Understanding The Incentives For Small Businesses To Participate In The Acquisition Process For R&D-Intensive Products

In many settings, firms first engage in research and development to generate an innovative product and then compete with each other in a number of ways. They may compete directly for a procurement contract for the particular product, compete for government contracts for related products, take these products to the commercial market, or anticipate mergers with and acquisitions by similar firms. In such settings, it is important to understand which of these various incentives drive firms to participate and invest in R&D. Separately quantifying the relative importance of these incentives can inform the design of the procurement process to encourage more firms to participate in innovative activity and to increase the probability of generating socially and commercially beneficial research. While the general pattern—research, followed by development, followed by either procurement, commercialization, or mergers and acquisition—is representative of many different settings, this project will focus on small businesses in the defense sector. There are two reasons for this focus. First, encouraging small businesses to participate in defense-related R&D is a natural way to broaden the defense industrial base. Second, small businesses may be more strongly incentivized by the prospect of particular outcomes, such as M&A, than other businesses, which may lead to different prescriptions regarding how to incentivize innovation by such firms. To study small businesses in the defense industry, this project analyzes the DOD Small Business Innovation Research (SBIR) program in detail; SBIR is a multi-phase program in which small businesses are contracted to develop specific products for military use and are often then contracted to deliver these products. It provides a case study for other settings in which small businesses are encouraged to innovate, and the results and methods developed in this project should be widely applicable. This project will combine project-level data from the Navy SBIR Program Office with contract-level data from the Federal Procurement Data System and M&A data from DACIS. It will first compute correlations between success—measured by the number and size of contracts earned—in various phases of the SBIR program and outcomes of interest—such as Phase III procurement contracts through SBIR, other procurement contracts, and M&A. This analysis will use the project-level data from the SBIR Program Office to control for heterogeneity across projects in a flexible manner. These correlations will then be embedded in an economic model of the SBIR program. Estimates of the fundamental parameters of this model will be informative of the relative strengths of the various incentives small businesses face, the returns to research funding, and the nature and extent of the uncertainty embedded in the R&D process. The final part of the project will simulate changes to the design of the SBIR program—e.g., intensifying competition by inviting more participants, running separate competitions for each phase of the program, or changing the rules on who can participate in later phases—on the amount of innovation conducted by these small businesses. This project tackles questions directly related to SBIR. What payoffs do small businesses internalize when deciding to participate in SBIR? What are the returns to increasing competition or funding in SBIR? In addition, the project develops a general empirical methodology to study the primitives of settings in which firms conduct R&D. This methodology can help researchers speak to how to structure pro