Reviewing the Jenkins Report on the State of Canadian Innovation
A review of the (mostly ignored) recommendations to overhaul the Canadian innovation system made in the 2011 Jenkins Report, and some commentary on how they can be made relevant today
In 2011, the Report of the Independent Panel on Federal Support to Research and Development was released (usually called the Jenkins Report). The report sought to make cost-neutral recommendations for policy change to more effectively turn R&D into economic benefit and to promote innovation generally in Canadian firms that conduct R&D.
In most cases a report that’s more than 12 years old on the subject of innovation should by definition be so far out of date as to be irrelevant today, but in this case, almost all of the issues identified in 2011 are still issues today. This is not a problem with the report – the findings are robust and the recommendations are mostly sound. It’s a problem of implementation.
The “About the Cover” blurb of the report is a work of art and if you read only one thing in the report, that should be it.
It tells the story of Henry Woodward and Matthew Evans, two Canadian inventors who patented a longer-lasting nitrogen-based lightbulb in 1874, early in the race to the lightbulb and a full 5 years before Edison patented his design. They were unable to secure financing for their work, lost the race, and eventually sold their lightbulb design to Edison.
This story perfectly captures the Canadian approach to R&D commercialization.
The Jenkins report is an insightful look at the challenges faced by Canadians operating at the intersection of R&D and commercialization. They distill their findings down to six major recommendations – some of which I agree with, and some I do not. I summarize these below.
- Industrial Research and Innovation Council - the report calls for creation of an agency to deliver entrepreneurship and early stage commercialization support.
- Simplify SR&ED – The report calls out the complexity of the SR&ED program and the form of the tax credits as counterproductive to its stated goals, and calls for overall simplification of the program.
- Access to Risk Capital – The report makes the case that well-designed policy initiatives can and should play a major role in incentivizing a higher appetite for risk in Canadian private capital markets.
- Dismantle the NRC – The report suggests separating the parts of NRC that do R&D from those that deliver programs to support it
- Public Sector Procurement – The report recommends using government procurement to stimulate demand for products from innovative Canadian firms.
- Whole-of-Government Leadership – Policy and culture are a feedback loop, and building an innovative culture requires that innovation be built into the core mission of the entire government.
The overarching message is simple: Change starts at the top.
Whole-of-government Leadership in Innovation Policy
I recently had the pleasure of attending the Council of Canadian Innovators | Conseil Canadien des Innovateurs CEO Summit in Ottawa. It was both validating and disappointing to hear that the same challenges I have encountered in leading a startup exist across the entire economic spectrum. The focus on intangible assets clearly articulated the issue for me: none of the existing innovation support policy frameworks acknowledge the value of IP.
There is a deeply problematic ethos evident in Canadian policy that equates revenues and job creation with economic value that is shortsighted and leaves us falling farther and farther behind the rest of the world as intangible assets (primarily in the form of patents and data) become the cornerstone of economic success on the global stage.
Innovation support in Canada is a patchwork of disconnected programs, almost all which have two major themes in common. First, they are all gated by revenue and FTE count requirements that exclude all technology that is not revenue-generating, and second, they assign no value at all to the intangible assets held by a company.
Deep tech companies typically have more patents than customers in the first several years of development by their very nature. As far as most innovation support frameworks in Canada are concerned, those assets have no value beyond the fact of their existence. As a result, Canada is a net exporter (and it’s getting worse) of intellectual property in need of support to countries that have learned the value of intangible assets and have frameworks to incubate it.
Successful innovation models implemented elsewhere have demonstrated that public innovation policy can be a catalyst for a virtuous cycle of economic growth and investment. Examples include New Zealand’s “Better by Design” initiative, Belgium’s Imec, Israel’s Innovation Authority, and the United States SBIR program that support small-business R&D–all examples of the catalytic power that the government has to foster innovation and economic growth and resilience, all focused on the long-term growth enabled by producing intangible assets and then nurturing their development all the way to commercial viability.
