House of Commons Business and Enterprise Committee

Risk and Reward: sustaining a higher value-added economy

Eleventh Report of Session 2008–09

Volume II Oral and written evidence

Ordered by The House of Commons to be printed 20 July 2009

HC 746-II [Incorporating HC 168-i-vii, Session 2007-08] Published on 25 September 2009 by authority of the House of Commons London: The Stationery Office Limited £0.00

The Business & Enterprise Committee

The Business & Enterprise Committee is appointed by the House of Commons to examine the expenditure, administration, and policy of the Department for Business, Enterprise & Regulatory Reform.

Current membership Peter Luff MP (Conservative, Mid Worcestershire) (Chairman) Mr Adrian Bailey MP (Labour, West Bromwich West) Roger Berry MP (Labour, Kingswood) Mr Brian Binley MP (Conservative, Northampton South) Mr Michael Clapham MP (Labour, Barnsley West and Penistone) Mr Lindsay Hoyle MP (Labour, Chorley) Miss Julie Kirkbride MP (Conservative, Bromsgrove) Anne Moffat MP (Labour, East Lothian) Mr Mark Oaten MP (Liberal Democrat, Winchester) Lembit Öpik MP (Liberal Democrat, Montgomeryshire) Mr Anthony Wright MP (Labour, Great Yarmouth)

Powers The Committee is one of the departmental select committees, the powers of which are set out in House of Commons Standing Orders, principally in SO No 152. These are available on the Internet via http://www.parliament.uk/parliamentary_committees/parliamentary_committees

Publications The Reports and evidence of the Committee are published by The Stationery Office by Order of the House. All publications of the Committee (including press notices) are on the Internet at http://www.parliament.uk/berr

Committee staff The current staff of the Committee are: Eve Samson (Clerk), Libby Davidson (Second Clerk), Janna Jessee (Inquiry Manager), Louise Whitley (Inquiry Manager), Anita Fuki (Senior Committee Assistant), Eleanor Scarnell (Committee Assistant) and Jim Hudson (Committee Support Assistant).

Contacts All correspondence should be addressed to the Clerks of the Business and Enterprise Committee, House of Commons, 7 Millbank, London SW1P 3JA. The telephone number for general enquiries is 020 7219 5777; the Committee’s email address is [email protected]

Witnesses

Tuesday 11 December 2007 Page

Professor Peter N C Cooke, Professor of Automotive Management, University of Birmingham and Mr Eric Wallbank, Automotive Sector Leader, Ernst & Young Ev 1

Thursday 28 February 2008

Sir John Rose, Chief Executive, Mr Charles Blundell, Head of Public Affairs and Mr Mike Terrett, Chief Operating Officer, Rolls Royce Group Plc Ev 15

Wednesday 2 April 2008

Mr Richard Hackett, Executive Director, Policy and Research Unit, National Ev 28 Endowment for Science, Technology and the Arts (NESTA)

Mr Will Hutton, Chief Executive and Mr Ian Brinkley, Director, Knowledge Ev 37 Economy Programme, Work Foundation

Monday 12 May 2008

Professor Michael Clarke, Vice-Principal and Dr James Wilkie, Director of Research & Commercial Services, University of Birmingham, Professor Madeline Atkins, Vice-Chancellor, Professor Ian Marshall, pro Ev 48 Vice-Chancellor for Research and Professor Keith Popplewell, Director of Future Manufacturing Applied Research Centre, Coventry University

Mr Mick Laverty, Chief Executive, Dr Richard Hutchins, Corporate Director for Economic Development and Dr Phil Extance, Director of Innovation, Ev 58 Advantage West Midlands

Tuesday 15 July 2008

Ms Rachael Elnaugh, Entrepreneur and former panellist on Dragon’s Den and Mr Doug Richard, Entrepreneur, Chair, Conservative Party Small Business Task Force and former panellist on Dragon’s Den Ev 66

Tuesday 4 November 2008

Ms Frances O’Grady, Deputy General Secretary and Mr Tim Page, Senior Ev 79 Policy Officer, TUC

Mr John Cridland, Deputy Director General, CBI Ev 88

Mr Andrew Cave, Head of Policy, Federation of Small Businesses Ev 96

Thursday 20 November 2008

Mr Iain Gray, Chief Executive, Mr David Bott, Director of Innovation Programmes and Mr Graham Hutchins, Director of Operations and Services, Technology Strategy Board Ev 103

List of written evidence

Page

1 Advantage West Midlands Ev 117 2 Alliance Against IP Theft Ev 123, 124, 126 3 British Brands Group Ev 128 4 British Chambers of Commerce Ev 129 5 British Printing Industries Federation Ev 130 6 British Recorded Music Industry Ev 136 7 British Retail Consortium Ev 138 8 Commission for Rural Communities Ev 144 9 Confederation of British Industry Ev 147, 159 10 Coventry University Ev 162 11 Design Council Ev 164 12 e-skills UK Ev 167 13 Engineering Employers Federation Ev 174 14 Environmental Industries Commission Ev 185 15 Ford Motor Company Ev 187 16 Imagineering Foundation Ev 193 17 Intellect Ev 194 18 Intellectual Assets (IA) Centre Ev 201 19 Institute of Chartered Accountants in England & Wales Ev 208 20 Institute of Physics Ev 210 21 National Endowment for Science, Technology and the Arts (NESTA) Ev 213, 223 22 QinetiQ Ev 227, 237 23 Research Councils UK Ev 239 24 Christopher Roebuck Ev 244 25 Rolls Royce Ev 245 26 Royal Aeronautical Society Ev 247 27 Scottish Enterprise Ev 253 28 Society of British Aerospace Companies Ev 257, 262 29 Society of Motor Manufacturers and Traders Ltd (SMMT) Ev 265 30 South East England Development Agency Ev 267 31 South West Regional Development Agency Ev 271 32 Trades Union Congress Ev 273, 280 33 Unite the Union Ev 283, 287

34 Universities UK Ev 289 35 University of Hertfordshire Ev 292 36 West Midlands Technology Network Ev 294 37 Work Foundation Ev 296

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Business, Enterprise and Regulatory Reform Committee: Evidence Ev 1 Oral evidence

Taken before Business, Enterprise and Regulatory Reform Committee

on Tuesday 11 December 2007

Members present:

Peter LuV, in the Chair

Mr Adrian Bailey Mark Hunter Roger Berry Miss Julie Kirkbride Mr Brian Binley Mr Mike Weir Mr Michael Clapham Mr Anthony Wright

Witnesses: Professor Peter NC Cooke KPMG, Professor of Automotive Management at the University of Buckingham and Mr Eric Wallbank, Automotive Sector Leader for Ernst & Young, gave evidence.

Q1 Chairman: Can I thank you both very much manufactures, distribution, fleet, used vehicle indeed for agreeing to come to the Committee and disposal. My particular areas of interest, frankly, are share your wisdom with us today? This is in fact the further down the supply chain in terms of the first evidence session of quite a major inquiry by the markets where those things are developing. I do Committee into creating a higher-value added quite a lot of work also across Europe and across the economy. We decided to look at some cases as we rest of the world. In fact this afternoon I am going to begin the inquiry and the sale by Ford of Land Warsaw, talking to an automotive practice there; and Rover and Jaguar seemed to raise potentially some I am doing, as I say, quite a lot of work in Central very important questions in relation to the bigger and Eastern Europe as well. subject of the inquiry. We also hope to look at Rolls Mr Wallbank: Good morning. I am Eric Wallbank; Royce Aerospace at a later stage—another example I am with Ernst & Young, based here in London. I of what is happening to higher value-added industry lead all the work we do in the automotive sector. in the UK. And we may have other case histories too Ernst & Young is a firm of accountants and advisers. to inform us of the theoretical background which We get involved in companies where we are the needs to be done to ensure that the UK can continue statutory auditor, companies where we provide risk to have a higher value-added economy in the face of advice; companies where we provide contractual a growing globalised threat or competitive advice and companies where we provide business challenge. It is also perhaps worth saying for the advisory services. My clients and those of our firm record that it is our intention after the deal has gone include almost all of our car makers, almost all of the through to ask both Ford and the new owners of large component manufacturers and many of the Land Rover and Jaguar to come in and explain in dealers and distributors that then retail cars to the more detail what their intentions are and why the consumer. My work is not exclusively just for the sale was made. We had hoped to have Ford earlier UK; I spend about a third of my time working with but we respected the commercial confidentiality of our global automated networks, so I get to travel what is going on at present and accepted that it and see what is happening in the industry in many would be at best a distraction from a delicate and other countries, including India and China—but busy stage and process and at worse perhaps particularly India, which is of interest. damaging commercially to the process. But we are very grateful to Ford for to be able to share some of Q2 Chairman: That is very helpful. Together we will their thinking. So with that preamble can I again hopefully learn a lot from you. Can I begin by asking repeat my thanks to you both, gentlemen, and to you a blindingly obvious question, but I would be ask, as I always do, to introduce yourselves for the interested to know what your perspective is on it? record. Why do you think Ford is selling Land Rover and Professor Cooke: Good morning, ladies and Jaguar? gentlemen. My name is Peter Cooke; I am KPMG Mr Wallbank: Let me just play back some of the Professor of Automotive Management at the things that I think are important. From the Ford University of Buckingham. I spent 20 years in the side, Ford the parent company in the US is in a motor industry.I worked for Ford Motor Company; degree of financial diYculty; it lost something like I have worked in the oil sector; I have worked in high $12 billion last year. Most of that loss was incurred technology. I spent 20 years roughly as an academic in its business in North America. So it has a major at Henley Management College, at Nottingham business turnaround underway to turn the business Business School and now latterly at Buckingham. in North America from one that has been losing My by-line is 20 years in the industry trying to significant sums of money to one where it has to be escape, 20 years as an academic poking my nose profitable, and to do that it has to downsize and back into it. Having said that, yes, I work right the close factories, shed labour and invest in new way across the automotive sector—components, products. So the focus of Ford is on turning round Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

Ev 2 Business, Enterprise and Regulatory Reform Committee: Evidence

11 December 2007 Professor Peter NC Cooke KPMG and Mr Eric Wallbank the business in North America. To help fund that Europe they have created some very high levels of turnaround it raised a significant amount of money, synergy between the product that they produce, so loans against assets of the company.The turnaround the platforms and the power train used in Volvo in North America is by no means certain. The Chief products are increasingly common with those used Executive OYcer of the company, Alan Mulally, has in the Ford products that are produced and sold in said the business is in a race between can it turn the Europe. So there are some very significant synergies North American business round before the cash runs between those two brands in the technical sense that out? So Ford is in a position in the US where, from gives them economies of scale that are very a financial point of view, it needs to raise money. So important financially. Those synergies do not exist that is the first point: it needs the cash. The second between Jaguar and Land Rover and the Ford point is from a strategic point of view they seem to products. By and large—and there are one or two have decided that many of their investments into the exceptions—the Land Rover products and the premium brands have been something of a diversion Jaguar products are on unique platforms with and they have said that they wish to get back to unique engineering that is not shared with a Ford focusing on the core business. It is worth family product. So Ford is not benefiting from the remembering that Ford not only bought Jaguar and synergies of working with Jaguar Land Rover, and Land Rover but they bought Volvo and Aston neither has Jaguar Land Rover benefited from the Martin, and have already disposed of Aston Martin. synergies of the Ford ownership structure. So there is a strategic shift back to the core business, which is, I think, the second thread to this. From a Q4 Chairman: Before I hand over to my colleagues, Jaguar and Land Rover point of view Ford have said just changing the subject slightly, the transfer of the that because they need money in North America to Freelander production to Halewood is seen as a continue to turn the business around in North V great success and I believe that the Freelander has an America they cannot a ord the investments in new enviable record now for reliability and build-quality products that are so critical to Jaguar and Land from the Halewood plant. Do you think that Rover if it is to continue to be successful in the perception is true and what does that mean for market place. Solihull? Professor Cooke: I would echo that exactly. I think Mr Wallbank: There are at least a couple of factors one of the important things is that Ford started behind the decision to move the Freelander building its premium division of Jaguar, Land production from Solihull to Halewood. One is that Rover, Aston Martin and Volvo, and I think it was Solihull, even without the Freelander, is an under the assumption that would actually have the extraordinary complex production operation. It senior management time to be able to spend on produces the Range Rover, the Discovery,the Range developing that. A new area as far as the company Rover Sport and the Defender, and that in its own was concerned when they moved into it, and the right means that it is a very complex production strategy was that Ford would have products from operation, and to continue to produce the the top of the market right down to the absolute Freelander in that would introduce a further level of base, and of course theoretically the profitability complexity that would make it—I will not say would be in those premium products. But, as my impossible to manage, but very diYcult to manage. colleague said, Ford has problems; they have not Professor Cooke: It almost brings us back, been able to focus the amount of management time Chairman, to the volume situation. Freelander is that they would have liked to on those premium very much more of a volume product, therefore put products, so the logical thing to do is to sell it, and I it through a volume plant, i.e. Halewood; whilst the think that is what Ford has done. They are now West Midlands operation is much more—I think I looking to retrench. Ford, if you think about it, have described it as being bespoke, in terms of being historically has been a volume manufacturer and able to build relatively small numbers. With volume is very diVerent to higher value-added V something like the Freelander volume is all. premium properties—a very,very di erent approach Mr Wallbank: On the other hand, the Halewood to marketing; you are not necessarily looking for plant was sitting there producing the X Type but not volume, you are looking for value-added. I think fully utilised, with a very good track record for that has been the Ford strategy and they have made producing quality product. So, on the one hand the almost inevitable business decision in terms of Solihull, as you say, is producing smaller volumes of retrenching. top end vehicles and not best suited to a volume product; and on the other hand a volume plant Q3 Chairman: Why are they not selling Volvo at sitting there under-utilised. I would not say it was a present? Why is Volvo not on the table? no-brainer but it was not a diYcult decision to make, Professor Cooke: I think that is a moot point. From I do not think. a manufacturer point of view, yes, they have sold Aston Martin, they have sold the smallest one; they Q5 Mr Wright: Continuing on the theme of the sale are now in the process of selling Land Rover Jaguar, of Land Rover, at the moment it is generating record who knows what they will do with Volvo further sales and, as we understand it, it is on course to post down the line. record profits this year. You mentioned about the Mr Wallbank: I think that is uncertain but one thing diYculties in North America; is it true to say that the I would add in terms of a diVerence between Jaguar sale of Land Rover is really to generate more funds and Land Rover and Volvo, with Volvo and Ford in for the North American side? I think to sell a Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

Business, Enterprise and Regulatory Reform Committee: Evidence Ev 3

11 December 2007 Professor Peter NC Cooke KPMG and Mr Eric Wallbank company at the height of its profitability when the Q8 Mr Wright: But Jaguar is showing signs of a workforce has worked extremely hard and they have recovery at the moment, is it not? turned around their fortunes, it seems to be a kick in Mr Wallbank: It is, and there are all sorts of reasons the teeth to the workers. So why at the height of the why Jaguar has lost money,which I am sure we could profitability would they consider selling Land Rover spend an entire hour or two debating on its own. But when they have been through the diYculties? you are right, Jaguar is believed to be losing less than Mr Wallbank: It is a good point and I believe there it was, and with future products about to be was significant debate and even potentially launched it could easily turn itself around to a point disagreement amongst all the executives as to where it is no longer losing money. whether the sale should go through exactly for the point that you made, that Ford had been through the Q9 Mr Wright: And could actually be profitable pain of turning the company around. Although such as Land Rover. Ford does not publish the profitability data for its Mr Wallbank: Could be. brands separately, the belief is that Land Rover lost money at the time that Ford bought in 2000 and the Q10 Mr Wright: On that basis, to sell the two turnaround has been quite a success story to one companies together, what would have been the where it is now profitable. From Ford’s point of implication if they were to split the two products, view, selling a company at the current peak of its Jaguar and Land Rover, and sell them volume and profitability means that they are more independently of each other? likely to get more for it; in other words, you are more Professor Cooke: I think that would be very likely to get a decent price for a profitable business complicated, simply because of the integration of the than an unprofitable business. two operations. There is a lot of shared development between the two companies and to try and split those two you would always run the risk of dropping Q6 Mr Wright: In your opinion would you suggest, below a critical mass in terms of research and for instance, that it was the main aim of the company development and all the things that go with it on the to put all the eVort in to make it profitable, to purchase. increase the sale price at that time. Was that the intention in the first place? Q11 Mr Wright: That would have been a non- Mr Wallbank: I think the first intention was to turn starter; they did not even consider that? the company around so that it was profitable, and I Professor Cooke: I am sure they considered; I am know that Ford publicly said that they expected a sure they considered on the way through, and significant proportion of company profits to come looking at it from the outside, yes, they appeal to two from the premium brands. diVerent sectors of the market; but from an internal Professor Cooke: This was the long-term strategy. point of view, from a manufacturing point of view, When Ford 10, 12 years ago started to build its from a product development point of view a lot of premium product division the intention was that shared activities go on. So if you try to break those that would be a major generator of profit in the you could well finish up with two less than viable future, but the market has turned—the market organisations. turned against Ford so they have made what I think Mr Wallbank: Which is why they put them together has to be seen as a logical decision in terms of in the first place, to take advantage of synergies focusing on what they are good at, which is volume. between the companies. Mr Wallbank: In terms of what this means for the employees of the firm, I think you would have to Q12 Chairman: Before I bring in my colleague Julie wait and see what a new owner does. But I think the Kirkbride, there is something I perhaps should have picture I have painted of the current ownership, said at the beginning, that we are having to ask a lot where the parent company is in financial diYculty of questions about what Ford’s strategy is, but our and where it has publicly said that it cannot aVord objective is to find what government policy should to invest in the new products that Land Rover and be, but we have to understand their logic. Jaguar need, means that the current ownership is not Mr Wallbank: Agreed. necessarily a very comfortable place to be for the Chairman: Before we can address issues of research company or for its employees. and development skills and other matters, so we are asking questions to inform our view on public policy not on the commercial judgment at Ford and it is an Q7 Mr Wright: In terms of the sale price would you important point to bear in mind. Julie Kirkbride. consider that the likely sale price would really reflect the company’s current position in terms of their Q13 Miss Kirkbride: What do you think are the future prospects? implications of the weak dollar at the moment for Mr Wallbank: That is a commercial discussion the UK premium industry and for Ford in general? between Ford and the people who might buy the Professor Cooke: Quite a concern at present, I think. company. I think we also have to realise that Ford is Jaguar in particular exports a lot of product to selling Jaguar and Land Rover as two companies North America, so from that point of view yes, the and whilst Land Rover is believed to be highly company has to be incredibly eYcient, incredibly profitable Jaguar is not and has still been making a eVective in the way that it produces its products and loss and has done for many years. the way that it markets its products in North Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

Ev 4 Business, Enterprise and Regulatory Reform Committee: Evidence

11 December 2007 Professor Peter NC Cooke KPMG and Mr Eric Wallbank

America, and the weak dollar is obviously going to Q16 Roger Berry: What do you think should be the hit the profit levels which it can make. Having said public procurement policy in relation to companies that, Chairman, I think it is perhaps marginally— like this? And what do you think that governments and I stress the word marginally—less important for can locally do to improve procurement? a premium product manufacturer than for a volume Professor Cooke: Obviously I would certainly product manufacturer because you can squeeze that support the use of British vehicles or British little bit more in terms of the pricing on the vehicles. manufactured vehicles as much as possible and If one was looking to sell a totally price conscious certainly Land Rover and Jaguar have a public vehicle into North America it would be very, very sector sales group, which is very eVective in terms of diVerent. I think if one looks across the European what it does. But, again, there is a limit as to the manufacturers that export vehicles to North absolute numbers of vehicles that, for example, America they are all premium products that are police and government departments are going to use. being exported at this stage. Mr Wallbank: I suspect in volume terms that the Mr Wallbank: I have nothing to add to that. numbers are small compared to the overall production and sales numbers, but very important in terms of public perception and the visibility it gives those vehicles to the consumer. Q14 Miss Kirkbride: Does that have implications for Roger Berry: Other colleagues will ask perhaps innovation from the weakening dollar? about the climate change issues, but in terms of Mr Wallbank: Not in particular, no. procurement interestingly the Ford submission to Professor Cooke: I suppose always the risk is that if the Committee basically says that the Government a disproportionate amount of the market is in North in comparing purchasing domestically and America then one moves manufacturing to North purchasing imports should really look at life cycle America to be able to get away from that currency CO2 emissions generated as a comparator in making exchange situation. these decisions. How practical do you think that Mr Wallbank: It is worth noting that at least two of would be? Do you think it would make any the German premium car companies have put diVerence? It is interesting that Ford has mentioned factories in North America, but I would point out that—it is about their only specific recommendation that the first decision they made was that they in relation to public procurement. needed more capacity because the companies were growing; and the second decision was where would that capacity be added, and the US was an obvious Q17 Chairman: It is worth saying that we did ask place. Jaguar and Land Rover is not in the fortunate Ford to comment on their views on public position—at least not yet—of having grown its procurement, so we led the witness a bit, as it were, business to the point where it needs to think about but Mr Berry makes an important point. additional factories for production capacity. Professor Cooke: Personally I do not have any comment on it. Mr Wallbank: I can only suspect that what they are saying is that in procurement decisions the Q15 Roger Berry: Can I turn to one public policy government should look at not just the cost and the issue that crops up from time to time in relation to emissions created by a vehicle during its life but also these discussions, namely that of public created from its manufacture. There is certainly procurement? Quite interestingly in the written some evidence that some vehicles, particularly submissions we have received the SSMT does not hybrid vehicles, which can be very economical in use, mention it at all, Ford touches upon it and Unite the in fact create more pollutants and more emissions Union regards it as a big issue. In a sense one might during their manufacture because of the nature of have expected those to be diVerent contributions. some of the components that go into them. There are How important do you think that public some studies to which I do not know that I would procurement is as a policy issue here, particularly attach any credence, or I have not studied in detail, perhaps in relation to military vehicles, the Land but there are some studies which suggest that hybrid Rover Defender? vehicles, which everyone says are fantastically Professor Cooke: I think it is interesting at present. economical and environmentally friendly, if you Maybe the military are not buying as many vehicles look at the whole life cost, including the damage from Land Rover as they used to, but from what I caused by the production of some of the can see there appears to be a greater use of more components, are in fact much lower down the scale specialist vehicles. Yes, the old Defender was bought in terms of their environmental impact across the in very large numbers, but I think the Defender is whole life. now coming to the end of its product life cycle. So public procurement, yes, certainly an important step but perhaps not as important as it used to be. I think Q18 Roger Berry: Would it be fair to summarise your perhaps from that point of view maybe the police views as being that in volume terms public forces are of more relevance than the military at this procurement is not a very significant issue, but stage, with relatively large numbers of4x4sbeing clearly in terms of the perception of the market out used in that sector, and of course Jaguars being quite there that if there are not significant UK buyers of popular with police forces. the products then it is not actually a good sales pitch? Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

Business, Enterprise and Regulatory Reform Committee: Evidence Ev 5

11 December 2007 Professor Peter NC Cooke KPMG and Mr Eric Wallbank

Professor Cooke: Yes, I would agree with you there say what you think would be their diVerent that that perception in the market place is perhaps perspectives and approaches to the two brands if very, very important as far as the players are they were successful? concerned, and of course government procurement Professor Cooke: Shall I put my neck totally on the means that the manufacturers actually are getting a block? I think we are finding that there are three very low price compared with selling them in a wider potential buyers, as I would see it: Tata, from India, market place. So I think one always has to bear that a global corporation looking to build up its position in mind, from a purely commercial point of view, in Europe; Mahindra & Mahindra, again from how much of the product do you want to sell into India, builders of commercial vehicles and 4 x 4s; government or into various public agencies where and an American consortium, whose name escapes you know that you are going to make a very small me completely— margin? So one always has to balance oV the commercial side against the other side. Q22 Chairman: One Equity? Professor Cooke: Could be. But it is led by a former Q19 Mark Hunter: A supplementary on this same senior and Chief Executive of Ford by the name of issue about public procurement and the perception Jack Nasser. So we have those three players. of the significance of it. Would it be your view then Looking at the benefits of each one, what are they that even if the British Government were using Land looking at— Rovers, were buying Land Rovers through the Ministry of Defence, were using Range Rover police Q23 Chairman: It is worth saying that Ford has cars and ambulances, fire engines, that it would refused to name the people who are bidding so it is make no diVerence at all in terms of Ford’s decision all relying on speculation. over the future of the company? If all of those things Professor Cooke: It is pure speculation. had been happening, as they do in other countries in Europe, where they buy their own from their own Q24 Chairman: Although the union seems to know country, you do not think that would have made the something that the rest of us do not know. slightest bit of diVerence to Ford? Mr Wallbank: At least two of those bidders have Professor Cooke: I do not think it would make any confirmed in the Press that they are bidding for the diVerence, in all honesty. The sheer numbers that we companies. So there is a degree of speculation. bought would be relatively small compared with the viable volumes that they would require. Q25 Miss Kirkbride: It is informed speculation. Mr Wallbank: Just to scale it, between them Jaguar Mr Wallbank: But I think it is a fair assumption that and Land Rover produce about 250,000 vehicles a if we assume that those were the two or three year. I do not know what volumes are bought by the companies and then look at Indian owners versus various government agencies but I suspect that it is private equity owners. a very, very, very small number in comparison with their overall production. Q26 Chairman: Sorry, we interrupted your flow, Mr Binley: I am concerned not only about the Professor Cooke. impact for Ford of government procurement, but I Professor Cooke: Looking at Tata first, a global am concerned about government-speak having an company,they already manufacture vehicles in India impact on the market generally, because it seems to and are looking to move more into Europe. What are me that those poor people who perhaps most they looking for? They are looking for brand, they advocate change because of climate change would be are looking for technology; they are looking for the ones that picket first outside the two gates, quite manufacturing skills. They also, I think, have the frankly. So I have a concern about what finance to be able to make the acquisition. I suspect Government says in relation to the impact of that that if Tata were to acquire it they would keep the upon sales of premium cars and particularly Jaguar company in the UK and would look to develop it. and Land Rover. Mahindra & Mahindra, again from India. Their Chairman: Is it a climate change point, Brian? We particular interest, I think, would be4x4,the were talking about climate change specifically. technology and the things that go with that. Looking Mr Binley: I am asking about that in terms of the at it from a purely marketing point of view, Land Government’s attitude to procurement itself. Rover Range Rover is a global, iconic brand. Could Chairman: We want to pursue climate change in we see them over time reversing their own Indian some detail later on. brands into Land Rover Range Rover, using that brand on a global basis but continuing to develop Q20 Mr Binley: I know that, that is why I got in the organisation here in Europe and looking to use quickly. the amazing distribution network which the Mr Wallbank: Can you clarify the question? company has to build up their activities that way? Mr Binley: I will clarify it later on. The American private equity partnership, there was Chairman: I think this is happier under the climate an interesting comment yesterday by the Chair of the change section really. Jaguar dealer association in North America, where he said something about, “I do not know if Q21 Miss Kirkbride: Can we ask you to speculate on Americans would like to have cars that were built by whom you think might be bidding for Jaguar and the Indians.” I thought it was a very interesting Land Rover and can you, in the light of that, then comment. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

Ev 6 Business, Enterprise and Regulatory Reform Committee: Evidence

11 December 2007 Professor Peter NC Cooke KPMG and Mr Eric Wallbank

Q27 Chairman: They have toys built by the Chinese! cannot aVord to invest in the new products that Professor Cooke: An American buyer, as we said Jaguar and Land Rover need, and a new owner just earlier, would they look to move part of the might have the access to capital to enable him to do operation to North America? I do not know. My that, to develop the product ranges further in a way personal feeling is that maybe an Indian player that could not have been done under the current might be the most interesting at this stage. ownership.

Q28 Miss Kirkbride: Do you have anything to add Q32 Mr Bailey: The Tata bid seems particularly to that? Mr Wallbank: No, I would agree that to some extent interesting because to a certain extent the Tata group that an Indian buyer with a strong vehicle seem to be having the sort of problems that the Ford manufacturing business of their own that they group have but they are going ahead with wished to develop creates some natural synergies purchasing, and so far as Tata has been struggling and some natural opportunities, whereas a private slightly and is essentially a low cost producer of cars equity buyer . . . I have to say, if you had asked me why should it want to buy high value niche market two years ago whether private equity firms would be cars in Europe when, if you like, it is not a natural fit interested in buying car companies I would have said to its previous production history? no, but recent history suggests that that is not the Professor Cooke: I think that they are looking case, with Cerberus taking ownership of Chrysler, strategically,looking ahead as to where they see their and the fact that a private equity player is involved. organisation growing. The Indian economy is It is unclear to me what their business model is that growing at an amazing rate; disposable incomes in enables them to make this work for them as an India are growing. The Indian market is very value investor at this stage. conscious, and to weave something like Land Rover, Jaguar into a huge Indian market as it develops over Q29 Miss Kirkbride: So you think that for a private the next few years could be a very real opportunity equity buyer it would be hard to make the money out for them. I think that is the way that I would see it. of it they would expect? Also, as I said earlier, gaining access to that Mr Wallbank: It is unclear to me because the private technology. At this stage Tata automotive products equity play is to take a business, to turn it around, tend to be small vehicles, but that would give them develop it and create more value and sell it on at that wide range of vehicles; and equally important it some point in time several years down the track for would give them access to a wide distribution more than they paid for it. Typically they are looking network, which perhaps they could look to put other for margin and revenue growth and clearly they Tata products through. maybe see a story in there that enables them to make Mr Wallbank: I was in India a couple of weeks ago that model fit their business case. and the number of premium brand products on the streets there is extraordinary. They do have the Q30 Miss Kirkbride: Given what you have said, market and the ability to buy more expensive which has been largely but not exclusively about vehicles, exactly the kind of vehicles that Jaguar Land Rover and the attraction of Land Rover, are produces and Land Rover produces. Secondly, there any threats to Jaguar in all of this, bearing in Tata’s focus is on low cost product aimed at the mind that its profitability has been questionable in Indian market, but they also produce what they call the past? an SUV product that is a 4 x 4 oV roader, which Mr Wallbank: It is an interesting point. There are would have the natural synergies with the Land two ways of looking at the two companies. Land Rover product, and I think these are interesting Rover has been a successful turnaround story; it is technology exchanges in both directions on that. believed to be profitable and in that sense it could be They have also said that they are working on seen as a good business to invest in. On the other environmentally-friendly technologies for vehicles hand, it could be said that maybe this is the peak or and some of those would be directly applicable and the plateau and it could be more diYcult to develop relevant to both Jaguar and Land Rover. So there it further. Jaguar has been consolidating back to a are some interesting technical synergies that are much smaller base. It is widely believed that it has potentially there with Tata—which is a very large not been profitable for many years, but it is a very corporation, as you already know, with very many strong brand, and in that case I believe that some of diVerent strands to it—and potentially some quite the businesses that are interested in the acquisition interesting links into the needs of Jaguar and Land see Jaguar as the more interesting story because Rover, technically. there is more that can be done with it. They are both very strong brands but the Jaguar one perhaps is more attractive from an opportunity point of view. Q33 Chairman: It is fair to say that Tata has the reputation of being a very hands-oV company, Q31 Chairman: Broadening the range for products, operating quite a federal structure, allowing for example? considerable discretion to its operating units at the Mr Wallbank: They could broaden the range of the same time. products and they could also broaden the access to Mr Wallbank: I am not familiar with that. markets and take the product out into other places. Chairman: It is what the union tells us and I think I I come back to the point that Ford has said that they agree with that analysis. Brian Binley. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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11 December 2007 Professor Peter NC Cooke KPMG and Mr Eric Wallbank

Q34 Mr Binley: Two questions. The first concerns critical to the turnaround is the XF, which is about the long-term future of Jaguar and Land Rover and to replace the S type, which has been received very the second concerns their supply chains because they well by the Press and the public in its preview form. If are of equal importance. I note that Jaguar and Land that is successful then we could see a position where Rover collectively are projecting a profit of about 1.6 Jaguar is reliant on a big sports car, a big saloon and billion sterling by 2010-11. However, Jaguar a mid-size saloon and those would be the core of the reported a fall in sales of 16.8% over the first half of range of the brand. this year. Those figures are slightly at odds with each Professor Cooke: You have put your finger on it other, although I recognise the import of Land absolutely there. Jaguar is, dare I say it, an Rover in relation to joint profitability. Can I ask aspirational brand—low volume, high value-added, where you think the problem lies in terms of it is something that people see as some sort of peak premium car buying and in terms of that fall of their career—“I will have a Jaguar; I will look to particularly of 16.8%? How much is about the have a Jaguar one day.” And, as my colleague says, British economy? How much is it about politicians Ford because of its volume orientation looked to talking and frightening customers talking climate build up volumes further down in terms of price, and change? And how much is it about a new model on I agree absolutely that Jaguar started to move back the way? up the market price-wise and I think over the next Mr Wallbank: I think it is worth, when you look at few years it will go up even further price-wise into Jaguar, realising that by far the bulk of their that very, very e´lite segment at the top. The other production is exported and not sold in the UK, thing is that we have more competition there than we although the UK is their biggest market. I do not used to have; we have certain parts of the Lexus have the statistics to hand—I am sorry about that— range, we have BMW, we have Mercedes, all selling but a significant proportion of their output is relatively large volumes in that sector. So it has been exported to North America and mainland Europe. new competition coming in for Jaguar. There is a So any local impact on the UK market, yes it has an market there but it is not a huge one, it is a value- impact but it is not the whole story by any stretch of added market—it is high price, low volume. I see the imagination. That is the first point. The second that market as going to continue to grow, and if you point is that if there is a decline in sales of Jaguar I look at it on a global basis there is what I would call suspect it is very model specific and I suspect that its a global super group of products, which include the decline—I am going to guess that it is the X type, top end of Jaguar, the top end of BMW, the top end which is the bottom end of the Jaguar range, the of Mercedes, certainly the Italian cars, Rolls Royce product that is built at Halewood, that is derived to and Bentley—maybe worldwide a couple of hundred some extent from some of Ford’s Mondeo thousand units, where people will perhaps buy two products—in sales there does not necessarily mean a or three because they do not necessarily live in one decline in profitability. In other words, the products country. It is a peculiar market segment but I think that are selling at Jaguar are increasingly the more that Jaguar is starting to move into that sector. expensive and the more profitable products, I believe Mr Wallbank: It is a segment that is remarkably that the XK sports car, which was launched a year recession-proof and it is very elastic in its demands. or two back, with some very innovative aluminium In other words, if the exciting product is put out body construction technology, has been selling very there people will find the money to buy it. well and is probably a significantly profitable vehicle. I suspect if you go back and look at some of Q35 Mr Binley: I am the proud owner of one XJ— the reasons why Jaguar has been losing money,it was not three, I might tell you—and they are wonderful partly to do with a very aggressive growth strategy cars. Can I go on then to extrapolate from there that set in the late 1990s and the introduction of two we might be in a situation with the profitability of the successive vehicles—remember Jaguar always used two companies, that Land Rover might be in a slight to produce the XK and XJ, big sports car, and big downturn with regard to profitability in the medium saloon. They introduced the S type, one segment to longer term and Jaguar is on a sizeable upturn. Is down in the market, and very quickly afterwards the that what you are telling me or have I X type, with the belief that the market would be misinterpreted it? there for the products and it was not, by which time Mr Wallbank: There is an inevitable cyclability of of course the company had all the costs incurred the profitability of car companies and when they with engineering and producing those vehicles. So I have just launched lots of new products they tend to think the kind of plan, as I see it, for Jaguar is to be more profitable and that is the position Land revert back to a smaller scale manufacturer. To do Rover is in. It has very successfully launched the that it has had to take a lot of cost out of its system, Discovery, Range Rover Sport, and the Freelander. which it has done. It has closed the Browns Lane So it is to that extent—I will not say at the peak of factory, it has shed labour; it now shares a lot of the its cycle—potentially that might drop until the next cost of Halewood with Land Rover and I suspect by exciting product comes along to give another kick to far the bulk of Halewood’s output is now Land the volumes and the profitability of the business. So Rover not Jaguar, which will have a real impact on will it significantly deteriorate to the point where it the Jaguar cost base. So the Jaguar’s story is about is likely to drop to loss making? It is very unlikely, in getting the cost base down to a point where the my opinion, from the data that we have—and I have volumes mean it can make money and the volumes said Ford do not publish the data on the profitability will increasingly be of more expensive vehicles; and of its brands independently. Jaguar could return to Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

Ev 8 Business, Enterprise and Regulatory Reform Committee: Evidence

11 December 2007 Professor Peter NC Cooke KPMG and Mr Eric Wallbank profitability and if it could on the back of the next for many things they buy they can buy them more new product—and I agree entirely with Peter—there cost eVectively from countries other than Western is a lot of opportunity for Jaguar to move up the Europe, North America or Japan—the traditional spectrum. If we think about the history, until very sources. Having said that, there are things that recently Jaguar and Aston Martin were both owned would always be produced in the country where the by Ford and there was no overlap in the product, no vehicles are assembled. There are some things which overlap in the price at which those products were simply physically cannot be transported around the retailed. Now Aston Martin is independently world, it is just not cost eVective to do it; so those owned, it looks like Jaguar is about to be things always need to be produced close to the independently owned—there is a lot of opportunity assembly plants. Then there are always things that for Jaguar to move up the price range and produce will be produced locally in the UK because of the more expensive vehicles and to move the brand up to unique technology that the company has, which that aspirational point. gives it a competitive advantage. Then there are some things which are simply not labour intensive so Q36 Mr Binley: So you are optimistic about the they can be economically produced here too. So future of both Jaguar and Land Rover? when I look at all the suppliers there are a number of Mr Wallbank: I think they both have a lot of reasons why they would have the right to exist in the potential, but whether that is realised or not I think UK in the long term, but there are many others is very unclear. where they are producing components which the car companies can source much more cost eVectively Q37 Mr Binley: Can I go on to the supply chain from other countries, and increasingly will do that, element of it? Can you give us specific figures of and it is not just UK car companies doing that, but numbers employed by Jaguar and Land Rover? I it is the stated policy of many of the global car think it about 19,000 UK direct. Can you tell me companies. what you think the supply chain employs in terms of Professor Cooke: I would echo that as well and those two companies? suggest that there is probably a critical mass in terms Mr Wallbank: I do not have that data. Most of the of components below that level one would look to suppliers to Jaguar and Land Rover are also outsource it on a global basis because it is just not suppliers to many other car companies. I just do not economic by the time you have moved those have the data, I am sorry. components around. So for a really specialist manufacturer you are probably over time going to source more locally than perhaps if you are a volume Q38 Mr Binley: There is a projected figure of about manufacturer where you are creating large numbers 40,000 jobs dependent on the two companies. Do of vehicles. you think that is fair or unfair? Mr Wallbank: That is not an unsurprising number. Just to look at the broad cost structure of a vehicle Q40 Mr Binley: It is important. Thank you. that is produced—and this is generic, it is not unique Mr Wallbank: It is because as a premium to Jaguar and Land Rover—around about 60%, manufacturer you tend to be less cost conscious and maybe a little bit more, of the cost of the vehicle is also you rely more on innovation so you are more money spent by the vehicle manufacturer with its likely to use strong, innovative and local suppliers, suppliers. So you would expect there to be more and that is certainly a strong characteristic of the employment in the supply base than in vehicle German industry. Lots of German mid-size assembly, is the short answer. component suppliers are highly innovative, very dependent on the German premium brand car companies. Q39 Mr Binley: Let me evolve from that this final question because very often when we talk about companies like this we fail to think about the supply Q41 Mr Binley: So a good argument in terms of chain, and you are absolutely right that there are added value? more people supplied in the supply chain than there Mr Wallbank: A very good argument in terms of are directly by the two companies involved. How added value. should we argue the future of Jaguar and Land Rover with the Government, bearing in mind the Q42 Mark Hunter: Can I ask you what, in your needs and concerns of the supply chain? opinion, the sale of Land Rover and Jaguar tells us Mr Wallbank: A comment about the supply chain in about Ford’s future long-term strategy in the UK? general to the car industry. By far the majority of Mr Wallbank: I will deal with the context of that and components supplied into manufacturers are see if it answers the question. Ford no longer produced by global suppliers rather than small, local produces passenger cars in the UK but it does in the suppliers. Those global suppliers are themselves UK have two of its largest engine plants: a plant at increasingly looking to produce those components Bridgend which produces petrol engines and a plant in what you would call lower cost economies; that is at Dagenham that is its main plant globally that an inevitable trend in the industry. Almost all the car produces diesel engines, and they carry out diesel companies have a strategy, somewhere either engine R&D also in Essex at a slightly diVerent publicly stated or not, to shift more of their location, in Dunton, and all of those are there to procurement of components to what they would call support Ford of Europe’s volume passenger car low cost economies or emerging markets, because business and some of those engines also end up in Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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11 December 2007 Professor Peter NC Cooke KPMG and Mr Eric Wallbank

Volvo products incidentally. Ford in Europe is market, and very, very rarely—I cannot think of an reported to be profitable and when I describe the example—a plant closed in Western Europe with the diYculties that Ford has financially those diYculties explicit intention to replace it with a plant in Eastern are almost uniquely down to its North American Europe or some other low cost country. business rather than its European business. Professor Cooke: We have seen something like that Professor Cooke: I think one also has to look at the with Peugeot, have we not? market situation. The UK is one of Ford’s major Mr Wallbank: Peugeot did not set out, I am sure, markets in Europe, so from that point of view with the intention that they were going to close manufacturers like to manufacture, whether it is capacity in Western Europe; they simply were not vehicles, whether it is major component activities, in selling enough cars versus their plan, so they had too the markets where they are going to sell vehicles. So much capacity, so they closed what for them was the from that point of view the Ford engine plant in easiest and most cost eVective plant to close, but it Y South Wales, supremely e cient, and there is a very was not their plan and I am sure it was not Ford’s strong Ford supply base, which is actually based in plan to close capacity in the UK nor GM’s intention Dagenham where components from across the UK either. Closing a plant is quite a diYcult thing to do are gathered and shipped across to Europe on a and a very expensive process to go through and I do regular basis. So Ford’s position in the UK, even if not think any car company sets out with that as part it is not assembling passenger cars, is still a major of its strategy; it is a result of failing to sell enough source of purchase in terms of components, in terms cars for that brand. of its specialist engine plants, and I do not see that Professor Cooke: I think we have to remember that changing. on a global basis there may be as much as 20% excess Mr Wallbank: I do not know whether it is Ford’s in store manufacturing capacity in the industry so policy but many car companies have a policy where they try to naturally hedge against exchange rate manufacturers all the time have to fine-tune and diVerences by if they sell a certain value of cars in the have to balance. UK, even if those cars are imported, they try and Mr Wallbank: On the other hand, if you ask many export in components roughly the same value as the of the car brands that are produced in the UK, do vehicles that they import, to try and give that they have excess capacity in Europe they would say natural hedge. absolutely not, they need to install more capacity in Europe because their sales are growing. Chairman: For the last half hour I want to move on Q43 Mark Hunter: I understand the point but you to policy questions, having had that very useful do not think that the sale of Land Rover and Jaguar examination of the market in which Ford and Land per se has any overall impact on the viability of Rover Jaguar are operating. Mick Clapham. Ford’s remaining operations in the UK? You would not read anything into it as being a sign that they are any more or less committed perhaps? Professor Cooke: Dare I say it, almost a fine-tuning! Q45 Mr Clapham: If I could turn to Research and That Ford treats Europe as one market, as one Development. We know that the Ford motor manufacturing unit, as one market, and from that company is responsible for about 80% of our point of view, yes, Jaguar and Land Rover at this automotive R&D. Bearing in mind what you said a stage maybe does not fit; but in terms of the rest of little earlier, Mr Wallbank, about the German the activities, yes, they are developing. The UK is as market and the way in which we see smaller major market, the UK is very eVective in terms of the innovative companies developing around the particular Ford supply chain, so from that point of production premium models, what are the view we will see changes but we will see fine-tuning implications for research and development in the the whole time with any dynamic competitive UK of the sale? Are we likely, for example, to see industry. some of those more innovative small companies to lose out as a result of the sale? Mr Wallbank: It is hard to predict. Instinctively my Q44 Mark Hunter: Do you think Ford’s intentions are indicative of the industry generally? answer is I suspect not. If the company is innovating Mr Wallbank: When you look at what is happening and producing a component or a technology that is in the UK and you look at the manufacturing plants attractive to Jaguar and Land Rover then that gives that we have for cars in the UK, the ones that are the company, if you like, a right to exist and a right here are ones that are owned by car companies that to continue to supply. The comment I would make are being successful in the market place. So if you about R&D is that as in other global trends in the look at Toyota, Honda, Nissan, BMW with the Mini industry, increasingly large global car companies plant, they are all brands that are growing sales in and global suppliers are having R&D done in more Europe so they need to increase the number of cars cost eVective locations. So a company I met in India they make in Europe and not decrease. Every time two weeks ago said, “We can do engineering on a we see a plant closure—and not just in the UK but subcontract basis at $25 an hour versus $75 an hour in other Western European countries—it has been a as a cost in Europe.” The experience of companies closure done by a car brand that is simply not selling doing that has been fairly mixed and whilst the enough cars and therefore has too much capacity. In labour cost is less the eYciency is lower and there are other words, when plants get shut it is because a car the inevitable communication issues. But there is a company is making too many cars for the local trend, certainly by larger companies in the industry, Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

Ev 10 Business, Enterprise and Regulatory Reform Committee: Evidence

11 December 2007 Professor Peter NC Cooke KPMG and Mr Eric Wallbank to have some, if you like, of the lower level R&D transferred because of the purchase it would have an design work done in lower cost economies because it enormous impact on innovation and of course the is a significant part of the cost of the company. technological advancement here in the UK. Do you Professor Cooke: That will continue; that will see at all that future of the engine linking to the fuel develop. One of the challenges is to be able to get cells being under threat as a result of the sale, or do that innovative R&D actually into the product you think that the future development of engines is because it will get it into production very quickly also stable? because the market is so competitive. Yes, a lot of Mr Wallbank: I would diVerentiate it in terms of the that is coming out of the Far East and one thing of money Ford spend on R&D between the money it course with the Far East is that it has really grabbed spends on power train and engines, which is done by the bull by the horns in terms of electronics, if you Ford under the Ford global badge at their look at it an awful lot of developments in terms of engineering centre in Essex, and the other spend motor vehicles, enhanced electronics. So almost would be the R&D spend on new vehicles at Jaguar inevitably more and more of that is probably going and Land Rover, which is obviously part of what to come from the Far East. would go with the sale. But I do not believe that there is any inclusion in the sale of any of the engine Q46 Mr Clapham: Given that Ford announced only development capability that Ford has. I think quite last year that they were going to put £1 billion of the opposite, it absolutely needs to keep that. investment into a number of aspects of their Professor Cooke: My suspicion is that when the final engines—and I am reading here from their sale goes through there will be very complex submission—light weight vehicles, so we see the agreements in terms of sharing of R&D, in terms of innovation in light weight vehicles—new advanced Ford providing R&D facilities, R&D support for diesel and petrol vehicles, hybrid engines, bio fuels Land Rover and Jaguar. If one looks across the and advanced transmissions and a range of other whole range of automotive manufacturers the driving eYciency improvements, that is a hell of a biggest competitors share facilities, share R&D, concentration of R&D. Why is it that it is so simply because of the cost of doing it. Fundamental concentrated in and around one particular company R&D is shared on an increasing basis. and is it because of university linkages or? Professor Cooke: You will find that all the Q50 Mr Clapham: My final question relates to the manufacturers are doing the same sort of thing. diesel engines. We know that in the UK Ford is producing roughly about 50% of the diesel engines Q47 Chairman: We are making a point about the that they use worldwide, 80% of the engines that UK. Ford is doing it in the UK, the others are not, they use in Europe, and a lot of the new technology that is the point. now is going into the development of diesel engines. Professor Cooke: Ford happens to have its Do you feel that that technology is safe, that it is operations at Dunton, which is Ford’s very large likely to remain based here? Because again we see R&D activity. Money is being spent there; they have that there is something like 9,500 people involved the people, they have the support services that go directly in research and development of the engines with it, which is hugely important. The same sort of and it is very important for the UK economy. thing in Germany. It is really where those companies Professor Cooke: My feeling is that it will stay to have started, where they have built those resources, continue developing those engines. Again, it is one where they have the support facilities, where they of those things where people are very important, have the educational facilities that go with it, in particularly when you are looking at R&D—people terms of R&D—all of those other things that link are very, very important. So as long as we are into it. R&D, yes, Ford is spending the money at delivering the people that can do it, yes. Dunton, but they are also outsourcing it to all sorts of specialist companies in the area, hence the Q51 Chairman: Can I just challenge you on precisely universities. It is a very complex animal that one is that point because this is one of the major areas of dealing with. To move that to another country is Y concerns, the high value of research and very, very di cult. development and innovation in the UK. Two submissions we have received as part of this Q48 Mr Clapham: So you do not see that as inquiry—one from the SSMT and one from Ford happening at all? itself—give me very great concern. The SSMT talk Professor Cooke: I think as long as we remain an about the really much greater commitment in innovative nation, as long as we deliver it, yes, it will Europe as a whole from Daimler, Chrysler, VW, stay there, because all the time when we look at Bosch and BMW to research and development than manufacturers we have to look at them not just on a automotive research and development in the UK European basis but on a global basis. I think that is because Ford are on their own virtually in the UK. hugely important and we tend to forget that at times. In Ford’s memorandum to us they talk about the It is where can the manufacturers get best value for UK being an unattractive place to the automotive what they are looking for? sector to do R&D. The SSMT say that the UK needs to foster the right environment for such levels of Q49 Mr Clapham: There is another aspect here, and research and development investment to take place that is that Ford are the leaders in the development and ensure that the UK does not lose out to other of fuel cells and if that technology were to be EU Member States, and Ford say that a debate is Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

Business, Enterprise and Regulatory Reform Committee: Evidence Ev 11

11 December 2007 Professor Peter NC Cooke KPMG and Mr Eric Wallbank urgently required to address ways in which UK Mr Wallbank: I am less bothered about that because automotive R&D can be stimulated. So there is quite one of the reasons that any company—particularly a serious warning there from the SSMT and from Indians—might acquire Jaguar and Land Rover is Ford about the future of research and development because of their technical expertise. It is more a fact in the UK. of Jaguar and Land Rover, as I say, produces about Professor Cooke: Coming back to my point just now, one-sixth of the cars produced in the UK. I think the I think you have lifted it much more to the challenge is how to attract more R&D here for the macroeconomic level than I was talking about, and other five-sixths. what you are saying there in terms of quoting Ford and the SSMT, yes, I would agree. But in terms of the Q56 Chairman: I will not push you on this point as microeconomic level, in terms of actually making it there are other questions to ask you, but if after this happen at this stage, yes, I see the UK as being a you can think of things you think we should be major player. pushing on—because this is a major theme for this Committee, we are looking at the implications for the long-term future of research and development in Q52 Chairman: Let us go to the macro level. Let us high-value manufacture. look at the post sale of Ford. Ford as a freestanding Mr Wallbank: And it is interesting that some of the company, Land Rover and Jaguar as a freestanding companies that have come here over the last 20 years company owned by Tata, or whoever it is, what can to produce cars are now starting to do more of the we do to ensure that those two companies keep their engineering here, so I think there is a very valuable R&D activities going in the UK strongly and we question. build a more attractive environment to enable us to catch up with other companies bringing their R&D here with the rest of Europe when we are falling Q57 Chairman: Tata themselves have set up— behind? Do you have any views on what we can do Mr Wallbank: I was going to say, Tata have an to make it more attractive for the automotive sector engineering centre here and at least one of the to invest in the UK? Chinese companies has an engineering centre here in Mr Wallbank: I would make an observation because the UK because of the UK engineering expertise in you drew the parallel with some of the German the sector. Some of the companies that produce here manufacturers. They are much larger companies are now starting to engineer vehicles here and I think than Jaguar and Land Rover. Jaguar and Land there is more of that that could be done. So, yes, I Rover together produces a quarter of a million cars will exercise my brain on that point. and Mercedes Benz is closer to a million. So they have a much larger organisation and they have a Q58 Chairman: Do not feel under an obligation but much greater ability to need to spend on R&D which you share my concern. they will inevitably do close to home with German Mr Wallbank: Absolutely. institutions rather than overseas institutions. So there is a challenge here. Although we produce lots Q59 Chairman: The other gypsy’s warning from of cars—we produce one and a half million cars a Ford in their memorandum is on skills in the sector year roughly in this country—the R&D on those where they gave us evidence just over a year ago and cars traditionally has been done elsewhere, and I expressed concerns about the availability of suitable think one of the challenges is how to attract R&D of skills for their companies is skills in the automotive those vehicles into the UK by the companies that sector. I am leading you very heavily here as produce the vehicles here. witnesses, for which I apologise, but are we right to be concerned about that too in terms of the long- term future of high-value manufacture in the UK? Q53 Chairman: We say to ourselves that we are Professor Cooke: Yes. We need to keep our skills brilliant at this. We say design, research and base going, and particularly in terms of high value development we are brilliant—Formula 1 relies where the skills are perhaps diVerent in terms of the entirely on the UK. skills that one needs to assemble volume products. Mr Wallbank: We have the whole bit. Volume products are perhaps much more of a discipline—we have cracked that one. We have, if Q54 Chairman: So why can we not translate that to you like, almost a vestige of skills in terms of the high other premium brand and indeed volume car value-added product, and we have to develop that, manufacturing? What are we missing out on that we and that is part training and part education, and could do? government support to do that through the various Professor Cooke: I think one issue which Eric picked Skills Councils. Yes, it has to happen and it has to be up on is the proximity to the head oYces of driven forward. I think we need much more of an organisations. I think that is very important, that ethos of training; not just flexibility but specialist there is a natural feedback between the driving force training as well, for people to be able to work on of the organisation, R&D, and all the things that go those intricate products, the high value-added, with it. relatively no volume products. Mr Wallbank: The people I have talked to in other countries, skill shortages in this sector are not unique Q55 Chairman: They should be worried about to the UK. It is one of the biggest issues facing the selling to an Indian company in the long-term then? emerging markets, such as India and Eastern Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

Ev 12 Business, Enterprise and Regulatory Reform Committee: Evidence

11 December 2007 Professor Peter NC Cooke KPMG and Mr Eric Wallbank

Europe; it is also a big issue that my German impact, undoubtedly, but will Land Rover and colleagues tell me is facing the industry in Germany. Jaguar be able to meet these limits as an independent They tell me that the best academic people in company? Germany are no longer going into engineering; if Mr Wallbank: I think there are two challenges. One they go into engineering they know that they will go is the investment in the new technology is huge and into the car industry. I heard things from my it is not yet certain which of those technologies will colleagues in Germany that I used to hear in the UK win out in terms of the most attractive commercially 20 years ago, so we are not alone in this, I have to say. and in the market place, so there is a lot of Chairman: We might come back to this but there is a uncertainty around what is going to be the most very important area that we have not questioned yet. appropriate solutions to the power train. The other Ford’s memorandum highlights skills, R&D and angle here is if the European Union, as I believe it one other issue which Mike Weir wants to explore. has, proposes—and you will know more about this than I do—an absolute level of which they expect vehicle manufacturers’ fleet of vehicles to meet in Q60 Mr Weir: We have touched on it already about Y V terms of emissions. That is much more di cult to climate change and the e ect on the motor industry. meet if you are a premium brand producer who The Managing Director of BMW UK was quoted as typically has more expensive cars with larger engines saying that “A determination to tax larger cars out than if you are a volume producer producing lots of of existence threatens smaller manufacturers such as small cars. So there is a specific challenge that is Jaguar and Land Rover.” That seems to be at unique to companies that are at the premium and the variance to what you were saying about luxury V top end of the market, and I believe that will not only brands earlier on. Have e orts to tackle climate aVect a Jaguar or a Land Rover but also will aVect change had a significant impact on the premium car a number of the other premium brand companies. industry? Professor Cooke: I think what we are going to see, over time—and I suppose Freelander is an example Q63 Mr Weir: From that, then, for the of it—many factories working on making their manufacturers of large, luxury vehicles taxation is vehicles much more environmentally friendly. It is not going to be the thing that hits them because happening—manufacturers are putting large people will buy the product more or less whatever amounts of money into it, but they need the time to the cost is, if they are Bentleys or large Jaguars. be able to do it. They are working sometimes against unrealistic timescales, but manufacturers are very aware of the environmental issues and looking to Q64 Mr Wallbank: Yes. improve their products. We have been through a situation in terms of paints over the last decade or so Q65 Mr Weir: But if there is an emission level above and we are now in the situation of looking at engines which they cannot go then that is going to be a Y V and getting more e ciency, more e ectiveness out of problem for them looking to that emission level. engines, and at the same time some manufacturers Mr Wallbank: And in that sense what is called the gradually downsizing their vehicles, putting more supply side controls are more important than the and more equipment inside smaller and smaller body demand side because as consumers people will be shells. So I think what we are going to see is the voting with the wallets and bought expensive cars industry over the next few years with smaller, more that are relatively high emissions irrespective of luxurious products, but it takes time. price, or price is less of an issue. The supply side, if there was an absolute limit on emissions on a fleet of Q61 Mr Weir: We hear a lot about this but looking vehicles that had to be met by a manufacturer that at advertising generally you concede that all would be of particular concern to any particular manufacturers are still launching new luxury company that only supplied larger vehicles which vehicles, new SUVs as part of the process of keeping tend to have larger engines. a business going, and I appreciate that. You talked earlier about the luxury brands, the Jaguars are Q66 Mr Weir: The Government is very keen that a successful because they are moving up market and focus on green technologies is the best way to their base level price which people will pay because support UK manufacturing. Has there been a spur they want that car. Is it a problem for a specialist towards innovation in the industry resulting from manufacturer or is it a problem perhaps for a more increased public and government in environmental general manufacturer of some luxury brands and issues. It seems to be that the Japanese, Toyota, some mass market brands, and is there a real Honda in the lead with hybrid technologies problem in the mass production brands? certainly, but Ford has been investing in fuel saving Professor Cooke: To be honest I think it is a problem hydrogen technology. Is this following on R&D for everybody because of the investment that you development within the UK? I believe the Japanese have to make in it and the time that it takes to are certainly doing it in Japan rather than here, I develop and to introduce those changes. think. Professor Cooke: The Japanese are certainly leading Q62 Mr Weir: You mentioned earlier the time limits in it at this stage. To be honest I am not so au fait and obviously the European Union’s proposed limit with who are the leaders in terms of the players. on vehicle carbon dioxide emissions will have an Certainly all the manufacturers are addressing it and Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

Business, Enterprise and Regulatory Reform Committee: Evidence Ev 13

11 December 2007 Professor Peter NC Cooke KPMG and Mr Eric Wallbank spending very, very large sums on it, but the Q70 Mr Bailey: It is self-evident that you would not Japanese happen to be the leaders at present. I have be here today if this was not an incredibly important no doubt that Europe will catch up quite quickly. issue for the Government. What do you think is the Mr Wallbank: I would add to that. I think the most eVective role for Government during the sale of Japanese are leaders in one particular technology companies like Jaguar and Land Rover? which is hybrid technology. There is no certainty Mr Wallbank: It is an interesting question because that that is the best solution to environmental this is the sale by one overseas corporation of a UK concerns. Indeed, there is a lot of evidence to suggest subsidiary that is probably going to be sold to that it is not necessarily the best answer and I think another overseas corporation. So it is interesting in what the manufacturers would wish to see is a drive that sense; it is not a UK-owned company being towards initiatives and legislation that is bought by an overseas company. It is a change of independent of the technology that is used. For ownership from one overseas owner to another. I example, a modern diesel, as maybe the subject of would have thought that, quite rightly, Government innovation by companies within the UK, can be should be seeking assurances both from the vendor more environmentally friendly than a hybrid vehicle, and the buyer as strongly as it could about the future but again we seem obsessed by the hybrids. continuation of activities and investment into the UK. The extent to which the new buyer would guarantee anything in terms of investment or future Q67 Mr Weir: So you are not in danger of getting to employment levels is a separate question, but I the VCR-Beta debate here that hybrid is a word that would have thought that quite rightly it should be a is in the league within the market and the more cars subject that should exercise parliament and should there are in the market with that the more likely that exercise people in having conversations with the is to become the dominant technology. potential buyers. Mr Wallbank: I do not know the precise data but if Professor Cooke: And looking to establish you look at the percentage of the UK market that is immediate good relations with the final buyer. I taken by hybrid vehicles it is a very small number. I think that is important. do not know what it is but it is a few percentage Mr Wallbank: Yes, whoever they may be. points.

Q71 Mr Bailey: You could envisage a scenario where Q68 Mr Weir: An awful lot more than a lot of the over intrusive exercise of government involvement other technologies. could actually deter a potential buyer and positive Mr Wallbank: Modern diesels take more than 40% outcome? of the market. Professor Cooke: Yes, I think so. I think it has to be a matter of mutual trust between Government and Q69 Chairman: Can I ask whether you think you between the new buyer because Ford is an share Ford’s concern expressed to us that the independent company, it wishes to sell part of its proliferation of taxation regimes across Europe— operations, and it is almost up to Government to and even within the United Kingdom, the diVerent be—dare I use the phrase?—friendly towards the parking charge regimes and so on, congestion charge new buyer, to oVer help, to see how it can help that regimes—are making it absolutely impossible for the new buyer to develop its UK activities. industry to approach this in a coherent way because it has such a fragmented policy environment in Q72 Mr Bailey: What do you think the Government which it is operating? could do to oVer help to any potential buyer? Professor Cooke: I think there are a number of Professor Cooke: The first thing I would say would diVerent issues there. Across Europe we have V be not to be too intrusive. A new buyer is going to di erent stages of development in terms of markets have a lot of things to deal with in terms of acquiring and looking at Central and Eastern Europe they are that company. Perhaps work with them in terms of in the situation that we were in in the UK maybe 15, not making too many short-term demands on them; 20 years ago. So I think one has those sorts of let the new buyer shake down its acquisition. I am changes that one needs to look at the situation. As V not going to dig a hole for myself! Eric said just now, a proliferation of di erent Mr Wallbank: I have nothing to add to that. things—people trying out diVerent thoughts, diVerent ideas. Are we going to come to a policy across Europe in terms of parking charges? No, I Q73 Chairman: So the suggestion from Unite, the have my doubts because diVerent countries, diVerent Union, the Government should take an equity share cities have been built in diVerent ways and, dare I say at the time of the transfer is not one, I presume, that it, the politicians in diVerent countries have diVerent you would embrace warmly. They say that that attitudes to it and whilst a single policy would be would protect money put in by the taxpayer over the wonderful, a single policy would probably be right years for various reasons, for the two companies. for a number of countries but not right in other That is not a suggestion that you would embrace situations. warmly? Chairman: Adrian Bailey has one very important Mr Wallbank: It is not a question of whether I question, which is the most important question of embrace it, it is a question of whether the new the session, in my view. owners would also welcome that. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

Ev 14 Business, Enterprise and Regulatory Reform Committee: Evidence

11 December 2007 Professor Peter NC Cooke KPMG and Mr Eric Wallbank

Q74 Chairman: It is oVering the equity share, is it Mr Wallbank: I would say that congestion charges not? should be based on the emissions of the vehicle. Mr Wallbank: In terms of protecting government Professor Cooke: It goes back to what I was saying monies that have been provided to the companies, I just now, in terms of manufacturers looking at their would have thought that there were some guarantees vehicles to downsize them, looking to downsize the that went with that in terms of whatever monies were overall size of the vehicle, increase the luxury, provided were to sustain employment in some way. decrease the emissions from those vehicles. Those things are happening. How quickly are we going to introduce even further congestion charges? Yes, the Q75 Mr Clapham: The question of an equity share, industry inevitably is going to react against do you think that there is any chance of that congestion charges because it is another cost, it is anchoring down Land Rover and Jaguar here, even another indirect tax. with an Indian buyer? Professor Cooke: It is not my field but personally I Q78 Mr Binley: So an incentive not tax? V wonder over time just how e ective that would be Professor Cooke: I see congestion charging as being because it is a company which would be part of a tax, yes. another global company. How much can you tell a Mr Wallbank: I think what currently irritates some global company what it is going to do, I think is what manufacturers about the current congestion charge it comes down to. That is what the equity share in London is that it preferentially supports one would be about, or the golden share or however one technology. looks at it. Mr Clapham: We did see a golden share exercise of Q79 Mr Binley: Hybrids. course in Volkswagen right up until recent times. Mr Wallbank: Hybrids in particular. And so we get the slightly ironic situation where we get SUV4x4 Q76 Chairman: You cannot put a golden share back hybrids, which are not particularly environmentally in where there is not one now, that is the trouble. friendly, which are exempt from congestion charge Professor Cooke: With a minority stake you have a but the modern high performance diesel is subject to stake but you do not have control of the company, the charge. So any move that made any congestion so the decisions made by the company would still be charging technology agnostic I think would be largely made I suspect as otherwise if there is a broadly supported by the manufacturers. Chairman: We could explore that for ages but it is minority stake, and it would not necessarily mean V that the right decisions were made in the best getting a bit o the remit of protecting higher value- commercial interests of the company. added economy and we must not do that. Gentlemen, it is time to call the session to a conclusion. We have found it a very useful Q77 Mr Binley: I want you to dig a hole, I really do. introduction, both to the specific example of Ford Congestion charges are now being based, or will be and also more generally into the inquiry we are doing based on the size of the vehicle and that can spread into higher value-added economy in the UK. We are from London, and Manchester is now interested in very grateful to you indeed. This is the last meeting congestion charges and I guess that any local of the Committee before Christmas. Our next government that is short of money—and that is most meeting will be with Lord Jones of Birmingham on of them—could well see it as a revenue generator. Do 8 January, which we are all looking forward to you think that that is good for the car industry, again—I know he enjoys coming before this particularly the premium car industry, or bad? Committee. I wish you all a very happy Christmas. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

Business, Enterprise and Regulatory Reform Committee: Evidence Ev 15

Thursday 21 February 2008

Members present:

Peter LuV, in the Chair

Mr Adrian Bailey Mr Mike Weir Mr Michael Clapham Mr Anthony Wright Mr Lindsay Hoyle

Witnesses: Sir John Rose, Chief Executive, Mr Charles Blundell, Head of Public AVairs, and Mr Mike Terrett, Chief Operating OYcer, Rolls-Royce Group plc, gave evidence.

Q79 Chairman: Gentlemen, welcome to this economies, particularly say India and China. What evidence session, the second session of the is Britain’s correct reaction to that development? I Committee’s inquiry into creating a higher value- do not want to lead you too much. added economy. As I was saying to Sir John just Sir John Rose: I think you have to see these new before the session began, you are actually one of the economies as both an opportunity and a challenge, reasons we are doing this inquiry because I have been as with all the countries with which we deal, and it reading your comments on this subject for some is not just the emerging economies that we have to years now. I am particularly grateful to you for consider. We have to recognise what our competitive making time in a very busy schedule for coming to strengths and disadvantages are. We need to look at talk to us. We would like to talk to you today that in the context of . . . It is a very general question. obviously about Rolls-Royce and the decisions it is Let me step back. We will only access these markets taking but also set them in a more general context if we have something that they value and they think about UK manufacturing in the broader is world class. They also aspire to do the things that perspective. As we always do before we begin, we do. They are actively setting out their stall to be having thanked you for coming in, can I ask you to competitors across a whole range of activities and introduce yourself and your colleagues for the technologies. That has always been the case. Most of record? the countries with whom we compete have a few of Sir John Rose: I am Sir John Rose and I am Chief the sort of economic structure they want and they Executive of Rolls-Royce. On my left is Mike make decisions based on that view, so whether it is Terrett, who is our Chief Operating OYcer.Onmy the United States or Canada or Germany or India or right is Charles Blundell, who is our Director of China or Singapore or Russia or Brazil, they have an Public AVairs. economic agenda for their country which they actively support as governments and try and create an environment that allows them to be competitive. Q80 Chairman: Can I invite you perhaps first of all, We will be attractive to them either as providers of before we go into Rolls-Royce specifically, to give technology or of products if we are perceived to be your perspective on how you see Britain’s future in world-class. The challenge for us is to recognise what the globalised economy, particularly with respect to world-class is in that context and that has essentially manufacturing, what our prospects actually are? been the thesis that I have been focusing on for a Y Sir John Rose: I think it is very di cult to put that decade now, I suppose. into a very narrow context. Speaking for Rolls- Royce, I think our prospects are very good. As you have seen in the last decade or so, our ability to Q82 Chairman: British business is aware of that access the global markets that are now available to challenge, I think. Do you think the wider us, and there has been a huge change in the population of the United Kingdom properly geographic spread of our activity over the last ten or understand the challenges we face? 15 years as the world has opened up, has been Sir John Rose: I think it is clear that the population demonstrated with growth in the order book and the is understanding is going to be defined by the sort of range of customers that we now have geographically. language that government and others use and, as I We are advantaged by the fact that we have as our have said in the past, if we use a language that tends technological base technologies and products that to define the country in terms of being a post- are not widely available and therefore we access a lot industrial service economy which has somehow of these countries because they do not have a created some new paradigm for economic success, domestic competitor. So we are a high value-added then that is what the population will believe. I am industrial company, we are a very high barrier to not sure I believe it, and I think that it is harmful that entry and we provide a product that creates a lot of we have consistently taken that approach. It is not value. consistent with the approach that is taken by most of the countries that we see as our potential competitors, so I am not sure among the BRIC Q81 Chairman: That does not say much about the countries you talked about that you will find any of broader competitive environment though. Give me them talking about being post-industrial countries. your perspective on that, particularly perhaps what They will be talking about being high value-added you make of the development of the emerging BRIC manufacturing countries because they see that as Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

Ev 16 Business, Enterprise and Regulatory Reform Committee: Evidence

21 February 2008 Rolls-Royce Group being the best economic way forward for them, so products is greater as a consequence. If you go back they will play to their strengths. They will not all to 1995, we had 20,000-odd engines in service; we have the same objectives in detail but, if you go and now have 54,000 engines in service. It is therefore talk to governments in China or India or Brazil or unsurprising that our service component of our Russia or Singapore or Vietnam, you will find that revenues grows. You asked a question about R&T. they are articulating a vision of their economy of Our R&T has continued to grow. We spend more which high value-added manufacturing is a now than we ever did in absolute terms and it is more significant part. widely spread geographically. We do it globally because we try and access the most eYcient place for Q83 Chairman: The United States? doing that research and technology work. Sir John Rose: I was talking about the BRICs, the United States, Canada—the list is very long. Q86 Chairman: We will ask you some more questions in detail later on. Before I hand over to my Q84 Chairman: Exactly. Let us move slightly more colleague, can I just ask you what is the definition of into Rolls-Royce because you have given me the cue manufacturing in the modern economy? Some there with your reference to post-industrial people have suggested to me that if a company is paradigms and service sector economies. 53% of based in the UK, designs its products here, services your revenues now come from after-market services them here, markets them from here, organises the and I was very struck with something the CBI told logistics from here but actually they are all made us last year; I quote: “Production itself is becoming somewhere else, it is still a manufacturing company, less important as a defining factor for manufacturing a British manufacturing company, in spite of the fact companies, many instead opting to focus on R&D or that virtually nothing is made here. Would you go service provision.” What has happened to R&D in along with that definition? Do you think it actually Rolls-Royce’s operating environment over the last has to be made here too? ten years in this respect? How has your business Sir John Rose: If it is going to be important to the changed? economy, you have to look where the value is added Sir John Rose: There again, that is a multi-faceted and therefore I am sure you can define question. Let me start by explaining services. What manufacturing in those terms and, clearly, a we do is service our product because we own the successful global business needs to have brand intellectual property and therefore we are best placed technology and route to market and clearly you can to add value to the customer, and our ability to do do that without necessarily doing the actual that is dependent on our ability to design and manufacturing in the UK. You could do your manufacture. We are providing engineered research here and get everything made oVshore. solutions, so “services” is a useful descriptor of that Whether that is the right answer for the UK in that part of our business in the sense that we are that would create, if it is a high-value activity, a lot providing services that are ancillary to and post the of the high value-added activity in a diVerent original equipment sale. The services are geography and therefore the benefit here would be fundamentally enabled by the fact that we do the some employment and some remittance of the research and technology in the first place, that we profits. Whether that is the right answer for the UK develop the product, that we certify it, that we I rather doubt. There is no reason to assume that we understand its operation in service, that we have the cannot do high value-added manufacturing in the skills and capability to monitor it, that we can view UK. There is a lot of reason to assume that we the use of our product across geographies and cannot do low value-added manufacturing in the applications, and that we can therefore act with the UK and we should not aspire to do it. customer in a way that improves their business and improves the operation of our product in service, Q87 Mr Clapham: Sir John, you said a little earlier which is very meaningful to them, because for most that one of the developments that had influenced of our customers our product has a significant Rolls-Royce was the fact that, as you become impact on the success or otherwise of their business. globalised, you are looking at countries that have an It is not that we are going around and saying we economic agenda that is competitive. Would it be happen to understand the civil market or the defence true to say that that has been the most influential market or the energy market and we can do some factor on the way in which Rolls-Royce’s service things because of that; it is fundamentally to performance has developed over recent years? do with the fact that we own the intellectual property Sir John Rose: We have certainly had an opportunity and the relationship with the customer. to change the footprint of the company over the last 20 years as we have become more successful. If you Q85 Chairman: How has that changed over ten or go back to when we were floated, we were a 20 years? substantially UK-based company and probably a Sir John Rose: It has not changed, frankly, as a third of our revenue came from the UK, but business model at all. All that has changed is the certainly most of R&T work, R&D work, our quantum, and the reason that has changed is that we product development, our people, our have invested heavily in new product, we have manufacturing and indeed our supply chain was gained market share, the volume of products that we UK-based. Over time, as we have expanded our have in operation is greater and therefore the portfolio and had increasing success in global revenues associated with the operation of those markets, we have had the opportunity to access Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

Business, Enterprise and Regulatory Reform Committee: Evidence Ev 17

21 February 2008 Rolls-Royce Group other jurisdictions for R&T, R&D, manufacturing decisions with a recognition of a long-term trend. So and supply chain. That is a rational thing to do. We it is not the absolute volatility. The fact is that we are are a global business now; 90% of our revenue comes an industry where a large part of the revenue is in from places other than the UK, 50% of our product dollars and therefore having a mismatch with your is developed outside the UK, close to 50% of R&T is cost base and your revenue base adds an element of done outside the UK. Some of that is a natural risk to the business that does not necessarily exist for consequence of being global; some of it is a our competitors and therefore you have to take steps consequence of finding places that are simply more to try and neutralise that. You can do that partly by competitive—they have a diVerent attitude to changing your cost base, partly by hedging and manufacturing, they have a diVerent attitude to our partly by ensuring that, through investment and industry, they have a diVerent attitude to R&T productivity, you put yourself in the best possible funding and that makes them attractive places to be position to deal with that volatility. We use a in their own right. So we are not going there because combination of all three. You will have seen that we we think that we will get peculiarly good market made a recent decision to site an assembly and test access in that geography; we are going there because facility in the US but we also made a decision to site we think we can access skills and funding in a way an assembly and test facility in Singapore. Singapore that is not available necessarily in the UK. is not a dollar economy though it does peg itself against a basket of currencies but what it is is Q88 Mr Clapham: Coming back to the Chairman’s extremely productive, and that and a range of other question on manufacturing, given the globalisation factors meant that we felt that it was a good location of a company like Rolls-Royce, is it your view that, for that facility, even though it was not dollar-based. in that very changed situation, the kind of links that have anchored a company like Rolls-Royce in the Q90 Mr Clapham: Given the choices, given the UK are broken and therefore the linkage could be challenges, given the opportunities and the fact that elsewhere in the world? For example, we tend to see Rolls-Royce is now expanding overseas, is Rolls- R&D in manufacturing as being one of the anchors Royce gravitating to any particular region? For that links a particular company to that location but, example, where could Rolls-Royce now build an given the changes that you have described, do you engine from design through to its actual think that the linkage of a company like Rolls-Royce manufacture? to the UK is completely broken and that Rolls- Sir John Rose: We can do that in three places now. Royce could well find its location based elsewhere? We can do it in the US, we can do it in the UK and Sir John Rose: Clearly, it could but the issue for me we can do it in Germany. is not as you articulate it. There is a strong link to the UK. It is still the single biggest location of people Q91 Mr Clapham: Given that Germany has perhaps and R&D activity and product development in the a stronger manufacturing base, could it be that world, and that is likely to persist. Indeed, we Rolls-Royce is gravitating towards Germany? disproportionately spent our capital over the last Sir John Rose: We have, I think, about 2,500 full- five years in the UK relative to the geographic time employees in Germany. It is one of the centres balance of the business. I think there is a strong for our small engine activity. We split that between disposition for a company that has historically the US and Germany. We have 20,000 people in the always been located in the UK to remain located in UK. The UK is the centre for our large engine the UK. However, I think the key is that a business business. We do not do large engine development in such as ours has choice and we have to exercise any other geography but we will be doing large choice in the best interests of the company and the engine assembly in Singapore. If I am understanding employees and the shareholders and, if the UK is a the nature of your question, which is about less attractive choice on individual decisions, gravitation, is the centre of gravity likely to be in progressively those choices will end up defining the Germany? Probably not. Is it going to be less clear shape of the business. So the shape of the business where the centre of gravity is over time? Probably. today is a consequence of choices made ten, 15 years You are likely over time, given globalisation, for it to ago, and five years ago, and the shape in the future be less obvious where your centre is. That is going to will be defined by the next set of choices and be the nature of global companies, and we are more therefore ensuring that the UK recognises who the V global than most today. If you look at where our competition is and what is di erent about them and revenues come from, we satisfy all the normal why they might represent good choices for Rolls- criteria of a global company, more so than many Royce is really important. companies that are perceived to be global. We are much more global, for instance, than a GE in terms Q89 Mr Clapham: In actually evaluating those of the normal definitions. One of the strengths of the choices, what role do the respective values of business will be whether or not we learn how to be a diVering currencies have? For example, has the weak very eVective global company. How do you manage dollar had an impact on your strategic thinking? yourself as a global company? How do you continue Sir John Rose: We are a very long-term business and to behave in the same way as you did when the whole we tend not to make decisions solely on the basis of of the management was on one corridor when the short periods of currency strength or weakness. management is dispersed around the world? That Currencies over time are reasonably volatile, which will actually be the diVerentiating skill if you can is one of the reasons we hedge, and we try to take achieve it. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

Ev 18 Business, Enterprise and Regulatory Reform Committee: Evidence

21 February 2008 Rolls-Royce Group

Chairman: Some of the implications of that change and professions shrinks because we do not have the Mr Hoyle would like to explore. hinterland, the cluster, that is developing those skills and therefore when we want to go and find them, Q92 Mr Hoyle: Obviously, if we can just talk about they are not there. some of the announcement of redundancies: 2,300 jobs to go worldwide obviously has a major Q94 Mr Hoyle: I am glad we can agree on that implication for Bootle. Is it the right time to be because it is that commitment I would just like to cutting jobs as you are on the up, things are really look at a bit more deeply. If I were to say to you that taking oV? Excuse the pun. the case for Bootle has been thoroughly looked at by Sir John Rose: I think that as you grow it is really Rolls-Royce, there has been very good evidence important that you do that in an eYcient way. from the union but what about if we were to say that Growing ineYciently is very expensive. There are something has been overlooked? Would you two elements you raised. One was the 2,300 jobs consider re-looking at it? worldwide. Let us put it in context. We recruited Sir John Rose: I think we have come to the end of about 2,500 people last year. We are continuing to the process. recruit graduates and apprentices and direct employees, i.e. people who are closely involved in the Q95 Mr Hoyle: But if there was something that was actual production and development of our product. significant, that would make a real diVerence, would What we are reducing is the number of people in the Rolls-Royce keep their eyes closed and go deaf on overhead, so we are trying to sustain the productivity the public of Bootle? If we were to say there was improvements that we have talked about and we something, would it be possible to say “Yes, we will have been achieving over the last decade. We have look at it”? probably been achieving improvements of roughly Sir John Rose: I think it would be absolutely absurd 7% a year for over a decade and the rebalancing of for us not to consider a material fact. However— the business between overhead and directs will continue to allow us to sustain that productivity Q96 Mr Hoyle: Can I then push it a little bit further improvement as we grow, and it is really important forward. I am pleased to hear that. I think that that we do that, otherwise we cannot aVordtogrow. something did not come out, that I have been told So I think it is the sensible thing for us to be doing about since our meeting, that you were oVered a new as we grow and it is enabled by the very large site in Liverpool, that if you were to close the investments we have made in IT and capital over the American site, that would be new work coming into past years. If you look at what we have spent on Liverpool on a brand new facility with capability of capital, IT, training, R&D, and R&T over the last single site manufacturing, with actually the decade, we have spent about £11 billion, and part of attraction of full grant because it will be the transfer the pay-oV for that is that you are able to do things of work into the UK. That will give you not only an more eYciently. In the specific case of Bootle—and added advantage but it would also give you a brand we are pleased to say that we have reached new facility in which to go forward. It would be part agreement with the workforce now on the way of that commitment that could be re-looked at. I do forward towards closure—we did a very careful not believe it would take a long time; I believe it evaluation of whether or not it was appropriate to could be something that can be done very quickly sustain that facility, and the conclusion was that it but the RDA feel that they were not listened to. I was not, because we have the capacity to achieve the have spoken to them. That commitment is there. output we need in a single site in the US because of They wish to do that and I just wish to see that this the investments we have made and the flexibility that very loyal workforce . . . A UK facility is actually we have there. As we know, capital equipment has available to be continued on that brand new facility, elements of lumpiness and the advantages of being just on the last point, and this huge plant that you are on one site with all the ancillary services located building is next door to the port and not inland in around it as opposed to in a satellite site were Mount Vernon. significant and it was the right thing for us to do for Sir John Rose: Can I just put it in perspective? the company as a whole. It is clearly a great disappointment for Bootle but the original rationale Q97 Mr Hoyle: Of course. for the site, which was established when that Sir John Rose: We have come to a conclusion. Your business was not owned by Rolls-Royce, was not arguments are interesting but do not recognise the powerful enough in today’s circumstances to justify fact, I think, that we also have a large number of it being kept open. loyal, committed employees in Mount Vernon.

Q93 Mr Hoyle: Would it be fair to say that Rolls- Q98 Mr Hoyle: Which do you value most? Royce, a UK name, is a global manufacturer but Sir John Rose: I have more in Mount Vernon with a with a commitment to the UK? far broader range of capabilities. It is a more capable Sir John Rose: Absolutely. The reason that I have site in terms of the total activity. It is the spent so much time making the case for headquarters of our energy business globally. If we manufacturing is that I think it is important for the were to have a competition for a new site for our UK and I think it is important for Rolls-Royce. One energy business, we would have to open it up to the of the disadvantages of a reduced manufacturing sites in the US, elsewhere in the world, as well as footprint in the UK is that your pipeline for skills Liverpool because we would have to see which is the Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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21 February 2008 Rolls-Royce Group best location for energy if we were prepared to do Sir John Rose: I am not sure that I agree with you. something as radical as changing from a very substantial site in Mount Vernon.I think that is what Q102 Mr Hoyle: I would not expect you to because you have to put in perspective. We are a global some of us are concerned. The North-West and business making global choices. We have a Liverpool, whatever we might think, deserves that predisposition, which is well evidenced by the money manufacturing chance. All I am saying is, why not that we have spent in the UK over the last decade— just give up some time to have a look at what is on in the last five years 80% of our capital has been oVer? spent in the UK, which is actually disproportionate Sir John Rose: We are going to go through the to the footprint of our business. I think our process, as we have agreed and as we have agreed commitment to the UK is unquestioned and you with the workforce, on closing Bootle. If at some have to put yourself, when thinking about issues like time in the future we look at a relocation of our this, into the shoes of a company that has a global energy business, I am sure that we will, as part of footprint and where we owe equal loyalty to all our that, look at the UK as well as other locations employees everywhere in the world. around the world to see which is the best site for the company.

Q99 Mr Hoyle: It is just that some are valued a little Q103 Mr Hoyle: Sir John, that is not very good, is it? bit more than others. You and I know that when you have apprentices that Sir John Rose: No. They are all valued in the same you are training at the moment, you have a highly way. skilled workforce, what you are saying is “We may come back some time in the future.” What you want is the skills, the apprenticeships that are in place to continue. That is not serious, is it, to pretend that at Q100 Mr Hoyle: We can all have a view and, quite some time in the future you can pick that up? It just rightly,you have your view and you would expect me does not happen. What I am saying is at the moment to have my view. My view is that British workers you have an opportunity. What you have in count for a little bit more. Allowing for that, with a Liverpool can replicate what goes on in Mount British company who have, quite rightly—and you Vernon because work has been interchanged have gone through it—a global footprint, that does between the two. It is a growing market. It is a not mean to say that you close the footprint in the strategic market and that is why I believe the UK. What I wonder is, if you have a commitment to Government should have a little bit more shareholders, surely it would be wrong of you not to involvement. This is talking about moving oil and look at the oVer that has been put on the table, that gas around the world and something so strategic has not been considered, that has not been should have a capability of manufacturing within evaluated, and I think it would be wrong for Rolls- the UK. Quite rightly, you replicate, as you say, Royce—and, as you say, you do not want to throw whether it is big engines, small engines, on diVerent a deaf ear and I would not like to think you ever sites in the world. Surely what we ought to be saying would, that there is just a chance. I do not believe it is we should replicate the energy market. If you will take a long time but I think it would be wrong cannot do it on a single site in the UK, what we of you not to just give that chance to the workers of ought to be doing is continuing with two sides and Liverpool, who are represented here today, that what we ought to be asking is why you cannot give commitment that has been loyal to you and will that little extra time. Whether it is a little bit longer continue to be loyal. All they are saying is just a little it does not matter but just to consider the fact that look at it just to give a further consideration to see you are willing to turn away from a brand new whether it is feasible. facility, turn away from grants that would help Sir John Rose: I think if we are going to talk about shareholders, because that is what drives you at the high-value added manufacturing, we need to end of the day. I cannot understand. You may be understand what the implications of that are. This willing to turn your back on the workforce but notion of “a little look” and “it won’t take very please do not turn your back on an actual new long” is perhaps part of the issue. These things are facility at the same time. not “little looks”. We have looked in the past at Sir John Rose: I am not sure that you fully whether or not it was appropriate to be in Mount understand what we do in Bootle. Vernon or in other locations. These are major decisions. They take a long time. The decision to site assembly in Virginia and Singapore took over a year. Q104 Mr Hoyle: I do understand. What I do not These are not trivial exercises. They are not trivial understand is, I was promised some figures as well. exercises for the company to evaluate and they are You lost £80 million and I still have not seen the not trivial exercises for the company to embark on. breakdown. I was promised those figures. They bring with them all sorts of risks in order to get Sir John Rose: Bootle is an assembly plant. Mount the benefits. Vernon has total capability. We have come to a conclusion on the right answer. It is perfectly feasible some time in the future, as our energy business develops, that we might consider other Q101 Mr Hoyle: If it takes a long time, a little bit opportunities, at which point we will consider the longer will not matter then, will it? UK along with all the other locations we have but, Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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21 February 2008 Rolls-Royce Group as we said at the beginning, we are here to establish and obviously the increase in the national wealth what the potential mechanisms are that allow the comes from those services but what I am really UK to continue to develop its high value-added concerned about is this. What is the business case for manufacturing capability and one of the reviving manufacturing? After all, you have always mechanisms is that we focus on the facts, I think, and given the view that there should be a resurgence in I think it would be helpful, if you do not mind, if we UK high value-added manufacturing. It just seems did focus on high value-added manufacturing. to me that you have gone in the opposite direction by looking elsewhere in the market and obviously Q105 Mr Hoyle: Yes, maybe in the UK. Can I as my turned your back on it. final question ask what message do you have for the Sir John Rose: I do not think I ever made the case Rolls-Royce workers in Liverpool? that we would be solely responsible for it. I think the Sir John Rose: We have had a very constructive case is made as well as I can make it in a speech I gave conversation with the workforce in Liverpool. We to Imperial last year. I think there are huge benefits are, as they are, disappointed at the outcome but it to having a significant component of manufacturing is the right outcome for the company and we are in any economy. The reasons are many. One of them grateful for their co-operation and support as we go is that financial services itself tends to concentrate forward through the closure. and the evidence of the imbalance in the economy is Chairman: I have let Mr Hoyle explore that issue in in a lot of aspects. It is evident in the diVerential some detail because it is a useful illustration of the growth in GDP in the South East versus the north. kind of dilemmas that are faced by companies like It is evident in the sorts of skills and local yours in a high-value added manufacturing characteristics that exist where there is environment. Thank you for your answers to that. manufacturing. I made the point in the speech that in Derby, where there is a significant high-value added manufacturing presence, firstly, you have the highest Q106 Mr Clapham: Just a very quick question before exports per head anywhere in the UK; we have the we leave Bootle. I understand that the trade unions highest number of skilled jobs; you get a larger put forward an alternative economic case. Did the proportion than other local cities in children getting company look at that in a serious way and five GCSEs or better; 20% of the population is at consider it? degree level; we have the highest level of high-value, Sir John Rose: We looked at it in a very serious way. high-technology jobs of any city in the country, The business case did not close and people make nearly twice Aldershot and more than twice arguments about the quantum of the diVerential but Cambridge. Financial services are not going to the truth is we make decisions like this all the time. provide that to Derby but manufacturing does. If you took a series of sub-optimal decisions, in Manufacturing also appeals to intelligent people aggregate they become very large numbers. We are who do not want to do other sorts of jobs, so it has always being given the argument, and I think it is a significant impact in terms of distributing wealth as reasonable to make it on a case-by-case basis, that it well as creating it. It distributes it geographically is only a certain amount of money that is the very eVectively because it does not necessarily diVerence but the reality is, if we made every diYcult concentrate in the same way but if you are below a decision on that basis, we would make no money. So critical mass, you lose the collateral benefits we have come to the conclusion in what we consider associated with having other high value-added to be the best interests of the company and the larger manufacturing around and, as a consequence, we are number of employees and the shareholders, and we finding that if you are recruiting in mid-career, for think it is the right thing to do. instance, we have to go wider and wider afield to get Chairman: We must move on. the sorts of skills that we think are going to add value Mr Hoyle: There is a big contradiction, I think, to us. You tend to have to go to nations where there Chairman. is a strong manufacturing presence, and that could Chairman: I did not hear any contradiction. We be America or Germany or France or Singapore, or must move on to the broader issues we want to talk other countries where there is a significant about manufacturing. We have a slightly diYcult commitment to manufacturing and where there is an challenge here because all the issues overlap. We explicit government commitment to manufacturing particularly want to come to research and representing a larger part of their economy. In development and research and technology a little Singapore they will say they think high value-added later on. As Mr Wright asks his questions, perhaps manufacturing ought to be a quarter of the economy you could try and remember we want to deal with R&D a little later on in more detail. and they believe that manufacturing drives half the service jobs—it is closer to 30% in Germany—and the consequence of that is that you have a significant Q107 Mr Wright: This is a continuation from the infrastructure that is supportive of manufacturing. previous discussion because I have some concerns, It is easier to be a manufacturer there. obviously, over the question of manufacturing. I come from an area which, when I started as an engineering apprentice, had thousands of Q108 Mr Wright: Is it not the case, even if you are manufacturing jobs and now probably has 3,500 to talking about 2,000 jobs in a company of your size, 4,000 manufacturing jobs. As a skilled engineer, for an area such as Bootle to lose that amount of jobs obviously that causes me concern. 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21 February 2008 Rolls-Royce Group well concentrate in Derby. It causes a knock-on the whole we pay 130% or 140% of the local average eVect for years ahead when a company like yours— and therefore people aspire to having those jobs. If and you just mentioned the fact that you may well they are not there, they do not aspire to them or if look in the future some time at probably coming there is a culture that says, “This doesn’t matter. This back if a particular sector of yours takes oV. What is yesterday’s job. We are a post-industrial nation”, would you look at then in terms of the attraction of people will aspire to do things that are defined as the UK for you to come back to the area? One of the being the jobs of the future. I think it is a multiplicity areas I would suggest you would look at is the skills of factors. If you are in a country where base in a particular area. manufacturing represents a bigger proportion of the Sir John Rose: Absolutely. That is clearly part of the workforce, you get a richer seam of skills and case. I think that is the point I am making. Let us just capabilities. get the facts correct: it is 200 jobs in Bootle, it is 2,300 jobs globally, of which a proportion would be in the UK. They are two diVerent numbers, and we Q110 Mr Wright: Do you think the Government’s approach to addressing the skills shortage is having recruited 2,500 last year. Of course, the point I am V making is that there will be a number of factors that a positive e ect? influence our decisions about where we are. Firstly, Sir John Rose: I think there are some very good do we understand what the country wants? Have signs. However, I think there is still an under- they articulated eVectively their priorities? If they estimate of the demand side. You cannot train have, that makes it very easy for us to make people for a vacuum, so aspiring to have more decisions. Either their priorities fit ours or they do apprentices is a good thing. The truth is that not. When I go to Singapore or to the US or to apprentices typically come from five or six miles Germany, I know what their objectives are and we away from the location of the job because they live can see whether they fit ours. Secondly, the point I at home, young people, on the whole. We recruit a was making was that in choosing locations, you look lot of apprentices. They come from local to our for a hinterland of manufacturing because that is facilities and we have a huge retention rate. We going to be your feedstock of people and skills, and create a skills set that is relevant to high value-added whether there is manufacturing there or not will manufacturing and a large number of our aVect the sort of educational output you get. So apprentices, having been stimulated by the there are ways of qualitatively evaluating whether or combination of an interesting job and the not this is going to be a good place for us to do opportunity that better qualifications represent, go business, and it is important therefore that the UK on to higher levels of qualification, sometimes to is equally as transparent about its objectives and its degree level, and that is a good thing. The notion commitment as other places. I can give you many that we should have more apprenticeships is a good illustrations of the distinctive diVerences between thing but you have to have somewhere for them to some of the countries where we have chosen to put be. There was a former Minister in the Government our facilities and the UK. who went back to his old university in Birmingham and asked whether they were still doing the internships with industrial companies that they did Q109 Mr Wright: In terms of the skills base, when he was at university, and the Dean said “No.” obviously you have expressed concern, as many of us He said, “Why not?” He said, “Well, there is no have, about the decline in the skills base. What industry.” I think we have to be clear about the would you consider is the major reason behind the combination of the demand and supply. decline? Would you say it was the decline in manufacturing in the Eighties leading up to the Nineties and obviously the loss of the skills that were Q111 Mr Wright: What you are saying then is in required for then? How can you arrest that decline? areas of a very low manufacturing base or areas with Sir John Rose: I will refer you to an anecdote in the no manufacturing base, the Government is wasting speech. Boris Johnson wrote an article in the its resource on providing skills for the youngsters? Telegraph bemoaning the fact that there were not Sir John Rose: No, I am just saying that, for people any nuclear physicists being trained and I wrote him to want to do apprenticeships or for those a letter and said, “Dear Boris, it is really simple. If apprenticeships to be relevant, they have to be you are smart enough to be a nuclear physicist, you closely aligned with industry. Therefore it is likely to are smart enough to know there is not a nuclear be more eVective where industry exists. The fact that industry.” People respond to demand signals, people we have a smaller proportion of our economy in the education system. If you are a young person, involved in industry now means that there are fewer you are going to respond to the signals that you get opportunities. However, there are lots of from industry and from government about where the opportunities to rebuild, I think, a high-value opportunities are likely to lie. This is not just a manufacturing base around some of the new supply issue; this is a demand issue. The reason that opportunities that exist globally,but we have to want there is a diVerent make-up in Derby is that there are to do it and we have to focus on meeting those those sorts of jobs available and people aspire to opportunities, and that will mean some change in the them because on the whole they are very well paid prioritisation of how government spends its money and they provide longevity of employment. The to incentivise industry, whether it is UK industry or average length of service is close to 20 years in our international industries who see the opportunity in company. 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Q112 Mr Wright: Do you accept then, albeit the 200 is a reasonable probability that they believe that jobs, the closure of the factory in Bootle will have a there is a market opportunity, because they are knock-on eVect to discourage young people to go making an investment, and the corollary will be that into skills because they will not have that they will undertake the activity in the UK, whether manufacturing base in Bootle, which I know is the they are UK companies or companies from overseas. eVect it has had on my area? I would contrast some recent experience of ours. We Sir John Rose: I think it is bound to have an impact have been pursuing an important research locally but I do not think that Rolls-Royce can be programme in the UK, and it had an environmental held responsible for regenerating manufacturing. background to it; the essential approach was that we What we can do is try and help governments define defined the project and then we had to convince a their agenda so that it meets the priorities of number of diVerent agencies and RDAs of the value industry. of the proposition and get decisions from all of Chairman: That leads us very neatly on. I am going them—they all had slightly diVerent criteria—and to have to move on because we only have 20 minutes ultimately we reached a conclusion. It took a couple or so more of Sir John’s time and a lot of ground still of years. The other part of the anecdote is that in the to cover. Mike Weir’s question really flows very US, against a set of criteria that were set by the naturally from what you just said, Sir John. Government on the research programme, we could decide whether or not it mattered to us whether it Q113 Mr Weir: In October of last year it was was going to develop important technologies for us. reported that John Hutton and John Denham met We bid competitively against local US companies, with you to reassure Rolls-Royce that the GE, Pratt and Whitney, and Honeywell. The process Government remained committed to the aerospace took two months. We had a very clear idea of the sector. Did they succeed in doing so? outcome they wanted. They did not mind whether it Sir John Rose: There is certainly a high level of was a US company or a non-US company that won. engagement and we are seeing some evidence of They were clear, they got endorsement, as it were, of change, which is really good. It is really important the validity of their requirements because people that there is. One of the points that I made when we were prepared to put their own money into it met was that we had taken a lot of trouble as an because, whether we are providing 50% of the money industry and as a government through the or 100% of the money, it is still real money and we Aerospace Innovation and Growth team to define do not take a less good business case because we are some of things that were necessary in order to keep putting half the money in because our half is 100% the aerospace industry in the UK vigorous, and up of our money. There was just a profound diVerence to that point progress was not being made rapidly in the clarity and it is very important now we have enough towards the sorts of levels of support and had clear reassurance from John Denham and John engagement that had been envisaged by that report Hutton that they are keen to change the sorts of and that had been signed oV by both industry and timescales that are involved in this process and that government. is really encouraging because it is very important. Talking about the years is not helpful and we tend to Q114 Mr Weir: I will take that as a qualified “yes” be relatively slow, so the lack of clarity actually leads then. to slowness because you are having to go through an Sir John Rose: No. There are certainly positive signs iterative process of convincing each other that it is a but I think it is really important. Decisions are made very good thing, and we are seeing a similar lack of daily and they are made in the context of that day, pace at the moment with the ETI where that was and therefore you need evidence of change in order announced in 2006 and we are still waiting, we are to change the decision framework. making progress, but we still have not had the first funding from that mechanism. I think one of the key Q115 Mr Weir: In an earlier answer to Anthony things in developing a response to this is to Wright you said, I think referring to Germany in understand where we are good and where we are not particular, that a country needed clearly stated and where we need to change, and there is plenty of objectives. Do you feel that the UK has clearly evidence around. We can provide, and have stated objectives in relation, firstly, to aerospace and provided, the details of how these other countries generally to the manufacturing industry? approach things because we are there, we are in Sir John Rose: Not yet. Canada, we are in the US, we are in Germany, we are Mr Weir: What is your assessment of government in Singapore and, therefore, we can provide detail policy then towards manufacturing? What more do about how those things are diVerent. you think they need to do? Mr Blundell: Chairman, if I could perhaps add to Sir John’s reply, I think the important point is that there Q116 Mr Hoyle: New sites? has been some movement on the part of the Sir John Rose: As I said in the speech, I think we Government on this strategy issue. The new have got to not be frightened of having a strategy Technology Strategy Board has said that it is going and having a view of the outcomes that we want, and to develop a strategy for guiding future research and that would be helpful for industry because then we technology. That is very important because, as Sir can bid against that strategy. The reassurance for John says, when we go round the world and we Government will be that, if companies bid against it actually see some of the R&T programmes that are and are prepared to put their own money in it, there already in place, it is very noticeable that they are Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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21 February 2008 Rolls-Royce Group highly focused and highly specific. If I go to Canada, Q118 Mr Bailey: Perhaps I can just paraphrase a I will encounter something called the ‘Strategic couple of comments that you have made and then we Aerospace Defence Initiative’, if I go to the United will try and put them in context. First of all, you said, States, I will encounter DARPA, if I go to Germany, obviously correctly, that demand for skills is a pre- I will encounter something called ‘LUFO IV and V’. requisite for developing. You also said that in a All of these programmes are very clear, they are very global world there were plenty of opportunities to clearly focused and that makes it much easier for develop new technologies, and I am sorry if I have companies like Rolls-Royce because we can actually paraphrased that rather loosely. Really, how does develop our R&D programmes in the knowledge the UK compare with its major competitors as a that these multi-year programmes will be available business environment in which a company can for us to bid into, so I think this development on the undertake innovative work? TSB is a very important and a very welcome one. Sir John Rose: I think I am probably in danger of Sir John Rose: I would absolutely endorse that. Your going over ground we have already covered in question started with, “Has there been change?” Yes, answering that. I think there are areas where we are there has been change and it is positive. extremely good. However, I think there has been enough evidence today to say that there are areas where we have allowed ourselves to become quite Q117 Mr Weir: So, if I am picking it up correctly, uncompetitive and unfortunately the areas where we have allowed ourselves to be uncompetitive are in you would see the role of government of changing the areas of R&T and R&D support and procedures as the best way, if you like, to create a responsiveness. If decisions are made to conduct resurgence in the manufacturing industry? those activities in other countries, the inevitable Sir John Rose: I think it is more than changing consequence is that you will build capability and procedures. It is also having a clear idea about what supply chain around those decisions over time and their own priorities are so that we know where they they have a long-term and generational eVect, so I fit ours. Basically, there are issues of priorities, think we have probably covered in a sense your quantum, mechanisms and then pace and we have question earlier. There is the opportunity to focus got some way to go as a nation to reach the targets R&T priority around the industrial response to that the EU has for the proportion of our GDP that climate change and we have some of the industrial is spent on R&D, and we spend quite a lot of money capability to respond to that. Rolls-Royce is a highly in the UK, but within that I suspect we concentrate technical company with huge engineering and more than we should on the research side rather than technical assets, project management skills, the the application side. You know the equation: ability to deliver significant programmes and the innovation is invention plus application. If you only ability to understand the applicability or otherwise have the invention, you do not actually create the of technologies, and there will be other companies wealth, but you have to have the application and, if who have some of those skills in the UK. If you think that invention, perhaps one that is developed in the of the sort of industrial revolutions that have university system, gets commercialised by a non-UK occurred, we were around in the first one, we were company, the wealth will be created somewhere else. the genesis of it, but we, as a country, have not been I think there has been a disproportionate huge beneficiaries of the recent industrial concentration on the non-application part of the revolutions around electronics and systems and so R&D equation historically,so there needs to be some on, but there is no reason why we cannot be a prioritisation and rebalancing done within the larger significant beneficiary of the industrial response to amounts of money that (a) are being contemplated, climate change and we think there are significant but I hope (b) will be committed; I think it is really opportunities around that, but they are, on the important. People underestimate the challenge whole, of a scale and of a complexity where you are associated from taking innovation to market. If you going to need partnership between government and look at what we are doing with fuel cells, for industry in order to realise them. instance, if we get it to market in the timescales we are talking about, it will have been a 20-year journey. Q119 Mr Bailey: Yes, interesting, but the reason that These are non-trivial activities and they require a we were not covering them was because we thought huge range of skills, and the consequence of getting we were more time-constrained than we actually are, it right is that you create something that adds a lot so perhaps I can develop that. My next question was of value and has very high barriers to entry, but you going to be: do you think that the UK has been quick do need to recognise the challenges associated with enough in identifying potential there? You have it. Only a small number of these journeys that are obviously outlined the potential that you think started get to their end, so the role of government as Rolls-Royce has. In general, what do you think the being an enabler at the early stage by having a view Government should be doing to identify areas where about where they are prepared to put their money is companies, such as yourselves, can exploit these really important. emerging opportunities? Chairman: Inevitably, in that very interesting answer Sir John Rose: I think we have been at the forefront you have just given to Mike Weir, you have touched of understanding the importance of the issue. on some of the issues colleagues wanted to ask about later, so it is the clerks’ ingenuity and we can blame Q120 Chairman: For the sake of clarity, when you some of their questions, I think. say “we” there, you mean UK PLC? Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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Sir John Rose: Yes, the UK has been at the forefront Q122 Chairman: Before you answer that, I would of understanding the importance of the issue. I do just ask my supplementary. You said that you were not think we have been at the forefront of the behind compared with the US. We have some very industrial response. Gideon Rachman wrote an big and very successful international companies article in the FT recently suggesting that the US which could respond, so why are we behind the ought to do more, and actually I wrote a letter to curve, coming oV the back of Adrian’s question? him, saying, “Look, actually they are doing more Sir John Rose: The question was: is the Government than anybody else financially in trying to develop the behind the curve? The answer is yes. We are trying to responses to climate change”. They are doing it for seek access to those funding streams in those two reasons, one is climate change and the other is countries which are ahead of the curve, but, just to energy security. We are not yet very active in the UK read my letter to Gideon Rachman, “ . . . the US in the industrial responses to climate change other Department of Energy established the advanced than to buy in technologies from other countries, so research agency, ARPA-E”, and the remit of ARPA- I think there is an opportunity to do things that are E was “to rapidly develop ‘transformational clean based on competencies that exist in the UK. All energy technologies’ and it has a budget of $4.98 particular requirements we satisfy in the UK billion over five years. Elsewhere, the US Hydrogen perhaps more than in other countries, so we would Fuel Initiative has funding of around $1 billion over be right to focus on tidal, for instance, because the six years, while the state of California alone is UK is one of half a dozen places where there is a real spending $2.9 billion over ten years to support just opportunity to use tidal streams to generate solar projects.” So the scale of funding is significant electricity and we do have some of the competencies and, interestingly, one of the points I made in the to respond to that. I think that there are a number of letter is that we led Europe in alternative and things that we could do to build on the capabilities renewable energies in the 1970s. We do not now. that we have with companies like Rolls-Royce or Mr Blundell: If I can just add a brief coda to Sir Ove Arup or Halcrow, a whole range of companies John’s description of ARPA, there are two aspects to which really do have the technical expertise to realise those US programmes which I think are important some of these industrial solutions which are going to which I very much hope that the Committee would be big and complex, really diYcult, and the truth is look at in the course of their inquiry. If you look at that it is going to need a mixture of government, ARPA-E, which is the energy programme, the large companies with significant capability and practice in the US is to appoint entrepreneurial innovative SMEs because many of the skills will only managers to actually run those programmes for exist in the large companies. The SMEs may be very innovative, but they will have a limited ability to defined periods of time and they cannot stay for deliver because these will be challenging more than four to six years. The reason for that is programmes financially and technically.As I said, on that they want this programme to be run in an the fuel cells, we started the technology work in the aggressive and fast manner. The second issue comes 1980s and we have well over 200 engineers working back to something Sir John was saying earlier, that on it at the moment with a whole range of skills from 50% of the ARPA-E budget is devoted to being able to deal with clean-room ceramic processes demonstrator programmes. These are programmes through chemical engineers, through nuclear designed to pull technology and science through into physicists, through aerodynamicists and products that can be marketed successfully in the aerothermal engineers and so on. That range of skills marketplace, and I think there is a lesson there for simply does not exist in a smaller company that has the UK which I very much hope the Government not been able to pull those through on other projects, will follow. and we do have the ability to understand the risks Sir John Rose: Absolutely,and I think that is entirely and costs of industrialisation which is where many of consistent with the message that we have put to these opportunities fail. For us, it is pretty DBERR and to the MoD, that historically we have challenging, but there are real opportunities, I think, done more on demonstrators and demonstrators are if we focus on a number of areas that are relevant to really, really important in establishing whether answering the questions about climate change, for us technologies are going to be viable. Even when you to develop our high-value-added manufacturing have established they are viable, there is still a lot of around industrial solutions to climate change. time and cost associated with realising their potential in the market, and these long-cycle businesses do benefit significantly from early-stage involvement from government, as an enabler.

