Innovation Strategy Jun 6, 2016

What Hap­pens to Inno­va­tion When the Finan­cial Incen­tives Change?

There are ways to split the pie that encour­age innovation.

Yevgenia Nayberg

Based on the research of

Hans K. Hvide

Benjamin F. Jones

In 1996, two PhD can­di­dates at Stan­ford Uni­ver­si­ty began to col­lab­o­rate on a research project called Back­rub, which delved into the math­e­mat­ics of the World Wide Web. In the same way that cita­tions are used to rank papers in aca­d­e­m­ic pub­lish­ing, Back­Rub kept track of the num­ber of links to a par­tic­u­lar web­site and used an algo­rithm to rank those links in order of importance.

The fol­low­ing year, Lar­ry Page and Sergey Brin renamed their project Google. Fast-for­ward to today, and what start­ed as a hum­ble dis­ser­ta­tion project has evolved into the world’s most valu­able pub­lic company.

Like Page and Brin, many uni­ver­si­ty researchers have the option of tran­si­tion­ing their work from the con­fines of the lab­o­ra­to­ry into the com­mer­cial world by either found­ing start­up com­pa­nies or licens­ing their tech­nol­o­gy. But why do some aca­d­e­mics chose to do this while oth­ers pass on the opportunity?

New research from the Kel­logg School sug­gests that uni­ver­si­ty researchers are much more like­ly to choose to trans­fer their ideas into the econ­o­my if they have the right moti­va­tion — that is, a big­ger slice of the pie.

To explore this, Kellogg’s Ben­jamin F. Jones ana­lyzed data from a telling nat­ur­al exper­i­ment in Norway.

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In 2003, Nor­way end­ed what was termed the professor’s priv­i­lege,” a pol­i­cy that gave uni­ver­si­ty researchers full rights to their intel­lec­tu­al prop­er­ty or to any new busi­ness ven­tures they cre­at­ed while employed by the uni­ver­si­ty. The reform — part­ly inspired by the cur­rent sys­tem in the U.S. — shift­ed the bal­ance towards the uni­ver­si­ties, who took two-thirds of those rights.

Jones and his col­lab­o­ra­tor Hans K. Hvide at the Uni­ver­si­ty of Bergen found a dra­mat­ic drop in both entre­pre­neur­ship and the rate of patent­ing by uni­ver­si­ty researchers after this change.

By giv­ing those rights to the uni­ver­si­ty, you’re encour­ag­ing the uni­ver­si­ty to invest in tech­nol­o­gy trans­fer to the pri­vate sec­tor. But you are also tak­ing rights away from the indi­vid­ual researcher,” says Jones, a pro­fes­sor of strat­e­gy and the fac­ul­ty direc­tor of the Kel­logg Inno­va­tion and Entre­pre­neur­ship Ini­tia­tive. The huge decline in inno­va­tion sug­gests that researchers real­ly cared about those rights.”

The find­ings have impli­ca­tions for inno­va­tors out­side of uni­ver­si­ties as well.

Look­ing to Norway

As every econ­o­mist knows, much of human behav­ior can be explained by incentives.

Imag­ine that you help boot­strap your friend’s start­up in exchange for half the equi­ty. A few months lat­er, your friend breaks the news to you that a high-pro­file angel investor has come into the pic­ture, and your por­tion of the com­pa­ny will drop to 10 per­cent. How will that affect the amount of work you put into mak­ing the start­up a success?

By giv­ing those rights to the uni­ver­si­ty, you’re encour­ag­ing the uni­ver­si­ty to invest in tech­nol­o­gy trans­fer to the pri­vate sec­tor. But you are also tak­ing rights away from the indi­vid­ual researcher.”

There’s a very long-stand­ing ques­tion in eco­nom­ics and inno­va­tion about how you split the pie,” Jones explains. How can you split the pie to encour­age the right amount of effort from the peo­ple involved?”

Jones and Hvide turned to com­pre­hen­sive data from Nor­way, know­ing that the reforms to professor’s priv­i­lege could pro­vide unprece­dent­ed insight into pie-split­ting with­in the con­text of uni­ver­si­ty inno­va­tion. The country’s well-main­tained data­bas­es on star­tups and patents allowed them to per­form a thor­ough analy­sis of the reform’s direct impact.

Scan­di­na­vian coun­tries are very good at col­lect­ing data about every­thing that’s going on inside their bound­aries, and they give access to that data to researchers,” he says. That allowed us to look sys­tem­at­i­cal­ly at start­up activ­i­ty by uni­ver­si­ty researchers, which would be very hard to do in the U.S.”