A few recent policy pushes have started to address Canada’s lamentable approach to intellectual property. The creation of IPON, for example, is a step in the right direction that will be the subject of a later post. But this is not a problem that will be solved through the creation of yet another support framework. The entire government must align in understanding that economic prosperity can no longer be measured in factories built and jobs created, and that without a cohesive strategy for supporting and monetizing domestic intangible assets, we will continue to fall farther behind the rest of the developed world.
SR&ED Reform
SR&ED is a refundable tax incentive that offsets the costs of R&D. It is possible to get about 50% of the salary costs and overheads of R&D refunded if a project qualifies, up to $3M. SR&ED is a key budget element for any firm undertaking R&D in Canada. It is reviewed on a project basis, and the process is sufficiently complex that there exist consulting firms whose only product is writing SR&ED claims that can charge as much as 10-20% of the credit, reducing its overall impact out the gate.
By far the biggest issue, however, is that a firm only learns if an R&D project qualifies after having spent the money. This is a problem that disproportionately impacts pre-revenue startups in the deep tech sector, where most of the budget is R&D, only a small number of projects are ongoing, VC funding is scarce, and time-to-market dictates long term success independent of the outcome of R&D. Such a firm rarely has the cash to front, leaving them borrowing via SR&ED financing at interest rates that further dilute the impact of the incentive. A disallowed SR&ED claim could end such a company or at best stall progress, while not taking the risk means going too slowly to be relevant. In spite of the fact that SR&ED is not gated by revenue requirements like most SME support systems in Canada, approving projects only after the fact is a soft version of the same problem. SR&ED disproportionately benefits firms that don’t need it: those that have reliable revenues and can safely take the cash flow risk of a disallowed project, leaving deep tech behind. According to statistics published in The Logic, small firms only get about 20% of the total SR&Ed benefit, with most of it going to just a handful of large companies. more than 20% is actually paid to foreign firms doing R&D in Canada.
Truly innovative ideas with R&D in the roadmap are rarely revenue-generating in the short term, let alone profitable, but in the long term they are critical to a globally competitive economy.
The solution is in the Jenkins report: Move toward a pre-approval model that allows for iteration and feedback from CRA to remove the need for a consultant, with reimbursement conditional to demonstrating execution of the approved R&D expenditure. With pre-approval in place, confidence in funding will empower early firms to accelerate R&D and take the hiring risks required to turn Canada’s research excellence into economic excellence. Disallow SR&ED claims past a certain size of company, and require that the parent company have Canadian headquarters for SR&ED eligibility.
Incentivizing the required risk-taking in Canada requires policy that supports those that do, from the beginning. Given the disproportionate impact that even a small investment can have in the early stages of deep tech and the quality and quantity of Canadian R&D, the move to SR&ED project pre-approval and a shift in emphasis toward the early stages of SME growth remains a near cost-neutral policy change recommendation that would significantly increase the impact of tax dollars on foundational economic development.
Restructuring IRAP and Incentivizing Risk Capital
One of the most important recommendations of the Jenkins Report was to restructure NRC IRAP. This is a good time to be reviewing this, since it seems to be (finally, slowly) happening, in the form of the Canadian Innovation Corporation (CIC). The CIC is designed to be a Crown Corporation that will absorb IRAP and takes over their mandate to support high-risk early-stage economic activity. The recent news that this will be delayed until 2026-27 is disappointing, and will be the subject of a later post. Assuming it ever happens, it is an opportunity to address both challenges in a single framework.
IRAP funding in its current form covers the cost of salaries of R&D personnel and related contractor costs at a generous 80% and 50% rate, respectively, up to a preset cap. If you can get it, it is an excellent vehicle for getting R&D done, and importantly it works on a pre-approval basis and so does not suffer from the same challenges as SR&ED in that regard. But getting it is a problem: access is gated by minimum revenue and performance metrics based on immediate (18-month) economic returns. Adding to the gateway, access to IRAP is managed by Industrial Technology Advisors who do diligence on candidate firms, and who are rarely experts in the specific technologies they evaluate.