Q121 Mr Bailey: Can I just take you back. Earlier, Q123 Mr Bailey: Rolls-Royce has a history of you pointed to a number of examples in Canada, the working closely with universities through the US and Germany in the aerospace industry where university technology centres, and that is obviously government and industry had got together to focus current products or past products. How has your on potential innovative opportunities. Do you think relationship changed in the last ten years and, just there is a need for something comparable to take picking up the theme we have developed over place in this country over the climate change climate change technology, do you think there is a agenda? potential for the same linkages with universities in Sir John Rose: Absolutely. this particular area of developing technology? Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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21 February 2008 Rolls-Royce Group

Sir John Rose: To answer the second part first, yes, Sir John Rose: Hugely significantly diVerent. Net of there is. The objective of what we call our ‘university repayments under launch investment, we receive technology centres’ is to work on problems and almost no net benefit in the UK on R&T, single-digit opportunities, so it is not just on current products, it millions, when we are talking about hundreds of is also on what will be the areas of future value, and millions to individual companies in the US, so the we try and align ourselves with universities that are diVerence is very significant. What they will have is world-class in particular areas of technology. We an array of mechanisms, so in the US you will have work with Genoa, for instance, on fuel cells and we a range of mechanisms from the DARPA and have a university technology centre there, and we are ARPA-E, Department of Energy, DoD and so on working with Nanyang in Singapore on the and you will get tax credits and you will get manufacturing techniques particularly associated incentives associated with defence expenditure, so with fuel cell production, so we have a whole range there is a portfolio of mechanisms, some of which are of university technology centres which are a really like a tax credit, in a sense non-judgmental about important part of our activity. I think they started in what you are spending your money on, but saying, the early 1990s and we have 29 today, I think, 20 of “You’re spending money on R&T; it qualifies. It is a which are in the UK and, of the last nine, eight were qualifying sort of R&T and, therefore, you will be a outside the UK and one was in the UK. That is not beneficiary”, and some of it will be funding where a reflection on the UK; it is just that we have found companies need to bid against a specification that is opportunities to work with universities globally in defined by the DoE or DARPA or whoever and they Germany, the US, Singapore and elsewhere where will compete for access to that funding. there are particular areas of expertise which are relevant to us, so I think it is a very, very important Q126 Mr Weir: You mentioned DARPA which mechanism. It allows us to work with academia and V previously Mr Blundell also mentioned. Do you e ectively there are specialists who want to remain in think the UK would benefit from the existence of an the academic world whom we can get access to, it organisation such as DARPA? allows us to see research students and postdoctoral Sir John Rose: I think we would benefit from having students at work and they can see us and they can a view about the sorts of technology sets we would choose whether they join us or not, and it leverages like to have available in the UK. Whether DARPA our money and their money into areas which we is the right mechanism or not, I do not know, there think have commercial applicability or are going to are many diVerent alternatives, but it is certainly one solve particular problems that are specific, so I think of them. What distinguishes most of the countries it is a really good mechanism. There have been some that we deal with is that they will have national challenges recently with the costing mechanisms programmes of activity of one sort or another, so in which have possibly made it slightly less attractive in India they have nuclear programmes, defence the UK than it was and it is called, I think, ‘full programmes and aerospace programmes which are economic costing’ which is a requirement that the nationally driven, but against which they will get Treasury has put on the universities. We think it is private industry to invest. You will have seen really a very important mechanism for us and it is a announcements recently that Tata, for instance, is very helpful way of aligning the university activity collaborating now with a number of non-Indian with the market. companies to develop technologies which they believe are relevant to the aspirations of the Indian Q124 Mr Weir: Rolls-Royce, I understand, has Government, and they were being encouraged to do benefited by around £22 million since the that by the Indian Government and there will be introduction of the R&D tax credit. Can you tell us, funding available to enable them to develop has the tax credit made any diVerence to your capability. investment plans and is it an eVective policy tool in promoting innovation? Q127 Mr Weir: But is the important point of that the Sir John Rose: It is a helpful part of the armoury for strategic vision, if you like, or the funding that goes the UK because it incentivises those who spend on with it? What is the attraction for a company like R&D to continue to do so in the UK, so I think it yours? has been a benefit. By definition, what it is doing is Sir John Rose: Well, it is clearly both. We have our allowing the company to make the priority decision own strategic vision. The interest for us is where it about where it spends its money because it is in a aligns with the Government’s and, where the sense non-judgmental, so I think it is a good Government is clear, it is easier for us to work out mechanism. My point on R&D support in the UK is that alignment so that we know exactly what it is not that individual mechanisms are always good or that Singapore, Germany or the US are looking for bad, but the quantum relative to other jurisdictions and we can decide whether it is in our commercial is less and, even though we have seen a modest best interests or not and we will put our money increase in the last few years, relative to the sorts of behind it if it is. The lack of that clarity means that benefits that are provided to our competitors, it is it is really quite diYcult for us to work out whether very, very modest. we can align because essentially we are having to persuade an institution that does not have a view of Q125 Mr Weir: But how does it compare to the our view, and that is not as easy and it is very time- similar mechanisms in the other markets in which consuming. As I illustrated, the diVerence in you operate, in quantum terms? timescale between ADVENT and EEFI was tenfold Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

Ev 26 Business, Enterprise and Regulatory Reform Committee: Evidence

21 February 2008 Rolls-Royce Group and that is very hard work for us. It takes a lot of job losses within the supply chain, and you may not people a lot of time to try and work out when we are have that detail with you, but would it be possible to aligned and it would be better if we did not have to let the Committee know what audit you have done go through that process. Now, some steps were made and what eVect that will have on the supply chain to in the Defence Industrial Strategy and the Defence Bootle? I would not expect you to have the answer Technology Strategy in trying to get a greater now, but, if it could be sent to the Committee, that alignment or to make possible a greater alignment would be very useful. I think the final worry I have between what industry did and what the customer is that Liverpool is the City of Culture, but not wanted so that there was a greater transparency and manufacturing. that is a helpful process. Sir John Rose: In terms of the supply chain, remember that Bootle is essentially an assembler Q128 Mr Weir: But in a sense, does it not put and, therefore, there will be parts of the supply chain innovation on its head in that the Government or which will continue to supply wherever the product DARPA or whoever are saying what they want is assembled and there will be small areas of activity where local supply is important which will be rather than a company coming up with new V innovative ideas? a ected, so we will give you what we think is the Sir John Rose: I think that people have to come up likely impact. As I have said, I think the shape of with new innovative ideas to meet the criteria that what we have today is the function of the decision the Government is setting. We will be innovating in environment that has existed for a long time and I our response on ADVENT, but they can define the have said to successive governments that the outcomes they want. They are not saying, “This is industry, PLCs, need to make the decisions in the the solution we want”. The solution will be up to us environment they find themselves in, but we also and, by the way, they will be running two have an obligation to make clear the competitive alternatives. GE is working with us or not with us, positives and negatives that we find as a global but they were a joint winner as they chose two company, and we have very good insights into the companies, us and GE, and we will end up with way that other countries think and what we have V tried to do with successive governments is lay out di erent solutions almost certainly to the question V that is being posed, but we believe that we will get what we think the di erences are. I am encouraged value more broadly from the technologies that are that there are some signs, really meaningful signs, of developed in response to that request that we will be movement and I am by no means pessimistic. I think able to use elsewhere, and that is our judgment. You we retain some really important capabilities in the are sort of making, I think, a ‘picking winners’ point UK, but pace is really vital because decisions get which has been one of the things that has informed taken all the time and these decisions have the unwillingness to have a strategy historically. I generational impact, so, once you have made the think the way you insure yourself against picking decision, it is not easily reversible. However, we winners is by making sure that companies co-invest happen to have some really important assets and because we are not going to waste our money on what we have got to do is work out how we things that we do not think are useful; it is not in our collectively build on them. best interests or our shareholders’ or employees’ best interests. When we treat the 30% or the 50% of the Q130 Chairman: Mr Terrett is not seeming to funding we put in as 100%, we still need to get a contribute, so I will ask my final question and thank return on it and there was this perception that, if it you for what you have said today; it has been a very was 50-50 funding, we would somehow think it was interesting and a very informative session and you free. Well, it is not, it is just less and we take it very have said some very important things. We will be seriously, so the way to insure yourself against the going to the States later on this year and seeing ‘picking winners’ criticism is to have the companies DARPA and talking about the work they do, so competing put their own money against your there might be further information you want to give priorities and, if they do not want to do it, it us on these issues at any stage that we can embrace. I probably tells you something about your priorities. think the question that my friend Roger Berry would Chairman: We are just about there, Sir John. I am have asked if he had been here, but sadly he is trying very concerned that Mr Terrett has said nothing on to save post oYces in Bristol today, is that you have this section, but we have a couple of quick last been a typical industrialist and you have come here questions. and probably you privately want the Chancellor to Mr Hoyle: On Bootle! reduce corporate tax rates at the next Budget, you Chairman: Mr Hoyle promises a brief have complained about road tax, and yet you have supplementary question and I have one last question asked for more and more cash from the Government which is a brief question again and you might like to to solve your problems. Is that a consistent policy think in a moment when I ask this question whether and do you really need these large sums of there is anything else you would like to have said government money to compete in the global which you have not had a chance to say during the environment? session. Sir John Rose: I think the answer to your question is embedded in everything I have said today. Firstly, I Q129 Mr Hoyle: Sir John, we have touched on the do not know whether I come here as a typical job losses at Bootle, but the one thing I did not ask industrialist. Secondly, we actually have not talked you which is very important is that there are further about more and more money at all. What we have Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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21 February 2008 Rolls-Royce Group talked about is, firstly, meeting commitments that Sir John Rose: I think there is one area where we have already been established, ie, the R&D as a have not spent a lot of time, though we did talk proportion of GDP that was a commitment among about it, which is the impact, the sort of demand-side the EU nations where we still have some way to go, of education, and I do think that we underestimate and the second area that I talked about is the positive benefits associated with having a robust prioritisation of how that money is spent. We industrial activity that is well spread geographically, actually spend quite a lot of money today,but I think and I think I illustrated it a little bit in the statistics that we can do better in the way we allocate it. I think about Derby and the points I was making about the third thing I have talked about is pace and the apprentices. Simply, the interaction that we have fourth thing I have talked about is competitiveness. with schools and universities, not just as a recruiter, The issue for me is that, as a global company, we but actually just as a participant, whether it is have access to other national programmes and, through our UTCs or through the roles that we have therefore, the competitiveness issue is stark and, for with the school governors or things we do with me, does the UK want to engage in that activity? If schools, the provision of graduates to teach and so it wants to be in high value-added manufacturing, it on and so forth, I think that is underestimated and has to understand the competitive environment in in terms of having a mixed economy with a richer infrastructure has a profound impact. The statistics exactly the same way as a company has to on Derby are really powerful if you make understand the competitive environment. You can comparisons with other towns where you do not choose not to play, but then you cannot expect to have as broad a mix in the economy and it flows right rebuild high value-added manufacturing because the the way through, so I think there are some strong rational company will go to those places where the reasons why we should desire to have a more environment is more conducive to what they are balanced economy in the same way as, if you were a trying to do. We are in a globalised world and we company, you would want to have a broader cannot make choices based on history, we can only portfolio of activities because that insulates you make choices based on facts. against changes in demand and taste. In the speech, Mr Terrett: In the last five years we have received I said, “If you’re going to be a one-trick pony, you £128 million of R&T from the UK and in the same had better hang in there. You have the risks and you period we received £155 million of R&T from other have got to rely on people continuing to enjoy the countries. In the last five years, we have spent £1.3 trade”, and it is a balance point. Actually, we, as a billion on capital and over £1 billion of that was high value-added engineering company, demand spent in the UK. Those two things long-term seem actually the same sorts of academic output as high- inconsistent. value-added financial services, so, if we were strong in both, we would be much better oV as a country. Chairman: Well, I think that is a very good note on Q131 Chairman: That is very helpful. Sir John, I which to conclude. Can I emphasise that, if there is suspect your statement just then concludes the anything further you or your colleagues wish to say evidence you would like to give, but is there anything to us in writing or in further meetings, we would like else you would like to add or anything else as a quick to hear from you again, but we are extremely grateful summary of what you have been saying to us in the to you for a very interesting session. Thank you very last hour and a half or so? much indeed. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

Ev 28 Business, Enterprise and Regulatory Reform Committee: Evidence

Wednesday 2 April 2008

Members present:

Peter LuV, in the Chair

Mr Adrian Bailey Mr Mike Weir Miss Julie Kirkbride Mr Anthony Wright

Witness: Mr Richard Halkett, Executive Director, Policy and Research Unit, National Endowment for Science, Technology and the Arts (NESTA)

Q132 Chairman: Mr Halkett, welcome and may I Q135 Chairman: The point I was making is that we thank you for the organisation’s extremely thorough are not just talking about a product or a service written evidence, which we have all read. Would you which is done, presumably; it is also the packaging introduce yourself? in the fullest possible sense of that service or product Mr Halkett: My name is Richard Halkett. I am the and so branding and designing are very important Director of Policy and Research at NESTA, the factors in the debate about higher added value? National Endowment for Science, Technology and Mr Halkett: Absolutely, and when you look at the Arts. innovation on its own, it is not necessarily a very sustainable basis for competitive advantage. You need to have those complementary assets as well, Q133 Chairman: I read a very interesting article otherwise that could evaporate. written by your Chief Executive about a year ago in that excellent publication The New Statesman.I suppose NESTA’s perspective on this, your unique Q136 Chairman: Explain to us a bit more about what message, is that the debate about innovation and the innovation process is. We have higher value and higher values is a rather crowded marketplace and innovation but what do we mean by innovation? “do not forget the rest of the economy”. Is that a fair Some people think it is what you do in the science summary? lab; other people think it is what businesses do every day. What is your understanding of this very big Mr Halkett: I think that is right. One of the main word we all talk about so much? points of our research and the work of the practical Mr Halkett: I will paint two caricatures, visions. The areas of NESTA over the past couple of years has first bit is a definition. The ex-DTI came up with been in the area of what we call hidden innovation. what is a very attractive definition, which is called This is innovation that goes counted by traditional the successful exploitation of new ideas. That is a indicators. Traditionally, we think of innovation as good definition of innovation; it is probably the best focused on high-tech manufacturing, largely based one I have seen worldwide from a government. in universities and university spin-outs, but when There are a couple of modifications, I would say. you look at the structure of the economy, we are 76% First, I would question whether the word services and only 2.5% high-tech manufacturing, “successful” should be in there. Successful and so we really need to be thinking about the whole innovation is the successful exploitation of new economy. ideas, that is true, but innovation is the exploitation of new ideas—full stop. Sometimes it is successful Q134 Chairman: What do we mean by “high”? We and sometimes it is not. Recognition of the risk all agree that we want more high value-added involved in it, whether in the public or private sector, and managing that risk intelligently is absolutely services in the UK; it is a platitude, but what do we critical to understanding the innovation process. actually mean by it? I think your definition was: The second point, and this was made by DIUS in the “generate a large margin between the final price of a recent Innovation Nation White Paper, is to question good or service and the cost of the inputs used to the definition of the words “new”. Traditionally we produce it”. That is just the profitable items. What is have viewed this as “new to world”, so something it that gives the higher added value point meaning has to be completely novel, normally expressed in a and substance? patent or potentially a design mark or something Mr Halkett: It is related to the multiple between the like that. It could be “new to sector”. If you think inputs that you put into something and the value about something like low-cost airlines, very little of that comes out of it at the end. That can be direct in the innovation that is represented there was actually money value in terms of the price that can be new to the world. It is a combination of extensive charged, which could be above that which may be investments in ICT, marketing, standardisation of charged by other industries or other companies, maintenance, things like that, which have delivered maybe people or organisations from other countries, enormous value and are definitely recognised as or it can be in terms of the social value that it releases being innovative but certainly were not based on as well. It is in terms of that idea of a multiplier new to the world discoveries. With that as a eVect, the added value being through innovation or backdrop, the spectrum to paint is at one end this through brand or through strategic positioning, idea of the linear model of innovation where, yes, which gives you that added value. you have industrial laboratories like Bell labs Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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2 April 2008 NESTA historically or universities or public sector research Mr Halkett: We do not say that is necessarily a establishments, which engage in blue skies research, problem in itself. Certainly we look at the which may or may not produce break-throughs importance of science and research in the diVerent which are then important to the market 10, 15, 20 or sectors of the economy. If you do think of an 100 years later on, as we saw for instance with economy that is 76% services, then it is going to be miniaturised hard discs, as you see with lasers and quite diVerent to an economy that may be having a the CD player. That is characterised as the old vision much higher proportion of manufacturing or high- of innovation. That is not how innovation works. tech manufacturing in particular there in terms of Innovation is multi-directional. It is iterative as well; investment in the research base. Is it a sign of it involves interactions between end users and eYciency? I think that argument can certainly be researchers. It involves development, sometimes made. We do of course, though, benefit, particularly before research, sometimes research before if you look at research citations, which is one of the development. It involves many diVerent best examples of research standing in the world. We constituencies. Certainly, if you look at the growing write in English and that is a big step in terms of interest in what is called open innovation where you being able to be cited in that way. Certainly we have are working with multiple people inside and outside a high quality research base. Investment has the firm all the way through the innovation consistently gone up over the past decade but by process—companies like Procter & Gamble, Oracle international comparisons, we remain low. We and IBM are working extensively on this—it does particularly remain low on business expenditure, on not work like that. You then have a new paradigm of research and development which has consistently innovation. The idea of it is this flow of ideas about fallen, despite repeated eVorts over the past 10 or the fact that it does come from multiple sources; it 20 years. does include many more people than previously. It is a process rather than a single pipeline flow. Q140 Mr Bailey: I welcome your comment that scientists write in English. I must admit there have been occasions when I have not thought that! There Q137 Chairman: When did that new paradigm is a perception that this country is good at research emerge? but poor at innovation. How far do you think that Mr Halkett: It is interesting. When did it emerge in is true? policy? Probably globally about a couple of years Mr Halkett: Traditionally this is thought of because ago, between two and three years ago. In the UK the of our high research standing based on citations and Innovation White Paper recognises this explicitly and our relatively low patent production compared to it is probably the first major country’s innovation the rest of the world. Firstly, I dispute that that strategy that has done so. In research and in the defines innovation. I would say that if you wanted to academic community this was recognised in the look at research-based new to the world innovation, Seventies and Eighties as a concept. then those metrics become valid. I do not think that that is necessarily true. It has changed repeatedly in Q138 Chairman: It took 30 years for government to recent years. The Sainsbury Review did a very good catch up with the real world? job of recounting increases, particularly in university Mr Halkett: Roughly, although I always give licences. There has been a decrease in university government a little bit more of pass here in the sense spin-outs but, frankly, it could be argued that that is that researchers seem to be quite pleased to know it probably a good thing in terms of the competitive and keep it to themselves for a period of time advantage of universities, that increases in licences without telling anybody. Companies would say of and decline in spin-outs might be a good idea. In course that this is always how it has been, that the terms of research income that comes in from the previous caricatures which are simplifications based outside, that is all on an upwards trend. When you on the fact that innovation, in particular innovation are looking at innovation as a whole, where you are thinking about innovation in services, basing it on policy, grew out of science policy and that policy those metrics makes it too simplistic. I think that it finds it much more easy to think in terms of pipelines is wrong to think that is the character of the UK. and inputs and outputs than it does in terms of Mr Bailey: Picking up a couple of points, I am not systems and that therefore it was just the easiest clear why you say the increase in licences but a answer to a diYcult problem. reduction in spin-outs for universities is a good Chairman: We have conducted this inquiry to find thing. Secondly, could I add this? There is also a some outputs of our own which we hope might help perception that we do the research and some foreign the policy process in the UK to innovate and add competitor somehow pirates that research and value more frequently. That is the purpose really of benefits from all the commercial aspects that arise the rest of our questions, to try to get our own form it. outputs. Chairman: “Pirate” may be quite a strong word.

Q139 Mr Bailey: NESTA has said that the UK Q141 Mr Bailey: I tried to be a little colourful. spends relatively little on its science base, Mr Halkett: I think the word “pirate” is interesting. particularly R&D. Would you not say this is a sign In terms of the spin-outs, the point is that every of eYciency rather than a cause for concern, given institution, every actor, needs to play their best and the fact that we still do quite well with science? most appropriate role in the innovation ecosystem. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

Ev 30 Business, Enterprise and Regulatory Reform Committee: Evidence

2 April 2008 NESTA

Are universities best at forming companies? Mr Halkett: It is an unfortunate occurrence for two Probably not. Are universities excellent at reasons. The first is the signal that it sends. The generating world leading knowledge? Yes. Therefore second one is the reality of the fact that 3i has moved the question would be: how can that best be turned out of that sector. It is not surprising. The British into economic and social value? Sometimes that will Venture Capital Association has reported aggregate be through spinning out companies but more often returns to the very early stage of investment of -1.5% than not it is likely to be through licensing it to over time. That does not seem like a good business people who know how to start up companies and to be in, certainly compared to when you are looking know how to then grow those companies into world at the high returns from management buy-outs of class competitors. I am not saying that that does not private equity further up the spectrum. If you are happen in universities. There are some notable managing large amounts of assets, where would you examples from the UK and also from the US that choose to put your money? I think that that is a everybody knows that have demonstrated that, but problem. One matter we are very keen to point is that certainly a fixation on the university spin-out as the the question of stages of investment is very main vehicle of knowledge transfer out of important here. Early stage masks a multitude of universities and into business I think probably is not definitions. In our venture capital operation at sensible. On the idea that knowledge gets generated NESTA, we invest in what we call the seed stage, here and is exploited elsewhere, whether it is pirated which is the very earliest pre-revenue stage of the or not, those are two diVerent questions. Exploited very highest risk companies. That is a very hard area implies that maybe it is taken up by a major US- to work in. We are working very hard there. We have based multinational and actually turned into world a well qualified and experienced team that is trying leading drugs or some sort of engineering product. I to demonstrate that you can make commercial will deal with that first. Pirating implies the returns in that space, but there are perpetual intellectual property problems in Asia. I suppose problems in terms of doing that. Businesses require V V that may be what you are getting at. On the first one, di erent types of support; they require di erent is that a problem? If we have eVectively functioning types of investment. The decision of 3i is intellectual property, then if you generated the disappointing. On their behalf, it is clearly rational. knowledge, you should be getting the returns from Does it represent a problem for the UK? I would say that knowledge. The innovation process is extremely “yes”. Obviously the enterprise capital funds are costly, of which the initial invention, although it is meant to be moving into that space to some degree critical to it, is only a very small part of the but we are still witnessing a problem in the sub-£2 expenditure. We have a research strand developing million investment gap. We have some new research at NESTA on growing innovative companies. We are that will be coming out towards the summer that trying to find out if it is a problem that young, uncovers that. innovative companies in the UK rather than maybe growing to become international giants—they are Q143 Mr Bailey: My next question was going to be: called gorillas in the parlance of the investment is this indicative of the venture capital market failing companies—get bought up by large multinationals. to invest in product innovation? I think you have Is that a problem or is that an eVectively functioning partly answered that. Is there anything else you innovative ecosystem for a country that is the size of would like to look at there? the UK? I think that is an open question. First, we Mr Halkett: I think that it is important to recognise do not know if it is true yet. Secondly, when we do that the very early stage of funding being available is find out, the question is: do we care? We are mainly a critical part of any innovation system. The point is interested not necessarily in national virility symbols that there are public goods that result from that that but in terms of delivering social and economic value do not reward the private investor directly. It is a to the UK. The question of knowledge being pirated very high risk area. If you think about the returns is a diVerent one. Of course control over intellectual that can be made from investing £20 million into a property and the illegal use of it is a real problem and later stage business, the amount of due diligence, the is an issue of international concern. That then takes amount of specialist knowledge that you need is us into the question of intellectual properly more probably relatively similar to what you need to be generally and you do not want to throw the baby out investing a couple of hundred thousand pounds into with the bath water. If you stiVen the intellectual a very small, high risk biotech business. There is a property laws too much, then you could certainly question there about allocation of resources and the end up in a situation where you are discouraging way in which people would want to place their follow-on invention, which frankly was the whole resources if they are an investment company. I think purpose of intellectual property in the first place. there remains a strong case for public involvement. You get protection in return for disclosure. What we are trying to find is what is the most Particularly with new currents of innovation around eVective way for that to happen because that has open innovation, sharing knowledge and been a diYcult story worldwide, not just in the UK, collaboration, you could end up in quite hot water over the past 20 or 30 years. indeed. Q144 Mr Bailey: How does NESTA ensure that Q142 Mr Bailey: What is your take on the decision money it invests in new companies is not tantamount of 3i no longer to invest in technology starts? to charitable giving? Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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Mr Halkett: We invest around £10 million a year Q147 Chairman: Will you be bringing forward into the earlier stage companies and funds that proposals to put that right or is it just a piece of invest in early stage companies. We ourselves alone analysis? are not going to transform the UK’s early stage Mr Halkett: At the current stage, it is a piece of investment market. Our goal is to demonstrate the analysis but of course we will be developing kinds of returns and models of investment in terms proposals to put it right because that is why we exist. of business support and in terms of the structure of funding that we give that will draw other people into Q148 Mr Weir: Your evidence suggests that the market. We want to make this commercially traditional innovation measures are heavily biased attractive. If we do that, then other people will enter. towards R&D and patent intensive industry such as We invest with a very hard-nosed commercial aerospace or pharmaceuticals. What impact do you approach, but linked to the very early stage of think this has had on policy making in this area? investment, if you see what I mean. That is the way Mr Halkett: I am normally a big fan of evidence- in which we ensure that we are not doling out money based policy. That is something that is quite often that eVectively becomes grants. As I said, we have lacking and it is to be encouraged. The problem we also invested heavily in giving ourselves a fully have is that if you depend on evidence constantly qualified and very professional investment team. and singly and it is the wrong evidence, because then Mr Bailey: I will be a little provocative and ask if we are chasing the figure. There was a Chief there are any funds that you would categorise as Economist at the Bank of England called Charles charitable giving? Goodhart, who developed something called Goodhart’s law, which was that once an indicator has been established as the basis for a target, it loses Q145 Chairman: The Chief Executive has said there all meaning because people chase the indicator. You is a danger of public funds degenerating into can see some of this, although I am not an expert in charitable giving, for example. health, with waiting list times where suddenly that Mr Halkett: There are a couple of problems with was a useful indicator of the health of the system but that. The first one is that if funds are given targets, then became the target in itself. You see that with and particularly if they are targets that may be linked patent applications, with patents granted and with in recent years, not necessarily any more, around R&D spend. They are useful indicators as a health regional development or with multiple bottom lines check of parts of the innovation system, but if we or tied to particular universities, then the chances are actually establish those as the only targets that we that they are going to be looking to meet somewhat have, and over the past couple of decades they have arbitrary targets around numbers and amounts of consistently been the only reported ones, then of investment, rather than the fundamental target of course policy is built to try to stimulate to meet those actually delivering good returns and making good targets because that is a better story to be able to tell. investments. I think that there is a danger and there In the Innovation Nation White Paper we have been might have been some problems with that in the asked to produce a new innovation index that past, but that is definitely changing. People are balances this more eVectively and it provides a more hungry to learn how to make this work. That is balanced appreciation of the UK’s economy and where we hope to be able to both theoretically and social and innovation system there. We will be practically contribute to that. making sure that we at least embed those indicators in a package of other ones that are relevant to other sectors as well, so that hopefully then, if you are Q146 Chairman: You have referred to a report that following the evidence, as a policy maker, what you your organisation is producing. Tell me the subject will actually be doing is hopefully also improving of that report in this context of funding. innovation. Mr Halkett: We are doing a couple of things. We have a piece of work under way which looks at the Q149 Mr Weir: What are the outcomes from that? equity structure of successful innovative businesses Presumably patents are used because they have a over time, over the course of their development: to definite outcome: this research and innovation has what extent was early stage funding important; to produced a patent and presumably it will produce what extent any type of grant type funding was profit at some point in the future. Is it your argument important; but also angel investment and the rest. that innovation is wider than just simply new We understand what we call their equity fingerprint products, in eVect? through that time. The second thing we are doing is Mr Halkett: Absolutely, and to reinforce the point, a quantitative analysis of the sub-£2 million patents are a very useful measure for a very small but investment area. Crucially, that is because the particular sector of the economy. I do not want to BDCA in particular qualifies early stage as sub-£10 say that they are not useful; they just cannot bear the million. You could understand that even if early weight that is currently put upon them. For instance, stage potentially is going up in that definition, you patents currently only apply to products; they only still would not be supporting the very earliest stage apply to new to the world inventions of those of innovative businesses. We are looking at the products, not new applications of older specific niche in which NESTA operates, and we are technologies. The other thing about them is that finding a decline in investment in that space over patent application is not really a great indication of recent years. success. Patents granted can be, but more import Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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2 April 2008 NESTA would be an indication of patent citation or patent self-identify in services, less than 20% qualifies as value. We know from research that has been done in research and development. For instance, you would the past that the vast amount of value from patents have some idea of a health check of the innovation is delivered by a very, very small proportion of those capability of the services sector if you did patents. Just to look at those in particular, they do understand that level of management capability. not work in the services industries; you cannot do a These all need to be refined. The question is: how do business model or a business process patent in the we improve on the existing indicators that we have? UK like you can in the US, although I am not A sectoral approach is going to be important. We advocating that. For instance, what you are really need to look at the relevance of the diVerent regions looking at there is probably a useful indicator, but because of industrial structure and demographic then only a partial indicator for a relatively small structure in diVerent regions. We need to be thinking section of the UK population. It would, for instance, about the flow of talent. Clearly skill levels are very be useful for the pharmaceutical industry. I would important to innovation, but they are important in not want to challenge it enormously there, but other diVerent ways for diVerent sectors. We need to strike indications of innovation would be important in a balance between over-complicating what is those industries as well. currently too simple a system but also not ending up back where we are right now, where we have Q150 Mr Weir: What would be these other unsatisfactory proxy indicators for the whole of the indicators? Presumably anybody looking to invest is economy. looking for an indicator that will show an outcome rather than just to invest in innovation; they want to see something with an outcome to it. What Q154 Mr Weir: I think I understand all that. How do indicators would you be looking for? you get across to an investor the idea of investing in Mr Halkett: There are a few sectors where it is innovation in, say, a service industry? Anybody relatively obvious. If you are looking, for instance, investing in manufacturing and the creative at the health of the creative industries, then you industries can see an outcome, apart from the would be looking at copyright and design copyright or whatever. What you are saying seems applications more than at patents. very ethereal, that there is innovation within the service business. How do you measure it and put it Q151 Mr Weir: Does that not amount to much the in a way that investors can understand that they are same thing? A copyright and a patent are diVerent investing in something that will be taken forward ways of giving protection for an innovation, are and provide profit in the future? they not? Mr Halkett: Investors tend to have a strong Mr Halkett: I think that is right. That is one of the understanding of innovation in services because they most straightforward ways in which the indicators are very close to the business, because they look at can be improved, if we just gave equal weight to the businesses individually; they understand those idea that copyright, which is relevant to the 7.5% or businesses and they are not trying to aggregate them so of the UK economy that is based on creative too much. The problem we have, in terms of industries, is perhaps the indicator of choice when innovation indicators and metrics, is on the national compared to patents maybe that are important to or the regional level when we are looking at whole high-tech manufacturing, which represent around swathes of the economy. For instance, we look at the 2.5% of the economy. The problem comes when we UK’s pharmaceutical sector which invests 14% of its look at the health of the whole of the economy based revenues in research and development, which is a on the patents or the R&D statistic alone. very high level globally and it is also a leading sector. There is a link there and so it is appropriate for that Q152 Chairman: Copyright protects brand value as area. Investors in those businesses would well, though, does it not? understand that. The Government understands that Mr Halkett: Yes. as well. The problem, of course, is that it only represents about 6% of the economy and therefore Q153 Chairman: It is much wider than just the its actual impact on the overall innovation statistics narrow creative sector? is less than perhaps it could be. What we need to look Mr Halkett: It is, but again it is a question of the at is understanding how innovation happens in these most appropriate indicator there as well. In other diVerent sectors and then we will be able to develop sectors you would see it as well. For instance, we indicators based upon that. A classic is in the public have work underway, and we have been doing this in sector where currently we do not really measure partnership with BERR but also some of our own innovation at all. In the report Hidden Innovation work, on the question of innovation in services. If that we produced, one of the classic examples we you look at the companies in the services sector that came across was genetic testing in the NHS. Over a are most innovative, a very important indicator of decade, we produced around 300 new genetic tests in that is the level of management training that those the NHS; none were produced in the traditional way; businesses have, particularly their ability to none generated patents; none were based on venture understand innovation, deploy information and capital funding, but those deliver important social communications technology and think in a way that value to the UK and sometimes economic value as is conducive to innovation. They produce very few well. It is a question of knowing what we are looking patents. Of their innovation expenditure that they for and that is what we are going to undertake. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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Q155 Mr Weir: This takes us back to where we the UK. That is because it is an easy default to go to. started. We had Sir John Rose of Rolls-Royce before The first finding is that it is very important to have a us previously. He suggested that aerospace R&D level of regional devolution to ensure that capacity. spending was under-supported in the UK. Would The other finding is exactly what you found, which you agree with that statement? is that people are currently unsatisfied with the Mr Halkett: He is more of a specialist on the capability at the regional level to deliver a very high aerospace industry. On the question of R&D standard of innovation policy and innovation support, there is evidence but it is scarce that a 10% support, particularly when there are problems with reduction in the cost of research and development cross-administrative boundaries. You certainly see through whatever means but potentially by that many organisations, for instance say around the government subsidy, through something like an Cambridge area, would have much closer R&D tax credit, over time leads to a 10% increase in relationships with London than they would maybe R&D, but we would expect that because companies with Ely, and yet Ely is covered by the same are rational. There is very little rigorous evidence development agency and London is not. That clearly currently of the link between research and is a bit of a problem. RDAs may not be moving as development and innovation, as opposed to just fast as we would like but they are moving in this increasing R&D spending and the link between it regard. The best example and the one that we are directly and productivity growth over the long term. closest to is the Northern Way, the collaboration Would aerospace like additional support for its between Yorkshire and Humberside, between the research and development activities? Yes. Would NorthEast and the Northwest Development that in my opinion directly increase the innovation Agencies, where they are working upon pan- performance of the UK? I think that is a question northern issues collaboratively: research into that is still out there. Knowledge moves quickly; transport linkages, innovation support, business companies move quickly; people move quickly. support, things that actually work across. Of course Investing on a national level on something like that part of that is trying to establish the M62 corridor as with the idea that it will improve your innovation a strong economic independent entity and perhaps a performance is an interesting question. Whether rival pull to the South-East, but it also I think R&D tax credits or support for R&D is actually just represents quite a forward-looking and intelligent a part of international tax competition attracting step when it comes to thinking about the realities of large companies that we prefer to have rather than innovation policy. other people have is another matter. That is a judgement that goes beyond the realm of innovation policy. If you are looking specifically at innovation, Q157 Mr Wright: With regard to the RDAs, in your there is more work to be done to suggest that large- evidence you mention the fact that in terms of the scale support for research and development priority areas eight of the nine RDAs include increases the innovation that matters to the UK biotechnology or health sciences. All right, economy. competition is fine between the areas. Do you think that should be led by the Government to say it is for each RDA to say what area should be looked at? Q156 Mr Wright: If we briefly turn to regional Clearly, they are the builders ultimately of the policy, the Lambert Report identified an increased priority areas. The competition is going to be strong role for regions as a key part of innovation policy. and you are duplicating a lot of the public The evidence that we have received suggests clearly expenditure. that companies find dealing with diVerent funding Mr Halkett: To an extent over the past decade this bodies in diVerent areas frustrating. Do you think we has been a necessary evil. In return for the have the balance right between promoting regional development of regional autonomy and regional clusters and recognising that companies do not interests, you have regional ‘boosterism’ as well. Of necessarily follow administrative boundaries? course everybody wants to jump on the biotech Mr Halkett: I think this is work in progress. We have bandwagon and say that their area is going to be two findings from our research that are important world leading. Equally clearly, that is absolutely not here. The first is that we need increasing regional true. The idea of particularly generating a biotech tailoring of innovation policies. One size does not fit cluster essentially out of thin air is not really going all; it certainly does not work nationally. We to work. There is almost no evidence globally that produced a series of reports at the end of last year, you can create clusters. You can certainly build, one on innovation in the city, one on regional stimulate and grow them; you can certainly take innovation coalitions and one on what we called good ones to great ones, but the idea of literally rural innovation. They all demonstrated that, whilst creating one is extremely diYcult. I would say: yes, you should have a national standard of policy, it there has been a problem. We talk about the question needed to be able to be tailored for local and regional of intelligent competition. This is a fine balance. Can industrial and demographic structures and you have central government direct that is going to priorities. The default that we have gone into is that be the champion for biotech within the UK? That is because we have aimed at entirely national policies a problematic area but if you look at it, it is quite that cannot really be tailored, we have ended up with clear that there are a few front runners. Obviously an innovation policy that not just favours science there is the area around Cambridge; the area and high-tech manufacturing, but basically favours between Glasgow and Edinburgh; and a couple of the greater South-East above and beyond the rest of other pockets. Obviously we had the news story this Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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2 April 2008 NESTA morning about the embryos from the North East. menu of questions and try to avoid detailed There are ways in which these are going to work expositions. We can come back to this at a later date together. The point is that when we look at and explore things in more detail. I am afraid it is globalisation and at the rise and rise of other centres frustrating but can we move on faster? of excellence, at the fact that people and knowledge are moving faster and faster, the chances are that the Q159 Mr Wright: Turning to government and policy, currently excellent places are going to become more how would you assess the Enterprise and Innovation excellent and therefore there are going to be fewer of White Papers? them. The leading scientists and researchers will Mr Halkett: We were involved in the development of literally move there to work with the best in the field. both. We were particularly close and DIUS is our As an aside, we will also see the same in the services sponsoring department and therefore we were industry. You see the ever growing rise of London as involved in the development of Innovation Nation.I a financial services centre. Clearly there is a bit of a was very pleased with how it turned out. I think that clustering eVect going on there and it is to the it sets a clear intellectual leadership centre in the UK detriment of other people. When we are looking at Government. I think that globally it has been this, I think we are clearly moving to a world where recognised as quite a step forward. In particular, if the UK will have a couple of globally competitive you look at the contents page, there is a chapter on areas in something like the biosciences and, yes, demand, which is very unusual in international there will be other areas but they have to recognise innovation strategies. Innovation in public services their position as feeders into those national centres. is attracting a lot of international attention. I have I would prefer for those to emerge rather than be been getting international comments on it. Those are chosen but government chooses all the time. Apart the areas where people are focusing. I think it has from the paranoia we have about “well, I am not done that very well. The point is that it is going to be picking winners, but . . . ” as we always hear in very challenging to implement. What we are looking ministerial speeches, the point is that governments at now is DIUS having to work an awful lot through the world over pick winners all of the time. If we look other government departments to achieve its goals. at the vast increase in health care spending by the US That is critical. We have made the comment that we Government, theoretically the home of the free think non-innovation policy is almost more market, it is up to about $29 billion a year now important than innovation policy when you are through the national institutes of health. Then considering innovation performance and therefore it suddenly you are noticing that countries all over are is a necessary evil. That is an interesting challenge essentially picking winners. They are picking sectors, for the structure of a department. I thought the they are not picking firms. I think that is a more enterprise strategy was a good start and they have intelligent way to go. Should there be a government made it quite clear that this is the beginning of a real committee that sits there and makes some sort of focus on the enterprise agenda. I look forward to decision and then awards a bioscience excellence working with them further on that. centre to Cambridge? That would not make an awful lot of sense, I do not think, but certainly there are Q160 Chairman: Is it the Treasury or BERR? going to be choices made. The idea of almost Mr Halkett: It was a budget paper in the end. arbitrarily going against that tide to boost other areas seems nonsensical. Q161 Mr Wright: What diVerence has the establishment of the Technology Strategy Board Q158 Mr Wright: Briefly, do you consider that in, made? How would you rate its performance thus far? say, five years’ time eight out of the nine RDAs that Mr Halkett: The Technology Strategy Board have been given a priority area would be reduced potentially forms a very important focus for down to four perhaps or five because they will technology-based innovation in the UK. It has a big recognise that they cannot keep pace with areas such agenda ahead of it. It picked up something like 26 as Cambridge? out of the 72 recommendations in the Sainsbury Mr Halkett: I would strongly hope that that would Review; it has more out of both the Enterprise be the case and that they would choose to focus on Strategy and the Innovation Nationwide paper. It other areas of their clear strengths. Those strengths has recruited a good quality team and I know that are distributed across the UK. Each region has its they are working on their strategy now. The crucial own particular strengths it can build on. There is a point will be when we hear the Technology Strategy glamour attached to a minister wrapping himself Board say “no” to certain things. At the moment, it around the latest biotech piece of machinery that seems to be the answer to everybody’s prayers. they want to announce and everybody wants the When the strategy comes out in April, it will be person to go to that area and wants to work in that important to see what is in it and what is not in it. It space. I think what we want to see is a more has the potential to be an important contributor for intelligent approach to that. However, that will the UK. depend on a very proactive and realistic approach from regional development agencies and from city Q162 Mr Wright: You have stressed that innovation councils. works in very diVerent ways in diVerent sectors. Chairman: We are really enjoying this evidence Does it therefore make sense to have an innovation session, as I thought we would. We are not half-way strategy or, for that matter, a Department for through our questions, so can we go through our Innovation? Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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Mr Halkett: I think it does. There are diVerent ways Mr Halkett: I would not say it is the best. It is a good of thinking about where you put innovation in and important way, but “best” would probably give government. If you start thinking about the role of it more credit than it deserves. Looking at the skills regulation and standards, enterprise and skills and agenda, stem skills, science technology, engineering you end up suddenly with a department of and maths are important; they are necessary but not government centred on innovation. That does not suYcient. If you look at what companies say that really work. I think that having a Department for they want, consistently in their workforce for the Innovation, Universities and Skills is a good future they talk about creativity, problem solving structure for the time being. Let us see how we go. and management skills. However, they also want the We welcomed it when it appeared and that is still our stem skills as well. What we need is a balance. We position. We think that bringing those three areas think in terms of technical skills, which are the stem together makes a lot of sense. I certainly think it skills, and also related skills that help you do your makes sense that you need a central champion for job directly, for instance like being an excellent innovation at Cabinet level in government to give writer if you are a journalist. We also think in terms those other areas a fighting chance of developing of cognitive skills—creativity and problem solving. pro-innovation policy across the board. You have to think in terms of attitudes: risk-taking, ability to challenge the status quo and explore Q163 Mr Wright: The Innovation Gap suggests that unusual areas. We need to think about those three policy interventions to support innovation are groups if we are going to increase the UK’s capacity largely the same the world over. The report suggests for innovation through its schooling and education an approach more tailored to the UK’s strengths. systems. What would be the key features of this particular approach? Mr Halkett: A number of the strides that have been Q166 Mr Weir: Innovation inevitably brings some made in Innovation Nation are focused on the rest risk. It could be argued that the innovative use of of the economy and thinking about the types of American sub-prime mortgages has led to the credit innovation that are more important there, crunch. How can these risks be reduced, particularly particularly demand-led and the role of open when public money is involved, without introducing innovation and looking beyond science. If we are even more delays and bureaucracy into the system? looking at the strength of the UK economy, a lot of Mr Halkett: Innovation inherently involves risk. It it is in our services industries, in our high quality V research base and the skill levels of our population. is critical that that risk is managed e ectively and If we think from that upwards, then we will end up that people have a portfolio. When you are thinking with quite a diVerent shape of innovation policy about innovation in public services as an perhaps than we might have had in the past. expenditure, there are areas that will be high risk but those should be balanced by areas of low risk that assure delivery. People talk about making the public Q164 Mr Wright: Turning to tax credits now, you sector in particular more pro-risk. That does not suggest that the innovation tax credit would make sense. Being pro-risk is an irrational thing to probably be the way forward. How would that diVer from the research and development tax credits? be. Having an understanding of risk and being able Mr Halkett: When we are playing with major to balance it correctly and make sure that you are instruments of fiscal policy, we should always take taking an educated risk makes a lot of sense. We need our time. We are carefully developing any proposals to make that shift towards managing risk rather than that we would like to make to change any tax credit, this idea of being pro risk in the public sector. There V because they really do change behaviour, as we are ways of e ectively managing innovation. Some V understand. We have already seen some incremental companies in the private sector are very e ective at improvements here. There was a court case in 2006 doing this. They understand how to manage their which Nissan won against HMRC to include design innovation systems; they understand how to oVset costs in automotive manufacture, essentially as part risks against each other. When you are looking at the of their research and development. Looking around, public sector, particularly procurement, which has it probably makes sense to all of us that that would been an emphasis of both the Enterprise Strategy essentially be the research and development that and the Innovation White Paper, then there are some matters to that industry. We are beginning to see innovative approaches that can be used as well as occasional extensions. As we understand better the making sure that procurers themselves are highly innovation that matters, the diVerent sectors, then trained. There is a process called second sourcing, we will be able to make specific recommendations which means that you procure a safe approach to a for extension. Again, we have to be very careful with particular problem and then you procure either a major instruments of national fiscal policy because competitive, highly innovative approach or small tweaks can have major implications and potentially you unbundle part of the main package potentially unintended consequences. and allocate that to a highly innovative project. You are insuring yourself against coming through any Q165 Mr Wright: Is investing in science, engineering construction contracts to make that the case. There and technology skills the best way to promote are particular tools being used around the world that innovation and high value economic activity within can begin to improve this. The emphasis that has the UK? been given to this in the White Paper gives me Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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2 April 2008 NESTA confidence, particularly in the pilots with the innovation that matters. For instance, take the Department of Health and Ministry of Defence, that challenge of environmental sustainability and work hopefully we will see some of these in the UK. backwards and ask: what types of innovation will this require; what proportion of it is technological Q167 Mr Weir: That brings me on to the next point innovation that can be stimulated by things like the about public sector innovation. Your submission Energy Technologies Institute; what proportion of cites Denmark, Sweden, the Netherlands and it, though, is going to be social innovation that is France as counties where public services are key required to change behaviour; and what proportion drivers of innovation. In which parts of the public of it is around innovation in public services which sector has this innovation taken place? will be required to support those changes in Mr Halkett: It is in various sectors of the economy. behaviour? The crucial thing is to take the problem The crucial matter is that diVerent approaches have and then look back towards the UK’s innovation been taken. If you look at Denmark, it has adopted system. What we will probably find, and we are a national strategy around user-centred innovation. already beginning to find in our research, is that we They have done that in their economy and also in have over-emphasised the idea that technology is their public services. They have made that a focus. going to mean that we can have our cake and eat it; They have a national centre for it. In France it has we can carry on keeping our lifestyles because we are been more of a competition for central grants going to invent a fuel cell that means we can carry on around things like the TGV, et cetera, which has led driving and that we do not need to change anything. to more regional competition and innovation in At the other end of the spectrum, some people are public services. That said, as I mentioned earlier, the saying that we must not fly, only eat organic food Innovation in Public Services chapter in Innovation and only boil half a kettle. Neither of those in Nation and the idea that DIUS is taking that as a isolation is really going to work, and of course they core part of its remit, the fact that the OYce of the are intimately linked. Problem backwards: look at Third Sector is so active in social innovation in the the problem, look at the types of innovation and the UK, show that the UK is seen to be quite a leader at diVerent parts of the innovation system, the need to the moment in terms of trying to drive innovation in respond to it, and then work on those, rather than public services. This is a long process. One of the saying, “Oh, we have this piece of kit, this aero most interesting points in Innovation, the Nation technology; it might save the world” and then White Paper, was the agreement with the National emphasise just working on that. Audit OYce to undertake a study into risk taking and how the National Audit OYce can support that in the UK’s public services. That could be Q170 Chairman: We are going to the United States fascinating because you need the agreement of the in a few weeks’ time to look at DARPA work there. auditors to be able to take risk. If risk is always We are told that DARPA tends to take that penalised, no-one is ever going to take it. approach. It says: “Here is the problem; now solve it” rather than, “here is the technology we would like you to develop”. Is that caricature fair? Q168 Chairman: Abolishing the Public Accounts Mr Halkett: That is a good analogy for DARPA, Committee might be a good start to encourage which has an unusually privileged position innovation in the public sector in the UK? internationally. It has been remarkably protected in Mr Halkett: You might say that but I could not the aggressive fiscal climate of the US over about 50 possibly comment. or 60 years to preserve this blue skies sort of applied approach to innovation. It really is an extraordinary Q169 Chairman: I think I will take that as a “yes”. entity. Although of course it is the Defence We will not go down that at present. You talked a bit Advanced Research Projects Agency, and that about social change in your answer to Mr Weir. Your changes about every 10 years whether it is defence or organisation talks a lot about the role of social not depending on whether it is Democrat or developments—the ageing population, climate Republican, it is going to be interesting to see change and so on—in prompting innovation. Have whether they are taking on the challenge of things we been good enough in that area? like environmental sustainability as well. I would be Mr Halkett: There is quite a lot of activity around interested to hear the results of that. this, as you have probably seen. Every department seems to be active at the moment. Certainly the words “ageing population, environmental Q171 Chairman: I have greatly enjoyed listening to sustainability, demographic change, and a very clever man talk very intelligently about a very globalisation” appear in lots of strategies. I think we important subject but I am a very practical man and have been looking at it from the wrong direction. We micro analysis is very strong indeed. What I would need to think of problem backwards innovation. like to know is what practical things could we One of the problems we have had is that because of recommend and do, what policy options could we be innovation’s basis in science policy and because of suggesting quite specifically, the top two or three? I some of the problems we were discussing earlier am reminded that in 1714 this Parliament oVered a about where this has taken us, we have tended to £20,000 prize for a way to measure longitude. It had look at technologies and say, “What can this do for the right result. It took a few years but he got there us?” and that has been our definition of innovation. in the end. That is £6 million in today’s money, I What we are trying to do is look at what we call the believe, so it shows that we were prepared to cough Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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2 April 2008 NESTA up the money then. Is there anything practical that not just for the narrow definition we have had we can do that you could recommend to us on a before. Government consistently underestimates the menu? eVect that that can have in terms of the priority that Mr Halkett: I think challenge-based innovation it can give to diVerent types of innovation and policy is critical. I know that that already has championing those in the UK. Finally, there is a currently with the Technology Strategy Board and limited toolkit of new initiatives that I think would they are very interested in that area. I would be appropriate. although we do not automatically encourage you to pursue that. I do not think you can assume that you should have policy completely move to that away from a more bottom- recommendations for every new idea that we come up approach. It is critical to continue to support the up with. As for the idea of foresight programmes research base—notice I said research base and not that look at non-technology areas, what is going to science base and that is an important distinction. It happen for instance to the financial services area; is critical to understand that knowledge exchange what is going to happen to the creative industries? between the research base and industry goes beyond Technology will be a part of that but not much. We know that management training, as I said before, is high-tech manufacturing and beyond science. critical to the services industries. Why are we not Looking at things like knowledge transfer thinking about some kind of learning tax credit, partnerships and knowledge transfer networks something that reaches across other areas like that? should be borne in mind constantly. It is critical to There is a limited toolkit of new ideas that is involve users and regulators and the people who important but the most important thing is that we directly influence innovation in the development of make sure that the existing policies that we have are things like foresight programmes and innovation most eVective and representative of the whole of platforms. These are all modifications to existing the UK. programmes that are important. The second area in Chairman: That is a very helpful summary of a very which government is critical is that it continues to interesting hour. Thank you very much indeed. If, on need to set a tone; it needs the power of rhetoric and reflection, you feel there are things you would like to persuasion in the setting of priorities that have said to us that you did not have an opportunity demonstrate that innovation is relevant to the whole to say, please feel free to give us further information. of the economy in the public sector in the UK and We are very grateful to you.

Witnesses: Mr Will Hutton, Chief Executive, and Mr Ian Brinkley, Director, Knowledge Economy Programme, Work Foundation, gave evidence.

Q172 Chairman: Gentlemen, thank you for coming. has become much more pervasive and that you have May I begin by asking you to introduce yourselves organisational complexity in the organisation of an and your roles for us? oil refinery, a printing press, a luggage system, to be Mr Brinkley: My name is Ian Brinkley.I am Director topical, all of which have the influence of more of the Work Foundation’s Knowledge Economy knowledge. You also have something running in Programme. We are about two years into a three- parallel with that, and here I think is the heart of our year programme. knowledge economy programme. It is the fact that Mr Hutton: I am Will Hutton, Chief Executive of the we think that the knowledge economy and the Work Foundation. I was the Rapporteur of the Kok knowledge service sector is the supply response to a Group in 2004, which was reviewing the EU’s big change in demand. All over the West there has progress towards achieving the objective of been a tipping point in the number of consumers becoming the world’s leading knowledge-based who are rich, who are better educated, who are more economy in 2010. It was the writing of that report discerning and who are not only looking for that provoked me into putting the consortium satisfaction in how they work, which people have together that backs this programme that Ian runs. always done, but how they spend—I spend, therefore I am. They use their spending to answer the Q173 Chairman: I wanted to stand up and cheer question: how do I live a life well? They are moving when I read something you wrote about a year ago, up Abraham Maslow’s hierarchy of needs. You can which is very relevant to this Committee’s inquiry. see this subset of the knowledge economy, called the You wrote that sometimes phrases such as the experiential economy, as trying to capture the way in knowledge economy or services are, you suggest, a which a lot of the service sector is having to step up contrast with solid, dependable, disappearing to the plate and be much more sophisticated in the industry and herein lies a misconception. What is services it provides consumers, which requires much that misconception? What is the knowledge more knowledge in their application. It could be the economy really all about? way the National Trust has to go about interesting Mr Hutton: How long have you got? Obviously, people and going round our great national industrialisation, industrial evolution and what has institutions; it could be a lead consultancy firm taken place since the eighteenth century has been thinking about how it provides financial planning so driven by science and technology. In a sense, what is it is experientially good news. It could be what is new? I think what is new is that this has become not happening in the Odeon cinemas or in M&S or in just a characteristic of one or two lead sectors, but it lots of parts of tourism. It is just a phenomenon that Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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2 April 2008 Work Foundation is across the board. Because we have the diVerent again from the EU’s, from the ONS’s and technological capacity, largely but not only through from the DCMS’s. On the UNESCO definition of it, information and communication technology, to Britain has absolutely the highest trade surplus and organise more complex and sophisticated supply the biggest volume of cultural exports in the world, responses to demand, we can do it. That is the even greater than the United States. Our knowledge knowledge economy. It is organisational complexity service exports, of which the cultural and creative and product complexity. It requires much more industries are a subset, have grown by 15% per sophisticated management, as we have seen, and I annum for a decade. The surplus in knowledge say it again, at Terminal 5. The British are quite good services is 3.4% of GDP or thereabouts. These are all at it, particularly at knowledge services. indicators that (a) something is happening and (b) we have comparative advantage in it. Q174 Chairman: I appreciate that was a very big question with which I started. As background, you Q177 Chairman: You are happy that there is published your Interim Report on the Knowledge suYcient certainty about some of the important Economy Programme three weeks ago. When are issues in this debate to set policy confidently? you aiming to produce the final report? Mr Hutton: We would love to be able to say with Mr Hutton: The programme ends in spring to more confidence than we can. If you look at the share summer of next year. We will aim to have a final of GDP by value-added, it gives you one answer. If report out by at the latest the end of June/beginning you look at the share of GDP by employment, it of July or maybe fractionally earlier. gives you another answer. If you look at the share of GDP by people with educational qualifications, it Q175 Chairman: You have reached some quite gives you another answer. If you look at the share of important conclusions already in the interim report. people who do jobs which demand a degree of On a point of detail which interests me, and I have intellectual dexterity and the application of soft not actually read the report myself, I am told there is skills, it gives you another answer. What you do a lot of detail in it about the weakness of statistics on know is that all of those have been growing rapidly knowledge, work, investment, jobs and even over the last 10 or 15 years, but the scale of it is very productivity, which has been the Holy Grail of diVerent. That is one problem. To try and get some political debate for many years. In view of all that purchase on productivity and innovation in it is uncertainty, what do we actually know about again very hard because in a number of the sectors innovation and knowledge? there is a long tail of really quite small firms and so Mr Hutton: We do know one of the things that Ian you just do not know very much about it. Ian has has picked up and you might want to discuss it. An been at the coalface and so I hand over to him now. interesting team at Queen Mary’s College, Mr Brinkley: The measurement picture is a very University of London, has been working on the rise mixed one. There are some things we have very good of intangibles. We do know that there is some hard statistics for and others for which we simply do not data which it is pretty diYcult to challenge. The first have any or very flaky ones. The big problem is that piece of hard data which is very important in this we have no figures from the UK national accounts story is the rise of intangible investment in relation on the knowledge economy. The figures we do have to tangible investment. The Treasury themselves are figures that have been derived either from figures picked this up in their working paper in October. around already or have been based on definitions by the OECD and the EU. The OECD and the EU Q176 Chairman: You produced that graph in your produce statistics on employment and output in the excellent evidence which we thank you for again. It knowledge-based industries. There is no equivalent is a very impressive piece of evidence. number produced by the UK statistical authorities, Mr Hutton: It is. I know that you interviewed John and so we are having to rely on other people Rose. I am sure you will do this: if you had said to basically to tell us what we think is happening in the John Rose, “You are a leading high-tech UK economy. I think that is quite a major deficit manufacturer. Do you spend proportionately more when policy makers are trying to struggle with the on intangibles than tangible investment now than implications of these changes. you did 20 years ago?” he would have replied “yes”. I have put the question to him myself. That is Q178 Chairman: I said to our last witness that our organisations having to invest in innovation, in inquiry is into quite a crowded marketplace. Your human capital, brand equity, software and in the inquiry is doing very much the same thing and complexities of managing their supply chain. They people are writing this all the time. I am trying to invest in intangibles. That is already proof positive look for some practical suggestions we can put to of the phenomena I have been describing. Secondly, government for improving the framework. Is this an we did a report for the DCMS and the DTI as was issue that is of suYcient concern that we should that was originally going to be part of a Green Paper address it in more detail? on the culture of creative industries. It is very Mr Hutton: Absolutely and it is clear that out of the impressive about Britain’s cultural and creative Kok Group two things happened. One, I became industries, which are part of the knowledge very interested in this subject and the other is that I economy, and that is why we were invited to do this became interested in China. There is a consensus report. We have a statistical problem because view that China within Asia is going to transform the UNESCO’s definition of cultural industries is economic balance of power in the world. That is not Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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2 April 2008 Work Foundation a view I share. In fact, the Chinese themselves do not knowledge-based industries and the share of GDP in share it. As they say in China, the issue is that it is knowledge-based industries, but there is not a set made in China rather than made by the Chinese. definition that would allow you to say whether you They just despair, and I use “despair” in a public are the best or the worst knowledge-based economy inquiry of this type as the one to stand by, of their in the world. One of the problems with the Lisbon capacity to become part of and join the Western objective of turning Europe into the world’s most knowledge economy. In the knowledge industries competitive, knowledge-based economy is that no- they are essentially a subcontractor to the West and one has actually said what they meant by that. 98% of China’s high-tech manufacturing exports are made by foreign companies in China. The OECD Q181 Chairman: It makes it an easy objective to has a measure of knowledge economy vitality in a meet. thing called triadic patents. Those are patents which Mr Brinkley: Therefore you can never say whether are applicable in the United States, the EU and you had actually achieved the objective or not. Japan, hence the triad, and 34% of those patents originate in the United States; 32% originate in the Q182 Mr Weir: What do you see are the benefits and EU; 29% in Japan; 0.1% originate in China. There is costs of a higher reliance on knowledge-based really very little prospect of that number increasing industries? significantly for at least 20 or 30 years. So we in the Mr Brinkley: The benefits are that they contribute an West have this advantage of the knowledge awful lot of jobs. Everywhere we have looked in all economy. It is something which the Indians and the the advanced industrialised economies, the Chinese would love to have. They want to get there knowledge-based industries and in particular but the gap between them and us is vast. The way the knowledge-based services are big generators of new international division of labour is settling is that the jobs. That is essentially where a lot of the Chinese will be subcontracted to the West; they will employment growth has been coming from. They are be an assembly area and do low value-added also major generators of exports. If we were trying manufacturing. They do not do much innovation. to answer some of the questions about what do we We have to understand in the West the dynamics of do in the world if most of low wage manufacturing our own success, what is driving it, and be more is going to be done elsewhere, then one of the purposeful, it seems to me, in (a) understanding answers to that is that we do high value-added what the drivers of this success are and (b) in services and a lot of those are generated within the understanding it be much more confident about knowledge industries and the UK is rather good at globalisation. I am hugely supportive of the that. I think the third benefit is helping with the flow globalisation process. Trade is the precursor to of ideas and knowledge across national boundaries. economic growth and prosperity and the more We are no longer constrained by what is going on in globalisation, the better, but there is a certain the UK; we can actually reach out across the world amount, particularly in the United States and to a and engage with what is happening in other lesser degree in Europe, of anxiety to retreat from countries in terms of new technologies, new ideas, globalisation. new innovations. That of itself I think will speed up the process of innovation and increase the pace of Q179 Chairman: I am being very discourteous to diVusion. The downside is really one of whether you you. I am going to stop you. This answer is so create then a two-speed economy, one which all interesting, it risks answering all the questions on looks rather positive with these knowledge-based our list. industries expanding away and creating lots of good Mr Hutton: I have finished. That is why when you jobs, lots of high wage jobs, and other parts of the asked the question, I want to say as firmly as I can economy and other parts of society being left that it is really vital that we have good numbers, we behind. We have looked at that question through our understand the processes and that we map it. That is own programme and we do not see any strong the precondition to doing anything. evidence of that, but it is nonetheless a constant danger that you will split both the economy and Q180 Mr Weir: You have already touched on this society into one which is looking rather privileged question. In your evidence you say that “almost and pulling away from the rest and the other which every member of the OECD thinks it is becoming a is rather left behind by these economic benefits. knowledge economy and almost every non- industrialised economy aspires to be one”. On what Q183 Mr Weir: When you are talking about patents, grounds can the UK claim to be a knowledge-based you are talking about the triad of Japan, America economy over and above its competitors? and the EU. Are there diVerences within the more Mr Brinkley: I do not think anyone has a industrialised parts of the EU as to the way that this particularly agreed definition. Everyone seems to is acting or would the economies of, say, France, have rather diVerent definitions. India tends to talk Germany and the Netherlands be following a similar about herself as a knowledge-based economy when route to the United Kingdom? they are really taking about addressing basic Mr Brinkley: There are similarities in terms of the numeracy and literacy. There are various indicators shift in industrial structure, so they are all moving that we can look at. The World Bank ranks away from some of the older industries in towards economies according to where they lie on a knowledge-based services, knowledge-based particular scale: their share of employment in manufacturing. That shift is constant everywhere. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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Where the UK is diVerent is that we have specialised knowledge economy. Is there a danger of the UK knowledge-based export services more than anyone being left behind by them using that process of else. This is something where we are very distinctive. industrialisation to leap up the scale? One development which I think causes us a little bit Mr Hutton: The Japanese are masters at this. You of concern is that if you look at the groups of can see what is taking place in the Nordics. Ian has knowledge-based economies, what you see is in the pulled out some really interesting figures which I do Nordics, North America and Asia that they are not think he has sent you. The investment the pulling away from all the rest in terms of their Americans make as a share of GDP in R&D, tertiary investment in knowledge as defined by the OECD. education (universities essentially) and software, We are in the middle group along with the rest of which is now the heart of the knowledge economy, is northern Europe with some signs that we may be 6.5% of GDP. Of course that is the springboard to falling behind countries like France, and then this phenomenon that is taking place in the States, southern Europe is quite some way behind. From the which the Americans themselves do not recognise. UK perspective, we ought to be worried that we are Of course there are parts of America which are still in not matching up to those levels of investments of the dire trouble—Ohio and Pennsylvania. It is a mixed world leaders and the gap between us and the world picture. There are parts of the United States which leaders is becoming wider rather than smaller. are really reaping the benefit from the Japan eVect, if Mr Hutton: There are two more things I would like you like. The next up of course is the Nordics. to add quickly. One of our colleagues looks at the Sweden is spending 6.4% of GDP. We are only knowledge economy on a regional basis through our spending 3.5% of GDP.That is partly because we are city regional idea of this programme and there is a the sixth biggest manufacturing power in the world very dense concentration of the private sector but it is smaller and so consequently there is a less big knowledge services, knowledge economy, in the base around which to do conventional R&D in South-East. In the rest of the country, particularly in manufacturing and knowledge services. As Richard the North-East and North-West (but less the North- Halkett was explaining I think, it is less about R&D West) and the Midlands, it is much more a public than innovation and we do not measure that well. sector-driven phenomenon. There are pockets of We do not spend the same amount of money on private sector technology around the country. There software or in the university sector. If you want to is the Leeds gold triangle—Leeds, Harrogate, reindustrialise, build it up and do it in the areas York—and there is some really bracing stuV going outside the South-East, one of the necessary but on in north Cheshire and Manchester and of course insuYcient conditions will be a big investment in our around Edinburgh and Bristol, but substantively the Russell Group universities that are outside the beneficiaries of it have not been generally shared South-East because you would then get some nationally. One of the reasons for that is because we knowledge sharing and oV the back of that small are not being as smart as the countries that Ian cited firm formation and the beginnings of the as using the knowledge economy as a potential reindustrialisation eVect. These are jewels in our source for re-industrialisation. This has not been crown. It was good to see the Innovation White talked about much yet but it is where our thinking is Paper talking about it but we need to put some going. We have noticed that in the United States serious money behind it. their exports are increasingly manufacturing exports, partly because of the low dollar and partly because of the way they have used the knowledge Q185 Mr Weir: You mentioned earlier about the economy to re-industrialise. A little known fact for consumer sector. One of the key drivers you have example is the way the United States has just identified for a knowledge economy is a strong reclaimed its place in the number one spot as world consumer market for high-end goods. What impact exporter. Its exports in February of last year grew by might an economic downturn have on consumer 13% (that is all exports) and within that some demand and business investment in the knowledge exports of manufacturing capital goods were economy? growing at 20% or more. That is faster than the Mr Brinkley: There are impacts in some areas more Chinese. They have used the knowledge economy; than others. The obvious one is the financial sector, they have used enormous investment in R&D, which is part of the knowledge economy, and that universities and defence to really reindustrialise and will have a very direct impact, probably less so on get their exports moving, and of course that is good some of these knowledge-based industries because regionally because that means jobs in places like they are exporting to markets do not tend to be Illinois, South California and New Jersey where particularly sensitive to either exchange rate there has been a fall in employment. If we want to movements or changes in some of the variables we spread our knowledge economy out more than it is, are seeing round the housing market. I suspect the we need to be able to capitalise on the opportunities impact there is going to be much more on areas like for reindustrialisation that this opens up. retailing and so on where there is more direct feed across. Overall, I would say probably having a well- developed knowledge economy gives us a bit more of Q184 Mr Weir: That is very interesting. One of the a cushion against some of these changes compared things in our investigation into the new EU to the previous industrial structure that we had, with Accession States in eastern Europe is the way that the big exception of financial services where there is many of them are trying to leap ahead to this type of going to be much more of a direct impact. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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Q186 Mr Weir: How many of the features you “Let us have a successful advertising industry” or associate with the knowledge economy could be “let us have a successful auctioneering industry”. attributed to increased prosperity rather than to Interestingly, I think the financial services sector is structural change in the economy? one which has had probably most overt support Mr Brinkley: It is a mix. It is not just that people are through the regulations that have been put in place getting wealthier; they are actually changing their or the tax breaks for non-doms. One of the things preferences as well as they become wealthier, and that Ian’s numbers show, and I always like to tweak they are shifting much more of their expenditure into the financial industry’s tail a bit, is that actually they areas which have helped the knowledge economy are simply part of a more general phenomenon grow with education and health services being the which is the rise of knowledge services. The truth be obvious ones, but also a lot of the very high value- told, in terms of employment generation or added products and high value-added services. improving their share of Britain’s knowledge service Unless people are actually changing the way they exports, the story is not that great. The real story in spend their money as well as having more of it, these the last 10 years has been our great teaching certainly would not have seen those changes. Part of hospitals, our great drugs companies, our great the change is also driven by changes in global manufacturers like Rolls-Royce and what is demand. If you look across to the industrialised happening in culture and the creative industries and economies, their exports at the high end of what has been happening in ICT and in things like industries—pharmaceuticals, aerospace, auctioneering. I suppose the Big Four accountancy electronics—are absolutely booming because there is firms, although they are not conventional financial a huge increase in global demand for these products services like you think about clearing banks, right across the piece. In that sense, I think it has building societies and investment banks, is where the been a mixture of both increase in prosperity and action has been. They have been really just going like changes in preferences and something which would a steam train, really benefiting from globalisation. have happened any way but at a much slower pace. The much vaunted City has been doing satisfactorily Mr Hutton: You might want to ask the Futures but it has not been growing as rapidly as some of Foundation to give you evidence. They have been these. That is an important point. I think that we tracking what has been behind this huge demand for need to understand it better and then start thinking over 20 years. They have a matrix of factors which about how one could support it. Much of this is try to explain people’s buying decisions. about allowing it to do things at arm’s length. The Increasingly, ethical questions, environmental state getting involved too closely for example in the questions and questions about how can this product creative industries is problematic. On the other or service I am buying actualise or improve my life hand, institutions like the V&A, the South Bank as a human being are really rising up the portfolio of centres and the BBC, which are at arm’s length from buying decisions than just: it is cheap, I want it, I will the state and have big public support through things have it. Prosperity is a necessary condition for that, like the licence fee or grants administered by the Arts obviously, but what is interesting and what people Council, have worked rather well. We have to be did not quite expect is the very rich way that much more subtle in the way we think and talk about prosperity has allowed people to express themselves the knowledge economy. Obviously one is not in how they buy. That has produced this supply picking winners; one is not interventionist. One has response. We have been quite good at the knowledge to think about the institutions that we possess that service part of it but much less good at the help it and we really have to make sure that we knowledge industrial part of it. identify them, grow them and support them. That is not happening suYciently to my mind. Q187 Mr Weir: One of the features of your evidence and that of NESTA was that the UK performs Q188 Mr Bailey: Ian, you touched on this earlier. strongly on a large number of knowledge economy Basically, would one of you like to define what the indicators, despite relatively low expenditure on implications in terms of the labour market are from infrastructure. Perhaps you have answered this the growth in the knowledge industry? question to some extent in what you were saying Mr Brinkley: I think three things: one is that it is about reindustrialisation. In these circumstances, absolutely crucial in terms of generating jobs and why make changes to policy? getting unemployment down and getting higher Mr Hutton: If I was asked to describe what the rates of employment. This is where most of the net Government’s policy is on the knowledge economy, change has been taking place. Overall, these tend to or indeed the Opposition’s position on the be on average pretty good jobs as well, so it is also knowledge economy, I would be hard put to it to improving the quality of employment as well as the come up with that. Both parties are in favour of it, quantity. We looked at two specific questions: is it and I am sure the Liberal Democrats are too. You the case that you are now driving towards a vast are right: if it is working, do not try to fix it. In some labour market with more of these very good of these phenomena like knowledge services, knowledge economy jobs at the top, lots of these Britain’s success in auctioneering or Britain’s success rather poorly paid jobs at the bottom, and the in advertising or Britain’s success in its university middle contracting, partly because of the sector, which is very autonomous in Britain, and that contraction in manufacturing? Our research is one of the reasons why it is so successful, has very suggests that that trend was certainly true in most of much come up from below. No-one set out to say, the Eighties and the early Nineties, but over the past Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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2 April 2008 Work Foundation decade it has not become any worse, so there is some Mr Hutton: We have done some work with the stability there. There is still a basic problem because North StaVordshire Partnership which asked the obviously it certainly is not getting any better in Work Foundation to look at North StaVordshire terms of the inequalities and divides. The one which and the Stoke economy, which is very similar. It is is increasingly on our mind is these regional and tough. Some parts of the West Midlands do have local diVerences, that the knowledge industries are strengths. It would be wrong to say it is all weakness. very much concentrated in the South-East of Birmingham University has a very strong England. Although, as Will was saying, you have engineering department, but it is absolutely well these pockets outside, if any government was below critical mass. We will have to think about the interested in trying to reduce both regional institutions that the knowledge economy feeds oV. diVerentials and diVerentials within regions in terms These are very strong FE colleges and universality of both employment rates and prosperity, then we research departments; they are not just knowledge need to see that map of the knowledge-based economy multinationals. An interesting industries change. What you see is a very diVerent phenomenon which Ian can talk about is the map, if you look at both the public sector and the emergence of firms between 250 and 1,000 strong private sector. The public sector, as you would which are going gangbusters in Britain. This is one of the reasons why I am a bit less pessimistic about expect, is much more evenly spread around the the credit crunch and its impact on the economy than country because it is providing universal services. It I would otherwise have been because they are very is the private sector which is piled up in the South. I adaptable with high exports but they are not in your think the challenge is to try to get that private sector part of the country. Part of it is about the city map look a bit more like the public sector map in governance. What has worked very well in terms of its spread, without losing the advantages Manchester is the way Howard Bernstein had that we have from these knowledge-based services. actually got Manchester together to exploit Mr Hutton: If you look at the map, the South-West, opportunities. SheYeld and Leeds have been well Wales and the Midlands are really weak or led. These are well led cities. They have seen what has comparatively weak compared to London and the been going on around them and they have had the South-East. Then your eye trains north and it is governance structures to capitalise on it. In the West Manchester, north Cheshire, Leeds, SheYeld, the Midlands I think the governance structures are very area I described as the golden triangle (Leeds, weak and the institutions are not fit for purpose. The Harrogate, York) that are really quite strong and result is that you see what you see. Bristol is not as growing, and the universities there are doing very strong as it should be, frankly, in my view, but in our well. You can see that. I sometimes think that is not numbers it has a strong university and the aerospace just about some of the institutions on the ground industry. It should be doing better than it is doing. there, which are very strong; it is also about the That is my answer. It is very diYcult. There is no demand eVect. There are a lot of consumers in a belt magic bullet. running from Liverpool across the Pennines. It is a huge source of comparative advantage for that part Q190 Mr Bailey: I knew it was a diYcult question. I of the world. There are close on 20 million people wanted to see how you handled it. I suppose it boils there. It is beginning to float. It is the biggest down to: what are the key factors which determine challenge to the conventional north-south divide in where the private and public sectors invest their a way. There are strong numbers in the South-East, knowledge resources? Perhaps you would like to say an emergent bracing strong knowledge economy a few words about that and then I will take it back either side of the Pennines, and a rather weak and make one or two suggestions. middle. It is not the conventional way people think Mr Hutton: We are publishing our report on Stoke about Britain. Of course, your eye trains north and in a few weeks’ time. I think it does have implications Edinburgh has a very strong knowledge economy. It for other parts of the West Midlands. The private is breaking up old regional culture. The way all of sector will only come into areas like yours, to be us—the commentariat in the newspapers, politicians brutal, if it sees, over a reasonable planning period, and oYcials—think about Britain needs to be the chance of making some returns. It might do that slightly re-thought in the light of the way the if there are existing strengths. One has to be quite knowledge economy has been changing things on ruthless about looking at the strengths of particular the ground. parts of the West Midlands and saying that it is only really by building those up and getting the local authorities and politicians like yourselves to abstain Q189 Mr Bailey: Interestingly, if I can paraphrase from “I want a bit of the pork” and to recognise that what Ian said earlier, basically the polarisation if you spread the jam around and do not focus it on process has now been stopped but not reversed. My a few things that have a real chance of becoming experience is from representing West Bromwich national institutions, maybe European or global West, the Black Country area. I am tempted to ask: ones, then you have lost the plot. I find it is very what has the knowledge economy got for Tipton? diYcult for local communities to face that. It is a What are the factors that lead to these clusters of very brutal thing to have to confront. If there is some knowledge-based industries and what can be done money coming from the regional development for areas like mine which have totally missed out agency or from central government, everyone wants on it? to see it spread round equitably, but the honest truth Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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2 April 2008 Work Foundation is that you may have to focus on something that will Midlands there is Warwick University, as you said, allow the regional economic fire to catch and then Birmingham which is an excellent university itself everybody will get warm. If you just spread the and there is the A38 technology corridor. We are tinder around, there is no fire. Do you understand trying quite hard. I have said to my own constituents the analogy I am trying to make? that there are quite a lot of rich consumers around and yet we are still not cutting it like others. Is there Q191 Mr Bailey: I can understand it. I have to say it anything else that we could be doing? is not all doom and gloom. Mr Hutton: Goodness me, you are right the East Mr Hutton: I agree. I am not being excessive. I am Midlands, Warwick University, Leicester, trying to be balanced but it is less successful than in Nottingham and Derby are in better shape than the other parts. Twenty years ago you would have said West Midlands. that SheYeld and the West Midlands are very similar. That is my point. Q195 Chairman: Warwick is the West Midlands. Chairman: We are wandering a bit away from our Mr Hutton: You claim Warwick and Julie Kirkbride main subject. claims the South Midlands. Derby is a very interesting town. Toyota is a big employer there and Q192 Mr Bailey: Could I ask a supplementary on a so is Rolls-Royce and there is still some of the old totally diVerent angle? Basically, why do women do British Rail engineering. There are a lot of industrial better than men in terms of the knowledge economy? apprentices there. I think that with the fall in the Mr Brinkley: It is partly because the supply of labour exchange rate, you are going to start to see that re- has shifted much more towards women, and so we industrialisation eVect hit Derby. Some social have many more women graduates coming in to the indicators have determined this very well because of labour market. Women have been increasing their course it is getting young boys in particular to come share in particular science areas—the life sciences into industrial employment. It is not all doom and and so on. The knowledge economy has a huge gloom but Derby has these assets that it can build demand for graduate level labour and the shift in the on. Some of those are just the way the dice have graduate population has been much more to women. fallen historically. There are possibilities with the There has been a very big supply response. Where lower exchange rate that Stoke might even do women perhaps do less well than we thought they something with its ceramics industry. It should not might tends to be on wages. You still see some just be written oV. I am sure if one looked closely, as significant gaps in wage levels amongst relatively I know Liam Byrne who is the Minister for the West skilled people you might term as knowledge workers Midlands is doing, and Advantage West Midlands, between men and women. That still seems to be a there is good work being done. They are keenly persistent feature. I think women are doing quite aware of these trends. You need to look hard at the well in terms of the quantity indicators and perhaps institutions that you possess, private sector and less well on the wage indicators. There is a broader public sector, and put in not just money but status puzzle about why this expansion in the knowledge and maybe planning support where they need to economy has not fed more strongly into some of the expand and to try to build them up so that you have improvements in the equality indicators that we see. some of the assets in the West Midlands that other parts of the country have, those who are exploiting Q193 Mr Bailey: Would you say that there are these trends that Ian and I have been talking about. certain areas of the knowledge economy where women have done much better than others and there Q196 Miss Kirkbride: You said earlier that we need is some potential in other sectors? to make more use of our universities and particularly Mr Brinkley: They seem to be increasing their share the Russell Group and it comes down to money. pretty much across the board. Where they come out Where and what should we be building the Russell particularly strongly tends to be in areas like Group universities with outside the South-East? business services, but also in the public sector based Mr Hutton: That is because I have noticed in our knowledge industries. Health care and education are studies that you cannot tell the story of what is enormous employers of better educated women, taking place in, say, the golden triangle in Yorkshire probably less so in areas which have been more without thinking about Leeds, SheYeld and York traditionally dominated by men and so the financial Universities. Those are strong universities. Similarly, services and the City are still very much a male you cannot tell the story about something in preserve and so are parts of high-tech Manchester without the strong universities. These manufacturing. are very good. Liverpool has had, for the first time Chairman: As Parliament tends to be, Julie since the early 1920s, a net migration back into Kirkbride! Liverpool in the last couple of years. Liverpool University has one of the finest medical faculties in Q194 Miss Kirkbride: At least I earn the same as you, Europe. These things are great and they Peter, or I do not because you are Chairman of a interconnect. If you look at the international league select committee. Were I to be, I would. Three out of tables, our Russell Group universities—and Oxford four of us are Midlands members, so we are slightly and Cambridge are always at one and two and the sobered by what you said that we are so losing out. strong London ones like Imperial are always in the I am not sure what more you can add to this. Whilst next five or six—like Leeds, Manchester, you were talking, I was thinking that in the South Nottingham and Bristol are inside the top 50 in the Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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2 April 2008 Work Foundation world league tables. We need to understand why firms need to scale up. That is critical. I wonder they do so well because we do not fund them very whether we should be thinking about either well. I think it is partly because they are institutions like a knowledge bank or, if you do not autonomous; they have autonomous governance want to go that far, ways of using the tax system to structures, so the vice chancellors have a capacity to help the private banking system support knowledge build up the intellectual faculties. They have a firms at that stage of their development. capacity to do independent R&D. Some of them are networking together now. I am slightly concerned Q199 Chairman: I am sorry to interrupt you because about the way we think about universities. that is very interesting. Funding of innovation is a Universities are one of the most important assets of really important theme, no doubt, and there is quite the knowledge economy. We do not want to kill the a lot in the Innovation White Paper about this. goose that lays the golden egg by thinking of them There is a lot about R&D tax credits and so on but too much as sources of economic regeneration or the funding gap of small start-up innovation sources of wealth generation. They are sources of companies, up to about £2 million, seems to be knowledge generation, first and foremost. I think almost more important than having big companies that should not be compromised. I would like to see that will probably do it anyhow. a significant increase in the flow of grants for Mr Hutton: It is beginning to happen in that belt I research. We probably need to allow them to raise described—Liverpool through Manchester, more money, particularly those in the Russell SheYeld and Leeds. You are going to see small firm Group, by putting up their fees. I know that is formation but you are not seeing that happening Y di cult politically. We need to get resources into enough because they have demand to help them. In them from both the public and the private sectors the absence of demand, the pace of growth is going and simultaneously respect the way they operate to be that much slower and consequently you are constitutionally as independents and knowledge going to need more finance to help you through, and generators and accept that some of the benefits will particularly in the first three to five years of your life be indirect and if you try to force-feed it, you will as a small firm. It has been a long-standing gap in kill it. Britain. It was identified by a predecessor to you in 1931 as the Macmillan gap, and here we are in 2008 Q197 Miss Kirkbride: Earlier this morning you were and it is still there and evidently, more important I talking about international comparisons and how think in 2008 arguably than it was in the 1930s. we are in the second league and America, Japan and Chairman: We are running out of time and we still the Nordic countries are in the first league, with have quite a lot of ground to cover. southern Europe in the third league and China and India somewhere lower. Why is that? What do you Q200 Miss Kirkbride: You have mentioned the V&A think the defining characteristics are that create and I think the museum section is absolutely that list? brilliant. The fact that it can no longer charge means Mr Hutton: The US and the Nordics are out in front. that it is financially strapped the whole time. What Japan is just tucked in behind them. They are really do you think of that? Does that have a deleterious beginning to pull away. Then there is a middle tier of eVect with regard to the knowledge economy? which we are one. Then there are aspirant knowledge Mr Hutton: It is a trade-oV. If you do not allow them economy areas. The precondition for a successful to charge, one way or another they have to find knowledge economy has got to be investing in revenue. Mark Jones is either saying he needs non- knowledge. That means universities, R&D and doms to give him grants or he needs the Government software. Secondly, you do well if you are open and to give him grants or he needs to be able to charge. not closed. Like globalisation, you need to keep What you cannot have is a great institution like that barriers down. I do think it is about support for the unable to build up its collections, unable to mount institutions, not just the universities but all the the exhibitions, unable to do the dissemination and institutions that really drive it. It is about design. It education. is extraordinary that the V&A for example or the Design Council or some of our FE colleges that Q201 Chairman: You have answered on support design have their backs against the wall like internationalisation but I am concerned that in your they do. You do not think of them as part of the report you say that the UK has a weak anchor on portfolio of things to do but they are part of the competitive spending in the UK. You use that portfolio of things that you have to access. There is phrase. How worried should we be about that? more besides. You also have to have structures that Mr Brinkley: I think that is going to pose major permit your small and medium sized firms to scale challenges in the future. R&D is becoming much up. I am really quite concerned about one thing, and more mobile. Companies are increasingly being I do not know whether NESTA said this. Jonathan attracted to locations in Asia, not just because it is Kestenbaum has drawn attention to the fact that cheaper but because it is where they think their 3i— future markets are. Because so much of our R&D is funded from overseas, then the anchor which would Q198 Chairman: He did mention that. normally attach it to the home market is much Mr Hutton: I think that is very serious. I also worry weaker for us. Although up to now we have done about the impact of the credit crunch on the banking quite well in terms of attracting foreign R&D into system supporting and giving the loan finance that the UK, I think it would be very unwise to assume Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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2 April 2008 Work Foundation that we could keep that position, unless we reinforce it to places like Asia is that there is demand growing the attractiveness of R&D for foreign companies there and so the same ideas may have a slightly here. diVerent application in Shanghai or New Delhi or Mumbai than it does here. Consequently, they need Q202 Chairman: We have heard it said that R&D to have that capacity. We should not be worried location is often a function of where the head oYce about that. That is part of the inevitable process of of the business happens to be, though actually global opening. As long as we are doing the right interestingly enough 80% of British automotive things, we do not want to be too worried about other R&D is done by Ford, who I suppose have their people doing the right things too because a rising European headquarters here but they are obviously tide will float all ships. not a British company in that sense. Do you think that relationship with head oYce and R&D is an Q204 Mr Weir: In their evidence NESTA was important one or is it actually attractions to the making a distinction between innovation in coming environment now in which the R&D is conducted? up with a patent or copyright as opposed to Mr Brinkley: It is still very important. Overall, innovation in systems within the public services. Do roughly 70% or 80% of R&D tends to be done in the you see innovation in the public services as opposed home market with the head oYce. That relationship to in a product at the end of the day and, if so, what is still quite strong but it is getting weaker. are the major forces driving that innovation? Companies, even in areas like Germany, France and Mr Brinkley: Innovation is certainly very important Japan where the home pull is very strong, are now in the public sector. I do not think we understand it starting to think about shifting their R&D around very well compared to the private sector. I think we the world. When you talk to the high-tech have a reasonable grasp of some of the processes that companies in particular, one of the biggest work in the private sector. I am not sure we have a considerations on their minds is whether they can get good grasp of how it works in the public sector. access to high quality human capital. Obviously the When we have looked at it, the biggest single driver tax breaks and the tax credits are an important tends to be things like the drive for eYciency and aspect of it but increasingly they are looking for savings, which then tends to produce diVerent where the world, centres of excellence are in science, initiatives and particular innovations. In recent engineering and technology. That is where they will times, that seems to have been the biggest single be tending to put their money in the future. factor in driving innovation within the public sector.

Q203 Mr Weir: Your evidence recommends Q205 Mr Weir: Do you think Government should increasing public sector R&D spending but does not be spending for R&D in that sector as opposed to, specify what that should be on. Do you have any say, the university sector and things like that, views specifically on where that public sector R&D research into an end product, into systems and how spending should be made? they work for innovation rather than end product? Mr Brinkley: We do not. It seems to me that is a Do you see that as something Government should be function you really want the Technology Strategy investing in? Board to take a view on. Certainly reinforcing the Mr Hutton: I do think we have to be careful about knowledge economy base and our knowledge what we are talking about here. In any organisation economy strengths would be one of the key criteria like a hospital there is a process for dealing with this. I would have in my mind. If you go to an A&E department in X hospital Mr Hutton: You have to be brave and direct this tomorrow with a twisted ankle, there is a well research and development. Original research is going understood process that you will go through step by to take place, brutally, in university laboratories and step and, at the end of it, you will get whatever you departments and at the dozen top multinationals get. Innovation could be about the process or about and that is what is going to happen. You have to the kind of suite of treatments that are available to make sure they have it and thus it is anchored here. deal with a sprained ankle. They are two very Then you have to think about ensuring something at diVerent things. The British public sector for my which Britain has never been very good, that you money is quite innovative about process. We do not then get the development from the research. That is have in the public sector the kind of breakdown that about building university business linkages; it is we would have seen in quite a lot of private sector about institutions that will support business start- process, like for example at Terminal Five where ups; and about the financial systems supporting that. there was insuYcient attention paid to what the I want to emphasise what Ian has been talking process should be. Quite a lot of that takes place in about. Co-innovation we think is very much a the British private sector. Where the public sector is phenomenon of the knowledge economy, close weak is in coming up with the new thing. It does that relationships with consumers as you develop a because of the things that Richard Halkett was product. It is a two-way process. You dry run talking about—profound risk aversion and very something, it does not quite work, you bring it back. heavy costs for getting something wrong with the This is how you need to be close to demand. As long new thing, where you get kicked and the present as we have the funding right for research and as long accountability in the way that the media operates. If as there is a critical mass of rich consumers, it is you do get it wrong on something that is of universal likely to be that the companies will keep their benefit, quite properly you are kicked around the research eVort here. The reason why they are taking place. I am not certain that we can ever look to the Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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2 April 2008 Work Foundation public sector to be innovative in terms of oVerings, Mr Brinkley: I am tempted to go for the wages but we can expect to be innovative in terms of explanation in some ways. It is one of these puzzles. process. That is quite an important distinction. The If you look at science, engineering and technology only part of the process about oVerings is probably graduates, and this is not just true for the UK as it the BBC and its programming. is obviously true elsewhere, an awful lot of them are ending up in the finance industries. Given that it Q206 Chairman: We are just going to ask some quite takes a lot of money to train these people up to diYcult questions and I hope we can be given quite graduate or post-graduate level, it is not obvious to short answers so that we can let you go in a me that that is the best use of their particular skills. reasonable amount of time. The one thing that That goes hand-in-hand with the fact that many of intrigues me is when you are talking about the UK’s these industries complain that they cannot get the target of 2.5% of GDP in terms of R&D. You high quality of people they need. A number of describe that as unhelpful and impossible to achieve inquiries have pointed out that there are wage in practice. Why, and are there any targets that it is diVerences between what an engineer can get in some worth aiming at? of these industries and what they can get in the City. Mr Brinkley: The why is simply that our industrial There must clearly be a wage problem there. structure will not allow us to do this. Our R&D Whether it is realistic for these industries ever to intensive industries are not big enough relative to match the salaries that the City can aVord to pay, I GDP to allow us to hit the 2.5% figure and that is do not know. Looking at the wages, salaries and why it is unhelpful because you are set a target which conditions relative in those two sectors must be part is unrealistic. I would be looking much more at R&D of the adjustment process. intensities within particular sectors, so you are Mr Hutton: One reason why City salaries are so high looking at is the aerospace sector— is because of the irrationality, as we have been discovering over the last 12 months, of the bonus Q207 Chairman: There is a high level of R&D there structure in the City where people are paid bonuses but a lower level elsewhere. for allegedly alpha performance but it turns out that Mr Brinkley: I would be looking at R&D intensity it was very beta performance. All they were doing in sectors like aerospace and how does that compare was riding a bull market in equities and then they with the aerospace sector in the US, Japan and all pay themselves extravagant bonuses for one year’s the rest of it. That seems to be a much more sensible performance, and the next year, if the performance approach than doing the GDP one. turns down, the bonuses go down and so does the performance. Are you going to take evidence from Richard Sykes at Imperial because he will tell you Q208 Chairman: That is very helpful. You were very that it is amazing; there are some classes where all critical of the CSR strategic framework for the but one person has gone into the City. Then you get knowledge economy. I would be intrigued to know ICT or new power companies; I know that EDF what key elements of the framework you would like Energy and ICT companies complain that they to see. I imagine you will tell me to wait for your final cannot get graduate level skills and they have to report, which is a perfectly acceptable answer. bring them in from the EU or from elsewhere. It has Mr Brinkley: To some extent but what we are become very distortionary. looking at is to try to join up the various elements which we know are important to the knowledge economy. It is joining up the eVorts on R&D and on Q210 Chairman: You are talking about people higher education and the encouragement of our qualifying in these much sought after skills and then knowledge service exports. At the moment, we have going to the wrong place to use them, whereas John elements of these polices but they are scattered all Rose when he came before us was actually saying over the place; they are not joined together in a that you need to make them want to acquire science coherent way. It is that joining up that we are really and technology skills in the first place. He talked looking for from the CSR. Ideally, we would have about the worries about the closure of physics liked to have seen a cross-cutting review of the departments at universities, which is a real concern. knowledge economy in the last review. It was not He said that industry needs to send a clearer message there. I think that would be an excellent thing to go that there is demand for these skills and that people into the next review. want to take these courses. The nuclear industry is a classic example. We sent a very clear message that we Q209 Chairman: I was intrigued by one thing you did not want those skills and now we need them in a say in your interim report that training more science hell of a hurry. Is there any way that we can send a and engineering technology graduates is ineYcient message out that there is demand for these skills? because they all go to work in other sectors. That is You say in that excellent article a year ago and you a bit counter-intuitive. I know the point you are have said it many times since that the appreciation making. There are a lot of highly trained scientists in of manufacturing is wrong in this country, that it is the City of London. You say that sectors like a lively and dynamic sector. What can we do? information technology report shortages of Mr Hutton: Your report might do something if you graduates with maths and computer skills. Is it can get on the television and radio and say things like ineYciency in the training or is it that somehow it is that, Peter. It is about taking a whole system view, is this age-old problem of not paying high enough it not? Doubtless if you were taking evidence from a competitive salaries in these careers? group of British financial institutions, they would Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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2 April 2008 Work Foundation tell you how dire it is and how the comparative choices that people who get very good ‘A’ levels are advantage of London cannot be taken for granted making in the north of England. They do not want and so on and how they must have access to all these to go to Oxford and Cambridge but go to their local people. There is some truth of course in what they Russell Group university. That is a good trend say but it is so true that it should be as biased as it is? because Leeds and Manchester are good places to I think there is an issue there. Again, we are where we be. It is also about trying to weaken the London are in Britain and I do not know whether I will ever eVect. It is a complicated system. witness it. If we could say to young men and women who are making decisions about where they are Q211 Chairman: The London eVect is dominant. going to build careers that there will be a nuclear The London media are here. The BBC is here and the industry in 20 or 30 years time because there is a papers are here. They see London and they think it national consensus around it and we are going to is the centre of the universe and those who live build nuclear power stations and you could have a elsewhere know it is not. great career in it, that would be the answer to your Mr Hutton: Mark Thompson is talking about taking question. People smell, quite rightly, that the City of a channel of the BBC to Salford. I think Manchester London is going to be a place which probably this has the best chance of any British city of really being country is going to carry on being good at and policy like Chicago or LA is in the States. It does not all makers will carry on supporting and a lot of money happen in New York. has been made, so let us go there. You have to help Q212 Chairman: LA is quite an optimistic note on people think that these industries have a future. That which to end. is one of the good things about the way the DCMS Mr Hutton: Manchester can do it. has developed this thesis about the creative industries; people need to think that there is a career Q213 Chairman: Cambridge already qualifies as a to be built by going into the creative industries as one windy city,I think. Gentlemen, thank you very much might have done going into the financial services indeed for a very interesting session. We are grateful. industry. We need to start thinking about going into If there is anything later on, because we are carrying ICT and into high-tech manufacturing. That should on with this inquiry for some time yet, that you think be thought of in the same way. Another part of the we ought to hear about, please let us know. We are problem is that young men and women do not grateful for your time and trouble and for your particularly want to go to Derby or these places. excellent written evidence. They might want to go to Manchester or London Mr Hutton: Thank you. You might want to see the where the bright lights are. This is their big map of the knowledge economy, public and private, opportunity and you are beginning to see it in the regionally. I will give those to the clerk. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

Ev 48 Business, Enterprise and Regulatory Reform Committee: Evidence

Monday 12 May 2008

Members present:

Peter LuV, Chairman

Mr Adrian Bailey Mr Mark Oaten Roger Berry Mr Anthony Wright Miss Julie Kirkbride

Witnesses: Professor Michael Clarke, Vice-Principal, and Dr James Wilkie, Director of Research & Commercial Services, Birmingham University; Professor Madeleine Atkins, Vice-Chancellor, Professor Ian Marshall, pro Vice-Chancellor for Research, and Professor Keith Popplewell, Director of Future Manufacturing Applied Research Centre, Coventry University, gave evidence.

