Senate Approves SBIR Compromise

July 30, 2008

The Senate Committee on Small Business and Entrepreneurship today marked up a bill reauthorize the Small Business Innovation Research (SBIR) program. The legislation, the SBIR/STTR Reauthorization Act of 2008 (S. 3362), introduced by Chairman John Kerry (D-Mass.) and Ranking Member Olympia Snowe (R-Maine) is the product of months of negotiations and compromise over the inclusion of harmful and divisive provisions included in the House’s reauthorizing language, the SBIR/STTR Reauthorization Act (H.R. 5819.)

The bill was formally introduced Tuesday evening, July 29, and the committee held a speedy markup approving the bill unanimously as introduced. The bill will now make its way to the Senate floor, and on to negotiations with the House. NSBA has been critical of several provisions included in the House bill, however the Senate language appears to provide a reasonable compromise. Although the agreed-upon language is not ideal for the small-business community—namely the absence of stronger efforts to push back against large businesses working to gain unlimited entry to the SBIR program—there are many other positive aspects of the bill, and it is a compromise NSBA is prepared to support.

The Senate compromise language would reauthorize the SBIR program for 14 years and increase award set-asides for agencies’ R&D budgets from 2.5 percent to 3.5 of percent over ten years. Not all agencies would be required to increase the set-aside amount, however. The Department of Health and Human Services (HHS)—including the National Institutes of Health—would continue operating under the 2.5 percent set-aside requirement, and the Departments of Defense and Energy would be required to use the increase for development of technologies being developed under Phase II, and not for new Phase I awards.

S. 3362 would increase award sizes for Phase I to $150,000 and Phase II to $1 million. The bill also calls on SBA to make award size adjustments for inflation every three years, and would prevent federal agencies from giving awards in excess of 50 percent larger than outlined in the bill. SBIR awardees would be allowed to receive awards for subsequent phases at an agency different from their originating SBIR-awarding agency.

In addressing perhaps the most contentious of issues surrounding the SBIR reauthorization, the Senate version significantly scaled-back the House’s proposal to expand participation in the program by venture capital (VC) backed firms. The Senate bill would allow HHS to apply to the U.S. Small Business Administration and the House and Senate Small Business Committees for the authority to permit firms majority owned and controlled by multiple VC companies to compete for up to 18 percent of the agency’s SBIR funds. All other agencies would only be allowed to apply for such authority up to 8 percent of their SBIR funds.

Under pressure from the VC community and the Biotechnology Industry Organization (BIO), the House proposal would have allowed unfettered SBIR access to VC controlled firms. Currently, any VC can fund up to 49 percent of Phase I and II SBIR companies. Small VCs—those with fewer than 500 employees including subsidiaries and affiliates—are allowed to own controlling stakes in SBIR companies. According to a 2006 study from the Government Accountability Office, National Institutes of Health SBIR awards to companies with VC backing rose from 14 percent of all awardee companies to 22 percent between 2001 and 2004.

The controversy over VC-backed firms’ participation in the SBIR program is due in part to a clarification made several years ago by the SBA to the affiliation rule which led to the current limitations on VC participation. The Senate bill directs the SBA Administrator to establish requirements regarding the affiliation rule that would allow a company which is majority owned by multiple VCs to participate in the program provided no single VC controls more than 49 percent of the company.

The Senate bill also would eliminate the House’s proposal to allow businesses to bypass Phase I and go directly to Phase II. Allowing companies to bypass the “proof of concept” (Phase I) stage of SBIR, as the House bill proposes, would strip SBIR of transparency and fairness in competition. Currently, SBIR companies must first win a smaller award under Phase I before they can apply for larger awards in Phase II. Circumventing Phase I would turn SBIR into an unofficial “earmark” program, in which firms could simply lobby to gain a competitive advantage, undermining the integrity of the program and its ability to pursue truly ground-breaking technologies that the private sector finds less lucrative.

Another key piece of compromise that the Senate Bill includes is the more moderate increase of award size in-lieu of the House’s language tripling Phase I and II awards without any increase to the program’s overall set-aside. Such a significant increase would drastically diminish the number of companies able to participate in the program.

The SBIR program was created in 1982 to address concerns that product innovation had declined in many U.S. industries. Given that small businesses created more than half of the country’s innovation—for half the cost—Congress sought to ensure that a tiny fraction (2.5 percent) of the federal government’s funding of R&D went to small businesses. Even with SBIR, small businesses still receive less than five percent of federal R&D expenditures—the rest continues to go to large corporations, universities, and federal labs.

While NSBA will continue to oppose provisions from the House bill that would be detrimental to the SBIR program, we applaud the efforts that already have been made by the Committee on Small Business and Entrepreneurship, and look forward to promoting a compromise that addresses our concerns.