For deep tech in particular, the requirement to show immediate revenue increases as a result of R&D are completely disconnected from reality, leaving the same gap as is present in most SME support programs and limiting the impact of IRAP funding to established firms with steady revenues. The net effect of all this is a very low risk appetite that all but excludes deep tech.
The shift from NRC to CIC is a chance to address both this and the problem of access to risk capital and encouraging risk-taking by Canadian VCs. Aside from completely rethinking their KPIs, CIC should take a page out of the playbook of the Ontario Center of Innovation: OCI has a fund that will invest only following a lead VC, allowing the VC market domain-specific experts running niche funds to handle due diligence while providing leverage for fundraising rounds if the investment aligns with their target sectors. This hands-off approach to diligence amplifies the impact of their funding, since it sidesteps the reality that it is difficult to conduct diligence when investing in deep tech without niche funds run by experts.
The CIC could do the same, but match VC funding with non-dilutive input, providing VCs leverage on their investment if they align with strategic areas of high-risk, long-term economic development priorities at a national level. The hands off approach is especially effective when executing a strategy that involves many small investments rather than a few targeted large ones, a key element of IRAP’s current strategy that I hope will persist through the transformation.
The use of a Crown corp as a delivery vehicle is an opportunity to address another challenge with the current model. IRAP, and most SME support programs, get variable funding each year, leaving a window of just a few months in which funding is assigned and allocated. CIC should ensure that their budget is known as far in advance as possible (ideally, 5-10 years), to divorce fundamental economic development priorities from the election and fiscal year cycles and to allow the deep tech firms they support to plan and rely on them as they get through the valley of death.
The move from NRC to CIC is an opportunity for positive change that does not come about often. I will be watching with great interest (and writing about it) as it unfolds.
Public Procurement
The premise of using public procurement to support Canadian business is idea is that the government should favor Canadian companies in procurement processes, providing revenues and a strong reference customer to serve as a springboard for scaling. I tend to be skeptical of this approach except in some very specific circumstances, and in any case it is of no use whatsoever to deep tech.
In cases where there is alignment between a government need and a company to support, this is an ideal way to provide operating capital that shows traction and is certainly more valuable than a direct grant. For companies that are near or at product-market fit and need a core customer base, the Canadian government can and should provide a foundation on which to scale. Making this a mission of parts of the Canadian government might even contribute to modernization of systems and services through adoption of these products, in cases where that is appropriate.
However, it is not always the case that this alignment exists, and purchasing Canadian goods and services just for the sake of doing so is not good for anyone, promoting the existence of zombie companies that only have one customer and which are not globally competitive. The most important problem with this idea, however, is that it completely fails to support the early stages of commercializing academic R&D. In early stage deep tech there is usually no product to procure in the first place.
There is a potential fix for this, but it requires that the Canadian government rethink its valuation of intangible assets. In the context of procurement, support of promising deep tech through procurement mechanisms requires that deep tech companies be given a way to monetize their intangible assets.
BDC has a fund that operates along these lines: BDC provides loans with a company’s IP as collateral, to an amount that is consistent with what BDC estimates it could get if it had to have a fire sale of the IP. In practice, this undervalues IP, and I would like to see an analogous grant-based approach to IP-backed support, where non-dilutive cash is provided to IP-rich deep tech firms that is non-repayable, provided the IP remains Canadian controlled. (I would also like the idea of an IP fire sale to be replaced with a mechanism to recycle promising IP, since a fire sale of Canadian IP usually ends with it leaving Canada).
This approach would bridge the gap between patent and product, provide non-dilutive funding for early stage, IP-rich firms that need a way through the valley of death, and support commercialization of Canada’s R&D outputs by incentivizing those IP portfolios to remain in Canadian control.