Q214 Chairman: Can I, first of all, thank you for supporting this transformation in the economy. facilitating what is, Professor Atkins, a very Having said all of that, it is one of the slipperiest interesting session, and important for us, and thank concepts around and capable of being given all sorts you for allowing Birmingham to intrude on of definitions. Coventry on this occasion. This is an important but rather elusive inquiry; it is a theme that has occupied politicians and policy makers for a very long time, in Q215 Chairman: Do you think there has been too fact, you have been telling us how the very origins of much public policy and public discussion emphasis university have their origins in this question, but in on the question of invention, discovery, as being an increasingly globalised and competitive world it what universities contribute to this process? We see becomes an ever more important question, and we here that is very much not your understanding of the are very fascinated by what we have learned already process, but more generally do you think public informally over lunch, for which we thank you. It debate has been shaped too much by the blue sky seems an obvious question but I think diVerent thinking and entirely academic institutions universities answer it diVerently. What do you think developing new ideas which then become brand new a higher value added economy is, and what role do products? Has there been too much emphasis on the universities have in hoping to foster it? innovation process? NESTA have talked about Professor Atkins: We would say that the definition is hidden innovation; you referred to services in your beginning to move outwards from a manufacturing answer. How useful do you think that concept of product orientation to something a bit broader hidden innovation is? which would include service areas and new sectors of Professor Clarke: I would like to see as broad a the economy, not just manufacturing. So we would definition as possible given to the concept of see the high value added question as being innovation. Having said that, it is possible that over appropriate to services, and to the way in which much attention has been given to the role of people work. For example, some of the expertise we fundamental research, but I think we need to have here on location independent working, which is remember that the development of the firm or the all about how people manage their time, may also be economy will not happen without the fundamental, part of what innovation is going to look like in the blue skies, as you described it, research work being future. How should we as universities engage with undertaken. That is not to say every university that? Well, I think through the courses and the way should be involved in that or involved in that we design the learning experience of students so that intensively but that needs to go on, and without that graduates go out with the right level of skill and we would be a poorer economy. Just to give you an knowledge to support a high value economy. example, sitting behind me is the Chair of the Through the applied research we do working with Regional Development Agency. Now, I mention the companies obviously, focused on innovation and Regional Development Agency because in the West creativity, and their productivity or, in the public Midlands they have taken one very interesting sector, improvement in service in some measured initiative which has been to recognise the importance way. And through knowledge transfer, which is of fundamental research in development of the product-based and IPR-linked, but also much economy, not to the exclusion of other things but to knowledge transfer happens on legs through high recognise that, without the presence of fundamental skills training. So in all those three areas we support research in the region, then the region will be the a higher value-added economy. poorer for it. As I think you know, AWM have Professor Clarke: I sign up to all of that but would funded or are funding a programme of collaborative add one point: that it is the addition or insertion of work between the two major research universities, knowledge into the production, broadly-defined, Birmingham and Warwick. They are interested in process, and that gives you the clue about where capital infrastructure to enable those two universities stand in all of this because, as Madeleine universities in three key areas of the regional said, through teaching, through research and economy to develop programmes of research which developmental work, universities are by their nature will keep the West Midlands at the cutting edge Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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12 May 2008 Birmingham and Coventry Universities internationally. Now, that is not to deny the carefully about what they want to do and explaining importance of any other research or development it carefully to potential funders. For example, within activity, but is one particular take on it. this region we have the INDEX voucher scheme Professor Atkins: As I said when introducing running as a pilot, run out of Aston University for Coventry University to your Committee, the the older universities in the sector, partially funded importance for us is to have a definition that does by EPSRC, ESRC, Advantage West Midlands, embrace the near market and the exploitation of ERDF, ESF funding which enables SMEs to get a known ideas as well as the blue skies end. And voucher for £3,000 worth of consultancy, and that certainly for universities such as Coventry what we has been used by companies as diverse as you can have become concerned about is too narrow a think of, from small manufacturing companies definition of innovation which precludes attention to through to service industries, and it is a really nice new sectors in the economy which are emerging. For innovative way of encouraging people to get example, an over reliance on manufacturing and an consultancy, to take product ideas, process ideas, ignoring of things like digital media which we would service ideas, and enhance them. say is short-sighted. Or an understanding of Professor Clarke: Could I just take you back a innovation which is very much bound up with moment or two? It is really important not to just product and not with process and service design. We think of innovation in relation to the sectors of the think that innovation embraces those aspects just as economy we have just been referring but to the much as it does product, and for the kind of country public sector as well as the private sector. It is that we need to become then innovation in service diYcult to believe that an economy is going to and process is likely to be as important as innovation innovate into private sector if public sector is not in product. innovating as well, just to underline that. Secondly, to make a slightly diVerent point, in your earlier question to me I think there was reference to the Q216 Chairman: Universities UK’s written evidence implicit disjunction which there is often seen to be to this Committee was very critical of R&D between the wealth creating sector and the definitions and said that they exclude much of the fundamental researcher. In the collaboration I was creative and service industries, which obviously referring to between Birmingham and Warwick we concerns me, and you have just focused on that. are trying to make sure that business interests are Does this have any issue when it comes to funding involved at the stage of conceiving research projects the work you are doing? Is there any problem with and living with the research projects as they develop, accessing funding for the work? as well as trying to look at the end to application. Professor Atkins: Certainly here with Advantage Chairman: I think in a sense you are moving on to the West Midlands we are getting very good support for questions Roger Berry wanted to ask at this stage. work in the digital media and the creative industries. I think it is not at the level of support given to some other sectors, but Advantage West Midlands was Q217 Roger Berry: On the question of innovation, one of the first to recognise that these areas of the Advantage West Midlands in their opening economy were going to become important. I think it comments states that the West Midlands has a poor would also be fair to say that the Technology overall track record in innovation. Would you like to V Strategy Board has been quick to recognise some of o er your views why? these newly emerging sectors as well, and we are Professor Atkins: I am sure you will also be putting getting positive signals from them, for example in that to Advantage West Midlands. serious games. Professor Marshall: The transfer of technology from Q218 Roger Berry: I certainly will! the entertainment games industry into other sectors Professor Atkins: I have come into this region from of our economy is a classic example of where we can the North East where I was for 20 years, and I would take one aspect of research and development and say this region has considerably more understanding innovation and perhaps create another completely of the innovation process than the North East, diVerent use for it which is a definition of certainly when I was there in Newcastle University. innovation. So in terms of serious games, although I think some of the issues five, six, ten years ago, were it is a small embryonic industry at the moment, it can perhaps not understanding where the new sectors in draw on the back of a lot of very good research and the economy were coming from. And also the development work that has been done by the dominance of the manufacturing sector in terms of entertainment games industry over the last 20 years. concepts like supply chain, which did not actually Advantage West Midlands to their credit have co- apply to some of these new emerging sectors, like for funded the Serious Games Institute with Coventry example digital media, where the whole way in which University, so it is possible to get funding, and there you get to market is diVerent and so on. And I think are a number of very good initiatives running within it perhaps took a little while to open up from a this region. We are involved in projects again funded predominant focus on the manufacturing to an by Advantage West Midlands to help games understanding that there are other ways in which companies diversify, we are involved in projects to markets are made and other sectors that need to take the technology into other sectors. It is perhaps come through. I think to some extent that would be not funded as well as, let’s say, manufacturing, but it true in Coventry, which was the car capital and certainly is there and available. Part of it is about the where, by history, people have associated innovation university sector being slightly creative, thinking with very large companies, rather than with micros Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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12 May 2008 Birmingham and Coventry Universities or with associations of micros, or with medium-sized portfolio than trying to set up, for example, a spin- companies working with others, not just in this out company, and I know you will hear something country but elsewhere. Advantage West Midlands later on about spin-out companies which are will speak for itself, but certainly the analysis that successful in their own right, but they are a diVerent was made in the last RES and continued into this is way of a university engaging in the world outside. that the innovation diYculty lies with the medium- Interestingly, on licensing, just to come back to the sized companies in particular, which have bumped question on barriers, if you have a good idea and you along OK but which have not necessarily taken on have it intellectually protected, first, you will sell it some of the new technologies or the new ways of anywhere in the world, it will not just be this region doing things that they might have done. And this is that will benefit; those licence revenues, most of one of the things that the university sector is trying ours, for example, will probably accrue from abroad to engage with at the moment. There may be some rather than just the United Kingdom. Secondly, other analyses one could oVer but those are some of discussions around that kind of interaction of the the points that occur to me in answering that intellectual capital over HEI with the outside world question. historically tend to be the province of the larger organisation. So if I am trying to license something Q219 Roger Berry: One of the observations that, it is more likely that a large major multinational will again, Advantage West Midlands make is that be interested in talking to us about it than a regional business expansion on R&D shows the West SME, for example. Partly that is because there is an Midlands to be seventh out of the nine English education process that needs to go on in your small regions. Now, someone has to be seventh, eighth or and medium-sized enterprise, and let’s not forget ninth, but it does ask the question why,in this region, these are very busy people running moderately small business expenditure on R&D is ranked so low, like turnover businesses who do not have necessarily the in the latest figures. time or the understanding to find it easy to engage Professor Clarke: I agree with what Madeleine has with someone such as ourselves, which is why part of said; I think to understand this region you need to the remit of not just the University of Birmingham understand the impact of the 1980s on its traditional but Coventry and Warwick and other universities in industries. It is interesting, if you look at the current this region is to set up some sort of unit that is able regional economic strategy and the strategy of the to engage with the region as well as to do the region’s Innovation Technology Council, which is international deals, and a large proportion of that is our equivalent of the Regional Science Council, the education of these businesses in the way in which key sectors for growth are sectors which simply they need to work to interact, and the eVort it will would not have been evident 20 years ago. That take them to interact successfully with an HEI. One probably tells us something about the impact on possible way of lowering that barrier would be to current R&D spending. I am not familiar with the provide resource for those commercial entities to statement of Advantage West Midlands and I am interact with the higher education institution. The not sure precisely what period it is referring to, but INDEX voucher scheme was mentioned, we have in a way it does not entirely surprise me, given that also been oVering another scheme out of the piece of recent history. University of Birmingham which does exactly this, Professor Atkins: And also we have no which has also been funded in our case by pharmaceutical industry, which is one of the reasons Advantage West Midlands. I am also relatively new why, for example, the North West will have a higher both to this region and to this job; I joined the R&D. There are very few sectors which are investing University of Birmingham after a complete career in in R&D, pharma is one of the big ones and there is industry last year, and my observation is that in the virtually no pharma in the West Midlands. engagement or the promotion of the assistance of that process for a university to engage with the Q220 Roger Berry: That would be true of some other regional outside world, I find Advantage West regions as well but that explains the diVerence in Midlands very enlightened in that respect compared comparison with the South East and the East and so to other agencies that I have seen. That is licensing. V on. Obviously research comes up with ideas, those Spin-outs are completely di erent because a spin- need to be commercialised if they are going to have out company by its nature is very small and almost an impact on the local economy and so forth. In your always very local, and there you are talking about experience, from the university angle, what do you creating lower barriers, and having the right kind of see as the main barriers to commercialisation of your managerial capacity available on tap to help the product, research, ideas? academics or the people with the new good idea to Dr Wilkie: I am responsible for two areas at the take the business forward, and I think my experience university, just so you understand where I am in this region is we have a substantial pool of very coming from. I have a group of people that help experienced businessmen and individuals who could university be more competitive and attract research be involved in this—some are—and one of the things funding, and also I am managing director of the we could do in this region is expand that interaction separate trading company that the university in a similar way that, for example, Oxford is very operates in order to be able to license its intellectual well networked into its particular region. There is no property and receive payments for that. Historically prima facie reason why we should not be able to do Birmingham has focused much more on attracting that here; we just maybe have not done it historically licence revenues from its intellectual property as well as we could. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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12 May 2008 Birmingham and Coventry Universities

Q221 Mr Wright: Moving on to the SMEs, part of like a 30-year time horizon, and we are providing a the Lambert Review indicated several areas to be lot of input to how they would measure their reactors improved upon, one of which was the question of and ensure they are assembled as they should be government support for business research and before they start making bangs with them. development in SMEs. Evidence sessions we had in Professor Marshall: In terms of value added, Cambridge, for instance, highlighted the fact this certainly in the manufacturing sector metrology is does not appear to be working, whereas alternatively an example of a skill where most SMEs probably do in the States, for instance, they have an amount of not have enough on-the-ground staV who have that protection for funding of SMEs. It has also been skill, so they need to be able to get access to it when highlighted by many of the other universities that we they need it and to turn it oV when they do not. But have this particular problem about the lack of again, if you look at development in that area of just money.What do you think we can do to improve this pure measurement, most of the higher value particular area, as far as business R&D in SMEs? businesses that exist in and around Coventry have Professor Atkins: Is this a question about research some need for it, and that ranges from the SME into it, or assisting? population up to the large manufacturing companies. The large manufacturing companies can Q222 Mr Wright: Assisting, but also into the take care of themselves, as you would expect, but the innovation side. small to medium-sized need access to facilities, Professor Atkins: Well, I think there are a number of resources, training and expertise and they need it things that could be brought forward and, again, it is today and now, not in three weeks or three months’ a question of barriers coming down in large measure. time. Michael and Ian have both mentioned the INDEX voucher scheme, and that does seem to have quite a Q224 Mr Wright: There are also increases in terms of lot of potential to me. At the moment it is limited the start-up and the development stages and beyond eVectively to product consultancy: I think it could be that, in terms of product development or even extended to knowledge transfer consultancy, high service. level skills training and so on. That is one area. A Professor Atkins: Absolutely, and the point I made second, I think, is around better ways of enabling before, which is that the assistance that we give to SMEs to get access to very high quality kit, and very SMEs is increasingly around process and service, high quality skills to run that kit that they cannot and not just around product I think would be a trend aVord themselves. For example, we have a that many universities would echo. We do about six metrology lab here, which is again part-funded thousand assists to SMEs each year, that is a pretty through government sources and through high number. Within that it ranges from the kind of Advantage West Midlands, and that does enable work at the metrology lab through to working with SMEs who are in the very high value game to get the a micro developing their business plan to go to get consultancy and to be able to bring their funding from a bank. So there is a whole range out measurement problems to the kit here on campus, kit there that we can get involved with. I think our they could never conceivably aVord. Institutes are one probable way forward for us in terms of a model because they combine space for Q223 Chairman: Metrology is measuring, is it? SMEs, and applied research and the students on Professor Atkins: Yes. It is not the weather! It is placement. The students are pretty much involved in measuring, and there is a range of SMEs that use working with those companies, and then those that centre, and the big guys as well. companies tend to take on that high level graduate, Professor Popplewell: We have a constant flow of as an employee, and then you begin to get a virtuous small true SMEs from the West Midlands and circle, because often these micros and SMEs have further afield who come to the centre both for not had graduates in their labour force until that training and for consultancy and testing out of ideas. point. So that is another quite critical area, and the The main observation we would make about them is more we can get real projects sourced from SMEs that most of them do not have a great deal of into the university and students working on them understanding of what they should be measuring or and then reporting back to those SMEs on what they how, and they get a lot of benefit from discussing the have done, the more I think it is easy to get those possibilities and the technology and the underlying SMEs across that boundary between ourselves and theory behind that technology. That is at the SME the SME. It seems one of the major ways to facilitate end. We also run courses on metrology which are progress. franchised by the National Physical Laboratory through our centre, and those are delivered again to Q225 Mr Wright: In terms of the United States, do SMEs and to slightly larger organisations such as you think there is more of a case for ring-fenced Rolls Royce Aero-engines. We take the consultancy funding for SMEs in this direction, rather than just a little bit wider than that and get into fairly cutting overall? edge stuV as well. We do not do cutting edge research Professor Atkins: What we observe is there are lots but we also work with the International Thermo of diVerent pots and they come and go. The point is Nuclear Energy research project based in Grenoble, that we do not have a consistent pot that you can which is attempting to build one might say yet really plan around. Rather for two years we are another fusion reactor to produce energy, but it is a going this way and then oops, we have a bit of money very big major international project with something left in the ERDF, and suddenly you have to rush to Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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12 May 2008 Birmingham and Coventry Universities get projects in. So it is not steady and coherent and probably for more graduates going into those SMEs therefore does not very easily lend itself to the kind and being able to work the boundary from the of planning you might want to see in terms of that other side. engagement. We do get steady funding through HEIF from our Funding Council which is very Q231 Mr Oaten: On Peter’s point, you said there is important. this hidden amount of R&D going on. Is it possible to have some estimate of the value that is put on this Q226 Chairman: I do not know whether it is just amount of R&D that you are putting in? Also how what we have seen in Coventry, but there are quite a do you decide if you are going to charge or not lot of examples of your university providing services charge? of one kind and another to the SME sector—design, Professor Atkins: That is usually governed by marketing, metrology—where they are coming here whether there is a scheme that can be used to fund either for free or paying for metrology services. that particular piece of work. So that is all sorts of Professor Popplewell: In some cases. European-funded schemes and Advantage West Midlands funded schemes and others too. I think probably the best way of putting a value on it would Q227 Chairman: Does that mean they are getting all be to look at the university’s returns under the the R&D they need but it is hidden entirely from any Higher Education Business and Community Index, measurement system, because you are providing it which we have to make each year, where we have to and it does not show on their books? put a value on our interaction with SMEs. And I can Professor Atkins: Yes. That would be a fair analysis. tell you, for example, ours from last year, (and Professor Clarke: Anecdotally, it looks to us as if an Birmingham no doubt have their own data to add), SME is more likely to come to a university for we assisted 6000 SMEs and 600 bigger organisations assistance if it is being run by or heavily influenced last year, and the total income that that generated by graduates. That does perhaps suggest that one way and another was over £2 million. universities of all kinds look a bit inhibiting from the outside, or it may not be obvious where to go to, or indeed even the question to ask. I well remember Q232 Mr Oaten: But it is the work you are doing for spending a day with a metal-bashing SME in the nothing that I am interested in. Black Country hearing a managing director who was Professor Atkins: The way one would get at that not a graduate saying that he had been to every would be to look at the funding schemes that these university in the West Midlands and was now SMEs are coming in on. It would have to be tackled working through the East Midlands one by one from that direction. trying to get the answer to the question he had and the help he wanted, and I got him to try and explain Q233 Mr Oaten: Is it more than two million? and he clearly had a great deal of diYculty in Professor Atkins: I would have thought so. In articulating the question, and because he had some aggregate across our universities a huge sum. diYculty articulating the question he had gone to the Mr Oaten: Significant. wrong people, university after university after Roger Berry: Very. university, and he felt as if he was banging his head against a brick wall. Q234 Mr Wright: In relation to HEIF, can you value how successful HEIF has been in assisting Q228 Mr Wright: And how did he resolve that? knowledge transfer, and can you give us examples of V Professor Clarke: Well, he was hoping that his where that has made a di erence? conversation with the University of Birmingham Professor Clarke: I am normally averse to was going to solve it, but it did not. hypothecated funding streams; it does not help us in our management of our institutions. However, HEIF and its predecessor HEROBC, struck me as Q229 Mr Wright: So what was the solution? one of the exceptions that in a sense proved the rule, Professor Clarke: I got a group of people to sit down and I think I would want to articulate it in terms of with him and talk through what the essence of the the culture change which has been the eVect of that real problem was. funding. If you turn the clock back 8–10 years, certainly in my kind of institution and I am sure the Q230 Mr Wright: Whose responsibility should that same in many respects would be true of Coventry, be, to make sure that that business or that SME is academic colleagues were not immediately thinking aware of where they can go to? RDAs? about the commercialisation of what they were Professor Clarke: BusinessLink on the one hand and doing, the commercial value. What that funding I think probably in this region we are quite good, as stream has done, I think, has been really to shift universities, about passing the inquiries one to the more than its designers would have guessed, I guess, other where there is expertise that we know would the culture to make academic support staV and so on be helpful. aware of the commercial possibilities of their Professor Atkins: The Manufacturing Advisory teaching, their research and their other activities. I Service is the other excellent service funded by guess it is fair to say that we have all looked for Advantage West Midlands, and all the diVerent ways of finding levers which we could pull BusinessLinks are coming together. Having said all to use HEROBC and HEIF funding to that end, but of that, at the end of the day there is no substitute I doubt whether there is an institution around which Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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12 May 2008 Birmingham and Coventry Universities has not shifted significantly. To be specific, the first Q236 Mr Wright: Overall, then, the programme is a thing we did was to allocate some of our original successful programme? HEROBC income to pay for a group of people who Professor Marshall: Yes. One of the issues certainly are best described as boundary spanners, people for SMEs is to have access for a translator, someone who either fought well and truly in academic who can take you through the corridors to the right community as teachers and researchers, but who person and then broker a meeting which means the also had a foot in the business community, and their SME comes out knowing what the problem is, what task was to help their academic colleagues find ways the issues are, and so does the academic. One of the of exploiting what they were doing in the business bigger investments that we have made is into this community, working with the business community translational capability; we have put into every to help them identify ways in which they could use faculty business development managers, business the assistance of the first category.Now, I will not say development oYcers, and, indeed, like Birmingham, that every one of those appointments was as some faculties are now putting additional resource in completely successful as it might have been, but because they have proved to be so useful. For the taken together they have moved us on a very great SME, coming in through the gates of the university, space in a relatively short space of time, and what if they have no experience of university at all it is very has been interesting has then been to see the parts of daunting, and having people who have a foot in the the university, because after all we are a very big business camp and in the academic camp who can institution, untouched by those original work as guides and translators certainly is a great appointments—preferably I would want money help. from the Funding Council to do the same thing but Professor Clarke: And the other way around, actually prepared to spend our own money to make because the most brilliant researcher is not similar appointments to ensure that activity is necessarily the best communicator—and nor should going forward. we worry about that, provided there is somebody to Professor Atkins: We would echo that. We have help in that process. achieved 50% year-on-year growth in the income Dr Wilkie: But what you are also hearing, apart obtained through partnering with industry and from the translation and the boundary management commerce and to some extent the public sector issues, is the need for ourselves as HEIs to have the through HEIF funding. Like Birmingham we wherewithal to generate the right internal established a team of business development infrastructure to deal with those things, and it will be managers in every faculty. Yes, they have also been diVerent for diVerent HEIs in diVerent places on the transforming our culture. The other successes I delivery chain, but nonetheless we need that would point out from the HEIF funding that we internally. It is very easy to sell the services of a have had, and Birmingham as well, are that as a university in the general sense, the sales pitch is not collective the universities in this region decided to that diYcult. The hard part is making sure you create put some of their money into an investment pool a project which is properly managed and which that which could support early stage development of particular institution is able to deliver in a way. This commercialisation, and that has been very successful is the normal tension in business between marketing for Coventry University. We have seen a number of and sales and production people, but in our case it is disclosures taken through to early stage the tension between our ability to sell the HEI development and then on to proper spin-out or outside and the academics’ ability within the licensing as a consequence of that. We have also used institution to be culturally aligned so we can deliver some of our money for what is known as the Speed what we promise. programme. This gives undergraduate students who Professor Atkins: That is very important, and one of have good business ideas up to £4,500 to the things we have invested our HEIF funding in is commercialise those ideas while they are students on project managers where, when we have got an SME course. We have something like 80 students on that or even a big company and the academics together, Speed programme from Coventry, and that is we put in a project manager to make sure that we beginning to pull through into a very much more deliver on time and so on. Because a lot of the entrepreneurial outlook amongst the students, and feedback we were getting, and I think this is quite many more successes in terms of potential spin-outs common, is that companies like the cleverness and from those student cohorts. So at every level it has the knowledge of HEIs, they do not like sloppy touched the student experience and the academic delivery. experience, it has certainly improved our relationships with businesses large and small. We would say we only wish it was twice the size. Q237 Chairman: I am now very sorry you are not joining us for dinner this evening, Professor Clarke, because I want to sit you down with QinetiQ and see Q235 Mr Wright: So it is a bid for more money then? whether you are in competition or collaboration. I Professor Atkins: For us the RAE is not particularly can see now they are in the same game as you! significant; we are not a university that particularly Professor Clarke: Undoubtedly collaboration. does discovery research. Cutting edge innovation, Interestingly enough, as you will hear from QinetiQ yes; discovery not so much. But with the kind of when you visit tomorrow, one of their new projects work we do we are capped at the top end of HEIF— is about trying to build links with the research base we are one of those universities that has reached the to do what after all they used to do but no longer are maximum, and we could do twice as much. in a position to do which is fundamental research. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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Q238 Chairman: Is there anything you want to say Q242 Mr Wright: In terms of the Regional about that issue publicly at this stage? Development Agencies, have you seen the role of the Professor Clarke: Just to say that I think QinetiQ is Regional Development Agencies facilitating a really interesting example of an organisation which business university links change since the Lambert is pitched somewhere on the spectrum between full Review? market and fundamental research, and they are Professor Atkins: It would be fair to say that at least developing a very interesting facility to take part in here with Advantage West Midlands universities are the translation business. becoming more central to the economic strategy and in almost every aspect of it. Whether that is directly attributed to Lambert, or whether it was because the Q239 Chairman: Which has your full support? Lambert report reflected a whole range of trends Professor Clarke: Absolutely. which were evident and pressing anyway I could not say—and I sit on Advantage West Midlands’ Q240 Miss Kirkbride: I was struck by what Innovation Technology Council. It would also be Madeleine just said about being at the top end of entirely fair to say that that has been the trend, your HEIF funding and I wondered, first, does every alongside a very fair emphasis on demand-led university get equal access to funding but some do innovation coming from the business sector. And I not use it, and, therefore, would it be a relevant way think pulling those two together has been really a major concern for Advantage West Midlands forward for this Committee to say there should be certainly since I have been here over the last four more flexibility in it because institutions such as years. yours who are here today are clearly much more Professor Clarke: If we go back to the creation of designed to operate on that level than perhaps other Advantage West Midlands the relationship between universities—which we will not name in case you the RDA and the university sector was diabolical, think aspersions are being cast! but I think we are now in a position in this region Professor Atkins: The HEIF 4 funding formula has where we probably have the best relationship as been I think much debated in Whitehall and in the institutions with the RDA of any in the country.I am Funding Council following on from the Sainsbury with Madeleine absolutely, universities are at the Report, and I suspect that it is fixed for the HEIF 4 centre of the regional economic strategy and, as I period. What comes after that I think is a very fair said right at the beginning, the regional economic question to open up. It is run at the moment on a strategy is based on a set of interests which, frankly, semi-formula basis: there are safeguards for would not have been recognisable ten years ago and universities which are new to this kind of work so which are probably very much about the future in they do get something, and those who do a great deal this region. of this work are capped so that there is more money available to incentivise universities that are not yet doing as much as they “might” be doing, so it is a Q243 Chairman: Very quickly, we have heard situation where in a sense the policy makers need to diVerent views expressed on intellectual property determine whether they are going to support those protection. Are there any issues your universities who are doing a lot of it to really motor, or whether have in relation to this? If there are and you want to they want to encourage all universities to do some. write separately later please do, but we have heard It is one of those quite diYcult questions. some views expressed that some small SMEs are not Professor Clarke: It is a classic example of a worrying too much about intellectual property but successful programme where, because it is having trademark protection as quickly as they can, successful, those receiving money will want to go on for example. Have you any views on intellectual receiving more money. The big question is that is property from a university perspective? where we have got to, having used these two tranches Professor Atkins: I think I would say that we often of funding over a number of years; what is the over exaggerate the importance of IP coming out of the universities, and that fleetness of foot to market agenda for the next ten years and how do we best is becoming more pressing in so many of these underpin the university sector’s response to it. sectors. For example, if you look at the digital media companies the material has been created on a 24- Q241 Miss Kirkbride: One of the answers to that hour basis globally, and this whole point about question would be to look at it regionally and say interoperability which Keith made in our written that some investors might never be very good at it or evidence sometimes means that the IP issues are might not be interested in it but are still doing other almost irrelevant against the way that the markets good work in other areas, so whilst you want to are now happening. spread the benefit of it out across the country you Chairman: Thank you. nevertheless want to encourage those doing it very well to have a bit more and to produce the goods Q244 Mr Bailey: On start-up companies, issues have after all for United Kingdom plc. Might that be one been raised during the course of our inquiry about way of reconciling what you are talking about? the diYculties and obstacles to would-be start up Professor Clarke: It might, and I think it would be companies. Many obviously have to access money wrong to assume that 100, or whatever it is, HEIs all through own resources, families and friends. First, have the same position and want to pursue this with what are your observations, and what is your the same intensity, because it beggars reality. experience? Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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12 May 2008 Birmingham and Coventry Universities

Professor Atkins: We see it pretty much through the collaborations like Airbus which are quite large lens of the university rather than more generally, so down to collaborations between little clusters of from our perspective we have over the last few years SMEs who have related but only partly overlapping developed a pretty good “gated” process that takes capabilities, who are prepared to work with each commercialisable products, services and so on from other as SMEs to win business that an individual the university through into company formation or SME could not, and supporting that sort of into licence. Our focus at the moment is very much development I think is quite important, certainly as on the student body, so we are seeking to develop a a potential way forward. “street” whereby we identify and attract entrepreneurial students from schools and colleges; Q246 Mr Bailey: Briefly, Knowledge Transfer we provide scholarships that pay virtually all their Partnerships, whilst highlighted in previous fees: and we provide funding to help them develop consultations as being very useful, have been their commercial ideas. Some come to us with criticised as being over-bureaucratic, and the companies already in formation. For example we complexity is a deterrent to businesses. Have you have a second year young man in engineering who any comments? has just VAT registered his company—he did get a Professor Popplewell: It is true in many cases that First at the end of the first year so it was not at the small companies go so far down the track in expense of his academic studies—but it is part of developing a KTP with a university, then at some what we are trying to do. And then we have pre- stage a problem in the process of developing a KTP’s incubator on campus and incubator facilities here on proposal crops up, which maybe we as universities the Technology Park and we grow them all the way would think was fairly routine but they become through and provide support at every stage. That scared oV because as we were talking earlier they are seems to us to be a very important focus of what we a bit wary of working with universities and feel a can do as a university. More widely, I am aware that little bit out of their depth anyway. There are plenty Advantage West Midlands has set up a very of instances where this happens, where the process interesting—and I think the first of its kind in this time to develop it or queries and problems of making country—opportunity called Invest BX which the paperwork come together put people oV,so enables companies at a certain size to obtain KTPs are a very good way of working with industry investment funding when they would not get it from and we are involved with a great many of them. In the big boys of venture capital, but they have grown the university overall I am involved directly in at out of the kind of support you can get through least two, and for those companies which manage to BusinessLink and so on. we have perceived that set them up they are highly eVective, but there is a elsewhere as a gap and are delighted that Advantage significant mortality rate before the birth of a KTP West Midlands has moved to fill it. You would have which it would be nice to find ways of avoiding. to ask Advantage West Midlands how successful that has been and how many companies are coming into that process, but I am pretty certain it is the first Q247 Mr Bailey: Is there anything that could be one that the European Union has accepted and done to facilitate them? permitted so that it does not violate state aid rules, Professor Marshall: At the moment KTPs are and that kind of initiative is probably necessary. primarily won from the universities who are interested in them, typically, as we do, there is a business development manager who does it, usually Q245 Mr Bailey: Coventry in its submission pointed with a good relationship with the local KTP person, out that EU funding was important but United and sometimes we help and get the paperwork done Kingdom lagged behind in provision, and other EU quickly, but sometimes in that process we may miss countries do provide national funding over and a deadline, and it is not one month but two later that above any EU funding streams. Why is this so? What it is submitted. Even though you and the local can be done about it? person have done the best you can to interpret all the Professor Popplewell: The comment was to the eVect rules, you sometimes get it wrong between you, and that EU funding rather than other national funding again, for a small to medium-sized enterprise, the has run ahead in certain areas, and we were fact that they may get rejected and another delay is particularly talking about the area of encouraging put into the system can cause problems. I can give enterprises, especially small enterprises, to come you an example from my Scottish experience which together to compete as high value added, high is now quite old, but I was working with an SME in technology, providers, possibly of design, a service area and we got all the way through to development, process development services, and getting the paperwork in with the local KTP maybe for products that would eventually go into technology transfer person, as it would be then, production overseas. Looking at the figures, there agreeing that this was a valid proposal, and it looked has been something like 40 million euros spent on OK, the technology was fine, the knowledge transfer research in that area in Europe over the last 8-10 was fine, and it got to the Committee and the years, whereas we have recently seen the first TSB Committee suddenly decided that they did not cover programme in the area oVering a few small projects, that area. Now, that was kind of hard for the so there is a lag in that respect. Personally I think it company. They had just spent two to three months is an important area because increasingly we see the working with us, building up a product idea, idea of formal collaborations to compete spreading building up a service idea, building up a technology downwards from where they first started, with transfer idea and it had all gone. In the end we Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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12 May 2008 Birmingham and Coventry Universities appealed it and it was oVered but the company Professor Popplewell: Yes. turned it down, they were so disillusioned with the activity. SMEs in certain manufacturing and other Q252 Chairman: R&D tax credits are a way of areas need speed, and I am not sure the process is reducing the tax bill of major corporates, and do entirely as speedy as it could be. not really help R&D activity in small and medium- Professor Atkins: We are going to see some mini sized businesses. “Discuss”! KTPs coming in under the next round through the Dr Wilkie: I happen to be a non-exec director of a TSB and RDA, and hopefully they will be much very small start-up business, and that business has faster in terms of bureaucracy. I suspect what we been successful in applying for a tax credit but in may well find is that certain micros and small ‘S’s will order to do so it was fortunate in that its particular prefer to go for a smaller project, a less intensive board had people on it who understood these project, a shorter project, through the mini KTP things, so I fully support that earlier comment route, and that will answer quite a few of the about the complexity and the availability of problems we are encountering at the moment. Not information and the transparency of access to it, every SME wants the scale, size, scope and range of but this business did manage to receive tax credits, the current KTP pattern. but then discovered that because it had received a funding grant from as was the DTI it then had to repay some of those funds; you cannot get public Q248 Mr Oaten: In your memo you said that the money twice into the business. So even though we R&D tax credit scheme was not working eVectively, had a board who knew what they were doing and and you used a rather friendly phrase which was we had very good tax advice and were able to pay it requires a ”culture change” by HM Revenue & for it and get the credit, we then had to refund some Customs. By that are you saying they are slow, or of the money to the DTI. just a shambles? What is the cultural change Professor Marshall: And if you take the example problem? of Knowledge Transfer Partnerships, which is one Professor Popplewell: Our experience is that when situation where we try and encourage the business we talk to an SME about the possibility of applying to use the R&D tax credit, you have just doubled for the tax credits we have to point out to them that the bureaucracy from their perspective. They have we are not allowed to give them tax advice, quite KTPs, which we are helping them handle; then they have R&D tax credits, and we are not tax rightly, and suggesting they go to their tax accountants, so they have got no one helping; the accountants, which is the only way of really obvious way forward is most businesses should be handling it, means they get very scared with the able to claim R&D tax credits from a KTP, so why idea of trying to claim tax back in an obscure way not just bundle them as one application? they have not come across before -- Chairman: Perhaps we will suggest it. Thank you very much. Q249 Mr Oaten: So the problem is not with the Government, then, but with the individual who is Q253 Miss Kirkbride: Whenever we go to other frightened of it? places—other countries, India, China in the Professor Popplewell: It is partly that, but it partly future—we are bombarded by the number of comes back to the material you can give them STEM graduates—Science, Technology, which explains what is going on. If you look at the Engineering, and Mathematics graduates coming websites from the Department they are very out of those countries—and compared to our own number of graduates in those areas it seems rather diYcult to read and to follow and you get the worrying. Maybe it might be a good idea to ask impression that it is going to be very diYcult to do. you for any reflections, observations, suggestions as Now, as I understand it, I do not think it is all that to how we get more young people to take these diYcult to do, but it is this small number of people subjects rather than the art subjects? What do we working in SMEs who do not claim to know very V do? What you do is great but unless we have more much about tax who back o from it and try and graduates capable of doing these roles and doing keep it simple. that productive activity, we are still going to be a little stymied. Dr Wilkie: I had the privilege to start out by doing Q250 Mr Oaten: So it does not require a cultural a PhD, hence my title, which was sponsored by change from HM Revenue & Customs, but from industry, British Telecom, and then I worked for people accessing it? BT for a number of years and then I left the Professor Atkins: Yes, and also from tax advice country and worked abroad, mostly for Shell, and because often the SMEs do not have a very I employed and supervised people in doing research sophisticated form of tax advice. and technology development in other countries in Europe, mainly the Netherlands and Germany, and they too have higher graduates although those Q251 Mr Oaten: So you are comfortable with the numbers are falling these days. What is interesting way the system works from a Government for me is I have spent my life trying to explain to perspective, but it could be more friendly and people what fun it is—my degree is originally people want to be able to access it better? scientific—to have a scientific background and to Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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12 May 2008 Birmingham and Coventry Universities do that, but there is an issue in terms of the Professor Popplewell: May I echo that as somebody perception and the communication of STEM who has two children, one of whom got excellent ‘A’ subjects, both in their complexity and how children levels in maths and physics but both of whom are are introduced to those subjects at a very early age. now at music college, for precisely the reasons you describe. He had the interest beaten out of him. Professor Marshall: I want to go back to my Q254 Miss Kirkbride: Why? pragmatic solution, which is to pay bursary to the Dr Wilkie: And it moves on to a very simple thing STEM subjects, at least until you can get the other which is where can people get the most remuneration aspects correct. If you look at most science, after they graduate. That is also an interesting place engineering, technology and mathematics students to look in terms of their salaries, because the there is not a huge number of them in this country in perception is that STEM graduates do not get well comparison to, let’s say,India or China; we are really paid but if you look at reality they get quite well paid at a tipping point. Unless we can get the numbers up, in comparison to other graduates. the research base in this country will be staVed entirely by overseas researchers. In the short term Q255 Miss Kirkbride: On the point you made about there is only one thing you can do which is to pay introducing young people to those subjects in the them all a realistic bursary so they are not covering first place, what is it that schools do wrong? fees and have a little bit more to live on. Dr Wilkie: There are two angles to this, and I do not want to generalise too much but I have observed that Q257 Mr Bailey: On this apparent enthusiasm for a lot of these subjects when they are taught as subjects abroad but not here, is it because there are combined sciences at primary level are taught by people who are themselves not particularly just more graduates in general from those countries scientifically qualified. Another issue is I do not but the proportion is not more significant within each rival country, if you like, or is there a cultural think enough attention is put into imbuing people V V with the sense of the excitement and the fun that can di erence or an educational di erence which is be had with a career in these areas. That is very enthusing would-be graduates in those other simplistic but I have two daughters myself; my eldest countries compared to this country? daughter is going to be an artist without a doubt, but Professor Marshall: I cannot give you the exact I think the second one will follow in her father’s figures so this is an impression based on my dealing footsteps. with primarily Indian cultures. If you go into a Professor Clarke: Extending that, it is an immensely STEM subject—engineering, mathematics—in any complicated subject but I am going to give you a very of those countries, that is that country’s future. simple take on it. The Jesuits had it right: get a child There are job opportunities and good well paid jobs, at seven and you have them for life, and there is and there are examples of people from every school something about enthusing and developing the in the country with three cohorts ahead of them imagination of a young kid who is going to hang on someone now working for a large multinational to numeric and scientific ideas which says something earning real money, so there are examples for people about what used to happen in secondary school. Of to follow. Basically my view is that we spread the course, it is easy to condemn standards of teaching message of the demise of STEM too readily in this and that is not what I want to do, but there is country; it is still an important part of our economy, something about the quality of teaching, the our research base, and our future, because if we do imagination which underpins teaching and the not have people who are capable of doing STEM nature of the curriculum that somehow we have not research in this country it will move on and, as I said, got right, and what I find deeply disturbing is you there is no diVerence really between youngsters and then create a vicious circle, because who are the Indian youngsters here. They may be slightly more teachers of tomorrow? They are the kids who have determined because they can see their future is the not done STEM subjects at university. Microsoft, the Sysco, and the Tata plants down the road, but they jump on the STEM bandwagon. Q256 Miss Kirkbride: Are your STEM applicants falling? Q258 Chairman: We are just about out of time so Professor Clarke: We have the same diYculties as what I want to do is ask you one last quick question our peers getting a good quality of STEM students. each, because I am a practical guy and I want some Our numbers are not falling but it is not easy. kind of practical recommendations in this report. On Professor Atkins: Our numbers are not falling but the whole until we got to the last subject area you they are not rising steeply either. What would I do? have been reasonably optimistic and confident, so I I would get rid of AS; I would do a huge amount to have to ask about what you would like to change in the A2 syllabus. I think you will find if you look at the world, what makes you feel frustrated and what the statistics that there is a very large number of you would like to do to improve it. If there is young people taking mathematics, for example, and nothing, do not worry! And can I repeat my very after two years in the sixth form of mathematics all deep gratitude to Coventry University for making us joy has left. All they do is take past papers to revise feel so welcome today, and also Birmingham for the test over and over and over again, and at the University for coming. We have found it very end of that they really do not want to do any more interesting. What would you like us to help you mathematics, and that is such a shame. change for you? Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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12 May 2008 Birmingham and Coventry Universities

Professor Popplewell: I think I would like to see the Professor Clarke: Can I extend my thanks to applied research funding models that are used in the Coventry, not least because Madeleine has just United Kingdom move more towards the TSB pinched my answer! We have not talked about the model, where industrial as well as HE partners are RAE at all. I would like to think in the course of the funded, but to move that also towards the European redesign of son and daughter of the current RAE model which makes it easier for small companies to system, as much as possible is done to remove the be funded as part of research projects, which is not RAE as an inhibitor to the kind of things we have really practical under any of the United Kingdom talked about this afternoon. schemes as present. Professor Marshall: I would like to see you continue your route of simplification on all funding schemes, Q259 Chairman: If you want to give us a making it easy to pick up grants for SMEs. The supplementary written note we would be delighted example I gave of the Knowledge Transfer to receive it. Partnership is an example of a very simple piece of Dr Wilkie: For research-led institutions there are simplification which would make an immense deep cultural issues still to overcome. We have gone diVerence to a lot of SMEs. a long way with HEIF 4 money but as an outsider Professor Atkins: For HEIF 4, when it becomes I have seen issues still needing to be addressed, and HEIF 5, I would like a really serious look at the basis certainly RAE is one of them. on which we encourage some universities, at least, to Chairman: Thank you very much for what has been go down this road in a big way. a very interesting session.

Witnesses: Mr Mick Laverty, Chief Executive, Dr Richard Hutchins, Corporate Director for Economic Development and Dr Phil Extance, Director of Innovation, Advantage West Midlands, gave evidence.

Q260 Chairman: Gentlemen, welcome to the second regarded nationally as one of the best part of this evidence session. I am sorry we are Manufacturing Advisory Services, MAS has been running rather late, but it was an interesting session; working with a company called Bromsgrove Glass, we found it really valuable. If we can all be quite a traditional window manufacturing company, a economic with our questions and our answers, I relatively large employer, and they have been trying think that would help us make sure we are not too to diversify, implement new technology, and have late for Warwick University, our next stop. I was been working with the Manufacturing Advisory very grateful for your written submission, which I Service through its Product Innovation Consortium have read. You suggest that there is a limited role for to move into new areas where investment in R&D Advantage West Midlands within the economy and innovation is critical. because ultimately market forces dictate your direction. Can you explain to me how you reconcile Q261 Chairman: So you have to take the world as it that with your really quite interventionist agenda? is, or the region, not as what you might like it to be? Mr Laverty: I am not sure that is what we meant, and Mr Laverty: We have one eye on tomorrow and if that is what you have inferred from our submission trying to work towards a positive future, but are it is slightly diVerent from what we meant. What we Y working here with the Midlands today and trying to said is it is very di cult for us, over a short period of change them as well. time, or for any public sector organisation to change the structure of a region’s economy. We have no pharmaceuticals industry, no oil and gas, no Q262 Roger Berry: You made a point stressing at the merchant banks, the typical high value added outset that the West Midlands has a poor overall sectors, and it would take some time to build up track record in innovation. What are the reasons specialisms in those areas, if we could indeed do that for that? at all. I think what we said is a role for Advantage Dr Extance: One of the glaring statistics is the West Midlands and other public sector business expenditure on R&D, where we are seventh organisations working in partnership with out of ninth, but we have already said that we are not Advantage West Midlands is to build on the strength well represented in the oil and gas industry or the we have and improve the base of businesses we have, pharmaceutical industry which, of course, are so there are some things we are doing around energy sectors very largely responsible for large chunks of technology, for example, to try and look to some of business expenditure in R&D. If you then add on to the high value added sectors of tomorrow, energy that the fact that we do not have the big government futures, energy activity, particularly with the East research centres, the public sector research Midlands Development Agency securing the Energy laboratories. We do have things like QinetiQ, who Technology Institute as a good example in the are a major source of R&D—I think you are visiting Midlands, but the big task for us is to work with the them tomorrow—and are responsible for very current business base and move that business base as significant and world class social development, as a high value added chain in terms of product services are Jaguar and Land Rover, and, indeed, many of and the skills of its work force. the aerospace companies that you all know of. One Dr Hutchins: For example, through the work we of the challenges is the measurement of innovation have been leading with the Manufacturing Advisory by the business expenditure in R&D, that is the Service in the West Midlands, which is widely classic challenge which we refer to in our submission. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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12 May 2008 Advantage West Midlands

That is how you measure innovation as opposed to also trying to encourage them to take on graduates the input measures of research and development, or invest in their workforce to try and attack it from and that seventh out of ninth of course is very that end as well. misleading, particularly if you then look at the service sector, or something like digital media. There we have just announced a major investment with Q264 Roger Berry: In your submission to the Channel 4, a £5 million investment by AWM Committee you write that there are numerous examples of world leading companies in the West matched by Channel 4, to develop innovative digital Midlands, you mentioned QinetiQ, Jaguar, Land media in the region, and that would not have been Rover, et cetera, and you have described your work measured in the traditional R&D statistics, it would with QinetiQ, but with these world leading have been seen as production though, in fact, of companies that are in the West Midlands, what is course, in that service-orientated sector it is V your role? Are there some of them that are simply e ectively research and development. self-motivating, self-innovating, who do not need your expertise, but others that do need your Q263 Roger Berry: Yes, you do make the point that expertise for particular niche activity? Your work in investment R&D is a proxy, though arguably not a QinetiQ is part of that, presumably. Do you see your very good one, for innovation. In terms of your role job to back these winners, or do you see your job as an RDA in improving innovation in the West more to help those SMEs that are not yet in that Midlands, what do you see as your main levers? category? What are the levers you can pull that you think are Mr Laverty: I think the first. It is a bit like a marriage most eVective in improving innovation? bureau role, you are in between the businesses and Mr Laverty: I think there is a basket of levers we the organisations that have the research have tried; there is no one lever we use. There is a establishments and the higher education range. You might have heard of INDEX vouchers establishments, and you are trying to bring them that we have introduced which were piloted over the together and encourage them to collaborate in last couple of years, and we are rolling that out now. whatever way you can. If you take the Sensor project It has been quite a success. Our mission is to try and at QinetiQ there were a number of facets to that project. First and foremost, QinetiQ are very commercialise some of the science and technology important to us in this region. They have 2500 that is buried in some of our universities and people down at QinetiQ doing the jobs we are trying research establishments by connecting it with to attract, so first and foremost we are trying to keep business organisations, so there is a classic example QinetiQ happy and make sure we have our arm of trying to get businesses, universities, and higher around them and they feel valued and wanted. education establishments to interact and Secondly,on that particular project they have a lot of collaborate. We are not pretending a £3,000 voucher technology that is commercially applicable, but have is going to lead to world-breaking innovative no particular incentive themselves to work with activity but it might be the start of a relationship that small businesses in the West Midlands, other than does just that, so that is the intention behind that. We for altruistic reasons which clearly are not very have also on a slightly larger scale done something forceful, so we got in the middle of them and the called Science City,which is a project we are working businesses who could benefit from that on with Warwick and Birmingham Universities. collaboration and made it worth their while, took That is an £80 million project trying to get two of our some of the risk out of it and put some momentum most prominent research organisations in the West into it to encourage people. So that is an example of Midlands to collaborate and use their what we see our role to be. It is a bit like the INDEX complementary strengths to produce the vouchers—we are between the organisations who demonstrator activity and to try and articulate the have got the intelligence and the research and the benefit of some of these technologies to the organisations who need it, and are trying to businesses in the region to try and do something to encourage that collaboration. technology transfer activity. That is another strand Dr Extance: If I may, there are two major roles I see of what we do with these technology transfer from innovation: one is stimulating demand from partnerships, and then very specifically we do things those businesses who would not naturally innovate like work with organisations like QinetiQ to drive who need a little bit of a kick to encourage them to out in a project, in this instance a Sensor project, think about innovation, and the voucher scheme is some well-established technology that is buried in important. The innovation advisory service that we QinetiQ and try and embed that in West Midlands are piloting again is about getting companies to business organisations to drive up the value of what think about innovation—in a fairly broad way, not they do. So there is a wide range of things we do, and just about science and technology—but the second not least we should not forget about the skills one is clearly to make sure that our science and agenda. We see the two big challenges in this region technology base is fit for purpose in terms of are low levels of innovation and lower levels of high engaging the businesses, and is doing things that the level 4 and above skills. Now, there is a good business community and the region is interested in, correlation between successful companies and those and they are capable of really interacting properly companies that invest in their workforce and invest with businesses, so the scientific work we have done. in their products and services, so at the same time as We are also working on the manufacturing and we are trying to encourage people to innovate we are technology centre with Rolls Royce Aerospace and Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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12 May 2008 Advantage West Midlands a number of other senior big players, JCB and or universities from within and outside the region, others, to establish a centre which is about that leveraging in a billion pounds of public and private middle ground between basic research and sector investment, becomes a magnet for the world’s production, which is about taking technology, leading academics, and then companies start to pay showing it in pre-production environments, interest and follow suit. So that is our marriage demonstrating how you can take research through to broker role. product, and that I think is a role for us, very much to work with companies, to take the basic research that the Government research councils have funded, Q266 Chairman: We will be hearing about more and translate that through to readiness level about the Quantum project tomorrow, but it has appropriate to businesses in the region. your full support? Mr Laverty: Mr Chairman, we have produced a little Mr Laverty: Yes. brochure, Harnessing Knowledge. Creating Wealth, which shows what we have done with the regions and Q267 Chairman: I was with a metal-bashing business it shows basically all the things we do over a variety in my constituency which had been family controlled of projects, and gives you a very good flavour of the and the family said: “No, we cannot develop this broadness and type of our interventions. business, we have not got the management expertise, we are going to sell out”, and they sold out to a new Q265 Chairman: I just got a bit depressed as I sat team which is innovating in a whole stack of ways. there and listened to you because you have no The product is a very basic product but they are pharmaceutical business, no big financial services making it better, they are testing it better, marketing sector, we have not got—correct me if I am wrong— it better and they have all sorts of hidden innovation a large information technology sector yet either, it is which does not feature, and they are turning this developing in places like Cambridge obviously who business into one that is really going places. To what are well ahead of us there. What we have got is a extent can you do that on an incremental business huge tail of automotive-related industries because with the hidden innovation taking place day in and the big producers typically left the West Midlands, day out in some small and medium-sized businesses? Rover and Peugeot have gone, they are elsewhere, in To what extent can we nurture that, or do we have to Swindon, Newcastle, and Derby,and we have a huge change gear and develop whole new industries in this tail of metal-bashing companies, typically family direction? owned, less enterprising, so it is a bit of a challenge. Mr Laverty: Generally, we cannot aVord to just What kind of higher added value can be achieved in write oV what is here; we cannot aVord to say: They this region with its history and legacy? It used to be are doomed to failure, they have no value added the workshop of the world. activity, they are going to die out. We have to work Mr Laverty: It is a challenge but it is one that we are with what we have and try and better what we have. positive about, I think this region has lots of unique One of the things we have majored on as an RDA is skills we can build on. The automotive industry, of improving leadership and management skills across course, had some very positive news recently with the region, and we see that as an activity that Tata taking over JLR; that is a company that is complements what the LSE does which tends to be developing world-class vehicles, it has a large R&D lower level skills training. The start of the answer to centre down in Gaydon and we are talking to Tata at your question is encouraging some of those firms to the moment, and have been for some while now, develop their workforce, and develop the leadership about them establishing their own R&D centre just and management of their organisations. That is the outside Coventry, so there are real signs that they are starting point, and you have some chance of looking to invest in the region. Structurally, yes, we innovation being driven out, and some chance of have no oil and gas, no pharmaceuticals, no big spenders, we have already established that, but we them diversifying their product base, modernising can add value to every single company in the West their company and looking to invest in the business, Midlands. It may not be in those high valued added but it is an uphill struggle for some of these sectors, but every single company is capable of being organisations, particularly in the Black Country and V in the value sector. North Sta ordshire, where people do see investment Dr Hutchins: This is where the RDA/Advantage in their workforce as a cost to the bottom line rather West Midlands needs to take some risks. Through than an investment in the bottom line. our partnership with companies like QinetiQ, we are Dr Hutchins: There is a role here through our looking at building a partnership around quantum regional economic strategy with our partners, technology in Malvern. Now, that might be of particularly in the private sector, through the cluster interest to the world’s leading academics but also to programme, the sector-based work that we lead in companies like Intel who can see world-leading the regional partnership with the private sector. One R&D going on in a place like Malvern and migrate of the key issues for the 13 sectors or clusters that we to participate in that. Then you get the spin-out support in the West Midlands is skills; another is companies emerging from that and our investment innovation and companies getting together, talking in Malvern Hills Science Park—we are on Phase 3 of about their needs and challenges, sparking oV each those investments—house those types of companies, other, looking at their innovation priorities, how and projects like landing the national hub for the they can be supportive, and the work that Business Energy Technologies Institute with the partnership Link in the West Midlands takes forward through its Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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12 May 2008 Advantage West Midlands innovation advisory service to help those individual companies of all shapes and sizes working with the companies and the sectors develop their innovation university base, and almost inevitably employing, and R&D needs. then, the associate that works on the project as a full- time employee after the project is finished. Forgive Q268 Chairman: So you are saying the me for giving a metal-bashing example of professionalisation of management and small and Metallisation, metal spraying, where their product medium-sized businesses is a key part of developing worked but they did not really understand it. As a a higher added value economy? result of working with Aston University they Mr Laverty: We believe so, Mr Chairman. understood the fluid flow in the spraying head; they Chairman: I might talk to you informally about got some software developed, and transformed a getting a better handle on what you are doing in that fairly hit-and-miss spraying operation into a very area to encourage that often very challenging slick, computer-controlled, well understood process, process, because family businesses often do not like so that is a good example. The INDEX voucher being told how to run their aVairs! scheme, again, is already paying a great service to us, both in terms of the businesses being helped by having this small amount of university work done Q269 Mr Bailey: You will have heard earlier some, I for them, but also for the university themselves in think, reasonably complimentary things said about understanding how to work with the SME you by the academic sector and your involvement in community, and understanding the language they bringing industry and academia together. How use and, indeed, all the issues of timeliness and so on. would you define what you have done to encourage So I would cite knowledge transfer partnerships as a links between the two? growing and eVective way of working in some detail, Mr Laverty: We were late, I am afraid, so we did not and we will be expanding the number of those in the hear those very complimentary comments next few years, and the INDEX really as an unfortunately! introduction of that marriage service. Already we are seeing a number of those companies wanting to Q270 Chairman: Your Chairman did. go on to Knowledge Transfer Partnerships in which Mr Laverty: We have had a very strong relationship they have to invest £35,000 of their own money. with the region’s universities since we were created. If you ask them, I would hope they would say almost to the last institution that we work positively with Q271 Chairman: We have heard a lot about INDEX them, we have seen innovation and interaction with vouchers. Can you just explain it in a little bit more universities as something that is fundamental to the detail? Not now, but in writing subsequently. West Midlands’ future. We are working with the Dr Extance: With pleasure. business base; we have to try and make it as good as Mr Bailey: Getting on to KTPs, representing West it can be to try and add value to our existing Bromwich West I, if you like, represent the heart of businesses, but we are looking to things like the metal-bashing industry, and on visiting advanced materials, energy, digital media and some companies I have had extremes—some singing the of tomorrow’s businesses in the sector as the West praises of Advantage West Midlands and others Midlands future. Of course, that requires us to work saying it just is not worth the hassle of getting very closely in collaboration with universities, not involved—and some of it does seem to be reflected in least Coventry University in this building that was some of the evidence we have had about involvement funded by AWM, and there are two other buildings in KTPs. From the perspective of Advantage West on this campus, an eye health centre and a digital Midlands what do you see as your role in, if you like, media hub, both funded by us. So we have a strong publicising KTPs, but also breaking down the relationship. We believe, and Michael Clarke from barriers of those companies that might benefit from Birmingham University also is quoted as saying, them but that up till now have not? that out of all the RDAs we have spent more money with our universities than any other RDA and we are Q272 Chairman: It may help you to know that our proud of that. By our reckoning it is about £110 previous witnesses were very critical of the million over the three years that we counted up those bureaucracy, the complexity of the KTP process interventions. So we have a very strong base. I am nationally. not saying we have cracked it but we understand Dr Extance: The process for KTPs is a national one; now, having looked at the region, at the drivers and we have just begun work with the national body, the the productivity in the region, how important it is for Technology Strategy Board, around extending the this region to work on innovation, on skills, and to regional version, and we are looking to see how we get the universities and the businesses in this region can simplify that process because it is recognised collaborating. It is very important that we nationally as complex. What is happening through understand the sign and the challenge now. projects like INDEX and others in the region of Dr Extance: We have the Lord StaVord Awards in schemes which are not as sophisticated as the region which celebrate and try to expose, if you Knowledge Transfer Partnerships is the beginning of like, some of the real successes of universities a relationship with the university, albeit a small one, working with businesses, and one of the most that then enables the business to understand the successful schemes is the Knowledge Transfer university and to work better, so what I would say is Partnership, which is a national scheme, and that to go in cold with a small company with a continues to provide really good examples of Knowledge Transfer Partnership as your entry ticket Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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12 May 2008 Advantage West Midlands is very tough, but to warm them up, if you like, to there are parts of the Black Country and North engage them, either through the voucher or some StaVordshire that have that cultural deficit that other small scheme so that people get to know one other parts of the region do not have. another and really understand the issues, is the most Dr Hutchins: Hence one of the priorities of the eVective way. In terms of publicity, again, we have Regional Enterprise Board is to promote an had over 600 companies applying for the INDEX enterprise culture in the region. We have particularly voucher since last March, and we have awarded over focused on two or three groups, women’s enterprise, 220 vouchers to companies, so over 600 companies young people’s enterprise, and enterprise amongst now have, in a sense, specified a problem they want black and ethnic minority groups, trying to to work on. That is quite a substantial number of stimulate the market in those three areas, with some companies. notable success, particularly in the women’s Dr Hutchins: To supplement that, we see the link enterprise area. between the importance of the innovation and the R&D agenda, and the skills agenda. We often see Q275 Mr Bailey: Moving on to the Science City where we have excellent leadership and management investment, you have mentioned Birmingham in in the organisation of a company, no matter what particular and I do not want to go over old ground, size. If the chief executive, the managing director, but what basically are you looking for from it? has that drive and that foresight then we get the Dr Extance: Science City is a fairly big programme connection with the innovation agenda. for us, and it tries to recognise that if we are going to promote the West Midlands and Birmingham as a Q273 Mr Bailey: Looking at my own particular place where high technology companies can come locality, which in many ways highlights the problem, and invest and grow then we have to do several would you say the absence of a higher education things, and one of them is to make sure our basic establishment within—and Wolverhampton might research infrastructure is capable, as we have talked object but I am talking about the West Bromwich about. We have selected those three areas, energy, area, both impacts on the skills and aspirations of advanced materials and translational medicine, as the potential workforce, but also the culture of the three big areas where we believe, by building a actual business management within that particular research infrastructure, we raise the presence of locality. Birmingham and the West Midlands and therefore Mr Laverty: I think you can make that general we would hope to attract companies to want to connection. We know that businesses like to work locate here for research and development to be with higher education establishments that are in carried out in our universities. The second key outcome is clearly around knowledge transfer and close proximity. A face-to-face meeting than having spinning out and growing companies around the to drive or getting on a plane or train. Sometimes region as a result of our investment in that initial collaboration needs to be able to use physical early and translational stage of research, so we have infrastructure, you might have to go to a university already seen a number of companies showing and use a lab or whatever, so that is very diYcult. interest because we have invested in these areas and The big organisations in the region, the Jaguars, the wanting to be part of our activity. It is no surprise we Land Rovers, the JCBs, go anywhere in the world are seeing the beginnings of companies like Tata, like but for the local organisations, to try and encourage Ericsson, wanting to build research centres in the their first step on the ladder, it has to be local, face- region, because they can see that the university base to-face, and something they can fairly immediately is credible and is working together. I think the see some value to. collaboration of two major research universities, Warwick and Birmingham, that previously had Q274 Mr Bailey: We have obviously touched on limited collaboration, is a major step because it now some barriers. Are there any others that you see means that businesses can access skills from both being a problem to KTPs being established, which establishments through that collaboration. The have not been covered by the evidence so far? Higher Education Funding Council backed up our Mr Laverty: It is more of a general point. There are investment with another £10 million of their money parts of the region, and certainly Adrian Bailey’s as a result of our work on getting those universities constituency might be one, where there is a cultural to collaborate, so we are already leveraging research issue where lots of the organisations do not seek out money into the region which will help deal with our help and, when they do, they want help on their problem about R&D expenditure. We are already terms so it is typically “Can we have a grant and beginning to lever in Research Council Money and don’t tell us what to spend it on, just give it to us, HEFCE money on the back of our investment. thank you very much”, and, of course, that is not what we are trying to do. As my colleague has said, Q276 Miss Kirkbride: I want to ask you for your there needs to be a certain amount of enlightenment views on R&D tax credits, whether they are good, here otherwise good money follows bad. These bad or too mixed, depending on what sector you are organisations need to be prepared to help in. Or what should we do instead? themselves, and need to have done a certain amount Dr Extance: In principle, it is a good idea. The to demonstrate they are prepared to help themselves concept is good, and clearly we are seeing a number really and truly before it is worth anyone helping of the larger companies gaining considerable benefit them, otherwise you are just wasting money, and from them. There is anecdotal evidence, and I have Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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12 May 2008 Advantage West Midlands not done the valuation, from companies in the Dr Extance: Thirty is plenty! region that it is quite a diYcult process. A number of them just do not bother and their professional advisers are not fully up to speed, so I think there is Q283 Mr Wright: In your submission you argue that some work to do with professional advisers to make the United Kingdom can respond to the challenge of sure they are capable of supporting it. I have one global competition, especially from China and anecdotal example from a company I will not name India, which has a huge resource of upskilling because this is a public forum who said to me that, workers, by employing more graduates, upskilling as a result of having the R&D tax credit, their senior the workforce and improving its strategic leadership management ploughs back the credit money into and management skills. How much access do West their longer term R&D, and without that R&D tax Midlands’ companies have to skilled workers either credit they would have a much harder job of having at production, graduate or post-graduate level? their longer term, more blue skies orientated R&D Mr Laverty: It is fair to say it is a well-known fact programme, so that is a good news story, but there that it is becoming common knowledge in the West are some issues around the take-up of the R&D tax Midlands that we have a skills issue. At both ends of credit which I think may just be a matter of time and the spectrum we have more people with no basic experience. skills and less people with graduate level skills than almost any other region, which is not something to Q277 Miss Kirkbride: But primarily the big ones do be proud of, quite naturally, but understanding the it and the small ones do not? size of the problem and the challenge we face has Dr Extance: My view is there is a greater take-up given us some chance of addressing the issue. We amongst larger companies than small. have worked out, for example, the West Midlands needs to get 70,000 more graduates into the private sector, that is the size of the challenge in the West Q278 Miss Kirkbride: Is there another way of Midlands, so working with some of our partners you doing it? can start then saying: Are we producing enough Dr Extance: In a sense we have a portfolio of ways graduates? Are there graduate employment of doing it; we have vouchers, knowledge transfer schemes? Is the transfer mechanism between the partnerships, collaborative R&D through the graduate and work experience schemes making Technologies Strategy Board, we have R&D tax credits - graduates more employable? Have we got the building blocks in place to persuade those businesses to take on the graduates? The West Midlands is Q279 Miss Kirkbride: You have so many things you generating enough graduates; arguably, there are are all confused? some disciplines like engineering where we could do Dr Extance: I would say you need a portfolio of with more; it is our graduate retention that is the oVering because companies just like us, they behave issue. So if we could retain the graduates we produce and respond diVerently to diVerent things. One we would start making an inroad into the skills man’s KTP which is wonderful is horrendous to deficit in this region, so what we have to do is work another guy, who says the R&D tax credit is with the organisations in the West Midlands and absolutely fantastic. So you need a spread, there is right across the West Midlands and essentially no single solution. The R&D tax credit oVers a very persuade them that investing in a graduate or attractive one to some companies, but it maybe does upskilling their current workforce is an investment not provide the stimulation to do R&D. If in a business, not a cost to the business. It is not just companies are doing it anyway it provides the feedback, but it does not necessarily stimulate about graduates—something like 70% of the 2020 people to do R&D in the first place. workforce in the West Midlands is already in the Dr Hutchins: This is one of the reasons why in the workplace, so it is persuading those organisations by region we are leading the business support a variety of means to try and invest in their simplification programme on behalf of BERR and workforce. Treasury to try and reduce the plethora of schemes out there and to make better use of public money, to Q284 Mr Wright: Do the businesses recognise the avoid duplication and to rationalise the programme importance of upskilling their workforce? down to a portfolio of 30 odd schemes in the region Mr Laverty: Some do and some do not; there is a which are available regionally and nationally, and spectrum. Some enlightened businesses understand the RDAs are leading that in each of their regions. the importance of skills and innovation in terms of their future prosperity; some do not, and you have to Q280 Miss Kirkbride: Only 30? use a range of mechanisms to try and persuade them, Dr Hutchins: Only 30. from perhaps demonstrator projects where you can produce case studies and try and influence their Q281 Miss Kirkbride: And how many are there at the thinking in that sense. There are two schemes that we moment? currently do, and some are mentioned in this book, Dr Hutchins: 3,000. like Graduate Advantage where we place graduates in businesses, we have work experience placements, Q282 Miss Kirkbride: But Mr Extance just said that we have a brokerage service, we invest in it was important we had diVerent schemes because management leadership skills—there is a range of we all behave diVerently, so thirty is enough, is it? interventions. 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12 May 2008 Advantage West Midlands from a number of diVerent viewpoints, and there is is not a wealth creating sector, and there is a limit to no one that will work on its own; it is a continuing the number of graduates who want to go into the struggle. public sector. Dr Hutchins: This is one of the reasons why, with our partners, the Learning Skills Council and Higher Education Institutions in the region, and Q290 Miss Kirkbride: In your memorandum you organisations like the regional Chambers of talk about some pilot programmes to get more Commerce and the CBI, the Federation of Small graduates into SMEs. Is that what you have been Businesses, we are the first region—and we are very referring to? proud of this—to produce a Skills Action Plan. One Mr Laverty: Yes. Some of them are outlined there, of the objectives is to try and address the problem and we can certainly provide more information if which you have just put your finger on, which is you would like. raising the demand for skills and encouraging employers to invest, in a public/private partnership between key organisations, to encourage investment Q291 Miss Kirkbride: We talked earlier in the in skills and close these gaps. evidence session about the problems of getting STEM graduates into university in the first place Q285 Mr Wright: You mentioned the fact that one from schools. Is there anything that Advantage West of the problems is retention of graduates. Have you Midlands can do to help or encourage this process, done any research in terms of where they are going or do you have any observations? to? Dr Extance: Through the Science City activity we Dr Extance: The major move is down to London have engaged Thinktank and Millennium Point with and the South East. partners in the region like the science learning centres and Setnet to look at the plethora of activity Q286 Mr Wright: Salaries? that goes on in trying to encourage young people to Dr Extance: Salaries, jobs, engineers going to take on science and technology, and the problem we finance institutions and so on. have is that it is quite unco-ordinated nationally, so Mr Hutchins: Aston University is conducting a we are looking to do some work through Thinktank study at the moment of just this issue. to try and bring some co-ordination to that. We are running a number of events through Thinktank, as Q287 Miss Kirkbride: But do they not come back many other people do, to provide some interest. In when they get a bit older? 2010 the British Association are bringing their Dr Hutchins: Yes. Festival of Science to Birmingham and that will become a permanent venue every three or four years, Q288 Miss Kirkbride: So you really need to put a lot they are not moving around the country as much as V of e ort into stopping them because it is more fun to they used to, so in 2010 we have a big opportunity live in London, is it not, when you are 21, probably, through the Festival of Science to make a big song whereas when you are 35 it is more interesting to live and dance in the region about the value and the up here. interest in science and technology. We did a festival Dr Hutchins: I think you are absolutely right, it is innovation last year at the NEC as part of the Lord graduate retention and attraction. It does not matter StaVord celebration, where we had a number of where the graduates come from as long as they come school children coming round to see what the to this region or stay in this region and go and work in the private sector. We are very good at putting universities and other players were doing in science graduates into the public sector; we are less good at and technology, just to excite them about what was putting graduates into the private sector. We need going on, but it is long-term strategy and, whilst the Y 2,000 more graduates a year going into the private exams are seen to be more di cult than other sector, and our current projections show that we will subjects, it is quite a challenge. I remain absolutely not hit the Leitch level 4 targets in this region, and it surprised that children do not see the interest in would be surprising if all the money available to science and technology. I was a physicist! higher education were enough to enable us to close that gap, so therefore we need to work with the private sector to help us close that gap. Q292 Miss Kirkbride: How much do you get the schools to engage in this with you? Or do they have Q289 Miss Kirkbride: On that figure, is that because too much to do? the graduates we are talking about are all doctors Dr Extance: The schools are engaged through a and teachers? Is that the comparison you are making number of programmes, not directly through us, and when you talk about the public versus the private we are certainly working with a number of partners sector? Because obviously they are very big to identify what is best, because the danger is we employers, so it would be quite a high hurdle. have a number of unconnected activities and schools Dr Hutchins: Absolutely, plus the local authorities. do not know who to ally with. That to me is one of Birmingham City Council is a huge employer. the national challenges. There are so many options; Mr Laverty: Graduates going into the public sector it is very hard for a school’s head of physics or is good in a sense in that you probably get better chemistry to decide which one to go with. So there is value for money and slightly better eYciency but it a national challenge there. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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12 May 2008 Advantage West Midlands

Q293 Mr Oaten: You have taken over the managing Dr Extance: Over the next six years of programmes of the European Regional Development Fund. How there is about £95 million earmarked of European is that going? Has it been helpful taking direct money through the structural funds for innovation. control of that? Mr Laverty: Yes. We have managed to align the Q297 Mr Oaten: Finally, do you think, then, given European programme directly behind the original all of that and those figures, that United Kingdom economic strategy. We think we did that fairly government should be doing more to directly help successfully with the last round, the 2002-6 with innovation than it is? programme, but this programme here is directly in Mr Laverty: I think that is a diYcult question to support of the Regional Economic Strategy; it answer. Everything we have said today is in supports innovation and business support, so we see summary saying that we need to convince the private that as resource that has come in right behind the sector to invest in innovative activity and in our RAE which is what we are keen to see happen across workforces. There is a role for the public sector but all public sector funding streams. We are very it cannot solve the problem, and I wonder how much pleased that there is good alignment there. money the public sector would need to solve the problem. Substantially more than the Government V Q294 Mr Oaten: Would you say that you get more could a ord across England. So I do not think support for innovation from European funding than necessarily, if you just keep piling in more resource, through United Kingdom government funding? things will get better. It is perfectly correlated; there Mr Laverty: Not necessarily. We have what is called will come a point where you are spending more but V a Single Pot; we get money in a basket from where it is not making any di erence, and I do not government that we can spend in line with our know what that point is. priorities, so we have chosen to spend a certain Mr Hutchins: It comes back to the point of joining amount of money on innovation, for example, from things up through our enterprise agenda, our our own resource and when we have articulated the innovation agenda and our skills agenda. You get European programme, which is fairly flexible as much more bang for your buck if you join those up well, we have articulated how much money we want and point them all in the same direction under the to spend from the European programme on Regional Economic Strategy than if you just focus innovation, and again we have decided to spend on innovation. another big chunk of money on innovation, not least Dr Extance: I think the Innovation Nation White because you need to spend your own money to draw Paper is very important because it puts the focus on down European money as matched funding, so no, procurement and pre-procurement activity in way I would not necessarily say we have more money for that is stimulating innovation. In West Bromwich we innovation from Europe. We have been able to have an “i-health” house in a two-up two-down in articulate with partners how much we want to spend Edgar Street which we have fully equipped with aids to help older people stay in their houses, with on innovation from our own source and from products mostly available in the market place, some Europe and it adds up to quite a considerable bit in are new, but it is a demonstration of what you can do this region. with technology and what new technology is required to support that activity. That demonstrator Q295 Mr Oaten: So it would be, say, 30% coming approach of putting things together and saying: This from European funding and 70% coming from UK is what it is like, these are the product opportunities government funding on innovation? and this is where we want innovation to be focused V Mr Laverty: O the top of my head I do not know are very valuable, and anything the Government can the exact figure but we could certainly let you know. do to stimulate that approach would be very valuable on top of the funding for basic research and Q296 Mr Oaten: But you would say United on top of the funding for skills, because it just Kingdom government funding is more than the provides a market focus for what we are doing. European funding coming in? Chairman: Thank you very much. I am afraid we Mr Laverty: Yes. In practice we have decided to must cut things short there. Can I express my spend it in a certain way, and I can provide you with gratitude to all those who made this evidence session the exact detail, but in theory the whole of our Single possible, including the Committee staV, our hosts at Pot, which is £300 million per year, could have been Coventry University and, not least, our witnesses. spent on innovation activity if that was what the Thank you also publicly for the programme you region as a consensus thought was sensible. It is have put together for the Committee, and we will see substantially less then £300 million per year, but that some of you later at dinner where we can talk over was our choice as a region. these issues more informally. Thank you very much. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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Tuesday 15 July 2008

Members present:

Peter LuV, in the Chair

Mr Adrian Bailey Mr Lindsay Hoyle Roger Berry Anne MoVat Mr Brian Binley Mr Mark Oaten Mr Michael Clapham Mr Anthony Wright

Witnesses: Ms Rachel Elnaugh, Entrepreneur and former panellist on Dragon’s Den and Mr Doug Richard, Entrepreneur, Chair of Conservative Party Small Business Task Force and former panellist on Dragon’s Den, gave evidence.

Q298 Chairman: Welcome. Thank you very much there are two separate questions that have to be for coming in. This is an unusual session for us. It is answered: (1) what is the ability of somebody to start the last one of our inquiry into how we stay ahead of a business in Britain, and (2) what is our ability as the game, basically, in this country, creating a higher entrepreneurs to grow businesses in Britain, and value added economy, what we do to compete there are, interestingly enough, somewhat distinct eVectively with Europe, China, and the rest of the challenges. The biggest challenge I had in writing the world and what we can do to make sure our report that I wrote over the last year was how narrow businesses succeed, innovate, grow, develop and a remit I had been given. That is to say, I was asked flourish, and so one of our number suggested we to talk about what can government do to directly ought to talk to you two. You have a lot of support the fostering of growth and experience, seeing a lot of people do it, and we look entrepreneurialism when, interestingly enough, most forward to seeing what we get out of this. We have of the challenges that entrepreneurs face are not your CVs from your website. There is some news actually related to government directly at all. Thus, today. I see the leader of my party is announcing to some degree, government can do very little, it is some stuV on insolvency. Your business actually more about the larger issues, and I think we went down, did it not, in 2005? sometimes lose that context. I think the largest Ms Elnaugh: It went into administration and was challenge, especially for entrepreneurial innovation then bought out the next day and phoenixed, businesses, therefore businesses that are small essentially, yes. businesses only because they are on their way to becoming big businesses, the kind we care to have in Q299 Chairman: What is that business doing now? this economy, is that we do not have an adequate Ms Elnaugh: In its first year it made a seven million culture of entrepreneurialism growing through our loss, which is a bigger loss than I ever made with it, children in our schools today, and this is a much but I do not know what is happening now. We will larger issue. have to wait and see. Q302 Chairman: We want to talk about that issue Q300 Mr Hoyle: So the phoenix had its wings next. We will put that to one side and come to that clipped! specifically next. Ms Elnaugh: Yes. We were talking just before we Mr Richard: If you get down to the prosaic levels: I came in about how, if there had been a way that I am starting a business in the UK. I have had the could have paused time and sorted the problems out, privilege of being able to specifically compare I could have potentially traded through and still be starting my own businesses in California and in running it totally profitably. Forcing it through an London and Cambridge. I think there is something administration process destroyed a lot of value. to be said for narrowing one’s comparisons. California is a state with its own set of conditions Q301 Chairman: That may be something we can unique to the rest of the United States, just as return to at a later stage, because insolvency is an London and Cambridge, which are quite interesting question, but let us crack on. We have six advantaged places within Britain to start businesses, small areas of questions. The first really is what can especially Cambridge. Nevertheless, there are some government do to help or hinder the process of very simple home truths. It is easier, faster, quicker entrepreneurialism, innovation, adding value— and more likely to have a successful innovation what is it all about—and what is the role of business in California than here. This has been well government in encouraging entrepreneurial activity? documented and my own experience completely Mr Richard: As I am sure many of you know, I have lines up with it. The question is why? What is it about just spent the last year and a half rather laboriously my starting a business in LA or Silicon Valley that trying to write a report on that very subject, so one means it is more likely to succeed? First and could take the view that I have got 75 pages of my foremost, one other thing, I do not know what distilled very strong opinions already written down, government can do about it, but the fact is I have a but, if you are going to take it from the top, I think deeper, broader talent pool of experienced Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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15 July 2008 Ms Rachel Elnaugh and Mr Doug Richard executives to draw upon, and entrepreneurial Mr Richard: The Cambridge Angels specifically? businesses, in large part, succeed or fail on the basis of the talent pool of the team you put together. It is Q304 Mr Hoyle: Yes. not the idea, it is not the science, it is not the Mr Richard: The Cambridge Angels is a group. The university it has spun out from (if it has), it tends to Cambridge Angels is an interesting organisation, be the quality and eVectiveness of the team, and we because when I moved to the UK I moved to have a smaller, less experienced pool of people who Cambridge, partly because my wife likes Cambridge know what it is like to start a business here. This is but in part because it was the closest thing to a particularly true in areas like sales and marketing, technology cluster that the UK had and I wanted to what I call the business side of businesses rather than settle myself in a place where I would feel at home. the technical administrative operational side. These My first thought was, great, I will go find the local are endemic challenges; they are just truths. There is business Angel Group, plug in, meet everybody, and no easy answer. You cannot wave a wand, it is not a get going. There was no local business Angel Group. problem that we can solve per se, but it is a challenge I am an entrepreneur. I figure, if you do not have that actually hampers. The other very large something, start it. What I did, like any good challenge—and I am going to make a rather entrepreneur does, I poached the model from sweeping generalisation, but humour me—the somebody else who is doing a good job of it; so I regulatory burden of a small business here is simply stole the model from Band of Angels in Silicon greater and the financial burden of a small business Valley, a very well known business angel group. The is greater. I will give you a very anecdotal specific way that model works (and there are multiple example. If I open an oYce, if I rent an oYce in models) is that, essentially, we are a dining club, so it Cambridge as a sole trader, I sit in that oYce and I is a group of people, and the only requirement to join am immediately taxed by the mere fact that I am in the club is that you started a business, grew the an oYce. I do not have to have a business. I am in an business, sold the business and put money in your oYce and all of a sudden a tax settles on you. It is the back pocket and are now willing to potentially invest business rates, of course, I am referring to. That does in future activity, but in the big bodies you cannot not exist as a concept in California, but I watch just invest. If you lead in investment you have to many entrepreneurs, young students coming out of represent other “angels” who are coupling with you Cambridge University, and they say, “Oh, I am not and you have to take an active, though part-time, going to take an oYce yet, because I will role in that business, because what you are doing, immediately be encumbered with a tax”, and so they inevitably, as an “angel” is you are trying not only to stop. That is pause one. We do not have the time make a successful investment, you are trying to today to enjoy the leisure of going through the other increase the likelihood of success by taking your thousand moments of pause that are settling on experience and adding it to the team so that the these people, but these things accumulate very playing field tilts in your favour. quickly, and the net result is an accretion of things Chairman: I am going to cut you oV at that stage, that slow down, that anchor people in place, they because we are going on to access to finance later. leave them in the dormitory, they leave them in a Y garage, they do not put them in an incubated o ce. Q305 Mr Hoyle: Thank you for the answer. All these things add up very quickly and, at our peril, Mr Richard: Did I answer your question? we slow down entrepreneurial business. You guys know that. I am talking to an educated group. The fact is, as you must know, that even though large Q306 Mr Hoyle: Absolutely, because when we were corporations represent 50% of our employment base last in California we met some of the angels there, and it was fantastic, what was done in Silicon Valley, and small business represents, loosely speaking, V 50%, when it comes to new jobs the vast majority the whole e ect of what had gone on. So, all this (90% plus) comes from small businesses, and when great success, all these benefits you are bringing to you take those small businesses and look inside us, what benefits you do you think you have gained them, it is only those small businesses that are from associating with one political party? potentially scalable small businesses, i.e. not the Mr Richard: Actually I have seen no benefit. lifestyle ones, that in fact supply the vast majority of those jobs. So it is actually a rather small percentage Q307 Mr Hoyle: Can we look forward to your of the total business pool that creates most of the resignation? new jobs in the country, and those businesses are the Mr Richard: I do not actually have an appointment, hardest to start and the ones that are most hampered so I cannot resign. The fact of the matter is I was by the kinds of burdens I am talking about. Thus, it asked by the Conservative Party to start an becomes a very direct challenge to the growth of the independent task force. I do not even have a right to economy. vote here, for goodness sake, all I have a right to do Chairman: That is a really helpful introduction. I is pay taxes and start businesses, and the deal I cut is think Lindsay Hoyle wanted to ask you something. that I wrote what I want, I said what I want, and the Conservative Party can take my opinions and choose to adopt them as they choose, and I would be Q303 Mr Hoyle: I notice that you are the founder of very happy for the Labour Party, the current the Cambridge Angels. What kind of fund is Government, to adopt them. I do not know which available for people to access money from you? party they are, but I cannot resign from something I Presumably you have got an account there. have not joined. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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15 July 2008 Ms Rachel Elnaugh and Mr Doug Richard

Mr Hoyle: That is great. We look forward to getting impact on very small businesses tends to be your notes. disproportionately slower, and there is no simple answer to that question. What bright line do I drive? Q308 Chairman: Rather like Lord Jones. He cannot Do I say it is five employees? Do I say it is this resign from something he has not joined either. amount of trading? There are no easy answers. To Rachel, is there anything you want to add about the the degree we do not acknowledge the fact that very role of government in encouraging entrepreneurial well-meaning regulations tend to have a very large activity? impact on very small businesses, we are hampering Ms Elnaugh: Back to the question. Is it easy to start the growth of small business and there has got to be up in business? Yes, it is incredibly easy. I can got out some air room in the early days for small businesses today and start a business on the web, get PayPal to grow or else we simply continue to be a country working and be up and running, but the challenge is, where it is harder, longer, slower. as Doug said, coming up against all the issues that Ms Elnaugh: Obviously there is the whole regulation then start to kick in, finding how diYcult it is to find piece, but there is another whole piece which came customers and all the challenges, once you do find out in Doug’s report, which is that what businesses the customers, of how to then service all of that most need is customers, and so actually encouraging business. I think that there is a huge amount of the sectors that we want to grow and that have got support that we need to give in training people who value for the future economy and potentially for the launch into business full of optimism and government for being the customer and actually enthusiasm. Have they got the basic skills to know allowing small business to get that business, to me how to market their business eVectively, to know those are the kinds of initiatives where government how to put the back oYce in place, to service the can be really helpful to encourage the right type of business, and then, when they start getting growth, businesses that are going to help in the areas where how do they deal with it? So to me it is very much there is potential for growth and which also help about training and enterprise education. other areas within society and other issues which Chairman: We are going to come to that as well as a need to be dealt with. If we can encourage small separate area. Brian did you have a point you business to focus on solutions for those areas, then wanted to come in on? you have got a win-win situation.

