing and sales and at the same time preserve their tax privileges. Conversely, a reduced tax burden is placed upon small enterprises, and this encourages their formation.

Pharmaceutical products and test kits are sold primarily on the domestic and near-abroad markets. There are several reasons for this:

-- regulatory barriers to entry in Western markets

-- the familiarity of the domestic market (a product of the strong integration during Soviet times of research institutes, the Health Ministry, and research hospitals and the wide availability of epidemiological data)

-- the high cost (relative to median incomes) of Western pharmaceutical products in domestic markets

Many ISTC project managers now involved in small enterprises had their original business ideas and even some customers before their involvement with ISTC. The ISTC projects enabled them to continue research and development, honing their specific products for market niches known to the project teams. At a time when funding for research in Russia was scarcest, the ISTC project teams were able to hold together and even advance commercial applications of science for the Russian market.

** More than Money **

As already noted, many of the Project Managers interviewed indicated that their small business formation was a means for funding additional scientific research to ensure the viability of their laboratories or institutes. Except for two striking cases, the majority of interviewees consider themselves scientists first and businessmen a distant second.

Representatives of the science-enabling businesses universally viewed the need for funding in terms of money for research. The major challenges facing their businesses were related to the absence of needed expertise. One Laboratory Head noted that his biggest need was for an international-caliber CEO: "We are not good organizers or traders. The business could really take off if we had someone to lead us." The absence of specialized skill sets appears in other ways too. All but one interviewee indicated that marketing -- knowledge of the needs and identities of potential buyers of their products -- was the significant issue, and not access to investment money.

Immunoscreen is a high-tech spin-off from the Institute of Biological Instrument-Making in Moscow. Immunoscreen had been tasked by the Ministry of Heath to develop test kits for use in Finnish diagnostic equipment acquired in the 1980s. The ISTC project included development of documentation for certification of the kits, originally designed with support from the Ministry of Health. Their sales are growing at 100 percent or more annually, but the potential market is inherently limited by the number of live births in Russia. The founders are interested in expanding their sales to other former Soviet republics that utilize the same Finnish equipment. However, the market does not exist until these countries reinstate the regulatory mandate to perform newborn screening. Immunoscreen would like to commercialize other results of the ISTC project involving new diagnostic equipment design, but they lack the market intelligence to effectively "pitch" the idea to an investor.

** The Exceptions **

Neurok LLC and GlobalTest are the exceptions to the tendency to keep small enterprises "on the side." Serge Shumsky, one of the founders of Neurok -- a start-up established after the completion of the founders' ISTC project -- aims to commercialize its proprietary artificial neural network technology. Shumsky was born and raised in the closed city of Snezhinsk (formerly Chelyabinsk-70) and formerly was on the faculty of FIAN Lebedev (Moscow). The remainder of the development team was from the closed-city institute from which Shumsky came, VNIITF (the All-Russian Nuclear Research Center for Technical Physics, the Russian equivalent of Sandia National Laboratories).

The team left their old positions to form Neurok LLC. When they received angel capital, they hired an outside CEO and set themselves up in the Moscow State University incubator technopark. Neurok's CEO had extensive management experience in industry as former CFO of TransNeft trading house, the leading Russian oil-pipeline company and as CEO of an international trade and brokerage house, with a Western MBA educational background. Neurok has a VP of Marketing and distinct marketing departments, albeit modest, for each of its business units.

** Conclusion **

So the emerging theme in this first look at small enterprises emerging from the FSU research sector is that business skills are in shorter supply than money. The ISTC Project Managers, now involved in growing their small enterprises, themselves recognize this hurdle. Since they still identity themselves as scientists rather than as business heavyweights, they are not committed to or even particularly interested in expanding their enterprises into big businesses. Their firms are product-oriented as opposed to promoting a novel business model or vision that would make them attractive to potential investors. Venture capital is invested in people, not technologies. However, the absence of overt signs of financial success should not be misread: they are generally satisfied with their professions, and all are making economic contributions and creating jobs through their small enterprises.

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