New procurement strategy could inject billions in sustained funding for STI

Potentially three times bigger than SRED

By Debbie Lawes

A major overhaul of Canada's Defence Procurement Strategy (DPS) is poised to inject billions of dollars into science, technology and innovation (STI) through a new policy tool that will see would-be contractors jostling to invest in R&D, manufacturing and other benefits that promote Canadian business innovation, competitiveness and exports. If done right, government and industry experts agree it could become one of the largest, if not the largest mechanism for increasing business investment in R&D and reversing Canada's poor track record of converting lab discoveries into commercial successes.

"Recent studies say we need to focus on the demand side, get the incentives better so that industry pulls the R&D out of the labs and into the marketplace... (Procurement) is the biggest tool we have with the largest scale so there are huge opportunities if we can do this right," Industry Canada DM John Knubley told delegates at the Canadian Science Policy Conference October 16 in Halifax. Knubley was one of five senior government and industry officials speaking on a panel discussing the DPS, which was released by Ottawa in February.

Using public procurement to stimulate the economy is not a new idea. Canada has had an offsets policy since 1986 - called Industrial and Regional Benefits (IRBs) - which required winners of large defence contracts to spend 100% of the dollar value of a contract on goods and services sourced in Canada. But those expenditures were often not strategically targeted on creating innovative industrial capabilities in Canada.

The DPS is designed to address this problem. The strategy's centrepiece is a revamp of the existing IRB policy, now called Industrial and Technological Benefits. The ITBs will retain the requirements for 100% Canadian content value, but be more focused on using technology and commercialization to build new skills and industrial capabilities in priority technology sectors across the country.

The DPS requires each bid to also include a Value Proposition (VP) that will be nominally weighted at about 10% in the evaluation of contract bids. (The remainder relates to operational requirements and price.)

The key innovation in the new ITB policy is that it will require would-be prime contractors to focus on the industrial and technological benefits that could be brought to Canada from the outset of the procurement process. Bidders will have to compete to come up with the best payoff from their required ITB spending. This could include partnerships with Canadian companies and research institutions, with clear milestones and deliverables for growing key industrial capabilities and stimulating business innovation.

ITBs and VPs can also provide new opportunities for Canadian companies to join global supply chains, or incent large multinationals to establish global product mandates in Canada - the latter described by one panelist as the "crown jewel" of ITBs.

"(The DPS) is designed to change the incentives so the business community pulls the R&D from the work of basic research from across the country and globally," said Knubley.

Another panel member, Canadian Association of Defence & Security Industries president Christyn Cianfarani, described the VP as "the heart of the ITB policy and a game changer". "(The VP) is going to trigger competitive behaviour with companies - particularly foreign (prime contractors) - trying to one-up each other and the ante can escalate quite quickly," she said.

Creating demand-pull

Using incentives to spur industrial demand for homegrown S&T represents a seismic shift in Canada's approach to defence procurement and industrial competitiveness.

"Canada does not have an innovation or science and technologies supply problem, what we have is a demand problem," said Eric Cook, executive director and CEO, New Brunswick Research and Productivity Council. "There are very few tools for stimulating demand for S&T and this (DPS) is now one of those tools."

Panel moderator Dr. Peter Nicholson agreed, saying most government innovation policies, such as research funding, tax credits and subsidies, work on the supply side.

"Procurement generates real demand pull and it is this marketing opportunity that is more likely to foster sustainable business innovation," said Nicholson, who was a member of another Jenkins-led expert panel which produced the Procurement in Support of Business Innovation report. (R$, Nov. 11/11).

"(The Defence Procurement Strategy) is designed to change the incentives so the business community pulls the R&D from the work of basic research from across the country and globally."
- John Knubley, Deputy Minister, Industry Canada

The government spends between $2.5-$3 billion each year on new defence equipment, plus more than $6 billion annually for associated operations and maintenance. Defense procurement spending is forecast to total about $200 billion between 2008 and 2027. Under the DPS, procurements with contract values of $100 million and above will require a comprehensive ITB plan, including a VP. Procurements between $20-100 million will be assessed for possible application of a VP.

Jim King, an independent consultant and retired vice-admiral, said there are 214 major defence projects that have either been approved or at the planning stages, including ships, aircrafts, weapons, and surveillance equipment as well as training, simulation and maintenance services. Those for which contracts have not already been signed would be subject to ITBs and VPs under the new defence policy.

"Almost all of these projects require some degree of innovation, including science, research and development," he explained. These projects, he added, not only provide groups like Defence R&D Canada, the National Research Council and universities with opportunities to provide solutions to defence challenges, but also "to yield valuable intellectual property and the promise of careers in industry", in addition to export sales for SMEs.

The potential for new STI investment is staggering. Nicholson said these requirements could generate an additional $10 billion annually, roughly equal to the federal government's total annual spending, both internally and externally, on S&T, excluding the Scientific Research and Experimental Development (SRED) tax credit which costs the government about $3.4 billion each year.

"This new approach is potentially three times as big as SRED and more strategic," said Nicholson, adding that the sheer scale of defence procurement means that ITBs could become "the most powerful (lever) in the government's innovation policy tool kit."

The DPS is a direct response to the government's Canada-first approach to its National Ship Procurement Strategy and Joint Strike Fighter aircraft program to ensure that defence equipment procurement creates economic opportunities and jobs for Canadians. It also responds to the Jenkins report on procurement that urged Canada to follow the lead of other countries in using procurement, to grow key industrial capabilities, as well as export potential. To ensure Canadian companies get the biggest bang from these contracts, the Jenkins panel called for the creation of a new defence industry strategy that makes innovation a core objective of procurement and involves Canadian companies early in the process.

Getting it right

Negotiating partnerships with Canadian suppliers and research institutes for billions of dollars in new investment is a tall order for both governments and companies with finite capacity. Cianfarani said this new approach will require contractors to engage more with small- and medium-sized enterprises (SMEs), noting that "outreach is critical to pull companies into the value proposition".

On the government side, the panelists agreed that closer cooperation is needed between Industry Canada, Public Works and Government Services and the Department of National Defence (DND) to ensure the new policy doesn't further complicate an already complicated process.

Knubley noted that Industry Canada, DND and Public Works are meeting regularly to review the overall direction of the procurement strategy and individual cases, saying their goal is to "provide some flexibility to the process".

This flexibility is key so that companies can adapt to the unique features of each project, added King. For example, he said ITBs - like the outgoing IRBs -should continue to allow companies to receive a multiplier effect (currently capped at $10 for every $1 spent) when investing in research collaborations with Canadian universities.

Caught in the middle of this policy change is Irving Shipbuilding, which is the prime contractor for the biggest procurement project in Canada's history - $25 billion for a new naval combat fleet (though recent reports suggest this may be scaled back).

Stephen Lund, Irving's VP, Industrial Regional Benefits & Community Relations, said post-secondary institutions involved in research and training will be among the beneficiaries. For example, as part of its Value Proposition, Irving is contributed $250,000 per year over the next 30 years to support the Irving Shipbuilding Centre of Excellence at the Nova Scotia Community College.

"We have to think about how we build this sustainable industry in Canada," said Lund. "This is not about just building ships ... at the end of 30 years, if all we have to show for this is the ships that we've built, then we probably haven't been as successful as we should have been."