Q309 Mr Binley: Yes, I did. There is a general view, I Q310 Roger Berry: The idea of encouraging sectors: am not sure how well researched, in small business— the number of times I have heard the business and I started a small business in 1989 and another community say it is not the job of government to one in 1997—that government needs simply to get pick winners, it is not the job of government to oV the backs of small business. I do not share that encourage particular sectors of the economy, that is view. I think government does have a role, but I just for entrepreneurs to decide. You have just said wonder whether that role ought not to be overseen precisely the opposite of that, that it is the by government but carried out by business. Is that Government’s job to encourage particular sectors. fair or not? We are getting conflicting messages from the Mr Richard: I do share your view that it is business community. disingenuous and naive to believe there is no role for Ms Elnaugh: Okay. Take one sector, for example, government in small business. We do not live (excuse and that is energy. There are huge issues with global the expression) in the Wild West; this is the real oil prices, and the implications of rising costs of world. The real question, I think, tends to be the energy on our economy; and there is a drive towards diVerence between playing fields and direct creating much more sustainable energy as well as intervention, and so I am not disagreeing. I think it is being able to create our own energy here in the UK. diYcult to speak in such generalities. It really comes Encouraging that sector to me would seem to make down to what do we seek to encourage, because perfect sense, to encourage businesses to look at there has to be taxation, there has to be money for innovation within that sector of business, to actually the Government to run. The basic truths that we all focus small businesses’ minds. If I am one of the 17 live by we sometimes forget. I hear lots of people say, million people thinking of going into business in the “The Government has to get out of the way.” If the UK because they have watched Dragon’s Den, to Government gets out of the way, all sorts of bad actually think, “In what areas would I have most things happen; so I think it is disingenuous. The real chance of being a success and add real value?” I question comes down to: if in fact the Government’s think if government can encourage that it is a useful role is to improve the conditions for business, intervention. because we want to improve the economy so we have Mr Richard: Roger, do you mind if I come in on that. a more productive economy, therefore it means the I think there is a diVerence between backing sectors engine room is growing. If that happens to be the and creating market places. I will just use energy as focus, then the question arises: do we look to treat an example, since Rachel brought it up by way of our businesses equally, or (to turn it on its head), if example. Right now, globally, the number one we were to take any given law and lay it impartially country for innovation in solar power is Germany. on all businesses, is the impact the same? The answer Therefore, there are more new businesses starting is, no. This is where I see huge issues. If you take any doing innovative technology in Germany than in given well-meaning law or regulation that is any other nation in the world. Why is that? Is it intended to protect some individual or party, the because Germany happens to have the research Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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15 July 2008 Ms Rachel Elnaugh and Mr Doug Richard behind it? No, actually the UK, up until a certain Mr Richard: I am not prepared to defend something point in time, had more research in amorphous like that. Yes, obviously they are diVerent things, but silicon and other things like it than anywhere else, I think the challenge we have is twofold. Number but in Germany they created a regulatory one, every young enterprise, in large part, needs the environment where they mandated a specific price by same things. One of the things I find very distressing which energy had to be purchased back into the grid is the fact that we treat every region of the country and, therefore, they created a market place. You as though it is a unique case. The fact of the matter could make the case quite reasonably that that was is starting a small business in the north-east is no a sector preference. I would have asserted it was a diVerent to starting a small business in Ipswich or market place condition that was created. Why did starting a small business in Cornwall. The fact is they they do it? They did not do it to encourage are the same. This is what you mean when you talk entrepreneurs. They did it as part of an energy issue, about enterprise, you are talking about the support in other words in support of other concerns, but the of small businesses, and though it may be heretical direct net result was that we now have in Germany a to say so, the regionalisation of business support is concentration of activity, and these things do feed on not based on the most logical of grounds and you each other, there is no doubt about it, and thus when end up with very diVering support systems. I talk to energy venture capital firms, which I work with a lot, we all agree that the first place we look for Q315 Chairman: We are doing a separate inquiry innovation in solar is in Germany. We have that into regional development agencies and your potential here in the UK. Though it is a terribly evidence on that might be very welcome. conflicted issue, the fact is that the UK has the Mr Richard: I have already written about it opportunity in wind power to do the same. Everyone extensively.I am happy to give you all the underlying here who can read the newspapers knows exactly statements in support of it. why people are for and against big windmills oV- shore. Nevertheless, from creating market places we Q316 Chairman: Give us the references, please? create sectoral preference and I think, in that Mr Richard: But in the spirit of it, that is enterprise. instance, in a good way, not a bad way. The same Innovation is a cross-cutting question because thing is true for the Government as a customer. Does innovation is something that we want in large that make sense to you? corporations, we want it in small corporations, we want it in people starting businesses. Not all Q311 Roger Berry: It makes sense. businesses are innovation businesses. As it happens, Mr Richard: I am not picking industries, what I am the small percentages that are tend to be the ones doing is suggesting that market place conditions can that then scale to large business and tend to add the be created to permit industries to survive. What I do most HVAto an economy.Thus, there is, reasonably, not support is the notion of us making a list of bio- attention focused on that percentage of small tech semi-conductors, and everything else, and business, but the fact of the matter is that 98% of all saying, “Okay, we will back, that, that and that.” business in this country is small business (it Nobody knows what we will do. represents 15%). Of that 98% only a fraction of a fraction are innovation businesses. Does anyone Q312 Chairman: The committee is going next week here really know how many businesses are venture- to see Defence Advanced Research Agency backed in the UK in any given year? We are talking (DARPA) and the Small Business Innovation and about 1,500, that is one thousand five hundred, the Research Scheme in the States, which sort of do that, number of venture-backed businesses in existence in do they not? the UK in any year. It is not bad. Compared to the Mr Richard: They do, but they do so in an rest of Europe, we are doing better than the rest of underlying purpose. Their goal is not to improve the Europe. Is comparing the rest of Europe an eVective economy, their goal is to improve the ability of the measure? No, because the US is doing slightly better US to go on to warfare and, therefore, have and actually India on the way to passing us as we advanced technology to support it. You can agree or speak, but I am bringing a whole new series of disagree with DARPA’s remit, but they are not there issues up. to grow the US economy, they are there to have advanced research for weapons procurement and Q317 Chairman: We need to be away by half past 11 other systems, so it is an incidental side-eVect, and so we must be disciplined. they might, by the way, view it diVerently. Mr Richard: I do not know if that helps a lot. Chairman: It helps a lot. Roger your questions. Q313 Chairman: Before I hand back to Roger, can I ask one thing? I find it very strange myself that we Q318 Roger Berry: People talk about the culture of have a department for enterprise and a separate enterprise. How do we get it? What was it in your department for innovation. I know you can define background that encouraged you to become enterprise and innovation diVerently, but surely they entrepreneurs, what was it in your culture that got feed intimately oV each other? you moving and why is it there are not more people Mr Richard: I did not set that up. like you around? Ms Elnaugh: This is a fascinating area for me Q314 Chairman: No, but I am inviting your because I work almost entirely in the small business comment on that structure. sector now and I deal with entrepreneurs every day Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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15 July 2008 Ms Rachel Elnaugh and Mr Doug Richard and I do lots of consultancy and mentoring and marriage is likely to fail.” This is the list of down business advice. I really needed to understand the sides. There were up sides, but she started there, and kind of psychology of the entrepreneur, and I really she also said, “And it is unlikely to succeed”— do think that there is a definite mindset which bottom line. “The risks are very, very high.” Then separates someone who is going to be a success with Bennis went on to say, “But my father is a successful someone who is going to give up when the going gets entrepreneur” and my daughter, bless her socks, got tough. If we can somehow instil that entrepreneurial up and said, “So is mine”, blank, blank, blank, for mindset, which is really all about self-belief, which (the blank, blank, blank) she got into trouble. determination and drive, in people, in children The net result was that the teacher said, “Yes, but (ideally before they are five), then we are going to your fathers are lucky, they are the exception, and produce the type of people whose mindset is you cannot take from them.” So this was their entire entrepreneurial, and that does not just have benefits education of entrepreneurship. My daughter is at a for enterprise, it has benefits to the whole of society highly priced private school in Cambridge, so I had because it is very much a “can-do”, proactive, feelings about this when she came home that night positive mentality, as opposed to, “That will never and I said to my wife, “I think I should share my work”, and, “I cannot do that”, and when people feelings with the school.” I was not permitted to, believe that they can, that to me is incredibly because my wife wanted my daughters to continue to empowering in whatever sector. So I think there is a go to the school. Silly an anecdote as it was, this was huge amount that can be done to engender that the careers day. This was it. This was their moment entrepreneurial mindset through schools, through to learn entrepreneurship and that was what they training, through the way that we teach children. learnt. Mr Richard: Although I agree with Rachel, I have a Ms Elnaugh: Relating back to innovation, actually more prosaic view of it. I started teaching people the greatest entrepreneurs are the ones who are the how to start businesses last year, mostly because I most innovative and who think outside the box, the was asked to and they wanted to know, but it turned ones at school who are the diYcult, trouble-makers. out that they did not want to know how to start a Mr Richard: That is not always the case. business, what they wanted to know was how Ms Elnaugh: There are lots of examples of that, and businesses start. Meaning, if I have an idea and I am I think it is fair to say that in education we should sitting here in my cubicle, staring out of the window, be encouraging rather than suppressing spotting the I am thinking, “Gosh, I have an idea. What do I do?” odd-ball mavericks. If you go to America most They do not know how to think about starting a entrepreneurs there are complete odd-ball business. They do not have in their mind a picture of mavericks. the mechanisms and how all the bits fit together. Mr Richard: No, we are not. What is interesting about that picture is that it is Ms Elnaugh: That was my experience of going to the teachable, it is noble, it is learnable, it is an Ernst and Young American Entrepreneur of the educational question, and this was forcibly brought Year Award in 2002. home to me by my daughter and son. My daughter Mr Richard: They tend to be a bit more flamboyant. is at a school in Cambridge and she went through Do you mind if I add one comment to this. There is one of these exercises to help you determine what an opportunity here, and I do not want it to be career you should be in. It was a laudable exercise. woolly, I want it to be specific. When we wake up in They handed to the children little cards, on which the morning and our kids are in school, there are there were various queries, handed out randomly, certain things we treat as basics—reading, writing, and, prior to handing out the cards, they had to write arithmetic, English—there is a basic curriculum, but down what their aspirations were, the notion being never do they in any way learn how the world works. that you should try to get a query that matches your I want my children to be well-rounded, but a huge ambitions and aspirations. As it happens, my portion is how do things get done? How does a thing daughter and a young friend of hers, whose father is get built? How does it get purchased? How does it get also an entrepreneur, wrote down a series of things bought? How does it get sold? What is the mechanics that, if you were to look at that list of aspirations, of an economy? I want to assert: teach them that, could very well have been written for an read the notion of business and enterprise into the entrepreneur; and my daughter’s friend Bennis core curriculum so that they are launched into the received hers and on her card was written world with a basic profound understanding; when “entrepreneur”, and so when her turn came she said, they walk down the street they can look at a store “Great, I got a perfect match. I want to do these and understand how a store works and how an things. I want to be independent. I want to be my enterprise works. I think that that is 90% of the issue. own boss. I want to become successful. I want to It is not actually, I believe, about inspiration or have an impact on the world.” That kind of thing. enthusiasm, I think they have that. I just think that The teacher said, “Yes, but what about the down they do not take the first step because they have no sides?” She said, “What do you mean?” She said, clue how to take that first step. “Well, according to our sheet from our guidelines, Ms Elnaugh: I think, personally, it should be woven being an entrepreneur has the following things into every subject. If you are teaching art, instead associated with it: you are likely to fail.” That is of getting people to draw that building out there, number one and you work outwards from there. get them to design a brand identity for a product. “You are not likely to have people to work with, If you are teaching geography, look at a country friends. You are likely to work long hours. Your and say, “If I was running that country what are Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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15 July 2008 Ms Rachel Elnaugh and Mr Doug Richard my natural resources and how could I generate Q320 Mr Clapham: Let us pick it up from the point revenue and wealth from my resources? If you are you were making about the school that your doing English literature, look at the biographies of daughter goes to, some of the things that the great entrepreneurs. So you can weave it in. If you teacher was saying about the down side. Fear of are doing maths, teach people how to work out failure must be something that is real and definite profit margins and percentages, because people to an entrepreneur at the point that they are come into business with no knowledge of the basic starting up. fundamentals of how to work out basic financial Mr Richard: The short answer is fear of failure stuV. We do not have to have an enterprise class, it should be on their minds, but I do not think we can be themes that run through every single subject. should try to remove the fear of failure; it is a heck Mr Richard: We do not want to ghettoise it in any of a motivator. The fact of the matter is that I way, shape or form. started my first business not because I was inspired to start a first business, but I really needed some money, I was broke. So I started for very prosaic Q319 Roger Berry: Apart from the dummy product reasons. I was not a natural entrepreneur, and I was education that you gave us, schools in my area, afraid of failure pretty much every day for the first which are state schools, do actually teach young year, because I was near failure, so my fears were people how to get interested in business, and not unjustified. The fact of the matter is fear of certainly the view of geography that Rachel has just failure in the UK is not some abstract culture, as described, this is all terribly general and nebulous, Roger said, some woolly thing. I believe it is is it not? Do not tell me that the answer is paper, grounded in very specific conditions where the risk but what are the top three things that the of failure is greater. It is as simple as that. Part of Government can do promote cultural enterprise? it is a cultural condition. It is quite shocking, when you move from the US to the UK, to see exactly Obviously other business people. Our Chamber of what happens when you reach public status in this Commerce should doing this, the Small Business country. You get skinned alive. It is a harsher public Enterprise Unit should be doing this. Has environment, and there is nothing you can do government got a role here? Should we be rewriting about it, it is what it is, but the fact of the matter the school curriculum in terms of promoting a is you stick your head above the parapet and all of culture of enterprise which you have said is so a sudden everybody takes a shot at you. Leaving important? that aside, let us just talk about what can be done. Mr Richard: With all due respect, I do not think it I can think of two things. The consequences of is the role of government to promote a culture of failure in the UK are greater. Why? (1) Because enterprise. There are no quick and handy tools there is no soft landing zone for companies that get lying on the table for us to pick up. I think into trouble; this is a big deal. Chapter 11 is government can have a role in education, but let us something I am sure most of you are familiar with. not talk about education. I do not think that we It is essentially a temporary bankruptcy. It does not can mandate a culture of enterprise. I do not think carry with it the stigma of bankruptcy. I would we can even encourage per se. I think people are assert that Rachel’s business would be alive, well, rational actors on an economic stage. I will give trading and successful today, and what she was you an example. You know what you can do to being very polite about saying is that the people promote a culture of enterprise? We can change the who have acquired her business are doing a worse quantum of risk in starting an enterprise so that the job than she did of it. The fact is she had the fear of failure becomes less. In the US we have a expertise; she had a bump in the road; that bump soft landing system, we have Chapter 11 and in the road probably would have put her back in Chapter 7. Here we have a sudden death system. success if she had had a Chapter 11 route to get Chairman: I have got lots of colleagues who want back up again. It is the avenue we have to look at to ask questions. Fear of failure is the next point because it is the sum of the sum of experiences. If can will come to. Can we do fear of failure next? something starts, they have got a business that Mr Binley: I wanted to ask a question on this sends out bad vibes to everyone else, it is the sum particular section, because education is not only of these things that creates the outcome. The limited to school, and we ought to recognise that. second thing is, if you go and get a loan from a Can I ask the question, Chairman, I assume you bank in this country---. By the way, I express my will allow me to? Thirty years ago the banks were bias right now: I am not thrilled with the banks in this country and the way they treat small much more open to dealing with entrepreneurs than businesses, it is a profoundly dysfunctional they are now. relationship, but as it relates to failure, you do not Chairman: Access to finance comes later, Brian. put your home at risk in the US when you start a Mr Binley: I am not talking about access to finance, business. If you get a business loan, your home is I am talking about education. still your home. They cannot touch it. There is Chairman: Education also comes later, Brian. Can something in the US called the Homestead Act that we move on to Mick Clapham. basically does not let them touch it. Here it is rule Mr Binley: I am sorry, we were talking about number one. The first thing they say is, “We want education, and that is what I wanted to pursue. your home.” Well, I got news for you: that is Chairman: Brian, I am sorry, we are going to move definitely going to put a few people oV starting a on. Mick Clapham. business. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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Q321 Chairman: We will come on to finance later. not about encouraging people to go into business, it Mr Richard: I only bring it up because you have is about encouraging successful business. Rather to understand— than encouraging people to jump oV the cliV like lemmings, “Yes, go and set up your own business”, Q322 Mr Clapham: Chairman, I want to come to I would prefer to see less businesses but a higher Rachel in relation to a statement she made a little bit survival rate, because the ones that do fall out are the earlier about entrepreneurs being odd-balls, because ones that I get the emails from usually about a year the ones that we have seen, and we went down to into their entrepreneurial journey saying that they Cambridge to meet entrepreneurs, were very are on the edge, they are about to lose everything and rational. They had got their idea whilst working in it has destroyed their life, and that is very sad. university, or a link with a company from university, and that rationality had led them to believe in Q324 Mr Hoyle: I think you have both put the point themselves and that they could work their idea across about stigma, and I think you are absolutely forward and into the market place. That is rather right that here it is held against people and people V di erent to what you were saying about your shun away from the idea that they may go bankrupt. experience of working with entrepreneurs. Yet in America it seemed to be a badge of honour; Ms Elnaugh: What I was talking about was you were not a successful business person unless you innovation and mavericks. In the education system had already had a failed business. That is what came it seems to me that if you bob your head up above across. Is there something that we ought to be the surface, it is command and control and you will mirroring there, something we ought to reflect in be made to get back in line when actually maybe we this country? should be encouraging that entrepreneurial spirit. Mr Richard: Nothing caused me more amusement There are lots of examples. In the Princes Trust some than to read in the Telegraph this week about this of the most diYcult youngsters who then get on to the programme become the most successful particular session today.Some columnist has said, “I entrepreneurs because their energy is channelled in cannot believe they are inviting Rachel Elnaugh, the right way. That is what I was trying to say. There Doug Richard and James Caan in. After all, Rachel is potential to channel all of that maverick energy Elnaugh has a business that has failed, James Caan and enthusiasm into a more positive outcome, but has invested in a business that has failed, even entrepreneurs, obviously, come in all shapes and though he seems to have done alright, and Doug sizes and wherever that innovation is we should be Richard, they were stretching, I admit, said he liked encouraging it. On the fear of failure, I am advising Eos Airlines and they failed.” That is true. I also like people all the time who want to go into business. lots of foods. But this was the journalist’s view. We They say “Yes, I want to do it. I want to go for it. I were unqualified, our resume´s were shrunk, mine in have got this great idea.” So I say, “Okay, are you particular, to a blog entry, down to the fact I would prepared to put your money in?” To which they reply assert nobody has more value to contribute than, “Oh, no, I do not want to risk my money. I do not say, Rachel, who knows exactly what the price you want to risk my house. My wife will not let me.” pay is and has gone through it and understands it. These are the kind of things which are the blocks that The fact is when I look at somebody’s re´sume´, the stop people who have got the great idea, who have one thing I look for is: “Have they been in a small got the ambition. It is the fear of losing the monthly business?”, but when I look to hire them into a small salary, the fear of losing the house that just stops business or invest in their start-up, the first thing I people from living that dream. As Doug said, if we look for is: “Have they been through the experience removed some of that, you would see a lot more before?”, and I do not really care whether it has people taking the plunge and leaving the safe job and succeeded or failed, but in some ways I have a bias starting the business. in favour of the ones who failed because they now know what failure looks like. It is experience. If you Q323 Mr Clapham: So you would agree with what put a sporting team on the field and they lose a game, government to some degree is now saying, and that do you kill them at the end of their game and say, is that in order to stimulate entrepreneurship there is “Done, dusted, you lost the game”? No, you say, a need for really accurate information to be available “Go train, and next week you give it a go.” This is to the people that want to start up. You are saying if the challenge we are facing. I do not have a clue what that accurate information was available and some of government can do to change that directly. You can the risk to some degree mitigated or a softer only do it by changing the quantum of failure landing— involved. Train them better, reduce the risk of Ms Elnaugh: Yes. There are lots of things you can do. bankruptcy, et cetera. I think those things will You can give people the right training and support remove the cultural index more quickly. We used to to make sure that they do not mess up big time when fine people when their phones rang! they go into business, and waste all their money, and Chairman: Someone has got a phone on. What I am get 12 months in and realise that they are on the edge thinking of doing is restructuring the questions. We and they have got no money left to work their way keep coming back to money, so I think we ought to out. You can actually remove that risk. Put better do money next and we will take skills after money. measures in place so that people do not have the risk Mr Binley: Can I ask a question on this particular of losing their home. I think generally there are area? better ways to support the whole process. To me it is Chairman: If it is this area, yes. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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Mr Binley: One of the problems, Chairman, is that venture capital, or an angel activity, if I do not see the Government does not listen to entrepreneurs, compound returns better than 25% IRR, then I am and you are proving that point totally, quite frankly. not doing my job. We are talking huge diVerences in So I wish to proceed on this issue of fear and the potential return. What has to couple to that? Huge relationship with banks, and this is where diVerences in risk. Low risk creates low return. government can do quite a lot. I believe 30 years ago When I start a business, if I walk in as an banks were more interested in being entrepreneurs entrepreneur with the same thing that I would walk themselves. in as an angel to a bank and I say to that bank, “Lend Chairman: I am sorry, Brian, this is a money me money”, the bank should say, “No, because the question. We will take that after Anthony Wright’s risk is far too high. You have no assets, you have no questions. revenue, you have nothing for the bank to lend Mr Binley: No, I am sorry, Chairman, I want to talk again.” If you come to me as an angel, I am asking about what government can do with banks. The for a share of the business, usually a considerable question is here under this heading. share of that business. Why? Because the risk is Chairman: No, it is not. suYciently high that to oVset the risk I need a very Mr Binley: If you are going to stop me every time, it large share of the business: because the fact is in is waste of time me being here. angel investing and in venture investing Chairman: I will ask you to leave the room if you do approximately one in ten investments makes the not actually take some discipline at this point. kind of return necessary to cover the failure of the Anthony Wright is going to go on to ask about other nine. That is a high-risk game indeed. So, in money, and when he has done that you can come in support of the question you may or may not have with your supplementary. asked, it is not the role of banks, and I do not care Mr Binley: I call for an adjournment, Chairman. what they were like in the good old days, then they Chairman: No. were wrong in the good old days. Banks do not Mr Binley: Yes. I can call for an adjournment, become high-risk investors by virtue of mandate or according to the rules, because I want to discuss anything else, and I think we would be very foolish something with you privately. I have that right on to put them in a position where their risk is removed this committee. so it is easier for them to do that. It is not the business Chairman: Brian, please can we make sensible of loans to make equity. Did I answer your question? progress? Everything is going back to money. Tony Wright has the questions on money. If he asks those Q326 Mr Wright: Yes, but what role has government questions, then there is no risk to the structure of the actually got in this quest to try to give support to questioning. small businesses? Mr Binley: Forgive me, on a point of order, on the Mr Richard: There are some good economic things area we have just been looking at, how can we can do. First of all, in fairness, there are good government counter a fear of failure that might exist. things that are already happening. Perhaps maybe Having been an entrepreneur and a successful one, I pinpointing those can give you a feel. Is everyone was going to use my experience to tell you how that here familiar with the EIS programme? That is might happen, by encouraging banks, and interesting. EIS is probably one of the most government can do that. successful programmes ever in this country. The US Chairman: Brian, look at the questions at five. They could learn from what the UK Government has are all Tony Wright’s questions. done. EIS, basically, is the programme by which I, as Mr Binley: Everything is interconnected. an individual, can invest in a small company. Chairman: But Tony asked for these questions. I am sorry, gentlemen. Let Tony Wright ask his questions, please. Q327 Chairman: Enterprise Investment Scheme. Mr Richard: Thank you. I can invest in a small company and I get specific benefits from the Q325 Mr Wright: Never have I caused so much Government in terms of tax relief, et cetera. That trouble in asking for a set of questions that I have not programme is essentially what? It is a subsidy by the even asked yet? You have answered most of the Government to encourage people to invest as questions in terms of the finance side of things, but, individuals, as angels, in very early stage businesses. obviously, there are diYculties in accessing finance It is the key gap in funding in the country. It is where for new companies. Indeed, on Dragon’s Den is it our whole exists. It does not exist at a monetary not the fact that the majority of those people who level. You cannot say it is from zero to 2.5 million or have come in, in terms of the “dragons”, are people anything else. What you can say, it is to your point who would probably fail by going to a bank and, of risk. Mostly there are three stages of funding in a therefore, come to you with a low-risk, without the business. The first stage we used to call the three Fs: fear of losing the business? friends, families and fools, because they are the only Mr Richard: There does seem to be a fundamental ones who put money into start-ups. What we are breakdown of communication when it talks about doing by having programmes like EIS is we are banks and finance to business, which is your point. encouraging individuals to reach into their pocket Banks make very little money. I know it is going to and give it to a family friend, to give to it the son of sound like an extraordinary statement, but banks a friend or the daughter of a friend, to give it to a actually make very little money on their money. neighbour who has got a wacky idea, and those They make 5%, 6%. When I am in an investor, or informal conduits could be expanded upon. The Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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Government could take direct action to liberalise comes back to educating people that you do not just and expand the EIS programme so it was a pre- have to have a lump of money and if you have not eminent programme in this country, and as you got that lump of money you cannot start. It really is encourage money at the most liquid level, at the not like that. The second thing about banks, I think earliest stages of government, it is not about banks, it is very important to consider the role that banks it is not about VCs, it is about getting a lot of people play in pulling the plug on otherwise successful to act for people they already know to their own businesses that suddenly find themselves, for advantage, but it will cost money. whatever reason in trouble. The bank decides the Ms Elnaugh: It can go one stage further, because risk is too high, they pull the plug, and that business when I started my company back in 1989 it was done will fail and the spoils, quite often, go people within under the Business Expansion Scheme, which was a very small circle of contacts. We probably will not 100% tax relief for investment and total capital gains go into that now, but I think the banks can play a tax free, and that is how I funded my business with huge part in survival of businesses, because quite mum, my brothers and my friends. Actually on often they will pull a plug on a business that could reflection I think my family were excluded from the survive but they just decide that maybe they are too scheme. much at risk, or whatever, and they will just let the Mr Richard: They still are. It is a bizarre exclusion. business go and crash, and a lot of value is lost Ms Elnaugh: But my friends could put in, and they that way. got 100% tax relief. It is a very, very good way of incentivising the friends, family, fools to actually put in the money because you are completely de-risked Q329 Mr Wright: Do you see more of that as an investor. happening now with the present credit crisis, the Mr Richard: There are so many limitations that credit crunch, that banks will probably claw that Y make no sense, and the EIS programme is not back where they see di culty? Do you think banks V even---. There is not time today. The broadening, the put entrepreneurs o from trying to borrow money loosening of the EIS programme, there are so many to start up a business, and what can government and things it does wrong as well as right, it is like Hamlet. businesses do to try to prevent that? It is a completely flawed programme. I will just give Ms Elnaugh: The bit that I am particularly interested you one example. If you are non-executive director in is the bank’s role in a company that is in trouble you are not allowed to participate in the EIS scheme. and how a bank can easily force a company out of Why I could not even begin to imagine. But what is business when that business could easily have an angel? An angel almost inevitably becomes a non- survived if the bank had decided to stick with it and executive director. Who knows why you cannot do to help them trade through. The thing that I found it. All I know is you cannot. I am about to sell a when my business went into administration, the company right now thanks to the recent DTI, BERR, launched a huge investigation into me introduction of an 80% increase in capital gains tax, as a director and what I had done wrong and besides the fact that you almost took 80% more out completely did not look at what the bank had done. of my pocket. That was money that I cannot put into We had 3.3 million cash sitting in the company that half the EIS things I would like to because I am we could not touch, and that was why we had to put barred, because I am capped, literally. I have got a it into administration, because we were starved of lot of money. I can put more in, and I will—I get cash. Nobody actually said, “Where did that money opportunities every day—but you all said I can only go?” and actually the bank awarded that money to put in so much because for some reason it is bad for the people who bought the company out of the universe. The fact of the matter is EIS could be administration on a plate, even though that money loosened, broadened, made more liberal, opened up technically belonged to the creditors of the existing to directors, opened up to shareholders, opened up company. It was absolutely outrageous, in my to employees. It is a great programme. It is worth opinion. So when we look at companies that have building on. gone into receivership or administration and we look at what role the directors have played and whether they did anything wrong, I think we should also Q328 Mr Hoyle: We have done that before, have we make the banks culpable. Could the bank have saved not, through shares where people who work within that business? What happened? I think there needs a business could actually get tax relief and take it in to be a lot more of a spotlight on the role the bank shares, but that was scrapped a couple of years ago, plays. I hear hundreds of horror stories about and I think it is where we have missed out, because entrepreneurs who have lost their businesses because it was a good way of encouraging investment within of the bank and no other reason. that company, and I think it is a mistake we have not got it now. Ms Elnaugh: Can I come back to the point about Q330 Mr Wright: I am interested in the correlation banks? In terms of initial funding, one of the things between good advice and, obviously, good finance as that happened a lot in Dragons Den, and I see it all well. Again, within Dragon’s Den there is a great the time with people who come to me, is that people deal of play put on the fact that, although you are think that they need a huge pot of money but asking for a greater percentage of the company than actually they really do not. There are much more they want to give, the fact is you are saying, “We are clever, innovative ways to structure your start-up going to give you our expertise.” How much of that funding needs. So that is number one. Again, it is in relation to more importance than the actual Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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finance itself, because the levels of financing seem to “To determine whether or not we are going to let you be very low in terms of some of the entrepreneurial be a director again in a company.” I said, “You are people that come along? telling me that my eligibility to be a director of a Ms Elnaugh: Yes, I think there is no doubt that if you company is based on my decision-making and can get an experienced entrepreneur on your board shuttering this business in good order by the very who has got a vested interest to make it a success, rules that we are supposed to apply”, and that is if you have got a much better chance of succeeding as we have no future prospect of financing we must a start-up. close the business. You cannot trade beyond your bank balance. I was astonished. In the United States, Q331 Mr Wright: Is that one of the problems with obviously, these things do not exist, so it was a new the banks, that they would not take that on board. event for me. I was sitting there with a guy who could Instead of calling in the money, what they should not add two and two together trying to explain to probably do is call in expertise to assist the him the intricacies of manufacturing and finance. I company? hope I helped his education. Ms Elnaugh: They call in expertise and they help Ms Elnaugh: The interesting thing about Grails as themselves get oV the hook and, when they are oV well, I know it is an individual case, but it proves the the hook, then they let the business go. point about EIS. If we had put in more money and taken more responsibility to help save that company, Q332 Mr Wright: I am saying expertise to assist the we would have lost our EIS relief, and there was company in getting out of the problems that they more money to be had from actually putting it into have got? receivership and getting the loss relief than putting Mr Richard: There is an assumption when a business more money in. We were incentivised to close it fails in this country that it is solely the fault and Mr Richard: We had an incentive to close it because responsibility of the directors, the executives of that the EIS limit would have cut oV. It was a little business. In Rachel’s case one can make a very perverse. strong case that the bank was equally, if not more, Chairman: I think Brian has a question on finance. culpable in the business’s failure, and yet the only person investigated was Rachel. A side example: I Q334 Mr Binley: I hope you will allow this one! The invested, as I do all the time, in a young start-up in truth of the matter is that most small businesses do the UK a few years ago and it was, to say the least, a high-risk start-up, its odds of succeeding were very not rely on angels, they do not rely on investment slim, but I took a punt. I did not put a lot of money banks, they rely either on their relationships with in (75 grand) and the business subsequently failed. close family, sometimes with friends but less true, Okay, so I lost my money, no big deal. It failed for all and they rely on their relationship with their bank, the right reasons. Actually that makes sense. They and the point I wanted to make is to ask you whether had a great idea for some technology; the technology you do not think the real concern is not getting did not prove out; the business failed; I had to close original start-up money but in controlling cash flow. the business. I had never closed a business before in Most small businesses go to the wall because they this country. What a travesty! I was actually called in think it is all about sales and not about cash flow, by some two-bit civil servant who then put me and that is where the Government can urge the through a grilling as to whether or not I had done banks to help. Do you think, right at the very start right or wrong somehow. I was closing a failed of this list, that is a fair point to make? business. I was not admitting defeat, I had done Mr Richard: Somebody once said the proximate nothing wrong, but this guy acted like I was cause of death of every human being is their heart somehow guilty of something in order to determine stops. Of course, if you have been hit by a truck two my worthiness to sit as a future director. minutes earlier, that may bear a relationship to why you are also dead. The proximate cause of every Q333 Chairman: What oYcial was that? What business failure is you run out of cash. It is true, but, department would that be in? Who called you in? I am sorry, Mr Binley, rather banal to say that it is Mr Richard: It was, I guess, DTI at the time. You cash flow. Of course it is cash flow. I agree completely have changed the names for everything. You know on one level, I disagree completely on another, what business it is? It is Grails. because I am not going to turn to a bank to teach me Ms Elnaugh: Yes. how to run revenue and cash flow, they cannot do it, Mr Richard: We were both investors in it. There was and they should do it because they are not advisers, nothing wrong with the business except that it they are not entrepreneurs themselves. What are they probably could not succeed, and so that is okay. going to do? They are going to sit there and hold my These things happen though; this is the nature of hand and teach me how to run my business? I do not start-ups. We all know that in start-ups the odds are think banks are equipped to do that. You know that long. What I found, as Rachel knows, because I took as well as I do, but I do agree with you that people on also the burden of closing the business down in focus on the revenue and not the cash. I think that is good order and putting it into receivership, their very wise advice. It is the coupling it to the banks other question arose, and I sat there in some room, that I find a little issue. I can get you the details, but the bottom line was he Ms Elnaugh: It comes back to training again. If sat there and said, “I am going to look over your last people are going to launch into business there are six months of activity”, and I said, “Why?” He said, certain basics of marketing, logistics and finance, Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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15 July 2008 Ms Rachel Elnaugh and Mr Doug Richard which includes understanding cash flow and just Mr Richard: You should not make the bank culpable being able to put together a spread sheet. A lot of for the mismanagement of the cash flow of a small entrepreneurs have not even got that basic skill. business. Banks are bad enough at what they do. We do not need to give them a broader scope to do Q335 Mr Binley: And that is exactly right. My worse. argument is that the banks can be encouraged to Ms Elnaugh: If a company is unnecessarily pushed help people understand how to handle cash flow. If into administration or receivership then I think I might tell you, Lloyd’s Bank published a book with making the bank culpable would save a lot of an example of “our relationship”. That is the point businesses. I am trying to come to, because most small Mr Richard: You and I agree on that but we are businesses get money one way or another, be it they talking about two parallel things. You are talking put their house up or not, from banks; that is the about should the Government— reality of the situation, and the truth of the matter is Ms Elnaugh: But that would be an incentive then to that the relationship with the bank is vital to banks to support companies in trouble. controlling that cash flow and eventually having a successful business in my experience. Now, sir, you Q339 Mr Binley: This is a central point, actually. said I was banal. Mr Richard: If banks have to also be held Mr Richard: No, I did not say you were banal. accountable when they participate in the failure of a business I completely agree. That is a diVerent thing Q336 Mr Binley: You said the question was banal. than this gentleman’s suggestion that the Mr Richard: I did. Government --- I ask you the question back: precisely how does the Government encourage the banks to develop relationships— Q337 Mr Binley: I have two businesses which Mr Binley: The Government has worked with banks employ 250 people and have been there for 20 years on many occasions—small business loans, for and 13 years or something of that kind very example. We could go on and on. There are a successfully. All the way through I have worked very number of examples. The point I will make, closely with the banks and, providing you create that however, is that the main channel is through the right relationship, you are in with a much better Bank of England and how the Bank of England chance of creating a successful business than relates to the banks, and the Government can urge otherwise. The point I wanted to make and want to that the Bank of England calls for more put to you and want to bring out in this particular encouragement for banks to create the relationship investigation is that if that relationship is created and that I have just talked about which I said was the the Government can encourage that to be created most vital ingredient of the success of the two then a business has a better chance of survival than businesses that I and a couple of others founded, the otherwise, not a diYcult or very clever thing to say relationship with the banks, and I think the but in my experience true. That is what I wanted to Government can encourage that in a much more bring out but you seem to object to that and I do not active way. My point really is that the Government understand why. often goes through its own organisations to give help Mr Richard: Let me tease out the part I do object to. and educational support to small and start-up I completely agree with you that an eVective businesses. I think there is a better way of doing it relationship with the bank is an absolutely critical and the banks can play that role provided they are part of the successful growth of a business. My encouraged and maybe encouraged with incentive to businesses have succeeded in part because I manage do so. That is the point I want to put to you because my banking relationships closely. Where we part I think that would be more successful, through the company—and the reason I called it banal is because Small Business Service and those sorts of I consider it an obvious truth of business, not organisations doing work that often falls on stony because I happen to think you in particular may or ground. If you do not agree with me I am perfectly may not be banal; I do not know you well enough happy but I wonder if you would comment on that yet—is that what I was alluding to is the one specific, central point, in my view, of a successful statement you said very quickly and then jumped business in terms of a relationship with banks. over—“and the Government can encourage”.

Q340 Chairman: Without repeating yourself if Q338 Mr Binley: Yes. possible, because I suspect it is the same answer. Mr Richard: That is the part where I disagree. How Mr Richard: Okay, so a short answer. I think what does a government encourage? Governments do you are saying is that there is a better route, a better many things but one of the things I have never seen distribution channel for a certain type of education a government do is encourage. What does that than directly from government to an individual, and mean? Do you call Barclays tomorrow and say, that the banks potentially could provide that route. “Guys, I want you to have a Kumbaya moment with every small business in the country and give them a big hug and sit down with them and spend time Q341 Mr Binley: Yes, partly. going over their cash flow”? Mr Richard: My only comment is that I would really Ms Elnaugh: You can make them culpable if they ask you to show how such a thing could be done and unnecessarily force a company into liquidation. then the outcome would certainly be beneficial. It is Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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15 July 2008 Ms Rachel Elnaugh and Mr Doug Richard just to me a question of mechanics. I cannot imagine Ms Elnaugh: In addition to encouraging that how one would do such a thing. It is a failure of my through education there could be training imagination. programmes put in place because other professions Chairman: As we have a failure of time on our hands have qualifications. Going back to the point about we must move on but I think we have thrashed the banks, if I were a bank and I saw that someone had diVerences between you helpfully. got an enterprise qualification of some sort, like a mini-MBA but for practical skills in enterprise, where they have covered the basis of cash flow and Q342 Mr Bailey: Can we just revert to the issue that marketing and logistics, I would be much more we were developing early on, and that is the role of willing to lend to that person than someone who education in fostering a culture of enterprise? Mr comes oV the street saying, “Hey, I have got a great Richard, you gave a very good example of a school idea”. There is potential to create a qualification in that seemed hell bent on disincentivising people to the same way that if you go into accountancy you ever participate in entrepreneurial activity. You also become an ACA or whatever. It is not to say that said that it is not the job of, if you like, government people have to take that but it is a huge advantage to to mandate this issue with education. However, it make that available to people. does seem to me that teaching young people certain skills which they can acquire and develop confidence Q343 Mr Bailey: You have pre-empted what would in which are related to enterprise and business means have been my next question on any examples of there is potential, so there is a link there. What do good practice. The problem is that you have you think can be done within the education system eVectively said this particular scheme is ghettoised. that would do that? It is a question of how you get relevant and related Mr Richard: If I gave the impression that the parts of it incorporated into the broader school Government cannot impact on education that is not curriculum. I had what I would not even call a small my view. My view is that the Government can play business, a micro business, and although I was a role in shaping how children are taught very fully, theoretically well educated I realised that I did not so I do support the Government playing a role in the have any of the skills or knowledge that were shaping of our children’s education. Once again, necessary to run even a micro business. To move on there are good things already being done and slightly, what do you think is the role of business and perhaps it is useful to highlight them. I highlight for what sort of business support can be given to the you Young Enterprise, which is a great scheme for its education system to bridge this gap? size. For those of you who are unfamiliar with Mr Richard: I will turn it on its head. The question Young Enterprise, it is an opportunity for secondary I would love to see asked is how can we bring school students to essentially start a business and education into business, not just business into then in a competition they compete and there are education? Although I know it harks back to a prior judges. I have judged many of them around the age, the fact of the matter is that a robust country and it is great, it really is, it is fantastic, apprenticeship system is a very valuable thing. Every because it is their first opportunity to get to grips company I start has one though we do not always with what does it mean. I ask every one of them every call it that. We call them lots of things—internships, time I judge, “What did you learn and is anything this and that, but the fact of the matter is that if you going to change coming out of it?”, and the most want people to become very good at something you frequent answer is, “I might start a business some couple them with someone who already is. Every day”, directly from this one programme. In large business I start literally has an entry space or spaces part I think it is useful to learn from what works, and from the beginning onwards and as the business one of the things that already works is Young grows those apprenticeship slots grow with it. You Enterprise, so ask yourself the question, why is it a bring the people in, they are young and you figure speciality programme? Why has it been ghettoised? out where their talents lie. It could be anywhere. We Why is it just for a few? Why is it voluntary? Why is take them through until we find their home and then it on the periphery? Why is it not, as Rachel I think we glue them to experienced people as—I am not has already nicely phrased, woven into the very sure what the polite term is—their dogsbody. They fabric of secondary school education? I would assert follow them around until they get it and we grow that it should be a part of our core curriculum, them up. The fact of the matter is that I suspect there teaching kids how the world works, and part of the are things the Government could do to make it easier answer to that is, “Here is how business works Here for businesses to create apprenticeship programmes is how you can start, if you choose”. Not all children under whatever name. It is an incredibly eVective are entrepreneurial. We all have within us a certain way to get kids into business and then to teach them creative impulse. Some people exercise it through a huge set of skills they do not otherwise have. Many art, some people exercise it through music, some businesses do it already because it is just best people exercise it through starting a business. That is practice. the exercise of the creative impulse. It is just putting them in a position to use the tools. You cannot play a violin well unless you play it at all. It should be part Q344 Mr Bailey: I was going to say apprentices tend of the educational system. You have all the control to be associated with the manufacturing industry. Is necessary to do that. that what you are saying? Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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15 July 2008 Ms Rachel Elnaugh and Mr Doug Richard

Mr Richard: It is why I am sensitive about the word. Q348 Chairman: Procurement—is that important? Our apprenticeship programmes are for things like Mr Richard: It is a long subject; I will give you the sales, marketing programming, business short answer. The Government is the largest development, not running a lathe or toolshop. I do customer in the country.There is a lot of good reason not run businesses like that. The problem is the why the Government should mandate that a certain word, I think, and the emotional baggage it carries. percentage of government expenditure is spent on small businesses. Q345 Chairman: The TV programme The Apprentice certainly does not pigeonhole apprentices. The word Q349 Chairman: On the US model? is capable of being changed. Mr Richard: Customised for the UK, but yes. Mr Richard: Yes, it is, and we all wake up every morning and thank God for Alan Sugar. Q350 Chairman: Rachel, do you want to make one Q346 Chairman: Are you out of time because there last point? is one more thing we wanted to ask you? Ms Elnaugh: Just on that point on innovation, if you Mr Richard: I am out of time. want to encourage innovation you have to encourage innovative thinking, and the last thing Q347 Chairman: We will cut it there but perhaps ask you want is always people wanting to follow the you a last question just to wrap up. What would you rules because looking for rules to follow discourages like to see Government do better to support innovation. You need to get people thinking outside innovation? the box, and again I think it comes back down to Mr Richard: That is a very diYcult question to education and questioning, “Why do I have to do it answer. It goes back to your question: are these two that way? Is there a better way?”. If you can get things not irretrievably intertwined? I do not have an people thinking like that the innovation will take elegant answer. The closest I can get is that the best care of itself. thing we can do to support innovation is create the Chairman: This was a lively session, sometimes conditions around making all the things we have unexpected, but a lively session and a valuable one talked about happen, and I will leave it at that, and we appreciate your time, we really do. You have whether it is the training of people or the de-risking given us some very valuable insights which we are of starting small businesses or lightening the grateful for. If afterwards you feel, “Hey,I would like regulatory burden on very small businesses because to have said that”, then please do feel free to pick up it disproportionately impacts upon them, all the the phone or drop us a note, email or letter. Any things we have touched on. It is a question of further thoughts you may have would be very removing obstacles more than focusing on welcome. Thank you very much. incentives. Mr Richard: Thank you for letting us talk. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

Business, Enterprise and Regulatory Reform Committee: Evidence Ev 79

Tuesday 4 November 2008

Members present:

Peter LuV, in the Chair

Mr Brian Binley Mr Mark Oaten Mr Lindsay Hoyle Mr Anthony Wright Miss Julie Kirkbride

Witnesses: Ms Frances O’Grady, Deputy General Secretary, and Mr Tim Page, Senior Policy OYcer, TUC, gave evidence.

Q351 Chairman: Thank you very much indeed for know there will be specific industries in your region coming to the sixth evidence session of a rather long- that will be particularly vulnerable. Any government running inquiry the Committee is conducting on an response needs to be sensitive to the sector and the important subject, the future of the UK economy, region. which has acquired, if anything, an added urgency in the current economic situation that we now face. We Q354 Mr Wright: Do you think that the are very grateful to you for your written evidence, Government’s response should be via the Regional which I enjoyed reading. I always give witnesses a Development Agencies or do you consider that it chance to introduce themselves for the record at the should be through direct government intervention? beginning. Mr Page: I suspect it will happen on many levels. Ms O’Grady: My name is Frances O’Grady. I am the The Government response in terms of bringing Deputy General Secretary of the TUC, which forward capital spending, for example, is something represents unions that collectively have a that will aVect the whole country. There will be membership of 6.5 million. particular areas of spending that will be sensitive in Mr Page: My name is Tim Page and I am Senior particular regions and sectors, yes. Policy OYcer at the TUC and I lead on industrial policy. Q355 Mr Wright: In terms of the length of the problems that we are going through, what are the Q352 Mr Wright: Obviously we are all aware of the expectations you look for in the short or medium economic situation that faces the world and the UK term? Do you consider that unemployment is going but what do you consider the major challenges for to get much worse? You mentioned 2.5 million. business to see us through this particular problem? What is the time span of that? In the medium term, Ms O’Grady: Clearly, from a trade union point of what are the expectations in terms of growth? view, there are major challenges in terms of jobs. So Mr Page: The numbers that we have crunched the number one concern for us is that we are suggest that unemployment will reach 2.5 million on certainly anticipating that by the ILO1 measure we the ILO measure by the end of next year, and so we could see unemployment rise to 2.5 million by the would expect to see unemployment rising to that end of next year and a doubling of the long-term level by then, and hopefully that will be the peak. It unemployed. We have a very sharp interest in is diYcult at the moment to see how long the looking to maintain the health of our businesses and downturn is going to last. We are obviously only at maintain not just jobs but quality jobs. To do that, the start of it at the moment. It is certainly clear that we believe we need, as we have been arguing for inflation has peaked but a lot of the emphasis on many years, an intelligent, modern industrial economic policy over the last 12 months, quite strategy that has a new deal for green jobs. wrongly in our view, has been focused on the Chairman: We want to ask you about that in some inflation target to the detriment of growth or detail. We will leave that to further questions but employment. We can clearly see that inflation has that is a very important part of the evidence. peaked now. I think the emphasis of the Government and the Bank of England has to be towards growth Q353 Mr Wright: In terms, for instance, of the area and employment. That has to be the priority for I come from, the eastern region, it is very aZuent in government action. many areas but there are pockets of deprivation, certainly of high unemployment in the north-east. Q356 Mr Wright: Do you consider, on the question Do you consider that there is a geographical of interest rates, that the calls for an interest rate cut diVerence between some sectors? of up to 1% is deliverable and do you consider that Mr Page: Oh, yes, the way the economy is to be one of the main options for recovery? structured, clearly there will be particular regions Mr Page: I think it is absolutely deliverable. I would and particular sectors suVering disproportionately. like to see it happen as early as this week. We are The West Midlands and manufacturing is an certainly pushing for that to happen as soon as obvious example of an area that could suVer and I possible. Ms O’Grady: We are arguing that interest rates 1 International Labour Organisation should be below 3%. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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Q357 Mr Wright: That would only work if the banks Q360 Mr Hoyle: Did I get it right that you were lending the money pass that on to individuals? saying that the interest rate should be cut to 3%? Ms O’Grady: Absolutely. How do you feel about the Government asking for a 12% return on its money from the banks? Is that having an eVect as well? Do you think if that was Q358 Mr Wright: Do you have a view on what has reduced, there would be a saving in redundancies happened within the banking industry over the and that it should be done voluntarily? question of the banks not passing on the reduction in Mr Page: Yes. Basically what we are calling for is interest rates to consumers as well as to businesses? that the banks should enter into discussions with the Ms O’Grady: Absolutely; we certainly believe that trade unions to explore all the options for how those where the Government has taken a stake in banks mergers take place with a view to minimising the and financial institutions that should be pain for bank workers. It has not been proven that accompanied by conditionality and making sure there have to be compulsory redundancies at the that money gets through to the businesses that need moment. it, businesses that could survive with the extension of bank credit. That is absolutely critical, but so too are Q361 Mr Hoyle: You are saying that should be the other measures. For example, Unite (the relevant last resort instead of the first resort? I think that is the union) saw reports following the Lloyds merger that message and it is clear that that has not been coming there could be 30,000 redundancies. We think it out. Hopefully, we can get that. Do you think the should be a condition that there are no compulsory Government is asking for too much return on the redundancies and that there are proper negotiations taxpayers’ investment? with the recognised unions to avoid those. We also Mr Page: No, I do not think so. believe that banks should be required to end some of the speculative activity that we have seen and instead V re-direct investment into the real economy that we Q362 Mr Hoyle: That may ease the e ect on the believe needs to grow. banks? Mr Page: Yes.

Q359 Chairman: I am going to take the Chairman’s Q363 Mr Oaten: I hate to be brutal about it but there prerogative of asking one supplementary straight is a total inconsistency in your argument, as far as I away. I had 160 jobs lost in my constituency can see, because on the one hand you are saying the yesterday. The company believes that the bank is Government is right to get its 12% pay-back from responsible. I do not know whether they are right or the banks but, on the other hand, you are taking wrong; I have to look at this in more detail. Certainly away the ability for the banks to be able to achieve the bank refused to extend credit and the company those payments. Two of the ways in which they went straight from being viable—the bank did not might be able to achieve those payments would look at the administration option—to receivership indeed be to make 20,000 people redundant to cut and the jobs have been lost. This is a bank that is not costs with the merger; and the other way of course going to benefit from the Government’s rights and they can help to achieve those payments back is to share scheme. What possible levers can the delay the point at which they do in fact pass on Government have over a bank like that because it interest rate cuts. With the one hand you are remains entirely independent of government endorsing the fact they have to pay the Government ownership? back but you are taking away their levers for Mr Page: I think you are right. The Government achieving that? cannot force the banks to act in such a way.The rules Mr Page: I do not think we are taking anything are obviously slightly diVerent in those banks where away. the Government has taken a stake. At the very least, we would like to see government ministers, as Peter Q364 Mr Oaten: You are trying to tie them down to Mandelson did on the radio this morning, such an extent that they will not have the freedom encouraging banks to pass on those rate cuts. This is to perform. not just a UK problem. I was with the OECD2 in Mr Page: What I am suggesting is that they enter Paris last week and hearing reports that the same is into full discussions with the trade unions and happening in the United States. Base rates are being explore all the options on how they move forward to cut but banks are not passing on those base rates, repay the government debt and to try to do that in and that has aVecting home owners and businesses such a way that compulsory redundancies are at a and it is gradually running down the economy. You minimum. I am not suggesting that there will be a are quite right, Chairman, that the Government pain-free way of doing this because there will not be. cannot force banks to operate in such a way, but, We in for a lot of pain right across the economy over where it has taken a stake, at the very least it should the coming months. We are saying that we have use its influence. recognised trade unions in place and we would Chairman: That is about half of the market for small encourage the banks’ management to negotiate and and medium sized business lending I believe. The to discuss all the options with those trade union Government has not yet done so of course but it will representatives. be taking a stake in approximately half the market. Ms O’Grady: There is a broader point or headline point, which is about the equality of sacrifice. I am 2 Organisation for Economic Co-operation and Development not sure how far the message has got through about Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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4 November 2008 TUC just how angry ordinary people, and ordinary Mr Page: What we have said in terms of our working people, are about what is perceived to be an industrial strategy, and I do not know if this is the inequality of sacrifice. The very people who are point you are driving at, is this. We have been talking responsible for getting us into this mess in the first about this for some years now and we have been place appear to be still paying out bonuses, still saying that if you look across the big economies in requiring that they have autonomy of action and are the world, not just in the Western world but in not accountable to broader social interests, and growing Asian economies as well, diVerent countries workers are being expected to pay with their jobs tend to have strengths in diVerent areas. We have and their pay and their security. asked whether it might be a good idea for us to sit down and look at the areas of the UK’s economic Q365 Mr Oaten: Is that not an argument actually for strengths, to look at what we are good at or what we the banks sacking some of those staV in a merger? I could become good at in the area of globalisation would have thought that the public would be and to try to gear our economic policy to supporting looking for the banks to lose 20,000 or 30,000 staV if those industries. We have been calling for that for they merge. some years. A couple of years back we put this to the Ms O’Grady: There is a very big diVerence between Manufacturing Forum. We had some quite fruitful some heads rolling in the board room and ordinary discussions with the CBI, EEF and others about workers on the bank floor losing their jobs. I think fleshing this out. We would like to raise this again. there is also a real danger of a counterproductive We feel that, especially in the current economic approach here where we see a contraction in circumstances, the time might come for this idea and employment amongst lower, middle income you might be surprised at the support across workers, who are the very people who spend their industry for a strategy that asks: where are we strong money in the local shops and local business that we and should that be our area of focus? need to keep running here. I think we need to be very careful about some of the longer-term impacts of the Q369 Mr Binley: That is exactly what I was talking policies that are pursued. The very simple point here about. You did say in an earlier submission that the is that we want dialogue and we want agreement in UK should identify the sectors where the UK is or the way that we pursue it. could be successful and develop an industrial policy accordingly. That is exactly what you said and you Q366 Mr Wright: This question is slightly wide of have told me that that is exactly the same. Can I ask the mark. What are the TUC views in terms of what a quick and simple question? Can Government pick has been discussed in recent weeks about the sector winners and sector losers, or is that a Keynesian type of policy of buying yourself through market role? public services out of problems which will probably Mr Page: We gave some figures in our second create construction jobs and numerous other jobs? submission that showed manufacturing job losses in What is the TUC policy about that? the UK and compared the rate of decline to job Ms O’Grady: We are certainly in favour of exploring losses in other major European economies. The one the extent to which we could bring forward spending thing that other economies do that we do not do is on infrastructure, including housing. When we have look to where they can get the biggest bang for their a major housing need in this country, it would seem buck, if you like. There are all kinds of support sensible to make sure that we create jobs in the mechanisms that come through BERR and other building industry and also create apprenticeships for government funding channels. In the UK those go young people. There are other projects that could be right across the board. The UK does not distinguish, looked at too, including transport, and broader frankly, between a dying industry or a growing infrastructure issues that I think we need to consider industry. We look with some envy to the growth of investing in: how do we protect our skills base through diYcult times? green technology in the Scandinavian countries or in Germany where those governments have said, “This is a growing sector”. If there is one area of Q367 Chairman: We will come to that important manufacturing that is going to grow in the next 50 issue at the end of the session. years, it is going to be green technology.Let us get on Ms O’Grady: There are broader issues there too, and the bus now rather than after the bus has left and making sure that those who are least responsible for V other countries have stolen the advantage. That is this crisis are a orded some protection throughout really what we are trying to suggest. We quoted the it. Public services, including I would say protecting sectors that Lord Sainsbury quoted because we felt some of our Job Centre Plus jobs, will be very that that was a very forward-thinking report. He important at this time. identified some quite imaginative areas where we could grow if we focused on those areas. Q368 Mr Binley: Let me put a general question to you first. There is a general consensus that we need a sort of national or business strategy. My guess is Q370 Chairman: You added the automotive sector that the consensus will break down slightly lower to his list. down when you dig a bit deeper into what you want Mr Page: Yes. in that strategy. Could you explain that very briefly Ms O’Grady: May I add that perhaps rather than the to me so that I can have an understanding of what language of picking winners and losers, what we you want from a national strategy? prefer to talk about is an intelligent, modern Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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4 November 2008 TUC strategy, governments intervening to accelerate housing and better quality council housing and to success, which certainly in green industries is build that in order to allow for greater positive something that they are crying out for. flexibility in a workforce that may well have to be more mobile in order to get hold of the jobs that do Q371 Mr Binley: That sounds just as much a sound become available and fill the vacancies that are still bite as mine. in the British economy. There is a wider economic Ms O’Grady: If people are more comfortable with it, benefit to house building as well as meeting social then that is all right. need.

Q372 Chairman: I accept this question is Q376 Mr Binley: You may be surprised to know that encompassed by this and on the Sainsbury side there I am a supporter of council house building and is a list of sectors where they appear to be strong and always have been. Let me move on to this business of directly relevant to the higher value-added economy the relationship between banks and business because we want to create and maintain in the UK. You have that is absolutely crucial over the next nine months. added automobiles as a sector and I agree that You did talk about retaining an infrastructure not should be there. We should salute Lewis Hamilton of only of a skills base but also of an organisational Formula 1 today of course. Can I put two other management base in that respect as well. I am much more controversial ones and see how you react concerned that banks no longer have the expertise to to those? He says, rather coyly perhaps, “new deal at the very lowest level. The bank manager did sources of energy”. Nuclear power perhaps would be live in a businessman’s cupboard 25 years ago; they another one where we could be a centre of excellence have moved those decisions up and they do not have and he has not listed the defence sector either, which the expertise at local level. Does that concern you? is another area where a lot of very demanding, high Am I hitting the right sort of target there when I tech work is done. point this out as a real concern? Ms O’Grady: The TUC’s position has always been Ms O’Grady: That is certainly borne out I think for a balanced energy policy, which includes nuclear from some of the feedback that we get through our as much as renewables and also includes clean coal involvement in regional development agencies, technology. We are hoping to build more consensus regional LSEs and so on. It is certainly a concern around that. that we would share, particularly as I say when it comes to the real economy and new and potentially Q373 Chairman: So not just new sources of energy as growing areas like green industries. I would add one Sainsbury says, but also making existing sources of other concern, though, and something else that the energy better as well? Government could do. In our discussions with green Ms O’Grady: Towards new technologies, absolutely. industry leaders and unions representing workers there, a key issue is about certainty of policy Q374 Mr Binley: We have looked at the rather long framework. If you take something like the feed-in term and the big picture. Can I come to the specific tariV and the potential that oVers for new and situation we now find ourselves in over the next two growing companies that can provide community years maybe and ask what your views are on the scale energy generation, what they really need to proposals the Government has made to support know is: where are we going with that policy; when business so far in that framework and what is it going to kick in; and on what scale? Some of that additional proposals you would like to see? Let me information just is not there yet. It is a current issue. give some background just very briefly to this. My concern is that we have a very scattergun approach Q377 Mr Binley: Let me come back and dig just to the whole situation at the moment and I am not slightly deeper and it relates to what the Chairman sure that we are hitting the real targets. That is where said about losing 160 jobs in his patch just yesterday my question is coming from in this respect. Do you because that suggests to me that there is not enough have any comment to make in that regard? real knowledge about whether a business is Ms O’Grady: In general terms we have been very profitable or whether they have had a cash flow hit positive about the initiatives that the Government because of an extension of their debt repayment or a has taken so far. The test will be in their one-oV hit because of a bad debt not paid. It is that implementation—real businesses being able to get level of understanding, the diVerence between hold of the credit that allows them to keep operating understanding whether a business is viable or and keep people in work. There are a number of whether it is not. I do not believe they are making other areas where we would like to see more action. those decisions. What are the ways that we could Certainly on the housing front, we believe that we make those decisions and then go to the bank with a need up-front, bold action there. health check in that respect? Are there any other ways? Q375 Mr Binley: In what way? Ms O’Grady: We have always argued for a stronger Ms O’Grady: Housing is not just a social need, role for RDAs; there has been patchy performance though obviously it is a very important social need, but in many areas they have been strong champions and it is not even just a job-creator for construction of local and regional businesses. I think we do also workers; it is also crucially a way of keeping people need to counter this British disease of short-termism, mobile. You will be very aware and familiar with the decisions being taken around short-termness rather arguments around the need for more council than long-term investment. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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Q378 Mr Binley: I have one more question. Does the Ms O’Grady: We encouraged, in our submission, provision of the substantial funding by DIUS that consideration be given to the Toyota model. It suggest that some of its responsibilities are key to is worth knowing that the Japanese workforce for business and consequently that these responsibilities Toyota puts forward 600,000 suggestions for should be transferred back to BERR? continuous improvement every year, most of which Ms O’Grady: My own view and the view of the TUC are taken up. That is quite an alternative to the is that the reorganisation of skills being combined traditional British command and control approach with innovation and universities in one department to management that tends in its worst form to treat has been a good move. I think the current Secretary workers as extensions of machinery to do a task of State in many ways has demonstrated some of the rather than drawing on that human capital to most advanced thinking about aligning skills improve its production and services. strategy with industrial strategy.Certainly his speech last week at a breakfast showed very clearly his Q381 Mr Hoyle: I totally agree because people who understanding of areas where Britain is strong and are doing the job can see better than someone sitting needs additional skills investment to try and grow in the oYce and yet the diktat comes from the oYce jobs and grow industries and prosperity in a way that on how it should be done. Within Toyota do we perhaps I would like to have seen from other parts of know how many of those suggestions came out of government. I think he is on the right lines there. One the UK? of the key problems for us of course is that we still in Ms O’Grady: That was the figure for the Japanese Britain have one in three employers who do not train workforce. I am afraid I do not know what it is for at all, despite the very significant publicly-funded the British workforce. oVer that is on the table in the form of Train to Gain. Chairman: We will get to training in more detail later. Q382 Mr Hoyle: Do they encourage innovation? That is the point I am trying to get to. Q379 Mr Hoyle: Can I take you on to looking at Ms O’Grady: Yes, there is the same approach. innovations, rather than R&D and focus on that? How can the Government actually extend its Q383 Mr Hoyle: That is something that could be support for innovation and innovations within the reflected through other industries and there are service industry beyond science, technology and savings to be made and benefits for the company as R&D? well as the employees? Mr Page: We were very supportive of the Innovation Ms O’Grady: Yes, and that is where unions want to Nation White Paper earlier this year. The White be; we want to be part of that partnership that is Paper breaks down innovation into the diVerent about innovation and improvement because our components. I think this is why innovation is such a jobs depend on it. diYcult subject. People have a sense of what we Mr Page: I am guessing that that same employee mean when we talk about skills but when we talk suggestion culture exists in Nissan as well as Toyota. about innovation, we mean lots and lots of diVerent For years, Nissan has had the reputation of being the things. An area of innovation we are particularly most productive car plant in the whole of Europe. It interested in is enabling the workforce to be more is probably not just because of that but there are lots innovative in their everyday experience in work. of elements that mean Nissan is as productive as it is, That links with skills policy of course because an and one of them is by engaging the workforce in such unskilled worker cannot be innovative in the way a successful way. that a skilled worker can be. Ten years ago when people talked about innovation, they talked about Q384 Mr Hoyle: Do you think that is because of the latest piece of machinery. Now we talk about single union agreements? innovative management practices, devolving power Ms O’Grady: That is another debate. down to the shop floor, giving working people the freedom to arrange their work in a way that is most Q385 Chairman: I want to test this a little more. The flexible and constructive for them. Trade unions of hidden innovation which NESTA are very interested course are well placed to enter into discussions to in and have done a lot of important work on is introduce those innovative working practices. We hugely important to many of the sectors that would certainly like to see a focus on that. Sainsbury has identified as being crucial to our own future as an economy: the creative industries, Q380 Mr Hoyle: Can intangible innovations be computer games, business and financial services, accurately and meaningfully measured? Do you computer services, education. R&D tax credits, think there is a way we can do that? which are one of the weapons that the Government Mr Page: I think it is tricky to measure intangible deploys, are irrelevant to those industries. Are there innovation. How do we measure the success of a any incentives that government should be using to company? We measure its profitability; we measure encourage this hidden innovation process or is it its increase in productivity; and from our point of something well-run businesses get on and do and do view the way it treats its workforce, both in numbers not need governments to do it for them? and the quality of their jobs. How you would drill Mr Page: I think it is something that well-run down and see this particular innovative practice has businesses do and it is going to be more evident in led to that amount of success I think is extremely some sectors than in others. Part of our push for an diYcult. industrial strategy is to focus on those highly skilled, Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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4 November 2008 TUC well-managed, well-rewarded sectors where we can buy and companies are invited to bid. We talk about grow and where innovation will be at such a value for money but that is too often confused with premium. I think the two go together. the lowest cost. What we have suggested is to have some clauses in procurement contracts that Q386 Chairman: What proportion of our economy encourage an amount of skills training or encourage is now in services? It is a huge percentage, is it not? production or services to be delivered in an Mr Page: Yes, it is large percentage. environmentally sustainable way. Interestingly, under EU rules, we can also use public procurement Q387 Chairman: I think it is in excess of 90%. In fact, to target some of our unemployment hot spots. We the future prosperity of the nation depends in this would like to see a more creative approach to the hidden innovation process on innovation which is way procurement is organised in the UK. The good not so susceptible to the big macro-economic tools news is that the Government has started down this the Government uses in the manufacturing sector? route too. Earlier this year the Government Mr Page: I do not think it is an either/or, but published a how-to-do pamphlet which it launched innovation in manufacturing as well as services is at the TUC, encouraging public sector bodies to going to be important. include what are sometimes call social clauses in Ms O’Grady: This is one area where the TUC is their contracts, so that some of these wider economic doing more work. One of our key challenges I think issues are addressed through procurement. is having one national consensus that we need to skill up the workforce to close the productivity gap. The Q390 Mr Oaten: Again there is a bit of a conflict next challenge is: how do we make sure that people here. Certainly when we speak to the CBI and in do not just get those skills, including basic skills of their evidence, one of their big gripes, and I certainly literacy and numeracy and communication, but know from being involved in business myself, is that actually apply those to the jobs that they do. At the when you are trying to bid for government business moment, there seems to be a gap between people the contracts are a nightmare. I think the CBI is acquiring skills and actually deploying that benefit saying that three-quarters of businesses do not bid and extracting the productivity from those skills in for contracts because the tendering process requires terms of the firms they work for. more resources than the business can aVord. One of Chairman: Poor management in some bad UK the issues—and I have seen these contracts—is: what business is one of the themes. That is one of the is your training policy; what is your health and safety issues that needs to be addressed. policy; what is your employment policy? It goes on and on. Some of the things you are asking for are Q388 Mr Binley: I want to put to you that 69% of all making these tenders so complex that people are creativity in British industry is coming from the thinking: You know what? I cannot be bothered. SME sector where you do not have the level of Ms O’Grady: What has been very clear, certainly in formal structures that you have in larger businesses the past and we are hoping will change, is that the you have been talking about. How can we capture procurement process has been a bit of a dog’s dinner that sort of enthusiasm and drive and transfer it on with diVerent departments and diVerent authorities a wider scale? running diVerent systems and individual companies Ms O’Grady: The best of small businesses are very, having to go through the same process every time very good. The worst can be not so good but they put in a bid, to provide the same information certainly there are lessons to learn. One other key and so on. My experience is not that people are issue that is special to Britain is the need to skill up asked about health and safety policies or whether our front-line supervisors and managers. One of the they pay a living wage at all currently. We would reasons that some of the small businesses are very certainly argue that, yes, the process could be good may be because of that intimate relationship simplified—massively simplified—but absolutely between the owner and the manager being the same that we should be using procurement to drive up person, whereas in larger businesses one of Britain’s standards of performance because the company that weaknesses is that although we have the best does, for example, treat its workforce decently and educated senior management, our equivalent of the invests in apprenticeships and training will be a men and women who are the supervisors and front- better performing company and deliver a better line managers are under-trained compared to our service for the taxpayer. We are not arguing for a EU competitors. punitive approach; on the contrary, we are arguing Chairman: That is an important observation you for companies to make that commitment to get have made. themselves on the list and that then the authorities should be working with them through the LSCs, Q389 Mr Oaten: In your evidence you talked about through local colleges and training providers and so on, to help them develop apprenticeships and the use of public procurement as being pretty V important during a time of recession. Do you want training provision. The o er is there. Employers are to say what you had in mind? in the driving seat on this one. They need to take it Mr Page: We have been talking about the value of up. public procurement for a long time. There is something in excess of £150 billion now of public Q391 Mr Oaten: Without labouring the point, a lot sector money in procurement in the UK. 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4 November 2008 TUC services for loads of private companies with no British passes on them, no British jobs, shipped all questions asked. We do a fantastic job but when it the way round the world in cargo-polluting ships, so comes to trying to win public sector money, we have it is not even environmentally sustainable. How can to go through all of these loops asking us about our that be right? We cannot even get that part of training. It is actually none of your business. We run Warwick correct. We can look at the Highways a successful business and why should the Agency people driving round in Mitsubishi cars. Government impose all of these standards on There are no Mitsubishi factories. Land Rover is the training and social policies as part of the winning world leader in four-wheel drive technology, yet process?” somehow we do not buy them. Why is it that Mr Page: But it is the Government’s business. Germany and France have a diVerent playing field to Whether a workforce is skilled is not just the what we have when it comes to procurement company’s business; it is the workforce’s business contracts with Government? You must be as and it is the wider economy’s business. If we adopt frustrated as I am. I wonder if you can answer some that approach—and Frances has already said that of those problems. one in three companies do no training at all in the Chairman: That is a familiar theme from Mr Hoyle. UK—then we cannot possibly increase the skills in It is very welcome here again, I would say, as an our economy to the level that we need in order to be old friend. competitive in the modern age. Mr Hoyle: It is an old friend that will not go away Ms O’Grady: On the basis of what you are saying, until the Government changes its attitude to British these would be the very same companies that would manufacturing. be complaining about young people not being suYciently employable, not having employable Q393 Chairman: Could you respond to that briefly? skills, not having key skills. Ms O’Grady: We absolutely share those views. We have seen a shift in position from Treasury Ministers, Q392 Mr Oaten: Does it not concern you that two- which is very welcome, with the issuing of the new thirds of companies are not bidding for this because guidelines, but there has been a very conservative interpretation of EU procurement laws on the part of what they see to be these barriers? Y Ms O’Grady: We have had very diVerent of one particular section of the Treasury, the O ce conversations with companies. The companies that of Government Commerce, which, hopefully, is now we talked to in the Business Services Association, for shifting its position. This is taxpayers’ money and example, have argued that they would be the first taxpayers have an interest, too. Certainly the TUC people who would like to be able to invest more in would not argue that contracts should automatically training because they have real problems about go to a British company. What we are saying is that recruitment and retention. What they need to know British companies ought to have the chance to be is that that is up-front in the pricing of the contract, able to be able to compete on a level playing field. that it is acknowledged that that is something a Certainly companies that do invest in decent decent company should do and that they will not be practices in the treatment of their workforces should undercut simply on the grounds of money by a not be penalised for doing so. company that will claim to deliver the goods or Chairman: At the time when Jaguar Land Rover, services but does so on the back of not investing in which is very important to the high value-added training or apprenticeships at all. economy in the UK, is looking at 600 redundancies, there is added urgency to that point. Mr Hoyle: Obviously Warwick was an important milestone in union-Government relations and I think Warwick has been lost somewhere in the long Q394 Mr Binley: I have two very quick points. The grass because we should have done better at first is the myth that companies do not train or at procurement. We can take a couple of examples, and least one-third do not. You are talking about Mark Oaten is absolutely right to touch on them. oYcially, are you not? There are two things. If you look at the army truck Ms O’Grady: One in three. contract, it went to MAN of Germany because our people in Leyland Trucks pulled out of it; they could Q395 Mr Binley: OYcially every company has to not aVord to keep going at something they could not train and they do a lot of it in-house and they do not be sure that they could even win because the rules call it training, quite frankly. Let me move on to my kept changing. So there are problems in the way that real concern: the level of local government people tender. The other way, the new way of procurement is a major part where a quarter of all tendering, is by computer, is it not? Instead of government money is spent. I am getting the putting a bid in an envelope and you know that that impression that more and more local government is your bid, now it can drop by computer as people bodies are setting up these so-called partnerships— are putting new bids in to undercut. You cannot if ever there is a nonsense made, it is that—and those sustain a business when somewhere like China is people are bringing in direct labour and driving out going to provide army uniforms and put our own local businesses from bidding for services. Are you UK textile sector out of business. We know China finding that or are you not? produces out of a state factory; there is not even a Ms O’Grady: We are conscious of that and conscious level playing field in procurement. To take another that some local authorities would argue that they are example, that of government. Look at the Ministers looking for economies of scale through joining outside riding round in their Prius cars with no together and using their purchasing power. 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4 November 2008 TUC other consideration which I think is a very real one, need to use levers like procurement but ultimately we certainly to us and Tim Page touched on earlier, is believe that workers should have the right to paid that we believe there is capacity within the existing time oV to train. EU framework to use procurement to step in in areas of high unemployment or deprivation. We are very conscious, in the lead-up to the European elections, Q399 Miss Kirkbride: What do you think about the 3 of the activities of fascist parties and organisations Government’s policy on NEETs and the fact that and the capital they are seeking to make out of rising there are now more than there were eleven years ago? unemployment and deprivation in particular areas Ms O’Grady: There is a discussion about what is of Britain. We think, again for economic but also for happening on NEETs. I do not know whether you social reasons, that there can be real arguments for are inviting the LSC here. What you need to look at, looking to build the capacity of local companies as well as absolute numbers, is throughput, how long operating in areas where those sorts of problems people stay in being NEET. exist. Chairman: This Committee has concluded that in an Q400 Miss Kirkbride: It has hardly been a success, earlier report on procurement. We agree with that has it? interpretation. Ms O’Grady: It clearly remains a problem,

Q396 Mr Hoyle: Just quickly, is the Warwick agreement still there and is it going to continue? Q401 Miss Kirkbride: It is the compulsory approach Ms O’Grady: Certainly our arguments on and yet people still fall through the net in great procurement will continue; they pre-dated Warwick numbers. and will no doubt outlive it. Ms O’Grady: Absolutely they do and I think if you look at the academic research on this, it is an incredibly complicated problem. What you are Q397 Miss Kirkbride: You have touched on skills seeing is a connection between NEETs and a whole already in various answers to the questions. What range of factors from issues around housing, family specifically do we need to do to build a higher value- breakdown, poverty, teenage parenthood, drug added economy with skills for 2020 and the future? abuse, oVending. There could be one or a whole Ms O’Grady: As I mentioned, I think John Denham combination of those factors involved. It is an has been outlining a pretty convincing strategy incredibly complicated issue. Recently I have visited taking account of the particular circumstances that the Prince’s Trust programmes where they do, in my we are in where there is a move towards what the experience, absolutely fantastic work, but it does not TUC has been arguing for, which is an alignment of come cheap; it is incredibly expensive and often industrial strategy with a skills strategy, focusing those young people, who are often quite troubled compacts, as they are called, on particular high value young people, actually need the equivalent of the areas of the economy as well as other areas too but guardian angel. They need somebody who is making sure that we have the skills sets, for example standing with them, a coach, to take them through a the STEM skills, in areas where currently they are diYcult time in their life, often in the absence of lacking and we need them if we are going to be able really good family support and that costs money. It to grow businesses. is possible to solve but as a society you have to be prepared to invest in the young people who need it Q398 Miss Kirkbride: How do you do that? most, and again I would argue that over a lifetime Ms O’Grady: A number or initiatives have been that is worth it and it is worth doing. taken that we would like to see scaled up, including employer co-funding of courses at universities around particular areas where they are experiencing Q402 Miss Kirkbride: The New Deal for young skills deficits and so on. There is a whole range of people, as it was called, has not been cheap and it has initiatives. We remain concerned that the voluntary not produced any obvious results. There are more approach to skills, and what we have in Britain people now not in education, employment or remains a voluntary approach, is not delivering at training than there were in 1997; it has cost a fortune the speed and on the scale that we need. The LSC and we are still where we were eleven years ago. Do survey, which is acknowledged as the most impartial we need to spend more money on it? independent survey of employers themselves, and Ms O’Grady: No, I think it has very deep roots. A their own reporting show that one in three employers superficial approach does not help any of us to really are still not seriously investing in training up their address some of the very deep-rooted causes. There own workforce. There are continuing problems and are big issues around growing family breakdown and while we support the Train to Gain programme, it what causes that, about growing inequalities in relies on an employer to invite a broker in. We would society, issues about housing and opportunities for argue that the workforce and workforce young people, very big and complicated issues that representatives should have more of a voice, that we require sustained investment in those young people. should be looking to build learner demand as well as There are broader social causes that have to be employer demand as a way of driving up and addressed, too. improving the skills base of Britain. I do not think that that is going to happen on a voluntary basis. We 3 Not in Education, Employment, or Training Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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4 November 2008 TUC

Q403 Miss Kirkbride: You talked earlier about with regard to science policy, you are right. As STEM subjects. It would be very good if we could Frances said, we have started to turn the corner. get more employers to take part in university Hopefully we can build on that. sponsorship but are the schools doing enough? If you do not teach science, then who is going to read Q405 Miss Kirkbride: As a final thought, what are it at university? your ideas for developing an enterprise culture in Mr Page: There is a problem with science. There is the UK? a problem in the sense that we do not have enough Mr Page: Obviously we do need to develop an enterprise culture. I think there are many aspects as qualified science teachers and that means fewer to how we go about doing that. The Government children are encouraged to study science in the sixth has given quite a lead on developing an enterprise form, which means we do not have enough science culture and BERR puts a lot of focus on that. We teachers and that goes round in a circle. That is a need to support that. Growing enterprise is circle that we certainly need to break. important; growing good enterprises that employ Ms O’Grady: There is some good news on that, lots of people and treat their workforces well is an though, and you would have to check it. It is not important part of that. my job to represent the Government but, as I understand it, the numbers of young people Q406 Miss Kirkbride: Enterprise is something studying science STEM subject GCSEs, “A” levels slightly diVerent from being nice to your workers. and university applications have gone up. Again, I I would have thought that being nice to your do not think we should rubbish where we are in workers is something we should all hopefully take making progress. for granted because there is human capital there. An enterprise culture is diVerent from being nice to your workers; it is something more. Q404 Miss Kirkbride: Yes, but we have to ask why Ms O’Grady: An enterprise culture is also about encouraging the workforce to be enterprising—that we have dropped so far, do we not? The problem is the point—and the way that you do that. Just to is that we have dropped so far, so it is fine that we give ourselves a plug, we have for example a union might be turning a corner and the numbers are learn arm, a training and education arm of the going up, but we have lost a whole generation, trade union movement called Unionlearn, and possibly two generations, of potential scientists, 20,000 union learning reps encouraging every mathematicians, engineers, all sorts of people. It is worker in all walks of life to get trained, to train fine that the numbers are going up but do we not not just for the task but for their own development need to do something a bit more proactively and future progression. That, to me, is one essential vigorously and forceful to make it happen? strand of an enterprise culture in Britain. Mr Page: We produced a policy paper on science earlier this year and we included science in Q407 Miss Kirkbride: Does the TUC oVer bursaries education as part of that. We would be happy to or help people to set up their own businesses? send a copy of that to the Committee if that would Ms O’Grady: We are an organisation representing be helpful. Among the things we called for was workers. better careers advice—careers advisers are often Miss Kirkbride: So you do not, even though— Chairman: That is a bigger debate we are opening generalists and will point people in the most up there. I am going to rule that one out. It is an obvious rather than the less obvious direction—and interesting question. I am very grateful. It is very better equality of opportunity in science. The frustrating because we have had to skim quite number of girls interested in science at quite a lightly over the surface of some important issues. V young age is high and then it tends to drop o as If you feel that you want to add to your written they approach 16. We would like to find out why evidence, in the light of what you have said to us that happens. Girls are likely to see themselves in today and our discussion, we would certainly one set of occupations and boys are more likely to welcome that. Thank you very much indeed for see themselves as scientists. We would like to coming. We really appreciate the trouble you have challenge that. There are a number of challenges taken and your answers. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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Witness: Mr John Cridland, Deputy Director General, CBI, gave evidence

Q408 Chairman: John Cridland, welcome. You are leads us to believe that, sadly, the recession will be on your own. We know who you are, the Deputy deeper and longer. Businesses are suVering from a Director General of the CBI, so I will not ask you to significant reduction in demand, as I have introduce yourself, but I will ask you to explain mentioned; export markets are slowing up; and yourself. We had hoped that you might be prepared businesses are suVering a reduction in the to share a platform with the Federation of Small availability of credit from the banks. A combination Businesses whom we invited subsequently, having of those three trends I think is causing most originally sent an invitation just to you. You businesses in CBI membership to be in some expressed a preference that you should not share a considerable diYculty. platform with them but be on your own. Why is that? Mr Cridland: I am sorry if it came across as Q411 Mr Wright: Are there any particular sectors or unhelpful. That was not our intention. We take these geographic areas of the UK which are aVected more occasions extremely seriously. It is one of the things than most or would you say it is across the board? I prepare for most carefully. Our experience has been V Mr Cridland: In terms of sectors, clearly the deepest that it is not always conducive to e ective evidence- problems are in the sectors which were most early giving, either for ourselves or, if I might say so, for propelled into a downturn—construction, property the committees, when we have given evidence jointly and the high street—but it has now made a with other organisations, but it is not a comment by significant dent in confidence in the manufacturing any means about the FSB. V sector. Geographically I would say the pattern is Chairman: Our experience is di erent, I have to say, reasonably even, but when I talk to CBI member and we had hoped to be able to explore the issues and companies, you will still find companies that are not have an interactive session. It also means we will yet impacted but they are now, I am afraid, in a have less time as a result than would have been the minority. case. I am disappointed. I think it would have been helpful. Q412 Mr Wright: You have mentioned the question of the banks and interest rates. One of the criticisms Q409 Mr Binley: Can I just say that I am horrified is that the Bank is not passing on all the interest by your answer. I find it an arrogance which is totally savings across to business and indeed to consumers unacceptable and a lack of recognition that in as well. There is a call quite clearly from industry and British Airbus for instance, which employs directly from others for up to 1% decrease in interest rates 13,000 people, there are 400 in the supply chain this week. What is the CBI’s view on those issues? employing about 140,000 people. It is that Mr Cridland: We too would like to see the Monetary demarcation that does such damage to British Policy Committee reducing interest rates by a full 1% industry, and it is recognised in the small business this week. We believe the situation is suYciently sector and it makes them angry, Mr Cridland. urgent to require that. I think it is understandable Mr Cridland: I stress that this was not a comment on that interest reductions on the base rate will not the FSB, but the request that I should give evidence 4 immediately impact on what Bank’s attitudes are to with the FSB came up very late in the day. What we their customers; there will be a time lag. The problem would have done with more notice is actually sit in the banking market is clearly a lack of confidence down with our colleagues from the FSB in order to in lending between banks. There has been a modest collaborate in our evidence giving. I have, with other Y improvement in the three-month Libor rate; it has committees in this House, had di culties in the past come oV its peak, but it is a modest improvement. I when asked to appear with other organisations, not think it is bound to take time for the Government’s the FSB, when actually we have been giving measures to stabilise the banking market to conflicting evidence, and I do not think that is permeate through to the rest of the economy, but helpful to the committee. when we talk to our membership, both small and Mr Binley: That is for us to decide. large, there is considerable concern about bank Chairman: We have made our point. It is true we finance. I do not think the banking credit availability subsequently realised that of course with the ever completely goes; I think it became progressively emerging economic situation the evidence of the more diYcult, more expensive and companies have FSB was more important than we had originally to go to a variety of banks, and they clearly had to thought. We are where we are. We will crack on with provide more collateral. It was particularly diYcult questions. for small firms, as you would expect if that was the prognosis, but it never completely gummed up. I do Q410 Mr Wright: What are the challenges facing not think we are out of the woods yet. Over the UK businesses at the moment? winter, there will be significant re-financing by a Mr Cridland: The deterioration in the economic range of businesses coming up in the normal cycle situation I am afraid is of great concern to the CBI. and we really do need to see the banks being more We had hoped as late as the late summer that we open to business. I come back to my opening might be moving into a short and shallow recession, comment. I think the problem in September with the but the impact of the banking crisis in September banking crisis was a complete lack of confidence in and a significant downturn in demand across all inter-bank lending. The figure I would want to see sectors, both domestically and internationally, now continuing to improve is the three-month Libor rate, which I think is the best indication of whether the 4 Federation of Small Businesses banks are now in business with each other. 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Q413 Mr Wright: What are the expectations of the Mr Cridland: We would like to see as much sensible, CBI in the short to medium term? Do you consider, conscious and targeted public spending. We would in terms of coming out of recession, that it is more not like to see a knee-jerk response to public long term or would you put a timescale on it? spending for its own sake. Mr Cridland: We have certainly had to review our short and shallow prognosis, which was our view up Q416 Mr Oaten: You said it is understandable that to the late summer. I think it is very diYcult at the there will be a delay factor in the banks passing on. moment. We have resisted the temptation to publish Is one of the factors behind that the Government’s new economic forecasts because with the situation as demands on their payback for the part-ownership unstable as it is, it is quite diYcult to know what schemes that they now have? inputs you would put into a forecast. Clearly, we are Mr Cridland: No, I do not think that is a going to see several quarters of negative growth. My predominant factor. I think that there is a legitimate expectation would be that the whole of 2009 will be debate to be had between the banks and the in negative economic growth. I have seen the Government about those rate-of-return figures; but, National Institute come out with -1% for 2009. I equally, the CBI has banking members and also think that is entirely supportable. How much represents the broader economy and we would progress we make into 2010 is a more open question. expect the taxpayer to get a reasonable return on There are several factors which should help the their investment. economy. We have reached the peak or must be very close to the peak on inflation. That has given the Q417 Mr Oaten: But could the Government do Monetary Policy Committee much more leeway. It something in terms of either reducing the rate or will help as pressures on household bills begin to relaxing the timescale, which would impact on seeing alleviate: I am thinking of energy and food. More that the interest rate came through faster? disposable income will help consumer confidence. Mr Cridland: We have not proposed that. We have We are comfortable with the level of the pound. One not been pressed by our members to propose that. of the benefits of the pound is that it does help, as in We believe that the primary factor is an export markets. There has to be a question mark understandable lack of confidence in inter-bank over the strength of those export markets, lending. That is more important, in our judgment, in particularly in China; but I think that there is still the current mix. some hope that, with significant reductions in interest rates, with the beginning of an improvement Q418 Miss Kirkbride: The EU has forecast that in disposable income, with export growth in the Britain will have a deeper recession than any other latter part of 2009, 2010 will look a little better. mature economy. Why do you think that is? However, at the moment, clearly there are not very Mr Cridland: Anecdotally, talking to my opposite many signs of optimism. numbers in the CBIs of Europe, they would anticipate 2009 perhaps being zero growth, whereas Q414 Mr Wright: There has been a mood of thought I would anticipate the UK having something closer in terms of Keynesian policy of spending your way to -1%. I would therefore agree with the supposition that it will be deeper here. Clearly we went into this out of problems by bringing forward public sector V schemes, building projects, et cetera. What is your at a di erent point in the cycle and the damage done to the UK’s economic growth from the housing view on that? market reduction having an impact on the property Mr Cridland: The CBI view would be that we have and the construction market was deeper than most to be very careful with public borrowing. Public continental European countries. Clearly I would borrowing is not at a good starting point. What we exclude Ireland from that, which is more similar to are very clear on is that capital spending in ourselves and, for its own particular circumstances, I important parts of infrastructure needs to be would exclude Spain from that. However, if we were maintained, both for its own good reasons and looking at the part of Europe we are most dependent because it is an important way of keeping significant on, the German economy, the Germany economy parts of the economy— the construction and was continuing to be quite successful until the manufacturing sector—going. There is an second quarter of this year. It is slowing later, opportunity for government to re-phase some of its therefore, and I think that it is likely to slow less public spending plans and to bring existing public strongly because of its lesser dependence on the spending totals forward. The business community’s housing market. view would be that there is a continuing eVort—it is a perennial need—to improve the eVectiveness of Q419 Miss Kirkbride: So it is entirely to do with the public spending. There is still a lot of grit in the cycle and not to do with any other reasons about the system at the procurement oYcer level, which V UK economy? prevents public procurement being truly e ective. If Mr Cridland: I would not suggest that it is entirely to you look at programmes like Building Schools for do with that; I think that is the predominant factor. the Future— Q420 Mr Hoyle: Do you think part of it is that we Q415 Chairman: We want to look at procurement in have been too reliant on the finance service sector a little more detail, so maybe it is something for later. and we have not put enough emphasis on Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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4 November 2008 CBI manufacturing—like Germany and like France, Mr Cridland: I certainly think that it requires very who still believe in a very strong manufacturing close scrutiny. I think that this is a long-term project, base—and that has been our weakness? to ensure that it achieves its purpose and that the Mr Cridland: We have the economy we have. The taxpayer gets a proper return. At the moment of capital intensity of our economy is diVerent and crisis, we felt that it was appropriate for the therefore that produces a diVerent economic pattern. Government to take bold decisions, and those bold We may subsequently come on to questions of decisions have been supported by the business innovation. We are often criticised on innovation, community. We were not critical of the terms of the but I think that we have the R&D rates you would package when it was announced, therefore, but you expect from the capital intensity of our economy. are absolutely right: vigilance to make sure that this But on your question “Should we be in this position package achieves its original objective; that money or should we have adopted a diVerent approach?” does flow to small businesses; that the banks are able the CBI would not have wished to try to maintain a to restore liquidity; and that banking practices are commodity-based manufacturing economy based reformed such that the taxpayer receives the on high volumes of low value-added labour. We appropriate return on investment. We will need to think that would have been a short-term palliative watch that extremely carefully. and be likely in the long term to have declined. Chairman: We are actually moving into Brian Q423 Mr Binley: We are getting reports—at least, I Binley’s questions, so I think what I will do is cut you V am getting reports certainly, and we have had some o so that Brian can ask his questions and make sure information from the British Chambers of we shape the context of what he wants to ask. Commerce that this is so—that the banks’ relationship and their approach to SMEs has been Q421 Mr Binley: Can I ask you to explain to us what very ad hoc and not very sensitive. Would you tell us the CBI’s view is on government proposals to how we might, in government, improve that support business so far in the short to medium term? scenario? What would you like to see introduced in addition to Mr Cridland: I think that it is diYcult for what the Government has done, or indeed taken government to improve that scenario. We can all of away? us encourage the banks to move to previous practice, Mr Cridland: The most important thing the but this comes right down to branch level and is Government has done is the measures to stabilise the actually an issue of management practice and case banking sector, because that was a whole economy oYcer practice—where, with the best will in the problem and that was widely supported by all CBI world, requests from the Chancellor to the chief members. There was no criticism of the special help executives of banks may get lost in transmission. for the banking sector. I think that now the What our small firms are telling us is that one of the Government needs to avoid trying to do the same biggest casualties of September was the relationship thing for the whole economy, because I think that between bank managers and small businesses; that measures of that kind would be doomed to failure. bank managers would throw their hands up and say Without repeating what I said previously, that was that their discretion, their ability to use sensitivity, behind my comment about public borrowing. In had been removed in the moment of crisis by a some areas I am afraid that the die is now cast. We centralised approach from bank headquarters. One are in for a prolonged period of zero or negative can understand why that would have happened in growth, and therefore what the Government can do the moment of crisis but, with the moment of crisis has to be carefully targeted, because it is likely to be past, we need to rebuild those relationships. The at the margins but none the less of importance. We problem when relationships are tarnished, when have welcomed the Government’s focus on measures small business owners feel that the bank has shut the for help for small businesses. That must be the right door in their face—that is their perception, I am not targeting of attention. If you were looking for commenting on the reality of it—is that it will take a further things that the Government could do, of long time to rebuild that mutual trust. Clearly what particular importance going forward—and this is a some small business have done, believing that the whole economy request—would be to reverse the banks were not interested, is that they have Government’s decisions in April on empty property withdrawn from asking the banks for finance, which rate relief. I think that there are large parts of the reinforces the problem. economy, both industrial and commercial, that, in a grim 2009, will have empty property which they cannot oZoad in a falling property market. That Q424 Mr Binley: Can I put it to you that in fact this was our position when the Government made what is not a reaction in crisis, but this has been happening we felt were unhelpful changes to empty property as a matter of policy for 25 or 30 years with the rate relief, and I think that it would help small, large, banks? In fact, the knowledge of local businesses manufacturing, and service companies if those that they used to have 25 or 30 years ago no longer changes were reversed. exists with the banks, and therefore the ability to impact upon a given precise situation simply does Q422 Mr Binley: Are you happy with the way the not exist in the banking structure any more. Is that a Government introduced its added liquidity into the fair comment? banking structure? Do you think that it received Mr Cridland: I have sympathy with that view. We enough scrutiny? Do you think that we ought to have both banks and many small businesses in have looked at it in more depth? membership, and one of the services we provide by Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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4 November 2008 CBI having both people within the CBI family is a regular identifying potential strengths in the Finnish dialogue over many recent years to try to tackle economy, which they can then shape the rest of some of these issues. However, I would suggest that, public policy around to enhance. Not just a strategy to the extent to which relationships were positive, of picking winners but a greenhouse in which the they were heavily dented in the late summer and best fruits can actually grow strongest. Have you early autumn. looked at the Finnish experience and do you think Mr Binley: A final question. Should the Government that there is anything we can learn from it? develop a national economic strategy and, if so, Mr Cridland: Yes, I think that the Finnish experience what should it contain? is quite encouraging and there are always lessons we can learn from international benchmarking. An Q425 Chairman: This is the point that you were industrial route map seeks to specify areas where you beginning to answer with Mr Hoyle and a point the can see how, left to its own, business will not be able TUC made play of in their responses to us. to deliver the transformational change that is Mr Cridland: We welcome the establishment of the needed. If you look at the moves required to deliver V National Economic Council. We have received a low-carbon economy, the cli -edge investment requests from many ministers attending those required in carbon capture and storage, to take an meetings for our input on ideas to help with the example, is beyond most private companies and economy and to help with small businesses. I guess their shareholders. That is a legitimate area for the diYculty in answering the question is the government to focus, with the Technology Strategy definition of a national economic strategy. As I have Board, the Energy Technology Institute, a certain already mentioned, we do not feel that a amount of public funding, to get demonstration comprehensive, economy-wide, interventionist projects up and running. Otherwise, the private approach, as delivered with the banks, would be market will not be able to deliver. I think that the appropriate for the wider economy. We do not area the Finnish example most clearly throws up is believe that public finances would allow for it; we do the role of science. The Government is the prime not believe that it would be targeted; we do not funder of science in this country and therefore it has V believe that it would be eVective. The limited, at the a very significant knock-on e ect on industrial margins but none the less important, measures that policy. We have always accepted that that is a we have seen from a number of government legitimate area of strategic government planning. departments—on issues like energy, on housing, on training, on skills, on public procurement—are Q428 Chairman: Do you think that there is any welcome, if they each pass a value-added test. I do significance at all, therefore, in the move of science not think that we want to move back to a time when away from the old DTI to BERR to the new there is a single national economic strategy. In department of DIUS? Does that matter or is it just preparing evidence for your inquiry, I think that this playing with deckchairs on the boat? It does not is a moment when there is increased interest in, and matter where it rests, as long as it is done well. we use the words “an industrial route map”, for the Mr Cridland: The CBI tends to be a little bit coy on future of the UK economy. I think that the earlier making suggestions to government on the question on whether we could have a stronger machinery of government. Ultimately, every change manufacturing sector is an entirely legitimate one. produces an upside and a downside at the same time. We welcomed the Government’s manufacturing What we welcomed with the creation of DIUS was strategy when it was published recently. We felt that bringing innovation, science and universities was a helpful step in the right direction. We do together, because it was always slightly artificial to believe that some of the important business policy have universities, which play such an important part objectives that need to be achieved in the next few in the debate we have just been having, in a separate years, particularly in the energy infrastructure department to the department trying to promote arena—and I think of renewables and nuclear new- innovation and business-university collaboration. build—provide significant opportunities for a Clearly it is now a cause of disappointment to us that British manufacturing renaissance. It is appropriate the Department for Business is no longer a main for government to have a strategy to seek to achieve player in the science and innovation debate. In a that, but I think that is one step short of what some sense, if you improve one thing, you produce people would look for in a national economic another boundary line. strategy. Chairman: It is a matter to which the Committee may turn its attention. Mr Hoyle? Q426 Chairman: So you are not looking for another national plan, as we had under George Brown? Q429 Mr Hoyle: Does that mean it should go back Mr Cridland: No. to the old DTI and we should change our name back to a real name? Can I take you on to innovation? Q427 Chairman: Perhaps I could test this a little How can the Government extend its support for longer, because it goes to the heart of the inquiry innovations in the service industry and beyond the about value added and the point that Mr Hoyle was science and technology R&D? Something close to making about the perceived imbalance in the your heart. economy.NESTA have given us evidence saying that Mr Cridland: It is close to our heart, yes. We have felt the Finnish Government has very successfully had for a long while that the way government was the kind of industrial route map you are describing, measuring innovation was leading to a set of false Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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4 November 2008 CBI assumptions and therefore sub-optimal policies. spin-out of commercial activities from universities. Their tendency was to focus on research rather than The permeation that I am looking for, rather than development. Their focus was on R&D rather than new policy, has to be to reach small businesses. That innovation. Their metrics were not capturing the is diYcult. It is diYcult for all of us, but I think that activity that I would consider innovation in the we still do not have enough capturing of the broader economy. We were hugely encouraged by potential of smaller businesses within the innovation Lord Sainsbury’s most recent report and by his eco-system. definition of the innovation eco-system. For us it achieved two things. It explained why traditional Q432 Mr Hoyle: Do you believe that the R&D was lower in this country than in Germany. It Government’s mainstream pro-innovation policies explained it on the rationale that our capital cross all departments? intensity was lower and so we had the traditional Mr Cridland: This is one of the areas where I think industrial R&D that was justified by the size of the DIUS has a major challenge. DIUS is the champion economy. However, I did not want to give a of innovation policy but it is a small department in complacent message because the second statement Whitehall. It is asking a great deal of DIUS to act as Lord Sainsbury made was equally if not more that champion across the whole of Whitehall. We are important, which was that government needed to getting there but we are getting there slowly. embrace and encourage innovation in the service sector. I remember a chief executive, who had come out of manufacturing and moved into the service Q433 Mr Hoyle: Which department is the enemy sector, saying to me that he had recently signed oV then? £100 million worth of business development Mr Cridland: I would not say there was an enemy expenditure in his service sector company—which but – nobody in that company considered research and development but which he, as an engineer with a Q434 Mr Hoyle: All right. Who is the reluctant one? manufacturing background, considered R&D. That Mr Cridland: Coming back to my earlier comments has been the problem. Some of the exciting about public procurement, I would say that it was a innovation we have seen in supermarket logistic cultural issue across Whitehall. Without being in any chains, some of the exciting innovation we have seen way disparaging, if you are a civil servant in a non- in banking practices, before the most recent economics department and you are looking at a challenges, have not been captured in the way public procurement deal, your main considerations government has addressed this problem—until now. will be the advice you have received from the OYce of Government Commerce, best value Q430 Mr Hoyle: The big question therefore is can considerations and whether, at some point in the the intangible innovations be accurately and future, might I suggest, you may be before the Public meaningfully measured now? Accounts Committee to justify the position you took Y Mr Cridland: I believe that they can. I think that a as an o cer of the Crown. It is asking a lot of a civil value added approach is a much better approach to servant in a non-economic facing department to capturing innovation in service sector companies. I think about what public procurement can do to believe that there is still a lot to be done in widening achieve a low-carbon economy; what it can do to the definition of R&D within the R&D tax credit; so promote equality; what it can do to promote you do something about the metrics and you then do innovation. Permeating those cross-cutting themes, something about the policy measures. I think that across all those many small parcels of public Y the Technology Strategy Board, which we are very procurement, is genuinely very di cult. It is why it Y greatly supportive of, needs to have that wider vision has proved so di cult to open up public and is now adopting it. I think that business- procurement genuinely to small businesses. university collaboration needs increasingly to be in the service sector as much as it is in the Q435 Chairman: Mr Oaten is going to ask you about manufacturing sector—and that is not currently procurement, so we must not steal all his thunder. the case. Mr Cridland: I suggest that it is cultural across Whitehall and DIUS has a very big job to do to Q431 Mr Hoyle: We have had diVerent views change that, alongside the OGC and the role of the expressed to the Committee and part of that view has Technology Strategy Board. been the successful innovation networks clusters— as we know, the big American theme of clusters. To Q436 Mr Hoyle: Do you think there is a gap between what extent can this government or any innovation and getting that into manufacturing in government’s policies actually ensure that the the UK and not overseas? impact is there to help with their development? Can Mr Cridland: Yes, I think there is because there is it be done? Is it being done? If not, what should we ultimately a clash with OGC guidance on best value. do? If you are being asked to justify why you have chosen Mr Cridland: I think that we have most of the right a more expensive procurement, because you believe tools in the policy toolbox. The need now is to that procurement will promote a cluster of small sustain them. It is our view that business-university companies in the UK develop new technology, collaboration has much improved since the Lambert rather than buy an existing piece of kit oV the shelf Report of 2003. I think that we have transformed the from America, that is a big ask of a public oYcial. Processed: 12-08-2009 18:58:11 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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Q437 Chairman: You have sort of answered many of Mr Cridland: Every cloud has a silver lining. I have my questions implicitly. I was going to ask about talked to chief executives of small and large CBI business-university links. You have talked, though, members, who are very focused on making sure that about the need for a more eVective intermediary they can take advantage of the upturn when it between universities and business. Do you want to comes; so the answer has to be “Yes and no”. Yes, expand on that theme? there will be companies that are now knocking on Mr Cridland: Intermediary in which sense? the doors of universities because they want to make investments to move forward. What is short at the Q438 Chairman: It is your evidence to us, as I moment is capital. One of the debates we are having understand it. You are suggesting that there are still with DIUS is about their model of co-funding of problems in getting the two sides together. business and universities. Increasingly they are Mr Cridland: The CBI now has more than 60 of looking for the expansion of British higher Britain’s universities who have joined the CBI education—which is something we support, as I because they believe they are part of the wider have said in the evidence—to be co-funded by business economy. With virtually all of those business. We do not have a philosophical problem universities we have collaborative projects on issues with that, but it comes back to whether the like employability or technology transfer. I think the universities are responsive enough. I cannot imagine challenge is that there is no single portal, particularly that the current economic climate is going to make for small businesses who want to work with a it easy for business to find extra money to support university. Our concern is that, for the large things which, two or three years ago, would have industrial corporate, they know who to talk to and been funded out of the taxpayer. where to get access; but, for small companies, they get passed round from one department to another department; not all universities currently operate a Q442 Chairman: Or, in the case of smaller single portal and not all academics within businesses, the management time. universities necessarily have the incentive to work Mr Cridland: Indeed. with small businesses on short-term projects. I think that limits the extent to which collaboration permeates down. I would also suggest that if you Q443 Chairman: During this inquiry we have heard said to a university “Give me five examples of your evidence that management is one of its weaknesses best collaboration on research”, they would have no in large parts of British industry. In evidence just problem. If you said, “Give me five examples of your now, the TUC has said that middle management best collaboration on skills or curriculum”, the quite often failed in larger organisations. NESTA system is less flexible. That is not a criticism of have said that small, family-run businesses often do universities; it is the way in which funding for not have the experienced management teaching comes through to universities. They have understanding to take their products and services on less opportunity to make it flexibly available for to the next stage. Do you think there is more that collaboration with companies. It is in those areas, needs to be done to encourage managers to look to therefore, that I think there is not suYcient the long term and to understand their own collaboration and that the mechanisms do not work. inadequacies and to seek training to correct it? Mr Cridland: I think that there is a certain Q439 Chairman: So your solution is to encourage inevitability in small firms facing management universities to have a single portal for approach, a challenges as they grow. One has to be careful with single area of responsibility? anecdote, but I think there is reality in the classic Mr Cridland: A single portal approach. We currently example that you have an inventor or a marketeer have a task force on business and higher education. who has an idea, develops a business, and suddenly It is a single Thought Leadership task force the CBI they are employing 15 people and they are facing is operating over the coming year, chaired by Sam challenges of growth that they have never had to Laidlaw, the Chief Executive of Centrica, with three think about before. Then they have to decide university vice-chancellors sitting alongside 15 whether to bring in professional management, business leaders. One of the things we are trying to whether to concentrate on the thing they are good at, do is identify a model for collaboration whereby, as or whether to try to do everything. I think that there we move out of the downturn, the universities’ position as the outsourced provider of choice to is a certain inevitability in that. I also think that we business, in giving them the high skills and the have to be very careful when we look at the issues of innovation collaboration that they may currently the leadership and management of business not to buy from other parts of the private market. fall into the trap we fall into with training. We look at training in small businesses and say, “Ah, well, Q440 Chairman: When will that report do you think? small businesses don’t spend money on training Mr Cridland: We are reporting in the spring of 2009. providers. They don’t train to qualifications to the same degree as large companies. So small firms don’t Q441 Chairman: Do you think the current economic train”. I think that is a false assumption. Small firms slowdown will deter some businesses from train in a diVerent way. They train on the job; they developing the links they ought to develop, or will it train experientially,bringing on people, sitting by the encourage them or incentivise them to try to get person who has the skills. Again, it is not captured ahead of their competitors? in the Government’s metrics. A lot of that is true Processed: 12-08-2009 18:58:11 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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4 November 2008 CBI with small firms’ leadership. Yes, we need to do more Procurement skills are still inadequate. That is not to help small firms with leadership and management, an easy problem to solve, for the reasons I gave but the answer is not to tell them that their own earlier. We have many thousands of procurement managers have to have MBAs. There is a scheme oYcers across the full range of the public sector, but that the Learning and Skills Council runs on small there is a need to up-skill them and to give them that firms’ leadership and management, which has been wider perspective. Because there is a skills problem, very popular with small businesses. One of the things they change their minds far too often, on both small we asked John Denham to do with his most recent and large procurements—so changing the help to small businesses, and he responded, was to specification halfway through. We introduced transfer some funding that was not being used on competitive dialogue to try to help the private sector Train to Gain to increase the budget available for work with the public sector. That has worked well, small firms on leadership and management. The but one of the downsides of the competitive dialogue reason that scheme works is because it is very is that we now have examples where, as a result of a flexible. Directly answering your broader question, company putting on the table some of its IP to help “Is there a problem with management in British the public sector, the public sector has then industry?” I think the academic evidence and the suspended the procurement, changed the anecdotal evidence suggests that we have more to specification and tried to get a better deal from other do, particularly at supervisory and management tenders. There is a skills issue and a cultural issue, levels. therefore. I think that there is a lack of consistency. That would be my second major point. The Q444 Chairman: In university-business links, is Government would accept that it needs frameworks intellectual property a diYculty sometimes in the for public procurement. I sit on the council of the relationship? Supplementary to that, to what extent Learning and Skills Council, which spends hundreds does intellectual property matter these days in a fast- of millions on FE college capital budgets. It is a moving market, where getting a product to market is nonsense for every FE college to design its extension V more important than protecting its IP? or its new college in a di erent way, just as it is for Mr Cridland: I think business would argue that in a Building Schools for the Future; just as it is for globalised economy IP has become even more hospital trusts. It is quite appropriate for important. It is certainly very much more prominent government to have frameworks to prevent people in the CBI’s agenda than it would have been, say, reinventing the wheel, but those frameworks are not three years ago. That is because of your high-value consistently applied across government. There has challenge. If you are going to move up the ladder of been more progress with frameworks in central high value and you have the Chinese and the Indians government than there has been with my final point, chasing you up that ladder, it matters hugely which is local government. To be fair to central whether you can protect the thing that diVerentiates government, they cannot require local government you from your East Asian competitor. In relation to to co-operate in a particular way, but they can universities, I would suggest that we have turned the encourage local government to adopt those corner. This was a major problem but, again, if I frameworks. That is particularly important to refer to my esteemed boss Mr Lambert, I think that Britain’s small businesses, because Britain’s small the Lambert model contracts that he introduced are businesses are much more likely to procure from a working well. There cannot be any one-size-fits-all local council or a local hospital or a local school than approach to IP between an industrial collaborator they are from a central government department. and a university. It is horses for courses. It depends Until we crack consistent procurement from local who has brought in the biggest equity. I think that government, we will not be helping the majority of there is now a much more harmonious approach, Britain’s businesses to take advantage of public where universities and industrial companies are procurement and innovation. using the model contracts to divvy up what is the best way to take that project forward. Chairman: There are two remaining areas of Q446 Mr Oaten: I agree entirely with what you have questions to get through: procurement and skills. said, but the TUC was saying to us half an hour or Nothing small. so ago that they wanted to see built into more of the tenders, more of the procurement process, requirements that if a company is going to bid they Q445 Mr Oaten: You have hinted at procurement in have to do more training; they have to demonstrate nearly every answer and clearly you have a lot to say that they have done a whole range of social policies. about it. My sense is that the way that business has Are you comfortable with that? to go through so many hoops to win any contracts Mr Cridland: In part. I think we have accepted that, oV local government, health authorities, or as part of appropriate use of taxpayers’ money, it is government at a national scale, is virtually legitimate of government to request people who wish impossible. Your evidence suggests that lots of to sell services to government to promote certain people have been put oV doing this. What is the broad, strategic government policies. Low carbon problem? What are the key issues? would be a very good example, or innovation. I Mr Cridland: I would concur with that. I would think that we have to be careful when we are asking suggest that there are three things. The first is skills. companies to do things that would get in the way of Processed: 12-08-2009 18:58:12 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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4 November 2008 CBI eVective business practice. To be fair, we have felt, Q448 Miss Kirkbride: Will that be enough, if we did for example, that the Equality Bill falls the right side what you have just said, to make a radical diVerence of that line; that government has found a way of to our skills base in the next decade or so? Is that promoting equalities, which is an important and enough on its own to ramp up the UK skill base in legitimate public policy issue, within procurement general? without stepping over the line. However, it is where Mr Cridland: There are a whole range of initiatives you draw the line. The TUC are right to say that that we are involved in, which go beyond that. We European public procurement directives do not have fundamental problems with careers advice and prevent the inclusion of social or environmental guidance, which comes back to some of the clauses. What we are looking for here is more questions you asked me about manufacturing and eVective access to public procurement by small the importance of manufacturing, working in small businesses and more eVective change in business businesses rather than a big corporate bank. Young practice on innovation, low carbon, and treating the people do not always appreciate the need to invest in workforce fairly. We do not want to put in the way, their own future and get the skills they need to if I may use the word, “bureaucratic” requirements develop their careers. I think there is a huge need to which actually remove the incentive of small find ways of incentivising individuals, particularly businesses for trying to get public procurement. It is adults who have never done anything since they left school at 16, to invest in their future. We think that that dreadful word “balance”, therefore. it is worth having another crack at Individual Learning Accounts, putting money into the hands of the middle-aged man who needs to re-skill, to fill the Q447 Miss Kirkbride: You mentioned earlier that the last 20 years of his career. I know that had problems so-called figures on training done by employers are V when it was last piloted. I would therefore look at a not fair, inasmuch as they are di erent forms of whole range of measure. Essentially, however, for training, not all of which gets documented. What do every pound that the Government spends on you think should be done on the training agenda? training, the private sector is spending at least ten. It Should more of it be compulsory on employers? is right that the private sector should do that. This Mr Cridland: There are two things we urgently need is not an area the public taxpayer should subsidise. with the training agenda. We need it to become I think that it is essentially a volunteer army, not a demand-led. The two customers in the market—the conscript army. I have not seen any proposals for individual employee and the employer who is often statutory intervention which, to me, pass the test of funding that training—need to be able to buy what motivating and incentivising rather than requiring. I they want when they want it. We have had a do not think that most businesses, large or small, traditional system whereby the funding has gone need lessons from any of us about the need for directly to colleges and the colleges have then training. They know that, to remain in business and predicted and provided. The best of Britain’s to remain competitive, people are now so vital to colleges can rise to that challenge. The best of their industrial competitiveness and that, when Britain’s colleges do not need any help from the CBI somebody in India or China can do that job at one- to run courses that small businesses want, at the end twentieth of the labour cost, they will train. I do of a shift, in the middle of a weekend, on the believe therefore that the measures we have just company’s premises. That is what I mean by a discussed are the right ones to put more oil on the demand-led system. To be fair, they are moving cogs, but I do not think that we need to rebuild the towards a demand-led system, but there is a way to engine. go. The second thing is that we need a radical simplification of training initiatives. The alphabet Q449 Miss Kirkbride: What about STEM subjects? soup of initiatives, which is something that the What should be done with regard to getting more independent Commission on Employment and of those? Skills chaired by Sir Michael Rake is looking at, is a Mr Cridland: STEM subjects are absolutely vital to V complete o -put to most businesses, large and small. the high value-added economy. It has been going The amount of public funding available is often not wrong for 20 years. It has been going wrong for V worth the e ort. If we want more companies to take many of the reasons I have said: the lack of careers on apprentices, if we want more companies to train advice and guidance; the fact that we messed up the to Level 2, Level 3 NVQs, to go that extra mile and secondary education curriculum. I think that dual- give the person a qualification—which may be award science did not provide a basis for those with important to the individual but is not necessarily scientific ability to do single-subject science and end critical at a key moment in time to the business—we up being science graduates. We are now beginning to need to make it easy for the company. At the see a turn-round in those figures. I give credit to the moment we do not make it easy for the company. Government and the higher education system and The complexity of the system has led to more schools for the recent turn-round; but we are turning companies internalising their training and saying, round 20 years of decline, and so we have to get more “I’m sorry, Government, it’s all too much of a fog”. people into maths, physics, chemistry and biology. So demand-led and radical simplicity, and then I Extra measures that we need? We believe that young think that we will bring the company training people should be automatically opted in to single- agenda and the public training agenda back into subject science at the age of 14, with the choice to opt alignment. We have lost that. out. They cannot be made to do the subject. It is a Processed: 12-08-2009 18:58:12 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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4 November 2008 CBI bit like pensions: if you opt somebody in, the inertia Q452 Miss Kirkbride: Who pays for that bursary? eVect means that lots of people do the subject. At the Mr Cridland: I think that it is out of their own moment they have to make a conscious choice to do pocket. Ultimately there is public funding involved, science subjects. That will create a deal of flow that clearly, but it is not a government scheme it is a goes right the way through sixth forms, universities university decision. There is still a problem, sadly, and into industry and back into teaching. We also with the quality of laboratories, teaching facilities, believe that we should give bursaries to people to both in schools and in colleges of further education. study science subjects. We have to incentivise them You cannot expect people to get excited about to do so. STEM subjects if the facilities available are out of date. Chairman: I am afraid that we are out of time. To be Q450 Chairman: Bursaries at what level? fair to the FSB we must not go on any longer. May Mr Cridland: Bursaries at the undergraduate level. I express a personal pleasure that you have highlighted careers education. You also used the Q451 Chairman: And further education, FE? phrase “creating learner demand” in your evidence. Mr Cridland: Yes, potentially, particularly with I think that careers advice is one of the crucial foundation degrees, at further education level too. components of creating learner demand and Queen’s University Belfast, over the last year, has therefore in driving the system bottom-up and not been paying an extra £1,000 bursary to people who top-down—which is a much healthier way for a do science subjects. We think that this is necessary in system to be driven. Thank you very much indeed, the current situation. Mr Cridland.

Witness: Mr Andrew Cave, Head of Policy, Federation of Small Businesses, gave evidence.

