The Internationalization of R&D: Strategic incentives to cultivate investment activity
As product innovation becomes increasingly important to ensure competitiveness at the international level, governments and firms alike have begun to consider how best to invest in R&D. Recognizing the link between R&D and economic growth, numerous governments around the world now offer the basic requirements for conducting effective R&D (e.g. access to growing markets, a large customer base, and talent). Furthermore, the public and private sectors in many countries have jointly committed to spending a certain percentage of GDP on R&D activity. According to Germany Trade and Invest (GTAI), for example, Germany aims to spend approximately 3% of GDP (amounting to roughly EUR 70 billion) on R&D activity annually. The 2013 data collected by the World Bank shows that Germany has not quite reached its goal: Germany is still trailing behind the research-oriented Nordic countries, but has slightly overtaken the traditional hub for innovation, the United States (2.79% compared to Germany's 2.92%).
In an attempt to attract business investments and fulfill their commitments to spend, many countries are now pursuing what Deloitte, the professional service firm, refers to as "innovation-led economic development strategies", which, most importantly, include tax incentives and cash grants to reduce the regulatory burden on businesses and encourage investment in R&D. The economic incentives are not direct government R&D funding, but are rather used to encourage private sector R&D investment.
These innovation-led strategies are particularly interesting for small- and medium-sized enterprises (SMEs) with global ambitions. Many SMEs have already begun to focus more intensely on product innovation in order to compete outside of their home base, but for firms that are operating with limited resources, the trend of offering business-friendly tax rebates and cash grants for R&D expenditure could allow them to develop in a way that was previously unimaginable. In fact, some countries, such as Germany, even provide enhanced incentives offered exclusively to SMEs and young, innovative firms. While tax incentives are not offered in Germany, grant rates for SMEs can cover up to 50% of project costs, based on the level of innovation, the level of technical risk, and the level of economic risk associated with the project.
But these incentives are not the only reason that firms have begun to explore international opportunities for R&D. In a study on the R&D activities of German firms abroad, the Commission of Experts for Research and Innovation (GFI) identified two main motives for firms to look abroad: access to the market gained by using talented professionals (who are not readily available at home) and monetary savings stemming from operational costs (e.g. wages, supplies). Simply put, firms are looking to tap talented knowledge bases abroad where they can use the cost advantage to their benefit. In 2011, German firms spent nearly €15 million on R&D processes abroad. German firms are not the only ones stepping out of the box. As reported by the Council on Foreign Relations, from 2004-2009 American multinational firms more than doubled their overseas R&D employment (from 137,800 to 267,400), compared to the creation of just 22,300 new jobs domestically. More and more firms all around the world are moving R&D processes abroad each year, thus contributing to what has been coined the "internationalization of R&D".
However, as some German firms venture abroad, foreign entrepreneurs are pouring into the German market in an attempt to optimize their own R&D process with the help of the well-developed research sector. GTAI reports that foreign companies account for 25% of annual commercial R&D expenditure in Germany. In order to capitalize on their strengths, many countries' incentives are targeted at industry-, activity-, or even location-specific R&D expenditure. The Chinese government, for instance, provides a generous 150% super deduction for R&D expenditure. However, in order to qualify for a deduction, the money must be invested in one of eight pre-determined industries (e.g. electronic information technology, biological and new medical technology, etc.) and used to fund specific activities. Though they also offer a 150% super deduction, the Russian government has a much different approach to R&D incentives. The incentives are available across industries, but the R&D activity must relate to either the development of new products, the improvement of the production process, or the development of new services. Enhanced benefits are offered to firms that set up R&D activities in special economic zones. The Republic of Turkey offers a different incentive scheme entirely. An incremental super deduction is available (from 100% to 150%, depending on the number of jobs created by the R&D investment), with no industry limitations. Furthermore, the Turkish government provides social security contributions and exemptions from employment taxes to those firms that undertake activities in Turkey to achieve technological innovation.
At the European level, the European Commission has developed Horizon 2020, a financial instrument which will be used to implement the "Innovation Union" – an initiative aimed at the protection of Europe's competitiveness in the global market. In an effort to create economic growth and provide job opportunities throughout Europe, the initiative will make €70.2 billion available from 2014-2020 for companies looking to invest in Europe. Funding is available (but not limited to) to SMEs active in the following areas: sustainability, information and communication technologies, energy, and food. However, the process is intensely competitive, with over 6,000 applications in the first round of funding and only 155 funding recipients.
So, where exactly should those looking to move their R&D processes abroad invest? Unfortunately, the answer is not a simple one. Where is the best place to start? The most recent Global Survey of R&D Tax Incentives, carried out each year by Deloitte, summarizes and compares the R&D-related tax rebates on offer in the 30 countries considered to be the most practical locations for carrying out R&D. Ernst & Young offers a more comprehensive report, including details on 34 countries and the European Commission's Horizon 2020 program. On a country by country basis, both surveys look at which incentives are offered, which restrictions the incentives are offered under, and the necessary legal information for those considering making an investment abroad. Of the 34 countries examined, each country has something unique to offer.
Further links:
» Ernst & Young Worldwide R&D Incentives Reference Guide
» European Commission - Horizon 2020