Skin in the Game Real­ly Matters

They found very stark changes in inno­va­tion after the demise of professor’s privilege.

From 2000 – 2002, 25 star­tups emerged from uni­ver­si­ties, on aver­age, per year. This dropped to 11 per year from 2003 – 2007, which con­sti­tutes a 56 per­cent decrease. And, impor­tant­ly, this was hap­pen­ing while the nonuni­ver­si­ty start­up rate remained con­stant. Uni­ver­si­ty star­tups also took a dive on qual­i­ty mea­sures, such as rate of sur­vival and amount of sales made by the com­pa­ny of its product.

Sim­i­lar­ly, the rate of patent­ing by uni­ver­si­ty researchers also went down after the reform. The researchers found a 53 per­cent drop in the num­ber of researchers apply­ing for a patent in a giv­en year. Qual­i­ty of uni­ver­si­ty patent­ing, defined as the num­ber of times each patent was cit­ed by lat­er patents, also took a post-reform hit.

Nor­way did a lot bet­ter pre-reform, and it looks like, if you had to choose between these two approach­es, the professor’s priv­i­lege had a big advan­tage,” Jones says.

And the advan­tage is not just for the researcher, but for the uni­ver­si­ty as well. While full professor’s priv­i­lege gave the uni­ver­si­ty no part of the pie, get­ting a small per­cent might be bet­ter than two-thirds, if the amount of over­all inno­va­tion increas­es because the researchers are moti­vat­ed by their larg­er share.

Broad­ly, the find­ings here sug­gest that you want to push the incen­tive back towards the researcher and not towards the uni­ver­si­ty,” Jones says. This cre­ates more inno­va­tion for society.”

His results have impli­ca­tions for entre­pre­neurs out­side of acad­e­mia as well. For exam­ple, when allo­cat­ing rights between mul­ti­ple investors and the found­ing team of a start­up, it would be worth con­sid­er­ing how that will impact each party’s lev­el of effort. Fur­ther, the sharp reac­tion by uni­ver­si­ty researchers may also inform tax pol­i­cy, to the extent that shift­ing income shares away from the indi­vid­ual researcher is anal­o­gous to an increas­ing tax rate on entrepreneurs.

Impli­ca­tions for the U.S.

Nor­way made its pol­i­cy change in part to emu­late the U.S. sys­tem, in which researchers only hold on aver­age 40 per­cent of the rights (with exact allo­ca­tion per­cent­ages dif­fer­ing from school to school). Oth­er Euro­pean coun­tries such as Ger­many, Aus­tria, and Fin­land have also done away with the professor’s priv­i­lege, insti­tut­ing new poli­cies that cite the suc­cess of U.S.-based inno­va­tion as one justification.

Because of the vari­a­tions in poli­cies at Amer­i­can uni­ver­si­ties and the lim­it­ed data on Amer­i­can star­tups, it is dif­fi­cult to repli­cate Jones’s study in the U.S. How­ev­er, results of a 2008 study that ana­lyzed licens­ing income gen­er­at­ed by uni­ver­si­ties are con­sis­tent with the Nor­way analy­sis. In that paper, econ­o­mists found that U.S. uni­ver­si­ties that pro­vide greater roy­al­ty incen­tives to fac­ul­ty tend­ed to see more total licens­ing income. Up to a point, the finan­cial hit for the uni­ver­si­ty on a giv­en patent can be more than com­pen­sat­ed for by the increas­ing num­ber of patents pro­duced — mean­ing every­one wins: the fac­ul­ty inno­va­tors, the broad­er econ­o­my, and even the uni­ver­si­ties themselves.

Of course, some uni­ver­si­ty entre­pre­neurs and inven­tors will choose to bring their ideas to mar­ket even with low roy­al­ty shares. But to max­i­mize the poten­tial for trail­blaz­ing com­pa­nies to rise out of a uni­ver­si­ty — and for their prod­ucts to ben­e­fit soci­ety along with the econ­o­my as a whole — poli­cies must take uni­ver­si­ty researchers’ incen­tives into account.

Gen­er­al­ly, we think of inno­va­tion as the process that dri­ves eco­nom­ic growth,” Jones says. Thus, we should embrace an inno­va­tion pol­i­cy that encour­ages more of it.”

Featured Faculty

Benjamin F. Jones

Professor of Strategy; Faculty Director, Kellogg Innovation and Entrepreneurship Initiative (KIEI)

About the Writer

Meeri Kim is a freelance science and health writer.

About the Research

Hvide, Hans K., and Benjamin F. Jones. 2016. “University Innovation and the Professor’s Privilege.” NBER Working Paper No. 22057.

Read the original

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