Chairman: Mr Cave, welcome to this final part of Q456 Mr Wright: Do you expect the 1%? today’s evidence session. I will not ask you to Mr Cave: I do not know. introduce yourself because we know that you are the Head of Policy of the Federation of Small Businesses. We will go straight to questions from Q457 Mr Wright: In reality— Tony Wright. Mr Cave: In reality, whatever happens, with the current evidence on the table, I do not expect that to be passed on to small businesses by the banks. Q453 Mr Wright: What are the main challenges facing the small business community? Q458 Mr Wright: But the message should really be Mr Cave: Currently there are probably four main that, if there is a cut in the base rate, that should be challenges. There is access to finance, the cost of a direct benefit to business. Otherwise, there is no finance that our members already have access to, late point in reducing the base rate. payments—which has become an increasing Mr Cave: Yes, exactly. We estimate that there will be problem—and what we are seeing now is a £500 million saved by small businesses in terms of contracting market. The FSB has released a poll repayments if you reduced interest rates by 1%, and today with a series of statistics on each of these areas that is payments on overdrafts and things like that. that make for troubling reading. 54% of our members are seeing a reduction in trade over the last two months; 46% of our members have seen an Q459 Mr Wright: In terms of small businesses, in increase in payment times with customers; 45% have terms of the sectors or their geographical area, there seen an increase in cost of finance; in addition, 61% is very little diVerence between whether it is the have seen an increase in the cost of existing finance. North or the South, or the Midlands or the South They are being squeezed on every front, therefore. West? Mr Cave: It is interesting because, when we were looking to our members for evidence of an economic Q454 Mr Wright: Overall, the main criterion seems downturn a month or two ago, it was very patchy. to be the question of cash flow and the cost of You saw that certain sections of the economy were funding. obviously being hit; so our members who were Mr Cave: Exactly. involved in construction and in the food chain of the construction sector were clearly feeling it, but it was patchy. What we are finding now is that all of our Q455 Mr Wright: Presumably the views of the FSB members are facing problems, largely because of are the same as those of the TUC and the CBI with cash flow. regard to bank interest rates: that, when there is a reduction in the base rate, that should be passed directly on to the businesses. Q460 Mr Wright: Did you also ask your members Mr Cave: Correct. That is why we are arguing for a what their view is of the short to medium term? Is it reduction of 1% this week, to put pressure on the what the CBI has said: that it will be dragging all the banks to do exactly that. way through 2009 and on to 2010? Processed: 12-08-2009 18:58:12 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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Mr Cave: I think that we did. I must admit that we available, from the sources we have within the did not ask that directly but we did look at the Treasury this will not be available for four to five response that our members are making to these months. problems that they face. From this survey, nearly a third of businesses are considering shutting down. Q466 Mr Wright: For example, I have an estate That was a survey done of 5,000 businesses. If you agent who has said that he has extreme diYculties, look across the whole of the small— because of the sudden downturn in the housing market, with maintaining his chain of oYces because Q461 Chairman: Could you just repeat that statistic? they are just not selling properties. He is also finding Y A third of all businesses you surveyed were di culty in getting the bank to agree to overdraft contemplating . . . ? facilities and other facilities, to ensure that he can Mr Cave: Yes, would consider it. keep in business. Mr Cave: That is right. One of the best examples we have here is that a customer of NatWest received a Q462 Mr Wright: In what circumstances? You say letter recently saying that they would be doubling they would consider it, but in what circumstances? If interest rates on her overdraft facility on the existing it drags on any longer? loan and, for doing that, they will also introduce a Mr Cave: Yes. facility fee of 2.5%, which actually increased her costs to £100K a year. She has no bad debts, she has banked with NatWest for many years and has a very Q463 Mr Wright: What is the sort of timescale for profitable business; but we are hearing this kind of that? thing all the time. Mr Cave: The timescale we have given them is “How has it been over the last two months? How have you found access to finance? How have you found Q467 Mr Wright: So really it is about retrospective payment terms? How have you found the trade?”— decisions that are now being taken on previous and that has been the response looking forward. We debts, rather than looking to the future and if they have not specified that time. Also, a fifth of small were to say,“If you have an overdraft from this point businesses have already cut jobs in the last two on, it is going to cost you more; there will be a facility months; 14% have said that they have cut hours; and cost”, and everything else. a further 34% have said that they would consider Mr Cave: I would be cautious about what we say cutting the hours that their staV are working. about debts here, because these are very healthy Chairman: Could I ask you to clarify the question businesses that use finance to oil the cogs— you were asked to get the answer that a third of your membership are thinking of shutting up shop? That Q468 Mr Wright: Cash flow. is quite remarkable to me. Mr Cave: Yes, for cash flow. I think it is worth drawing attention to the fact that SMEs have £54.5 billion on deposit with banks, compared to £44 Q464 Mr Hoyle: It is a phenomenal statistic that has billion in borrowing; so in actual fact the small been thrown at us. business community is financing the banking sector Mr Cave: This has been given to the Committee at the moment. clerk. Chairman: We will come back to it later. We have a copy of that already, have we? Q469 Mr Wright: It was mentioned earlier with the CBI that the small businesses look more to public sector projects: the Keynesian-type policy, which is Q465 Mr Wright: Clearly the financing is one of the “Let’s bring forward these public sector capital key factors to this. If there were to be some projects. We will spend our way out of this particular movement from the banks and also if late payments dilemma”. Would that have a positive eVect on small were reduced, that would reduce the opportunities businesses in terms of being able to fit with some of for these businesses and they would have to close these projects? then. Mr Cave: At the moment it would not, because the Mr Cave: That is right. The results that we are way in which public procurement contracts are getting coming in at the moment are being backed up structured it makes it very diYcult for a small by a huge number of anecdotal comments that we business to get a contract. The total value of public are getting. We have a number of letters that have procurement in the UK at the moment is £150 been sent to our members by banks and some of billion, but small businesses have only 16% of that them make absolutely incredible reading; when you public procurement. I hear what you are saying, in hear what the banks are saying at national level, the terms of the Chancellor saying that we should put kind of letters—and I am happy to read extracts to money in and direct it to small businesses. We you if you wish—that our members are getting on welcome that, but there are some very the ground. What we do feel, though, is that it does straightforward measures that need to be adopted not have to be this way. There are practical solutions that will allow small businesses to engage with that that could be taken now, but they have to be taken and to get their hands on that money. now. The Prime Minister has said that we need Mr Hoyle: I think this is a bit simplistic, is it not, just actions in days; and, while the Federation welcomes to rule out what Tony Wright has said? Procurement the announcement last week of the EIB money being can have a diVerence. 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4 November 2008 FSB bringing them forward. The fact is, if it is a large- public procurement contracts are simplified to a scale contract—just suppose it is building a new point that small businesses feel able to engage with hospital—the local economy benefits from that, them. through employment, through supplies, through everybody who can feed into that. If we bring Q472 Chairman: Can I finish oV the questions about contracts forward, it can help the business. It is a procurement in this area? I just want to clarify your way of trying to get out of the recession. We all know answer to Mr Hoyle’s question. Just as a matter of that. What I am more interested to know is what are fact, when a big hospital is built in an area, to what the barriers that stop small businesses ensuring that extent do the local contractors in that area benefit they get on that tender list and that they can get part from sub-contracts? To what extent would a big of that? organisation like a hospital use its traditional Chairman: This is a series of questions I was partners and not benefit the small local businesses? I expecting to ask later in some detail but we may as do not know the answer to that question. Is there a well take it now, because it is important for the small general answer you can give or is it too diYcult? business sector. Mr Cave: The general answer is that local authorities Mr Hoyle: The Government has also said that seem predisposed to go to large companies to people should be paid within ten days. It is fine for negotiate a contract. This is why we would like to see the Government to say that. If they do that, I 30% of public procurement contracts ring-fenced for welcome it. Do you feel that, with local government, small businesses, as you have in the United States. where I had evidence yesterday that they are taking 90 days to pay bills, that is a problem? Q473 Chairman: I want to ask about the US experience. Is there stuV we can learn from the States, particularly in the research area? We are Q470 Chairman: Mr Hoyle’s enthusiasm is firing at Y talking about building a high value-added economy. a series of di cult and important questions; so let us We are not just talking about survival; we are talking take the first one about getting on the tender list, about how small businesses contribute to the future getting access to public sector procurement first. of a recovered UK economy. We were very struck by What is your answer to that question? what the States does in the small business innovation Mr Cave: First of all, can I clarify that I think public research programme. There is a similar sort of procurement is a way forward, but there is a huge programme here but it does not seem to be as problem in getting on that tender list. At the eVective or far-reaching. Do you have a view on the moment, small businesses, if they want to get on the procurement of research specifically? tender list and want to find a possible contract and Mr Cave: I will be perfectly honest with you. The a route in, have to pay to get onto the website that Federation’s work in the area of innovation and will give them access to that. I think that the first R&D has been limited until quite recently, because thing we should do, therefore, is to scrap the fee for that has rather reflected our members’ view that they that, for supply2.gov. The other thing is the actual do not innovate and they do not engage in R&D— pre-qualification questionnaire that you have to fill which is actually not true. They do, on a very out before you can even get onto the list. There is no informal basis, and I think that is illustrative. In the one, single form. Every form is diVerent. We have United States you see quite the opposite to the way examples, particularly in Leicestershire, where the that it is conducted in the European Union, where form runs to over 100 pages. If you are a small they focus large sums of money on very sharp-end business, you are not going to fill out 100 pages. That R&D. What we have seen in the United States is that is just for the possibility of getting one contract. they focus a lot of funding through public What if you then want to start all over again? What procurement on the low-level innovation: the kind of we are calling for, therefore, is a single pre- innovation that is just taking a product to the next qualification questionnaire, to facilitate that. level and helping a business owner to understand that they can actually do that and that what they are doing can be innovation. I agree that there should be Q471 Chairman: That would be a national much more focus on the large number of businesses questionnaire that local authorities and all other that do not feel that they are innovating, rather than local procurers would be obliged to recognise? those at the sharp end who would probably innovate Mr Cave: Correct. It could be a very straightforward anyway. They would probably go and find a questionnaire that has additions. We would also like university to co-operate with. to see the ten-day payment terms, which you have mentioned, enforced at local government level. You Q474 Mr Binley: I would like to ask you a bit about are right: it is extremely patchy. We have anecdotal procurement, to clear this up. First of all, if you have evidence—as clearly you have—that that is not a big project, small business does not get there until happening in the South East. While the Government almost the very end of the process. You are talking has said that government departments will pay about, in building a hospital, four or five years. It within ten days, they have merely requested that does not help the problem you have just raised, local authorities pay within ten and 20 days; so we which is about survival at the moment, and you have would like to see that extended. In summary, there made that point. The second point I want are a range of simplification measures that should clarification on is this business of local authorities. and could be adopted very quickly, to ensure that More and more local authorities are getting involved Processed: 12-08-2009 18:58:12 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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4 November 2008 FSB in partnership-working. That is cutting out small having cash to support and grow your business is businesses because they are bringing in direct labour. vital. Like many of our customers, you have an I can name one that has done that in overdraft facility with us to help you manage your Northamptonshire—Carillion—and I think done it cash flow. From 8 October 2008 the interest rate in a way that is unacceptable. That is the truth of the margin on your overdraft will be changing from matter at local level with local government, is it not? 6.8% to 10.8% above the Bank base rate”. That is not Mr Cave: Yes. something that, if a branch manager had a real understanding of this business, would write to their Q475 Mr Binley: Happening more and more. customer. Mr Cave: It is happening more and more. The converse side to that is there are patches where local Q478 Mr Binley: Can I just follow up on this issue, authorities have exceptionally good public particularly on personal guarantees? All of the procurement records. We have done a lot of research information I am getting is that more and more in Essex, for example, and the percentage of small banks are shoving more and more businesses into businesses involved in public procurement in some personal guarantees, and that is where you are parts of Essex is up to 70%, which is brilliant. What getting people saying, “Is this worth it?” Is that fair we would like to see is an average of 30% across the as well? country.There is a lot that local authorities can do to Mr Cave: Yes. engage with the Small Business Friendly Concordat which was launched recently, but I think that only Q479 Mr Binley: We have talked about government 125 local authorities have taken it up. We should be proposals and the additional proposals that you promoting that, therefore. would like to see. My impression is that it is very much a scattergun eVect and we need to bring it Q476 Mr Binley: I want to talk more about the together and to make it more focused, particularly relationship between small businesses and banks, for the SME sector. How would you do that? because I think that there are lots of myths and Mr Cave: First and foremost, we need to get finance misunderstandings going round. The first is the to businesses. We are not looking to businesses that diVerence between a profitable company that has a do not have a long-term future and to be carried one-oV hit through a bad debt, or an elongated age through a recession. We are talking about healthy debt process, or other one-oV hits, and that businesses. We have been told last week that there company which clearly is seen not to be profitable, was money available from the European Investment will not survive and where we are talking about a Bank, yet we are still living on the goodwill of banks period of survival. Do you think that is well in taking up this EIB money and distributing it understood—that diVerence at the level we are through their networks, when there is actually no talking about, i.e. banks? need for that. We are facing a situation where we are Mr Cave: I do not think that it is understood well losing 40 businesses a day. We need to stop that enough, but also it is possibly not even a going to the early 1990s, of having 1,000 businesses consideration at the moment. It is clearly not a week. The EIB money could be directed through understood, because we have so many bits of other channels. It is perfectly acceptable for the anecdotal evidence from companies that are more Government to look at the EIB money that has been than happy to demonstrate to us that they are ring-fenced for small businesses, to buy that money successful; they are waiting for money to come in, itself and to distribute that through the RDA which will come in, but then there is the issue of late network for example. Last week, the Federation of payments. So, yes, there is that. There are also the Small Businesses put forward a Small Business behavioural inconsistencies that we see at branch Survival Fund, which looked at taking the Small level within banks. The meeting we are having next Firms Loan Guarantee Scheme and rewriting the week with the banks will be very interesting, because criteria for it, but using the banks to channel EIB what we are being told at national level is simply not money through that particular scheme. We have now the experience that our members are finding within discovered that—and the RDAs are all FSA- branches. registered—there is a precedent for regional local authorities and local authorities in other countries to Q477 Mr Binley: Can I relate that to what has serve as a conduit for delivering this money; so there happened with the banks over 30 years? That they is no reason why the Government could not act have very much lost that local involvement with today, get that money moving and use the RDAs to business; decisions are being shoved up the line; and get through to the small businesses. you do not have the people at local level that you had 25 or 30 years ago, who can understand local Q480 Mr Binley: Finally, I need to ask whether the business and could intervene in a much more Government should develop a national economic realistic manner than is happening at the moment? strategy. There has been a lot of talk about this. I am Mr Cave: Yes, totally. The models that branch very dubious and very concerned about it, quite managers are having to work to when they have a frankly, but I wondered what your views were. small business come to them are being changed all Mr Cave: I am not sure that the FSB has a policy per the time, and they are changed centrally. An se on that. What I would say is that national indication of this is a letter that we had from economic strategies do not favour small businesses Barclays to a member. The letter says, “I know that and entrepreneurs. It is much easier for government Processed: 12-08-2009 18:58:12 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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4 November 2008 FSB and government departments to engage with big therefore, and that is where I do disagree. The business, and that will always be the way. It brings benefits are not at the end; the benefits are from the us back to procurement, I think. When it comes to beginning, right through the building project. looking at the Government directing money, Mr Cave: Strictly speaking, that is not a public directing possible contracts, we would welcome that. sector contract, because the small business is However, you first of all have to solve the fairly contracted to a private company. Where we started simple problems of getting procurement opened up with this was in payment terms, and you come back to small businesses. to that.

Q481 Mr Binley: Are government and other bodies Q484 Mr Hoyle: In fairness, if you have a £60 million aware enough of the fact that, for instance, Airbus in hospital scheme, I do not think that Mr Smith, the the UK employs 13,000 people directly and has 400 local builder, will be tendering for it. The reality is companies in its supply chain employing another that there are very few companies in the country who 140,000 people? Is that properly understood? If it can tender for it. What we do know is that the benefit were, would it not be better that you would have is through the subcontracting, and the fact that been sitting here with a CBI representative, dealing procurement takes place locally is the benefit that with this issue together? comes from those contracts. There are only a very Mr Cave: I would agree that I do not think it is companies in the country that can tender for the widely recognised that there are huge numbers. If work, but there are so many benefits from day one you start losing small businesses, you will end up with those contracts. losing big business, because it is the small businesses Mr Cave: But the problem is that it is not day one, that feed that supply chain. We have seen that in the because you have to wait for it to get through that past. There is a long track record of that with the food chain. What we could do and what we are motor industry. There is a risk that if we do not act encouraging— now, that will happen again and it will certainly Mr Hoyle: I had better spell it out. I will say it slowly, deplete the manufacturing sector—deplete the Mr Cave, because— supply chain that we depend on. Chairman: He has got the message. Give the witness a chance to answer the question. Q482 Chairman: Perhaps I could pursue the question of a national economic strategy in a little Q485 Mr Hoyle: I will, but it is possibly me that is more detail. We have had quite compelling evidence not getting it across right. If the contract starts from from NESTA—and organisation held in high day one, the groundwork has come on to lift up the regard—about the success of the Finnish experience. turf or whatever, local machinery, local plant hire The parties agreed what the most promising sectors firms, are in there from day one, because they are were and then tried to develop policies to encourage supplying the company. There are immediate those sectors to flourish. It was not a strategy in the benefits at the moment that contract starts. That is George Brown sense but a diVerent kind of strategy, what I am trying to say—and it works its way where the shortcomings of public policy that were through the project. inhibiting those growth sectors were identified and Mr Cave: Can I come back on that? Not to disagree addressed. Is there scope for doing something like with it in any way, but what we would like to see is that in the UK or, again, is it something from which these large contracts split up a bit more. It would the small business sector would not gain anyhow? bring it forward even faster. If we were able to Mr Cave: I think that there is scope for it and I would encourage public procurement contracts to be split not say that that was not the case. Certainly, looking up at local level, that would bring forward what you at the Finnish model—and we work with NESTA as are saying even faster. well—there is a good argument for identifying sectors of the economy that may benefit from that. However, so many of our members, and so many of Q486 Mr Hoyle: What I am saying is that there are the most successful small businesses that grow into benefits; all I want to do is build on that, because I big businesses, grow out of finding something that believe that the Government has to get some money no one else has found. They look for those into the local economies, to industry, and mainly opportunities that government would not construction companies who have taken the biggest necessarily recognise. I would not want to put too hit so far in the downturn in the economy. Can we much emphasis on a strategy solving all of our move on to something that you recognise as being problems, therefore. important, innovation, can we just focus on that? How can the Government extend its support for innovations in the service industry and beyond the Q483 Mr Hoyle: There is just one point I want to science and technology R&D? clear up. If you do have a major hospital scheme, Mr Cave: I do not think that the FSB has a huge you do not benefit at the end locally; you benefit amount to contribute in this area at the moment. I from the beginning. We all know that major would say “at the moment” because the service companies use subcontractors locally. The builders’ sector is dominated by small businesses. It is merchant is local; the concrete supplied comes overlooked in terms of innovation, and I think it is locally; everybody’s supplies are local. There are an important area that we need to build on. I would major benefits in bringing those schemes forward, refer you back to what I said earlier about the way it Processed: 12-08-2009 18:58:12 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG1

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4 November 2008 FSB works in the United States, where they focus on low- Q490 Miss Kirkbride: How would it work? How do level innovation rather than sharp-focus R&D when you measure it? they are directing money; but, beyond that, I would Mr Cave: It can be done and could possibly be done not be able to comment at the moment. in partnership with FE colleges. It is a way of Mr Hoyle: Let us see if we can help in a diVerent way. introducing the fact to many of our members and It is not easy because it is not a specialist area for many business owners that they are actually engaged you. Maybe we should pass over this. in training. It pulls them through to the next level, so Chairman: I think the cluster point is worth asking. that they get to recognise that. Mr Hoyle: What we know from the experience of America is that, where clusters have been Q491 Miss Kirkbride: What about the enterprise encouraged and developed, there is shared culture, bearing in mind that you are the knowledge of innovation. Do you think the embodiment of it? Everyone has to start somewhere, Government could do more to support that, to help and usually small. What should we do to encourage, those people who wish to be involved in clusters? promote or improve our enterprise culture in the UK? Mr Cave: I will probably not answer the question in Q487 Chairman: The reason I say it is important is the way you would like, because before we can because we went to Cambridge as a Committee and encourage an enterprise culture we first of all have to saw the Cambridge cluster, which is a very unusual get the basics right. When you talk to our members cluster. It is largely small businesses in that cluster. Is about skills, the problems they have are the basic that a model that can be replicated elsewhere, or is it skills: employability skills, basic reading and just a product of the unique chemistry of the writing. Increasingly, it is beholden on them to Cambridge area or something to be gained from introduce these skills to new employees. We are more generally? almost putting the cart before the horse. If we want Mr Cave: It is clearly something that should be to start talking about an enterprise society, but are explored more generally. I do not know enough having more and more people coming into the about clusters to see how they work; to say whether workplace who do not have a simple work ethic, let it is something you could replicate from Cambridge us get the basics right for many small businesses to somewhere else around the country.What I would before we start looking further. say is that over 60% of patented innovations come from the small business sector; so it is clearly not an Q492 Miss Kirkbride: What reasons do your area that can be overlooked. members give for those poor skills? We hear that schools are getting more and more young people Q488 Miss Kirkbride: We were hearing earlier from through their qualifications. They go up every year; the TUC about skills, saying that small business do more get triple-starred As, or whatever they are. not do enough and, from the CBI, who say that that Why does the experience you relate here seem to is because they do it diVerently and it does not get diVer from what we read in our newspapers? measured. For the record, what is your take on it? Mr Cave: There are two sides to it. There is a Mr Cave: I would agree that the way in which skills disconnect between the business world and the are measured precludes so much of the training that academic world—or, not academic world, just goes on in small businesses. A recent survey suggests education. It is a great concern to our members that that 76% of small businesses are engaged in training, people are finishing school and they may have but so much of it is informally; it is in-house. acquired GCSEs and the appropriate qualifications, but they do not necessarily know about timekeeping; they are not necessarily able to step straight into the Q489 Miss Kirkbride: Is there anything that you work environment. As an organisation, we are would like to see happen from the small business encouraging more and more of our members to point of view, in terms of government support? Do it become school governors, so that we can get that diVerently or do it more? What should happen on the kind of interaction with schools at an earlier stage. skills front? We are very keen on Enterprise Week and getting Mr Cave: More, yes. DiVerently, definitely. The that linked much more closely, so that work point that was raised earlier about local FE colleges experience is taking place more often. The supplying courses that are not necessarily tailored to apprenticeship scheme is also crucial to this, because what our members need—it does need to be it gives people the opportunity to experience the demand-led. Simple things like the timing of a workplace before they go into it full-time. That is course, the length, the duration of it, the extent to therefore the overwhelming experience of many of which how much of it is away from the workplace. If our members. you employ only three people, taking that person out one day a week will have a huge detrimental Q493 Mr Hoyle: Just to follow up on that, I think eVect on your business; so that has to be looked at. that you are absolutely right. Small businesses are The other thing that we should consider is moving the backbone of the country; they are the future. towards accrediting informal training that is going When they do take apprentices, what I have heard is on in businesses at the moment. It is a way of that, first, they have to allow them to take a day oV formalising it and getting businesses to for day release and to go to college; then the problem understand— is that colleges are now charging small businesses. Processed: 12-08-2009 18:58:12 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG1

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Fees are being put on to modern apprenticeships, therefore is that encouraging a climate which and that is holding people back from taking on supports small business generally—so public apprentices and not doing formal, measured procurement, training, apprenticeships—helps training. I think that we are beginning to roll back on innovation in the UK. Is there anything more we can where we have actually made advances in the past. do, particularly in terms of university links? We have Secondly, how much more do you think we can do heard evidence earlier today that it is more diYcult to ensure that we get more workplace degrees, rather for small businesses to engage with universities, to than people having to go out to do degrees at take advantage of the knowledge that resides there, universities? particularly the more technical universities, perhaps Mr Cave: To be perfectly honest with you, the issue to help them to take on their business to the next of workplace degrees for the vast majority of FSB stage, develop their idea beyond the level they members is probably not that relevant. You are themselves have the capability and the skills to do. looking much more at the large and medium-sized Do you think that there is more that can be done to businesses for that. In terms of your first point, I engage small business with universities? completely agree. The FSB is in close agreement with Mr Cave: Yes, there is. As an organisation, we are the TUC, not only on the importance of going down that path by ourselves engaging with apprenticeships but how we support them and how universities to encourage this. This will probably not we simplify that. It is disappointing how many be what you would consider to be a satisfactory people start into the apprenticeship scheme and do answer, but what we first of all need to do is instil in not finish it. That is clearly a personal failure for the many entrepreneurs that they can do that and they person involved who takes on the apprenticeship but can move forward. Because if all you do is focus on it is also a waste for the business. Because so many the link between a very small number of of our members operate with such small, close-knit entrepreneurs who should be developing contacts teams, it has a wider eVect on the team as well. We with universities, you will not be massively boosting therefore have to make sure we facilitate the innovation in this country. Rather, what we would completion of apprenticeships. like to see is a focus on those businesses and entrepreneurs who do not necessarily make the Q494 Chairman: I have one last question for you, Mr connection at the moment between innovation and Cave. I will set it in context, though, before I ask it. what they do, and to bring that through. It is What we were hoping to do originally today when certainly what has happened in the United States. It we talked to business and the unions was to talk may take longer but you will drag more businesses about the long-term changes in public policy to up that innovation stairway and have a much wider ensure that small, medium and large-sized innovation community as a consequence. businesses can innovate and flourish and stay ahead Chairman: That is a really helpful note on which to of international competition. Of course, we have end. I am most grateful for the time and trouble you been overtaken a bit by the more short-term events have taken in coming. May I say in public, although of recent weeks and months, which have shaped all I have said it on a number of occasions privately,that the questioning. I hear what you say in that context, it is good at last that small businesses have a in that longer context, about the crucial role of small coherent voice in the UK? I think that the FSB has businesses play in ensuring that that innovation established itself as a coherent voice for small happens, because entrepreneurs spot opportunities, businesses, which we would obviously like, and I gaps in the market, that less fleet of foot, bigger think you have proved that today. Thank you very businesses miss. Clearly, one answer to that question much indeed. Processed: 12-08-2009 18:43:26 Page Layout: COENEW [SO] PPSysB Job: 406537 Unit: PAG2

Business,Enterprise and Regulatory Reform Committee: Evidence Ev 103

Thursday 20 November 2008

Members present

Peter LuV, in the Chair

Mr Brian Binley Mr Mike Weir Miss Julie Kirkbride Mr Anthony Wright

Witnesses: Mr Iain Gray, Chief Executive, Mr David Bott, Director of Innovation Programmes, Mr Graham Hutchins, Director of Operations and Services, Technology Strategy Board, gave evidence.

Q495 Chairman: Good morning gentlemen. all know exactly how to get on with you but will you Welcome to this final evidence session in the reassure me how you manage to coordinate all these Committee’s long running inquiry into the higher diVerent bodies and have a coherent approach. value-added economy. You are very important Mr Gray: We are a new organisation and I think we witnesses. You have come up a lot during our have been given the very privileged role of being a discussions over the last year so we are looking key interface between government, business and forward to hearing what you have to say. Can I academia. In many respects the fact that we have begin, as I always do, by asking you to introduce been established as an independent, an arm’s length yourselves for the record? sort of relationship, is more important than which Mr Gray: Iain Gray. I am Chief Executive of the organisation itself we were in. One of our objectives Technology Strategy Board. I have been in position is actually very much, as you say, to work across for just over 12 months after having spent some 28 government departments. That is the spirit of the years in the aerospace sector. organisation and the support we are given. We are Mr Hutchins: I am Graham Hutchins, Director of under the sponsorship of DIUS. We have a very,very Operations and Services. I have been with the close relationship with BERR, in fact many of the Technology Strategy Board since the beginning of technologists and senior civil servants in BERR were July 2007 having spent 17 years in industry with the originators of the Technology Strategy Board FedEx, Vodafone and a small SME. idea. So that relationship with BERR is hugely Mr Bott: I am David Bott, Director of Innovation important. I think the key thing about the Programmes. I was 27 years in BP then Courtaulds organisation is this sort of leadership role and it is a and then ICI. leadership role that goes across government departments in the innovation space but also goes across the RDAs, the devolved administrations, the Q496 Chairman: I know one member of the research councils in the exploitation and innovation Committee, apart from the Chairman, who is side of the spectrum and a number of diVerent thrilled to hear you all have commercial partnership organisations. You can have a great backgrounds. How much does that characterise assurance that our objective is to grasp that your organisation? leadership opportunity. From a pure DIUS point of Mr Gray: For me, Chairman, it is a fundamental of V view it is actually very, very exciting to see how the the organisation. There is a very big di erence in skills agenda and the technology exploitation terms of the way we tackle things. There are some 75 agenda have come together because they are people in the organisation, probably three-quarters probably two of the key issues for us. of them with previous business experience and indeed one of our boasts is 610 years cumulative business experience around the senior team. So it is Q498 Chairman: We want to talk about skills, as you very much a characteristic and a characteristic we would expect, later on; Julie Kirkbride will be asking those questions. It is a bit like herding cats, is it not, want to make dynamic and stick with as we move V forward. with all these di erent organisations, government departments, RDAs and their competing agendas? Let me give you an example. You talk about Q497 Chairman: I hope the Committee does not nanotechnology as one of your priorities. I come think I am prejudging our report by saying that that from the West Midlands where we want quantum is commendable. There is always an issue about technology to be a priority which is all the work that where organisations like yours sit in the great scheme is being done on the QinetiQ’s proposals for a of things and how you relate to things. When the new quantum technology centre. How would you relate department was created you were a creature of that to a proposal like that which is not on your list? new department DIUS. Innovation and technology Mr Gray: That is a very good example in actual fact are matters of such central importance to business of part of our remit. If you look through the strategy that I think there is a strong case for saying that what we have established is some very key perhaps you have the wrong parents, but I am sure technology centres of focus, nanotechnology as you that you have very eVective relationships with all the rightly say is one of them. You will also see that one key players. You will tell me that the cross- of the key aspects of what we are about is what we departmental working is marvellous and the RDAs call emerging technologies, it is identifying those Processed: 12-08-2009 18:43:26 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG2

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20 November 2008 Technology Strategy Board new disruptive technologies that are going to come initiative, an initiative that brings small business and along. We are very much in dialogue with QinetiQ, universities together. There are some 975 KTPs and as it happens, in your region to see how we can move we have actually committed to double the number. that forward. I would say that one of the objectives When we look at the innovation climate there is a of the organisation is to keep the technology pipeline broad aspect of culture and recognition, but in terms full in some of the existing technologies but really, of the budget itself it is very clearly targeted against really work and identify the future disruptive some key initiatives. technologies. That is core to what we are about. Q501 Chairman: That is on innovation and Q499 Chairman: You split up your budget into three marketing strategies, on actual tangible deliverable headings: challenge-led innovation, technology- things that will actually promote that climate. inspired innovation and innovation climate. You are Mr Gray: From the knowledge transfer partnership also an advisor to government. How important is scheme you will see real delivery. that role? How do you express an advisory role? Mr Gray: One of the key facets of our organisation Q502 Chairman: Are you sure you have the skills to is the pivotal role we play between government, enable you to do this leadership role, the technology business and academia in the innovation space. enabled innovation? Are you happy about your There is a great tendency for people to focus in resources and the ability of your staV? straightaway in terms of funding and looking at us Mr Gray: The organisation is a new organisation. It as a funding agency. One of the big messages we are has a fascinating set of dynamics because of it. As we feeding back out to business is that as an said in an earlier answer we have brought people in organisation we are much, much more than just a from business so there is a very broad range of skills funding agency. We can influence things like in the organisation. Twelve months on we have regulation where we can see regulation being a key probably spent the first six months very much stimulant to innovation; we can see how standards transitioning across some legacy aspects of what can play a very key role in promoting innovation. We were previous DTI collaborative programmes and can identify those sorts of areas across government we have proved that we are capable of doing that. We where potentially procurement can play a very big did not drop any balls. Business came back and said role. So the advice and influencing role is very much we had done a very good job of doing that. We spent a key part of what we are about. Indeed, the title of the second six months in terms of establishing a our strategy which is Connect and Catalyse is trying strategy. The team is out there every day of the week to portray a message which is significantly beyond in terms of talking to business, out in the regions. We that of just being a funding agency. have an extremely good team. It is a dynamic arrangement and coming back to a key theme of the Q500 Chairman: On the question of funding, I have organisation it is keeping that sort of dynamism, it is some reservations personally—I do not know keeping that business currency live. whether I share them with the Committee or not— about the 25% you are spending on creating Q503 Chairman: When Tony Wright asks his innovation climate. Everyone seems to be out there questions we will want comparisons with DARPA in doing their bit to stimulate interest in enterprise, particular because their model is a fascinating one. engineering, science, mathematics. Explain to me Is there a risk, do you think, that because you are so how that 25% of your money is spent and would it focussed on technology-enabled innovation you not be better spent on a bigger, more coherent pot look at all the sexy stuV and the stuV that we all say with all diVerent players including the chartered is frightfully important—life sciences, institutes and universities who all seem to be doing nanotechnology and all these things—and actually their bit here but all very fragmented. turn your eyes away and therefore all us policy Mr Gray: I wear a number of diVerent hats outside makers’ eyes away from the really important stuV the Technology Strategy Board and I share some of that is going on elsewhere in the economy? The the concerns that you may have about the service sector is huge, for example; we have had promotion of the science agenda, the STEM agenda evidence from NESTA on that. There are also very and the cultural side of things. In the innovation important but maybe boring and dreary sectors like space and the innovation climate there is a key role food manufacturing. I have a list here of value- that we can play. There are a couple of very key added sectors of the economy. There are some very initiatives that are central to our strategy,one is what dreary things which are frightfully important in we have called the knowledge transfer network underpinning our economy. Are you the glittery mechanism. There are some 24 knowledge transfer tinsel that distracts our attention or are you actually networks. We are reviewing the eVectiveness of those making a really important contribution to our as we speak. I think there are some 35,000 members future? of the knowledge transfer network type mechanisms Mr Gray: Again we would see our organisation covering a broad range of disciplines. That is a key being positioned in a very substantial leadership role initiative. The other key initiative that we have across a much broader range of innovation topics underneath the innovation climate is what we call than perhaps the title of our organisation, the knowledge transfer partnerships. Knowledge Technology Strategy Board suggests it is recognised transfer partnerships came out of the teaching and it is important that we actually focus on the company scheme. It is a very long standing type of actions and not focus on the name. The Technology Processed: 12-08-2009 18:43:26 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG2

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Strategy Board has a name; it is misleading in the graduates coming through. They are all aiming context of one of our key objectives, for example, we towards bioscience and nanotechnology; it is very have identified, creative industries, the financial competitive out there. Was there something else that services sector as being hugely important for us. we should probably have added in? Did you consider That is a departure from what previous DTI other areas that we should have looked at? collaborative R&D programmes might have Mr Gray: What is quite interesting from my recognised. We are very much moving into that perspective is that if you look at the themes in our service territory. Of course when we come back to strategy we have identified the three investment some of the more conventional technologies like strands: the technology-inspired innovation agenda, manufacturing technology it will not be lost on the challenge-led innovation area and the people that a lot of the big major manufacturing innovation climate. The technology-inspired players are actually involved in the service economy innovation is some fairly classic technology areas and their business model is much, much more than but when you move into the challenge-led approach just traditional manufacturing and production. It is it is, by its very nature, multi-disciplinary. Medicine the whole business of the service economy. I see us as and healthcare are drawing on technologies in the an organisation playing a strong role right across the electronics business, technologies in the innovation spectrum. pharmaceutical business and the bioscience business. The challenge application areas are a real Q504 Chairman: Would you like us to re-brand you, way of pulling in together multi-function and multi- make a recommendation for a new name? Or do you disciplinary subjects all working together. That to V think you have your name now and you will live me is one of the key di erentiators again between the with it? way the Technology Strategy Board is approaching Mr Gray: I think you can spend a lot of energy and the innovation agenda rather than just a more time in terms of— conventional technology push type of approach. Chairman:— is the correct answer! Tony Wright? Mr Bott: To give an example, the quantum technologies that were mentioned earlier by the Chairman, we are looking at that and the emerging Q505 Mr Wright: You picked two areas— technologies area. We are certainly aware of how technology areas and key application areas—but quantum electronics can change things in the how do you actually make those priorities? Does this electronics, photonics and molecular systems area. really result in the government picking winners? We are also aware in the network security innovation Mr Gray: If you look at the selection criteria we platform of how quantum cryptography can have, we have identified technology areas, as you probably change the way we think about say, and we have identified application areas. They authentication. It is a very complicated picture and have come through a consultation process with trade the way we present it to the outside world is actually associations, with government departments, with quite important. We give people the absolute Foresight type committees. The prioritisation has opportunity to show their creativity in the way they come from a number of diVerent areas. What we address the problems or the development of have identified is those areas that we think we are capabilities. world leaders, where we have real world leading capabilities. We have identified technology areas where we can build on excellence; we have identified Q507 Mr Wright: So really we are not picking the application areas where we can identify market led winners, it is challenges. Also we would not say that challenges, government societal challenges which anybody who is not on that list is a loser. are massively important drawing on information Mr Bott: Some of the very cleverest ideas come in from many areas. It is not about picking individual from out of field. companies; it is about choosing areas where we think Mr Gray: It is also fair to say in response to the we can make a real diVerence in terms of UK specific question of have we missed anything oV, this economic benefit. of course is an evolving strategy and the whole issue Mr Bott: The areas that we put in the strategy are the about the challenge-led approach is to identify sort of things where everybody says that it is the future challenges as they arise. By no means is it a detail underneath that counts. It is what we pick in closed book. any of those areas that makes the real diVerence. We work very hard. We analyse those areas, we publish Q508 Mr Wright: Moving on now, we did actually strategies openly on the web; we consult widely visit DARPA in the States earlier this year, as the through workshops and we get back from the Chairman mentioned earlier. Do you compare industry what they could achieve and what the yourselves with DARPA when pursuing the barriers are to achieving those absolute goals. We are challenge-led innovation? actually putting our money where it has the Mr Gray: There are a number of similarities and V maximum e ect on the productivity of UK there are a number of very significant diVerences businesses. between us. I think the similarities revolve around the issue of culture, the issue of drawing people in Q506 Mr Wright: We travel around and in many of from business, people who have ideas, supporting the developing countries—India, China—and the ideas, moving them forward. There are similarities in States, they are similar areas where they are really the culture of risk, increasing the risk bar. The things high profile in terms of the universities and the which are fundamentally diVerent are that DARPA, Processed: 12-08-2009 18:43:26 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG2

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20 November 2008 Technology Strategy Board as the name itself suggests, is focussed around that are naturally talking to each other but defence and it is focussed around defence connecting across dissimilar types of sectors. All our procurement. There is a very, very significant mechanisms are about connecting so “connect” is a diVerence in terms of the scale of funding associated key word in our strategy title. “Catalyse” was just a with DARPA and the Technology Strategy Board. I bit more symbolic but it was a representation of the met Dr Tony Tether when he was across in the UK fact that the initiatives and the interventions we do to try to identify those parts of DARPA which we are to do something diVerent, make something could really import and build on in our own model. happen that would not otherwise have happened. It was quite interesting listening to him that some “Connect” is a vital part of the innovation climate. seven or eight years ago DARPA actually did look Mr Bott: The technologists who look after all those at eVectively dropping the “D” and looking at a areas spend about 50% of their time out on the road broader remit, but it did not work. There are lessons either listening to people in business or trade to be learned from DARPA; DARPA in its own right associations or talking to people to spread the is not necessarily the absolute answer for what we message of our capability and intentions. We are all need to do here in the Technology Strategy Board doing an awful lot of communicating. but we are very closely watching what they are doing. We are connected with that organisation and Q511 Chairman: Somehow DARPA has broken free certainly my personal objective is to draw in what I of that awful mindset here in the UK that you can think is one of the key strengths of DARPA: succeed 20 times and not be noticed but fail once and increasing risk and that sort of constant recycling, you will pilloried and lose your job. You are the keeping a business currency inside the organisation. accounting oYcer presumably for the Technology Strategy Board are you? Q509 Mr Wright: Are there any other organisations Mr Gray: I am, yes. around the world that you consider you would be looking at to find good practice and bad practice? Q512 Chairman: So there is a risk that you will hear Mr Gray: Absolutely, and again one of our key roles from the Committee of Public Accounts at some is to identify where best practice occurs and draw stage in the future and be torn limb from limb for that best practice into a UK type model. We met with some mistake you have made while all the good the Dutch equivalent model, SenterNovem, just a things go unnoticed. We have a completely diVerent few weeks ago. We talk regularly to other culture here. DARPA is flourishing because of its governments. The Canadian Government, for devil may care attitude; you cannot do that here in example, came over to try to understand what the the UK. We are so cautious and so nervous about Technology Strategy Board was doing and I am very failure, are we not? proud that they took back from those discussions Mr Gray: As I said, there are some similarities and some of what we were doing as best practice, so it is some diVerences. Let us not forget that DARPA is a two-way type of communication. One of the something 50 years old, it is not a new objectives that we have is to identify where best organisation—we are a new organisation—it has got practice is going on, pull that across and absorb that a track record. In terms of risk and accountability into our own ways of working. they look at things in a portfolio sense rather than on an individual project or programme sense. From the Q510 Mr Wright: You did mention earlier that part Technology Strategy Board point of view and a of your strategy is to connect and catalyse and then cultural point of view we need to get into that culture you go on to say “then let the markets select the best of looking at things in a portfolio sense. Some things solutions”. How do you actually connect and will succeed; other things we will try an experiment catalyse? and they will not succeed. That is a cultural issue. It Mr Gray: “Connect” comes in all sorts of diVerent is a very, very significant issue for us all but I think it ways. The question about the innovation climate is is an issue that big companies have faced; it is an one way we would do it. We have these knowledge issue that we have now got to stand up to, looking at transfer networks which bring diVerent people from risk in a portfolio sense rather than looking at risk diVerent sectors together. Quite often the spark that on an individual project sense. makes something happen in an innovation sense is when you bring unexpected parties together, maybe Q513 Chairman: Do you not feel frustrated about a cross-section of one sector into another one, so a the climate in which you are working here in the business into a completely diVerence business United Kingdom where we are risk averse certainly environment. Knowledge transfer networks are a when it comes to public expenditure? key way of us doing that. The innovation platforms Mr Gray: There is a long way to go and I think if you which is a challenge-led approach actually in its own go back into a business context it is quite often way is a framework which draws multi-discipline diYcult times which actually force changes and topics together, diVerent types of business, quite changes in behaviours. often businesses that have never talked to each other. Drawing on an example like medicine and assisted living, suddenly getting an electronics or a sensor Q514 Chairman: You are ultimately a civil servant company talking to a pharmaceutical company or a and you are operating in an environment which bioscience company, I would say all the mechanisms stultifies innovation and radical thinking, are you we have try to bring not just those people together not? Processed: 12-08-2009 18:43:26 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG2

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Mr Bott: I take exception to the fact that people in characteristics and do something. After four years the UK are not good at handling risk. We have gone they have learned something and can go back out to out and met some of the most amazing companies. business. It is an HR policy. Mr Binley: You were founded in 2006; you have just told us you have been doing an awful lot of talking. Q515 Chairman: The companies do; it is you, you are You cost almost £1.5 billion. Let me tell you what the spending public money and you are under the Engineering Employers Federation said about you: microscope. DARPA is free from all that. “There have been many changes and fine words on Companies have made some fantastic mistakes in reforming public procurement and departmental business here in the UK but you poor civil servants, research expenditure to get the most out of as you now are, are constrained by all the machinery innovative business yet there has been little progress of the state. The press are not here today to report outside the MoD”. You mentioned QinetiQ; I never your great successes, but they will never do that; they know how to pronounce the silly name! will only report your failures. DARPA has somehow Chairman: It is a great name and a great managed to make a breakthrough; you need to do organisation. that to be eVective. Do you think you can do that? Mr Bott: Part of that, Chairman, is the culture of our organisation. We come from business. I have Q518 Mr Binley: These are pretty expensive words, watched videos of the Committee of Public are they not? Accounts; they use them to scare us. I have been Mr Gray: I am not a 100% sure that I agree totally hauled over the coals by board members where I with the facts and we can provide some evidence in have invested real money in the outside world and terms of the facts. We are a new organisation; we they give just as hard a time. If you have done it right were formed in July 2007. We have a very specific in a portfolio sense, as Iain said, you actually get budget over a three year spending review period of away with it. You are allowed a couple of mistakes; some £711 million. As one of our objectives we have it is when you consistently make mistakes that you been given an alignment budget target with the deserve to be pilloried. Actually taking the regions and an alignment budget target with the occasional one is part of the deal. research councils. The numbers themselves to my Mr Gray: I would just reflect on a couple of things. mind do not a 100% add up but the spirit of the I think the Innovation Nation report that was issued question— earlier this year very much acknowledged and reflected the fact that the behaviours inside Q519 Mr Binley: They add up together, do they not? government—whether it be related to procurement, If you had been in business you would be adding whether it be related to the way we do things—is an them on your profit and loss account. important aspect of what we are about. The role the Mr Gray: Since we have been formed in July 2007 we Technology Strategy Board can play I think is a very have invested just under £300 million. We have key role, as I said, drawing on some of the best about £500 million worth of collaborative R&D practices of DARPA and getting people to recognise projects on our books at the moment. They go across that kind of approach. The innovation climate is a wide range of sectors. We have said that we go out, equally applicable in that context inside government we talk to a lot of people because connecting and as outside government. talking to people is a key part of disseminating what we are about and gathering user needs and feeding Q516 Chairman: Tony Tether is a great guy and of those into our priorities. We are also an organisation the really ruthless things he has there is that you are that is very, very much about action. The in for four years and then you are out again. It is collaborative R&D programmes that we have are V constantly refreshed to keep that cutting edge there, making a big di erence in a very, very broad constantly refreshing the skills base of the sectorial sense. organisation. It does not matter how good they are, they are oV, they have to be oV. That is a really Q520 Mr Binley: So the EEF is wrong in its radical thing to do which really gives the assumption in that respect then. They are talking organisation an edge. Will you do that sort of thing? specifically about you, not about a wider sector, not Mr Gray: It is a key part of our HR strategy to draw about wider operation; they were talking specifically people in and people then move out of the about your operation. Are they wrong? Technology Strategy Board. Mr Gray: I do not know the facts.

Q517 Chairman: Will you sack them and tell them Q521 Mr Binley: I have just read it out to you. they have to go, tell them to go back to the private Mr Gray: I would be very happy to provide a written sector? response to the question. Nobody has said that to me Mr Gray: With respect, I do not think DARPA use from that organisation. I am very happy to provide the word “sacked”. What DARPA do is to maximise a specific response. We are talking to all the trade the bringing people into business. They have a good bodies; we are talking to the CBI, we talk to a lot of recruitment policy that brings people in who have organisations and I have never had that feedback ideas and who will take risk and make things before. happen. They give them an opportunity and a Chairman: It does not quite say that. platform in which they can exhibit those Mr Binley: I am sorry, I have just read it out. Processed: 12-08-2009 18:43:26 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG2

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Chairman: It actually says, “We welcome the Mr Gray: In the area of SBRI yes, I think we can do recommendations”; the question is really about something. It is very much a target objective for us. delivery. They are backing the idea. In terms of the overall procurement agenda, the fact that we spend some £150 billion a year or £170 Q522 Mr Binley: I will not allow my question to be billion (I am not sure which is the exact number) it is taken over and I repeat the words that I used directly very significant number. From the Technology from their evidence to us: “There have been many Strategy Board point of view I think there are some changes and fine words on reforming public roles we can play.We can identify areas where we can procurement and departmental research expenditure make a very significant influence in terms of how to get the most out of innovative business yet there procurement can simulate innovation. SBRI is a has been little progress outside the MoD”. That is very specific initiative and I have a very specific what they said. Tell me that is wrong or prove to me objective against the SBRI. that it is wrong. Mr Gray: In regards to ourselves, we are a new Q527 Chairman: What is your objective? organisation; it takes a long time to demonstrate the Mr Gray: The objective I have is to re-launch SBRI. impact of what we are doing out there. I do think I have a very specific objective which is to run two they are actually very supportive of the concept of pilots with the MoD and the Department of Health what we are about. I believe that very strongly. through to April 2009 and from April 2009 to see a step increase in the amount of SBRI projects in the UK leading up to something of the order of £100 Q523 Mr Binley: You look at it and come back to me million worth of SBRI projects in future years. later. You have not answered my question and I would like an answer. Mr Gray: I will come back to you with a very specific Q528 Chairman: Do you think more generally that written response. procuring more government services and products Mr Binley: I am most grateful to you. from the small business sector would actually do more to encourage innovation? Mr Gray: I do, yes. It is one of the resounding Q524 Chairman: We will pass you the detailed messages I have had in the conversations I have had evidence that EEF have submitted and I think it is with small businesses and some very good examples important that you do look at that. To be fair, I think of where it has actually worked as well. There is a that that sentence that Brian read out may refer to track record of how it has worked and where it has the history in this area as much as to Technology worked. Strategy Board. Their evidence was given to us in October, a year ago, when you were only three Q529 Chairman: You will be aware of the fact that months old. I suspect it refers to the history. The there was a joint report from the Federation of Small EEF are very valuable witnesses to this Committee Businesses, CBI and the British Private Equity and and I would not want them to be misrepresented. Venture Capital Association on procurement from They are very concerned about your ability to SMEs. It recommended that government should aim deliver. Being based in Swindon was actually one of for a 30% target for overall procurement. Do you their major concerns. think that is a realistic target? Mr Gray: I can understand them raising concerns Mr Gray: I cannot comment on the specific number from a historical perspective. In terms of the spirit of itself. I think there is a very real opportunity and 30% the relationship we have with organisations like that, is a big number. I cannot comment beyond that. The it seems very strong. key message is that it is a step change and that is what is important. Q525 Chairman: I was asking questions about the entrepreneurial spirit of the organisation and I think Q530 Chairman: You talked briefly about regulation what they are saying is that there is a history of in your introductory remarks as a driver of failure in this area. This Committee has reported on innovation which we have seen it can be. The classic a number of occasions in the past and the question is example is probably low carbon vehicles. What if another group of civil servants can deliver on this it opportunities do you think there are for regulation is really important because public procurement driving innovation at EU level or UK level? (which is the specific concern they are expressing) is Mr Gray: Again it is one of the key messages of the central to driving up our technological performance organisation. Let me just choose a specific example in the UK and we are very bad at this still. and ask David to provide a specific comment, and Mr Gray: The whole agenda of procurement I see as that is the whole issue around low impact buildings a very,very significant thing for us to address. I know and the impact that regulation is having in that area. your Committee has looked at SBRI—or SBIR as I Mr Bott: That is where the Communities and Local think it is referred to in the States—which are very Government code for sustainable homes kicks in specific examples of things that our organisation is because they have set an escalator for eVective taking on board. building regulations between now and 2017. People know how to deliver the 2010 target but it is a price Q526 Chairman: Do you think you can act as a point thing. 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20 November 2008 Technology Strategy Board chain. To deliver the full value of the 2017 much fed through the strategic advisory group, the recommendations is actually technically quite kind of formal relationships and structure we are demanding and so people are starting on that work putting in with bodies like that. That has clearly now. That rising escalator of regulations has been influenced where we are investing our money. It is well-communicated to the various parts of the taking local needs, feeding them up into a national construction supply chain which is probably one of agenda and then cascading programmes back down. the most complicated ones in the country, it moves very quickly to very small companies. The nice thing Q533 Miss Kirkbride: If we can have all these RDAs V about that is that the government e ectively then we will not have any need for your body to feed procures about a third of the building stock in this into all the RDAs, coordinate their eVort and the country a year so actually for those houses to be built bureaucratic hydra that gives you a purpose in which under the housing associations that escalator is you can extol at our Select Committee. If we did not advanced so by 2010 you have to answer the 2013 have all these organisations, if we had one person for requirements and by 2013 the 2017. That is actually the whole country (including Scotland, Mike) who producing a government driven increase in actually worried about these important issues, we innovation in the construction industry. So it is could do that on your salaries. Can you give me about well-considered regulation, well- another example. communicated to the markets and the companies Mr Gray: I chose that specific example because no that supply those markets. matter how you are organised you need to deploy things down right across the country. Q531 Chairman: Would you also be advising government sometimes to slow down regulatory Q534 Miss Kirkbride: Do we need you and the initiatives because it might otherwise benefit our RDAs to do that? Ten years ago we did not have you; competitors and overseas markets for products that do we really need you to do that? Could it not be are ready, for example. In the building sector in done better by one organisation? It could be you as particular sometimes there have been some very the organisation, fantastic. short notice changes to regulation which have made Mr Gray: I believe we are playing a very strong life diYcult for domestic producers. leadership role in doing that. Maybe if I could give Mr Bott: It is about well-communicated and another example. predictable regulation. Having spent all that time in industry I know that the most important thing to Q535 Miss Kirkbride: Yes, give me another one. know is where your market is going and what Mr Gray: What I would like to pick is one of the products or services you will be able to sell because innovation platforms and again I am going to look it takes time to deliver them. Precipitous or ill- to David to draw in on this. We have just launched considered regulation can be harmful but I would a new innovation platform on the detection and hold up the code for sustainable homes as a very identification of infectious agents which I believe has good example of what can be done well. a real big opportunity. David, could you describe how we have linked in with other government Q532 Miss Kirkbride: Listening to your evidence I departments on that example? do not deny the potential good for a body such as Mr Bott: It is a bit of a mouthful as a title but the idea yours, but I do have very grave reservations as to is to take the technology that enables you to identify whether or not it is achievable just because of the the fact that an infectious agent—that could be a complexity of the bureaucracies that you are dealing virus or a bacterium or whatever—is there and with. You are interfacing with so many identify it very, very accurately so you know what organisations and ones which are particularly disease vector it is carrying. At the moment many of opaque, including government departments which the detection technologies take 10 days to two weeks are not normally open to people’s advice other than to actually come back with the answer. We have seen that which is sitting around the cabinet minister’s some of the implications of that over recent table. Can you give me an example where you can epidemics and things. It is technologically or demonstrate to us that actually you were listened to scientifically feasible to reduce that to a couple of and you made a diVerence? Otherwise the feeling hours or probably even more by applying may be that this is just another bureaucratic nanotechnology and various other sensor organisation taking its tuppence worth and deciding technologies. We have started working with the how it is going to spend its own money. Is it making Department of Health because they realised that if adiVerence? they can apply that technology and get it developed Mr Gray: Let me give a couple of examples, one in they can actually radically change the care model the space perhaps of the relationship with the they use for some of the more infectious diseases. regions. We have put in place a very formal process They can intercept the spread of diseases very much which we have called a strategic advisory group more quickly, particularly HIV Aids, tuberculosis which has pulled together the science and industry and sexually transmitted infections. We started councils. The science and industry councils are talking to Defra as well. We might think that the feeding into our user needs, coming back to the disease vectors are unique to the human being but question about deciding what projects we move actually just about all the animals and all the crop forward on. The whole issue of the challenges vectors are very similar. We have drawn Defra into approach and the engagement of the regions is very that and they are actually providing us with Processed: 12-08-2009 18:43:26 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG2

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20 November 2008 Technology Strategy Board examples that we can develop the technologies them or give them a grant to develop that technology against as we go out to the industry so that they can, and then we test it against the Department of for example, intercept foot and mouth disease or Health’s success criteria. blue tongue more accurately and know exactly where it is rather than having to wait two weeks for Q538 Miss Kirkbride: So you actually give them a the feedback. It is a matter of starting with the grant to do that then? Department of Health, understanding their current Mr Gray: Yes. business practice and how it could change with the application of the technologies, and then moving on to the other examples of how that same technology Q539 Miss Kirkbride: What kind of money might can change other people’s business. there be available? Mr Gray: Our grants across the board could go from £30,000 to, in some instances, £100 million type Q536 Miss Kirkbride: Does it really take that long to projects. There is a very, very broad range of grant detect foot and mouth and blue-tongue? Two weeks? type oVers. Typically on big projects our grant size is Mr Bott: Everybody was talking about the H5N1 somewhere around about £500,000. In small vector of SARS, for example; that is a very specific businesses, SBRIs, small business type solutions, genetic type and you have to do a full DNA analysis £50,000 can make a very, very big diVerence. On to be able to actually say that it is that disease. That some of the bigger things then you are talking about is why it took all that time when people were much bigger sizes of money. The objective of the getting infected. organisation is to be very flexible and oVer diVerent Mr Gray: What we are trying to illustrate is where types of mechanisms to suit diVerent types of the Technology Strategy Board is working across businesses and diVerent types of business situations. government with other government departments. In that specific example—Department of Health and Defra—you could go through each and every one of Q540 Miss Kirkbride: So the Department of Health the challenge-led application areas and you can see produces its spec. You could argue that the Department of Health could have just put it on its where we have worked with the Department of website and companies could have come forward Transport and influenced their approach on low with an idea. You then go out and pick the person carbon vehicles, for example, working with the chief who is going to deliver this technology and give them scientific advisors; you can see how we are working a grant to do it. Is that right? Or do you give a few with the Department of Health in our assisted living people a grant for it and see which one comes up with challenge. Each of the challenge-led application the best idea? areas actually has been a very, very good framework Mr Bott: We advertise the challenge to the for drawing in other government departments; there community and we work very hard to get out to the are some really good examples. non-usual suspects because, as I said earlier, some of the most innovative ideas come in from out of field. Q537 Miss Kirkbride: On your infectious diseases Then we invite them to submit an application which example, when you have identified the two we have independently assessed for technological departments interested in doing this a bit faster, what grounds and business appropriateness. We have our then happens? What do you do as a result of that? own selection criteria that our governing board has Mr Bott: We have gathered together some of the given us. We actually then rank order them and we obvious candidates in industry, we have gone out to fund them until we run out of money. some of the start-ups that work on nanotechnology and pointed out that if they apply their microfluidics Q541 Miss Kirkbride: Do you give a grant to maybe and nanotechnology skills to PCR or DNA analysis five companies all seeking to do the same? then they can actually end up with new business Mr Bott: Yes. opportunities. We will be launching in the New Year Mr Gray: In presenting a particular challenge the a competition probably worth about £5 million or £6 key thing is drawing diVerent parts of the million. We write the specification for what the community together to try to identify the potential Department of Health wants in terms of machine or solutions and the opportunities that are out there. system and ask people to come up with the way that Once we do that then we would put in place formal they would develop those technologies. We started competitions for which diVerent collaborative oV looking at the DNA analysis which is the gold ventures can bid. There are some quite unusual standard at the moment but it turns out that there collaborations and some of the most successful ones are other ways by using biomarkers where you have are where we have brought together businesses that chemicals which attach to specific parts of known previously had not been talking to each other. I cite diseases so that you can then detect them by the example of electronics and sensors companies spectrometry. You can look at downsizing mass that are suddenly entering into partnerships with spectrometry to the micro scale. There is a whole slue bioscience type companies in this sort of territory. of technologies. We are not focussed on one The competition itself encourages companies to technology; we are focussed on the problem and come together and bid and we then go through a explaining the problem as coherently and as cogently process of assessing submissions to a competition as we can to the communities so that they can come and making decisions in terms of who we grant those up with their potential answers to it. Then we pay oVers to. Processed: 12-08-2009 18:43:26 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG2

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Q542 Miss Kirkbride: Who awards the contract? Q547 Mr Binley: Give me a handle on how much you Mr Gray: Quite specifically the Technology Strategy gather together for that specific purpose then in the Board puts in place contracts with collaborations, three years that we are talking about. collaborations that could go to business and Mr Hutchins: Realistically we have leveraged, business and academic partnerships. specifically on the low carbon vehicle project innovation platform there is a leverage of funds of— Q543 Chairman: You took the detection of infectious agents, this is a sixth innovation platform, Q548 Chairman: Rather than guess do you want to is it? This is one of the five you said you would roll write to us? out in the next three years. Mr Bott: We have had £20 million out of the Mr Gray: Yes, that is correct. We said we would have Department of Transport but the money that we 10 by the end of this spending review period. have had out of the RDAs is out of that aligned funding. Q544 Chairman: Do these platforms have diVerent Mr Gray: I will provide a written response to that levels of funding attached to them or do they evolve question. over time? Mr Gray: In absolute terms the innovation platform Q549 Mr Wright: As well as the RDA funding could is a framework rather than a specific budget you also give us a breakdown in terms of which each allocation. A very good example is low carbon RDA provides for. Is it based on a percentage of vehicles which is an innovation platform where one their income, is it based on a percentage of the work of our key roles has been to facilitate and bring that you actually do? How do you come to the £180 together funding from diVerent sources. The low million from the RDA? carbon vehicle innovation platform has actually Mr Gray: Again can I provide a written response pulled together £100 million of public sector funding to that? from across four or five diVerent funding sources. In Mr Wright: Thank you, that would be very helpful. terms of ranking, the important message is that it is a framework under which you can hang a number of Q550 Miss Kirkbride: How do you decide which diVerent initiatives. Some of them are funding, some research councils are funded? of them are not funding; it comes back to the issue of Mr Gray: One of the evolutions of the Technology regulation, it comes back to the issue of procurement Strategy Board is that it has moved away from what and standards. The innovation platform is a was a very traditional territory of technology links framework under which you hang a number of with just one research council which was EPSRC to diVerent initiatives. a situation where we now have relationships with all seven research councils. If you look at the Q545 Mr Binley: I want to clarify your budget innovation agenda then quite often the arts and because, as I understand it, your budget has a humanities and the social side of things and minimum from 2008 to 2011 of £711 million plus behavioural side of things is as important in terms of aligned funding from RDAs of £180million and at implementation of an innovation idea as some of the least £120 million from research councils. Can you pure physical technologies. So we have £120 million clarify that for me and do you have any more money worth of aligned funding with the research councils. that is within your gift, or does that collate the whole This is an area where we actually have very specific of your funding together succinctly? alignment targets with each of the seven research Mr Gray: Can I turn to Graham Hutchins to provide councils. I have regular meetings with the chief clarification on the numbers themselves? executives of the research councils to share Mr Hutchins: Yes, you are correct. The £711 million information about what their priorities are in the is the grant in aid that comes from government via pure science end of the spectrum and what our DIUS, our sponsoring department and £180 million priorities are in the exploitation end of the spectrum. comes from the regional development agencies and We work together to see those areas where they can £120 million from the research councils. contribute to some of our programmes or perhaps where we can contribute to some of theirs. We work Q546 Mr Binley: Is there anything else at all? So your across all seven research councils and that again is a money is within that framework. very big departure from the situation of some 18 or Mr Gray: I would come back to the question that 24 months ago. one of the roles we play is in terms of facilitating and bringing together other public sector funding Q551 Miss Kirkbride: Can you give me an example sources. The very clear answer to your question is where what the humanities and arts research that our budget is £711 million plus £180 million plus councils are doing is as important as the science and £120 million, but one of the key objectives we have technology base in the UK from your point of view? and one of the key benefits—things like the Mr Gray: If you take a sector like the creative innovation platform approach—is actually that we industries, the creative industries is very much a can draw in funding from other sources and sector where the UK is establishing a very significant although that budget is not necessarily Technology world leadership role in a number of diVerent areas Strategy Board funding in its own right we are taking and they look at things like the application of serious a leadership role in terms of how that money is being games into a business type environment. 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Research Council around that whole creative Q554 Miss Kirkbride: What are you doing about the industries arena. We have established a creative nuclear industry? industries knowledge transfer network and the Arts Mr Gray: From a nuclear point of view we have been and Humanities Research Council is playing in that in discussion with a number of science and industry space so are working on that together. We had a councils. The North West in particular is looking at creative industries collaborative R&D call late last instigating a review in terms of the R&D area as to year. The Arts and Humanities Research Council what the capabilities here in the UK are and what the helped influence and shape some of the very specific gaps are and what role perhaps the Technology competitions that we ran. We ran those together in a Strategy Board can play in that sector either from an joint way. It is in those kinds of territories that underpinning technology point of view (materials) AHRC has played a very strong role and there is a or from things like a waste management point of good strong relationship between us. view. There are a number of areas. To date we are involved on the fringes in one or two underpinning technology areas but what we are planning to do is Q552 Miss Kirkbride: Do you take a view on skills a review to see how we can contribute in that space. or is that not part of your remit? Mr Gray: Skills is something which is not part of our Q555 Miss Kirkbride: Is that not a bit urgent? You objectives in an absolute sense. There are a lot of have been going for a year, you have known they are other bodies responsible for the skills agenda itself going to build nuclear power stations in that but we have a role to play in two diVerent respects. timescale; there is a big demand from key industries There are a number of diVerent areas, the knowledge from the UK. It is our future and we know we are transfer partnership scheme, for example, is one way really short on all fronts whether it is technology or in which we participate in the skills agenda. The skills. You have been around for a year and it has not knowledge transfer partnership scheme is one of the been part of your fundamental document. UK’s leading graduate recruitment schemes. As part Mr Gray: I would just restate that it is something we of that scheme we are playing in the area of are planning to do and we are going to do. managerial development, project management development and some of the collaboration skills. Q556 Chairman: I am a bit confused about how you The associates that sign up to the knowledge transfer take your position on what research facilities you partnership scheme are developing skills in new fund. I am not quite sure how you do that and areas. The other area is in terms of the technology for particularly what the relationship is with the RDAs tomorrow and working with the Sector Skills in this area. Are you just again treading on the toes Councils. If you look at subjects like plastic of the RDAs and replicating what is being done by electronics or something which will require other people? How do you make these decisions? completely diVerent technology skills tomorrow to Mr Gray: In terms of relationships on facilities, there those that we have had in the past, one of our key tends to be a reasonably good split. In terms of the roles is working to make sure that people understand primary role that the Technology Strategy Board what the skills needs for tomorrow are. As an plays in facilities is actually support to businesses organisation we do not have a skills objective per se; and projects within facilities rather than support to that is not part of our remit. We have an influencing the facilities itself. If you look at something like role and I would just cite those two specific examples Daresbury or you look at something like the in areas where we have strong links into the skills Babraham Institute in Cambridge or you look at agenda. Ansty Park or something like that, then our contribution would be primarily through innovation projects with businesses rather than in the facilities Q553 Miss Kirkbride: At what level do you do that, themselves. given that there has been a very significant drop recently of stem cell students going into universities Q557 Chairman: You would be selecting those from school? What level are you pitching your thing businesses on the basis of open competition. at because part of the problem is lack of supply? Mr Gray: Absolutely. Mr Gray: Again in specific terms if you look at relationships with Sector Skill Councils for example Q558 Mr Weir: One of things you are involved in I we recently had discussions with Semta on some of believe is the development of clusters. Can you tell the science skills requirements. We have pretty us what factors contribute to the success of a cluster? regular conversations with universities and HE Do you have any role in coordinating the institutes. I, personally, have conversations with vice development of clusters to prevent duplication chancellors to try and look at how we can make between diVerent regions? linkages in that regard. I would say from a structural Mr Gray: The whole role of clusters is something point of view, again as an organisation, we are not a that is being looked at in a very broad sense at the skills agency; we do not have a specific objective moment. From my perspective it comes back to relating to the skills agenda. It is through networking some of the issues we talked about in terms of and through the contacts we have with the HE innovation climate, about networks, about creating community with the skills sector councils and environments where small businesses can get through the industry trade bodies as well that we together, share ideas; it is about building make those linkages between skills and technology. communities. I believe the relevance of clusters in the Processed: 12-08-2009 18:43:26 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG2

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UK is hugely important. From a perspective of what wheel in every university campus around the role do we play, coming back a little bit to the country. What I am trying to get at is what is your question about facilities, our support tends to be in role in the development and maintenance of clusters terms of projects, in businesses that are in clusters. I in preventing this duplication? have been round and visited a number of these Mr Gray: We are the only body that brings all the clusters and there are some common themes. There science and industry councils together, for example. are common themes about creation of space, about We are the only body that actually pulls together that social networking, about the exchange of roadmap of what is happening across the whole of information. If you look at some of the great cluster the UK. We have a specific role in terms of advising models in the US again it is that socialising people on what we think are the right things to do technology, socialising and innovation culture and and we have talked a little bit already about the climate. That is the kind of thing that we have to do. alignment budgets that we have, so there is a I think in that innovation climate space we can play mechanism by which we can actually start to a very important role in creating successful clusters. influence how decision making is happening throughout the UK to ensure that we do not have Q559 Mr Weir: I do not know the answer to the that duplication where we do not need it. question about the development of duplication. You Mr Bott: Can I just add something to that? Porter’s can have a cluster developing in a university in the original model which was borne in an earlier Midlands and perhaps another one developing at a communication age was that you could drive to university in the south, if they are doing the same anywhere in a day, so that is most of the UK to be thing do you have any role in bringing them together honest. Your point about how communication has and creating one cluster instead of two competing changed since Porter’s original analysis is well made clusters? in that we are aware of some virtual clusters growing Mr Gray: Yes, we do. up. To come back to the innovation platforms, when you put sensor companies and clinicians together Q560 Mr Weir: How would you do that? there is a personal bond and they drive their own Mr Gray: We have said a number of times that as an virtual clusters as well. I think that that model is organisation we have a strong leadership role to play going to change over the next five years. across the regions and devolved administrations in determining what is going on from a national point of view. We have uniquely brought together through Q563 Mr Weir: You made the point about disease the strategic advisory group with the science and which is all very interesting, but it seems to me that industry councils a roadmap of what is going on is the perfect example of where a virtual cluster can across the nation. That gives us for the first time an grow up between various microbiotic or technology opportunity to really see where there is duplication, departments around the country, but I am still not where there is benefit to come from rationalisation clear about your role. Is your role purely to say that and making decisions so we do not end up with that is a good idea, we will put some money into it? technologies which are the technology of the day and Or is your role to say that Professor X in Edinburgh we have invested in a little cluster in every single part is developing this, this is along similar lines to of the UK to support it. Professor Y in Bristol, let us get them together to work together in a virtual cluster to try to drive this Q561 Mr Weir: Do you see clusters purely as a forward for common benefit? geographical thing or can a cluster be or, for Mr Bott: The truth is that we can put them in touch example, with the modern communications perhaps with one another and show them the advantages of you do not need everybody to be centred around one how working together can make things happen particular place? Do you develop clusters by putting faster but we cannot mandate that they do so. innovators in diVerent parts or diVerent regions together? Has that caused problems with the diVerent RDAs? In setting these up do you have to Q564 Mr Weir: If, say, a cluster in Edinburgh is act as an arbitrator between diVering views and developing something and another cluster in Bristol ambitions of the various RDAs? is doing the same thing, do you say that this is a Mr Gray: Clusters happen. The investment that goes better, more advanced idea and put money into this into clusters and the investment of facilities we do and not to that, in eVect choose the winner of these have a role to play if we have a particular bit of two clusters or would you put money into both? Or governance that will help facilitate decision making would you say to one that there is no point in doing and processes to make sure we do not duplicate this because somebody else is more advanced. things where we do not need to duplicate things. Mr Gray: There could be a number of diVerent From my perspective there is a very strong role that things we could do. We could get people talking to the Technology Strategy Board can play. We do not each other; that is quite often a cheap thing to do but want to have clusters around particular centres of massively important in terms of influencing what is excellence duplicated all around the UK. going on. That is part of the connect, making two people talk to each other. In terms of investment in Q562 Mr Weir: I think we are all agreed about that two types of facilities, two diVerent sorts of areas, but I am not clear what your role in this actually is. two diVerent clusters, that is a diVerent question to We can all agree that we do not want to reinvent the one where you had, say, 50 diVerent clusters in every Processed: 12-08-2009 18:43:26 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG2

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20 November 2008 Technology Strategy Board diVerent part of the country. It may well be in that answer is that there is a job to be done to make sure instance that we would support projects that would that they are eVective but it is a very vital part of the go on in a number of diVerent areas. innovation eco-system and climate in which we work. Q565 Mr Weir: When it comes to the crux of the matter about the duplication of eVort, it is the same Q569 Mr Weir: How does your organisation in argument we have had when looking at RDAs, that encouraging technology-enabled innovation fit in RDAs are wasting money competing against each with the eVorts of other government departments in other on a similar project. Is the coordinating role in promoting innovation? Do you see yourselves as your organisation to choose the cluster and say that leading across government, that there is competition is where national investment is going to develop this between you and other government departments? project rather than in another cluster? Or are you Mr Gray: Just to be clear, our sponsoring saying that everybody will get some of the money department is the Department of Innovation, and allow them to develop? University and Skills and one of their roles is to look Mr Gray: It is certainly not the situation that our at the innovation landscape across other organisation would like to see everybody getting a government departments. The role of the slice of something; it is about at some point in time Technology Strategy Board is part of that broader maybe drawing together some quite diYcult role; it is not the entirety of that role. From the decisions and making those decisions on a UK- Technology Strategy Board point of view the role economic basis. that we do play in we are very, very strongly encouraged by our sponsoring department to work Q566 Mr Weir: Do you have the power then to say across other government departments. “This cluster is the one that is going to develop; that is the one and investment is not going elsewhere”? Q570 Chairman: I want to ask one question about Mr Gray: We have the mandate to determine where knowledge transfer partnerships. These look to be a we invest our own money. very good idea to me but obviously this Committee is concerned about the current economic situation. Q567 Mr Weir: You cannot determine how RDAs Is there a risk to the health of those partnerships and then invest the money. those who participate in them in the current Mr Bott: We can advise them. economic situation? Mr Gray: That is a very relevant question and one we Q568 Mr Weir: Can you tell me how the knowledge are tracking very, very closely. To date we have seen transfer networks operate in practice and also what really good participation from SMEs in the sort of demand there is for them? knowledge transfer partnership scheme. In the last Mr Gray: As I said earlier we have some 24 or 25 few weeks we have seen one or two early indications knowledge transfer networks in existence at the that it is something we should pay attention to. moment. There is a mixed view if you go across those There are no businesses pulling out of the knowledge knowledge transfer networks. Some are more transfer partnership type of approach. One of our eVective than others; some work very much across objectives is to double the number of knowledge diVerent sectors than others. Over the last six transfer partnerships and to engage new companies, months we have actually been carrying out a review; new SMEs, who have not participated in that we have had an independent review done on the scheme before. It is something that is a challenge to eVectiveness of knowledge transfer networks. We us and we are prepared to be innovative in the way have had some very strong feedback in some areas that we are looking at that scheme. We are, for about just how eVective they are and the ability to example, introducing what is called a short KTP build communities, the ability to draw diVerent scheme which is something which is more 12 to 40 people together and some strong anecdotal evidence weeks type arrangement which we think would suit of things that have happened as a result of having some of the creative industry type businesses or these knowledge transfer networks. We have also maybe some of the more faster moving businesses. had one or two areas where people have come back We are looking at ways we can adapt the KTP and said that there is a bit of confusion out there, scheme and we are watching that space very, very that maybe four or five diVerent knowledge transfer closely. networks are all apparently covering much the same Chairman: Perhaps you could send us a note about sort of territory. So we are looking again at how we how you think that scheme should respond to the can rationalise and organise knowledge transfer current economic circumstances; I think it is a networks to make them really, really eVective. In my matter of some concern to the Committee. view the ability to draw together dissimilar businesses, diVerent sized businesses, academics and Q571 Mr Binley: You all have an esteemed record in public sector people against given knowledge the private sector and I bet when you were in that transfer themes is a very, very powerful agent and if private sector you used to moan like hell about the you talk to people outside the UK in terms of them burdens placed upon you, about the regulations looking in on some of the best practice we have, created by government and about the money they quite often the knowledge transfer network spent which you thought was a waste of time. The mechanism is one of those aspects of best practice we second point I want to make is that you know that have here in the UK that others look in on. My small businesses are in serious trouble. We were told Processed: 12-08-2009 18:43:26 Page Layout: COENEW [O] PPSysB Job: 406537 Unit: PAG2

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20 November 2008 Technology Strategy Board in evidence by the Federation of Small Businesses Mr Hutchins: On the key areas that we split our that a third of small businesses are considering measurements down into at the moment we have on throwing in the towel life was getting that diYcult. the input side what you would describe as our The final thing you would have done in your delivery plan which has objectives for us as an business life would have been to create priorities. It organisation to deliver against on specific timelines, is very diYcult to prioritise on occasions. Given the for example the development and implementation of money you spend, should we be diverting that at this the innovation platforms, the identification of the very moment to help the survival of small businesses new subject matters we will be addressing as we go or do you still think it is right to spend the money across the CSR period. Secondly, against that, there you are spending in the light of present conditions? are the other areas we look at, for example the KTPs. Mr Gray: I hold a very strong conviction—and if I On the KTPs again measuring input of what we do were in business today I would be holding the same is relatively easy. We understand how much we have conviction—that in diYcult times diYcult decisions spent and how much we have invested or granted to need to be taken, but in actual fact it is the grant recipients to be able to say that this is what we investment in innovation, the investment in doing have done. We have some very clear measures that things diVerently which will make your business come out of the knowledge transfer partnership stronger when we come out of the diYcult times. I programme because that comes out in think the Technology Strategy Board has a role to measurements of increase to turnover, increase to play in that. It is not a Technology Strategy Board gross profit, net profit before tax, additional research role per se to look at some of the very, very and development capital investment and jobs immediate issues that small businesses face, but it is created. the role of the Technology Strategy Board to look at how we can help small businesses to continue to Q574 Mr Binley: I will stop you there. How do you invest in innovation to make them stronger so that use those factors in a private company to argue your when we come out the other side of the current own import in that respect? situation we have small businesses that can survive Mr Hutchins: We can measure against— and compete on a global basis. My perspective is priority around small businesses and we should be Q575 Mr Binley: Turnover? You could have a better looking at those areas where we can help them to sales manager. How do you separate your own bit continue to invest in innovation for the long term. out of it to measure your own impact? Mr Gray: In terms of the KTPs it is a big challenge; Q572 Mr Binley: So you have no doubts at all. no-one is shying away from the fact that it is a big Mr Gray: I have no doubts in that regard. challenge to know what our own impact is. On the KTPs we are actually asking business to identify Q573 Mr Binley: How do you measure your what the impact of the KTP has been. eVectiveness? That is our job; that is the diYculty we have. Indeed, there is a view that it is very diYcult for Q576 Mr Binley: The business that is getting money the Technology Strategy Board to measure the from you? I would be telling you that you were success of a high proportion of the mechanisms at its eVective quite frankly if I were getting money from disposal to boost technology. It is also diYcult to you. measure how much of the result is due to the Mr Gray: In actual fact the business itself is a investment from the Technology Strategy Board and financial partner in the KTP scheme and the how much is due to other factors. Some might say business is a beneficiary of any knowledge transfer that that is a very comfortable position to be in. from an academic institute. So business is actually Indeed, you recognise it yourself because you argue paying for the KTP.Business is seriously considering that the very nature of innovation presents the benefit from a knowledge transfer point of view; challenges. You went on to say that separating your it is not a grant like a collaborative R&D grant. The own impact from that of other drivers is bound to be way they would look at it and the way they would diYcult. Again I would say that is a very measure the benefit of a KTP is quite specifically to comfortable position to be in. How do you set your look at the benefit they are gaining from that milestones, your targets and what are they? Give us knowledge exchange. an idea of what some of them are so that we have an understanding of how we can measure your value to Q577 Mr Binley: If you were on my board I would the tax payer. say that I have heard a lot of nice words but you have Mr Gray: I can assure you that I do not feel in a not convinced me, so would you write to us and put comfortable position with regard to measurements. down exactly how you judge your impact and Measurements are a key part of what we are about measure your eVectiveness and tell us what the and in fact I will call on Graham to talk a little bit rewards are for the tax payer in those terms. about specifically what we are doing on Mr Bott: I spent many years running product measurements, but I would put it into two development groups in corporations. I would categories. There are those measurements related to develop the product up to the demonstrator phase; the eVectiveness of us as an organisation in I would then work with a manufacturing director to managing what we are doing and there are those make sure it could be made cost eVectively; I would measurements related to the impact that we are then work with the marketing director to make sure having in a longer term. it was sold in an eVective manner and I would Processed: 12-08-2009 18:43:26 Page Layout: COENEW [E] PPSysB Job: 406537 Unit: PAG2

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20 November 2008 Technology Strategy Board actually go out on sales visits with salesmen. I would concern against the fact that it is very diYcult to have claimed that without the work of my team at judge your eVectiveness in terms of hard, real facts the beginning none of the rest of it would have about performance and performance enhancement? happened, but in truth they all added value to the Mr Gray: I have said previously I have a strong final return to the company. conviction that now is the time to invest in Mr Binley: Can I stop you because again you are innovation and R&D. talking in management speak without giving real Q580 Mr Binley: My question was, are you worried facts. I have been a managing director of a company that your budget will be cut back by the too for a very long time so I do know the inter-action government? of the various departments within a company. I am Mr Gray: I am saying that I believe now is the time well aware of that. I want the facts. I want the facts to invest. I have no evidence which says that the of how you measure and I want the outcomes to see budget that we have now will be cut back. On the whether those measurements make real sense in contrary, the kind of discussions I am having when terms of accounting to the people who provide your we look at the increase in our budget on a year to money and that is the tax payer. year basis, one of the key things that we see increased year on year going in in terms of the exploitation of science and technology. For me that is massively Q578 Chairman: In your strategy document you say important and I would argue a case which says that that you are trying to develop a best practice that trend needs to continue. appraisal and evaluation regime for all your own activities. I think that is what Brian is asking you, Q581 Mr Binley: How do I tell the tax payers, on the what is that best practice regime that you have evidence you have given today, that you are about committed to in your document? How far forward the business of business and not about the business are you with that regime and when will it be of government? available? Mr Gray: How do you tell the tax payers? Mr Gray: We will provide a written response to the specific question, in particular around KTPs. What Q582 Chairman: We will not have enough time to we have been trying to draw out is that we are pursue that question. It is an important point that measuring our eVectiveness in two respects, one is Brian is making, to what extent are you simply coordinating other government activities already that we do have our internal eVectiveness measures going on and just need to be pulled together and to (we share those with our sponsoring department). what extent are you adding value. You can have 30 We are also looking at impact measures. We are seconds to respond to that and then we will have to working very closely with NESTA, for example, on draw things to a conclusion. the development of the innovation index. So there Mr Gray: For me the testimony will come from are some longer term plays in terms of how we put business. When business says that the Technology in place what is acknowledged to be a diYcult area Strategy Board is making a diVerence to what they to manage. What we will do is we will provide you are doing then that for me is the strongest testimony with a paper that describes what our current that you can have, the strongest message that you approach to measures are. can give back to people. That is our job, to work with business and the testimony should come from business. Q579 Mr Binley: Can I ask whether you have any Chairman: It is very frustrating that we have to end concerns that your budget might be cut back at any there; I would like to pursue this at greater length but time, including perhaps this particular time bearing we cannot do so today. Mr Gray and colleagues, I in mind the economic situation, bearing in mind the am very grateful to you; thank you very much indeed government’s cash flow problems? Do you place that for coming before us today. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [SO] PPSysB Job: 406492 Unit: PAG2

Business, Enterprise and Regulatory Reform Committee: Evidence Ev 117 Written evidence

Memorandum submitted by Advantage West Midlands (AWM)

Introduction Regional Development Agencies have an important role to play in increasing added value in the regional economies. Through a range of strategic interventions, RDAs can generate a climate for innovation that is focused on the specific needs of businesses and organisations in the area. However the West Midlands has a poor overall track record in innovation. The region is the fifth largest contributor of the English regions to the total GVA of England (2004: £85 billion of £912 billion) and 6th for GVA per head (2004: £15,800 compared to £18,000 for England). The top six sectors where the West Midlands makes the highest percentage contribution to the England total have remained the same over the last 10 years with minor changes in order. Furthermore in the West Midlands region, Business Expenditure on R&D (BERD) data published by the Government shows the West Midlands to be 7th out of the nine English regions—with a strong concentration of business R&D in the southern English regions. The same data also shows that pharmaceuticals represent nearly a quarter of the R&D spend in the English regions, a sector where the West Midlands is underrepresented in the total number of businesses. The BERD data may therefore paint a bleaker picture for the West Midlands than it deserves given our industrial sector distribution. In contrast, the region’s strength in manufacturing places us 4th out of the nine regions for generating patents. But, again, patents are not a wholly reliable measure of innovation because a measurement of the economic value attached to each patent is not carried out. However, other figures paint a more encouraging picture. In the European Union’s most recent Community Innovation Survey, the West Midlands was 2nd out of the nine English regions for the proportion of production firms introducing product innovations and 5th for the service firm equivalent. This some evidence that R&D spend is not a good measure of the propensity to innovate. The paper below is designed to assist the Committee’s evidence gathering exercise by evidencing relevant activity in the West Midlands and does so under the following general headings.

1. What is meant by a high value-added economy? Which business activities qualify as such? 1.1 “Value Added” is taken to mean the increase in the value of goods or services that arise as a result of the production process before they are taken to market. Innovation is therefore a critical factor in raising product value (and therefore, ultimately, price), thus accruing greater wealth and prosperity. 1.2 The role of Advantage West Midlands (AWM) is to “add value” to the regional economy and does so through a series of strategic interventions that support businesses and organisations across the West Midlands. The ultimate aim is to close the £10 billion output gap between the region and the UK average, 80% of which is attributable to our economic structure and relative lack of productivity. It is for this reason that investments the Agency makes in raising demand for training and in improving the quality of training provision, measure the business impact as well as assessing the skills levels of individuals. 1.3 The main programme to reduce this gap is the West Midlands Economic Strategy (WMES) which sets out the priorities the region needs to address which will create sustainable new businesses, improve competitiveness and develop a more knowledge-based economy with more employers investing in higher level skills. The WMES also aims to see greater exploitation of knowledge and increase the volume of collaborative business-led research. 1.4 Whilst those sectors with high average value-added tend to have high levels of investment in capital (eg aerospace) or skills (eg banks), increased added value is achievable by firms in most sectors. A region may not be able to create higher value-added sectors outright, but it can encourage the added value generated by firms in chosen sectors, for instance, through upskilling, the more eVective use of skills already in the workplace or investing in plant and machinery. 1.5 There are a number of successful businesses that have become more “knowledge-intensive” in sectors that are traditionally well represented in the region. For example, Metallisation, a small company in Dudley, won a Lord StaVord Award (collaboration between businesses and universities) for its work with Aston University, via the Knowledge Transfer Partnership, helping develop an improved range of computer- controlled metal spraying equipment through software development and building on fluid modelling expertise in the university. 1.6 Significant shifts of the sectoral balance of a regional economy are often driven by major events (such as large-scale inward investment and factory closures) and long term strategies that require sustained investment over a period of time. As the public sector has limited ability to plan to shift the balance of a regional economy in the short term to higher added value sectors, working with existing businesses and Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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sectors to increase added value is critical. The aim must be to build on the region’s current strengths as well as creating opportunities for higher added value sectors in the longer term. Over the last three years the Agency has funded 568 graduates to work in SMEs to help encourage innovation and business growth. In the West Midlands, the recent co-investment by Channel 4 and AWM to create a £10 million fund to finance the creation of innovative digital media is a good example of building on an embryonic strength in a growing high added value sector.

2. How do UK businesses compare internationally in areas such as R&D, creativity and design? 2.1 By way of context, Britain undertakes 5% of the world’s research and publishes 12% of cited research papers, placing us second behind America in a world ranking of research excellence. Also, British scientists claim around 10% of internationally recognised scientific papers every year. (The Economist, 2 August 2007). 2.2 However quantitative measurements of innovation are not straightforward and not helped because R&D data and patent information is often attributed to the location of the company headquarters. This is a fundamental problem when assessing regional innovation performance. A further issue arises as the general shift from manufacturing to services can reduce total R&D as there tends to be less explicit R&D investment in newer service industries (where “human capital” is more important). 2.3 In terms of innovation performance, (as measured by the European Innovation Index), the UK is 6th behind Sweden, Switzerland, Finland, Denmark and Germany. On this measure we are just ahead of the United States but behind Japan. This index attempts to balance innovation drivers, knowledge creation, innovation and entrepreneurship, applications and intellectual property. In terms of creativity, Britain has a good story to tell with OECD research suggesting that the creative sector accounts for 5.8% of the economy, higher than major competitors like Canada (3.5%) and America, Australia and France (each around 3%). 2.4 There are numerous examples of world leading companies in the West Midlands whose investment in new product development yields world beating products including JCB, Jaguar Land Rover, Qinetiq (Malvern) and Goodrich. But investment in R&D is only a proxy for innovation. As with any investment, some companies are able to create more value for a given R&D investment as shown by Booz Allen who studied the world’s leading R&D companies (the Global Innovation 1000) and found significant variation in the eVectiveness of their R&D investment.1 To encourage a focus on innovation the government must improve the measurement of innovation as announced in Innovation Nation, both at company level as well as through local, regional and national statistics.

3. Learning from other countries and how fast are other countries moving up value chain? 3.1 High added value can be obtained by being a first mover, creating the market, enabling the customer to perceive the value of the product or service and then having the potential to reduce costs through experience or tailoring to individual customer preferences. 3.2 Whilst low cost manufacturing is increasingly carried out in countries with lower cost bases there are good opportunities for the UK to retain added value in design and other professional services. However the investment made by countries like India and China in upskilling their workforces and developing better R&D and design capability is a threat to the added value that UK companies can currently achieve. UK companies need to rise to the challenge and respond by employing more graduates, upskilling the workforce and improving their strategic leadership and management skills. 3.3 The manufacturing sector in the West Midlands already generates 30% higher GVA per employee than regional average (even taking into account the long tail of underperforming businesses). And it accounts for 27% of regional GVA, and 77% of all business R&D. It is therefore one of the distinctive competitive strengths of the region and the West Midlands is actively building on this, along with other attractive sectors. 3.4 The Region has recently been very successful in attracting significant inward investment in high value areas of design and product engineering (Tata Motors, Shanghai International Motors, Airbus UK). The sector is now experiencing acute shortages of engineers, especially electronics/electrical skills, which seriously threatens this exciting area of growth. The government should continue to invest to ensure that the UK retains and develops high levels skills, particularly for deployment in the private sector, to ensure we retain the ability to develop world class products and services. 3.5 The growing move of global business to develop approaches to “open innovation” recognises that even global firms cannot innovate suYciently fast on their own to create high added value. The term “Open Innovation” is used to describe the process whereby companies incorporate innovation from outside their

1 “Smart Spenders: The Global Innovation 1000”, Jaruzelski, DehoV and Bordis, Strategy and Business, Winter 2006. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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organisations to maintain their competitive advantage. This approach has been widely championed by Proctor and Gamble who have a project with Birmingham City University to look at how best to work with SMEs. Funded by the third round of the Higher Education Innovation Fund, Birmingham University are piloting the Innovation Exchange model that originated in Australia. This seeks to create a set of innovation brokers working under strong conditions of confidentiality to help link up its clients to sources of new ideas or to customers for their ideas. The government should support activity that ensures UK companies are well connected to opportunities that arise from a growth of open innovation in global companies, including the activity of UKTI and inward investment activity as well as other innovative approaches to networking.

4. The extent to which UK businesses have absorbed new business practices? 4.1 Warwick Manufacturing Group is a good example of an organisation supporting the introduction of new business processes, particularly though not exclusively within the automotive industry. 4.2 The Premium Automotive Research and Development (PARD) project, launched in 2003, is designed to improve the design and manufacturing capability of the West Midlands automotive supply base. AWM provided £38 million of direct funding, matched by contributions of staV time and resources from several hundred companies of all sizes, from the largest partner Jaguar Land Rover, through major Tier One suppliers, to numerous smaller operations. 4.3 PARD has focused on strategic areas including lightweight materials (for low emissions), simulation of manufacturing, and hybrid power trains. It has attracted £80 million of additional R&D expenditure, and has generated substantial additional annual Gross Regional Product (GRP), forecast to peak at £118 million per annum in 2010. 4.4 Similarly, the Manufacturing Advice Service, also funded by AWM, has been piloting the Product Introduction Consortium which provides a very structured approach to companies who are introducing new products and aims to embed the process thinking within those companies.

5. Why are some sectors more eVective than others at embracing value added activity? 5.1 Big shifts in increasing added value come about with a strong the focus on the customer and improving the ways of meeting the potential customer needs. An example would be creating a more service focused view of products. For example, Rolls-Royce carries a registered trademark on its “Power By The Hour” programs, which are available on several Rolls-Royce engines. These programs provide the operator with a fixed engine maintenance cost over an extended period of time. Operators are assured of an accurate cost projection and avoid the costs associated with unscheduled maintenance actions. 5.2 High added value comes also with specialist knowledge and experience that is hard to copy and so has high perceived value. For example, Forensic Pathways, a Tamworth based company whose managing director chairs the West Midlands ICT cluster group, has develops data techniques to analyse complex computer data from many sources to identify irregularities. Smartwater, a winner of the Prince of Wales Innovation award based in Telford, have developed a range of coded chemicals that can be used to label products or dose sprinkler systems to allow much easier identification of criminals and the concept is now seen as a major deterrent for crime. 5.3 Within any business sector the greatest potential to increase added value arises from identifying a potential shift in the business model or the technology employed. Sectors that have traditionally higher skilled workforces or invest heavily in R&D are more likely to be able to create higher added value. Encouraging “cross sector dialogue” across all aspects of business processes may yield interesting new opportunities. As an example, the computer games industry in the West Midlands is developing important new applications for serious games in education and training (eg health service). These are then fed back into the games themselves. 5.4 Increasing added value requires more strategic leaders and managers who invest in skills, expertise and knowledge to create highly skilled workforces with a greater propensity to add value. Strong leadership and management are necessary to create and direct the changes needed within the company to increase added value. AWM has piloted an important programme to address these competencies in SMEs. The government should continue to work with employers to raise productivity through eVective use of skills by high quality leadership and management.

6. The impact on business of government eVorts to promote R&D, eg R&D tax credit 6.1 Fiscal measures such as R&D Tax Credits can provide general incentives, but there is anecdotal evidence that larger firms are more able to gain benefit from such approaches than smaller ones. As the scheme becomes better understood by advisors to small firms, and to the firms, we can expect increased take up. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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6.2 There are also mixed anecdotal views on whether the tax credit funds are actually causing more R&D to be carried out. There are examples of larger firms where their longer term collaborative R&D is supported by the R&D tax credit. The West Midlands receives a marginally higher share of total funding from R&D tax credits than the regional share of SMEs making claims. 6.3 Nonetheless, specific schemes that reduce the financial or technical risk of investing in R&D, eg Grants for R&D, Technology Strategy Board collaborative research etc. are also eVective at directly rewarding investment in R&D. 6.4 Businesses, like individuals, behave diVerently and respond diVerently to government schemes. A limited portfolio of diVerent schemes is required that can encourage change of behaviours across a wide range of companies. The government should drive to simplify the range of schemes available for business support, recognising that a portfolio of diVerent approaches are still necessary to stimulate demand from businesses to recognise their need to innovate and change the way they do things in order to increase added value.

7. Progress on University/business cooperation since Lambert 7.1 AWM has played a strong lead role in Birmingham Science City earmarking £80 million for investment in collaborative R&D between the two largest research universities in the region (Warwick and Birmingham) in the areas of Advanced Materials, Energy and Translational Medicine to enable them to increase their research capability,to engage with global companies and work closely with regional businesses to help develop higher added value products and services. This investment has caused a significant shift in the behaviour of the two universities towards increased collaboration and HEFCE have also invested nearly £10 million from their Strategic Development Fund to support research staV working within the new collaborative framework. 7.2 The formation of the business-led Technology Strategy Board (TSB) together with the development of innovation platforms as market-led, challenge driven R&D provides strong encouragement for regional businesses to engage more strongly with our universities. And the Department of Health’s Academic Health Science Centre initiative promises to improve the interactions between researchers and deliverers of healthcare to improve care as well as increasing the economic development potential of the research activity. AWM’s investment in the translational medicine activity is part of our support for this approach. 7.3 As one of the best examples of RDAs working to improve the engagement of businesses with universities, AWM has invested heavily in developing both good knowledge transfer facilities. For example, the Serious Games Institute and the Health Design Technologies Institute, both at Coventry University, provide an increased capability to perform world class R&D. The Serious Games Institute is an applied research facility co-located with small business units and contains high specification facilities that are stimulating close interaction between university staV and businesses as well as between businesses. 7.4 AWM has also supported the development of the INDEX voucher scheme to encourage SMEs to interact with universities. This simple scheme has already assisted over 600 businesses to identify issues where they will work with Universities and over 200 vouchers have been awarded. The scheme stimulates demand from businesses, allows the business to choose the university and has already led to interest from businesses in participating in more intensive interaction with the universities. 7.5 Further examples of how AWM has invested in building the strength of our regional universities to meet business needs are included in the “Harnessing Knowledge”(Not printed here) brochure attached to this evidence. The government should support schemes that encourage business-led interaction with universities to help stimulate the application of the excellent knowledge base we have in the UK.

8. Do business and government interpret innovation too narrowly? 8.1 AWM welcomes the Innovation Nation White Paper and the recognition of the need to think broadly about innovation. The broad definition as “the successful exploitation of new ideas” is generally agreed by government and partners as a good definition but it is very hard to measure. To maintain a broad focus, adequate measures are needed to track progress. 8.2 Measuring innovation is not straightforward as it can manifest itself in many diVerent ways. Introducing a completely new product is relatively easy to track for a firm but changes to process or the customer journey can also be innovative and yet would not necessarily be classed as R&D, nor would measures be in place to capture the value generated by that innovation. The proxy of R&D expenditure is a very poor one for any definition that encompasses the wider interpretation of innovation. 8.3 The most promising measure of innovation is percentage of turnover attributed to products or service is introduced in the last three years, as used by the Community Innovation Survey but it is only survey data and still poorly defined. On this scale, in the latest survey, the West Midlands is the worst performing region at about 36% compared to London at 50% and the South East at 46%. Of course this measure will have Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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sectoral dependence as product introduction times will vary enormously. In the work to be carried out with NESTA on measurement of innovation we would recommend greater focus be placed on outcome measures of innovation like this one as they can capture service innovation as well as product innovation more easily.

9. What can the Government do to further promote higher added value business activities and innovative thinking among UK businesses? 9.1 Market drivers are the most powerful drivers for innovation and the stimulation of new or bigger markets can be a useful role the Government can play. “Innovation Nation” rightly suggests that public procurement, alongside regulation, can act as strong market drivers for innovation. However positive steps to overcome the low risk culture of procurement processes need to be taken. AWM has been developing demonstrator activity within the Birmingham Science City activity with partners. 9.2 Technology enables innovation, usually in response to an expressed customer need, and can therefore generate higher added value, so support for basic and applied research is an important role for Government. 9.3 Stimulating greater innovation in services to increase perceived value and increasing a greater service approach to the supply of products can increase added value and BERR’s activity to understand what eVective interventions can be made is to be welcomed. Conventional pre-competitive investment in R&D or technical facilities is not a relevant intervention. 9.4 The Community Innovation Survey provides data for the West Midlands, and indeed for all regions and countries in Europe, that show that primary sources of information on innovation for businesses are their customers, their competitors, their suppliers, their peer groups and trade associations. AWM is very supportive of interventions that encourage business to business collaboration to increase rate of innovation eg Innovation Networks (a project awarding a small revenue or capital grant to a small group of SMEs who collaborate to develop a new product), cluster programmes (focusing on new markets and building industry collaboration) and participation in collaborative R&D. 9.5 Knowledge Transfer Networks (KTNs), led by the Technology Strategy Board, could be a very useful way to encourage collaboration between individual businesses and between businesses and universities. The current set is a mix of sectors, technologies and products with varying degrees of leadership from businesses. 9.6 To increase the value added of the Regional economy we estimate that we need to encourage 3,000 more SMEs per year to employ people with graduate level skills and we need to upskill around 70,000 people already in work to graduate level. AWM is currently working with a professional recruitment service to encourage more SMEs to grow their businesses by employing people with graduate level skills and with a range of employers and Foundation Degree Forward to raise the skills of more people in the workforce to graduate level. The government should ensure strong industry leadership of the KTNs and the current review should consider a more consistent “market segmentation” to help businesses engage more eVectively. KTNs should be seen as part of an overall programme of activity to encourage employers to recruit more graduates and to upskills to graduate level more people in their current workforce. 9.7 AWM has a programme of cluster development which is growing regional industries “to develop markets and sectors with the most wealth and employment potential” ie attractive markets where the region has existing or potential strengths. Clusters encourage businesses to work together to achieve this. Initiatives cover market exploitation, technology transfer, and product development. Achievements to date have been numerous across a broad spectrum. They include a £300 million order book for innovative wind turbine generators, the development of assistive living housing demonstrators, and businesses working together on oVsite manufacturing of buildings (growing at over 30% per annum), on sustainable public buildings, on photonics, on technology transfer in aerospace and healthy food, and in other target markets. 9.8 Market-focused collaboration has proved to be an eVective lever for helping businesses to innovate, conduct R&D, to develop skills for competitiveness, to exploit procurement opportunities, and bring together a variety of interventions in a way that delivers increased wealth. The government should maintain a framework which enables the light touch encouragement of business collaboration. 9.9 AWM would encourage the introduction of more Innovation Platforms as proposed in Innovation Nation. AWM is playing a leading role in two existing platforms—“Assisted Living” and “Low Carbon Vehicles”. Innovation platforms oVer the potential for market driven exploration of new products and services that will pull technology from our knowledge base in the universities and from potential supplier companies. 9.10 Any action by government to catalyse such direct involvement of the SME supply chain is to be welcomed. The government should strongly support the procurement, Innovation Platform and demonstrator approach to stimulating market–led innovation and ensure that all government departments seek to create exciting opportunities for businesses and partners to participate. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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9.11 AWM is working to increase the employment of graduates within the region to upskill the workforce, particularly in the private sector. Earlier this year, (in collaboration with the LSC) we launched the West Midlands Skills Action Plan. AWM welcomes investment to raise skill levels in the workplace and is keen to see new models of delivery developed with universities and colleges so that employees can develop higher level skills whilst continuing to be employed. 9.12 The government should do more to encourage the exploitation of latent, under-exploited intellectual property that sits in public sector, medical and defence facilities. AWM has invested alongside the Intellectual Property Rights within Qinetiq on sensor technology at Malvern to create opportunities for businesses to develop new approaches to meeting their sensor needs. Both Qinetiq and AWM will earn a financial return on the IPR generated by developing new sensors. 9.13 AWM welcomes the increase of the number of Knowledge Transfer Partnerships signposted in Race to the Top and Innovation Nation and will be investing Single Pot and ERDF funding to more than double the number of KTPs in the West Midlands. Many of the best examples of collaborative working of businesses with universities come from KTPs and the national evaluation of the scheme shows significant increase in financial benefits to the participating company and often creates an employment opportunity for the Associate.