Dismantle the NRC
This was probably the most controversial recommendation made by the Jenkins Report, and to my mind the least realistic. It is somewhat unfortunate that such an unrealistic recommendation was made at all, since it undermines the credibility of the rest. While the NRC can certainly be made more effective, I do not think that the suggestion to throw the baby out with the bathwater is a good one.
Per capita, Canada outputs significantly more than its share of research. However, David Juncker wrote recently about challenges in the research space that are analogous to those in the commercialization space. Funding is allocated on a short term basis (1-3 years) with little room for long-term deep idea development or continuity across projects. The result is a high volume of disconnected research outputs and little in the way of overarching goals, resulting in ideas that are partially developed and then dropped, a lack of support for truly long-term, deep development of complex ideas, and no coherent plan to bridge the ones that survive into the industrial R&D ecosystem beyond selling or licensing out the associated patents. This lack of alignment between funding initiatives and long-term economic development goals, coupled with short-sighted budget allocation, make for a very unfocused and haphazard approach to technology development in the academic space.
Ontario just invested billions in a battery production factory using IP developed in Halifax that was given away to Tesla since they funded a few million dollars of the research. Canada had the research lead and could have been competitive in EV battery tech. Instead, we just produce batteries on behalf of Tesla. Had Canada identified this as an economic development priority and an idea worth incubating even 5 years earlier in the research stage (hardly requiring any powers of prophecy), the situation might be very different. Instead, Canada secured $3 million in research funding from Tesla, and will operate a battery factory that will create a few jobs until a better technology is developed (anyone want to bet on the over/under on that timeline?).
To address this, NRC needs to rethink how funding is allocated. David Juncker’s recommendations are sound and I refer you to this post for a more detailed breakdown of how NRC will need to change in order to be an effective precursor to economic benefit through innovation. Most critically, though, NRC needs to align the end of its funnel with the intake for the commercialization funnel that might someday begin with the newly formed Canadian Innovation Corporation, and get comfortable with taking a risk on supporting Canadian R&D for the long haul.
In short: dismantling the NRC is not the answer. But it will be critical to bring it into alignment with the rest of the innovation pipeline if we are to develop a coherent national innovation strategy that spans all the way from idea to economic benefit.
Wrapping Up
I hope that the overarching message is clear: most Canadian innovation support programs are out of touch with the meaning of innovation and are in desperate need of change. This is evident at every level, beginning with the foundational definitions on which they are built. Most Canadian innovation support programs define a “small and medium enterprise” (SME) as any company with headquarters in Canada with fewer than 250 employees and less than $50M annual revenue - completely missing the spectrum of fundamentally different stages of growth that exist under that umbrella.
Generally speaking, every-log step in company size requires a fundamentally different set of supports. A company with 3 employees is a different beast to one with 10, which is in turn completely different from one with 30, or 100. There is no single support framework that will effectively support all of them. As structured, Canadian innovation support works effectively only at the upper end of this scale, forgetting that every company with 100 employees had to first survive having 3, then 10, then 30, and that for every 100+-person company supported, many smaller ones slipped through the cracks, moved south or never started in the first place.
We are at a crossroads, where the two largest support programs for R&D-based commercial activity (SR&ED and IRAP) are in review. Canada needs to innovate in its approach to innovation. Who better to guide that than Canadian innovators?
I have spent the last several months talking to Canadian innovators and seeking to understand the frustrations and challenges they experience. Two things stand out from those conversations: first, the challenges that I have encountered are a universal experience in Canadian innovation; and second, I can count on one hand (in fact on one finger) the number of Canadian innovators to whom I’ve spoken who were consulted in the restructuring process. If you were consulted, please get in touch! I want to talk.
Given the difficulty of changing government programs generally, this is an opportunity that arises practically only once every few decades. With the pace of change we are seeing in technology globally today, it is of existential importance to Canada’s economic relevance that Canada does not waste it. I fear that without direct involvement from the people on the ground in the building process, sampled across the entire economic spectrum from idea to sustainable growth, that is exactly what will happen.