10. Impact of nationality of ownership on the location of research and development work? 10.1 R&D facilities are increasingly being located away from the parent company. Access to global quality facilities, critical skills and understanding of the UK and European markets are the major attractors for foreign investment in R&D in the UK. 10.2 or example, the skills that developed in the West Midlands automotive industry have not been completely eroded and many skilled engineers are now established in a number of suppliers and contract development and service companies, creating an independent set of expertise for other vehicle manufacturers. 10.3 n the West Midlands we have two recent examples of foreign owned companies locating at the new Ansty business park near Coventry.Ericsson is building on the heritage of skills and experience derived from Marconi/Telent companies. Tata is establishing a European R&D facility to understand the technologies it can apply in its home markets as well as understanding how best to exploit its products in the European market. Tata’s investment is above and beyond the capability it will acquire with the acquisition of the R&D and engineering skills of Jaguar Land Rover. 10.4 The “halo eVect” of significant investment by any company, regardless of nationality of ownership, can lead to other investments in the vicinity by related companies, either within the group structure or the supply chain.

11. The eVectiveness of the machinery of government arrangements in encouraging innovation and creativity? 11.1 Business focus creates the greatest stimulation to innovate and so we are supportive of the strong business lead given to the Technology Strategy Board (TSB) at its foundation and confirmed for the Regional Development Agencies in the Sub-National Review consultation document. The RDAs are currently working closely with the TSB to increase the eVectiveness of our investments by identifying and stimulating alignment of regional programmes with TSB activity where it makes sense. AWM has initially identified over £125 million of it funding over the next three years that aligns with national activity but has a regional focus. In “Race to the Top”, Lord Sainsbury proposed the agreed target of £180 million in total for all RDAs. 11.2 We welcome the focus given in Innovation Nation to the use of Public Sector procurement as a route to generate innovative new products and services. The Innovation Platforms championed by the TSB, with strong links to sponsoring departments, should be powerful mechanisms to build collaborative mechanisms that generate successful innovation and higher added value. 11.3 Birmingham Science City is a great example of a partnership for innovation that has stimulated exciting thinking about how partners can work together to raise the profile, attractiveness, capability and capacity of a region to exploit science and technology. 11.4 As proposed in the Sub-National Review consultation document, innovation should be strategically managed at the regional level as well as the national level. The investments made to stimulate innovation need to be planned to meet the needs of the regional economy. Strategic investments in technology at a particular university are unlikely to be driven by the needs of a single local authority. For SMEs and smaller “large” companies and business units, collaboration with the knowledge base is most eVective within “1–2 hours travel time”. It is important that access to those who understand strategically important technology for a region is available. The TSB is working with RDAs and Research Councils to maximise alignment of funding between national and regional investments but recognises that regional level expertise is required to increase exploitation of R&D. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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11.5 The transfer of responsibility for the management of European Regional Development Funding (ERDF) to the RDAs has allowed AWM to align the ERDF funding directly with the WMES, to enable regional partners to deliver the key objectives of the strategy. 11.6 Regional action to support innovation and hence higher added value activity is fundamentally important to focus on the needs of the regional economy but we do encourage cross border activity, notably with the East Midlands where it is driven by shared economic development needs. Specifically AWM and EMDA collaborated to support the successful Midlands bid to host the Energy Technology Institute by investing £2.5 million each, now established in Loughborough. AWM and EMDA are working closely with Rolls Royce and other University and industrial partners to develop a Manufacturing Technology Centre on the AWM site at Ansty which could lead to a joint investment of £30 million. 6 May 2008

Memorandum submitted by Alliance Against IP Theft 1. Established in 1998, the Alliance Against Intellectual Property Theft (the Alliance) is a unique coalition of 17 UK trade associations and enforcement bodies, providing a single voice for those who share an interest in preventing intellectual property theft in the UK. With a combined turnover of over £250 billion, our members include representatives of the film/TV, video, music, games and business software industries, branded manufactured goods, publishers, retailers and designers. 2. The Alliance Against IP Theft believes that intellectual property is a cornerstone of the economy. Without a proper IP framework, both in relation to policy to promote it and a legal framework to defend it, other policies designed to enhance innovation will be ineVective. 3. IP is often associated with the creative or pharmaceutical industries; however it is of equal importance to the owners of manufactured goods, designers of packaging, jewellery, software, games and fashion. IP is therefore vital to all those who are building higher value-added companies. 4. Intellectual property was recognised as being vital to the economy in the Gowers Review, published in December 2006 and in Lord Sainsbury’s more recent report into science policy A Race to the Top. The Culture, Media and Sport Committee also noted the importance of IP in its report New Media and the Creative Industries, published in May 2007. These reports clearly laid out the need for an IP framework that helped strengthen economic development. 5. While we recognise that the Committee’s terms of reference and questions in relation to its inquiry are not necessarily designed to be focused on IP policy, we believe that discussion around the development of a higher value-added economy cannot be separated from discussion of IP. We have therefore focused our response around two questions where we believe discussion of IP policy is most relevant: — What the government can do to further promote higher value-added business activities and innovative thinking among UK businesses. — The eVectiveness of machinery of government arrangements in encouraging innovation and creativity.

What the government can do to further promote higher value-added business activities and innovative thinking among UK businesses 6. As the Gowers Review pointed out, “The ideal IP system creates incentives for innovation, without unduly limiting access for consumers and follow-on innovators. It also recognised that while the IP system was overall fit for purpose, there was scope for reform”. 7. The Alliance welcomed the Gowers Review and the focus it provided for IP policy. We have also welcomed the implementation by Government of some of its recommendations. There is, however, much still to be done. 8. The current consultation on the Law on Damages, being conducted by the Ministry of Justice, is the first concrete test of the Government’s commitment to IP. The Alliance would like to see a civil damages regime that clearly acts as a deterrent to IP theft and enables business to help itself. Similarly, we are eagerly awaiting a consultation from the Department for Business, Enterprise and Regulatory Reform into the regulation of markets, including car-boot sales. The Alliance is also keen to ensure that Trading Standards are given the proper resources to enforce IP laws and for the Serious and Organised Crime Agency to become the enforcement agency it was designed to be and not just an intelligence gatherer. 9. If the Government can make changes that will enhance the IP framework, businesses will be more likely to commit greater sums of money to innovation, help themselves by defending their IP more vigorously and invest in programmes that help to build understanding about the importance of IP. Commitment across Government departments, not just those with a clear mandate to promote enterprise, would be very helpful. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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The eVectiveness of machinery of government arrangements in encouraging innovation and creativity 10. As the answer to the question above demonstrates, Government policy on IP is impacted by a broad range of departments. While we welcomed the creation of the first ever Minister for IP & Quality during the Government re-organisation, announced at the end of June, enforcement of IP rights (an important part of IP protection) is not his responsibility and it did create yet another Department to manage. 11. It is clear that those Government departments with a clear role in promoting innovation and creativity have a good understanding of the IP framework and its importance. Other departments however, who are as crucial in the delivery of the legal framework to protect IP, seem less supportive and threaten industry’s ability to continue investing in innovation and creativity. The Alliance sees its role as helping to ensure that responsibility is taken across Government to deliver a suitable IP framework, but greater co-ordination and understanding in some Government departments would be helpful. Members of the Alliance Against IP Theft Include: Anti Counterfeiting Group British Brands Group British Jewellery and Giftware Federation British Music Rights British Phonographic Industry British Video Association Business Software Alliance Cinema Exhibitors Association Copyright Licensing Agency Entertainment and Leisure Software Publishers Association Entertainment Retailers Association Federation against Software Theft Film Distributors Association Institute of Trade Mark Attorneys Newspaper Licensing Agency Publishers Licensing Society Video Standards Council October 2007

Supplementary memorandum submitted by Alliance Against IP Theft2

“WHAT THE GOVERNMENT CAN DO TO FURTHER PROMOTE HIGHER VALUE-ADDED BUSINESS ACTIVITIES AND INNOVATIVE THINKING AMONG UK BUSINESSES”

ISPs

1. Further to our submission of October 2007, and in the wake of developments in government policy on ISP co-operation to tackle illegal downloading, the AAIPT would like to provide the Committee with further evidence. 2. Government has a vital role to play in supporting the higher value-added businesses which populate the creative economy, in particular by supporting eVorts by rightsholders to combat internet piracy. Illegal downloading costs the industry hundreds of millions of pounds a year and the clear indications are that the problem is set to grow. 3. The recent policy document “Creative Britain” outlined the government’s proposal to “consult on legislation that would require internet service providers and rights holders to co-operate in taking action on file-sharing—with a view to implementing legislation by April 2009” (recommendation 15). This intervention, which builds upon recommendation 39 of the Gowers Review of IP (December 2006) provides

2 Established in 1998, the Alliance Against Intellectual Property Theft (the Alliance) is a unique coalition of 17 UK trade associations and enforcement bodies, providing a single voice for those who share an interest in preventing intellectual theft in the UK. With a combined turnover of over £250 billion, our members include representatives of the film/TV and video, music, games, business software industries, branded manufactured goods, publishers, retailers and designers. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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a welcome backdrop to the on-going discussions between rightsholders and ISPs to arrive at a voluntary solution. The AAIPT agrees with the government’s stance that negotiated settlements are preferable to legislation; we also agree that should these not be achieved, legislation will be required. 4. This supplementary submission spells out the impact of illegal downloading on IP owners; and outlines the policy steps which need to be taken by government, rightsholders and ISPs to help counter it.

The Threat 5. The single greatest challenge faced by the creators, producers and investors in British intellectual property is its theft: in other words, not being paid when their work is consumed. Whilst piracy has always been a feature of the creative industries’ markets, particularly for music and film, in the digital world it has sprung from the margins to become a dominant characteristic of sector. 6. Some commentators try to maintain that online copyright theft (be it peer-to-peer piracy, or non- network piracy) actually stimulates sales through a “discovery” eVect. Whilst there are some signs that this eVect exists it does not comes close to counterbalancing the overall negative net impact on revenues caused by the widespread availability of free content on the internet. If peer-to-peer (p2p) sharing did have a positive impact on sales, then given the huge increase in p2p users we might expect to see an increase in revenues over the past four years. Of course, the reverse has been the case with revenues in the recorded music industry, for example, falling 23% between 2003 and 20073. 7. The impact on business activity and innovation is clear. Without revenues from sales, creators are denied funds for investment. The ability to make a living as a writer, singer, producer, director or label manager is directly linked to being paid to do it. Declining revenues mean declining incentives. Creators will always create; but getting their creations to market so that they can make a living from their IP requires a wider commercial network. Creative industry companies are risk-taking entities and predicting which of their artists and products will thrive in the market is notoriously diYcult. As returns from investment are reduced so the ability to invest in the riskier projects will decline. The requirement for investments to show immediate return is heightened and the market becomes less supportive of those which who may take time to develop commercially.

What Can (and Should) Be Done 8. Tackling copyright theft on the internet requires the consistent and equal application of eVort in three parallel areas: education, enterprise and enforcement. Neither works in isolation, none can be ignored. 9. Education. A certain proportion of copyright theft occurs because of a lack of appreciation, both of what the law is and of what copyright is for. Consumers are not always aware that it is against the law to copy music or films, or to access p2p sites. A common refrain from focus group research is “I thought that “they” would have stopped me if it was illegal”. The current government consultation on changes to copyright law to allow format-shifting has highlighted the widespread gap in knowledge that currently the practice is illegal. 10. Similarly,consumers do not appreciate how important it is to respect copyright. For whatever reasons the perception persists that artists, performers, writers and musicians are all extremely comfortably oV, and do not need the marginal revenue of the individual consumer in order to be fairly rewarded. Such “free rider” notions are intolerable in any sector, but all the more so in one where there is a genuine need to support thousands of ordinary working creative people whose average incomes are levels of magnitude less than those earned by the tiny minority of highly successful artists. 11. Enterprise. The need for new business models to capture the value in the digital marketplace is clearly recognised by all in the creative sector. Contrary to some popular perceptions, there has been an astonishing growth of alternative commercial paths to the traditional high street retail approach. In music alone, which has been at the forefront of the digital creative economy,the development of iTunes (a licensed retail service), Napster (a subscription based service) Last.FM (an internet radio service), “Comes with Music” (a mobile phone based service) and We7 (an advertising supported model) to name a few, demonstrates that every eVort is being made to develop innovative products for the digital consumer. Unquestionably,further models will be developed, and some of those in trial will be found to be more successful than others. The pace of development is high—there are more than 500 digital music services in Europe—and the appetite for finding a way of capturing the value of music is strong. 12. Enforcement. Developing future business models is a hard enough challenge at the best of times but is made all the more diYcult when the marketplace suVers from a huge leakage of value. The continued and growing existing of internet piracy (either through peer-to-peer networks or web piracy sites) means it is extremely diYcult for rightsholders to gauge the true value of their works. The hundreds of millions of pounds worth of value which annually leaves the legitimate digital economy due to theft not only represents

3 BPI Statistical Handbooks 2004–07. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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a loss of demand for legal services but also depresses the overall market price for content: competing with free is an extremely tough business proposition. Hence, enforcement is a critical component of business strategy for the creative industries on the internet. 13. The practical challenges of enforcement cannot be tackled by the industry alone. It requires government to set the framework, taking action against criminal infringement, and supporting the eVorts of rightsholders through adequate resourcing of trading standards oYcers, creating a dedicated team at the UK Intellectual Property OYce to tackle online copyright theft and a robust legal framework including a robust damages regime. All of these things are in place, but need strengthening. 14. More importantly it requires other players in the digital economy to play their part. Internet Service Providers, who control the pathways between rightsholders and individual customers, have a vital role to play. For some time rightsholders, including the BPI and the Motion Pictures Association of America have attempted to arrive at a voluntary agreement with ISPs by which we co-operate on tackling illegal downloading. The details of our proposals are straightforward: where rightsholders identify internet accounts being used to upload or download copyright infringing material we ask that ISPs use their ability to identify the individual and write to them advising them of the oVence. If the account continues to be mis- used beyond that—and in continued breach of the terms and conditions of the ISP—then the account should be suspended, and beyond that again, terminated. Rightsholders invest huge sums of money in creating works; and a further large sum in tracking and indentifying copyright infringement. ISPs, we maintain, need to play their part in helping tackle piracy in the “last mile” of the network over which they, and they alone, have the ability to identify and communicate with individuals.

Conclusion 15. For the creative industries to thrive and to continue to contribute to the higher value added economy it is critical that the threat posed by illegal downloading is tackled eVectively. This requires government, rightsholders and ISPs to act in concert to improve education about copyright, to step-up enforcement measures and to create the conditions for enterprise and new business models to develop. 18 March 2008

Further supplementary memorandum submitted by Alliance Against IP Theft4

Regulation of Occasional Sales &Markets 1. Further to our submission of October 2007, the AAIPT has been asked to provide the Committee with further evidence of the harm caused to UK business by the sale of counterfeit goods both in local licensed markets and at unregulated occasional sales. 2. This supplementary submission also demonstrates the extent to which consumers are at risk from fake goods. This important aspect of the threat posed by counterfeits also has an impact on legitimate business, as it aVects consumer confidence in genuine products. 3. UK business is thus discouraged from promoting higher value-added business activity by the increasing threat of IP crime, where their products are counterfeited by the million, and sold nationwide in local markets and car boot sales. 4. In December 2006 the Government accepted recommendation 40 of the Gowers Review which stated that Government should consult on measures to tighten regulation of occasional sales and markets by the end of 2007. To date there has been no progress on this commitment. This lack of action is doing real damage to legitimate business and helping to line the pockets of serious organised criminals, so there is a need for urgent action.

The Threat 5. Markets, particularly occasional sales, non-chartered markets and car boot sales, are not uniformly regulated and therefore oVer easy opportunities to those who trade illegally. Our concern is with the trade in fake goods of all kinds. Markets are increasingly being infiltrated by racketeers and criminal gangs for whom intellectual property (IP) crime is just one in a portfolio of illegal activities that makes up a criminal lifestyle. At present trade in counterfeit goods represents a high return and very low risk and occasional markets are the venue of choice.

4 Established in 1998, the Alliance Against Intellectual Property Theft (the Alliance) is a unique coalition of 17 UK trade associations and enforcement bodies, providing a single voice for those who share an interest in preventing intellectual theft in the UK. With a combined turnover of over £250 billion, our members include representatives of the film/TV and video, music, games, business software industries, branded manufactured goods, publishers, retailers and designers. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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6. This unregulated “marketplace” exposes consumers to the risk of real harm they would not encounter in other spheres. Specific examples of the dangers of fake goods include flammable children’s clothing, fake DETTOL antibacterial cleaner, fake Nokia car phone chargers which melted when used, counterfeit perfume, alcohol and cigarettes containing some very nasty substances, fake appliance batteries which have exploded under testing conditions, fake electric drills, fake medicines and even toothpaste that proved poisonous, and fake disposable razors that have caused extensive skin damage. 7. The link between the trade in counterfeit goods and other serious organised crime such as people traYcking, child pornography and the drugs trade is becoming increasingly clear. The harm caused by IP crime has been recognised by crime prevention and enforcement bodies such as the Serious Organised Crime Agency who are taking this issue increasingly seriously.SOCA now lists counterfeiting as one of its priorities, and for the first time last year the National Community Safety Plan lists IP crime as an area for police action. 8. This multi-billion pound trade hits UK industry at all levels—from large corporations through to local traders. The collapse of Apollo Video Film hire, with the loss of over 100 outlets, was partly attributed to video piracy. The impact of this closure was felt not just in economic terms but also through the damage it has done to the vitality of high streets across the country. The TECHNOPOLIS Study5, quoted in the IP Crime Report 2007 demonstrates that 23% of Small and Medium Sized Enterprises have had their business significantly aVected by IP crime. Since the Government has acknowledged the need for regulation it is perverse that lack of action by DBERR is adding to the burden faced by nearly a quarter of the UK’s most vulnerable businesses. 9. At the other end of the spectrum, last year’s OECD study6 on counterfeiting suggests that the international cross-border trade in fakes amounted to US$200 billion in 2005—and that does not include the internet, digital piracy or domestically produced counterfeits. This is more than the GDP of 150 countries, and a staggering 2% of all trade in terms of goods, imports and exports. 10. Recent research proves that occasional sales are a major source of counterfeit goods: — An independent survey by Ledbury Research in January 2007 shows that markets and car boot sales remain the most prevalent source of counterfeit clothing and footwear, with two-thirds of respondents who purchase such goods doing so from market stalls. — Further research by the audio-visual industry conducted by IPSOS shows that 33% of buyers of pirated DVDs purchase them at car boots sales and markets. — Similar research by IPSOS for the music industry shows that 29% of pirated CDs bought come from car boot sales or markets. Criminals have made up to £378 million from DVD & CD piracy. Ledbury’s research also shows that fake clothing and footwear alone cost local shops, traders and manufacturers nearly £3.5 billion each year in lost UK sales.

What should be done The first crucial step is that the government honours its pledge to consult over tighter regulation of occasional sales. This was due to happen by the end of 2007 and DBERR have provided no meaningful explanation for the delay. 11. The AAIPT and Trading Standards Institute are united in pressing for commonsense light touch regulation of such markets in order to stop them being used for criminal activities. This would protect consumers from innocently exposing themselves to the threats posed by fake goods, and prevent local businesses from having to compete unfairly against illegal traders, who undermine local communities and defraud the Exchequer by not paying taxes including VAT. 12. The AAIPT’s proposed solution would see legislation to impose civil and criminal liabilities on market organisers who knowingly allow the sale of counterfeit or pirated goods on their land, for example from market stalls or car boot sales. 13. The legislation would include elements of the Kent Act, which requires organisers of occasional sales to notify the relevant local authority 21 days in advance; it also places an obligation on the organiser to gather, on the day, names, address and vehicle licence details of all dealers at the sale. In addition, we recommend pressing for an obligation for organisers also to note the type of goods and services being sold. 14. The Alliance has growing evidence of youth exploitation with illegal traders using children to sell fake products in order to escape prosecution. The Bill would therefore require an adult to be responsible for renting stall and to remain within the precincts of the sale while trading was taking place. 15. Any measures put in place would require a corresponding ability and obligation for trading standards to prosecute organisers of sales should they continue to allow known counterfeiters and pirates to trade on their sites. There are already several precedents for holding them liable—aiding and abetting, and money- laundering (in the full knowledge that the profits are from illegal sales of fakes) have both been established

5 TECHNOPOLIS Study: “EVects of counterfeiting on EU SMEs and a review of various public and private IPR enforcement initiatives and resources.” 6 OECD: The Economic Impact of Counterfeiting and Piracy—Executive Summary June 2007 Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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as a basis for prosecution in recent years.7 It would therefore be diYcult to argue against, providing the measure allowed for the owners and organisers first to be given adequate warning through an enforcement notice that illegal sales or activities are taking place at the occasional sale.

Conclusion 16. It is essential to the promotion of higher value added business activities and innovative thinking to prevent exploitation of such innovation by serious organised criminals. Government must not turn a blind eye to a major “drain” on the UK industry’s creativity, namely unregulated markets. If business is to invest in innovation it has to be confident that its investment will not be in “vain”. Government has accepted the need to consult with a view to introducing tighter regulation of occasional markets but has failed to act. As a first step it is essential that government now progresses the consultation which has already been promised. 18 March 2008

Memorandum submitted by British Brands Group This Briefing builds on the Brand Briefing of 8 December 2008 that outlined the key findings of a Westminster Business School study on the economic contribution of branding to the UK. This study found that some one million people are employed in the creation and management of brands and some £15.85 billion of investment in the UK economy, but that this value is not being captured in the statistics. Here we develop some of the policy implications arising from this work.

Responsbility for Branding within Government Despite the large number of people employed in the creation and management of brands and the significant investment that is made in the national economy by branding, there is no Government leadership of ownership to ensure that policies aVecting brands are co-ordinated or indeed that its potential contribution to economic recovery is being recognised. This does not mean that Government is inactive. A number of departments play a crucial role in providing a conducive environment for branding in the UK: BERR Business Link, in its practical advice to business, outlines the importance of brand and image to firm’s success; The Consumer Law Review (2008) outlines the importance of branding as a means of consumer protection. DIUS The Intellectual Property OYce administraters, promotes and supports the enforcement of IP rights which make possible investment in branding; The Design Council aims to build the UK’s capacity to innovate and deliver world- class brands through eVective us of design. DCMS The creative industries are integral to the building of successful brands. IA Centre Supported by Scottish Government, the Centre helps businesses derive value from their intellectual assets, including brands. Furthermore, the Home OYce, Trading Standards, Customs, Police and the judiciary all play a crucial role in enforcing the IP rights that underpins brands. The absence of Government focus and co-ordination on branding means there is no coherent policy on creating the optimum climate for brand building in the UK or on deriving the greatest benefit to the UK economy. This is a missed opportunity and may result in branding being overlooked as a contributor to the economic recovery of the UK and a future drive of wealth.

The Current Environment for Brands in the UK Building successful brands involves companies making significant long-term investment in activities that build strong reputations with “consumers”, whether these are citizens or business clients. The value created by such investment presents a target for those that seek unlawfully and illicitly to exploit those reputations for their own gain, misleading consumers, damaging legitimate business through increased costs and reduced revenues, and damaging incentives to invest.

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Counterfeits

In the last 10 years, counterfeiting has grown into a global problem and aVects a wide range of everyday as well as premium products.

Legislation The UK legislative framework is robust, butr changes to benefit the environment for brands are need in two areas: — the better regulation of markets and car boot sales; and — a stronger damages regime applying to wilful infringements on a commercial scale.

Enforcement Resources. More resources are required at national and local level. Local government is not giving anti- counterfeiting suYcient priority and therefore funding. At national level, better use of the Proceeds of Crime Act (POCA) would fund TSS and the police more eVectively. Information. Permission should be given in law to use certain information disclosed by Customs to rights holders when seizing suspect goods at borders, so rights holders may take legitimate action on their own account. The internet. A code of practice agreed between all stakeholders is required to combat criminality on the internet. Counterfeit products for example are flooding cyberspace. Also, the law relating to the liability for counterfeits of trading platforms which are not classed as ISP (eg eBay) requires clarification. Education for the judiciary. A module on IP crime and POCA in training courses for judges would help address current levels of misunderstanding and ignorance relating to the law, deterrent sentencing and the confiscation of assets.

Misappropriation

The Gowers Review of the UK’s IP framework highlighted the shortcomings of the law of passing oV (paras 5.84–5.85), concluding that brands in the UK are not well protected from misappropriation. A specific example concerns the copying by competitors of the packaging deisngs of familiar brands. These designs are suYciently close to mislead consumers but without infringing IP rights. The Gowers Review recommended the EU’s Directive on Unfair Commercial Practices be given time to work. This is consumer protection legislation. However, the UK Government chose not to give enforcement rights to companies, confining such rights to organisations such as the OFT and Trading Standards which are already overstretched and underesourced. Without eVective enforcement, branded products remain open to misappropriation. To build in the UK an environment conducive to investment in brand reputations, a new legal provision is required that is focused on both consumer and brand protection to make it unlawful for one company to use packaging design or labelling to trade oV the reputation of another company. Such a provision was included in the Copyright and Trade Marks Bill 2000,8 a Private Member’s Bill introduced in the House of Lords and withdrawn at Second Reading. December 2008

Memorandum submitted by the British Chambers of Commerce (BCC) 1.1 The British Chambers of Commerce (BCC) welcomes the chance to respond to the Business and Enterprise Committee’s request for comments on the impact of the credit crunch on UK business and enterprise. The BCC is the national voice of local business; a national network of quality-accredited Chambers of Commerce, uniquely positioned at the heart of every business community in the UK. The BCC represents over 100,000 businesses of all sizes across all sectors of the economy that together employ over 5 million people.

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Summary 2.1 The BCC’s quarterly survey of over 5,000 businesses in the UK showed a marked deterioration in the prospects for the UK economy between Q2 and Q3 2008. Measures of investment, business confidence and cashflow, to name but a few, showed alarming declines in the survey. This, in addition to the diYculties businesses are having accessing finance, shows how small businesses are suVering in the current economic climate. A long-term strategy to help small businesses is required.

British Chambers of Commerce Response

How recent events in the world economy will impact on the UK’s business and enterprise, including business innovation, trade and investment in new technologies and processes? 3.1 The BCC Quarterly Economic Survey (QES) for the 3rd quarter of 2008 covered almost 5,100 businesses, employing over 446,000 people. The results of the survey were alarming and indicated that the UK economy is in recession. 3.2 The majority of indicators in the QES are balance figures. A negative balance figure represents more businesses reporting a decrease than those reporting increases, and vice versa for a positive balance. The key figures from the Q3 QES are:9 — The manufacturing sector’s export performance weakened sharply in Q3. The export sales balance dropped 25 points to !3%, the weakest since Q3 2003. The export orders balance fell dramatically by 26 points to -4%, the lowest since Q4 2001. — The service sector’s export balances improved slightly in Q3. The export sales balance rose 4 points to !13%. The balance for export orders rose 3 points to !9%. Both service sector export balances remained low by historical standards. — The Q3 balance of manufacturing firms planning to increase investment in plant & machinery dropped 6 points to -4%, the lowest since Q4 2001. Intentions to invest in training fell 3 points to !8%, the lowest since Q3 2003. — In services, the number of firms planning to increase investment in plant & machinery fell 7 points to -2%, the lowest since Q3 1992. Intentions to invest in training dropped 10 points to !4%, a record low since Q2 1997. — All the Q3 confidence balances, for both manufacturing and services, were at record lows since Q1 1989, the earliest period for which figures are available. — Both cashflow balances were very weak in Q3, and both remain in negative territory: manufacturing rose 4 points to -11%; services fell 4 points, to -14%, a record low since Q1 1992, the earliest period for which figures are available. 3.3 Recent representations from businesses to Chambers across the UK have reported serious concerns about the availability of credit and the tightening of credit conditions. Anecdotal evidence includes the rejection of finance for investment projects to businesses that are financially sound and the increasing costs of overdraft facilities. 3.4 While the BCC is encouraged to see that parties across the political spectrum are focusing on how help can be directed to the real economy, there needs to be a clear long-term strategy for the ideas that are currently being put forward. Small businesses are an integral part of our economy and we need to support them. Cashflow and confidence are the two key issues for businesses during a downturn, so a set of lasting policies that reflect these is essential. 3.5 Our data is suggesting further recessionary pressures in the economy,such as the recent labour market figures (published 15 October 2008). In view of the deteriorating situation, the Monetary Policy Committee must now seriously consider a half per cent cut in interest rates at its November meeting and it is also critically important for the Government to announce cuts in business taxation. October 2008

Memorandum submitted by the British Printing Industries Federation (BPIF)

The British Printing Industry 1. The British printing industry—as part of the printing and publishing, pulp, paper and paper products—is part of the fourth largest manufacturing industry in the UK with a turnover of £44.1 billion. 2. The printing industry has a turnover of £15.1 billion and employs approximately 160,000 employees in around 12,000 companies across the UK.

9 BCC, Quarterly Economic Survey, 07/10/08. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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A leading Gross Value Added sector 3. The printing industry is a vital manufacturing sector, which is of strategic importance to the UK economy. As an integral part of the print and publishing, pulp and paper industry, it has the second largest Gross Value Added (£18.6 billion) of all the UK manufacturing sectors. It has harnessed technological innovation to make an increasingly positive contribution to the UK balance of trade, and it supplies every sector of the UK economy.

An SME industry 4. Only 60 of the 12,000 printing companies in the UK employ over 250 people. In these small companies, management time is at a premium, with individual managers thin on the ground and having a multitude of roles to perform. In many cases this will include production tasks, undertaken alongside employees, alongside their responsibilities to ensure compliance with employment and health and safety legislation, as well as meeting international standards such as ISO 9001 and ISO 14001.

The BPIF: representing the industry 5. The British Printing Industries Federation is the trade association for the UK printing industry. It has 1,915 member companies with 77,000 employees, covering approximately 45-55% of the industry by turnover. 6. BPIF has developed a range of business services critical to developing and growing healthy,sustainable businesses. Through a team of around 50 advisors and consultants, all industry experts, the BPIF is able to provide high quality, bespoke advice and support to printing companies, where, when and how they need it. We oVer a full range of business support, advice and development services and short courses essential to developing businesses and making a real diVerence to the profitability of companies. These include: Health, Safety & Environment Technical Business Development Human Resources Management Legal Support Improvement projects Lean Manufacturing Production training and management development Management Accounting and financial restructuring

What is meant by a high value-added economy? Which business activities qualify as such? The printing industry is “everything you’ve ever read”. The printed word is such a vital component to our society, to our culture, but most crucially, to our economy. Printed goods support every element of business, from packaging to media, from advertising to signage. It is an essential part of trading and one that has added billions of pounds to the UK economy since printing came to Britain in the late 15th century. Today’s printing industry has moved beyond “ink on paper” to total print solutions, with a strong focus on helping companies increase sales volume and reach new markets. Seen from the point of view of the customers, printing is essentially a service industry, facing increasing demands from customers for innovation in the development of products and services that create new value and benefits for them. While the optimisation of eYciency in the use of complex technologies is still a prerequisite for a successful and entrepreneurial printing company, this is still insuYcient in itself to aVord any company with long-term viability. It is also essential to create additional customer value, and to do so in an environment where specialized equipment (for example, electronic image processing systems) is relatively inexpensive and routinely installed in the premises of customers themselves, and where technical know-how is increasingly being incorporated into intelligent software that is readily available to customers. Printing companies increasingly add value to their customers by providing a wide range of services all of which enhance the ability of those customers to market their products to reach their own end-customers more eVectively, These services include: — Help in developing and bringing to market innovative products and print solutions that will enable customers to access new markets. — Assisting companies to develop eVective sales and marketing strategies. — Help with image and brand enhancement and the development of eVective communications and public relations. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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— Advice on how to improve understanding of customers’ markets and pre-empt customer requirements. — Advice on assistance with information and facilities management services for customers. — Advice on developing service agreements and strategic partnerships with customers based on a shared knowledge base and agreed performance, quality and delivery targets. — Support in developing the customer base through the assessment of customer value, eVective retention of key clients and the use of management information systems to improve communications with customers. — Advice on the use of e-commerce for marketing, procurement and payment. — Assisting companies to improve use of digital workflows. — Support in implementing on-demand production and the use of variable data to produce personalised print. — Assisting companies to become multi media information providers, including digital asset management, website design and hosting, CD Rom production and print management. The future success of the printing industry thus revolves around far more than how well it manages the process of putting ink in paper. In addition to the optimisation of productivity and manufacturing performance, the industry must address the challenge of product innovation and the provision of integrated solutions to customer needs. Government needs to recognise the versatility of the modern printing industry and support this trend in widening the scope for innovation across the UK. The success of the printing industry in rising to the challenge of customer needs should be documented, supported, transferred and taught by Government across the regions. UK competitiveness depends on this approach.

How UK business compares internationally in areas such as research and development, creativity and design Print is a quintessential part of Britain’s much talked about ‘creative economy’. The UK’s leading brands are dependent on the highest standards of design and print to achieve high impact with end customers. Creative works such as books, magazines, advertising copy, newspapers etc all reach the mass population by virtue of the print process. The UK’s world-renowned cultural economy is also highly dependent on print. The designers and image- makers who design the brochures, programmes and catalogues for high value artistic goods depend on the medium of print to display their works. The Department for Culture, Media and Sport recognises the importance of fostering creativity in the UK. DCMS’ mission statement is to “increase the productivity of the creative industries, raise their profile, and support their development so that the UK can become the world’s creative hub”. Print is a vital part of this of this process. Our examples show just how crucial print is to the UK’s leading creative industries.

What can be learnt from the experiences of other countries in this area and how fast other countries are moving up the value chain? The European Union’s statistics oYce, Eurostat can reveal the diVerences between the UK and other EU countries and the figures are promising. The UK has the second largest printing industry in Europe, just behind Germany. GVA per employee is the highest of Europe’s Top five (Germany, Italy, France and Spain) The chart below shows that 90–100% of company turnover in each of the other major European printing economies came directly from printing. In the UK 30% of company turnover came from activities other than printing, evidence that UK companies have indeed moved away from the manufacturing role of printing on paper and added aligned services as a means of adding value to their business and for their clients. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Printing Industry - principal activity % of turnover

100 90 80 70 60 50 40 30 20 10 0

Italy UK Spain Norway Austria France Finland Ireland Denmark Portugal Germany Netherlands Source: Eurostat, share of principal activity in turnover (degree of specialisation)

Government needs to hone in on the positive lessons that can be learnt from print and to disseminate these across trade and industry as a whole. Not only is the UK printing industry top of its game in Europe, but also in terms of Gross Value Added, it is leading the European pack by a considerable margin.

The extent to which UK business has absorbed new business practices such as lean manufacturing?

Vision in Print—the Print and Packaging industry Forum—is a subsidiary company of the BPIF providing industry specific and cost eVective service to help printers and packaging manufacturers to proactively improve their productivity and competitiveness. It achieves this goal with industry support and through a close relationship with the BPIF, suppliers and purchasers of print services. The company was founded in April 2003 as a direct result of the then DTI funded Print 21 industry competitiveness study, published by the BPIF. This highlighted a number of strategic actions needed to keep the UK printing industry competitive against overseas production and alternative media. Vision in Print focuses on one of the two main recommendations of the Print 21 report—that companies must optimise productivity for long term security and growth. To achieve this goal, Vision in Print employs process engineering specialists who work with companies to implement continuous improvement and lean manufacturing techniques, established in world class manufacturing industries. With print and packaging based knowledge and a close working relationship with industry partners, it has developed a broad range of cost saving programmes to help drive the eYciency of the UK printing and packaging industries. Vision in Print’s “best practice” and “lean manufacturing” techniques deliver enhanced performance and cost savings to UK print and packaging companies and their customers and suppliers. From an initial diagnostic, to a host of cost-eVective, industry-relevant programmes, Vision in Print engineers are able to coach businesses to improved productivity and profit. With simple-to-use tools, ViP’s “hands-on” approach has inspired companies of all types and sizes— Newspapers, Commercial, Packaging and Magazines & Books—to progress quickly to sustainable process and bottom-line improvements. The knowledge and experience ViP has gained working with its clients in the five years since it’s inception have been diseminated to the wider printing industry through a series of best practice studies: In the past four years Vision in Print has delivered: — 245 Diagnostics — 200 Improvement Programmes — 1,200 Delegates on Programmes — 10,800 Training Days Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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— £6.1m Added Value Benefit formally recorded (£127,000 average per programme reported) — Six Best Practice Reports published — 10 Process Improvement Engineers trained and developed 13 Standard Products developed More information can be found at www.visioninprint.co.uk

Why some sectors of the UK economy appear to be more eVective at embracing value-added activities than others Where there are people, there is print. Print enables all parts of the economy—schools, financial services, retail, distribution, travel and tourism and the manufacturing industry. Because the printing industry interacts with so many diVerent sectors, it is tuned into the needs and the changing environment of the business world. In fact, print is leading the way. This familiarity with the supply chain, marketing and the end product gives print a unique insight into the added value economy.Printing companies can see first hand “what the customer is after” and that way, move in harmony with the times. This is a constant learning process and one that is continuously adding value to service. This changing landscape of business is no more evident than in the book printing sector. Companies that historically simply printed books, now oVer a number of services to compete against low-cost producing countries such as China. Ten years ago, where UK companies would simply print, bind and deliver a book; they now print, bind, laminate, mail, deliver and give a digital option as well as a litho one. Further relationship building services include storage, distribution and warehousing, especially attractive with smaller customers. Below we can see from an ONS chart that UK printing adds more value than all other manufacturing sectors, and publishing GVA as % of total turnover 50 45 40 35 30 25 20 15 10 5 0 s

Publishing Manufacturing Whole economy

Food, tobaacco, drinkTransport equipment Wood & wood products Printing & related services Rubber & plastic product Textiles and textile products Electrical & optical equipment Source: ONS, Annual Business Inquiry - June 2007 Pulp, paper, printing, publishing

The Printing industry with its related services leads the way. It had the highest turnover of GVA across industry. This approach is sustainable and competition-savvy and BERR should learn from and spread this knowledge as widely as possible. The impact on business of government eVorts to promote research and development, including the research and development tax credit. Since the introduction of R&D tax credits in April 2000, small and medium sized entities and April 2002 for large entities, companies have been able to benefit from enhanced relief for expenditure incurred on qualifying R&D. Additional relief of 50% is available to small and medium sized entities and 25% for large entities. Small and medium sized entities are able to benefit from a tax repayment if they are loss making giving an immediate cash benefit equal to 24% of the actual qualifying R&D spend. Large entities on the other hand cannot benefit from the tax repayment, however the enhanced relief available equates to 7.5% of the actual R&D spend. These savings would clearly be considered when reviewing the cost/benefit analysis of an R&D project. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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The availability of R&D allowances/credits to businesses is however restricted due to the degree of innovation required in order for the expenditure to qualify under the R&D scheme. Government needs to hone its interpretation of R&D to more sector specific benefits that would help industry. R&D is about product innovation and about crossing new boundaries in industry. This principle is essential to the UK’s future prosperity and the more industry is encouraged and attracted to this line of thought, the more prosperous our future

The progress that has been made on university/business co-operation and knowledge transfer since the publication of the Lambert Review in December 2003 One of the major sustainability issues that the UK printing industry faces is attracting fresh talent to an industry that has a declining workforce. Young people no longer look to the printing industry as an attractive career. It is often viewed (and portrayed as such by those who know little about the sector) as an old fashioned industrial trade. Consequently many do not see printing as a “sexy” or interesting career. However, the print industry needs to encourage young people to consider working for the UK’s fifth largest manufacturing industry if it is to survive and attract the brightest minds. PrintIT! is a major initiative to encourage young people to embark on careers in the UK printing industry, which was launched three years ago. Led by Proskills (the sector skills council for process manufacturing, including print). PrintIT! is a joint venture between the printing industry, the Specialist Schools and Academies Trust and leading charity The Fairtrade Foundation. It is targeted at Year 10 students studying GCSE Graphic Products and Product Design. 600 schools and nearly 38,000 students have taken part in PrintIT! so far, thanks to everyone that has helped make the project such a great success. More information can be found at www.printit.org.uk The ongoing and crucial area for manufacturing industry as a whole is skills and training. The future of industry depends on getting a grip of the issue of skills gaps and shortages. DBERR business support programmes should be working closely with the DfES to mould a competitive and steady future. There should also be more coordination of activities with schools and universities to promote vocational training programmes and the value and excitement of a career in manufacturing. The falling numbers of school leavers taking up careers in traditional manufacturing industries is something Government needs to address. Just as funding for science, maths and technology based subjects receive funding and media attention, manufacturing industries also need their share of the pie. The public needs to be informed about the opportunities that are available for them out there and this task is a national one that Government needs to take a lead on.

Whether business and government interpret innovation too narrowly The BPIF welcomes Competition Minister Stephen Timms’ recent announcement to reduce the number of business support schemes from 3000 to 100. Innovation needs to be fostered with Government support, especially if we are to promote an entrepreneurial spirit. This support from Government needs to be clearly defined, easy to follow and attractive to both small and large business owners. The Department of Business, Enterprise and regulatory Reform defines innovation as “the successful exploitation of new ideas”. As shown above, print is not only one of the most adept industries in the UK at added value services, but also in Europe. We are successful at exploiting new ideas. Printing fits with and works towards the Government’s interpretation of innovation. The printing industry is a shining example of innovation. Government needs to recognise where the success stories are and foster these with a growing interest. New ideas can be transferred and disseminated from sector to sector, industry to industry, but there is a need to begin with the most promising examples of innovation to start this process for singling out innovation. The printing industry is a fantastic place to start.

What the government can do to further promote higher value-added business activities and innovative thinking among UK businesses The approach from Government should be one of ‘targeted’ support for UK manufacturing. When channelled through existing networks, investment in manufacturing companies reaps rewards for individuals and UK plc. This is the link in the chain to better value added activity. Yorkshire Forward’s funding of Print Yorkshire (see www.printyorkshire.com) has allowed printers in Yorkshire to access support for training, environmental improvement, business improvement and marketing the industry to buyers. A business improvement support initiative, Print London, funded by the London Development Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Agency, is now under way and will bring similar benefits to the London printing industry. Vision in Print’s growing success is a clear indication of how a relatively small investment targeted at a specific industrial sector has reaped substantial benefits. The Government should encourage the idea of partnership in every section of economic life. Campaigns should promote the collaboration of businesses with showcase examples. This will encourage SMEs to interact with one another and to find new ways of creating business. Print Sells (www.printsells.org) is a pan-European advertising campaign promoting the use of paper as an extremely eVective marketing tool. Intergraf, the European confederation of paper and allied industries, supports it. The BPIF and other Intergraf member federations will be promoting it in their respective countries. Initiatives that not only help an industry, but the wider economy through added value, need the support of Government. Funding decision makers need to focus on where it matters most, and the sustainability of manufacturing industries through targeted campaigns and on global competitiveness grounds, are paramount to ensuring a thriving and forward looking UK economy.

The eVectiveness of machinery of government arrangements in encouraging innovation and creativity In an over capacity industry, the printing industry is eager for business to concentrate on competitiveness, which we feel is a vital component of modern business strategy. ‘Added value’ is the area that should be addressed by DBERR as a leading advisor and supplier of business support. Government needs to better communicate via Business Link activities. Each oYce under the Business Link brand should be briefed on a common protocol: namely, to provide service only up and until the point at which better service could be provided elsewhere. The BPIF’s network of specialist business advisors is vital to ensuring ongoing best practice within the printing industry. Industry knowledge and experience, combined with business support skills, is a tried and tested formula for business improvement that sector trade organisations are uniquely placed to oVer. In order to avoid duplication and due to the technical and bespoke nature of the printing industry, this is a service we would be best placed to oVer and one which Government should be seeking to support rather than replicate. The spending of public money should be done with maximum eYciency and where expertise already exists in the fields of manufacturing, technology, agriculture etc., Business Links should refer clients forward. Government needs to enable sector specific advice to be given by those who are most able to provide it. In the case of the printing industry, the BPIF and Vision in Print are the most qualified and experienced business support organisations in the sector. Business Links throughout the UK need to be aware of this not only in relation to printing, but also for the hundreds of other sectoral specialist business support organisations that are best placed to give in-depth advice to firms in their specific sectors.

APPENDIX (not printed here)

Memorandum submitted by the British Recorded Music Industry (BPI) 1. The BPI is the voice of the British recorded music industry. Its members include over 350 independent record companies and the four majors (EMI, SonyBMG, Warners and Universal). The BPI conducts anti- piracy, litigation, political communications and media relations on behalf of its members. 2. The BPI is a member of the Alliance Against IP Theft and fully endorses its submission to the Committee on this inquiry. 3. We wish to provide the Committee with evidence on two areas of focus: how UK business compares internationally, and what government can do to promote higher value-added business activities.

How UK Business Compares Internationally In Areas Such As Research And Development, Creativity And Design 4. The British record industry has for many decades been an example of a world-beating British creative sector. This historic international success continues in the present day, as the following statistics from our own 2006 research demonstrate:

UK music dominant at home — In 2006, 62% of the sales of the 100 best selling albums in the UK were by British artists. This is the highest percentage that British artists have claimed since the highs of Britpop in 1997. — Seven of 2006’s top ten best selling albums were by UK artists. — In the last week of January 2007, UK acts populated the entire top 10 of the album charts for the first time since the chart began in 1956. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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UK talent helps oVset global decline — Over a period from 2000–04 when the worldwide recorded music market declined by 15.4%, the UK’s domestic market grew by 3.4% in value terms. — More artist albums were sold in 2005 in the UK (126.2 million) than ever before. — With a fourth consecutive year of sales in excess of 150 million, the UK albums market is 45% larger than it was in 1997.

UK music fans buy more CDs than anyone else in the world — UK music fans buy more music than any other country: 3.2 CDs per person each year. — The next highest figures are Norway (2.14); Japan (1.57) and USA (2.07).

The British record industry is the second largest in the world — As a source of repertoire the UK music industry is the second largest in the world after the US. — After the US and Japan, the UK’s domestic market is the third largest in the world.

British acts compete successfully on the international stage — By November 2006 The Kooks, Sugababes and Katie Melua were amongst the acts who had picked up 19 of the 36 IFPI Platinum Awards (awarded for sales over one million). — In 2006, almost one in five (18.2%) albums sold in Germany in were by UK artists; for France the figure was one in ten; in the US it was one in 12. — This trend is set to continue in 2007 with artists such as Amy Winehouse, James Blunt and Katie Melua.

Britain has the largest digital music market in Europe — The UK’s digital music business was worth $69 million in 2005, according to international association the IFPI. It is bigger than Germany ($39 million) and France ($28 million) combined. 5. Describing this success is an easier task than explaining it, but we can suggest some of the possible factors behind it. — Success breeds success: the strength of the record industry in the 1950s and 60s laid a bedrock of expertise, investment (in terms of money and confidence) and infrastructure which has grown progressively over the succeeding decades. — English language / American channel: Across the creative industries the UK has long acted as a funnel for American output into the European market. Largely this is a function of our common culture, heritage and language. These trans-Atlantic links have brought yet further investment and expertise to the UK market. Also, the revenues generated by UK companies licensing US repertoire have greatly boosted British companies. — Clustering: Within the British economy London has long been the predominant city for the music industry. This clustering eVect has huge positive benefits for the sector. Songwriters, performers, publishers, promoters and record companies have a thriving eco-system, bringing all the positive network eVects well known to cluster theorists. This is not to forget the similar networks which exist in other cities such as Liverpool, Manchester, SheYeld and Glasgow. However, it is London— again with its transport links to the US—which has the strongest and most complete musical infrastructure which drives the success of the British record industry. — A Wealthy Economy: In the Work Foundation’s recent report on the Creative Economy “Staying Ahead”, the authors suggest that a better educated and physically fulfilled population will tend to consume aesthetic products, such as music, in greater numbers10. The UK is an archetypal modern economy and the creative industries benefit from exactly this pattern of consumption.

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— Raw material: The cultural, social, economic and historical factors that make young people want to be performers and writers, and more importantly equip them with the talent and skill to be so, are perhaps never going to be adequately explained. It is enough to recognise that the UK benefits from this natural advantage in the raw material of skilled people and is able to exploit it.

What the Government Can Do to Further Promote Higher Value-Added Business Activities and Innovative Thinking Among UK Businesses

IP Framework 6. From the record industry’s perspective, the intellectual property framework is central to the continued and future success of business activities. As the figures above demonstrate, the industry has the raw talent, the experience and the expertise to continue producing internationally appealing music for many years to come. But unless the IP regime provides the right incentives—and does not create disincentives—then this will not be realised. The key actions the government should take in the short-term are as follows: — Ensure that ISPs co-operate with rightsholders to combat online copyright theft, as per recommendation 39 of the Gowers Review. — Ensure that the damages regime acts as a deterrent to copyright infringement. — Ensure that it works with rightsholders on education campaigns to make consumers and businesses aware of intellectual property law. 7. With these improvements to the IP regime the British record industry, and many other sectors of the creative economy, will continue to enjoy their international success.

Tax Credits 8. Secondly, the government should promote the creative industries through the fiscal regime. The film industry already benefits from a tax credit which incentivises investment in British film production. Also, in the technical sphere, the Research & Development tax credit acts to promote investment in innovation. Both schemes operate in sectors where risk is high and reward diYcult to pre-determine. As this uncertainty may deter spending on new product development, there is a legitimate role for the fiscal system to provide an incentive. 9. The same factors obtain in the recorded music industry: investment in the production of sound recordings is similarly hedged about with uncertainty as to the commercial viability of the product. This is as true for major companies as it is for small, independent labels, who may also face diYculties in accessing the finance required to produce a commercially viable recording. 10. In France and Italy fiscal schemes exist which support SME record companies by providing a tax credit on their investment in A&R. The UK industry has been analysing how such a scheme might work in the UK for some time and discussions have been had with the Treasury. This analysis continues and we are not currently at the position where we can provide the Committee with a detailed proposal. However, we do believe that such a scheme can be arrived at given further research. Therefore we have proposed to the Department of Culture, Media & Sport and Department for Trade & Industry (as was) that the forthcoming Creative Economy Programme Green Paper keeps open the possibility that such a provision be considered, and commit government to reacting favourably to a proposed scheme. October 2007

Memorandum submitted by the British Retail Consortium (BRC)

Introduction

1. The British Retail Consortium (BRC) is the lead trade association representing the whole range of retailers, from the large multiples and department stores through to independents, selling a wide selection of products through centre of town, out of town, rural and virtual stores. Our membership comprises approximately 80% of the UK’s retail industry. 2. The BRC notes that the Business and Enterprise Select Committee’s inquiry into ‘Creating a higher- value added economy’ has considered the wider current economic situation and the challenges this poses businesses and all those with an interest in the viability of UK plc. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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3. The retail sector is a key industry in understanding the health of the UK’s economy. Retail’s daily front line interaction with consumers is an excellent barometer in assessing whether consumers are feeling the eVect of the economic downturn, the level of disposable income customers have and the way in which increased costs aVects buying patterns. 4. Creating a higher value added economy is hugely dependant, not only on the quality of goods and services oVered by businesses of all descriptions, but also on the willingness of consumers to purchase the products and services. All businesses are reliant of the attractiveness of their oVer and their ability to convince the consumer that what they present them with is worth purchasing. Any policy, be it emanating from the Government or an internal strategy operating at individual company level, has to consider the end consumer. 5. The retail sector is very aware of this and its operations at all levels start with thinking about the consumer. Any manufacturer looking to work with retailers will need to bear this in mind. 6. As the Committee concludes its inquiry into creating a higher value-added economy, the BRC wishes to aid members in its deliberations. Below we set out analysis on the current economic climate and how consumers are responding to this. As the Committee reaches the end of its inquiry, the economy has shifted dramatically from where it was at the start. Members of the Committee will no doubt have this at the forefront of their minds to make sure that the Committee’s views and recommendations are relevant and valid when the economy is stable, as well as when times are more diYcult. 7. This submission also highlights some examples of retail innovation. Retail is a very fast moving sector, both in the goods sold to consumers but also in their operations. EYciency and consistency are key objectives at every part of the supply chain and often the best innovation comes from new developments meeting this criteria. Additionally, retailers have harnessed innovative technology to help reduced their carbon emissions and promote green, sustainable, retailing. The BRC would hope the Committee considers the sector’s contribution to innovative practices as it conclude this inquiry.

Retail in the Current Economic Climate

Economic Overview 8. The outlook for both the UK economy and the retail industry has deteriorated considerably during the last 12 months with recent confirmation from the OYce for National Statistics (ONS) that the economy contracted by 0.5%. Although last month’s announcements by the UK Government and other policymakers seems to have pulled the financial sector back from the brink of a full-scale meltdown, the credit crunch has entered a new phase and is hitting the retail sector very hard. 9. The financial crisis has split over into the real economy fast with all key economic indicators pointing towards recession. A combination of falling house prices, high inflation, rising unemployment and shrinking real disposable incomes has further provoked a sharp slowdown in consumer spending with retail sales (KPMG-BRC RSM) down on a like-for-like basis in seven of the last eight months. The claimant count has now increased for the ninth successive month and considering the labour market lags the economy by around six months, this will put further downward pressure on house prices and consumer spending, with the worst still yet to come. 10. There is a degree of fear that the economy is teetering on the brink of a vicious downward cycle. As banks continue to restrict lending and house prices continue to fall, households are experiencing a “negative wealth eVect”, cutting back on spending and reducing investments, contributing to the rise in unemployment. Consequently, as unemployment rises this could then lead to defaults on debt repayments, particularly mortgages, leading to further loses in the financial sector. Banks may then restrict lending further, to households and businesses, compounding economic weakness and further perpetuating the cycle. 11. The decision by the Monetary Policy Committee (MPC) to cut interest rates by 1.5% in November is a clear indication that unprecedented measures are being used to combat a rapid deteriorating economy. Interest rates are now the lowest since May 1954 at 3%, and it is widely expected that the Bank Rate will fall further to 2% by early next year, while the Governor refused to rule out the possibility of a zero percent Bank Rate. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Figure 1.0—LIBOR and Bank Rate—2006–08

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0.0 Jul-08 Jul-07 Jul-06 Jan-08 Jan-07 Jan-06 Mar-08 Mar-07 Mar-06 Sep-08 Nov-08 Sep-07 Nov-07 Sep-06 Nov-06 May-08 May-07 May-06 Bank rate Vs. LIBOR Bank rate 3-month LIBOR

Source: Bank of England. 12 Figure 1.0 shows that the reduction in the Bank Rate has had a marked eVect on the rate at which banks lend to each other (LIBOR), the diVerence shown by the bars at the bottom of the chart. The diVerence between LIBOR and the Bank Rate has decreased significantly recently, shown by the bars on the far right of the chart, however, historically the gap still remains wide. The government has strongly urged banks to pass on these savings by cutting mortgage and other lending rates which generally seems to have been implemented. A large proportion of households (c.30%) have tracker mortgages, and so these households will particularly benefit. 13. It has become imperative for the Government to use fiscal policy at a time when monetary policy has lost its potency. The Chancellor outlined his fiscal plan in the pre-budget report, a reduction in the rate of value added tax (VAT) causing the greatest concern among retailers, while the other most significant measure is to introduce an upper tax bracket for high earners. The Chancellor has reduced VAT to 15 per cent from 17.5% beginning the 1st December running through to 31st December 2009. The Chancellor outlined that the cost of implementing such a cut would be in the tune of £12.5 billion, claiming that it was “a measure to help everyone and deliver a much needed injection into the economy”, however its eVectiveness will be widely debated. One powerful argument against it would be the Ricardian Equivalence. This suggests that a reduction in taxation will be ineVective as individuals will view government borrowing simply as deferred taxation, and so will respond by saving more, hence there is no overall change in economic activity.Although most economists view this strict model as simplistic and relying on abstract assumptions, such as perfect rationality, it raises concerns over the eVectiveness of fiscal policy in general. 14. The labour market sunk to new lows when oYcial figures were released in November showing that the claimant count has now risen for the ninth consecutive month (Figure 1.1), the fastest rise for over 17 years. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Figure 1.1—Changes in the Claimant Count (000’s month-on-month)

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Source: ONS. 15. Considering employment is a lagged indicator and GDP was still growing, although modestly at 0.3 per cent in Q1 2008, it raises concerns about the future of the labour market now the economy is actually contracting. Figure 1.2 compares the annual growth of GDP with employment growth since 1985. It demonstrates that during the recession of the early 1990s, GDP fell to a low in April 1992 where the economy contracted by 2.2 per cent. It took a further six months before employment growth reached a trough, contracting by 3.5 per cent, depicted on the graph. It would appear that the future of the economy is darkening rapidly.

Figure 1.2—Comparison of GDP growth and Employment Growth

10.0% 8.0%

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GDP Growth (%) Employment Growth (%)

Source: ONS. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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16. According to the ONS the sectors that have been worst aVected so far have been manufacturing, construction, finance and distribution, hotels and restaurants, although the reality is that this will spread into other sectors quickly. Regionally, London, the West Midlands and the North West have experienced the fastest contractions in labour, with employment falling 0.8%, 0.6% and 0.7%, respectively. A sharp contraction in the labour market will have serious implications for the retail industry and further undermine consumer confidence. The weakening labour market has added to contractions in retail spending while ongoing diYculties in the financial sector have only dampened expectations regarding job security.

Retail Trading Climate 17. The consequence of the weakening economic climate has aVected spending and consumer confidence considerably over the last three months, shown in Figure 1.3. Although sunny weather in May 2008 did, to an extent mitigate the slow down in sales, trading conditions have deteriorated markedly with negative like- for-like sales in six of the last seven months. Consumers’ perceptions about the current economic climate and future expectations about employment, coupled with increasing energy bills, and falling house prices have led to a cut back in spending, leaving the retail industry facing very challenging trading conditions.

Figure 1.3—BRC-KPMG Retail Sales Monitor and GfK NoP Consumer Confidence

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RSM - LFL GfK Consumer confidence

Source: BRC and GfK NOP. 18. The BRC-KPMG Retail Sales Monitor (RSM) revealed a contraction in spending during the last quarter on a like-for-like basis of 1.6%. In October 2008 retail sales were 2.2% down compared to the same month last year. This represented a fall in sales by value, despite shop price inflation rising to 3.0% in November according to the SPI, and 4.5% according to the CPI. Although the latest GfK-NOP consumer confidence revealed a slight improvement in September, it would be expected to decline further next month in light of recent events in the financial and labour markets. 19. Some sectors of the retail industry have held up better than others. According to the RSM, there has been slight growth in grocery sales, partly due to food price increases and partly through a switch from eating out to home cooking. Furniture and flooring has been particularly aVected due to its dependency on the number of house moves.

Innovation in Retail 20. This evidence now moves to focus on innovation in the retail sector. As stated in the introduction, retail is a hugely innovative industry. One of the ways retailers hope to ride out the economic storm is ensuring its operations are performing at a high and eYcient level to produce the least amount of waste, be that through time or cost. Retail is also innovative in the way it works with others in the supply chain. When problems are identified with particular practices, often innovative solutions are implemented to get round the issue. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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21. One example of this is the Safe and Local Supplier Approval (SALSA) scheme. Food retailers, manufacturers, farmers and the catering industry recognised the demand of locally-sourced produce however, they were also well aware of the issues preventing this food reaching the marketplace, not least compliance with stringent health and safety standards that are a necessary requirement of food available to the mass public. To solve this problem, the BRC, together with the Food and Drink Federation (FDF), National Farmers’ Union (NFU) and British Hospitality Association (BHA) worked together to develop a common, low cost, supplier approval process for smaller food producers and processors. This scheme has had a huge impact in helping small, local producers get their products to market and was hugely innovative in seeing the chain come together to find a solution to this problem. 22. Quick and consistent stock replenishment is hugely important for each and every retailer. Several retailers have invested hugely in Radio Frequency Identification (RFID) technology to help speed up this task. Essentially, RFID is an extension of the traditional barcode technology and is included on the label of an item. The advantage is that the tags do not need line of site with the reader, so stock taking is far quicker and easier—a rack can be scanned once and the data as to the sizes and styles that need replacing is instantly available. 23. RFID has many more potential uses that retailers and the BRC are looking into. For example, this technology could be hugely beneficial in finding food products that are close to the end of their ‘sell by’ date, facilitating returns and providing information of the origin or environmental credentials of products. Retailers are keen to increase their innovation in this regard however, currently work has stalled as the European Commission is due to make a recommendation regarding this technology in 2009 which could have an implication on the costs of using RFID. Some fairly hypothetical questions regarding privacy have been raised and the Commission may insist on mandatory deactivation of tags at point of sale or possibly oVering customers the option. Retailers have worked hard with the Commission to reach a sensible conclusion that enables this innovative technology to continue to be harnessed. Retailers have also engaged in constructive dialogue with BERR, who have been very helpful. Retailers are keen to continue to innovate in this area, in a responsible manner, and we would hope the Committee would support us in this aim.

24. The barcode itself has traditionally been held as an exemplar of innovation. In June 2007 the former DTI published a report entitled ‘Innovation in Services’ which looked at emerging evidence and thinking on services innovation in the UK1. The report stated that innovation is one of the five drivers of productivity growth alongside skills, investment, enterprise and competition (page iii), which demonstrates the importance of the issue. The report states that there have been many innovations in retail services but cites the introduction of bar code scanners linked to information and communication technology as having ‘transformed’ retail (page 6). The work on RFID shows that retailers have continued to harness the technology associated with barcodes to further innovate in this area.

25. The report also highlights the competitive advantage that comes from innovation (page 63). The BRC would certainly echo this point and would argue that this is a positive benefit to the public and the country. Often a retailer will introduce a new approach that provides them with an advantage and other retailers will seek to replicate the approach. The report highlights that learning from a competitor’s innovation is not simply a sector-specific trend with, citing, for example, an airline company learning from a hotel group regarding customer service and a leisure company and a theme park organisation looking to retail to learn from their approaches.

26. Retailers also use price and placement as innovative ways to introduce products, or indeed, to alter customer behaviour. Retailers understand that price remains the key driver of shopping habits (as FSA research into food shopping habits continually concludes) and they often use this to introduce a new product by enabling customers to try something that they would not usually due to cost implications. As you will be aware, the industry has a target to phase out the use of standard incandescent light bulbs by the end of 2010. Several retailers have therefore taken the step to introduce a long term promotion on energy eYcient lightbulbs which includes some stores reducing their cost by half, stocking a wide variety of bulbs and introducing them at diVerent price points. This has clearly aVected consumer behaviour and helped greatly increase the use of energy saving lightbulbs by the public.

27. Retailers will also use innovative displays of products to inform consumers of information they should be aware of. Point of sale messages explaining the benefits of products and the use of whole bays or gondolas are often used when a products needs greater explanation to communicate its benefits. With reference to the promotion of energy-saving lightbulbs, this was hugely beneficial in explaining to consumers the diVerences and benefits and has contributed to the great shift in buying behaviour from traditional lightbulbs to the more environmentally-friendly variety.

28. Transportation is another area where retail is a highly innovative sector. Clearly transport policy is a key part of any retail operation. Goods must reach distribution centres and stores on time, in impeccable condition and in the most eYcient way possible. Retailers do not want to transport goods unnecessarily, not least due to the environmental and financial costs this would incur. To this end, many retailers invest considerably in their transport networks. Retailers’ work in this area is varied and includes the use and Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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trialling of electric vehicles, hybrid engines, eYcient engines, double deck trailers, fuel eYciency and technology such as cruise control. Additionally, many retailers now transport more goods using the train network or even canal system. Retailers are keen to highlight their environmental credentials and, with reducing carbon emissions and costs being a joint benefit to investment in transport, this is a key area of innovation. 29. Environmental policy is a key driver of innovation and many retailers have developed new systems to help them play their part in reducing their environmental impact. A further example of this is the investment in stores themselves. Many retailers are using expansion plans as an opportunity to build ‘eco’ stores that place emphasis on renewable energy, environmentally-friendly and (where possible) locally- sourced building products, doors on chiller cabinets and recycling and recyclable materials. Innovations of this kind can lead to these stores being up to 40% more energy eYcient than standard stores. Harnessing innovative technology and thinking creatively about the store as a whole is key in this area and retailers are very much driving development in this regard.

Conclusion 31. This evidence has cited a small number of innovative practices in the retail sector which the BRC hopes will give the Committee a good flavour of the considerable work the retail sector does in this area. We also hope the economic analysis provides Committee members with a thorough understanding of the current challenges the sector, and the UK as a whole, face. Clearly the main issue of concern at the moment is the economic situation and work in every retail business is focused on surviving the economic downturn to continue to continue to provide employees with jobs and consumers with the shops they need. November 2008

Memorandum submitted by the Commission for Rural Communities (CRC)

Rural Economies and the Potential for Creating a Higher Value-Added Economy in Rural Areas 1. “In the context of globalisation, innovation is a must for all regions, whether rural or not. The capacity of regions to support learning and innovation processes is a key source of competitive advantage, a multiplier of economic activity, employment and development. This is particularly relevant for rural areas.” Angel Gurria, OECD Secretary General, 2007. 2. The economies of our rural areas are substantial and diverse. They host around a million businesses of which at least 476,000 in 2006 were registered for VAT/PAYE, with a turnover in 2005 of £304 billion. Rural areas hosted 5.5 million jobs of which around 4 million are in rural workplaces, covering every imaginable occupation and industrial activity. In 2005 the GVA of England’s most rural districts, by the government’s classification those that host at least 50% of their population in settlements below 10,000, had a GVA of £178 billion⁄this was a similar figure to the GVA from all English cities and large urban areas outside of London. These rural areas and major cities/urban areas also had similar productivity indices. Many rural and urban areas thus share many characteristics of economic profiles and make a similar contribution to national prosperity and productivity. At the same time rural England has a greater dependency on land and the natural environment than underpins urban economies. In the past this has been seen by too many decision makers to define or delimit the rural economy—today there is widespread agreement that this perspective is erroneous and historical. 3. High value/high knowledge dependent businesses and employment can be found across rural England. Amongst those that we are familiar with are firms and networks/clusters with a focus on high performance automotive engineering in Northamptonshire and Oxfordshire, precision instruments in Gloucestershire, industrial lens and mirrors in Northumberland, IT dependent home businesses in Devon and Cornwall, aeronautical engineering from Lancashire to Dorset, security equipment in East Yorkshire, financial services from Lincolnshire to North Yorkshire, Bio- and Electro-chemical sensors in Derbyshire, Food technology in Warwickshire and Worcestershire. Rural areas also host many fine examples of high value retailing, craft and creative industries, environmental technologies, leisure activities and facilities, natural resource activities etc. Overall in the period 1998–2006 the numbers of firms in Knowledge Intensive Business Services—a regular indicator of innovation in the national economy⁄in the most rural districts of England has increased by around 45% compared with a growth of around 15% in our major cities. 4. On the other hand, rural England displays many indicators of poor choice and low wage employment, challenges of recruitment, weak business performance including failure to realise their aspiration to grow. This is particularly true for sparse and peripheral rural districts. More rural areas, firms and would-be employees need to have access to the drivers and support for high value economies—ideas, support, markets and infrastructure. We reviewed and reported evidence of some of these challenges and opportunities in the Rural Advocate’s report to the Prime Minister, England’s rural areas: steps to release their economic potential. The report was submitted in June and responded to a request from the Prime Minister after last year’s floods and foot and mouth disease. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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5. Weaknesses in rural economies include: (a) Highest proportion of employees on low wages, with almost 28% of the 1.85 million jobs in Rural 80 local authorities on less that 60% of the median weekly wage in 2006. The sectors with highest risk of low pay and high levels of household poverty are hotels and catering, retail and healthcare— all of which are large employing sectors in rural England. (ippr 2008. Working out of Poverty.) (b) Lowest levels of graduate recruitment, with greatest disparity in rates of graduate recruitment across the rural:urban continuum being found amongst medium sized employers and public sector employers (CRC 2006. Skills Development and deficiencies in rural England. Report to CRC by IFF Research.) (c) Low aspirations and lack of choice amongst young people in these sparse and peripheral rural areas, such that comprehensive studies of young people’s aspirations and actions in the rural West Midlands and in northern England showed that many were downgrading their educational and job actions to take on lower paid/lower skilled jobs that exist in the rural communities with which they were familiar. (d) High levels of economic inactivity—frequently not translated into high levels of unemployment— because of poor choice of jobs; and at least one-third of a million rural households in which no adult is in work, and 300,000 people out of work but wanting a job. (e) Lower levels of collaboration between businesses and universities for Research and Development and joint product development. Some of this has been formally reported by the RDAs as part of their reporting of Performance Outputs, whilst other regions Government OYces and RDAs have captured these rural: urban diVerences in their Rural Evidence reports. 6. Overall these weaknesses limit the choice and reward from employment, reduce the performance of many enterprises in rural areas, and are limiting the release of the potential of rural economies to contribute more to national and regional economies. In the Rural Advocate’s report to the Prime Minister, we calculated that this unfulfilled potential could amount to be between £236 and £347 Billion extra turnover. We reported that the evidence, combined with the views of employees, businesses, communities, agencies and representatives, leads to the conclusion that the four key drivers to unlock this potential are Investment; Innovation; Inspiration and leadership; and Empowerment. Although they are linked we have here primarily draw attention to the Innovation proposals in the Rural Advocate’s report to the Prime Minister- and would ask Committee members to keep in mind that this was substantially written in advance of the publication of the Innovation White Paper.

Innovation 7. We support the Government’s thrust to enhance innovation in the UK, as set out in the recent Innovation White Paper: Innovation Nation. It echoes a change of focus in rural policy advocated last year by the OECD, from sectors to places. People relate to rural places—as visitors, residents and business owners. Rural places sometimes attract new people, new thinking and new economic activity. Innovation should build on the distinctiveness of rural places. It is doubly important therefore that government’s policies, programmes and activities to strengthen investment, to improve physical and knowledge connections, especially broadband and knowledge transfer partnerships, are developed and seen to apply to and benefit rural as well as urban economies.

Recommendation The Department of Innovation, University and Skills should ensure that the direction and measures set out in its new Innovation White Paper; Innovation Nation has clearly identifiable relevance to rural economies and communities. This applies equally to regional and sectoral strategies and measures. 8. We asked that the White Paper should open the door for central government and RDAs to encourage innovative thinking and solutions to boost economic growth in rural businesses and economic wellbeing of rural communities. 9. Many programmes to support innovation are designed and operated in ways that expect proximity or link to universities, science parks or science cities. Others presume that businesses in priority sectors are mainly located in city and urban centres and operate in clusters. Innovation should be promoted in all industries and places. Rural areas have successful firms in priority sectors such as healthcare and medical devices, high value manufacturing, micro-electronics, information technology, and environmental and energy technologies as well as innovative companies in traditional rural sectors. 10. However, many rural districts have weak capacity in Universities with strong research performance, especially in sparse or peripheral rural areas most in need of boosts in higher value business and economic activity. Recent years have seen a growth in the range of universities located in or serving rural areas, for example in Cornwall, Cumbria, Lincolnshire and Worcestershire. Their teaching capacities may be respected, few of these have strong pedigree in or high marks for their research performance. Their roles in Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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developing spin out companies, oVering incubation facilities, undertaking collaborative ventures for new products and processes with local companies, and providing research focus for local firms, still need to be developed. 11. In contrast several rural areas host established and well respected research facilities, for example in defence, food, public service and environmental activities—in private companies as well as public sector organisations. These include QinetiQ near Malvern, Defence Science and Technology Laboratory at Porton Down near Salisbury, HSE near Buxton in the Peak District, PERA at Melton Mowbray, Campden and Chorleywood Food Research Association near Chipping Camden. We believe that there are also a host of single firm research laboratories. 12. We want to encourage the Technology Strategy Board, DIUS and the Higher Education funding establishment to seek new ways to network such research and development capacities and infrastructure and to encourage stronger links with local businesses to complement the respected links they often have with larger and more distant companies.

Recommendation

We have proposed an examination initiated jointly by a Technology Strategy Board/CRC-led group of rural and innovation representatives of how national Knowledge Transfer Networks and regionally-funded networks could engage more eVectively and fully in rural areas. 13. Some rural areas have a paucity in other key drivers and infrastructure that support higher value, knowledge-dependent economic activity and innovation. This includes for example, challenges in IT and communication technology especially more consistent broadband connections and higher broadband speeds, specialist advisers such as patent agents, employment and contract lawyers, incubators and innovation centres, for example. Releasing unfulfilled potential in rural firms and employees may depend on creating new ways to access research, skills, advisory opportunities and outputs. For many businesses and communities, contacts with research establishments, specialist advisors and centres will remain intermittent. In contrast, ‘inter-firm alliances’, recruitment of skilled employees and training oVer constant and endorsed routes to boosting innovation and through it of enhancing economic growth. Analysis of the National Employer Skills Survey to disaggregate rural and urban, and to provide sector specific evidence for Sector Skills Councils, shows that most rural firms have diYculties than their urban counterparts in recruiting skilled managers and professionals. More rural firms need to be inspired and resourced to undertake research, and to recruit and retain higher skilled workforce, particularly new graduates.

Recommendation

We believe that rural areas need support to pioneer forms of brokerage and create virtual clusters or networks to access such services and share good practice. This may also be helped if LSC and DIUS were to establish rural pathfinders under the Further Education Special Innovation Fund, as proposed in Innovation Nation. 14. Many rural communities lie within the influence or hinterlands of England’s cities and may benefit from the new focus on City Regions. Others are detached from such regions. Firms in sparse rural districts service local and distant markets, but most feel the eVects of distance, sparsity and small scale settlements. Some rural economies in remote or peripheral areas exhibit higher dependencies on declining or low waged industries such as farming, fishing and tourism. They contain some of England’s highest quality and most protected environments, and whilst these oVer some unique economic opportunities, they encourage some to limit developments whether for housing, business growth, inward investment or service provision. 15. Sparse or remote rural communities share profiles of ageing populations, in which in-migration of older residents may be outweighed by flight of young people. Remote areas are frequently aVected by environmental and environmentally-induced shocks, causing disruptions to utilities, services and activity that businesses and residents in much of England rarely face. They are resilient and enterprising. They oVer opportunities for some and challenges for many. If wider society is to seek additional and ongoing benefits from these remote communities, we need to examine ways in which Innovation can enhance their economic performance and wellbeing for all. A new Rural Innovation Initiative or partnership for sparse or detached rural areas is needed. 16. Policy makers, researchers, technologists, firms and communities should jointly explore opportunities for new technology, processes and ideas to enhance economic opportunities in these areas. We need to find modern and appropriate responses to disadvantages of distance, weaknesses in service provision, ageing populations and environmental shocks. Such an initiative might form one of the new Partnerships for Innovation proposed in the Innovation White Paper. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Recommendation We have proposed in the report to the Prime Minister that CRC, BERR, DIUS the Technology Strategy Board, NESTA and OECD, we to explore a Rural Innovation Initiative to tackle technology and policy challenges of peripheral/sparse areas.

Conclusion 17. The economies of rural England, are diverse in character and the nature and strength of their contributions to wider regional, national and international economies. Many rural areas contain examples of businesses and communities that are well embedded in the high value/high skills knowledge economy. Several other rural areas, especially in our peripheral and sparse rural areas, display challenges of low pay, limited choice of jobs and low aspirations that limit the health and sustainability of their economies and the contributions they make to the wider economy. Building high value economies in these areas is essential. 18. However, extending the high value economy across all rural districts and communities, is held back by a thinness in the drivers and infrastructure of innovation—access to appropriate and sustained communication technology, specialist premises, advice and training, dispersed and low capacity in research and higher education institutions. Authorities, representative organisations, employers and communities frequently recognise the value of high value economic activity and seek to build it. They are hampered by lower resources and weaker capacities, lower public and private investment, and adequate recognition by higher tier economic agencies and programmes of their needs and potential. 19. Central departments and their agencies need to ensure that policies, programmes and delivery mechanisms that aim to improve economic development, and enhance innovation, investment, skills and training, are established and rolled out with a real and current understanding of rural economies. We need commitment to supporting the creation of high value economies in rural as in urban areas. Rural firms, employees and households should be able to recognise this commitment and access mechanisms and resources to build on their enterprising and innovative aspirations. 17 November 2008

Memorandum submitted by the Confederation of British Industry (CBI) 1. As the UK’s leading business organisation, the CBI speaks for some 240,000 businesses that together employ around a third of the private sector workforce, covering the full spectrum of business interests both by sector and by size.

Executive Summary 2. The global accessibility of inexpensive labour means that UK-based businesses cannot compete in markets for internationally traded goods and services on the basis of low labour costs alone. Thus our economy naturally tends to focus on higher value and higher value-added activity where investment in skills, knowledge, technology and innovation more broadly are important factors. 3. Government “innovation policy” per se is only one of many policy measures which aVect business investment in innovation. To create a thriving ecosystem for innovation in the UK, the government must also consider the impact of its other “non-innovation” policies in areas such as planning, transport, health, defence, energy, environment, tax, education and skills. For example, the government can use public procurement, regulation and other policy levers as demand-side drivers of innovation, creating lead markets for new technologies and services which, in turn, could provide a major incentive for further business investment. 4. The establishment of the Technology Strategy Board (TSB) as a Non-Departmental Public Body at arm’s length from government provides a new structure for helping to develop this further. We have proposed that it should focus on the acceleration of technology development to meet the needs of business and that its work should be more “mission-oriented”, linked to solving major UK challenges that could lead to innovative solutions feeding into public procurement. 5. Lord Sainsbury’s review of science and innovation made very welcome recommendations on the new co-ordination and leadership role to be played by TSB, but we are still concerned over the level of funding for the TSB, which is about half the level we proposed to be really eVective. 6. Research and Development (R&D) is an important factor underpinning business innovation and R&D tax credits have had a positive role in promoting business R&D spending and in retaining R&D activity in the UK. The evidence available so far suggests that this role is significant and, despite the imperfections of the tax credit regime, likely to increase. However, R&D is only one factor in innovation and, with our service-dominated economy, not always the most important. Care is thus needed in making international comparisons on the potential for value-added activity in the economy on the basis of national R&D performance alone. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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7. Progress has been good on university-business co-operation and knowledge transfer since the Lambert Review in December 2003. To build on this positive trend, action is still needed to encourage better and more extensive links with SMEs, to ensure that the successor to the Research Assessment Exercise gives appropriate recognition to excellence in user-focused research, and in understanding the nature, extent and potential of university links with service sector businesses. 8. For the Government’s innovation support products we believe it would be acceptable to “raise the access bar” for firms, but with the compensation that the support made available will be more substantial and focused on business growth. The Manufacturing Advisory Service has already made progress in disseminating best practice in the UK SME community and we look forward to this being developed further. 9. The CBI welcomes the creation of a new department (DIUS) which explicitly takes responsibility for innovation as well as skills. However, the separation of innovation from business, and schools from skills, needs to be handled with care: the economic focus of DIUS, and the robustness of links between DIUS and BERR, and between DIUS and DCSF, are of critical importance. 10. On the Regional Agenda, RDAs and Devolved Administrations are naturally concerned with their territorial focuses. But most successful businesses do not operate solely within individual political boundaries so the conditions they face and the support they can access should not vary arbitrarily across these boundaries. There needs to be a consistency of approach to support for business investment in innovation and growth across the UK, but with regional “flavours”. 11. Manufacturing plays a critical role in a higher value added economy, not only as a high value sector in itself, but also as a driver for the majority of business innovation and R&D. Government policy needs to recognise that modern manufacturing does not equate solely to the production process but includes a far broader value chain from basic R&D to service provision, and that each stage has the potential to be a “high value” activity. 12. Whilst this submission primarily concerns the role of innovation in creating a higher value added economy, also critical is the importance of ensuring the UK has the high level skills required to develop and exploit new technologies. For example, the UK compares relatively well with our European competitors in terms of the proportion of the workforce qualified to graduate level (29%)—but poorly with the US (40%) and Japan (45%). China and India are also moving up the value chain and together annually produce four million graduates compared to 250,000 in the UK. Lord Leitch recommended the UK move to at least 40% of the workforce qualified to level 4 and above by 2020 to remain competitive—an ambition supported by the CBI. 13. But meeting the challenge of developing a higher skilled workforce is not simply a matter of more young people entering higher education—more than 70% of the 2020 workforce has already left formal education. Developing more business-university partnerships on raising workforce skills and new flexible methods of delivery, accreditation of bite-sized training and e-learning could all be powerful tools in raising the skills of those already in work. 14. There must also be a greater urgency in ensuring significantly more individuals have science, technology, engineering and maths (STEM) skills. Employers are increasingly concerned by the falling numbers of young people graduating with degrees in STEM—particularly as new STEM-related jobs will grow by 2.4 million over the decade to 201411. The CBI supported the Sainsbury Review’s recommendations to encourage more young people to study STEM—particularly its emphasis on raising the number of specialist teachers and improving the support available to them, better careers advice and the value of more young people studying the three separate science GCSEs. But the Government must go further: — young people able to do so should be automatically opted-in to GCSE triple science (they can opt- out), not just given the option to do so; — £120 millioninvestment in one-to-one careers advice at ages 14, 16 and 18—and access to appropriate guidance for even younger age groups too; and — £1,000 annual bursaries for STEM undergraduates to reflect their importance to the economy.

Commentary on Specific Questions in the Call for Evidence

Q1. What is meant by a high value-added economy? Which business activities qualify as such? 15. The term “value added” refers to the diVerential that can be achieved between the cost of a service/ product/process etc. and the price that can be charged for it. In turn, “higher value-added” concerns maximising that diVerential, be it through reducing input costs (eg reducing material, labour or process costs etc) or increasing the price that can be realised (eg through brand association, improved quality, innovative features, faster delivery, higher specification etc.), or some combination of the two.

11 Composed of 1.4 million science/technology professionals and teaching/research professionals, 255,000 science lab & engineering technicians etc and 700,000 health professionals and associate health professionals. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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16. It follows then that there is a spectrum of possibilities for achieving a higher value-added economy: at the one end focusing on low cost production, for example; at the other, building up high value qualities such as brand, design and innovation. The increasing accessibility of cheaper sources of labour implies that UK-based businesses cannot compete in markets for internationally traded goods and services on the basis of low labour costs and thus our economy should be, and is, increasingly focused on higher value-added activity. However, a “high-value economy” does not necessarily equate to a “high value-added economy”. Nor is it practical or possible for an economy the size of ours to undertake only higher-value activities— there will always be a need for low-value activity at some level if only to support activities further up the value chain. Value added can be increased by lowering costs as well as by raising the value of the product: in an economy with comparatively high labour costs, both are heavily dependent on investment in innovation. 17. Within manufacturing, high value-added activity does not exclude all production activity. While commoditised, labour-intensive production is essentially low value-added and hence vulnerable to low cost competition, high value production, relying on specialised scientific and engineering skills or the utilisation of advanced technology, can form an integral part of a manufacturer’s sustainable competitive advantage and support a climate for business innovation. 18. Each stage in the manufacturing value stream, from basic R&D through to after sales service provision, provides an opportunity for business to add value. We should resist the false conclusion that a high value-added economy necessarily equates to one with a smaller production capacity, especially before the link between R&D activity and production is fully understood. 19. What is important for the UK is that we understand the balance and interaction between diVerent parts of the economy and that we nurture an economic ecosystem that favours activities that are both higher- value and higher value-added.

Q2. How UK business compares internationally in areas such as research and development, creativity and design 20. The European Innovation Scoreboard 2006 lists six countries as “innovation leaders”—Denmark, Finland, Germany, Japan, Sweden and Switzerland. These countries all have high “Summary Innovation Index” (SII) measures compared with other OECD members (including the UK), and all have higher rates of SII growth than the UK, although only one of them, Denmark, has a rate of SII growth which exceeds the UK’s by more than 1%. (The ranking varies in diVerent years, and Denmark’s position in 2005 was less advanced than in 2006; also in 2005 the USA was in the “innovation leaders” group.) 21. The Regional Innovation Scoreboard included in the same publication lists the top-performing 10 European regions as being in Sweden and Germany (four regions each), Finland and France. 22. It may be true that the UK as a whole is less innovative than the “innovation leaders”; however, the definition of the SII should be noted: it is made up mostly of inputs (including R&D) and therefore is not necessarily a reliable measure of innovation. For example, it tells us little about the eVectiveness of combining diVerent inputs to create innovation output, nor about whether the focus is on incremental or radical innovation, and, more importantly, the balance of measures may not provide a good reflection of innovation in a service-dominated economy such as the UK. 23. As far as we are aware, none of the various UK, EU and international surveys and scoreboards that attempt to measure innovation adequately capture the full innovation dynamic across all sectors.

R&D 24. According to the OECD’s Main Science and Technology Indicators (Vol 2007/1), 1.78% of the UK’s GDP was spent on R&D in 2005 (a fraction below the average for the previous four years, despite increases in both government and business spending): 42% of this comes from industry and 33% from government. For the 27 EU countries as whole the figures are 1.74%, 62% and 30% and the UK is rated “about average” in most analyses of our performance:

R&D as % % financed % financed of GDP by industry by government EU-27 1.74 62 30 UK 1.78 42 33 France 2.13 53 38 Germany 2.46 67 26 USA 2.62 65 30 Japan 3.33 76 17 Finland 3.48 67 31 Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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25. The OECD R&D data show that: — spending on R&D as a proportion of GDP in the UK is low by comparison with other developed countries, — the proportion of R&D in the UK financed by government is similar to that in most other developed countries, and — the proportion of R&D in the UK financed by industry is low by comparison with other developed countries, and as a proportion of GDP lower still.

26. The low total level of spending on R&D as a proportion of GDP in the UK is at least partly caused by the size and success of “high sales” industries (including oil and gas, banks/financial services, telecoms, food producers & retailers) in this country. While these sectors do invest in R&D they naturally have a low level of R&D-intensiveness (R&D/sales) compared to sectors which are R&D-led, such as the electronics and technology hardware industry, which make up a much larger proportion of the economy in countries such as Japan and the US than they do in the UK. In other key sectors of the economy where high R&D investment is critical (for example, aerospace, defence, pharmaceuticals and healthcare) the UK does very well in terms of matching world-class levels of R&D intensity.

27. The low proportion of private sector spending in the UK is also partly balanced by a high proportion of third-sector spending (eg by charities such as the Wellcome Trust) and by R&D investment from abroad.

28. Where the UK does appear to have suVered is in some of the price-regulated industries (water, gas and electricity) where the need to meet price targets set by the regulators has meant that firms have been unable to invest as much as they might otherwise have wished in longer-term R&D and innovation. This point was recently highlighted in Lord Sainsbury’s report, “The Race to the Top: a review of government’s science and innovation policies” (October 2007).

29. In our lower R&D spending service sectors other forms of investment in innovation (eg investment in software and ICT, design, marketing, and innovation-related training) are likely to be much more important than pure R&D figures. However, recent changes in international accounting practice saw HSBC, Tesco, Royal and Sun Alliance, and RBS all jump from “nowhere” on DTI listings into the top 25 R&D spenders in the UK in 2006. R&D in the service sectors which are so important to our overall economy, may thus have been significantly under-reported in the past.

30. As we have proposed to government, the UK should not be judged solely against targets to reach “x% of GDP invested in R&D by y date” (the current target being 2.5% GDP by 2014), but should be more pragmatic and consider a wider benchmark for overall levels of investment in innovation.

Design and creativity

31. International data on design and creativity are less easy to access, but NESTA provides a good overview of the UK creativity sector in its 2006 Creative Industries report. NESTA notes that:

32. “On one measure the creative industries constitute a larger part of the economy and employ more people than the financial services sector. The most recent estimates suggest that the creative industries account for eight per cent of the UK economy… Exports by the creative industries contributed £11.6 billion to the UK’s balance of trade in 2003. The UK has led the world in terms of developing the creative industries as a focus for policy, and there has been a rapid growth in initiatives across the UK to support the development of creative businesses.”

33. However, the report goes on to paint a less promising picture of the future for the UK creative industries:

34. “Evidence suggests that there are reasons to be concerned about the current performance of these sectors, beyond the variations that result from the normal economic cycle. Over the past few years, employment has fallen in advertising, design, film production, games development, music and the visual and performing arts. For example, employment in advertising has fallen by more than 20,000 in just three years, from a high in 2001. This is a reflection of lower revenues and consolidation in these industries. In design, there has been a 31% fall in turnover since 2000. Film production spending was nearly a third lower in 2005 than in the previous year (including international productions filming in the UK). The number of people working in games development has fallen by 6% since 2000, despite the continued growth in the market.”

35. The lack of scale of most businesses across the UK creative industries (eg 55% of design agencies employ five people or less) as well as access to global markets and structural issues in areas such as the UK music and film industries were cited as particular issues to address in the NESTA report. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Q3. What can be learnt from the experiences of other countries in this area and how fast other countries are moving up the value chain 36. The UK is a mature economy, already comparatively high-value and high value-added, and economic growth is bound to be comparatively slow in consequence, whereas many developing countries with a much lower starting point have begun to enjoy higher rates of self-sustaining growth. Often this is sustained by investment in existing technology rather than in innovation. Rapid growth from a low starting point is much easier than rapid growth from a high starting point and it is inevitable that many countries will be moving up the economic value chain faster than the UK. A similar process took place in Japan for several decades after the Second World War, but Japan is now itself a mature economy and is no longer experiencing such rapid growth. 37. Nevertheless there are useful lessons to be learned from other developed countries, such as Finland, which has a Science and Technology Policy Council chaired by the Prime Minister, and the US, where DARPA provides, in the specific field of defence, a model we refer to in answer to Q9. 38. There are also grounds for concern in the fact that, as happened with Japan, some countries, such as China, India and Brazil, are not only developing basic industries such as large-scale manufacturing, but also rapidly acquiring skills and technology in specific high value-added sectors, which will make these industries increasingly competitive against their UK counterparts. For example: in software, pharmaceuticals, high- tech engineering, aerospace and space technologies. 39. Other countries such as Singapore, Malaysia and the Czech Republic are even further advanced along the value chain and are eVectively competing for some of the highest value activities in the global economy including R&D.

Q4. The extent to which UK business has absorbed new business practices such as lean manufacturing 40. Lean manufacturing is a broad term referring to a range of practices in manufacturing originating mainly from Japanese automotive industry in the 1980s, including those to reduce waste (eg Toyota Production System, Just-in-Time production) and those to improve quality (eg Six Sigma, Total Quality Management). Successful implementation of lean manufacturing can deliver eYciency gains and improve business performance. 41. Virtually all global businesses have by now undertaken a programme of process improvement along the lines of lean manufacturing. For such businesses, high levels of eYciency and quality management are competitive necessities, not advantages. However, it is not clear to what extent this best practice has been embedded within smaller manufacturers, although anecdotal evidence suggests that there remain many businesses that have yet to fully embrace lean manufacturing. 42. Businesses at the head of complex supply chains are taking proactive steps to ensure best practice filters down to the SMEs that comprise subsidiary tiers of their supply chain. In vertically disintegrated industries such as automotive and aerospace (whose production processes are diVused across several businesses) suppliers have responsibility for increasingly complex tasks and hence have a significant impact on the overall performance of the final assembler. 43. Therefore, developing the capability of SME manufacturers is not only of direct economic benefit to the UK, but also acts as a tool to attract and retain investment from global manufacturers. 44. Government action to spread best practice within manufacturing has successfully addressed a market failure in that private consultancies oVering aVordable and appropriate manufacturing advice to SMEs are not widely available. The Manufacturing Advisory Service (MAS) was established in 2002 by the then Department for Trade and Industry, to oVer free or subsidised best practice advice and support for SMEs. 45. Figures published by the DTI in June 2006 claim that in the first four years of operation (2002–06), the MAS responded to 86,414 enquiries, completed 14,982 diagnostic reviews and carried out in-depth consultancy with 4,700 businesses (note that the UK manufacturing SME community comprised 121,000 firms in 2002 and 109,000 in 2005). The MAS will be further improved from 2008 with the ability to oVer longer periods of in-depth support to manufacturers and oVer support on a wide range of subjects, including strategic planning and skills development.

Q6. The impact on business of government eVorts to promote research and development, including the research and development tax credit 46. A report by HMRC published in December 2005 supports the view that tax credits are having some impact in achieving their objectives, particularly in the case of SMEs, but that they are, on average, less eVective than one might wish: — About 57% of firms surveyed (including both those that had claimed and those that had not claimed the credits) felt that R&D tax credits were an incentive to undertake further R&D. — However, 41% of large firms which had claimed tax credits thought that the credits were not an incentive to conduct further R&D. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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47. When the CBI lobbied for the R&D tax credit to be made available to all firms we noted that it would take time to influence long-term trends in business R&D investment. Experience from Canada had suggested that benefits would only become clear after around 10 years of operation. Given that larger firms in the UK have only been able to benefit from the tax credit since 2002, it is still too early to make a definitive judgement. The government itself has suggested that 2014 should be the point at which their impact is properly assessed. 48. We also noted that, to be eVective, the tax credit would have to make a diVerence to R&D decision- makers (not necessarily those in charge of conducting R&D, but the Finance Directors and other Board members responsible for strategy and investment) and that to do this the tax credit would need to have a value clearly visible above the “background noise”. We suggested this noise level to be around 5–6% of costs and that the tax credit would need to reduce overall R&D costs by 10% or more to be widely recognised and valued. 49. When set up, the tax credits instead reduced R&D costs on qualifying R&D by 7.5% for large firms and 9.5% for SMEs. Critically, not all R&D as defined by business, nor as defined by the DTI, was included in the Government’s definition of “qualifying R&D”. The overall value of the tax credit was thus reduced as a consequence. Our research with the Engineering Employers Federation in 2005 suggested that the actual value of the tax credit was, on average, a 4% reduction in total R&D costs—SMEs benefitting most with a reduction in costs of around 5%, while costs for the largest firms were reduced by less than 3%. Clearly, these figures are well within the noise level for decision-makers and so it is perhaps not surprising that the impact of the tax credit has not been universally high. 50. Tax credit rates were increased in Budget 2007 to reduce the costs of qualifying R&D by up to 8.4% for large firms and 16.5% for SMEs. As a move on its own, this appears to be positive, but the overall value needs to be considered in relation to changes in corporation tax rates that were announced at the same time: — Large firms are more likely to benefit from the reduction in corporation tax rates to 28% and this may be a greater spur for further investment than the increase in tax credit rate. — Small firms were hit by an increase in corporation tax rates to 22% by 2009–10. This has the eVect of increasing the overall value of the tax credit, so those investing most in R&D should now be at a much greater advantage. However, those making higher profits and many at the low-R&D investment end of the spectrum and/or without the need or capacity to increase R&D investments, will be worse oV. 51. Modelling shows that SMEs making average rates of profit and investing above 1.5% of turnover in R&D should be better oV in tax terms as a result of the Budget 2007 changes. This level of R&D investment may not sound very high, but it could equate to over 20% of pre-tax profit for a firm operating on an average 7% profit model. For firms investing in non-R&D based innovation, the increase in corporation tax rates, followed by decisions in the 2007 Pre-Budget Report to abolish Capital Gains Tax taper relief, are eVectively “anti-innovation” measures that will discourage longer-term investment and risk taking by small firms. 52. Despite all of this, the real impact of the R&D tax credit is already starting to be seen in individual firms, but the nature of this impact varies considerably. Those whose business is centred around high R&D intensity activities have benefited extensively. Some have focused on using the credit to oV-set their tax liabilities while also investing in growth—thus making the UK an attractive place to invest. For many, the tax credit has helped to stimulate investment in technologies through internal development, spin-outs, acquisitions and collaborations. For others it has been a significant factor in influencing where to do R&D in the face of other global opportunities—helping to maintain R&D in the UK, a factor that we suggested would be critical when the tax credit was being developed. Some firms have said that receiving an R&D tax credit can even help demonstrate that they are meeting some of their corporate social responsibility aims: the tax credits acting as an external validation that they do invest in R&D, and that they are a responsible firm developing for the future and can thus provide better career prospects. 53. The Treasury document of July 2005, “Supporting Growth in Innovation: enhancing the R&D tax credit” recognised three principles in the introduction of the credit system: simplicity, consistency and certainty.HMRC have taken time to deliver on these principles, which has contributed to the delayed impact of R&D relief on UK businesses: Simplicity: A significant process change was required within large organisations to capture appropriate data for a valid claim. The process change has taken time to put in place and agree with HMRC. Better help and guidance for firms has also taken too long to materialise and we have yet to see its impact on take-up rates. Consistency: It has been clear from the outset of the regime that there have been diVering approaches to claims by local inspectors. The changes within HMRC, with the introduction of client relationship managers (CRMs) for large companies, have begun to improve the consistency of the approach. Certainty: The certainty will come with experience and confidence of both HMRC and the Taxpayer in applying the regulations. The relief is still relatively new in comparison with other regimes, like Canada. It will take time to provide the certainty. Currently, some firms report that they purposely exclude more applied development work from their claims -even though such work is likely to be valid- simply to make it more certain that their claim will be accepted. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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54. Overall, the R&D tax credit may not be an incentive for the short term, but with more certainty and continuity of the legislation, business will be able to work the relief into its long term strategy and it will increasingly stimulate innovation in parts of the UK economy where R&D is an important factor. We welcome the fact that both Ian Taylor’s STEM Taskforce report for the Conservative Party and Lord Sainsbury’s review of science and innovation for the Prime Minister both gave their support for continuing with the R&D tax credit.

Q7. The progress that has been made on university/business co-operation and knowledge transfer since the publication of the Lambert Review in December 2003 55. Progress has been good and the positive trend is continuing. Collaborative research between business and public funders is now valued at just under £600 million, a 12% increase from 2004–05. Overall, UK higher education institutions (HEIs) received £2.25 billion in 2005–06 from business and community interaction, a 7% rise from 2004–05. The number of full-time equivalent staV dedicated to engaging with commercial partners also rose by almost 28%. Some of the other key figures for 2005–06 from the Higher Education Business and the Community Interaction survey run by HEFCE are:

Engagement with business 2005–06 income Consulting income from business £115m Collaborative research income £595m Equipment and facilities services £89m Contract research income £651m Short bespoke course on companies’ premises £80m

56. CBI Innovation surveys have also shown rising levels of business-university engagement over time, with around three-quarters of the most innovative firms reporting innovation-related links with universities in the UK. 57. In our input to the Sainsbury Review, we made the following broad observations on progress since the Lambert Review: — A code of governance has been developed and adopted by all UK universities. — The “third stream” of funding has been made permanent. — Guidance material and model contracts have been developed to cover intellectual property issues in five diVerent collaborative and contract research scenarios, and these are now being used by a wide range of firms and universities. A further set of model agreements covering consortia arrangements are under development. The initial set of model agreements are now even being used by at least one firm in making academic links in China and the UK Intellectual property OYce is working on taking the ethos of the Lambert Agreements and translating them into model agreements for business-business collaboration. — HEFCE has announced a £60m/yr fund for user-focused research within the QR stream. This is a good start along the way to the £100–200 million business-relevant research fund proposed by CBI at the time and recommended in the Review. — Developments with the RAE post 2008 now look set to enable user-relevant research to be valued appropriately. — RDAs and the Devolved Administrations are taking an increased role in facilitating business- university links. In particular, steps are being taken to engage businesses that had not previously made connections with universities—for example with the INDEX innovation voucher scheme for SMEs coordinated by Aston University and funded by Advantage West Midlands, ESRC and EPSRC. We would argue that this scheme should be rolled-out nationally as part of the general package of business support delivered by the RDAs. 58. It is also worth highlighting that the UK now has an Institute for Knowledge Transfer (IKT), launched in May 2007. This provides a focus for the ongoing training and development of knowledge transfer professionals from business, universities, government agencies and elsewhere. Shared experience and training on all sides should help to create a shared understanding, create networks, help break down perceived or real barriers to knowledge exchange and bring partners closer together. While not a direct recommendation in the Lambert Review, establishment of the IKT followed discussions and links made by partners in responding to the Review. 59. There was a welcome announcement in the 2007 Pre-Budget Report that the Higher Education Innovation Fund (HEIF) will be increased to £150 million over the next three years, in line with a Lambert Review recommendation. 60. The advent of HEIF has certainly helped to accelerate the rate of exploitation of some university IP. It is clear however that it is predominantly the “early adopter” universities that have made the most significant use of the available funding. More needs to be done to aVect cultural change within some of the Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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others. This will only be achieved by having a greater proportion of funding linked to exploitation of research in future years and we have suggested that HEIF metrics should better reflect actual levels of activity. For example: active knowledge transfer engagement with SMEs; R&D income from business, and repeat income; and that HEIF should also reward “in-kind” engagement not usually captured by bald income figures, but which can have a significant impact on business innovation. 61. Similarly the issue of business working with universities on R&D is another requiring a degree of cultural change. The present systems for government funding of collaborative R&D appear to work well in fostering co-operation, principally because of the longer (2–3 yr or longer) time frames for the projects. This fits well with university timescales for recruitment of students and publication of papers. What seems to work less well is the requirement for a faster turn around and perhaps more focused piece of work which many firms, in particular SMEs, frequently need. Universities are less well geared up to support short-term activity as this most often has to be conducted by more senior staV. For example, in the North-West, the “Knowledge NW” programme, which aimed to provide short-term consulting activity from universities to SME’s, encountered diYculties due to a general lack of interest from academics in short-term interactions with business. 62. The North-West is not alone, it appears to be a general problem that, with high teaching and admin loads and the need to conduct academic research that will score well in the Research Assessment Exercise, senior academics have less and less flexibility to engage in other knowledge transfer activities. 63. Given the nature of the UK economy, more eVort also needs to be put into examining the extent and nature of engagement between service sector businesses and universities, whether this would benefit from further support, if there are specific barriers that need to be removed and whether diVerent metrics and mechanisms for knowledge transfer are required. 64. Often the initial problem for firms facing innovation challenges is knowing where to turn for help and whether they need to make connections with other firms or if there might be a solution they could use in a university.And the challenges only get worse if the solution lies in a diVerent discipline to the ones with which the firm is familiar and, in particular, if they need to be assured of strict confidentiality to protect ideas. In these circumstances, knowledge transfer could be greatly improved with commercially focused intermediaries acting as an intelligent and independent link between universities and firms. Examples of this already exist with the Innovation Advisory Service pilot funded by SEEDA and with the Birmingham University-based Innovation Exchange. The success of these ventures should be monitored to establish if they could be replicated elsewhere, either through support from HEIF or as part of the business support package provided by the RDAs.

Q8. Whether business and government interpret innovation too narrowly

65. The important issue is not so much interpretation as the consequences of disregarding examples of innovation which should be recognised; focusing primarily on R&D as the main indicator of innovation misses other valid inputs such as design, ergonomics, marketing-related innovation, investment in ICT, and training. These are often of particular importance in the “servicisation” of technology: transforming technology into a workable service oVering. 66. Many of these aspects involve just as much investment and just as much risk as investment in R&D and, as with R&D, there are often tangible spill-over benefits to competitors and other parts of the economy that the firm making the initial investment is not able to fully capture (in other words, market failure where there is a good case for appropriate government intervention). For example: modelling of aircraft movements may increase eVectiveness at one airport, but can easily be copied by others; internet banking was a major risk for the early players, but now virtually all banks have followed suit. 67. The question that should be asked is whether the government does enough to support business innovation as a broad theme, rather than just business investment in R&D. We would argue that the government should be much more focused on innovation, understanding the real innovation needs of business, and barriers to innovation, in diVerent sectors and helping them invest in growth appropriately. The Sainsbury Review, with its recognition of an innovation ecosystem in the UK, at least now demonstrates a real willingness to consider innovation more broadly.

Q9. What the government can do to further promote higher value-added business activities and innovative thinking among UK businesses

68. As mentioned previously, the UK’s future is unlikely to lie in the low cost commoditisation phase of technology take-up, but, with the right support, it could make a real impact in the global market for high- value early stage development and adoption. Addressing the demand-side for innovation is now critical for this to be achieved. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Public procurement 69. In 2005, manufacturing (as traditionally described -see HoC T&I Committee recent 5th report on manufacturing skills) accounted for 13.6% of national GDP. This is about the same as the share of GDP accounted for by public procurement in the UK. In total, public procurement in the UK was worth around £150 billion in 2003–04 and, if a portion of this could be used to purchase innovative solutions, it could provide a major incentive for further business investment. 70. In Finland, the report of the Competitive Innovation Environment Development Programme of the Finnish National Fund for R&D (SITRA) in 2005 on “Making Finland a leading country in innovation” recommended that a proportion of the appropriations granted to diVerent branches of government be allocated to innovation and development activities; and that innovativeness be included among the criteria for public procurement decisions and competitive bidding by central and local government. 71. We would welcome a similar degree of commitment in the UK. 72. In our 2006 CBI/QinetiQ report on innovation and public procurement, we recommended that public procurement should be transformed to embrace, and act as a driver for, innovation. The UK should help to create lead markets, actively support technology demonstration and, in general, become a more intelligent customer for innovation. 73. A key development in this would be for the Technology Strategy Board (TSB) to be transformed into an ARPA-like body (similar to the Defence Advanced Research Projects Agency in the US) at arm’s length from government and tasked with investing in the acceleration of technology development –in particular linked to solving major UK challenges that could lead to innovative solutions feeding into public procurement. 74. The process of creating a mission-oriented TSB as we proposed is now underway. Lord Sainsbury’s review made very welcome recommendations on the new co-ordination and leadership role to be played by TSB and we are now looking for it to make a real impact on technology development and demonstration in the UK. However, we are still concerned over the level of funding available to the TSB, which (at £1 billion for three years- about 1/3 of which is money recycled from RDA and Research Council projects) is about half the level we proposed. To maximise its impact, it will now be critical for the TSB to match these funds with investment from other government departments, agencies and the wider public sector in the pre- commercial procurement of innovation. Further comments on the TSB are made in answer to Q11. 75. Other recommendations in the CBI/QinetiQ report on innovation and public procurement are also still valid: — Innovation incentives (for staV, to encourage and reward long-term performance) and stretch targets should be introduced in public procurement. — Outcome-based procurement should be made a reality, with better signalling of the real procurement needs (and broader government intentions over the long-term) so that potential suppliers can be involved at an early stage in developing solutions. — Procurement on the basis of whole life value should become the norm. — A rational approach should be taken to sharing IP rights between those funding and those developing innovative solutions for public bodies. — All those involved in public procurement should take the opportunity to share and learn from best practice. 76. The Cox Review of Creativity in Business 2005 –to which the CBI made a major input- also made key recommendations on innovation and procurement: “The approach to public procurement, both for central government and local bodies, should be adapted (in the ways listed below) to encourage more innovative solutions from suppliers: — Allow and require more discussion pre-specification. — Identify project needs more holistically. — Improve purchaser capability through better training. — Take into account the impact on future supplier capability. — Help smaller innovative companies to bid. — Require the NAO and the Audit Commission to monitor innovation. — Define accountability for central government implementation.” 77. Since those two reports, the government has committed to addressing public procurement as a priority, accepting points made by the CBI and others in the HM Treasury report “Transforming Public Procurement” (January 2007). We welcome this and look forward to significant progress being made, but do not underestimate the scale of change required. The government now needs to demonstrate real vision and ambition in using procurement, regulation and other demand-side drivers to boost the UK’s innovation performance. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Business support products 78. The CBI has contributed to the on-going BERR review of business support products—the Business Support Simplification Programme (BSSP). 79. Overall, we have advocated a more holistic approach to innovation support that focuses on all aspects of business growth and development through innovation. Firms should be able to make a single application for support that is actually aimed at addressing their business needs—for example: support that covers training, collaborative work, R&D finance and general or specific development advice in one flexible package, rather than having to make separate applications for each aspect. 80. For the innovation products under consideration we have suggested that it would be acceptable to “raise the bar” slightly higher for firms wishing to access this sort of coherent and holistic innovation support if it meant that more substantial support could be provided to those that do gain access. Research by the Centre for Business Research at the Cambridge-MIT Institute indicated that very small high-tech firms in the UK are twice as likely to receive government support as similar firms in the US; but US firms that do receive support get nearly five times as much as their UK counterparts. The UK system can be characterised as “spread it thin”, but with little impact. The US approach is much “lumpier”: some firms do not get support, but where funding and support is made available it can really make a diVerence, helping firms to grow and underpinning further investment in innovation. The CBI/QinetiQ innovation survey in 2005 showed that although 25% of respondents used government initiatives and grants as a source of finance for innovation, only 3% rated it as the most important source—again, suggesting that the BSSP exercise must look at the likely impact of government measures, not just their coverage. 81. For additional comments on the Manufacturing Advisory Service, see the response to question 4.

Q10. The impact of nationality of ownership on the location of research and development work

82. This issue has attracted a considerable amount of interest, but it is diYcult to draw firm conclusions. 83. The OECD Science Technology and Industry Scoreboard 2005 collected figures on the internationalisation of R&D, and found that, “R&D performed abroad and by foreign aYliates represents on average well over 16% of total expenditure on industrial R&D in the OECD area. In most OECD countries, the share of foreign aYliates in industrial R&D is increasing. In the United Kingdom, Canada and Ireland, it currently exceeds 35%.” 84. R&D intensity (defined as R&D expenditure as a share of value added in industry) of aYliates under foreign control and R&D intensity of domestic firms in various countries was also compared (see table below). For the UK, the foreign:domestic R&D intensity ratio is approx 0.6 (firms in foreign ownership have an average R&D intensity of 0.7%, compared to 1.2% for UK-owned firms). This ratio is fairly similar to that of Sweden, the Czech Republic, Canada and Australia, but the ratio is much higher than for Japan, France, Germany, Netherlands, US or Finland, all of which have higher levels of R&D intensity in their own firms and lower intensity for foreign aYliates. In only a very few countries (eg Ireland and Hungary) is R&D intensity higher in firms under foreign ownership. In other words, by comparison with the situation in most large developed countries: — the propensity of foreign aYliates in the UK to conduct R&D in the UK is quite high, and — the propensity of UK-controlled firms to conduct R&D is only average—although even in the UK, domestic firms tend to do more R&D than foreign aYliates.

Average R&D intensity: Firms controlled by the AYliates under Intensity ratio: compiling countries (%) foreign control (%) foreign/domestic Canada 0.93 0.47 0.51 United States 2.21 0.36 0.16 Japan 2.91 0.10 0.04 Australia 0.51 0.36 0.72 Finland 2.90 0.48 0.17 France 1.71 0.41 0.24 Germany 1.67 0.55 0.33 Greece 0.27 0.01 0.05 Ireland 0.37 0.69 1.87 Italy 0.51 0.25 0.49 Netherlands 1.65 0.40 0.24 Portugal 0.29 0.13 0.45 Poland 0.16 0.02 0.11 Spain 0.48 0.22 0.45 Sweden 4.43 2.74 0.62 Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Average R&D intensity: Firms controlled by the AYliates under Intensity ratio: compiling countries (%) foreign control (%) foreign/domestic Turkey 0.23 0.03 0.12 United Kingdom 1.15 0.70 0.61 Hungary 0.08 0.30 3.64 Czech Republic 0.59 0.45 0.77 Slovak Republic 0.39 0.11 0.29 OECD Science Technology and Industry Scoreboard 2005 (based on data for 2002 or nearest available year)

85. It seems then that the UK does at least a reasonable job of attracting foreign-owned firms that then invest in R&D in the UK. There is no one single reason for this (compared to the very low rates of corporation tax often cited as the key reason underpinning investment in Ireland), but rather this is likely to be due to the combined eVect of a range of factors including: access to skills, access to markets, location adjacent to Europe, the R&D tax credit etc.

86. The DTI R&D Scoreboard 2006 notes that “The top ten foreign–owned UK companies account for just over half of the £4.4 billion of R&D performed by foreign–owned UK companies. Eight of these 10 have higher R&D intensities than their overseas parents and this emphasises the attractions of the UK as a location for R&D.”

87. A recent (2005) survey by Arthur D Little, commissioned by the DTI’s OYce of Science and Technology, found that: “As in other well-developed countries, firms under foreign control are generally less R&D intensive than UK based firms. However, foreign firms in the UK appear to be relatively more R&D intensive than foreign firms based in other G7 countries.”

88. It also found that “In terms of the international exploitation of technology, the UK has a positive Technology Balance of Payment and its surplus expressed as a percentage of its GDP is the largest of all the OECD countries”. This is illustrated in the table below:

High level of technology trade as % Low technology trade as % GDP (both receipts & payments) GDP Positive Technology UK US, Canada, France, Japan Balance of Payment Technology Balance of Germany Payment Deficit

89. Among the report’s conclusions was the claim that: “Overall, the literature suggests that countries with strong national technological capability are likely to benefit from the trend toward technology sourcing motives for [multi-national enterprises] internationalising their R&D resources. There is some evidence that R&D investment by foreign multinationals have [sic] made a strong contribution to UK productivity growth through technology transfer.”

90. On the broader subject of innovation, rather than R&D, the CBI Innovation Trends Survey in 1998 concluded: “Foreign Firms in the UK were more likely to take a positive approach towards the exploitation of novel technology and process innovation than UK ‘internationalised’ firms (ie UK businesses with business units or subsidiaries overseas). UK ‘internationalised’ firms were more likely to take a positive approach to supply chain driven innovation than either foreign firms in the UK or UK domestic firms. UK domestic firms were the least likely to exhibit any of the four categories of innovative behaviour identified.”

91. On a diVerent aspect of this subject, the recent OECD China report argues that “there is no evidence so far that R&D investments in China substitute for investments in home countries. They are merely additional and would not take place where expected private returns would be lower. They help to increase the global stock of knowledge by engaging more brains in more eYcient cross-borders innovation processes.”

92. The CBI believes that it is the UK’s interest for this country to continue to be an attractive place to do R&D and innovation more broadly, with network benefits to all concerned. Currently the UK competes well for foreign R&D investment—better than almost all other OECD countries—and this is something that we should seek to maintain. As discussed earlier, the low to average overall R&D intensity performance of the UK is significantly influenced by the make-up of our economy, but we recognise that at least in some sectors, UK-owned firms could invest in R&D at higher rates. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Q11. The eVectiveness of machinery of government arrangements in encouraging innovation and creativity

DIUS 93. The CBI has welcomed the creation of a new department (DIUS) which explicitly takes responsibility for innovation, and has also welcomed the explicit inclusion of universities and skills in the same department. However, the separation of innovation from business (which is the responsibility of BERR) gives grounds for caution and we note with concern that only £0.3 billion of the DIUS budget is currently allocated to innovation (primarily support for the TSB) out of a total budget of £18.3 billion. 94. Demonstrating the economic focus of DIUS is of critical importance, as is ensuring the robustness of links between DIUS and BERR. 95. It should be borne in mind, however, that government “innovation policy” per se is certainly not the only, and not usually even the most important, driver of business investment in innovation. To create a thriving “ecosystem” for innovation in the UK, the government must also consider the impact of its other “non-innovation”, policies such as planning, transport, procurement, health, defence, energy, tax, and for the longer-term in particular- education policy. Across the policy spectrum the government must ensure that it creates the right culture and market for investment in innovation. 96. People will be critical to this. We need engaged people with the right skills and experience in maths, science, technology and engineering, but also in design, marketing, knowledge transfer, social sciences, entrepreneurship and the management of innovation. An eVective ecosystem is one that encourages the public sector, private sector organisations and individuals to invest in innovation. 97. Other CBI priorities for DIUS are: — Making innovation a core part of public procurement culture (which will entail DIUS working much more closely across government to help realise change). — Improving the supply of individuals with STEM-skills. — Securing a critical mass of funding for the Technology Strategy Board (TSB), which we estimate needs to be at c. £625m/year, rather than the c. £300m/year recently announced (see below). — Giving adequate recognition to the fact that higher education institutions contribute to the economy not only through their educational role, but also through research, consultancy, providing opportunities to use facilities or equipment, technology transfer, spin-outs, and in other such ways.

The Technology Strategy Board 98. The establishment of the TSB as a Non-Departmental Public Body at “arm’s length” from government is welcome, as are the recommendations on TSB development made in Lord Sainsbury’s review. The TSB should be able to create close links between the science base and industry and to assume a new leadership and co-ordination role, promoting new innovation platforms and more collaborative research. Our key priorities for the TSB are: — Funding: annual funding in the order of £625m/yr is appropriate, allowing the TSB to fund a substantially increased amount of collaborative R&D in priority areas and to establish (and fully fund) a range of new innovation platform initiatives (major technology demonstration and proof of concept activities that seek to bring a wide range of public and private stakeholders together to address key challenges for the UK). We have suggested £625 million to place TSB funding on a par with funding for the EPSRC. This would provide £300 million per year for collaborative research programmes (which are already two to three times oversubscribed), £300 million for innovation platforms, with the remainder for Knowledge Transfer Networks, strategy activities, pilot projects and staYng etc. — Ambition: the TSB must be ambitious, supporting radical as well as incremental innovation, taking the lead to build a critical mass of internationally competitive technology-based activity in the UK. — Coordination: the TSB should provide the focus for technology development and demonstration funding and activity, linking in to the RDAs, Devolved Administrations, Research Councils, Government Departments and Agencies. — Business focus: it is paramount that the TSB should continue to be business-led and should focus on addressing real user needs, bringing businesses, universities and other partners together to help develop solutions. — Procurement: the TSB should play a central role in the pre-commercial procurement of innovation for public customers, helping them to become early adopters of new ideas and providing lead markets that will, in turn, drive further investment by business. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Regional aspects 99. A diVerent issue is raised by the engagement of the RDAs and Devolved Administrations in innovation: although diversity is a consequence of these bodies’ existence, and they are naturally concerned with their territorial focuses, problems can arise as a result. 100. Our key concerns are that: — Most successful businesses do not operate solely within individual political boundaries so the conditions they face and the support they can access should not vary arbitrarily across these somewhat arbitrary regional or political boundaries. Business should be able to access the support it needs no matter where it is based in the UK. — There needs to be a consistency of approach to support for business investment in innovation and growth across the UK, but with regional “flavours”. This does not mean reinventing the wheel in each region, but the regions taking a view on how to balance support across a portfolio of nationally agreed schemes according to their regional needs. — There should be coherency between national and regional approaches. — RDAs, while often having market awareness, often lack full appreciation of the needs of business. One common problem is investing in technology parks where business might not want to invest— the danger is that these then become real estate-led activities rather than knowledge based economy-led initiatives. A greater awareness of logistics and other operational factors aVecting business would go some way to addressing this issue. — The UK should strive to create activity of a critical mass that will make us competitive on the world stage. This may mean diVerent regions taking the national lead on a specific aspect of innovation or technology focus, with other regions as active partners rather than competitors for investment and development. October 2007

Supplementary memorandum submitted by the CBI 1. As the UK’s leading business organisation, the CBI speaks for some 240,000 businesses that together employ around a third of the private sector workforce, covering the full spectrum of business interests both by sector and by size. 2. In the light of turmoil in global financial markets and the subsequent onset of an economic downturn, this evidence is intended to supplement the written evidence the CBI submitted to the Committee in November 2007.

Current Economic Conditions

3. Prospects for UK demand and output have been dealt a heavy blow over the last month. We expect the banking crisis to dramatically accentuate three processes which were already in train before the latest deterioration in financial market conditions: tightening in credit conditions, falling wealth and declining business and consumer confidence. 4. Credit supply has tightened further as bank funding becomes more expensive and risk premia rise. Over recent weeks our members have become increasingly concerned that their working capital would dry up. This would have dire consequences for UK business, but the bank rescue plan has helped to reduce the risks of this eventuality. Nevertheless, longer-term bank and non-bank finance for the household and corporate sector has become increasingly scarce. Even before the most recent bout of financial market turbulence, the impacts on property markets and building plans were dramatic, while we had seen some limited evidence of companies cutting back on investment plans as a direct response to external finance constraints. We can now expect further retrenchment in corporate investment plans and cutbacks on other costs (including employment) as firms are unable to borrow their way through the downturn as in other slowdowns over the last decade. 5. Until September, equity markets had ridden out the financial crisis remarkably well. FTSE 100, for instance, was down 17% on the peak in June 2007 at the beginning of the month. However, since then FTSE 100 has tumbled by a further 25% as markets factored in a weaker economic outlook and forced sales gathered pace. These falls add to the credit tightening eVect by make equity finance very hard for cash- strapped companies struggling to borrow from banks and capital markets. More importantly, they represent a substantial knock to household wealth. To the extent that falls are seen as permanent, households can be expected to adjust their savings behaviour to rebuild balance sheets. A sharp rise in the savings ratio and hence reduction in consumer spending is a major risk to the economic outlook. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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6. Both consumer and business confidence have already taken a hit over the last year, but will have been dented further by events over the last month. As consumers become more worried about prospects for their jobs, incomes and access to finance, they will be more inclined to rein in their spending. For businesses, concerns about future demand and access to finance reduce the incentive to invest and put added pressure on the need to reduce costs. 7. It is extremely hard to quantify the impact on demand and output, not least because the situation in financial markets is far from static. One recent estimate of the consequences by the National Institute of Economic and Social Research suggests UK GDP growth will be over 1% lower in both 2009 and 2010. Clearly much depends on future developments in financial markets. Since the rescue plan, we have seen spreads on Bank credit default swaps fall sharply, suggesting that fears about the survival of banks have been allayed. And although money markets remain extremely stressed, there have been tentative signs of improvement. 8. While the rescue plan looks like it is succeeding in its aims, we believe that the damage to the real economy has already been done. Even though the recapitalisation plan will ease the pressure to deleverage, credit supply will remain extremely tight. The terms of the rescue plan ensures that funding guaranteed by the taxpayer will not come cheaply, so lending margins will remain much higher than pre-crisis levels. And there will be feedback eVects between a weaker economic outlook, a rising defaults and tighter credit conditions. We are hopeful that, in time, some degree of confidence will return to financial markets, households and businesses. But for now risk aversion is the order of the day and the consequent pull back from spending means a sustained period of weakness in the real economy. 9. Aside from the negative eVects on aggregate demand and output, there will undoubtedly be other, more permanent, eVects on the business community. Clearly the UK financial system has already changed radically. Even when the economy emerges from recession, we do not envisage a return to pre-2007 credit conditions anytime soon. This may have adverse consequences for business formation, investment and innovation.

Banking 10. Following a collapse in the US sub-prime mortgage market in early 2007, many banks were forced to write-down the value of their investments in asset backed securities. Worries about the health of banks led to a squeeze on liquidity in the wholesale markets, with LIBOR rates rising significantly and the disappearance of the securitisation funding markets. This led to significant funding issues for the banking system and a gradual seizing up of the money markets. Casualties of this included Northern Rock and HBOS in the UK, and Bear Stearns, Lehman Brothers, Merrill Lynch and AIG in the US with both Goldman Sachs and Morgan Stanley converting to bank holding companies to access the US Federal Reserves’ funding options. 11. With the global financial system on the brink of collapse, governments around the world took co- ordinated action to support the financial system, with a package of options including re-capitalisation, liquidity and funding support and guarantees of inter-bank lending.

Government Response 12. The government’s support package was aimed at unblocking the financial markets, and includes re- capitalisation (together with dividend restrictions at the current time); liquidity support; and guarantees on inter-bank lending. — Re-capitalisation of banks—the enforced re-capitalisation of banks has led to the need to reduce dividends and to increase capital. Consequently firms may be less willing and/or less able to invest in innovation. As recognised in the original CBI submission paper the Banking sector has been a significant investor in innovation (through IT and software, systems, design and marketing and innovation-related training); — Guarantee packages for inter-bank lending—it is hoped that the availability of governmental guarantees on inter-bank lending should encourage the money markets to start working more eYciently again and encourage lending to the wider business sector. This lending is an essential pre-requisite for adequate corporate funding to provide investments in the value-add economy; — Lending at 2007 levels—part of the government package is a commitment to encourage banks to return availability of lending to 2007 levels consistent with commercially responsible lending practice. Since areas of the ‘value-added’ economy are potentially “asset-light” then the provision of good lending collateral may be restricted with a consequential impact on the accessibility of funding; — Banking is a key area for recruitment for STEM graduates—in recent years it has been a source of frustration amongst hi-tech companies that the numbers of STEM graduates has fallen and that they have pursued careers in the banking sector. Given the recent fall-out in the financial markets, one beneficial outcome might be an enhanced ability to attract STEM graduates into hi-tech companies as the attractiveness of the banking sector reduces. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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What more can be done? 13. Cyclicality—regulators and governments alike can aim to reduce the impact of cyclicality,particularly in the lending and business sector. The objective is that such measures should not be pro-cyclical over the course of an economic cycle. 14. Financial regulation—there continues to be a focus on whether a more “rules based” regulatory approach needs to be introduced and that the current “principles based” regime has been shown to be flawed. The CBI argues there is a need for better targeting of regulation rather than more rules per se. 15. Reputational and regulatory spill-over—the financial crisis has up until now been confined to the financial sector, but there is a real danger that the spill-over eVects onto the real economy tar the wider business community with the same brush. It is essential that the key concerns being raised about the financial system do not lead to unnecessary burdens on the wider business community.

Manufacturing 16. When the credit crunch first sent shockwaves through the city, manufacturing proved resilient and even enjoyed a brief resurgence, with orders buoyed by healthy export demand in Europe and the Far East. This has been especially true for higher value added manufactured goods which have outperformed the manufacturing average over the last five years, together accounting for almost 60% of UK manufacturing output. Particularly strong growth can be seen in transport equipment, mechanical equipment, medical and precision instruments, other non metallic equipment and recycling, which have expanded between four and ten times the average. 17. But that euphoria soon faded as the euro-zone economies—the destination of half of Britain’s goods exports—slowed. Despite sharp falls in the value of the pound, eVectively making British products cheaper for buyers overseas, export business fell at the fastest rate for seven years as a measure of the impact of the slowdown in the global economy. To make matters worse manufacturers were hit particularly hard by a sharp decline in domestic demand for manufacturers’ goods aVected by the downturn in the credit, housing and construction markets, which led to an increase in customers cancelling or delaying orders. This was aggravated by a massive surge in input prices over the summer that squeezed margins and consumer real incomes. Unit cost growth soared to the highest rate since 1980, propelled by a 35% rise in the price of oil from April to July. 18. The current economic downturn will have an impact across the manufacturing sector not just due to weakening demand both domestically and abroad, but also from the availability of finance for future innovative investments. 19. The CBI latest Industrial Trends Survey shows planned expenditure on product and process innovation and training, both vital to future higher value added manufacturing, has turned negative for the first time in three and six years respectively. Higher value added manufacturing in a high wage economy requires increasing the price through brand association, improved quality, innovative features, faster delivery and higher specifications. All these elements require constant investment in innovative products, processes and skills and so evidence of these weakening will damage progress towards a higher value added economy. 20. Innovation will help determine how quickly companies can recover once the upturn gets under way. Product improvement will accelerate the rate of cost savings and improvements needed to maintain competitiveness in an even tougher market place. The role of the UK in the global manufacturing industry will depend on its comparative advantage and ability to compete for internationally mobile investment. The current global downturn will only reinforce the need to move up the value chain in order to capture a shrinking global market.

Government Response 21. The CBI is pleased that Government policy now recognises that modern manufacturing does not equate solely to the production process but includes a far broader value chain from basic R&D to service provision, and that each stage has the potential to be a “high value” activity. 22. The Manufacturing strategy recognises that businesses that manufacture have evolved and so has the global environment they operate in. This presents not only challenges but opportunities that business and government need to work together to face in order to maintain and grow a competitive manufacturing base. In addition it is right that the Strategy recognises the importance of a sustainable and mixed economy of the future that the UK needs. 23. Issues such as skills and image are as fundamental to the future success of manufacturers as technology exploitation and the emerging low carbon economy. The announcement of a Manufacturing Insight body to promote the reality of manufacturing companies in the 21st century to the media, public and young people and simplification of the skills network are particularly welcome if we are to continue to move up the value chain. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Skills 24. Business recognises the importance of a skilled workforce to remain competitive in the current economic climate and to be well placed to capitalise on opportunities in the future upturn. But at present firms will be evaluating training decisions more carefully in terms of the cost of training, the impact on staV absences, and critically whether the training will improve business productivity.

Government Response 25. It is important that the Government provides appropriate support for firms—particularly through flexibility in the publicly funded skills system—to ensure continued investment in skills training. 26. In the short term, the CBI has called for greater flexibilities for employers within Train to Gain and Apprenticeship programmes, and a particular focus on supporting SMEs. On apprenticeships there is a need to further cut red tape for all firms, with Government taking steps to eliminate all unnecessary bureaucracy by the end of 2008. SMEs could be further supported through financial assistance for Group Training Associations, wage subsidies and incentives for large firms to “overtrain” apprentices for their supply chains. 27. The Government’s recent announcement of flexibilities within the Train to Gain programme for SMEs was a welcome step—and Ministers should consider extending these flexibilities to all firms. While employers have always supported the demand-led principles of Train to Gain, and the funding support available, there has often been a mismatch between funding support (with a focus on “first full Level 2 qualifications”) and employer’s skills needs. The new flexibilities should begin to address these issues for some firms and focus the programme on firms’ immediate skills needs. The increased support for Level 3 qualifications is welcome as the competitive skills needs of employers are often beyond the basic level; furthermore funding for units of training—as opposed to whole qualifications—will allow SMEs to target training on those units which most clearly deliver their skill needs, while shorter courses will be easier to fit around the day to day running of the business. October 2008

Memorandum submitted by Coventry University

1. Summary 1.1 Coventry University is a business-facing university with a strong history of helping companies become more eYcient and eVective. 1.2 A vital area for the creation of modern, high value-added economy is the development of interoperability—ie the ability of companies to work together to produce flexible and agile supply chains which meet customer requirements. 1.3 Much good research and innovation has taken place in this area, particularly using European funds. 1.4 The clear future direction is to move beyond interoperability for data transfer into interoperability for knowledge transfer. This provides the key for a higher value-added economy. 1.5 The principles of DTI innovation funding for networked enterprises has not yet reached this point and lags behind. 1.6 The R and D tax credit is problematic for most SMEs and needs to simplify and rationalize the business-related contributions to research project funding costs and the R and D tax credit system. 1.7 The Government needs to reassess the aims and operations of its innovation funding for networked enterprises in order to encourage the next generation of interoperability.

2. Coventry University—Making Research work for Business 2.1 The University teaches 17,000 students and employs over 1500 people, including approximately 750 full time academic members of staV. It has a turnover of approximately £130 million. 2.2 Coventry University has a long tradition of undertaking training, applied research and consultancy to meet the needs of local, national and international clients in the public and private sector. Founded as an industrial University it originally focused on the needs of major multinational manufacturing companies who were based in the local area. The University has worked with a diverse range of public and private sector clients on numerous projects. 2.3 As a business-facing University, we have expertise and experience in helping SMEs and large multinational manufacturers and other businesses become more eYcient and eVective. This ranges from research and consultancy in design, engineering, lean manufacture and value chain logistics. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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2.4 We are one of the leading universities in Europe for research in to interoperability for virtual manufacturing (ie the ability of diverse systems and organizations to work together). We have been a leading player in European consortiums to develop the techniques, methods and software to allow virtual supply chains to design, manufacture and distribute products quickly based on rapidly changing customer demand. 2.5 These new virtual supply chains are the future of manufacturing in the UK with independent high value companies delivering their element of a complex product through a high degree of interoperability in processes and systems. Our evidence concentrates on the requirements to develop interoperability as a key element of creating a high value-added economy.

3. What is meant by a high value-added economy?Which business activities qualify as such? 3.1 The last 2 decades show a clear trend in business. There is a move away from big, comprehensive organisations which can cover all stages of a value-creation chain. There has also been a shift from long- standing, well-established, supply chains, stable over many years. In their place is the establishment of companies which increasingly focus on their core business and core competencies and now enter more often, and in a much more agile manner, into flexible alliances with other companies for value creation and production. This can be: — in areas like the automotive industry which traditionally has strong relations between supplier and original equipment manufacturer (OEM). A faster clock speed of markets and technological innovation now demands more flexible configuration and re-configuration of supply-chains. — in typical “knowledge businesses” such as consulting, software engineering or any kind of research where freelancers, small and specialised companies or outsourced, oVshore and nearshore partners form project-specific new coalitions for creating a customer-specific knowledge-based product or service. — in relatively new branches like life-sciences and biotechnology which exhibit new market and organisation forms where technological progress is based on many, small, research-based companies in co-opetition12 relationships which require flexible, ad-hoc and temporary co- operations. 3.2 These are clear examples of areas where interoperability can create high value-added economic activity.

4. The effectiveness of existing government arrangements in encouraging innovation and creativity. 4.1 This growing demand for flexibility with interacting and eYciently integrated businesses and services has already led to a huge amount of scientific and technological work in enterprise interoperability, in particular in the ICT (Information and Communication Technologies) area. European research and technology has managed this work so as to be in an excellent position regarding developments that have helped organisations to work together more eVectively, for instance: — Web service technology to allow easier (semi-)automatic (re)-configuration of cross- organisational, computer-based business processes. — Grid technology as the basis for flexible on-demand allocation of resources in distributed, heavily computing-oriented applications. — Semantic web technology (an evolving extension of the World Wide Web) as well as its applications for smarter versions of the above (Semantic Web Services, Semantic Grid technology) in order to achieve higher degrees of automation, better automatic data type and database schema mappings. 4.2 Although such research has already achieved promising results and has partially led to commercial products and service oVerings as well as operational, deployed applications, the achievements to date nevertheless remain at the level of data interoperability and information exchange. They hardly reach the level of knowledge integration and certainly fall far short of knowledge-based collaboration. 4.3 Seen from the business-process perspective, today’s approaches to business interoperability mainly address support processes13 (for instance, how to manage ordering and buying a given product) but they hardly support the company’s core processes (eg in the above example, making a decision about what product to buy). It is the company’s core knowledge assets that are at the centre of value creation and competitive advantage.

12 Co-opetition is a business strategy based on a combination of cooperation and competition derived from an understanding that business competitors can benefit when they work together. It is based on the concept of limited cooperation between competitors and usually arises in rapidly changing industries where companies are compelled to work together, for instance, in the face of advances by third parties. It also takes place if commonly created standards can help develop a common market with benefits for all parties or cases when products are only valuable if they can be based on or combined with others’ prior work. 13 In Business Process Management, most authors diVerentiate between core processes which directly aVect the company’s value creation in terms of products to be sold (eg product design, product assembly, etc), and support processes which provide the intra-organizational environment (eg financial management, real estate management, human resource management, etc). Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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4.4 The EC and a number of European national research funding bodies have recognised the importance of this as a research area relevant to business development, and arguably to economic survival in the face of low-wage economies’ competitiveness, in more conventional manufacturing scenarios. However, UK research funding drags a long way behind. DTI innovation funding for networked enterprises recognises this need in the field but it is 5 years too late and by its very nature fails to recognise how far it is from being considered near to-market research.14 4.5 Given that the rest of Europe appears to be funding research in this area, it is rather strange that the UK lags behind in its funding of this area.

5. The impact on business of government efforts to promote research and development, including the research and development tax credit. 5.1 Many of the current funding options are not very well understood by business. The R and D tax credit is problematic for most SMEs who find it diYcult to get good advice from accountants, many of whom are more used to dealing with less complex issues from general business clients. 5.2 Government eVorts to promote research and development actually have a strong impact in reducing business involvement in these activities. EU national and EC funding contributes to the costs of businesses undertaking research; an enterprise collaborating in research work will receive a significant proportion, if not all, of the cost of a project from public bodies. The parsimonious approach adopted by UK government “activity” in the field requiring collaborating enterprises to contribute to the costs of a project incurred by the research institutions not only makes it much less likely that UK businesses will collaborate in UK research but also means that academics face a long hard struggle to convince enterprises to become involved even in EU-funded research. 5.3 We would encourage the government to simplify and rationalise the business-related contributions to research project funding costs and the R and D tax credit system. For example, it is complex enough for a SME to apply for a Knowledge Transfer Partnership (KTP) without having to go through an equally tortuous application for R and D tax credits. Trying to explain the scheme to a SME is not easy. It would be much easier to be able to say to a business “a two year project will cost you £X per year” and for the KTP administrators and the tax system to work out how much is due and credit it automatically to the project. At present these are completely separate processes this actively discourages businesses to become involved.

6. Recommendation 6.1 Creating an agile and flexible economy requires interoperability between companies and organisations to produce and distribute goods and services. These alliances are essential for the creation of a higher value-added economy. 6.2 Whilst strong progress has been made in interoperability to improve data and information exchange, far more research needs to be encouraged into the eVective exchange of knowledge. We recommend that the Government re-assess the aims and operations of its innovation funding for networked enterprises to ensure that it provides the initiative for greater advances. October 2007

Memorandum submitted by the Design Council

Executive Summary Being a successful business in the UK today increasingly means adding value rather than cutting prices. Design is an integral part of successful product and service development which enables companies to increase the perceived value of what they are oVering and releases them from the constraint of competing on price. The role of design is to unlock innovation, connect science and technology to the market place and help businesses across all sectors move up the value chain. The UK design industry is the biggest in Europe with a total turnover of £11.6 billion and has an international reputation for quality and value. The UK is a world leader in the design industry but not enough UK companies are taking full advantage of this. However, the rest of the world is catching up fast. Emerging economies like China and India are rapidly developing their design and creative capabilities. If we are to raise to the global challenge UK business have to continue to move up the value chain and develop new products and services as aggressively as to invest in high-level skills and commercialisation of our research base.

14 Li, M-S., Cabral, R., Doumeingts, G. and Popplewell, K., “Enterprise Interoperability: A concerted research roadmap for shaping business networking in the knowledge-based economy”, published by the Commission for the European Communities, 2006, 45 pp, ISBN 92-79-02437-X. Available also at http://cordis.europa.eu/ist/ict-ent-net/ei-roadmap en.htm Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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We make a set or recommendations including: — More support for design-led innovation among SMEs. — More investment in higher level skills from early learning through to professional development. — Integrate design more in science, technology and business HEIs.

1. Introduction The Design Council welcomes the opportunity to respond to the House of Commons Trade and Industry Committee inquiry into creating a higher value-added economy. There has been a tremendous progress in the promotion of design and innovation in the UK recently. As a direct result of Cox Review of Creativity into Business a design-led innovation service for SMEs, Designing Demand, is now rollout nationally and a number of new university courses and centres of excellence are emerging across the UK bringing business, creative and science/technology teaching closer together. The first of these new university schools is Design London—the RCA/ Tanaka Imperial College collaboration, which launched with a £4 million government grant in June 2007. Here we want to highlight what more needs to be done if the UK is to remain competitive in the increasingly global economy. Our views are drawn from our work in the areas of enterprise, competitiveness, skills and education developed and delivered in collaboration with businesses, regional bodies and government agencies. These include: — Designing Demand, a design-led innovation service for SMEs developed by the Design Council which is now rollout nationally in partnership with RDAs; it is estimated that by 2010 over 6,000 UK companies will be using Designing Demand to boost their competitiveness. — Industry-led Design Industry Skills Plan, developed in partnership with Creative & Cultural Skills Council; and — working with HEFCE and universities across the UK on the establishment of multidisciplinary courses and centres of excellence promoting collaboration between business, engineering and design. Our evidence is also based on the Design Council’s research into the impact of design on business performance, Value of Design Factfinder.

2. The Value of Design Design Council research shows that companies that invest in design out-perform in practically every measure of business performance including market share, growth, productivity, share price and competitiveness. Yet, remarkably, 45% of all UK companies are failing to invest in design and only 16% believe that design is critical to success. For example, the Design Council’s Design Index (2005) demonstrates that over a 10-year period, Design intensive companies outperformed the FTSE by more than 200%. Our studies also demonstrate the link between design expenditure and economic performance. The Design Council’s Value of Design Factfinder (2005–06) found that for every £100 a design alert business spends on design, turnover is increased by £225. Design as added value could include following activities: — The retail experience, for example the quality of the physical environment that customers see and experience, or the convenience of location or opening hours. — Online services such as an online order system, or information about products and/or services. — Physical services including fitting, installation, technical assistance or flexible delivery. — Customer relationships, which could be developed through knowledgeable staV or after sales service. — The design of products or services, in particular by improving quality or customising, tailoring or adapting products or services. — Developing a valued and trusted brand. — Bundling products or services to create packages. The Design Council’s latest research into the value of design, Added Value Research 2007, shows that companies that add value to their products or services are more profitable than those relying on their core oVer alone, but that companies which add value by involving designers generate even more profit. Worryingly, the research also indicates that one in five companies don’t add value beyond their core oVer; many of them believe that added value is not relevant to their business or would have no benefit. Ninety per cent of businesses oVering only their core product or service are SMEs. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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3. Global Competition Western and developing economies are moving fast to build new management capabilities in design and creativity into their business base and match them with professional capacity and skills to meet demand. For instance, India has recently launched a national design policy plan to transform its country into a global design hub and expects to control 51% of the outsourcing market for software and back oYce services by 2008; China has opened 400 design schools over the last two decades, while Singapore has invested £4 billion in its Science and Technology Plan 2010, bringing R&D investment up to 3% of GDP.15 (Design Council Magazine, issues 1 and 3.) The Cox Review, which was fully endorsed by the Treasury, said that UK businesses must launch innovative new products and services that trigger customer demand if we are to cope with strong overseas competition. It also highlighted that design skills are the key contributor to being a competitive nation and that understanding creativity should be part of equipping everyone for life and work in the 21st century. As a direct result of taking part in Designing Demand, businesses have achieved substantial sales rises, opened up overseas trading opportunities, attracted investment and shortened time to market for their technology. To date over one thousand companies have participated in the programme. Companies taking part have recorded increased sales, launched new oVerings and attracted fresh investment. They have also put in place new strategies for handling competition and launched new brands. In South Yorkshire alone the average spend of design projects within the region has increased from £2,000 to £14,000, with over £1 million having been spent on design projects. These initiatives are needed as much of the global competition is coming from rapidly growing and emerging economies, such as India, Brazil and China, intent on becoming the pace setters and innovators in the value adding industries like design. As they develop this can only become more acute.

4. Recommendations In conclusion, the findings of our research send an important and unambiguous message to UK economy as a whole: adding value through design brings market confidence and competitive advantage and reduces the need to compete on price. Businesses failing to recognise the value of design are leaving themselves increasingly vulnerable in today’s global business environment.

4.1 More support for design-led innovation among SMEs The UK is a world leader in the design industry and has an outstanding record of innovation. However, designers sometimes struggle to communicate the value of their services because clients are focused on costs and bottom line benefits and more needs to be done to support the use of design among SMEs. On government investment in R&D, we welcome the opening of new specialist R&D tax credit units by HMRC across the country making it easier for innovative SMEs to take advantage of the R&D tax credits scheme, as well as extended eligibility for SMEs, as announced in the Budget 2006. However, it is still a complex system and more needs to be done to simplify it and educate design users on how to benefit from the system.

4.2 More investment in higher level skills from early learning through to professional development We need business people who understand creativity and can manage innovation and creative graduates who can speak the language of business. Also, design students must be equipped with the business skills and the know-how to apply their expertise to a wide range of jobs. The UK Design Industry Skills Development Plan, ‘High-level skills for higher value’, jointly published by the Design Council and Creative & Cultural Skills, recommends a “360 degree” approach to skills development: improving the teaching and content of design courses in schools and higher education as well as improving professional practice. Developed by the design industry and with support across the sector, the plan oVers practical recommendations on how to ensure that the UK retains and builds on its world-class design capabilities, develop essential skills in the design industry and boost our high-level skills across the economy.

4.3 Greater integration of design in science, technology and business HEIs Building on Design Council’s Designing Demand Innovate Service, a specialist design service for technology businesses, there is a body of evidence to suggest the service could be extended into the University sector to use design thinking to stimulate innovation and help commercialise the UK’s research base. The Sainsbury Review of Science and Innovation recommended for the service to be extended to the Higher

15 Design Council Magazine, Issue 1, Winter 2006/Issue 3, Winter 2007 Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Education Institutions within key technology clusters. Design Council is currently running a pilot study with the ISIS Innovation, the Technology Transfer OYce at Oxford University, to develop proposals for how the service could be rolled out nationally.

4.4 Design needs to be a part of all major policy initiatives relating to creative industries, science and innovation, skills development, modern manufacturing and enterprise

Design Council welcomes the creation of a new department for Innovation, Universities and we are delighted to see that public investment priorities all signal the government’s view of the importance of higher level skills and the research base in driving innovation. However, separation of science and innovation from business and enterprise means that more needs to be done to enhance cross-departmental and collaborative approach to ensure that business and enterprise agenda is not removed from innovation ecosystem.

5. Useful Definitions

In the context of this submission we have used the following definitions, as described in the Cox Review into Creativity in Business and Design Council’s Added Value Research: “Creativity”: the generation of new ideas—either new ways of looking at existing problems, or of seeing new opportunities, perhaps by exploiting emerging technologies or changes in markets. “Innovation”: the successful exploitation of new ideas. It is the process that carries them through to new products, new services, new ways of running the business or even new ways of doing business. “Design”: links creativity and innovation. It shapes ideas to become practical and attractive propositions for users or customers. Design may be described as creativity deployed to a specific end. “Added value”: the term describes how a business adds value to what they oVer, over and above providing the core product or service that is at the heart of what the business does. For example, Apple added value by oVering i-tunes to add to their i-pod range, ie the value of the product is significantly higher with the i-tunes service that goes with it, and both of these were designed together from the outset. November 2007

Memorandum submitted by e-skills UK

Introduction

e-skills UK welcomes the opportunity to submit evidence to the Trade and Industry Select Committee’s Inquiry examining the role of government in promoting high value-added activity by UK business. As the Sector Skills Council for IT and Telecoms, we recognise the need for the UK to create a higher value added economy to remain competitive. Our remit is to help to ensure that UK businesses have the technology skills they need to continue to make a significant contribution to UK productivity and compete globally. We do this through addressing the needs of three related communities: — The IT & Telecoms workforce: 1.2 million people in the IT workforce (596,000 people in the IT industry itself and 560,000 IT professionals working in other industries), and approximately 321,000 people in the Telecoms workforce. These are the professionals who design, implement and run the technology systems on which all companies depend. — IT users: the 20 million individuals who need to use IT for their day to day work, an ever higher number of whom need to be skilled at advanced and super user level to meet the requirements of today’s increasingly technology-based workplace. — Business managers and leaders: the 4 million people performing business management and leadership roles in the UK, who need to be able to understand and exploit the power of IT in driving competitiveness and productivity in their businesses. We have focused our submission on those areas where we have specialist knowledge and have answered only those questions most relevant to us and where we can add value. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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What is meant by a high value-added economy? Which business activities qualify as such? A high value sector is one which makes a significant contribution to the economy and therefore shows above average productivity and growth, both in employment and output terms. In the increasingly technology based economy, such sectors are likely to be both ICT and knowledge intensive. For example, the IT and Telecoms industry is higher value added being knowledge and technology intensive and showing above average employment growth and productivity: — The IT and Telecoms industry accounts for around 6.6% of total output, proportionately higher than its 3.6% share of total employment. — Productivity per worker is high in IT and Telecoms; 52% higher than the national average in the IT sector and 58% higher in the Telecoms sector, making them the 5th and 4th most productive sectors respectively on this measure. — Employment growth is also significantly higher than average; the IT and Telecoms workforce has doubled in size over the last decade to over 1.5 million and is set to continue growing at faster than the average rate between now and 201616 — Over half of the IT and Telecoms professional workforce (55%) is currently qualified to degree level or above, compared to just 28% of the workforce as a whole, and this is set to rise still further. However, its importance goes beyond this direct contribution as the presence of a strong IT and Telecoms sector underpins the growth of all technology intensive industries which make up the higher value added economy. For example the software and computer services sub sector,17 underpins much of the UK’s creative industries, providing high value intellectual capital, including software applications, computer games and electronic publishing content. Software and Computer Services is the biggest and fastest growing sector within the creative industries.18 This sub sector employs 596,800 people in the UK (33% of total employment in the Creative Industries) and exhibits the highest GVA growth of all the creative industries at 9% per annum and the largest increase in employment with an average growth rate of 6% per annum. It contributes over a third of total creative industry exports and around the same proportion of total GVA for the industries.19 However, this relationship between technology intensity, knowledge intensity and high value added is not confined just to IT and Telecoms and the digital creative industries. e-skills UK’ s work on the digital industries in the North West20 categorised high value sectors used a definition of digitally dedicated and digitally enabled industries: — Digitally dedicated industries; these have as their primary business purpose, the development and/ or application of digital technologies. There will be a high degree of digitality throughout the main business processes and the acid test would be that without digital technology the business could not operate. Examples include software development and website creation and the majority of the electronics sector. — Digitally enabled industries: although the development and application of digital technologies is not their primary business purpose, these sectors use digital technologies extensively to gain competitive advantage, Examples include many of the audiovisual industries, eg architectural design, video production and high tech manufacturing. These businesses would use digital technologies across most or all of the range of business processes and not, for example, solely for information management or process control In conclusion therefore, the higher value added economy will be composed largely of sectors which are both knowledge intensive, employing above average numbers of individuals qualified at higher levels and with specialist skills needs. They will be either digitally dedicated or digitally enabled and use digital technology including ICT to gain competitive advantage.

How UK business compares internationally in areas such as research and development, creativity and design. The DTI’s R&D scoreboard21 contains extensive data on the top global R&D investing companies and points out that the top 1250 are dominated by companies based in a few major economies. 82% of R&D is accounted for by companies based in the USA, Japan, Germany and the UK and 70% is from companies in the top five sectors of technology hardware, electronics, software, pharmaceuticals and the automotive industry.

16 “IT and Telecoms employment forecasts” Experian August 2007 17 SIC 22.33. reproduction of computer media, 72.21 publishing of software: 72.22 other software consultancy and supply 18 includes the SIC codes covered (341,600) and also “employment in creative occupations in businesses outside CI industries” (255,200) 19 Creative Industries Economic Estimates Statistical Bulletin September 2006 DCMS 20 “Digital Industries in the North West: Research Report” May 2005 e-skills UK, NWDA 21 “The R&D Scoreboard 2006” DTI Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Software and technology hardware account for 2 of only 3 sectors out of the 39 listed in the scoreboard which have R&D intensities22 over 8%. These three together account for 45% of global R&D among the top 1250 companies. Software (along with pharmaceuticals) has the highest average profitability amongst the 15 largest sectors. Therefore, the IT and Telecoms industry (and its close relation, the electronics sector), are very significant sources of R&D investment and profitability and are increasingly rapidly in importance in the R&D global league table.

Although there are 119 UK software companies in the 2006 scoreboard, the UK is still relatively less dense in this sector and relatively rich in pharmaceuticals compared to the other leading R&D nations. The UK has the lowest proportion of companies in the electronics and IT sector among the top 5 nations in the scoreboard as the chart below demonstrates.

45

40

35

30

25

20 R&D £bn

15

10

5

0 USA Japan Germany France UK

Pharmaceuticals & Health (Group 1) Electronics & IT (Group 2) Engineering & Chemicals (Group 3)

Low R&D intensity Sectors (Group 4) very Low R&D intensity sectors (Group 5)

Figure 1. The R&D sector contribution in the 5 main sector groups for the top 5 R&D countries.

Source: DTI R&D Scoreboard 2006

Globally, the software sector is a strong sector in terms of R&D and highly profitable. However, in the UK, the low proportion of UK companies in the top 50 of the scoreboard (5.3% or just 3), none of which are in software23 means there is a role for government in promoting and supporting the sector to encourage R&D and creativity to fulfil the potential of the industry in the UK and enable the software and technology sector to support other knowledge intensive sectors.

Although there is room for improvement in the UK’s international position in IT and Telecoms related R&D, there are a number of leading and globally active Telecoms companies in the UK and the UK economy also benefits greatly from inward investment in manufacturing and R&D from the leading overseas Telecoms suppliers. Lucent and Motorola have their world headquarters for UMTS24 and both Nokia and Siemens have significant research centres for 3G (3rd generation) mobile in the UK.

Motorola, Nortel, Ericsson and Lucent Technologies have established significant UK R&D facilities, which in some cases are the largest outside their home countries. Independent R&D organisations also oVer substantial expertise to support systems and product design as well as planning and implementing of projects.

As well as the presence of specialised research skills, the strong and early drive towards deregulation of the Telecoms market has proved highly beneficial in promoting the UK as an attractive location for Telecoms R&D. Equivalent levers and policy drivers now need to be developed to encourage the growth of IT software research.

22 R&D as a %age of sales 23 One of the 3 UK companies in the top 50 is in the electronics sector, BAE systems, and the other 2 are pharmaceuticals companies. 24 UMTS—Universal Mobile Telecommunications System Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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The extent to which UK business has absorbed new business practices such as lean manufacturing. The successful exploitation of technology is one of the most important challenges facing UK business. e- skills UK’s research25 into the relationship between IT exploitation and business performance has revealed that companies with higher IT strategic management skills do indeed have better performance and the relationship between ICT investment and productivity is no longer in doubt. However, the UK has not seen the same level of ICT related productivity gains as the US Research published in 2005 by the London School of Economics26 and ONS27 indicates that ICT related productivity gains in the UK have been consistently lower than those achieved in the US since the beginning of the 1990s. For example, in the UK, a doubling of investment in IT is associated with only a 2% increase in productivity in UK domestic firms compared to a 5% increase in US firms. Investment in ICT does not in itself automatically raise productivity; this also requires that business exploit the potential of ICT. EVective exploitation depends on the adoption of new processes and business models such as e commerce, fully integrated into the business strategy, and the necessary IT skills and knowledge among employees for them to become e-enabled employees. Research28 indicates that these three factors, ICT investment, new process adoption and e enabled employees, not only all have a measurable impact on productivity but that they are self reinforcing and together produce a comparatively greater gain. Our lower ICT related productivity gains compared to the US and the demonstrable link between IT strategic management skills and business performance suggests UK business has not yet achieved this virtuous circle. e-skills UK’s research suggests we need to do more to get the maximum benefit from ICT and specifically, we need to improve: — Awareness: the business decision makers across the economy need to understand what ICT can do for the business and its full strategic potential; — IT strategic leadership: the decision makers have to be open to change and prepared to invest in ICT and the skills to optimise its use, moving ICT out of the back oYce and integrating it fully in to the business strategy; — Exploitation: the right actions have to be taken and the right business processes and models eVectively deployed to ensure the transformational power of ICT is realised; — Skills; businesses have to be able to access the right technology skills, internal and external, at the right levels at the right time and price to enable eVective exploitation.

Why some sectors of the UK economy appear to be more effective at embracing value-added activities than others

Our research shows that over the last 7 to 9 years the UK as whole has seen ICT related productivity growth of 3 to 4% and that there is the potential for this to be repeated and possibly increased. However, the extent of ICT related productivity gains varies between sectors and according to type of firm. For example, in the manufacturing sector, among young firms the total impact of ICT investment is as high as 12% compared to 8% in older firms.29 Employee use in young manufacturing firms is also a significant productivity driver with each 10% of the workforce being computer enabled, these firms see an additional 4.4% return. The evidence suggests that flexibility is the key factor in these results with younger firms having access to newer technologies and more willing to experiment. The results are not the same for services however, where the greatest gains from ICT investment accrue to older, rather than younger, firms that use technology to deal with large numbers of customers through better information management. The evidence suggests, therefore, that the use of technology has to be appropriate to the sector if the value added potential is to be realised. e-commerce is a prime example of a technology enabled business process that can deliver significant productivity gains but which varies across sectors and according to whether it is e procurement or e-selling that is being considered. Positive gains accrue to e-sellers in wholesale and retail but manufacturing firms show net losses, which are more severe in small firms than large, due to the commoditisation and downward pressure on prices that results from selling on line. In e-procurement, manufacturing firms show the greatest productivity gains, more than cancelling out their e-selling losses, wholesale firms also do well and retail firms less so. In conclusion, there are threats as well as opportunities which require sophisticated sector specific risk management strategies to be in place for business to benefit most from the value added gains that ICT can deliver.

25 “The correlation between business performance and IT uptake” e-skills UK, MRM Solutions, August 2007 26 “ICT and Productivity” Centre for Economic Performance Working Paper LSE 27 “The role of IT in firm productivity evidence from UK micro data.” Economic Trends No 625 28 “IT Investment, ICT Use and UK Firm Productivity” ONS August 2005 29 “IT Use by Firms and Employees: Productivity Evidence Across Industries.” ONS Shikeb Farook Sep 2005 Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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The progress that has been made on university/business co-operation and knowledge transfer since the publication of the Lambert Review in December 2003. We believe that progress is being made but that SSCs have a greater role to play in developing university business understanding and promoting collaborative action. SSCs can act as the voice of employers in their sectors and reduce the need for HEIs to engage directly with large numbers of employers. e-skills UK works closely with HEIs in a number of ways to develop more business responsive provision: Our employer research demonstrated the need for a new type of IT degree which incorporated business, technical, and interpersonal and project competencies. e-skills UK worked with employers and HEIs to develop the Information Technology Management and Business (ITMB) degree framework. The ITMB degree programme is fully populated with 13 universities, including Manchester, UCL and SheYeld. This has resulted in a tripling of applicant rates at several universities compared to other IT- related courses. “We have decided to oVer the ITMB degree because it enables us to develop graduates with the technical, business and people skills needed for the global service-led economy of the future. What a great idea it is to give students access to insights from leading business gurus and to provide students with real business problems to solve.” (Linda A. Macaulay, Professor of System Design, University of Manchester) Also of relevance to HE is e-skills UK’s work on developing the IT Professional Competency Model (e- skills PROCOM), which provides the strategic framework for all skills, qualifications and learning activities for IT professionals. The PROCOM model was developed through extensive employer consultation and has led to the IT Professional Development Programme (‘First Two Years’): a new programme for recruits into the IT profession, this is being developed by employers and universities to accelerate development into high skill job roles. The Leitch Review of Skills called for the creation of a demand led system in which the needs of employers and individual learners have much greater influence over post 16 education and skills provision. SSCs can help HEIs understand the needs of business by providing them with up to date sector based labour market intelligence. The Council for Industry in Higher Education looked at how the Lambert Review could be carried forward30 and to inform government, its agencies, universities and business on how HE could contribute to UK competitiveness. In particular, it recommended that better labour market information provision could help HEIs to meet the needs of business. The CIHE report recommended that SSCs should take the lead in this area and focus in particular on STEM subjects and the options and modules within subjects that employers value.

Whether business and government interpret innovation too narrowly. We strongly believe that the focus should be on transformation rather than on just innovation which tends to be viewed as the development of new products and services. Rapid technological change is creating not just new products and services but opening up whole new processes, markets and business models. Businesses have to use technology to transform the way they operate to respond to this new context and the successful exploitation of technology is becoming a major source of competitive advantage for companies. Although IT is undoubtedly a rich source of innovative potential for businesses when developing new products and services, this is too narrow a concept to reflect its total potential.

What the government can do to further promote higher value-added business activities and innovative thinking among UK businesses. Ensuring the supply of the appropriate skills at the right level is the single most important contribution that government can make to this area. Higher value added businesses cannot develop without technology and the skills to apply and exploit it. e-skills UK’s Sector Skills Agreement for IT 2005-8 highlights the following issues: — The IT and Telecoms sector is growing at 5 to 8 times the national average and an average of more than 150,000 entrants are required into the IT & Telecoms workforce every year for the next decade to meet growth and replacement demand. — Entry level into the IT workforce is predominantly at graduate level and above. However, there has been an alarming decline in the number of students choosing to study IT-related subjects at A-level and at university (see below). — IT and Telecoms professionals need more advanced skills as traditional entry-level jobs are now sourced from other countries and employers’ requirements continue to change. The need to derive increased competitive advantage and return on investment from IT and the eVects of geo-sourcing

30 International Competitiveness: Businesses working with UK Universities CIHE 2006 Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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are leading to a stronger demand for broader and deeper skills than ever before. IT and Telecoms professionals in the UK are increasingly required to have a sophisticated blend of not only very strong technical skills, but also high level business and interpersonal skills.

The supply of IT professionals The career choices made by young people are not supporting the growth in demand for IT and Telecoms professionals. Applicants to IT undergraduate degrees decreased by 46% from a peak of 27,000 in 2001 to 14,700 in 2005.31 The graph below shows growth in the IT professional workforce and decline in applicants to computer science degrees.

IT professionals in the UK workforce / Applicants to Computer Science degrees* Source: e-skills UK analysis of ONS LFS and UCAS data. Post 2000 LFS data uses SOC 2000 *Subject line G4,5,6,7 Home (UK) applicants

1200000 40000

35000 1000000 30000

800000 25000

600000 20000

IT professionals IT 15000 400000 Computer Science Applicants 10000

200000 Total IT professionals 5000 Total applicants to Computer Science courses 0 0 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006

31 UCAS applicants data Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Although there is a worrying decline in take up of Science Technology Engineering and Maths (STEM) subjects generally, the decline in applications to IT-related degrees is even more marked than that in other STEM subjects, including Engineering, Physical Sciences and Biological Sciences as shown below:

All Applicants to HE Courses - Selected Subject Groups 2002-2006 Group G includes Computer Science 60,000

50,000

40,000

30,000

20,000

10,000

0 2002 2003 2004 2005 2006 Group C Biological Sciences Group F Physical Sciences Group G Mathematical & Comp Sci Group H Engineering Group N Business & Admin studies Computer Science (G4-G7)

Source: e-skills analysis of UCAS data

However, the decline in take up of other Science, Technology Engineering and Maths (STEM) subjects is also a cause for concern and it also aVects our sectors. Of those IT professionals that have a degree, only two in five (39%) have graduated in an IT discipline32 and employers sometimes prefer science and maths graduates to computer scientists when recruiting IT professionals. The STEM skills, particularly science, and maths, also underpin the development of new technology and its eVective applications. For example, Telecoms employers require physicists and mathematicians for technology development roles. What is needed is a radical review of the skills pipeline comprising: — IT education in schools and colleges, including support for teachers so that they can provide up to date relevant exciting IT learning opportunities that inspires young people to take up IT as a career —eVective careers information advice and guidance — HE provision that provides the right mix of strong technical and business skills As noted in the section on University-Business cooperation above, SSCs are making progress in this area and we believe that as the catalyst between government and employers, SSCs are ideally positioned to deliver this change, with strong government support.

The effectiveness of machinery of government arrangements in encouraging innovation and creativity.

We strongly recommend that there should be a much greater focus on helping businesses to fully exploit IT and gain the maximum productivity gains from it. In the increasingly technology driven knowledge economy, ensuring businesses understand the strategic value of IT in achieving their goals and have the skills to integrate it fully across all business processes is vital. e-skills UK has recently carried out research33 into the correlation between business performance and IT uptake. Key findings are that: — the higher the IT management skills of senior managers the more likely they were to have adopted technology — the higher the adoption of technology, the more likely the company is to be a better performing business.

32 ICT inquiry Q3 2006, e-skills UK February 2007 33 “The competitiveness of the UK IT and Telecoms industries”, e-skills UK, MRM Solutions August 2007 Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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However, although one in three companies investing in IT are able to show significant business improvement, one in four companies cannot, suggesting that there is still a considerable way to go to get the maximum benefits from productivity. We therefore believe that enabling businesses to maximise the gains from ICT should be one of the primary aims of publicly funded business support, if UK businesses are to compete eVectively in the global marketplace. We have developed a number of tools which can be of use in achieving this aim, most notably, the Business IT Guide, a web-based tool aimed at helping owner managers to diagnose and address their businesses IT needs. Government should also ensure that all business support is employer demand led, based on research, such as that which underpins Sector Skills Agreements, and not designed primarily to deliver government targets. For example, qualifications should be an output of skills support and not the primary driver. Businesses also need to be confident that they are receiving impartial advice and guidance and are not being “sold” government schemes of little relevance to their needs. The support needs to be flexible and capable of being customised to their needs and to local priorities. Furthermore, the growing importance of skills to the competitive performance of businesses and the wider economy requires that they are given the highest priority in the business support portfolio. We must also stress the importance of support for higher level skills development; businesses in our sectors predominately require skills at Level 4 and above so the current focus on Level 2 is of little relevance to their needs and there is very low take up of publicly funded skills and learning provision among IT and Telecoms companies. Businesses see skills as integral to their businesses, not a separate issue and demand led business support should therefore provide an integrated service. We strongly recommend that linkages between skills support and other forms of business support are robust and that the LSC skills brokerage service is brought together with the diagnostic and referral services of Business Link. 6 November 2007

Memorandum submitted by the Engineering Employers Federation (EEF)

Introduction 1. EEF is the representative voice of manufacturing, engineering and technology-based businesses with a membership of 6,000 companies employing around 800,000 people. A large part of its representational work focuses on the issues that make a diVerence to the productivity and competitiveness of UK manufacturing. 2. This submission therefore draws on the extensive research undertaken by EEF on: — how companies are responding to the challenges and opportunities associated with the rise of a range of emerging economies; — how UK manufacturing performs on productivity; and — the factors that lie behind this such as innovation, skills, investment and the use of management practices. Overall the research suggests that manufacturing has refocused on higher value added activities in this decade and is now starting to reap the benefits. However, to continue this progress, manufacturers will need to maintain their increased investment in areas such as innovation and skills and the government will need to support this with the right policies.

What do we mean by a Higher Value Added Economy 3. It is not straightforward to define what is meant by a higher value added economy. While it is true that some sectors are associated with higher levels of value added than others, such an approach would ignore the success that some companies in industries traditionally seen as lower value added have achieved in creating prosperous businesses. 4. Similarly, investing in technology or in research and development (R&D) tends to be associated with rising levels of value added but focusing exclusively on this would ignore the range of routes that companies follow to achieve business success. These include innovation in products, processes or services that might not be particularly high-tech but that generate an increase in productivity,helping to establish a niche market or allowing a company to charge a premium over its competitors. For manufacturers, operating in intensively competitive markets, becoming higher value-added essentially involves any activity which allows them to move away from competing mainly on price. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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5. However, while it is sensible to take a wide perspective on what constitutes a higher value-added economy, we also need to develop some metrics of what constitutes success. In this submission we employ a two stage approach, looking at statistics on productivity—a measure of value-added divided by the number of employees working in an industry—backed up by measures on the inputs associated with increased value added—R&D spending, innovation, investment in skills, take up of management practices and involvement in exporting, especially to emerging markets. The productivity analysis relies mainly on oYcial statistics while the input measures are based mainly around survey data. 6. Progress in raising productivity tends to be faster in manufacturing than in other parts of the economy, reflecting its greater scope for using technology to replace workers. Table 1 shows that the rate of increase in productivity in manufacturing has consistently outpaced the rest of the economy in the past three decades. However, it also reflects the volatility in manufacturing compared with fairly steady progress in the rest of the economy.

Table 1

MANUFACTURING PRODUCTIVITY GAINS SPEED UP IN RECENT YEARS % annual change in output per worker

Manufacturing Whole Economy

1980–89 4.5 1.9 1990–99 2.3 2 2000–06 4.3 1.7

Source: National Statistics 7. While the overall productivity statistics for manufacturing tell one story, breaking the figures down by industry sub-sectors reveals some interesting trends. Table 2 looks at changes in productivity between 1979 and 2006. It also ranks the industries over the three decades to establish which are the consistent leaders and laggards.

Table 2

WIDE VARIATION IN PERFORMANCE % change in output per worker

% change Rank Rank Rank 1979–2006 1980–89 1990–99 2000–06

Electrical and optical 407 1 1 8 Chemicals 314 3 2 4 Transport 257 2 3 5 Minerals 168 6 4 2 Textiles 140 8 6 3 Metals 118 4 10 6 Machinery and equipment 111 9 7 1 Rubber and plastics 106 5 9 10 Food, drink and tobacco 105.5 7 5 7 Paper, pulp, printing and 46 10 8 11 publishing Wood, coke and nuclear fuel 37 11 11 9

Source: EEF analysis of National Statistics data 8. The table reveals huge variations by sector in growth in output per worker from over 400% in the electrical and optical industries and over 300% in the chemicals sector to less than 50% in the paper, pulp, printing and publishing and the wood, coke and nuclear fuel industries. Looking across the table reveals a fairly clear split between the more traditional industries that have struggled to raise the level of value added per employee and those that are widely seen as the UK’s higher growth industries. 9. There are some fundamental reasons for this but there is also the obvious point that it is much easier to raise productivity if your company is operating in a growing market with output expanding significantly. For example, Table 2 shows the electrical and optical industries topping the chart in both the 1980s and 1990s but falling back to 8th place during the most recent decade. This is unlikely to be a result of companies in this industry suddenly becoming badly managed. It is more of a reflection of the fact that the market has turned against them in recent years. Similarly, the improving outlook for companies in the machinery and equipment industries has pushed the sector up to first place in the table in this decade. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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10. There are a variety of reasons behind the widely diVering performance of industries as shown in the table. These include the following: — For a variety of reasons, the UK has historically been strong in certain industries. Within manufacturing this has typically been in pharmaceuticals and aerospace which account for the high positions that the chemicals and transport equipment industries occupy in the table. These industries tend to enjoy virtuous circles of growth in raising value added where many of the factors driving productivity reinforce each other. — The products and processes involved in some industries oVer greater scope for investing in areas such as innovation and design that allow companies to compete on factors other than price and at least preserve profitability. For example, chemicals and aerospace account for half of the total R&D expenditure by manufacturing. — Industries experiencing improving profitability or at least able to maintain it close to previous levels are much better able to fund the investment in innovation, design, skills and new technology required to raise their value added. — Industries whose revenues are growing are better able to aVord the wages and to present the positive image required to attract top talent. 11. Despite these huge diVerences in performance and the powerful forces responsible for them, we should not write oV industries that are currently struggling. Nor should we be complacent about the future success of those that are currently thriving. For example, the thirst of companies in emerging economies for capital equipment has improved the fortunes of the machinery and equipment industry which had struggled for much of the previous two decades. Similarly, the global boom in construction has seen fast growth for UK companies in the industries supplying it with raw materials.

The Changing Competitive Environment 12. We can only develop a full understanding of the progress that UK manufacturing is making in becoming a higher value added activity by looking at how the competitive environment is changing, the impact that this had on manufacturing and how it is seeking to respond to this. 13. The early part of this decade saw manufacturing experience a severe recession which saw output contract by 5.5% between the end of 2000 and the start of 2003. This was generated by a downturn in world markets, a significant rise in the value of the pound against the euro and the emergence of a range of low cost countries in Asia and Central and Eastern Europe as serious competitors. The recession was particularly concentrated amongst the engineering industry which saw output fall by over 11%. Particularly aVected were industries traditionally regarded as high value added such as radio, TV and telecommunications equipment which saw output fall by 54% and other transport equipment (which includes aerospace) which contracted by 12%. 14. Since then, manufacturing has mounted a strong recovery. The oYcial statistics point to a fairly modest increase in manufacturing output of 4.2% between the end of 2002 and August 2007. However, a range of manufacturing surveys including those conducted by EEF, CBI and the Chartered Institute of Purchasing and Supply point to a significant upturn in fortunes. For example, EEF’s quarterly Business Trends Survey for the third quarter of 2007 recorded the best conditions in manufacturing for ten years, with output and order books expanding and investment intentions increasing. 15. Manufacturers have achieved this improvement despite experiencing an increase in the intensity of competition from low cost countries. Over a period of time, EEF has surveyed its member on the source of the major competitive threats that they are facing and expect to face34. Chart 1 shows a major shift in a period of just five years. In 2002 the European Union was seen as the major threat, mentioned by almost half of companies and well ahead of China and the United States in second place. In 2007, China is way ahead of any other country or region.

34 EEF(2007) Export support: How UK firms compete abroad Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Chart 1

INCREASING THREAT FROM LOW COST COUNTRIES % of companies rating as major competitive threats over next five years

% 2002 2004 2007 80

60

40

20

n/a 0

India China EU-15 New EU E Europe N America Pacific Rim

Source: EEF 16. Encouragingly, there is also a growing perception that these emerging economies present opportunities for manufacturing in the form of growing markets. Earlier in the decade, only a tiny minority of companies rated China as a major opportunity and very few saw India in that way. In contrast, the pre- enlargement European Union and North America were still seen as the major market opportunities.

Chart 2

GROWING INTEREST IN EMERGING ECONOMIES % of companies rating as major growth opportunity over next five years

% 2002 2004 2007 60

50

40

30

20

10 n/a 0

India China EU-15 New EU E Europe N America Pacific Rim

Source: EEF 17. Since 1998 goods exports to China have grown by 280% and to India by 116%. The comparative figures for imports are 442% and 127%. However, sales to China and India combined still account for just 5.6% of our total goods imports. Indeed imports from emerging Europe which includes the new EU members and other Central and Eastern countries outside the EU including Russia are greater than this at 7.9%. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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18. The diVerence between the two regions on exports is even greater, indicating that the major opportunities and threats are closer to home. Overall, the major emerging economies combined account for 15.5% of our trade in goods. The message is that UK manufacturing has yet to feel the full eVects of competition with other emerging economies, while the opportunity to expand our sales to these parts of the world is likely to expand. UK manufacturers therefore have a window in which to make the changes in their business needed to compete eVectively but that they need to act fast.

Responding to the Competition 19. The good news is that UK business is responding to this challenge by focusing on the areas where it can best add value. EEF research in 2005 showed that two thirds of companies surveyed were responding to rising competition with an increased focus on innovation with a further fifth planning to do so or considering it. Just under half of them (45%) were developing niche markets and customizing their products. 20. More recent EEF research, as yet unpublished, from this year shows that companies are rethinking where the competitive advantage lies. In a large survey of manufacturers, firms were asked to rank their top three sources of competitive advantage from a list of activities. This showed that the traditional focus of manufacturing (production and assembly) was at the top of the list, ranked as the source of competitive advantage by 29% of companies. However, it had only a narrow lead over design and development, which was mentioned by 23% of companies. Providing services to customers was a little further behind at 19%. 21. However, Chart 3 shows that design and development is set to overtake production and assembly as the key source of competitive advantage. Looking ahead to the next five years, 25% of firms rate design and development as the number source of competitive advantage, ahead of production and assembly (23%) and services (21%). Over this period, there is a substantial rise in the number of larger manufacturers regarding services as important to their business. Despite these developments, we should not write oV production and assembly as 70% of companies placed it amongst their top three sources of competitive advantage. In addition, although manufacturers expect to see some production activities shift out of this country, just under seven in ten of them (68%) expect the UK to be primary location for it in five years’ time.

Chart 3

GROWING FOCUS ON DESIGN AND DEVELOPMENT % of companies citing activity as their top competitive advantage

% Now Future 40

30

20

10

0

Sales Logistics Research

Brand & Marketing Service provision

Design & DevelopmentProduction & Assembly

Source: EEF 22. There is also evidence that companies are backing this focus on higher value added activities with investment. For example, EEF’s quarterly Business Trends Survey of about 1000 manufacturers showed investment intentions at a ten year high. OYcial data on investment shows a more muted recovery in investment with it increasing by 37% from the low it hit at the start of 2002 but still close to a third below its 1998 peak. A key reason for this is that the National Statistics measure focuses on capital expenditure and does not include intangible investment. Research by Marrano and Haskel (2006)35 estimates that private sector investment in intangible areas was in the region of £127 billion or 11% of GDP in 2004. This is roughly equivalent to total private sector investment in capital goods.

35 Marrano M and Haskel J (2006) How much does the UK invest in intangible assets? Queen Mary University of London, working paper no. 578 Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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23. As yet unpublished work by Haskel suggests that manufacturing accounts for a higher share of this spending than would be expected from its weight in the economy. This reflects the fact that it accounts for 75% of R&D spending and 55% of UK exports. Its greater exposure to international competition and involvement in trade means manufacturing is more likely to be associated with significant expenditure on items such as market research, product diVerentiation and organisational change. 24. An EEF survey from this year also suggests that manufacturers are shifting their priorities on investment36. For example, the proportion of companies rating entering new markets as their top priority has increased from 23% in 2005 to 39% in 2007, overtaking cost reduction as the top priority. This is likely to involve investment in market research, branding and product development. This type of investment tends to be longer-term compared with the majority of capital investment. This is reflected in a lengthening in payback periods from 2.9 years in 2003 according to our survey to 3.3 years in 2007. 25. OYcial statistics show that manufacturers spent £10.3 billion on R&D in 2005. This was up by 12% since the start of the decade. However, looking at trends in R&D spending provides an incomplete picture of what is happening on innovation. Within businesses, innovation involves a range of activities that go well beyond scientific research and encompass design, new and improved processes and developing new services. An EEF survey of 500 manufacturers showed a majority of companies increasing their innovation activity (71%) with 58% planning to do so in the future and that it was delivering results37. For example, about four- fifths of innovators saw improvements in productivity, turnover, profitability and market share.

How we do Compare with our Competitors 26. While the previous section suggests that there are some encouraging signs that UK manufacturing is refocusing on the activities required for it to succeed in international markets, we need also to look at how this compares with what is happening in other countries. 27. Traditionally, manufacturing has been regarded as a poor performer on productivity. After a surge in the early 1990s, manufacturing productivity in the UK slowed at the same time as it accelerated in the US. So despite starting from similar levels almost two decades ago, by 2005 manufacturing in the UK had a productivity gap of 18% with the US. 28. EEF research earlier in the decade on the productivity gap with the United States38 suggested that lower uptake of management practices such as lean manufacturing and high performance working contributed to the productivity gap. It showed that US-owned firms in the UK made much greater use than UK-owned firms of lean manufacturing and high performance working techniques. This suggests that these techniques are employed more intensively in the United States, a finding confirmed by EEF interviews with manufacturers based in the United States. 29. These issues are reflected in the manufacturing productivity trends for 1995–2000 shown in Chart 4. Over this period only Italy and Spain posted slower productivity growth than the UK. However, in the first half of this decade, UK productivity growth has accelerated and is now outstripping all of the other countries apart from the US. This is a relatively short time period on which to base firm conclusions. However, it suggests that UK manufacturing may be making greater progress in becoming a higher value added sector.

36 EEF (2007) Strategies for success: How manufacturing is changing investment priorities 37 EEF (2006b) New Light on Innovation: How UK Manufacturing is Meeting the Challenge. 38 EEF (2001) Catching up with Uncle Sam and EEF (2004) Catching up with the Continent Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Chart 4

UK SEES FASTER PRODUCTIVITY GAINS Average annual rate of change in manufacturing output per hour

% 1995-00 2000-05 8

6

4

2

0

-2

US UK Italy Spain France Germany

Source: US Bureau of Labor Statistics 30. The question is whether faster growth in productivity, a shift in management priorities and improved performance according to a range of business surveys adds up to a convincing story that UK manufacturing has made a fundamental change for the better. We also need to understand what has been responsible for this improved performance to ensure that the right policies are in place to sustain it. We believe that three factors are at work—a shift in priorities since the last recession, foreign ownership and more eVective public policy. 31. Taking the first of these, the severity of the last recession and the growing realisation of the scale of the challenge from low cost locations forced companies to rethink their strategies and look for ways to reduce costs and to shift to higher value added activities. Investment in innovation has helped manufacturing to make this shift. 32. This included an increased focus on innovation. The UK Innovation Survey (UKIS)39 2005 shows that manufacturing is the most innovative sector in the UK, with almost 70% of manufacturers actively engaged in innovation compared with 40% for the rest of the economy. The high level of innovation activity is due in part to around 60% of manufacturers introducing new, innovative products to the market, thus supporting their move to higher value activities. Research by EEF suggests that a higher proportion of UK manufacturers have undertaken all types of innovation than their German or French counterparts. 33. Manufacturing is also more likely than other UK sectors to have higher innovation-related expenditures. Likewise, manufacturing sectors fairs well in international comparisons of R&D intensity (R&D expenditure relative to revenues). The 2006 R&D Scoreboard shows that the pharmaceuticals and health and engineering and chemicals sectors in the UK all have a R&D intensity higher than their US, German or French counterparts, while the UK, electronics and IT sector ranks second only to that of the US. 34. But despite the strength of manufacturing innovation related spending, overall R&D spending by business in the UK lags behind that of Japan, the US, Germany and France. These diVerences are due in part to the fact that R&D intensive industries account for a smaller share of GDP in the UK than they do in other countries. There is also evidence that in some parts of manufacturing, such as motor vehicles, the UK is less R&D intensive than similar sectors in other countries. In the case of motor vehicles, this reflects the fact that the major manufacturers are foreign-owned, with a tendency to locate R&D in the home country. 35. However EEF research has shown that manufacturers are also engaged in innovative activities hidden by traditional measures such as patents or R&D spend. For manufacturers in the UK, the move up the value chain has been supported by a wider set of innovations, such as design, developing new business models or marketing and distribution. In the UK Innovation Survey, nine out of the top ten sectors innovating in this wider sense were in manufacturing or related sectors (such as engineering consulting). Indeed, research by

39 The UK Innovation Survey 2005 is the UK part of the Europe-wide Community Innovation Survey. It provides the UK data covering the three-year period from 2002–04. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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the EEF suggests that the UK performs consistently better than Germany and France on the proportion of firms undertaking innovation in existing/new services to customers. This suggests that UK firms are leading the way in responding to the demands of modern manufacturing. 36. However, this reflection on the UK’s innovation performance must be put in context. It does not take into account the extent of the innovation, how much actually translated into new services/products/ processes and revenue streams or whether it simply represents catch up on the UK’s behalf. Moreover, UK manufacturers have struggled to capitalise on their investment in innovation. This raises questions as to whether other factors, possibly lower use of modern working practices or lower levels of management eVectiveness, are preventing UK companies from realising the gains from higher investment. 37. In overall management performance, the UK sits in a second tier of companies, with a lower score than the US, Sweden Japan and Germany, but a (slightly) better one than France, Italy and Poland. In particular, a 2007 study of management practices and productivity by the Centre for Economic Performance and McKinsey showed that the UK scored low for operations management, indicating that UK manufacturers have been slow to adopt many of the modern production techniques that have been applied with great success elsewhere. Progress, however, is being made. A study by the Advanced Institute of Management Research showed that the Manufacturing Advisory Service (MAS) has been successful in improving the management techniques and consequently the performance of manufacturers in the UK. 38. The growing ownership of UK companies by firms from abroad has had a positive impact. Some 35% of manufacturers are foreign-owned and this has helped to encourage the spread of management practices such as lean manufacturing both in the companies that have been taken over and through the supply chain. 39. The UK’s open approach to investment from abroad is widely seen as beneficial to business. The UK leads its main competitors, in receiving inward investment and in investing abroad. Relative to its GDP, the stock of foreign direct investment (FDI) stood at 37% in the UK in 2005. This compares with 28% in France, 18% in Germany, 13% in the United States and 12% in Italy. Similarly, the stock of British outward investment stands at 56% of GDP, well ahead of France (40%) and Germany (35%). Foreign investors bring with them a range of new technologies, skills and new ideas. A range of studies also point to the improvements in company performance in the UK and other parts of the world associated with foreign companies taking over domestic companies. This does not mean that foreign companies are necessarily better run than UK-owned ones. For example, a 2007 study of management practices and productivity by the Centre for Economic and McKinsey showed that multinationals outperformed domestic companies in all the countries studied40. 40. At the same time, foreign ownership is not without risks. The largest of these is that higher value added activities such as research, design and development will be conducted mainly in the parent company’s home country rather than in the UK. We can see this, for example, in the limited amount of research and development undertaken in the UK by the almost entirely foreign-owned motor vehicles industry. Recent EEF research supports this view with foreign-owned companies substantially less likely than UK-owned ones to see this country as the primary location for research, design and development and brand and marketing. Further analysis of these responses shows that this is because the main location for these activities is the home country.

40 Centre for Economic Performance and McKinsey & Company (2007) Management Practice and Productivity: Why they matter. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Chart 5

FOREIGN-OWNED FIRMS LESS LIKELY TO INVEST IN THE UK % saying activity primarily located in the UK

% UK owned Foreign owned 100

75

50

25

0

Sales Research Logistics

Service provision Brand & Marketing

Design & DevelopmentProduction & Assembly

Source: EEF Business Trends Survey 41. To some extent, this simply means that the parent company is behaving the same way as it was before taking over the UK firm with the majority of investment taking place outside the UK. However, there is anecdotal evidence of firms from abroad taking over UK firms and moving existing higher value-added activities such as research and development wholly or partly out of the country. While such moves are not welcome, the risks of them occurring have to be balanced against the wider benefits of an open approach to foreign ownership. However, there are legitimate concerns when UK companies are not operating in a level playing field with their competitors. This could happen where other countries do not oVer the same degree of free access to UK investors or where the tax system in the investor country or the involvement of the public sector oVers the purchasing company an unfair advantage. 42. A number of policy developments have also helped manufacturers to become more competitive, though there is still some way to go in addressing concerns over the business environment. The long period of macro-economic stability has given business the confidence to take a more long-term approach to investment, reflected in the lengthening of payback periods. For manufacturers, these benefits took some time to feed through as the late 1990s and the early part of this decade saw a large rise in Sterling’s value against the euro and then a downturn in world markets. 43. There also been a greater focus in policy on the areas that make a real diVerence to the performance of manufacturing and other business sectors, particularly on innovation and skills. This has included a significant increase in public expenditure on science, the introduction of R&D tax credits and significant eVorts to improve the exchange of new ideas between science and business. The evidence suggests that these initiatives are starting to improve some aspects of innovation performance. However, there are a number of areas where we need to improve if the UK is to achieve a substantial improvement in its innovation performance and make faster progress to being a high added value economy. 44. On innovation specifically, there are three priorities—making further progress in encouraging collaboration between business and universities, particularly for smaller firms and those with limited experience of working with the science base, becoming better at commercialising new ideas and making more eVective use of the public sector’s expenditure on research and development and its procurement of goods and services from the public sector. 45. A CBI Regional Economic Survey in 2006 noted that only 9% of respondents had links with universities for R&D activities. By comparison, over 75% of innovation-savvy firms in the CBI’s innovation survey had collaborative links with universities. Firms currently not engaged in knowledge are unlikely to be receptive to further knowledge “push” from the university sector. Instead they need to be encouraged to make their own links. Government should provide incentives direct to business to reduce the costs and risks associated with innovating with universities and so generate greater demand from business for such collaboration. 46. But in providing incentives for businesses to become more innovative, government should also help UK companies capitalise on their innovative activities. The high upfront costs, long development times and high levels of risk associated with new innovations, mean that most companies struggle to raise the finance they need to get their ideas to market. The extent of this problem is reflected in the extremely low rates of Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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return on early-stage technologies, forcing most serious institutional investors to shift funding towards the latter stages of development where a proven track record and scalability implies higher growth potential. Consequently there is greater scope for government to provide structural adjustments—such as improving access to finance, developing capabilities and increasing its own demand for innovation—in how it helps companies profit from innovation. 47. Government has introduced a range of support programmes, such as Grants for R&D, regional Proof of Concept funds, Enterprise Capital funds and the Small Business Research Initiative to help SMEs, but these programmes are fragmented with little focus on helping SMEs commercialise high risk innovations. Likewise government procurement has failed to punch its weight in terms of getting the most out of innovative businesses. 48. While there have been tentative signs of progress, public procurement as a whole is not delivering. EEF research shows that too much emphasis is still being placed on short-term eYciency savings at the expense of long term planning. Furthermore, public procurers also often lack the skills or the incentives to purchase innovative solutions. More fundamental change is required to transform public procurement processes and boost business innovation. 49. We also need to accelerate the progress the UK is making in raising skill levels. International comparisons show the UK lagging behind many of its competitors in the proportion its workforce qualified to Level 3 (equivalent to two or more A Levels). For example, Germany has more than 50% of its workforce qualified to level 3 compared with under 40% in the UK. In addition, there is an urgent need to raise the number of young people entering the workforce with good qualifications in Science, Technology, Engineering and Mathematics (STEM). Without progress on both these fronts, the UK is likely to see only limited improvements in its innovation performance. 50. These concerns were reflected in the attention focused on STEM skills issues in the Sainsbury Review, which came up with a number of welcome proposals to raise the standard of teaching in STEM and improve the understanding of young people of the career opportunities related to science41. However, action on this front alone will not be suYcient and there is a need to develop a system where employers make informed decisions on investment in skills that will drive increases in productivity and competitiveness and where providers respond to their needs. 51. Many of these concerns have been addressed is the recommendations made in the reviews of innovation conducted by Lord Sainsbury and of skills by Lord Leitch42. The key issue therefore is for the government to deliver on the policies recommended in the two reviews. In this submission, rather than list a whole range of potential policies we therefore highlight the measures that are likely to have the biggest impact. 52. The Sainsbury Review focused on how government support for innovation could best be used to help the UK move into high-value goods, services and industries and in doing so addressed many of EEF’s priorities. The Review recommended that a strengthened Technology Strategy Board (TSB) could act as a lynch pin in focusing government’s fragmented support for technology and innovation. The review believes this enhanced TSB should be responsible for delivering its recommendations for stimulating business innovation, encouraging knowledge transfer, promoting science and engineering as career options and raising the standards of STEM teaching. 53. We welcome these recommendations but questions remain about delivery. One question is how influential the TSB will be. With a small staV located some distance from the organisations it is seeking to influence, the TSB will need to work hard to balance the competing demands of the Treasury, DBERR, DIUS, the RDAs, and the Research Council while all the while promoting business innovation. Likewise there have been many changes and fine words on reforming public procurement and departmental research expenditure to get the most out of innovative businesses, yet there has been little progress outside the MoD. 54. The Leitch Review focused attention on the fact that the UK’s skill levels is behind that many of its competitors and that the gap will widen if no action is taken. It therefore proposed a demand-led approach where employers’ needs were put at the centre of a concerted eVort to drive up skill levels across the workforce. The key element of this was to route all funding for vocational/work-related learning through Train to Gain and Learner Accounts (since renamed Skills Accounts) by 2010, though the government has signalled progress is likely to be slower than this. 55. At the same time the activities of the Sector Skills Councils are being refocused on three objectives— raising employer ambition and investment in training, ensuring qualifications are driven by employers and articulating future skill needs. Alongside this, the government has taken steps to integrate skills brokerage much more closely into other elements of business support. These are all important elements of an eVort to ensure that the money that is spent by employers and by the government is used eVectively and makes a real diVerence to our levels of productivity and competitiveness. However, we are concerned that the government sticks to this approach and gives it an opportunity to achieve the desired results.

41 HM Treasury (2007) The Race to the Top, A Review of Government’s Science and Innovation Policies 42 HM Treasury (2006) Leitch Review of Skills, Prosperity for all in the Global Economy—World Class Skills Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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56. Aside from innovation and skills, the key priorities for manufacturing in moving to higher value added areas lie in two areas—minimising the barriers such as tax and regulation and supporting the activities such as investment and exporting associated with increases in value added. 57. A recent EEF survey43 showed that over half of those surveyed (54%) felt that their tax burden (total tax paid as a percentage of profits) had risen over the past five years. Furthermore, one company in eight described the increase as significant. This has saddled business with additional costs and reduced competitiveness, as over 90% of companies reported limited or no ability to pass on higher taxes in higher prices. 58. The reduction in the headline rate in the 2007 Budget however made only a modest contribution to improving the international competitiveness of UK’s corporation tax rate. Amongst the large developed economies, the new 28% rate would place the UK second in the G8 behind only Russia and 8th in the EU15. This should also be considered in the light of the eVorts by the UK’s major trading partners and other developed western economies to bring down their corporation tax rates and simplify their tax regimes. In addition, the UK is also competing for increasingly mobile manufacturing investment with countries in Eastern Europe, such as the Czech Republic, Poland and Turkey, and in Asia, such as Vietnam, that have aggressively cut corporation tax rates in recent years. Compared to this broader group, the 28% rate would only move the UK from 21st place to 19th out of 27 countries in the EU and from 20th to 16th out of 29 countries in the OECD. 59. Numerous changes to the tax system over the past decade have also complicated the UK’s tax regime. Almost 75% of firms in EEF’s survey thought either the volume of new legislation or the frequency of changes to the tax system were to blame for the complexity. Consequently, almost half of those surveyed said that the number of personnel and time required to deal with tax matters had also risen. 60. The government therefore needs to return to the simplification agenda. EVective tax policy can only be formulated in consultation with business. As part of this consultation process, government must ensure that all parties have adequate time for scrutiny of new tax legislation. This added transparency would give business suYcient time to understand the impact of changes in the tax system and the rationale behind them. The recent changes to the capital gains tax regime serve as an unfortunate example of how a lack of consultation can result in negative impacts on business investment and enterprise in the UK. 61. Investment both in new equipment and in the range of intangible areas outlined above is vital if manufacturers are to continue raising productivity. There is limited evidence of market failure in this area that indicates the need for significant government intervention. For government, the key issue is to maintain economic stability and avoiding cost increases on businesses that limit their ability to finance investment or encourage them to conduct it elsewhere. However, our research on investment indicates that small firms face problems in obtaining external funding for investment. 62. This suggests that there is a need to review whether the various measures to support investment in firms such as Business Angels and the Small Firms’ Loan Guarantee Scheme are working eVectively. It is also important to avoid measures that discourage investment in small and growing firms. We are therefore concerned at the potential impact of the changes to Capital Gains Tax announced in the Pre-Budget Report and will be reviewing this ahead of next year’s Budget. These changes come on top of the 2007 Budget increase in the lower rate of corporation tax rate and the scaling back of capital allowances, both of which will hit small firms harder. At the same time, the tighter lending criteria adopted by banks, in the light of the turbulence in financial markets, is also likely to have most impact on smaller firms. 63. There is also a growing body of evidence that points to a link between exporting and gains in productivity. Recent research44 shows that companies experience a large increase in productivity in the year prior to becoming exporters and that exporters enjoy faster productivity growth than non-exporters. This link partly reflects the fact that only the more eYcient businesses can be eVective exporters. In addition, exporting businesses experience gains in productivity as a result of preparing to compete in a global market and from learning from their experiences. There are also links between exporting and increased levels of innovation. 64. EEF’s study of exporters supported these findings. It showed that companies that are more dependent on exports that are experienced in a range of exports markets or are involved in exporting to emerging markets are more likely to report increased productivity.The EEF research also showed that export support, particularly that provided in the field to companies looking to export to emerging economies, had a significant positive impact on exporters’ eVorts to develop new markets. The evidence therefore suggests that supporting exporters helps to improve our trade performance but also contributes to making the UK a higher value added economy. 23 October 2007

43 EEF (2007) EEF/ PWC 2007 Tax Survey. 44 Establishment Level Empirical Study of Links Between Exporting and Innovation (2006) and Firm Level Empirical Study of the Contribution of Exporting to Productivity Growth (2006), Professor Richard Harris and Q Cher Li for UKTI Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Memorandum submitted by the Environmental Industries Commission (EIC)

Environmental Industries Commission The Environmental Industries Commission (EIC) was launched in 1995 to provide the environmental technology and services industry with a strong and eVective voice with Government in the debate about to how to ensure that British companies succeed a rapidly growing worldwide market. With over 330 company Members, EIC is the lead trade association for environmental technology and services industry. EIC represents the main environmental sectors (water, air, land, waste, transport, climate change, etc). It has the support of leading politicians from all three major political parties, industrialists, trade union leaders, environmentalists, and academics. EIC advocates a supportive legislative and fiscal framework that emphasises progressive Government policies on environmental regulation, tax incentives, export promotion and R&D support. Through its innovative Sector Working Groups EIC provides a powerful and eVective platform for putting forward the industry’s views directly to key regulators and policy makers in Westminster, Whitehall and Brussels.

1. Introduction It is increasingly clear that the future of international competitiveness will depend heavily on success in creating a low-carbon and resource-eYcient economy. Firstly, the environmental industry, which will provide the technology and know-how to achieve this transition, is creating a huge global opportunity. Secondly, pollution control and resource eYciency is becoming increasingly important to mainstream industry in reducing its costs and meeting customer requirements. A transition to a low-carbon, resource-eYcient economy is needed to meet the global challenges of climate change and sustainable development. There will be winners and losers, but there are considerable opportunities for those countries and businesses with the foresight to seize them. Committee on Environmental Markets and Economic Performance (CEMEP), 2007.

2. Importance and potential of environmental industries In a recent speech to WWF, the Prime Minister, Gordon Brown MP, recognised the importance of the environmental sector stating that: “Globally the overall value added of the low carbon energy sector could be as high as $3 trillion per year worldwide by 2050, it could employ more than 25 million people in jobs. If Britain maintains its share of this growth there could be over a million people employed here in our environmental industries within the next two decades. So building our own low carbon economy oVers us the chance to create thousands of new British businesses, hundreds of thousands of new British jobs and a vast new export market in which Britain can be a world leader.” The environmental industries are already a substantial sector of the economy. The UK Environmental Technology and Services (ETS) Sector employs 400,000 people in the UK and had a turnover of £25 billion in 2006–07, at least 10% of which came from exports. Projections suggest that the UK environmental goods and services industry will grow to £34 billion in 2010 and to £46 billion by 2015 (UKCEED for DTI, Emerging Markets In the Environmental Industries Sector, 2006). Employment in the sector will grow by at least 100,000 by 2015. Globally, the environmental industries sector was estimated to be worth $548 billion in 2005 and is expected to grow by 45% by 2015, to become triple the size of the global aerospace industry. In the EU environmental industries contribute 2.2% of EU GDP and contribute more to the economy than car manufacturing and chemical industries in terms of both employment and GDP (European Commission, Facts and Figures: the links between EU’s economy and environment, 2008). The UK is in a position to take advantage of the global shift towards a low carbon and resource eYcient economy. The City of London is the world centre of the emerging carbon trading market and the UK has world-class solutions to oVer in areas such as land remediation, environmental measurement and monitoring, water and wastewater treatment. The UK is seen as a leading location for environmental consultancy and design services. The UK is already second only to Germany in terms of exports of environmental goods and services in the EU and could build on this position. However there is huge global competition for this rapidly growing market. As CEMEP recognised “Environmental policy is the critical factor for making investment decisions in environmental markets. Policy creates and shapes a market that would not otherwise exist.” The key factor in the UK winning in environmental markets will be leadership in the use of regulation and market-based incentives to internalise external environmental costs. This will give UK companies first mover advantage by developing skills and technologies before other nations overtake our position. The UK Government has been the first to introduce legislation to set legally binding carbon reduction targets in the Climate Change Bill but the policy framework needs to be developed further. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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A recent example of first mover advantage is the lead the UK took in carbon trading with the UK Emissions Trading Scheme. This gave UK companies a head start in engaging with carbon trading and London now dominates this rapidly developing market with over 50% of transactions.

A key factor in setting the right policy framework will be ensuring assessment of new policies takes into account the opportunities to steer the economy towards the industries of the future. The CEMEP Report concluded “Commissioners believe policies can too easily be framed by cost-benefit considerations that are too short-term. There needs to be greater understanding and institutional support across Government for taking longer-term costs and benefits into account.”

The design of the policy framework is also key to minimise costs and maximise opportunities and innovation. To send a clear signal to investors the policy needs to be credible and long term. The CEMEP report characterised this as “long, loud and legal”. It should be focused on outcomes desired, not the path to get there, and provide sensible timescales fitting in with industry investment cycles allowing companies to achieve these in the most eYcient way.

3. Role of environmental industries in expanding high value business

In addition to producing profits and jobs for the UK economy environmental industries provide the technology and know-how to help the rest of business become more competitive.

Environmental markets increasingly pervade the whole economy as all businesses take steps to improve operational performance through greater eYciency and sales performance by oVering goods and services that are attractive due to an environmental edge.

There is a growing body of evidence to show that environmental policy and regulation stimulates innovation and presents new business opportunities. The Aldersgate Group 2006 report “Green Foundations: Better Regulation And A Healthy Environment For Growth And Jobs” explains this clearly. “Becoming more eYcient makes good business sense,” says the World Business Council for Sustainable Development. Chairman and Chief Executive OYcer of General Electric, JeV Immelt, also observes: “Europe today is the major force for environmental innovation. We—General Electric—are therefore investing in environmentally cleaner technology because it will increase our revenue, our value and our profits […] Not because it is trendy or moral, but because it will accelerate our growth and make us more competitive”. Achieving high environmental standards across the UK would produce significant cost savings and consequently boost competitiveness. Research has identified that in the UK £2–3 billion savings could be made in annual operating costs by investing in best practice manufacturing techniques for waste minimisation. Industry could also save £1.8 billion through energy eYciency; and UK companies could cut water costs by 30% based on some simple and inexpensive measures. Environmental regulations have played a key role in stimulating such resource eYciency through reducing energy use and waste production. A global review of competitiveness by Professors Daniel Esty and Michael Porter from Yale and Harvard Business School found that “economic competitiveness and environmental performance are compatible, if not mutually reinforcing. Low pollution and eYcient energy use are a sign of the highly productive use of resources. Policies that stimulate improvements in environmental quality, then, may actually foster improvements in competitiveness that underpin a rising standard of living in the long run”.

More recent reports suggest the savings are even higher. For example, UK businesses use four times the volume of water that they need and could save ƒ4.5 billion a year (European Commission, Facts and Figures: the links between EU’s economy and environment, 2008).

The cost of fuel is rising and is increasing as a proportion of costs in many sectors of the economy, and therefore increasing fuel eYciency will be economically vital in expanding high value business. The EU goal of saving 20% of energy consumption by 2020 through energy eYciency is crucial in driving the development of energy eYcient industries. It would save the EU some ƒ100 billion and cut carbon emissions by almost 800 million tonnes a year.

Pollution is also a major drag on the economy and cost to business through an increased burden on the health service, increasingly expensive scarce natural resources, higher insurance premiums and decreased yields from agriculture and forestry. For example, the environmental and accident related impacts of transport are estimated to cost up to 7.3% of GDP in the EU and the health costs from air pollution are estimated to be between ƒ275 billion and ƒ790 billion annually (European Commission, Facts and Figures: the links between EU’s economy and environment, 2008). Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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4. Government export support for UK environmental industries Given the scale of the opportunity provided by the environmental industry sector to the UK economy, the current level of export support provided to the sector through UKT&I Environmental Industries Sector Unit (EISU) is very disappointing. We are also deeply concerned that this support is actually being cut. EISU operates on a very small budget considering the size and growth prospects of the ETS industry that it supports. In 2007–08 this was cut to just £882,000—compared to £1,118,000 in 2006–07, a decrease of 21%. Furthermore, we understand that further cuts in budgets and staYng are likely next year and that EISU will be merged with the Water Unit. One area of EISU’s work particularly welcomed by our industry was the services of three experienced Export Promoters. However, following budget cuts there is now just one Export Promoter in post and we understand they are leaving. The UK has many environmental companies who are successfully exporting around the world and, according to the Environmental Industries Sector International Trade Strategy 2006-07, at least a tenth of the UK’s current environmental industry’s £25 billion annual turnover is through exports. However, the great majority of UK environmental companies are SMEs who find it diYcult to expand into international markets. These companies need support from UK Trade & Investment to take their first steps into new markets. The work of the EISU is vital in providing this support. In particular the market prospects in the environmental sector are closely related to the legislative regimes in place and their implementation in each market and EISU, and its partners in the regions and overseas embassies, have a key role in helping companies understand the market. These cuts in funding and staYng will damage the UK’s eVorts to capitalise on the opportunities presented by the global environment industry. Furthermore a merger of EISU with the Water Unit would not provide appropriate support to the ETS industry as the nature of businesses and needs in the two sectors are highly divergent.

5. Implications for Government Policy EIC believe that the following points will be key to the UK realising the opportunity for high value business in environmental markets: 5.1 Environmental Policy: The key factor in will be leadership in the use of regulation and market-based incentives to provide the appropriate signals to the economy. Assessment of policies needs to move beyond short-term cost-benefit considerations to take longer-term costs and benefits from environmental innovation into account. 5.2 Policy Design: To send a clear signal to investors the policy needs to be credible and long term. It should be focused on outcomes desired, not the path to get there, and provide sensible timescales fitting in with industry investment cycles allowing companies to achieve these in the most eYcient way. 5.3 Lead Markets: To support the larger scale deployment of emerging environmental innovations action is needed to create “lead markets”. Public procurement is a key tool for driving demand for innovative low carbon and resource eYcient technologies. 5.4 Innovation Policy: These policies need to be underpinned by eVective investment in the technologies and skills that will help UK business take advantage of the new industries of the future. 5.5 Export Support: To help UK environmental SMEs who find it diYcult to expand into international markets much greater support is need from UK Trade & Investment to take their first steps into new markets. 22 April 2008

Memorandum submitted by Ford Motor Company (FMC) 1. Ford Motor Company (“FMC”) welcomes the opportunity to submit written evidence to the House of Commons Business, Enterprise and Regulation Select Committee’s inquiry, Towards a Higher Value Added Economy. We have also been grateful for the Committee’s guidance as to the areas in which information is sought and have structured our submission accordingly.

Company Global Overview 2. FMC, headquartered in Dearborn, Michigan in the United States of America, is one of the world’s largest vehicle manufacturers, with approximately 283,000 employees in 200 markets on six continents. Its automotive brands include Ford, Jaguar, Land Rover, Lincoln, Mazda, Mercury and Volvo. Combined global sales were 6,600,000 in 2006. Net income globally last year was a loss of $12.5 billion, and turnover was $160 billion. For the first nine months of 2007, Ford Motor Company’s pre-tax results from continuing Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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operations improved by $2 billion from last year, and net income improved by $7.1 billion over the same period. FMC’s automotive-related activities include Ford Credit, Quality Care and Motorcraft. FMC observed its 100th anniversary on 16 June 2003.

Ford Motor Company in Britain 3. FMC group companies in Britain employ around 30,000 people—approximately one third of all Ford Motor Company employees in Europe. 15,500 of these people are employees of Jaguar and Land Rover. FMC accounts for some 80% of UK automotive R&D, employing 9,500 people at technical centres located in Dunton, Essex and Whitley and Gaydon in the West Midlands. 4. Three Ford Motor Company brands build vehicles in the country—Ford “Blue Oval”, Jaguar and Land Rover. 5. The Bridgend and Dagenham Engine Plants also build petrol and diesel engines respectively for Ford, Jaguar, Land Rover, Volvo and Mazda products. In addition, Mazda and Volvo have sales organisations in Britain, and Ford Financial Europe—Ford’s financial services organisation—is headquartered in the country. 6. FMC group companies operate over 30 facilities in England, Wales and Scotland. A third of Ford’s European spending, and over two-thirds of Jaguar and Land Rover’s total spending, is in Britain. In total, Ford Motor Company spends around £4.5 billion in the UK each year. Jaguar and Land Rover are among the country’s largest exporters to the United States market.

Ford of Britain Manufacturing Operations 7. Ford of Britain operates three manufacturing centres in Britain: the Ford Swaythling plant near Southampton which manufactures Ford Transit variants; the Dagenham Engine Plant in East London which is Ford’s global centre of excellence for the engineering and manufacture of diesel engines; and the Bridgend Engine Plant in South Wales which builds petrol engines. Ford employs 8,500 people in UK manufacturing.

Jaguar Land Rover Manufacturing in Britain 8. 2,200 people are employed at Jaguar’s Castle Bromwich plant, where XK, XJ and XF vehicle production takes place. Jaguar’s X-TYPE saloon and Land Rover Freelander are produced at Halewood on Merseyside where a further 2,100 people are employed. 9. Some 5,700 people are employed at Land Rover’s Solihull plant where four current models—Defender, Discovery, Range Rover and Range Rover Sport—are produced. 10. A further 2,900 employees are located at Jaguar Land Rover’s design and engineering centre at Gaydon, Warwickshire and 2,000 at Jaguar’s Whitley Design Centre in Coventry.

Research and Development 11. Research and development forms an important part of FMC’s activity in the UK and accounts for 80% of automotive industry R&D in Britain. FMC employs around 9,500 people at its three main technical centres in the country: the Ford of Britain technical centre at Dunton, Essex, and the Gaydon and Whitley complexes responsible for Jaguar and Land Rover engineering development. R&D is also conducted into diesel engine engineering at the Ford Dagenham Diesel Centre and among the technical teams working in FMC manufacturing facilities. Spending on R&D in the UK for Ford Motor Company brands is around £800 million annually. 12. Ford adopts a multi-technology strategy approach to environmental R&D since there is no single technology that alone will reduce CO2 emissions from road vehicles to sustainable levels. By applying a range of technologies across our product portfolio we will be oVering customers more than 100 models and derivatives with improved tailpipe emissions and fuel economy performance over the next few years. 13. Last year, FMC announced a £1 billion investment in green technologies to be delivered principally by our UK technical centres. That investment is focusing on: — lightweight vehicles; — new advanced diesel and petrol engines; — hybrid vehicles; — bio-fuels; — advanced transmissions; and — a range of other driving eYciency improvements. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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14. We believe that the hydrogen economy is a much longer proposition, and we are ensuring we have the technologies available when hydrogen technology becomes feasible to implement. Ford is a leader in the design and development of hydrogen fuelled fuel cell technology and is also researching and testing the use of hydrogen in internal combustion engines. Besides the fuel infrastructure, sustainable production of hydrogen and aVordability remain the most significant challenges. 15. This investment is already producing results. At the recent Frankfurt Motor Show, Ford announced the launch of its ECONETIC range of low CO2 vehicles and the first product will be a Ford Focus at 116g/ km CO2 available before the end of 2007. Low CO2 products across the Ford range will be available during 2008 including a Fiesta below 100 g/km CO2. At the show, Land Rover also announced that the Freelander will be available with Intelligent Stop Start technology early in 2009 saving up to 15% CO2 emissions. This technology, along with others, will be deployed across the Jaguar Land Rover product range in the coming years. 16. FMC welcomes recent Government statements on the importance of research and development to the UK economy, including the recent announcement of funds to support low carbon vehicle development through the Innovation Platform. We also welcome the recently announced Low Carbon Public Procurement Programme which will assist the acceleration of “near-to-market” low carbon vehicles. 17. FMC believes that environmental technology development does provide an economic opportunity for the UK, but contends that the UK cost equation and decline in supply base presents significant challenges to investment, particularly given the fierce global competition for R&D resources and the growth in technical capability of India and China. Funds to support R&D activity are very limited and the UK does not seem to be regarded as an attractive location for R&D investment by vehicle manufacturers other than Ford. FMC submits that a debate is urgently required to address ways in which UK automotive R&D can be stimulated.

Impact of Climate Change Agenda on Vehicle Manufacturers

18. Ford acknowledges climate change as one of the biggest issues facing society and reducing CO2 is at the very top of the agenda for FMC globally—our single biggest challenge going forward. Our £1 billion investment in green technologies announced last year is one illustration of this commitment. 19. The need to address climate change is, rightly, at the heart of EU and UK Government policy and, for the automotive sector, the main implications are for European legislation on CO2 emissions and national vehicle taxation measures.

EU CO2 Legislation

20. Average CO2 emissions from new cars in the EU have reduced by 25g/km over the past 10 years. And today, one third of all European cars sold are below 140g/km while more than a million cars are put on the market every year emitting 120g/km or less. These are significant achievements delivered in the face of often conflicting regulations.

21. We will play our part in achieving the required mandatory objective for vehicle CO2 emissions that will eventually be set by the European Union. Despite this progress we recognise that we need to chart a course towards even lower CO2 emissions and that will only be delivered through a combination of demand and supply side measures. This involves a role for the regulators but regulation can only work if it’s sensibly framed and introduced as part of a wider integrated approach. So in addition to supply side legislative CO2 targets we also need the right legislative framework from Governments to allow competing environmental technologies to flourish without distorting the marketplace. And we need proper engagement of consumers through intelligent fiscal measures and consumer information. And finally, to achieve the maximum CO2 reductions we need a full contribution from biofuels and other measures such as eco-driving. 22. However, the Commission’s proposal that a target of 130g/km by 2012 be achieved through vehicle technology only is a very significant challenge for the industry. An additional challenge will be to define equitably how to achieve this average result over a wide range of vehicle classes, and Ford is working constructively to achieve a fair distribution of the finally-agreed burden across the industry through its role as a member of the ACEA. 23. We are concerned about the specific impact of the legislation on Jaguar and Land Rover. The legislation will impose challenging targets for the entire industry but it is likely that vehicle manufacturer groups will be able to oVset their smaller, higher volume vehicles against the lower volume, higher CO2 emitting vehicles. 24. But when Jaguar Land Rover becomes a separate company there will be no possibility to oVset emissions in this way and compliance with the legislation will not be possible without disproportionate cost and damage to the business. This is despite the fact that Jaguar Land Rover has a plan to reduce CO2 by more than the expected industry average reduction of 18%. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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25. We have therefore asked the European Commission to build in a provision for “niche” producers into the legislation. It would mean that companies like Jaguar and Land Rover—which do not produce a full range of vehicles and whose sales volumes in Europe are relatively low—would have a separate target still expected to be in excess of the average overall reduction for the industry. We would expect this target to be very challenging and to require an aggressive programme of CO2 reduction. 26. Ford has sought support for such a provision from the UK Government, the European Commission and Members of the European Parliament. 27. We do not believe that the intent of this legislation is to put premium manufacturers out of business, but without such a provision Jaguar and Land Rover would be left at risk.

Vehicle Taxation 28. Like many EU Member States, the UK Government is using fiscal measures to influence consumer demand for vehicles. Ford recognises the role that green taxes can play in influencing consumer behaviour but believes the Government should guard against proposals which distort the market and threaten UK premium manufacturing. Tax proposals should also be “technology neutral” and should allow competing environmental technologies to flourish. There is a need for a tax structure that helps reduce CO2 over time and across the range of vehicle sectors so that the overall fleet CO2 reduction can be maximised. Disproportionate measures aimed at targeting specific car sectors will not achieve sustainable reductions. 29. In this context, FMC was concerned at recent media speculation that the Government was considering punitive tax levels for vehicles in Band G (ie over 225g/km CO2). It seems that a new purchase tax combined with higher levels of Vehicle Excise Duty are under consideration. 30. The potential impact on Jaguar and Land Rover is significant because 63% of Land Rover and 31% of Jaguar UK sales are currently in Band G and the UK is Jaguar’s largest and Land Rover’s second largest market. 31. We urge the Government to develop proposals which allow the appropriate signals to be sent to the consumer while avoiding market distortion and disproportionate impact on UK premium automotive manufacturing. 32. FMC is also concerned at increasingly wide variations in taxation schemes across EU Member States. We are seeing diVerent taxation break points, diVerent tax bandings, varying amounts of tax payable for the same vehicle in diVerent countries and diVerent exemptions. In short, a confused and inconsistent picture which makes product planning, engineering and homologation for vehicle manufacturers in the EU increasingly problematic. Even within the UK, we are beginning to see a significant variation at local level in terms of parking schemes and congestion charge proposals. 33. We call upon the Government to hold discussions with other EU Members to secure a greater level of consistency in vehicle taxation and to act in the UK to avoid the emergence of numerous and widely varying local approaches.

Public Procurement 34. FMC currently supplies vehicles across the public sector, including to Government Ministers and oYcials, the police and emergency services. We value this business both on its own terms and for the symbolic support of Government it implies. We fully accept that Ministerial vehicles should be both competitive on cost and environmental performance and Jaguar, for example, meets both criteria through its X Type diesel and XJ diesel vehicles. However, little account currently seems to be taken of the level of British content in either the design or production of a vehicle or indeed the life cycle CO2 emissions generated by vehicles manufactured abroad and transported to the UK. We believe that these criteria should apply for vehicles purchased using British taxpayers’ money.

Potential sale of Jaguar and Land Rover 35. On 26 July 2007, FMC confirmed that it was talking in more detail to a smaller number of interested parties about the possibility of a sale of the combined Jaguar Land Rover business. Ford Motor Company has stated for well over a year that it has been assessing a number of strategic options for all of its operations—as would be expected of any responsible business. This step on Jaguar and Land Rover is directly in line with this review and is consistent with Ford’s transformation plan. The plan will lead Ford to automotive leadership and create profitable growth for all in the future. Its elements include: — aggressively restructuring to operate profitably at the current lower demand and changing model mix. — accelerating the development of the new products that customers want and prefer—with advancements in safety, quality, environmental innovation and design. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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— financing our plan; and — working together, especially in terms of developing a more unified global brand identity for Ford “Blue Oval”. 36. Any decisions we make will be in the best interests of Ford Motor Company and Jaguar Land Rover. The objective of any sale would be to provide Jaguar Land Rover with the ownership, technology and investment structure it needs to allow it to reach its full potential, while enabling Ford to concentrate on its core business strategy. 37. As the largest employer in the UK auto industry, Ford fully understands its responsibilities not only to its employees but also to its local communities. Ford recognizes the significant connections between Ford Motor Company and Jaguar Land Rover in terms of component supply, engineering and manufacturing and any potential sale would need to take full account of this. 38. The Company has now completed an extensive phase of due diligence with interested parties leading to firm bids received at the end of October. Bids have been assessed on a number of criteria, including financial terms, business strategy and stakeholder concerns, particularly those identified by unions, Government and local MPs on issues such as employment contracts and pensions. A further factor is the ability to have a strong relationship with Ford including long term arrangements concerning technology, component sharing, engine supply etc. Finally, there needs to be certainty of achieving closure for any deal. 39. Based on these assessments and further discussions with bidders we have selected a smaller number of bidders to proceed to more detailed discussions. There are still many detailed issues to work through, but we are confident that any one of the bidders would be a strong owner for the business going forward. 40. The process is being conducted according to strict confidentiality rules and FMC has not made any statements as to the names or numbers of parties with whom we are working. We anticipate that discussions with interested parties will culminate in an agreement no later than early next year. 41. Throughout this process we have maintained very close ongoing communications with our union colleagues, Government Ministers and oYcials, Members of Parliament with a strong Jaguar and Land Rover interest and other stakeholders. 42. We are committed to maintaining close contact with union colleagues and other stakeholders as the process continues. We do not disclose the content of any discussions with unions, Government or Members of Parliament.

Skills 43. In previous submissions to the Committee, FMC has drawn attention to concerns over our ability to recruit suYcient numbers of skilled people to support our engineering activities in the UK. 44. In our submission of June 2006 to the Committee’s Inquiry into the UK Automotive Industry, we stated: “Ford believes we must do more in the UK to raise teaching standards in mathematics and science, and improve the image of technology and engineering. Industry and government need to work more closely than before in order to achieve this goal. One diYculty companies like Ford face is accessing funding for basic skills and retraining activity. The existing training delivery structure is unnecessarily complex and there is a need to simplify and secure greater ease of access to training funds.” 45. While we welcome the Government’s recognition of these problems and some initiatives to address them, these remain significant issues facing our business in the UK. 46. We welcomed the recent Leitch Review of Skills and particularly the recommendation that the UK skills system be demand-led with qualifications that deliver the skills that employers and individuals need. We recognise that the implementation of this recommendation poses significant challenges but call upon all stakeholders to redouble their eVorts in this area. 47. Ford has historically been a strong supporter of the Automotive Academy and is pleased to see it form the blueprint for the National Skills Academy for Manufacturing. NSAM aligns with Ford’s philosophy of employer-led training and skills delivery and Ford hosts the NSAM London spoke at the Centre for Engineering and Manufacturing Excellence in Dagenham. FMC is also represented on the Board of SEMTA, the host sector skills council for NSAM. FMC will look to the new Commission for Employment and Skills to provide strong and eVective leadership in this area and would want to assist in any way it could.

Currency Issues 48. The weakness of the US dollar and present strength of sterling continues to have a significant adverse impact on North American revenues for Jaguar and Land Rover (and other dollar based export markets) as these markets represent roughly a quarter of Jaguar Land Rover’s revenue base. Despite significant weakness of the US Dollar there has not been any trend to higher competitive pricing in the US market over this period, therefore the ability of Jaguar Land Rover to oVset these structural currency impacts is limited to Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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internal cost improvements and its ability to redirect volume/increase our sales in other non-dollar markets, particularly in growth markets such as Russia and China. Over the short-term clearly we have also used currency hedging to smooth currency, which has mitigated some of the direct bottom line eVect over the last few years, but is not a long term solution. 49. The weak dollar has had a relatively small direct eVect on the Ford brand business in the UK as most of Ford’s business is transacted within the European Union with the exception of some lower volume export sales to dollar markets in the Middle and Far East. Clearly of concern to us however is the strength of both the Euro and Sterling against other global currencies such as the Japanese Yen, Korean Won and Chinese Yuan, which clearly gives a significant cost advantage to competitive brands importing into the European market from non-EU manufacturing facilities. 50. We continue to believe however that participation in the North American premium market, the largest worldwide, is critical to the future of the JLR and therefore continue to develop appropriate products and distribution for that market and manage our cost structure as best as we can until a return to more favourable currency conditions comes about.

Land Rover Manufacturing 51. Over the past three years Solihull has faced the challenge of raising its quality levels to match those set internationally by Jaguar and to become truly world class and is on target to achieve its goals. Substantial progress has been made and the plant recently recorded a significant improvement when audited as part of a statutory Ford Production Systems Integrated System Review—an important milestone in its eVorts to reach those goals. However, there remains a need for further improvement. 52. Solihull continues to produce all Land Rover’s top-selling models except for Freelander 2—the Defender, Discovery 3, Range Rover Sport and Range Rover—and is the source of over 60% of total global production and sales. It continues to contribute significantly to the £4 billion worth of Land Rover exports each year. 53. Production of Freelander was successfully transferred from Solihull to Halewood with the introduction of a second-generation version, the Freelander 2, in the summer of 2006. It has served to enhance the reputation of the plant, rated as one of Ford’s best facilities on a global basis, with the new car winning an international reputation for quality as well as capability and helping Land Rover to what will be a third successive year of record sales in 2007. 54. Freelander 2/LR2 is playing a significant role in broadening Land Rover’s customer appeal in traditional and emerging markets. Its impact has recently been further enhanced by the introduction of an automatic diesel version, announcement of a new luxurious range-topping model and plans to achieve even greater economy by the introduction of a stop-start system as standard on many models from early 2009.

Land Rover Carbon OVset 55. Land Rover launched a Carbon Dioxide OVset Programme in September 2006 to balance emissions from its manufacturing operations and the first 45,000 miles of UK customer use. The oVset provider is Climate Care, a company chosen after a lengthy period of due diligence. 56. The programme is overseen by an independent board of governance, formed from leading experts on climate change and environmental issues. 57. The oVset projects currently in place are fully verified and validated by an independent third party against the recognized international Kyoto standards, or equivalent, such as the Voluntary Gold Standard. The projects involve alternative or renewable energy sources such as wind or hydro, energy eYciency and technology change. The projects do not involve tree planting. 58. Land Rover customers pay from £85 to £165 depending on model and will be able to track exactly where their money was spent.

59. Land Rover takes its responsibility to the environment very seriously and the CO2 OVset Programme is just one part of an integrated approach to tackling climate change. We have already reduced vehicle emissions with the use of new, eYcient and clean diesel engines. We have a multi-million pound investment programme to bring forward new technologies to make further, significant improvements. We are developing a hybrid and lightweight models. However, cycle plans in the automotive industry are measured in years and the CO2 OVset Programme enables us to make a real and measurable diVerence now. 60. The first projects include providing hydro-electric power to a remote area of Tajikistan and funding a wind farm in China. We are also helping to supply 20,000 eYcient cooking stoves a year in Uganda. These projects are part of a developing portfolio, and will additionally bring social and environmental benefits to thousands of people. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Environmental Manufacturing Performance 61. All FMC manufacturing plants are ISO 14001 accredited and work to environmental target reductions that include water use, energy use, VOC emissions and waste. Since 2000 FMC has reduced its global operational energy use by 27%. Our manufacturing energy eYciency target is 1–2% year on year. UK operations achieved a 5% absolute reduction over the 2002–06 timeframe through the UK Emissions Trading Scheme.

62. Passenger cars typically emit 85% of their life-cycle CO2 during the in-use phase. Manufacturing, distribution and sales accounts for 10% of life-cycle CO2 and end-of-life processing the remaining 5%. The End of Life Directive determines the recycling targets for passenger cars which are currently set at 85%, rising to 95% by 2015. 63. Ford has established London’s first large-scale wind farm at Dagenham, transforming the Thames Gateway skyline in the process. The two 1.8MW turbines provide all the electricity needs of its new diesel assembly hall and annually displace 5,762 tonnes of CO2, 67 tonnes of Sulphur Dioxide and 20 tonnes of Nitrogen Oxide. A third wind turbine is being planned. Bridgend Engine Plant had the UK’s largest solar array at launch. Mounted on the roof they provide enough electricity to light the plant.

Ford’s UK Strategy 64. Ford of Britain’s manufacturing presence in the UK is concentrated on engine and transmission (through Ford Getrag) production, supported with powertrain engineering at the Dunton Technical Centre. The UK also produces the Ford Transit, again with development support from Dunton. Ford aims to produce over 2 million engines annually by 2009, providing one quarter of Ford’s total engine requirement and some 80% of Ford of Europe’s engine needs. Dagenham already supplies more than 50% of Ford’s global diesel engine demand. 65. Assuming a satisfactory outcome to the current Jaguar Land Rover sale process, Ford will retain a strong presence in the UK, remaining UK market leader, a substantial investor in R&D and a significant employer. Jaguar Land Rover and Ford will be the UK’s two largest automotive employers and Ford will continue the supply of engines and technology support to Jaguar Land Rover and Aston Martin. Ford’s UK activities will also continue to make a significant contribution to the company’s global presence. December 2007

Memorandum submitted by the Imagineering Foundation

Background — The future of UK engineering and the development of a higher added value economy depend on a supply of talented, able, motivated people to join the engineering profession at all levels to ensure that the UK has a globally competitive, developing, productive engineering and manufacturing base. The development of Science, Technology, Engineering and Mathematics (STEM) skills at formative stages in children’s education is important in achieving this. — IMAGINEERING FOUNDATION is an education charity focused on delivering engineers of the future by inspiring and engaging young people through hands-on fun activity through public Imagineering Fairs but most particularly Imagineering clubs. This experience of enjoyment and achievement from making things at an early age is a proven formula for the first step in halting and reversing the downwards trend in STEM skills in the UK’s young population. — Imagineering harnesses the energy of engineers, often through the professional institutions and companies, to bring exciting experiences to children, aimed at encouraging them to pursue a career in engineering.

Imagineering Clubs — After-school clubs, for 9–12 year olds, tutored by volunteer engineers; run for an hour a week throughout the school year, where, using simple tools and learning basic skills, children produce a programme of curriculum-related working models, made from kits, which they can then take home. — Over 120 clubs currently engage nearly 1,500 children each week, mainly in primary schools, run by around 250 tutors. — Volunteer engineer tutors provide the children with a realistic positive experience of engineering. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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— Imagineering is one of only 15 organisations to gain the prestigious Learning Grid Quality Award, as assessed by judges from education and industry. — Imagineering Foundation delivers an exciting opportunity to children towards the end of primary school and at the beginning of secondary. To take Imagineering’s aims forward, a long-term view must be taken, with actions now to secure both the STEM experts and the STEM technicians in 10-20 years time. — Imagineering aims, long-term, to establish an Imagineering Club in every primary school in UK— with a short-term target of 20% cover by 2010 or 4000 Imagineering Clubs. — The main elements of the delivery side of the long-term plan — Reinforce the existing Imagineering logistics facility for tools, kits and know-how; — Decentralise delivery to approximately 10 regional centres each responsible for local — Training of tutors; — Marketing to local companies to obtain volunteers as tutors; —OVer of hands-on training of interested primary school teachers; — Collaboration with other organisations and initiatives to give a coherent strategy for enhancing STEM skills. — Each regional centre minimum exclusive resource is a half time trainer / marketing person (equipped and with transport) and a permanent training room. BENEFITS for organisations supporting Imagineering Clubs, through provision of volunteer tutors or financial resources, include: — actively working towards addressing future skills gap in engineering, from which all will benefit; — promoting engineering & manufacturing, contributing in a positive way to the future of UK economy; — involvement with activity that contributes to the organisation’s corporate social responsibility programme; — personal development of employees and management.

Conclusion — Imagineering is entirely volunteer based at present with no permanent funding and success has been due to enthusiasm and ad hoc support—in cash or kind—from companies, engineering organisations and professional institutions. — However, for future growth to be achieved reliable funding and a base of permanent staV needs to established. October 2008

Memorandum submitted by Intellect

Background Intellect is the UK trade association for the IT, telecoms and electronics industries. Its members account for over 80% of these markets and include blue-chip multinationals as well as early stage technology companies. These industries together generate around 10% of UK GDP and 15% of UK trade. Intellect is a vital source of knowledge and expertise on all aspects of the hi-tech industry. Alongside the technology industry’s considerable footprint in the UK, it also enables many other industries in today’s economy: — financial services; — creative industries; — retail; — transport and logistics; — manufacturing; — defence and aerospace; and — pharmaceuticals. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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The UK has had a good record in creating a business environment that allows the technology industry to thrive and drive the growth of other sectors. However, in an era of globalisation, and new competitive threats, sustained economic growth cannot be guaranteed. UK based businesses must work with policymakers to ensure that the UK remains an attractive location for technology companies. Intellect welcomes this timely inquiry into the creation of a higher-value added economy by the Business, Enterprise and Regulatory Reform select committee. Intellect values the opportunity to provide input to the committee and looks forward to a programme of continual engagement with relevant government departments, agencies and other stakeholders on this and related issues.

Summary The UK Government has a role to play in creating a business environment that attracts investment. Intellect’s members have been aware of the importance of taking action to ensure that the UK remains a competitive location for some time. Whilst we have seen strong growth across knowledge based industries such as technology, financial services and creative industries for a number of years, continued growth is not guaranteed and there are a number of issues that require action to ensure that the UK business environment remains an attractive investment location. Whilst many of the priorities require action from business itself, there are a couple of areas where we believe policymakers can help: — Driving up quality of research There is a critical role for universities not only to drive research but also to work with business to commercialise research ideas as they are developed. The UK is falling behind its competitors in this area; other countries have a stronger culture of commercialising R&D. Whilst there is already work underway to drive improvement in this area, through Knowledge Transfer Networks and other initiatives, Government has a key role to play as the financer of the university sector. — Investment in skills Government’s ongoing eVorts to tackle the skills gap in the UK need to be refined to ensure a more holistic approach to STEM subjects. We are concerned that technology skills are being systematically overlooked in the wider debate on driving up STEM skills, with worrying implications. — Smart procurement Recognising the size of the public sector in the UK, government must seek to continue in its eVorts to improve eYciency in procurement and leverage the impact of the high levels of investment in goods and services to best eVect. — Open business relationships It is critical that there are open, wide-ranging relationships between business and government. Over recent months decisions have been taken without any consultation with business, which have had considerable market eVects. Open channels of communication and consultation between Government and industry have to be an established part of the UK business environment.

Inquiry Questions

1. What is meant by a higher value added economy? Which businesses qualify as such? Intellect defines a “higher value-added economy” as a knowledge economy: Where the generation and use of knowledge has come to play the predominant role in the creation of national wealth, achieved by eVective use and application of all types of knowledge and technology, in all manner of economic activity. (Navigating the New Economy, Intellect, 2006) Knowledge has become the new factor of production. The exploitation of technology, innovation, skills and creativity are central to the development of new high value goods and services across public and private sectors. The UK’s continued economic stability is reliant on successfully realigning our economy to enable us to compete in this changing global market. This will only be achieved by placing the successful orientation, diVusion and exploitation of knowledge at the heart of our economic vision. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Currently we believe the UK is developing a knowledge base, but not a knowledge based economy. To have a knowledge based economy highly innovative, and therefore high risk, activities have to be invested in with the accompanying risk of failure. That risk of failure handicaps companies within the UK where eVorts are lacking as there is no mechanism to encourage such innovation by supporting the levels of risk associated with a highly innovative industrial/commercial base. While tax incentives support success, such incentives do nothing to support the risk of failure. If failure is not allowed for, innovation levels reaching the forefront of technologies and turning that knowledge into usable product and services, will not happen.

2. How does UK business compare internationally in areas such as research and development, creativity and design? Statistically UK business does not compare well with its international competitors. Private sector R&D is currently 1.8% of UK GDP.45 This level of investment puts the UK significantly behind Germany, Japan and the US. The UK currently lies 18th in the table of R&D spend on services as a percentage of GDP.46 The economy wide statistics do mask some areas of strength in R&D, such as aerospace, F1 and pharmaceuticals. However we have concerns relating to two factors: firstly international perceptions of the UK’s R&D abilities and secondly a lack of focus on the “D” of R&D. Research published in the FT in December 2007 showed that German high-technology companies are much more likely to invest in China, India or eastern Europe than Britain.47 The findings make worrying reading for both UK businesses and policymakers. According to the research, declining research standards and skills levels combine to reduce the attractiveness of the UK as a location for investment. Government policy has focused on R&D over recent times, reinforced by the R&D tax credit. However, we are concerned that too much attention is put on research, and little on development—the UK is bad at commercialising its ideas. Our competitors are better at developing innovation into commercial success.

3. What can be learnt from the experiences of other countries in this area and how fast other countries are moving up the value chain? It is important to temper international comparisons with recognition that each country is in a diVerent stage of development and has had a unique development. With this in mind it would be valuable for Government to undertake deeper analysis of competitor nations, and their eVect on UK business. For example, the profile of Indian technology companies is evolving rapidly from the provision of back- oYce IT outsourcing to business process outsourcing and knowledge process outsourcing. It would therefore be valuable for companies in the UK technology market to have access to data on the Indian market to establish the exact nature of the opportunities for business collaboration. It is important that the UK embraces emerging markets and actively engages to ensure that UK business is well positioned to take advantage of opportunities that may arise.

4. The extent to which UK business has absorbed new business practises such as lean manufacturing Technology enables business change. The adoption of technology has allowed UK business to reap the benefits of higher productivity and allowed them the flexibility to enter global markets. The exploitation of broadband is an interesting example of a driver of new business practise. Broadband is now available to 99.6%48 of the UK, over the last five years broadband has started to have a real impact on the way businesses interact and transact with their customers—both consumers and B2B. For many companies, particularly SMEs, broadband is changing the way they operate. These are global trends and there is every expectation that these trends will continue to develop. Therefore the capability of the underlying comms infrastructure available to small growing companies is a real competitive diVerentiator. It is therefore essential that we look to the long term evolution of these networks to make sure they can keep pace with the requirements of a fast changing commercial world. Intellect is a member of the Broadband Stakeholder Group49 and strongly endorses its recent work50 to highlight the challenges of the rollout of next generation broadband in the UK. This has stimulated a dialogue between industry, government and regulators on the steps we need to take over the coming two years to ensure our long term competitiveness.

45 OECD 2004 confirm. 46 OECD 2006. 47 Germans shun investing in UK, Financial Times, 5 December 2007 http://www.ft.com/cms/s/0/e212ad24-a2bd-11dc-81c4-0000779fd2ac.html 48 Pipe Dreams? The prospects for next generation broadband deployment in the UK, Broadband Stakeholder Group report, April 2007. 49 www.broadbanduk.org 50 Pipe Dreams? The prospects for next generation broadband deployment in the UK, Broadband Stakeholder Group report, April 2007. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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5. Why some sectors of the UK economy appear to be more eVective at embracing value-added activities than others There are sections of the UK technology industry that are particularly eVective at creating higher value- add from their activities, including for example, the space industry. Recent research shows that the value added per head in the UK space industry is around four times the UK average.51 Several key factors have been identified as drivers of this high level of value added activity: — In part, the space industry’s high productivity reflects the very high levels of capital investment undertaken by firms in the sector. — The industry’s labour force is also highly skilled. — The presence of an upstream industry in the UK is likely to have brought benefit to the downstream/applications sector that would not have happened if they had bought satellite capacity from non UK suppliers. — UK space industry is about six times more R&D intensive than the UK economy as a whole. We should seek, wherever possible, to ensure that the UK business environment facilitates these factors, capital investment, development of high skills levels, support of UK businesses and R&D, as much as possible.

6. The impact on business of government eVorts to promote research and development, including the research and development tax credit The R&D tax credit is a key enabler of the UK’s knowledge economy. Intellect has long been involved with helping technology companies to maximise the tax credit system and believes the scheme is an important enabler of UK business innovation. However, even with the increases announced in the last Budget statement, Intellect believes the scheme for large companies is insuYcient to have a real impact and will not help the UK catch up with competitor nations in terms of R&D spend. Intellect has been arguing for several years that the large company scheme needs a substantial rise. The current rate for large companies is 130%, many costs involved in an R&D project are not eligible for the credit and corporation tax is still applicable, creating a real value of the tax credit of about 4%. This is an increase of just half a percentage point. R&D is fundamental to the success of UK’s knowledge economy and the UK has lagged behind its international competitors. Gordon Brown has reiterated his ambitious target of 2.5% of UK GDP spent on R&D by 2014. This represents an increase of one third in seven years. When we consider that R&D spend has either fallen or been flat over the past few years, this target becomes even more challenging. Although the tax credit is just one factor for companies deciding upon R&D projects, it can still act as a real incentive. To attract multi nationals to undertake R&D in the UK, the R&D tax credit needs to rise to at least 150% for large companies, which equates to 6–8% in real terms. Intellect believes that the R&D tax credits for small and medium sized companies is working well and welcomes the increase from 150 to 175% announced in the 2007 Budget.

7. The progress that has been made on university/business co-operation and knowledge transfer since the publication of the Lambert Review in December 2003 Intellect is involved in a number of Knowledge Transfer Networks (KTNs) and believes they are a useful mechanism for ensuring that innovation flows across the value chain more eVectively. However, KTNs are just one part of the solution and it is important to ensure that more work is done to develop the links between universities and business.

8. Whether business and government can interpret innovation too narrowly The creation of a department for Universities, Innovation and Skills in the recent Government restructure has raised concerns within industry that the government equates innovation solely with higher education. Whilst innovation undoubtedly does take place in the academic sphere, business innovation has to be recognised as a central tenet of the UK’s progress towards a knowledge economy. The Sainsbury Review of Science and Innovation is a welcome contribution to the debate on how Government can play its role in driving the UK’s development as a knowledge economy. Such an approach has been adopted by many of our international competitors such as India, South Korea, US, Brazil and Japan, and has demonstrated impressive returns.

51 OEF research conducted within the Case for Space. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Lord Sainsbury’s recommendations provide a framework for Government action. The challenge Government faces now is ensuring that departmental silos do not inhibit this important agenda and that there is an aggressive programme to implement the recommendations laid out in the review. The recommendations should be implemented right across Whitehall; the agenda should not be constrained to the DIUS work programme alone.

9. What the government can do to further promote higher value-added business activities and innovative thinking among UK businesses

Intellect believes there are a number of priorities for Government: — Creating an attractive business environment The UK Government has a role to play in creating a business environment that attracts investment. There are some concerns that we are losing some competitive advantage in this regard. Research published in the FT in December 2007 showed that German high-technology companies are much more likely to invest in China, India or eastern Europe than Britain.52 The findings make worrying reading for both UK businesses and policymakers. According to the research, declining research standards and skills levels combine to reduce the attractiveness of the UK as a location for investment. — Defining innovation As we adapt our businesses to the globalised economy we must also update our definitions of innovation. Thinking on innovation tends to be linear: focused on how to drive innovation that takes place in universities into business. Whilst this is an important area of focus, it is also important to recognise that new types of innovation are taking place. There has to be a greater recognition of the variety of places innovation can take place—not only in academia, but also in business. For technology companies, definitions of innovation are shifting as consumers and users are increasingly taking control. Innovation is no longer a linear process that takes place in universities and is then pushed into the commercial sphere—it is everywhere and technology is allowing the individuals to push their ideas back to their suppliers. Recognising this the public and private sectors need to move from the mindset that innovation is a move from A to B. In reality competitive environments drive innovation to a much greater extent than collaborative environments. In terms of Government approaches to innovation and R&D, there is a need for a holistic approach. There is a concern amongst industry that policymakers consider innovation as something that takes place in the academic sphere, a perception reinforced by the creation of the Department for Innovation, Universities and Skills. — Innovative procurement The Government has opportunities to drive innovation through the procurement of products and services. There have been a number of commendable initiatives undertaken by the OYce of Government Commerce to ensure that the procurement is better able to take account of the most innovative products and services available at any given time. There have also been important developments at a local level: local authorities setting standards for services rather than procuring large projects to allow diVerent suppliers services to interoperate across areas. These moves, which place an emphasis on the desired outcome rather than prescribing a projects scope, give the most space for the application of innovative solutions. A key aspect to this work is improving SME access to Government contracts. This is a challenging agenda as SMEs, whilst often producing the most innovative products and services, do not have the resource or capacity to compete in long term bidding processes. As such the imperative has to be on Government to provide better information on procurement opportunities to SMEs, they need to be given channels to market. — Skills There has been widespread recognition of the importance of improving STEM skills in the UK education system and workforce. However, an unhelpful by-product of this has been the proliferation of initiatives that have sprung up to tackle the skills gap. Many of the schemes are overlapping creating a disjointed picture and a bureaucratic burden for companies trying to respond.

52 Germans shun investing in UK, Financial Times, 5 December 2007. http://www.ft.com/cms/s/0/e212ad24-a2bd-11dc-81c4-0000779fd2ac.html Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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— Don’t forget the T in STEM Over the last two years there has been a concerted eVort to tackle the falling levels of skills in Science, Technology, Engineering and Maths, the so-called STEM subjects. The technology industry draws on skills from across the STEM disciplines. However, there is concern that within the programmes to drive STEM, there is less of an emphasis on technology skills than the other three disciplines and this has worrying consequences. Specifically we are concerned that the Higher Education Funding Council for England has excluded computer science from the Strategically Important Vulnerable Subjects classification, on the basis that there are higher numbers of students studying computer science. This overlooks the fact that demand for computer science skills still substantially outstrips supply. This is exacerbated by a further anomaly in the education system that means funding per student is lower for computer science than other STEM subjects. For individuals who wish to retrain by taking a second degree, funding is available for students taking all STEM subjects except computer science.

— STEM teaching The Sainsbury Review reflects on the teaching of STEM subjects, concluding that Science and Maths are subjects that should be taught from secondary level onwards whereas Engineering and Technology are suited for higher education only. We are concerned about the ramifications of this distinction and its impact in practise. We recommend the following measures be examined in order to introduce a more holistic approach to STEM teaching:

— Greater focus on the problem solving aspects of STEM subjects to bring the subjects to life and link them to vocational applications.

— Examination of key Stage 2 and 3 curricula for computer science to capitalise young people’s natural technological abilities: a refreshed approach to computer science teaching that focuses on skills rather than applications.

— Build on the good progress made in recruiting STEM teachers with more aggressive targets to increase numbers going forward.

— Build more links between STEM related employers and educational sector to allow young people to better understand the path to take to get jobs in our sector. Engagement would also help break down stereotypes of STEM jobs such as IT geeks or scientists.

— Exploit technology solutions to allow careers advisors to keep abreast of the skills demands from employers. Make it easier for people to understand the latest careers opportunities and how to get there by using ICT to link skills with careers.

— Retraining

Much of the debate on skills naturally focuses on the education of young people and their progression into the workforce. However it is very important to also consider the existing workforce and the needs for retraining and up-skilling that exist amongst the people already working today. 70% of the 2020 workforce is already in work today.53 This fact reflects the importance in removing barriers to people retraining in STEM subjects. There should be incentives in place to encourage workers to retrain as the demand for skills evolves.

There are frequently debates about the role of oVshoring in the UK business community and its impact on the UK workforce. We believe this debate should be considered within the wider focus of the global marketplace with global sourcing. Rather than focusing on how oVshoring may deplete the UK jobs market, we should instead consider how UK workers are upskilled, retrained so that the workforce remains relevant.

Within debates about retraining it is also valuable to look to mechanisms that can introduce flexibility. A good example of such a scheme is the IET classifications which classify particular skills rather than focusing on whole degrees. This allows a more nimble reaction to skills shortages as they develop. In these terms, oVshoring is simply an aspect of a wider process of reclassifying the jobs we need in the UK.

53 Skills for a Global Economy—Chris Humphries, City and Guilds file:///C:/Documents%20and%20Settings/amyw/Local%20Settings/Temporary%20Internet%20Files/Content.IE5/ 09QFWT67/Skills%2520in%2520a%2520Global%2520Economy%2520-%2520Eurhodip%5B1%5D.ppt<344,21,UK workforce of 2020 Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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10. The impact of nationality of ownership on the location of research and development work The nationality of ownership of R&D should not be the focus of the debate. We should focus on taking steps to ensure that the UK is an attractive location for R&D and that companies operating here have access to the skills base they need. Some UK companies undertake R&D oVshore, but the benefits of this innovation filter back to the UK. Conversely foreign owned companies undertake R&D within the UK that also delivers benefits for the wider UK economy. A number of global companies within Intellect’s membership choose to have one of their research bases in the UK.

11. The eVectiveness of machinery of government arrangements in encouraging innovation and creativity

The Sainsbury Review says that “the best way for the UK to make the most of globalisation is to support the restructuring of British companies into high-value goods, services and industries”. We endorse this view and suggest that the Government also needs to be structured around this objective. The review gives a framework for action but we are concerned that it lacks a vision for a global knowledge economy, it gives insuYcient weight given to services as opposed to manufacturing and does not take account of technology as a sector which will drive the UK’s growth. These points are outlined below: — Lack of a vision for a global knowledge economy The Sainsbury Review says that, “The UK needs a vision of our role in the global knowledge economy”, but no vision is provided nor a recommendation as to how this vision might be produced and used as a basis for action. As in any business strategy, we would expect to see market segmentation as a starting point. Targeting the global knowledge economy in general is not suYciently specific, not least because most developed economies have the same target. The UK Government should identify the clusters, or market segments within the global knowledge economy in which it—and industry—believes that the UK can succeed. Examples of such clusters or market segments are oil, investment banking or IT services. The next step would be to develop strategies in support of each of those clusters. Some elements of those strategies would relate to science and innovation; others would relate to tax policy, infrastructure, training and skills, geography, etc. In attempting to review science and innovation policies without that context the cart is being put before the horse. The report appears to recognise this point, suggesting that (because the UK is strong in sectors where little if any R&D is reported), “Rather than seeking to raise the amount of research performed by all industries we should focus our eVorts on the four major goals developed by the Technology Strategy Board”, ie help our leading sectors and businesses to maintain their position, stimulate those sectors with the capacity to be the best, combine all these elements so that the UK becomes a centre of investment, but then reverts to a far more traditional view of science and research-based innovation as a driver of growth. The review was commissioned by the Chancellor of the Exchequer but the scope of review is closely aligned to the remit of the Department for Innovation, Universities and Skills. — InsuYcient weight given to services as opposed to manufacturing Overall, the Sainsbury report gives much more weight to manufacturing than to services, reflecting a historic bias. The ITEM Club’s recent report, “Financial and business services—the driving force behind the UK’s economic success”, demonstrates eVectively that, “The Financial and Business Services (FBS) market is the key to the UK’s future prosperity”. Chapter 1 of the Sainsbury report does examine the importance of the services sector, but what the review does not do, however, is to reflect the centrality of the FBS sector in the weighting of its recommendations and focus. Though there are frequent acknowledgements of the service sector, for the most part it follows a traditional line relating science to innovation to economic success (in manufacturing—albeit now high-value manufacturing). For example, the review describes the fragmentation of the manufacturing chain—which occurred decades ago—but fails to describe the fragmentation of services that is occurring now. OV-shoring of services, whether call handling, claims processing, or IT development, is now common-place. Exports of information-intensive services have been growing by 20% a year in OECD companies54. This is a fundamental issue—and an opportunity—in an economy based around high-value services. Reverting to the previous point, this is the very sort of question that one would expect to feature in a vision of the UK’s role in the global knowledge economy. A related point is the under-valuing of Framework Conditions. The review notes that Framework Conditions, such as tax and infrastructure are critical to the success of services industries, and are far more important to services than to manufacturing. Indeed, it is notable that the growth of the

54 Organisation for Economic Co-operation and Development (OECD), “Structure and Trends in International Trade in Services” quoted in, “What a Flat World means for Government”, EDS Government Journal, Volume One Issue One. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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UK economy, which has been driven by FBS, has not depended on government policies regarding science and innovation. Again the train of thought is not followed through and the answer is still a hammer. — Relative absence of technology as a sector Technology is largely absent as an industry in its own right and as an enabler of other industries. This absence is all the more striking when one considers that the overall thrust of the report is towards building a knowledge-based economy. So why is the basis for capturing, applying, and exporting knowledge not central to the report? The sectors where the UK is strong, such as business services, media and creative services and financial services are all intensive users of technology. The question of the role of Information Technology in the national economy—a knowledge-based economy— was equally missing in the Government’s strategy for applying technology to its own business, “Transformational Government, Enabled by Technology” (Cabinet OYce 2005). This ought to be a central question, and the government’s own technology strategy and procurement policies should be considered in this light. Innovation Platforms, such as for Network Security, are a good start in this direction but we believe that government has a major role to play in shaping this industry as a customer and as a setter of Framework Conditions, such as standards and infrastructure. January 2008

Memorandum submitted by Intellectual Assets (IA) Centre

Forward:The Intellectual Assets (IA) Centre The IA Centre exists: “To assist Scottish businesses to maximise the economic potential of their intellectual assets”. The underlying aim of the IA Centre is to develop the market by encouraging the eventual emergence of a strong private sector demand and supply for IA services. To achieve this, the IA Centre acts as a catalytic and evangelising body that is setting out to develop a high profile as a “Centre of Excellence” in intellectual assets (IA) issues relating to business and economic development. Its aim is to be seen as a resource that complements and adds value to the current and future activities of both public and private sector intermediaries; it seeks to be the “place to go” for impartial advice on IA management.

The IA Centre: — Raises Awareness & Understanding of IA, their value, identification, protection, management and exploitation for business benefit; — Demonstrates how IA impact upon the development of strategy, products, processes, services, markets and supply and distribution channels.

The IA Centre delivers through: — Educating about IA via events, training, seminars, and information provision. — Providing Tools to answer the questions about IA-why they are important to all businesses, how to identify, how to assess and to record IA, how to manage IA and ultimately how to extract additional value from IA

The aims of the IA Centre are to: — Guide, Direct and Signpost Scottish companies to suppliers of IA management products and services. — Encourage the development of a strong private-sector-led supply of IA management products and services. — Develop Scotland’s international profile as a leading exponent of IA management and exploitation. The IA Centre is sponsored by the Scottish Government and is jointly owned by Scottish Enterprise and Highlands and Islands Enterprise. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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1.0 Introduction 1.1 In response to the general invitation to interested parties from the House of Commons Trade and Industry Committee to submit evidence to its enquiry on Creating a Higher Value Economy the Intellectual Assets Centre would like to submit the evidence given below:

2.0 Links between limited productivity growth and poor understanding of intangible asset management in commerce and public policy as revealed by research

2.1 The low growth in overall productivity in Europe is due in particular to two main factors: the contribution of information and communication technologies (ICTs) is too low and investment is inadequate (CEC, 2004: p.9). In today’s economy productivity improvement depends heavily on investment in intangibles, such as training, customer relationship management, brand image, internal organisation, investment in software and ICT (CEC, 2003a). Growth in intangible investment is nowhere more apparent than in the services sector. 2.2 The OECD also stressed that policy for intangibles should consist of two major actions: firstly, investment in intangibles should be encouraged; secondly, the rate of return on intangible investments should be maximized (CEC, 2003b: p.8). Moreover, this focus on intangible investment does not necessarily mean the promotion of increased intangible investment, but rather that the intangible assets of enterprises, and in the economy as a whole, should be made more explicit; in other words more visible, more measurable, and as a result, better manageable (p.19). While tangible investments are well defined (land, equipment and buildings) intangible investments or intangibles are not. Intangibles are by their nature diYcult to define: they cannot be seen, they are heterogeneous and they are often described in diVerent ways (Croes, 2000). 2.3 In their final report, the High Level Expert Group on the Intangible Economy (this project was set up in 2000 in response to a request by the European Commission Directorate General for Enterprise) concluded that “the main disconnect between the old and the new economy lies in our economic and business measurement systems, which are tracking—with ever increasing eYciency—a smaller and smaller proportion of the real economy” (Eustace, 2000: p.6–7). Despite many years of serious debate our economic and statistical models have not kept pace with the demands of the market. (…) Our established macro and micro information systems are unable to produce routine, systematic information on the stocks and flows of the modern economy.Instead we have to rely on ad hoc studies for glimpses of what is happening (Eustace, 2003: p.22). Therefore “the present statistical and accounting frameworks are in urgent need of updating. New explanatory models and metrics are needed to enable us to understand the workings of the modern economy, especially the intangible goods and content sectors that are currently hidden from public view. At the firm level, a new generation of analytical tools is needed to enable company boards, shareholders and investors to judge management performance and diVerentiate good, bad and delinquent corporate stewardship” (Eustace, 2000). 2.4 This deficiency is also highlighted in the Communication on “The competitiveness of business-related services and their contribution to the performance of European industry” (CEC, 2003a), where it was stated that: “reliable information about the intangible assets of companies is needed, both at the level of the enterprise, and in government policy development in order to avoid ineYcient resource allocation. It also results in uncertainty and speculation on its real value”. Measurement and reporting of intangible assets has become a major concern for governments, regulators, enterprises, the accounting profession, investors and other stakeholders. Services enterprises are particularly exposed to this problem since they are almost entirely based on intangible assets. The costs of the lack of information on the intangible assets are high and have their impact at all levels. At firm level the lack of information can lead to the development of wrong strategies. At capital market level the lack of information can lead to under- or overvaluation of companies, misallocation of resources and volatility.At country and European level it can lead to inappropriate policies. 2.5 In the late 1990s and in the early part of this decade numerous European initiatives and related developments had taken place resulting in many diVerent approaches to the problem of measuring and reporting about intangible assets. Moreover, recent publications in the field of intellectual capital cover dozens of diVerent models for reporting about intangibles (Sveiby, 1998; Andriessen, 2004b). 2.6 According to the PRISM research consortium (Eustace, 2003), some of these may well prove intractable, for example: — The frameworks generally have very diVerent structural architectures and do not address the same “objects”, which makes it diYcult to lay down standards, or to align or integrate the IC system with the company’s chart of accounts. — Sophisticated users will tend to demand indicators that are compound (ie. non-discrete). Therefore the boundaries between them will always be ambiguous. — The indicators are based on primary data points that are generally neither additive nor serially coherent, which makes them very diYcult to “audit”, or otherwise prevent unwarranted double- counting and manipulation. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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2.7 Notwithstanding these conclusions, businesses have now gained considerable experience in the use of various voluntary guidelines for reporting on intellectual capital and other forms of intangible assets. These eVorts will only have long-term value if there is convergence of the taxonomies, rather than a proliferation of reporting methods (CEC, 2003a: p.27). 2.8 The urgent need for convergence is reflected in almost all reports, surveys and meetings about the subject. Illustrative is the call for integrating existing guidelines into a common framework as the main conclusion of the E*KNOW-NET survey (Bukh, et al., 2003), the PRISM “framework for convergence” (Eustace, 2003; PRISM, 2003), and the stakeholder call for “standard reporting of intangibles” (CEC, 2003b). 2.9 In their final report PRISM also emphasizes the need of a holistic reporting framework that is of practical use at the management level. “We need to go beyond the mantra that the current reporting framework is inadequate and the temptation to suggest yet another measurement system. The time has come for the proliferation of guidelines and methodologies to converge and move toward (sic)” (Eustace, 2003: p.31). It is necessary and urgent to define sure rules and conventions in order to measure the intangible content of value. 2.10 The RICARDIS report recommended “Set up an International Standardization Steering Group to facilitate the development of consensus-based standardization of taxonomies, indicators, and IC Statements for research-intensive SMEs and help develop XBRL55 standards (RICARDIS, 2006)”.

3.0 The importance of this discipline to the Business-related services sector 3.1 More than in any other sector of our economy, the growth of productivity in business-related services depends heavily on intangible investment. Therefore growth in intangible investment is nowhere more apparent than in the services sector. In business related services, there is only little investment in plant and equipment, since the means of value creation is based on exploitation of various forms of intangible assets. In order to respond to changes in market demand, and to improve their productivity and competitiveness, service companies have to take recourse to investments in knowledge, skills, reputation, procedures, customer relations etc., usually referred to as their intellectual capital, or intangible assets.

4.0 What do we conclude from the research? 4.1 The above research suggests that there is a problem, not just in Europe but globally, in bringing about the desired knowledge economies. An example is the gap between the Lisbon Agenda targets on investment in R&D and the performance of the European Union in this regard. Below is an articulation of this global issue within Scotland and how one initiative (within an array of others which have been adopted) has been operating to address the issue.

5.0 The Intangible Asset Management developments in Scotland 5.1 In Scotland, at the start of the current decade, it was acknowledged that there was unfortunately insuYcient knowledge and understanding of IA—and “Scotland plc” was under-performing as a consequence.56 Some larger Scottish companies were aware of IA, but across the range of companies such knowledge was inadequate, especially amongst SMEs. 5.2 In 2001 a Conference held at The Gleneagles Hotel called the “IA%” Congress drew a lot of attention to the need to provide further assistance to businesses in Scotland in this area of the management of intangible assets. This Congress suggested that there was evidence that some Scottish businesses were at least starting to realise that they needed to know about IA. But knowledge about how to visualise and manage the IA in their own businesses was limited and they were requesting support to “sweat” these assets to their full commercial potential. 5.3 Perhaps more worryingly however was that businesses and business people “didn’t know what they didn’t know”. Frequently they were not even aware of a need to learn about IA—demand was not therefore indicative of need.

55 XBRL (eXtensible Business Reporting Language) is a language for the electronic communication of business and financial data. It provides major benefits in the preparation, analysis and communication of business information. It oVers cost savings, greater eYciency and improved accuracy and reliability to all those involved in supplying or using financial data. XBRL is one of a family of “XML” languages which is becoming a standard means of communicating information between businesses and on the internet. In addition to the statutory filing of their reports many companies also provide (financial and non- financial) data on their web sites for transferring into spread sheets. Projects to introduce XBRL are moving ahead rapidly in a range of countries. Many are led by regulators, although stock exchanges and other bodies are playing a significant part. The technical underpinning to support the use of XBRL is well in place. The main eVort of the XBRL community now focuses on the development of reporting taxonomies. 56 (There is a well recognised gap over the last 20 years between the GDP growth rate of Scotland and that of the UK as a whole, similarly the level of Business Research and Development as a proportion of GDP in Scotland is well beneath that of the UK as a whole). Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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5.4 This perhaps helped to explain why there was not a clearly defined group of IA professionals and there was limited knowledge within professional intermediaries, excepting the UK Patent OYce, patents agents and IP lawyers. In some circumstances even these professionals were not in a position to give comprehensive as well as impartial advice due to commercial and legal constraints. Furthermore, there was not nearly enough IA knowledge in the economic development networks. There were some initiatives, mainly related to IP, where individuals gained some introduction; however, such initiatives only contacted a very small proportion of the company base and had generally been limited to registrable rights (patents, trademarks and design rights). 5.5 Thus the evidence at the time for the market failure in Scotland, drew on three main areas;— — the absence of knowledge of and reference to IA within economic development policy and the economic development networks, evidencing internal market failure; — assumptions from initial econometrics of the value and potential of IA that lies in Scotland’s organisations, evidencing opportunities (external market failure); and — market demand on the only body in the public sector oVering any kind of support in this area, confirming the external market failure. 5.6 In addition to the limited mention of IA in stated economic development policy, there appeared to be significant internal market failure—ie a lack of understanding and knowledge about IA within the primary economic development agencies (and their networks at local level) of Scottish Enterprise and Highland & Islands Enterprise. There was anecdotal evidence from experience of these networks that the knowledge and understanding of IA was generally poor and, at best, patchy. The failure to include any reference to IP, let alone IA, in the principal training programme for business and economic development professionals working in Scottish Enterprise was indicative at that time of the network’s failure to recognise the topic’s importance. 5.7 Although the economic development networks did recognise the need for increased innovation and new product development, there was frequently a failure to realise the role that IA had in this process— primarily in suggesting and controlling innovation and diversification. Still fewer realised that for many companies the most eVective and fastest way to innovate is to acquire IA, rather than create or develop them internally. Obviously the more innovative an organisation (whether externally acquired or self-generated), generally the greater the resultant IA “pool” and thus the greater the opportunities for creating value and competitive advantage—both for the individual company and for “Scotland plc”. 5.8 IA is a complex and frequently ill-understood topic for already hard-pressed business advisers to take on board—ie it is not realistic to expect business development executives to become IA experts. It is essential and feasible however for the advisors to know when to put IA on the agenda for their clients and to know how and when—and to whom—to refer the matter. 5.9 What was proposed to address the market failures and to realise the benefits which had been identified was a not-for-profit organisation serving Scotland’s IA and IP needs through public and private sector networks—ie the National Intellectual Asset Centre for Scotland. 5.10 The National Intellectual Asset Centre was seen as having the potential to: (NIAC—Draft Strategic Plan 2002): — be a hub for activities and a “centre of knowledge”; — have a regional network of local expert advisers; — establish partnerships and networks with private and public organisations; — facilitate IA awareness and eVective knowledge dissemination; — develop tools and support for eVective IAM; — develop an IA community of interest around which other initiatives could cluster; and — generate a model for reproduction elsewhere in the UK—ie develop its own IA for reproduction after an initial Scottish pilot. 5.11 The most important aim was for the Centre to increase Scotland’s competitive advantage and assist with the nation’s development as a knowledge economy through IA information, knowledge and expertise dissemination in partnership with UK and international organisations. 5.12 The NIAC was to have clear objectives for the businesses with which it would engage, namely:- — To put IA on the business agenda—encouraging businesses from all sectors to understand the benefits of eVective IA management; — To make the case for IA as a business tool and to realise the opportunities that eVective IA use and leverage can present; — To provide support (advice and management tools) for visualisation of IA; Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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— To provide initial gap analyses and risk assessment diagnostics both for the identification of gaps in IA knowledge in general as well as for specific audits of business risks and inadequacies in protection; — To provide support (advice and management tools) for management, valuation and leverage of IA; — To address the perceived negatives of costs versus value; — To understand the role of policing IA use and abuse by others and issues of enforcement and competitor analysis/intelligence; and — To link appropriately with professional assistors and associated regulatory and consultative bodies eg the UK Patent OYce, and with the public and private providers of IA/IP, risk assessment, technology information etc. 5.13 To achieve the above objectives, the NIAC was to be or to include the following:- 5.13.1 Demand developer—a catalyst and awareness raiser for IA understanding, management, leverage and valuation, to generate demand and in response to customer / sectoral demands, and for educational purposes. This would involve pro-active and reactive events programmes, ranging from small groups to national congresses, both at the Centre and on regional basis, as well as appropriate PR and publications. 5.13.2 Sign-poster and Information Source—a drop-in facility for IA / IP support and a sign-poster and an access point to a wide variety of information sources and associated networks. This could be described as a managed funnel for accessing the IA / IP support of the Centre and the excellent public and private sector service and information provision. It would include therefore reactive services such as web-based and hard copy awareness-raising and information-giving literature on IP / IA, including own materials and a “library” and links to (providers of) existing materials. 5.13.3 Diagnostic Service Deliverer—“general practitioner” type IA diagnostic services for drop-ins, referrals and cold calls. The service would comprise initial diagnostic meetings, and sign-posting etc. where appropriate, IA audits and visualisations and could include gap analyses and risk assessments. 5.13.4 Mentors—a mentoring service to be delivered and / or facilitated by IA trained specialists where the client relationships will continue to exist over time, comprising one or more of the following:- — project-based assistance (though the business case and wider business issues will always need to be assessed) for the life-span of the project; — company-based assistance for IA rich companies, visualising the company’s IA and / or management of same, where the client relationship will continue to exist over time; — advisory assistance on the use, assessment and accreditation of and for management tools, such as a proposed ISO for IA Management; — more detailed analysis and audit of IP / IA, particularly gap and risk assessment; and — accompanying and / or advisory role on professional support available elsewhere for IP / IA management. The mentoring would also include a training role to other parts of the SE and HIE networks; the account managers would be encouraged to participate in IA reviews and diagnostics with companies to ensure transfer and development of knowledge across the internal market. 5.13.5 Product Developer and Deliverer—the developer and, in some instances, the deliverer of a number of “productised” IA and IP business management tools, such as: — IP / IA diagnostic, audit and profiling tools; — An ISO for IP / IA management; — Preliminary IP /IA valuation tools; — A business training programme including a range of subjects from basic IP and IA management to IP / IA valuation, to pc-based sources of IP / IA information to role-playing (eg licence negotiation) workshops; and — The grouping of the above and others as a toolbox for delivery over time as a programme and / or to be dipped in and out of as required for a business. 5.13.6 Stimulator of Private and Public Sector Deliveries—a focus for feedback to the private organisations (eg insurance companies) and public sector (eg Patent OYce) as to the requirements of the commercial world and encouragement of the development of specifically linked IA products (some immediately available on establishment of the Centre, some to be developed over time) only accessible through the NIAC, such as: — IP Insurance Programme, delivered by the insurers and brokers but as part of a “grander” initiative for IP insurance support in Scotland, providing more readily accessible risk assessments, premiums and management assistance at times of litigation; — An in-depth IP / IA valuation tool; Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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— Dedicated searches and information sourcing via links and membership with such information providers accessing IP / IA opportunities, including analysis of further actions and implementation required; — Financial support for certain expert advice; and — IA / IP detailed gap analyses, audits and benchmarking. 5.13.7 There are other roles that were envisaged as possibly being developed over time including: — a more clear provision of services for IA valuation especially in light of the still developing accountancy procedures in the UK for intangible assets; — know-how and show-how management and capture tools and instruction; — as an assessor of ISO accreditation for IA management; — as contributor to public sector service provision ensuring IA / IP role on certain agendas, for example with the foremost economic and business development adviser training programme, a Regional Selective Assistance programme, and the Accounting Standards Board’s (ASB’s) assessment of intangible assets; — as a repository of un-registrable forms of IP and IA; — encouraging targets to be included as part of the measurements discussed in “Smart Successful Scotland” (a policy of the last government of Scotland and now superceded by the New Government of Scotland Economic Policy for Scotland) perhaps by featuring on the Balanced Scorecard or KMIS—encouraging therefore the topic to be taken more seriously within the Scottish Economic Development networks. 5.13.8 Certain of these service oVerings were already being developed in advance of and were seen as essential for the NIAC to open, whilst others were to be developed over time as the staV of the new Centre were recruited and trained and as the product oVerings emerged. 5.13.9 Given the geography of Scotland it was thought necessary to recruit regional representatives of the Centre to give a local service. It was felt that it would be preferable for these regional representatives to be known to local businesses and other local public sector providers, and therefore were drawn from the existing public sector service delivery mechanisms, which would also avoid duplication and the networks’ or public’s confusion. NIAC was envisaged as working with a number of partners including Innovation and Technology Counsellors (ITCs) in each local area of Scotland, who were already recognised as the deliverers of technology and innovation support to client companies. As it happened the organisation employing these Counsellors dissolved before the establishment of the NIAC and this led to more on-the-ground work being done by the new Centre than was originally planned.

6.0 Particular Market Failure in the area of IA Management among SMEs 6.1 As evidenced above and also through subsequent macro-economic analysis (Huggins and Day 2005) there is a particular market failure in the area of intellectual assets management among SMEs. Thus the IA Centre, while oVering its services universally to all organisations in the Scottish economy, has targeted and focused upon SMEs. 6.2 SMEs and large organisations diVer in a number of ways, not least in size. The consequences of being a “small” organisation are numerous, and impact upon all aspects of the organisation, including the way profit is generated and the way the organisation is managed and organised. This in turn impacts upon the way knowledge management and IA measurement are approached and developed. SMEs are typically less bureaucratic than their larger scale counterparts, with often few, if any, complex management systems. This leaves SMEs with less ‘ready made’ infrastructure for the measurement, management and development of knowledge and other intangible assets. Instruments that focus upon highly formalised systems of feedback and reporting, requiring detailed statistical information and monitoring systems will therefore not find a suitable home in a SME environment, and will typically be deemed ‘unworkable’ by SME management. 6.3 Another challenge for SMEs in using traditional knowledge management techniques is their time consuming nature. As Lambe (2002) notes, SMEs work in an environment of pervasive risk and high pressure. All organisations face environmental pressures, but this is magnified in a small organisation that has less control over its immediate environment. Small organisations are often preoccupied not with internal eYciency and eVectiveness, but with maintaining turnover and seeking new opportunities. SMEs often consider internal audit of this nature as a luxury that cannot be aVorded. Most knowledge management tools assume suYcient time to develop, collect, collate, analyse and act upon a vast range of quantitative and qualitative measures and indicators that are highly time consuming to collect. Furthermore, the complex nature of many tools presupposes that there is a dedicated knowledge oYcer or other employee dealing exclusively with issues of knowledge management and transfer. This is highly unlikely within an SME. Wong and Aspinwall (2005) find that just 19% of UK SMEs are involved in any IA measurement as part of their knowledge management techniques. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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6.4 A summary of some pertinent diVerences between large and small companies, in terms of the types of IA they may possess, and the way in which it can be managed and measured, is highlighted below (Huggins and Weir 2006): — SMEs are less likely to register patents than their larger scale counterparts. This is most likely due, not to a lack to ideas, but due to the high costs, complexity, and administrative burden — SMEs are likely, particularly at the earliest stages, to embody much of their intellectual asset base in human capital. The fundamental ideas and processes supporting the organisation at this stage are likely to depend upon the founder and immediate employees. Converting human capital to a more tangible, “owned” format must therefore be a key objective for SMEs — High costs and small scale, particularly within service-based and knowledge-based companies, will typically lead to low quantities of tangible assets, such as plant and machinery. — SMEs are likely to own less IT-based IA assets, eg complex KM intranets, billing and automated procedures. However, they will often have documents, letters, manuals that can be shared and documented. — SMEs, perhaps more so than larger organisations, have to become more agile and able to liaise and work with other organisations. Network capital becomes paramount to small organisations, particularly in building relationships with suppliers, customers and collaborators and subcontractors.

7.0 Achievements of the IA Centre since establishment 7.1 The latest baseline survey conducted on behalf of the IA Centre, by TL Dempster Ltd (2007) surveying over 1000 Scottish businesses, has suggested that there has been an increase since 2004 in the awareness and understanding of businesses about IA. However there is still more work to do as the percentage who recognise the term “intellectual assets” is still just over 43% and those who believe they understand what IA are is just over one third of the sample (36%). 7.2 Over half of Scottish organisations (55%) have already considered the importance of IA to their organisation, representing a 10% increase since 2004. On the downside only 12% of those businesses surveyed believe they are actively managing their intellectual assets which means there has been almost no change since 2004 or possibly a small drop. But on the upside it would appear that the active companies though are being even more pro-active in managing their IA. About one third of companies who have taken steps to protect their IA have used external advice to help them with a significant increase in the use of legal and accountancy advice. It would appear however that companies in Scotland are turning less to Patent Agents or the Patent OYce for advice purposes, although these suppliers are reporting more business. 7.3 Almost three quarters of the companies surveyed who manage their IA believe that it is important to communicate their value of their IA although only just over 60% are actually doing so. This suggests that there are a number of organisations (mainly SMEs) who consider communicating the value of IA important but are not doing so. 7.4 The respondents to the survey were asked if they were able to place a financial value on any of a list of assets. The majority of organisations (both over 90%) have a financial value on the balance sheet for fixed and moveable assets but only around one third have a financial value either on or oV the balance sheet for any other assets. The majority of organisations have an internal valuation of their assets. Of those with an external valuation the majority are for a valuation of Intellectual Property rather than other IA such as goodwill, impact on profitability and so on. 7.5 Those organisations who considered IA important were asked in what ways they are or could be important now and in the future. The results suggest that organisations consider IA to be important for issues about valuation or diVerentiation for their organisation. 7.6 In terms of interest in IA there is a strong interest in finding out more about IA. 64% of the respondents would like to find out more about IA—this is an increase of 0% on the 2004 survey. The IA issues of greatest interest include general information about IA and practical assistance for IA.

7.7 Suppliers of IA management services 7.7.1 In respect to organisations who supply IA advice, just over half (52%) provide copyright, licensing agreements and registered design services while 57% provided services dealing with patents and trademarks. Over half of the 24 respondents (to the survey total of 62) provide services in the identification, management and exploitation of IA. However fewer respondents provide valuation services for IA. Over 70% believe that demand for IA support has increased with almost half of respondents believing that demand to have increased by more than 5% since 2003. 25% of the respondents felt that there was a particular IA/ IP service they provided that had grown substantially more than others. These included trade marks, IA / IP exploitation and web-related activities. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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7.8 The IA Centre as a Good Practice Case Study 7.8.1 In September of this year the Intellectual Assets Centre in Scotland was named in a Study commissioned by the European Commission as one of 15 good practice case studies across Europe for the support for SMEs in the management of Intellectual Property. (The UK-IPO was the only other UK example also cited). It set out some of the achievements of the Centre as being: — 56% of the service users introduced product innovations — 38% developed process innovations — 74% engaged in training activities — 67% conducted intramural R&D — Strong cooperative links with development agencies — Many queries related to IPR issues (about two-thirds) but most growth in IPR applications are in Trademarks and Design Rights. Anecdotally copyright substantially increased. DiYcult to determine whether more direct commercialisation of IPR taking place yet 7.8.2 It concluded by saying that the IA Centre had been successful in making users apply a whole spectrum of IP protection methods more consciously.

8.0 Conclusions and Discussion 8.1 The recent Sainsbury Review (October 2007) underscored the fact that there is still a significant underspend on research and development in the UK. This is particularly acute in Scotland due to the low, by comparison, Business Research and Development spend as a proportion of GDP. Government policies have traditionally concentrated upon the traditional pipeline theories of innovation where the research and development product of science and technology (particularly the rich output of the University and Public Research Institutions) can be spun out into commerce. More recent research by for example NESTA (The Innovation Gap [2006] and Hidden Innovation [2007]) suggest that such a model does not accord with modern open innovation theory where innovation can be sourced from numerous sources. For many SMEs this may be a process of becoming aware of congruent technologies already in existence and combining with their own intellectual assets to produce new products or services. It might also be collaborating with Further and Higher education to look at new solutions to the need for new products and services. 8.2 One of the principal issues is the fact that innovation which may be occurring in business is ‘hidden’. It is not captured by traditional metrics and reporting. As a consequence it might be lost or not properly protected, safeguarded and exploited for business gain. Numerous studies have been conducted (and cited above) which suggest that the management of the intangibles investments in businesses are not being pro- actively managed. The work in Scotland to start to address the awareness and understanding gaps, particularly in small and medium sized businesses, and then to help businesses to visualise with a view to pro-actively managing their intangible assets starts to address the performance issue. 8.3 There are still many areas which the Committee have highlighted as of interest to it which are not addressed by such an initiative. However it is perhaps one of the ‘clubs in the bag’ (to use a golfing analogy) which provide new options for public policy-making. 8.4 The IA Centre staV are often asked by businesses outside Scotland whether there is such a body for the rest of the UK. At present it would appear that the regional arrangements for support in this area vary from region to region. The Intellectual Assets Centre is certainly aware from its international contacts that such Centres are growing particularly in Asia. China for instance is starting such Centres and Singapore already has an IP Academy. Taiwan has the Taiwanese Intellectual Capital research Centre. Many European countries along with Japan are considering extending the concept of Future Centres which are similar to research and development centres but more focused upon the service sector including public services.

Memorandum submitted by the Institute of Chartered Accountants in England and Wales (ICAEW)

1. ICAEW Chartered accountants play a key role in decisions around research and development, capital and budgets for training of staV. They understand the link between investment and business growth. The ICAEW has over 130,000 members worldwide, including over 50,000 who work in a direct business capacity. Our members are often industry specialists allowing them to play key roles in the City, in high tech science and innovation industries, in small business start-ups and many other types of business. In their roles as advisers, on issues such as tax and finance, they are also key witnesses to the state of the UK economy in increasingly competitive global marketplace. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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2. Summary of ICAEW Recommendations for Growing the High-value Economy

The ICAEW believes that high-value economic growth in the UK, achieved through business innovation, requires the Government to act threefold: to address the domestic high-skills shortage; to adjust the research and development (R&D) tax credit system to make it more eVective for SMEs; and to ensure that tax policy is characterised by sound principles and stability, so that long term business investment and research plans can be made with confidence.

i) Skills policy

Policy streams must be rebalanced so that initiatives to raise basic-skills and to improve high-level skills both run in parallel. We would welcome Government engagement with business in meeting the high-level skills challenge.

ii) R&D policy

HM Treasury should examine proposals to make the R&D tax system more eVective for SMEs, including: 1. Simplifying the criteria for identifying expenditure that qualifies as R&D, particularly for those seeking lower levels of tax credit. One approach might be to align the HMRC/ DTI definition (12 pages) to the accounting definitions of R&D (less than 1 page), even if only for smaller claims. This could lower the costs of making an application and reduce the need for small businesses to develop or pay for specialist advice about what HMRC would accept as R&D. 2. Removing the£10,000 lower limit for R&D expenditure to be eligible for the tax credit incentive. Encouraging start-ups to invest in R&D by allowing small R&D claims could make a major contribution towards developing a greater investment culture across the economy.

iii) Tax policy

If the UK is to maintain its pre-eminence as an international centre of business, tax policy formulation needs to allow adequate time for consultation with a wide variety of stakeholders and must ensure that the reasonable expectations of taxpayers are preserved. The Small Business Review: There have been a number of attempts to review the taxation of small businesses, but progress has been slow since the publication of the discussion paper, Small Companies, the self-employed and the tax system, in December 2004. In our opinion, this is a wasted opportunity. We believe that the Government should re-energise this process as a matter of urgency. The aim should be to remove the tax distortions between diVerent business structures so as to ensure that business decisions are led first and foremost by the commercial needs of the business rather than dictated by tax advantages or disadvantages. Residence and domicile proposals: Firstly, the Government should defer some of the more complex measures outlined until 6 April 2009. Secondly, the government should consider raising the de minimis limit for unremitted income and gains and defer consideration of any future changes until the current proposals have been assimilated and the full eVects have been quantified. Our detailed representation on the legislation highlights the areas which we consider will require drafting amendments to make them clear and workable.

3. ICAEW Policy Background i) Skills for the high value added economy

Productive innovation and high-value growth requires high-level skills. Although Government has set goals for improving basic skills, it is the lack of leadership and management skills in the workforce that presents a key concern to businesses of all sizes is, with the shortage of specialist and technical skills as an acute problem. In our 2007 Enterprise Survey, whilst a large number of respondents cited a lack of basic- skills as a “critical to moderate” barrier to future growth, significantly more businesses believed high-level skills, including leadership and management skills, constituted the main barrier to business growth. Over 95% of businesses believed that inadequate high-level skills were either a “critical” barrier (30%) or a “critical to moderate” barrier (65%) to growth. UK innovation would benefit from an emphasis on improving high- level skills, including leadership and management resources, in the UK economy. The ICAEW believes that eVective policy thinking on increasing innovation should be framed within an appreciation of the importance of highly skilled people operating under sound management. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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ii) Improving the eVectiveness of R&D tax credits The March 2007 ICAEW Centre for Business Performance (CBP) report, The Role of Tax Incentives in SMEs and Research and Development Decisions produced in collaboration with the University of Nottingham and Manchester Business School, sought to determine whether the R&D tax credit system was encouraging new investment or simply rewarding that which was already planned. Interviews with SMEs and CBP polling confirmed that the majority of SMEs do not consider tax credits before they choose to invest in R&D. When you plan your R&D expenditure do you take into account the tax credit/ or R&D-related capital allowance your firm is entitled to?

Answer R&D Tax Credits R&D Capital Allowance No 102(72.34%) 119(84.39%) Yes 39(27.66%) 22(15.61%)

However, there is significant evidence that the R&D tax credit is not as eVective in encouraging smaller business to invest in R&D as compared to larger business. — In estimating the cost of applying for the tax credit, 60% of respondents said about £1,000, 9% estimated £2,000, 7% estimated £3,000 and 2% suggested costs in excess of £10,000. the remainder received the service as part of a wider package. Noting that the lower limit of expenditure which qualifies for the R&D tax credit is £10,000, which would result in a theoretical 9.5% reduction in cost, the benefits of the credit to smaller claims may be marginal. — The uncertainty for SMEs of having their application for an R&D tax credit approved is a considerable issue. Most respondents in the CBP research said they were “not at all” confident of success of securing R&D tax credit. The average level of confidence for the incentive was less than 50%. A business might not know if its claim will succeed until 21 months, or possibly longer, after taking the decision to invest. This lack of confidence is particularly problematic for smaller businesses, although the introduction of specialist HMRC R&D units has reduced uncertainty. iii) Business tax conditions for innovation More generally, innovation, long-term R&D investment planning, and consequent progression up the value chain for UK businesses requires a tax regime that provides stability and reasonable certainty. However, we are concerned that instead of providing a clear direction for small business taxation, a sector that finds R&D tax credits the least eVective, the Government is generating piecemeal tax changes that are being made in a reactive way. During recent years we have seen legislation aimed at solving perceived abuses such as the IR35 provisions, the Managed Service Companies legislation in 2007 and now the Income Shifting proposals published in December 2007. Each of these carries a considerable administrative burden and when added together they appear likely to act as a deterrent to business growth, without raising significant revenue for the Exchequer. In addition, the current residence and domicile tax proposal announced in the 2007 PBR threatens the appeal of the UK as a place of work for a significant proportion of highly-skilled, and innovative, mobile workers based in this country. The UK should seek to publicise and promote itself as an attractive home- location for such individuals and creative networks. The ICAEW believes that the Government must act to reassure this community that the UK remains an attractive location for internationally mobile workers. 18 February 2008

Memorandum submitted by the Institute of Physics

What is meant by a higher value added economy? Which businesses qualify as such? A high value-added economy is built on sectors with a higher turnover and gross value added (GVA) per employee. This definition is met by high-technology industries ranging from oil extraction to telecommunications to aerospace which are underpinned by physics expertise and knowledge. The IOP’s report, Physics and the UK economy57, states that these physics-based industries (where modern physics and modern physics developments are integral to the continued success and survival of the businesses) have worker productivity more than twice the national average (£165 000, compared with the UK average of £72,000) and the GVA per worker in 2005 was 70% higher than the UK average, at £69,000 per year. Additionally, the physics-based sectors contribute more to the UK’s (GVA)than the construction sector and

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provide employment to more than a million people in the UK. The total GVA of physics-based sectors stood at £70 billion in 2005, accounting for 6.4% of the output of UK plc, comparable with the GVA produced by the finance, banking and insurance sector that accounted for 6.8% of the UK total. High value-added sectors such as these, in which modern physics research and development is crucial to the survival of businesses, contribute significantly to the strength and stability of the national economy.

The impact on business of government eVorts to promote research and development, including the research and development tax credit The R&D tax credit programme has demonstrated considerable successes over the past 10 years and the Institute welcomes the recent budget increases. However, the Physics and the UK economy report suggests a recent decline in R&D spending in physics-based industries, which are integral in reaching the 2014 target R&D intensity of 2.5% of GDP—in 2004, 24% of all business R&D spend in the UK was spent in physics- based industry. The level of R&D spending in physics-based industries has been in decline since 2001, falling from £3.8 billion in 2001 to £3.3 billion in 2004, a drop of 14%. Over the same period overall R&D spend in the UK increased by around 2%. Ongoing industrial scientific R&D provides the UK with an engine room of innovation, producing a stream of new developments, proprietary knowledge and inventions, driving high-technology industries. Physics-based industries are vital to unlocking the potential of the UK’s science base and R&D is integral to the prosperity of these industries. If the downward trend in investment in R&D continues it will have a deleterious eVect on the ability of the UK economy to exploit its science base successfully and to compete internationally in the high-technology industries. The reasons for this decline in R&D spend in physics- based sectors need to be identified and addressed as a matter of urgency.

Whether business and government interpret innovation too narrowly The precise definition of innovation within government is not the issue, innovation in the service industries is often supported by scientific research and progress, for example in RFID technology currently being introduced in supermarkets or the advanced computers used in the banking industry.As such, it is important that any redefining of the boundaries of R&D for statistical measurement to include money spent in services should not result in a reduction in the government funding of industrial research in areas where the UK is traditionally strong, such as physics. Physics R&D provides opportunities for the exploitation of home- grown physics-based industrial R&D, guards against the copying of innovative techniques and processes (as can occur in sectors such as construction and finance) and retains the value of inventions and the jobs they create in the UK.

What the government can do to further promote higher value-added business activities and innovative thinking among UK businesses The government can and should make more of a diVerence through its procurement process. Supporting innovative solutions produced by high-technology high value-added industries can result in more cost- eVective and eYcient solutions and promote industrial R&D, providing both primary solutions to procurement problems and also secondary benefits to the industries involved. Selecting solutions to procurement requirements on the basis of short-term costs can disadvantage novel and innovative solutions to problems, and may not result in the most cost-eVective long-term policy. Pre-commercial procurement strategies, such as those employed on the small business innovation research (SBIR) programme, give companies the confidence to invest in R&D, sharing the financial risks between the government and the supplier. This provides direct funding and security that cannot be achieved through tax breaks, removing some of the financial risks implicit in research and development, and oVers a primary market for the end products. We welcome the proposals made in Lord Sainsbury’s Review, The race to the top58, to introduce an enhanced small business research initiative (SBRI) programme to promote innovative solutions for public procurement. The strengthening of this programme is essential to the success of research and development in small businesses in the UK, and the IOP supports a full implementation. However, we are concerned that, as with the previous implementation, the culture within government departments and other funding bodies will inhibit a fully successful SBRI programme. It should not be ignored that physics-based sectors in the UK accounted for 29% and 30% of the total value of domestic exports and imports respectively in 2005. Additionally, they directly employ around 5.4% of the UK workforce and indirectly support 1.2 million jobs in upstream industries, which add more then £50 billion in gross value added—accounting for a further 5% of the UK’s economic output. Integral to the success of physics-based industries is a strong supply of science-educated workers; additionally, high value-added service sector industries, such as the financial services, employ large numbers of physics-qualified people, benefiting from their unique skills set and expertise. The IOP is extremely active

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in promoting the take up of physics in schools and universities, operating the HEFCE-funded Stimulating Physics project59. Additionally the IOP operates networks to provide mentoring and support to physics teachers throughout the UK. There are problems in the teaching of physics in higher education (HE). The government initiative to increase the cohort of 18–30 year olds at university by 2010 to 50%, has led to an influx of students onto softer courses such as drama studies, while at the same time, the cohort for physics has remained stable. An increased number of overall students has led to additional strains placed upon HEFCE’s block grant within HE institutions, which has resulted in teaching resources for physics, and other STEM subjects, being squeezed, as the overall pot size has not been increased suYciently. A major problem in the HE sector is that university finances are being driven by student choice, which would be fine if such choice was wholly informed. The recent expansion in participation has had an emphasis, correctly, on the traditionally under- represented groups. However, a side-eVect of this emphasis has been that subjects requiring specific skills and knowledge on entry, such as STEM and the modern languages, have not benefited from the increased number of students and their relative (in many cases absolute) market share has decreased sharply. This is illustrated by the fact that in 1996, physics undergraduate entrants made up 1.1% of the total cohort; in 2006 that percentage fell to 0.81%.

The progress that has been made on university/business co-operation and knowledge transfer since the publication of the Lambert Review in December 2003 Knowledge transfer (KT) is integral in creating successful businesses, high-skilled jobs and more advanced and user-friendly products. Through collaboration and spin-out activity, the strength of the science base can be exploited to the advantage of high value-added business and the level of academic research in academic departments enhanced. To this end, collaborative research between university departments and industry should be made economically profitable for both parties, both through subsidy and through research council funding mechanisms and metrics. However, support for applied research and KT activity must not be at the expense of funding for blue-skies research which may or may not demonstrate short-term economic benefit at the proposal stage for funding—this research is the foundation for any advances in applied research that may occur decades after the original discoveries. One of the major obstacles in building and maintaining successful business-university partnerships highlighted by the Lambert Review is the diVerence in culture and experience between the two groups. A recommendation of the Lambert Review was to encourage greater interaction between personnel in the academic and industrial sectors and this remains a key goal. University physics departments are starting to become more active in transferring technology to industry and their attitudes to entrepreneurship are changing, but an acceleration of eVort has to be encouraged. A further, often neglected, aspect of promoting knowledge transfer is the level of business support given to high-technology companies that have their roots in academic departments. These spin-out companies are aVected by a number of barriers to success. The IOP’s submission to the BERR Simplifying Business Support consultation60 stated that high technology start-ups and spin-out companies require greater support and guidance on obtaining funding than more established companies. Academic spin-out companies are often managed by people with limited business experience who require a diVerent kind of support than that oVered to established businesses and we support Lord Sainsbury’s recommendation of a mentoring scheme for small businesses. We welcome the BERR proposals to simplify the business support oVered by government, but are concerned that the prescriptive structure it proposes will not fully support academic spin-out companies or early stage innovative work resulting from interdisciplinary research. Targeted support must be implemented to ensure the continued success of high-technology start-ups and spin-outs which are one of the drivers for high value-added industry. An additional concern in this field is the vulnerability and complexity of intellectual property (IP) rights. The length of time needed to gain IP protection for novel research through patents, and the perceived vulnerability of patents and intellectual property rights, remain a concern to small businesses, especially academic spin-out companies. A strengthening of the enforcement of IP rights would greatly benefit those working to fully exploit the strength of the UK science base.

The eVectiveness of machinery of government arrangements in encouraging innovation and creativity We are concerned that Regional Development Agencies (RDAs) are not providing the ideal structures to promote both industry-academic partnerships and also business R&D and we look to the new cross-cutting role of the Technology Strategy Board (TSB) to alleviate some of these problems. Physics expertise and research capability is not uniformly spread across the UK, and for high-technology industries to benefit fully from collaboration with academic departments it is crucial that they are made aware of the strength of the research base nationwide. The RDAs are currently exercising strategies for encouraging university-business collaboration centred on connecting local businesses with local universities. To complement these and to fully serve the businesses in their region, RDAs should recognise the importance of cooperating with both other regional and national bodies in connecting industry with academia. Restricting collaborative support

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and funding to local companies and local universities does not reflect the national diversity and heterogeneity of physics knowledge and expertise, both in industry and academia, nor the fact that major research universities do not operate at a local level, and more funding should be available for long-distance collaborations. We look to the TSB and its new role to alleviate some of these problems. Lord Sainsbury’s Review proposes a new landscape for technology strategy in the UK but a change in culture is needed within government departments for many of the proposals, particularly the enhanced SBRI programme, to be successful in their aims of promoting innovation solutions of procurement problems, and to support R&D and small physics-based companies. 9 November 2007

Memorandum submitted by the National Endowment for Science, Technology and the Arts (NESTA)

Introduction 1. NESTA’s mission is to transform the UK’s capacity for innovation. We invest in early stage companies, encourage a culture that helps innovation to flourish and use our research agenda to build a body of evidence about how best to support, measure and improve the UK’s climate for innovation. 2. The Government has recognised that harnessing innovation in the UK is critical to improving the country’s future wealth creation prospects61 and developing and maintaining a high value-added economy. What we now need to do is to develop policies that support the innovation that matters to enterprises from across all sectors of the economy. 3. Over the past year NESTA has published “The Innovation Gap” and “Hidden Innovation”. Both publications demonstrated a gap between how innovation happens, how it is measured and how policy supports it. This research has informed this submission. A third study in this series investigates how innovation really happens in “traditional” high-innovation sectors such as pharmaceuticals and aerospace. NESTA is also investigating innovation in services, how the UK can “make innovative places”, how users contribute to innovation and the role that the creative industries play in stimulating innovation in other sectors of the economy. 4. Alongside its extensive research programme, NESTA also undertakes practical experiments to understand “what works” in supporting innovation. For example, NESTA Connect examines diVerent models of collaboration, NESTA Investments is seeking to establish a model to encourage investments in early-stage businesses, and NESTA Challenge is focusing on creating opportunities for innovation in response to major social issues. 5. NESTA believes that the Government can help create and maintain a high-value added economy by identifying and supporting innovation across the diVerent sectors of the economy. The creation of the Department of Innovation, Universities and Skills and the relaunch of the Technology Strategy Board provide an opportunity for this to be achieved—but only if they receive the support that they need from across the rest of Government.

Q1 What is meant by a high value-added economy? Which business activities qualify as such?

Defining a high value-added economy 1.1 A high value-added economy focuses on those activities that generate a large margin between the final price of a good or service and the cost of the inputs used to produce it, and thus create higher profits for businesses and higher wages for workers.

All business sectors have the potential to perform high value-added activities 1.2 The mass adoption of Information and Communications Technology (ICT) and the fall in communication costs have made it easier to break up the value-chain62 into several tasks which can be re- located anywhere around the world. ICT allows for more distributed innovation processes, such as global collaborations in design and development. This means that firms can increasingly outsource high-value work (such as Research and Development (R&D) and other forms of innovation) that they might previously have done in-house.

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Moving up the value-chain is crucial for the UK’s economic performance in a world with growing international competition 1.3 As a result, it has become much easier to move activities abroad, including those previously performed by high-skilled workers. So, for the UK to remain competitive it will need to move up the value chain, rather than compete solely on cost. It will therefore have to both generate high value-added activities and create the conditions that sustain its advantage against increasingly rapid progress by international competitors.

Q2 How UK business compares internationally in areas such as research and development, creativity and design?

UK lags behind on R&D expenditure and patent activity 2.1 Despite increases in funding, public sector R&D expenditure still remains low compared to our major competitors. R&D performed by the Government and universities in 2004 was 0.6% of Gross Domestic Product (down from 0.68 in 1994) compared to 0.69% in the US, 0.75% in Germany and 0.78% in France.63 However, the UK appears to be eYcient at converting this relatively “low” spend into traditional measures of academic outputs. At 11.9%, the UK’s share of world academic citations is second only to the US.64 2.2 Over the last five years, UK business R&D expenditure has increased by 2% to £13.4 billion, either through in-house operations or extramural activity.65 Forty per cent of this spend takes place in the pharmaceuticals and aerospace sectors, and is dominated by six large companies.66 However, UK businesses still spend less on R&D than many of their international competitors.67 Given this, it is not surprising that the UK lags behind in patenting activity.68

Traditional indicators are incomplete 2.3 However, while the traditional innovation metrics suggest that the UK has a poor performance at innovation activities, these indicators are incomplete measures of the “innovation that matters” to the UK. They ignore innovation in sectors such as financial services. NESTA research into this “hidden innovation” has explored what this skewed measurement means for policy and the UK’s economy. A more detailed breakdown of this argument is provided in response to Question 8.

The UK is a world leader in the creative industries and knowledge economy 2.4 Creativity and design are often as important to the development of high value-added products and services as science or technology. Such linkages may be better understood through broader concepts, such as the “knowledge economy”. 2.5 The knowledge economy comprises knowledge services (creative and cultural services, financial services, business services, computer and information services, and trade in intellectual property rights including fees, royalties and R&D services) and knowledge industries (principally ICT, telecommunications, health and education). This is founded on the argument that economic success and competitive advantage are increasingly based on the eVective utilisation of intangible assets such as knowledge, skills and innovative potential.69 2.6 The UK has the largest creative sector in the EU, and relative to GDP probably the largest in the world. As well as representing a national asset through wealth-creation,70 the creation of ideas, images, symbols, design and cultural expression on this scale would alone be enough for the sector to warrant attention.71

63 DTI SET Statistics: Science, engineering and technology indicators (February 2007), Figure 7.1 Trends in gross domestic expenditure on R&D (GERD) in G7 countries as a percentage of GDP. 64 Universities UK (Summer 2007), Higher Education in Facts and Figures—Research and Innovation, available at: http:// bookshop.universitiesuk.ac.uk/downloads/facts research07.pdf 65 OYce for National Statistics (January 2007), Research and Development in UK Businesses, 2005, Business Monitor, MA14, (HMSO, Norwich). http://www.statistics.gov.uk/downloads/theme commerce/MA14 2005.pdf 66 In ranking order, with the largest first: Pharmaceuticals—GlaxoSmithKline, AstraZeneca, Pfizer; Aerospace—BAE Systems, Rolls-Royce, Airbus. 67 OECD (2006), Main Science and Technology Indicators (MSTI): 2006/2 Edition, (OECD, Paris). This shows that expenditure by UK businesses is $538 per capita, compared to $1,063 in the US, $924 in Japan, and $1,045 in Finland. 68 OECD (2005), Main Science and Technology Indicators (MSTI): 2005/2 Edition, (OECD, Paris). 69 ESRC UK Fact Sheet, Knowledge Economy in the UK, available at http://www.esrcsocietytoday.ac.uk/ESRCInfoCentre/ facts/index4.aspx [accessed 15 October 2007]. 70 The Work Foundation (June 2007), Staying ahead: the economic performance of the UK’s creative industries (Work Foundation, London). The UK’s creative industries account for 7.3% of the economy,and employ one million people directly, while another 800,000 work in creative occupations. 71 The Work Foundation (June 2007), Staying ahead: the economic performance of the UK’s creative industries (Work Foundation, London). Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Q3 What can be learnt from the experiences of other countries in this area and how fast other countries are moving up the value chain?

National policies are broadly similar 3.1 Across the world, national policy interventions for supporting a high value-added economy are very similar. These include investing in a strong knowledge base (R&D, skills, and universities), creating knowledge transfer networks, increasing the amount of venture capital and seed funds, and strengthening intellectual property regimes. 3.2 The ultimate goal is to increase innovation above and beyond the level that markets would provide, since without intervention market failures would result in less socially valuable innovation. 3.3 In particular, innovators find it diYcult to appropriate the full benefit generated by their innovations, since spillovers72 enable others to benefit without contributing to the cost. Similarly, market transactions become more diYcult when participants have access to diVerent information and there are no incentives to share it truthfully. Raising finance for innovation is particularly challenging as a result. Finally, lack of coordination among individuals, organisations or firms can reduce innovation, and governments may be able to play a role in helping them to work together.

The UK can learn from others’ experiences 3.4 China and India are educating their people to a higher standard and expanding the knowledge- intensity of their economies, and hence the race is upward (on value) and not downward (on cost). How much the UK can learn from this is somewhat limited by the significantly diVerent socio-economic and political conditions—China and India are massive yet poor industrialising economies, in comparison with more mature and high-wage Western European economies. It is the successful experience of other developed countries that are managing to weather the growing competition of China and India that are most interesting for the UK. 3.5 It is important, therefore, carefully to identify international experiences that may have strong relevance to the UK. Broadly speaking, we can break these into the following categories: — Countries that have managed a successful transition from a natural-resource economy to a high value-added economy (eg Finland, Canada and to a lesser extent Norway). — Countries that have managed the transition from a manufacturing-based economy to a competitive services-based economy (eg the Nordic countries). — Countries that have managed to maintain their manufacturing base through industrial renewal (eg Germany, Netherlands, Sweden). 3.6 While the UK has been successful in making the transition from a manufacturing-based economy to a service economy, it has also become a more diversified economy with important portions of its economy driven by natural resources (oil and gas: 2.7% of GVA),food sector (7.7% of GVA),and manufacturing (14% of GVA) and services linked to these sectors. The service economy itself is very diversified ranging from business services to industrial and public services.73

Invest in the deepening and broadening of the knowledge base 3.7 The experiences of countries like Canada, Finland, and Norway in managing diversification and knowledge transfer from natural resources industries, is useful for the UK. All three countries have used significant parts of their income from natural resources to build and invest in a strong knowledge base. 3.8 Canada boosted its investment in public R&D infrastructure especially at universities74 and built a strong network of national centres of excellence75 to exploit the R&D created.

72 Spillovers are the conditions in which firms or consumers benefit from knowledge, market opportunities, innovations, or skilled employees that they have not paid for directly. They are unremunerated benefits—that is, the producer or consumer of the new ideas or products is not compensated for any external benefits their production/consumption decision confers on other people. Definition from “Schumpeterian Profits in the American Economy: Theory and Measurement”, W Nordhaus, NBER Working Paper W10433, 2004. Nordhaus estimates that a tiny proportion of the value of innovations—around 5%— is actually captured by creators. 73 OYce of National Statistics (18 August 2006), Spending on eating out overtakes meals at home, available at http:// www.statistics.gov.uk/pdfdir/ioa0806.pdf. Gross Value Added (GVA measures the contribution to the economy of each individual producer, industry or sector in the United Kingdom). 74 Liljemark, T. (28 November 2005), Innovation Policy in Canada—Strategy and Realities, (Swedish Institute for Growth Policy Studies, Sweden). 75 For example, the Networks of Centres Excellence Programs mobilises research excellence for the benefit of Canadians. They bring together researchers and partners from the academic, private, public and non-profit sectors in areas of strategic importance for Canada. For more information see http://www.nce.gc.ca/ Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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3.9 Norway developed policies to favour local small and medium-sized enterprises (SMEs) in subcontracting from large oil and gas companies (a majority of which were foreign). This policy also helped many of the old and decaying ship building companies to link with the oil and gas industry of the North Sea and experience an industrial renewal.76 3.10 In Finland, the transition from an economy fuelled by the abundance of cheap raw wood into one that is knowledge-based and ICT-driven was primarily facilitated by a series of economic liberalisation and deregulation measures. However, it also required massive investments in R&D and the knowledge base, initially by government, followed later by the private sector.77

Moving up the value chain 3.11 The UK also has much to learn from countries that have managed industrial renewal by upgrading their manufacturing base. For example, Germany and Sweden have weathered the rise of global competition in manufacturing from low cost countries by focusing on advanced knowledge-intensive activities that yield higher returns and face less competition on cost. However, as low cost countries start higher value activities, Germany and Sweden will face new challenges. 3.12 In both countries, manufacturing businesses took advantage of falling trade barriers by moving some of their production lines to lower cost countries, while strengthening their R&D capacities at home. 3.13 Their experiences show that a transition into a services economy does not preclude developing higher value activities in other sectors. Both Germany and Sweden have a very high proportion of services in their GVA (70% and 70.6% respectively compared to a 74.1% in the UK).78 The German and Swedish experience also shows that a country can maintain a sector by moving up the value chain and hence inducing a change of activities within a sector rather than by moving into new sectors (for example, engaging in industrial R&D and design rather than assembly).

Public Services have a role to play in creating value 3.14 In Denmark, Norway, Sweden, the Netherlands and France public services, such as elderly care, education, health, and welfare are important economic drivers of their high value-added economies. The demand posed by these sectors and their size in the economy make them both conduits for innovation and drivers of economic competitiveness.

Q4 The extent to which UK business has absorbed new business practices such as lean manufacturing?

Lean manufacturing is under-exploited by UK business 4.1 Lean manufacturing is now widely adopted as a strategy for focusing on activities that maximise benefits to customers through eliminating waste and continuous improvement in quality. 4.2 The manufacturers’ association, EEF, has shown that many firms are improving performance by applying lean manufacturing across the whole of their business.79 Yet many firms that have not undertaken this process miss out on the benefits. There are a number of reasons why some firms are not undertaking lean manufacturing, but these barriers can be removed if employers, government and trade unions work together in partnership.

Q5 Why some sectors of the UK economy appear to be more eVective at embracing value-added activities than others?

Innovation that generates high value-added activities diVers between sectors 5.1 The innovation that matters most diVers between sectors. For example, it includes the development of new exploration techniques in oil production, modular (multi-purpose) accommodation systems in construction, or new, more successful programmes for the rehabilitation of oVenders. This innovation frequently relies on collaborations between disciplines, across sectors and beyond regions—and it is often aVected more by mainstream policies than by those aimed directly at innovation.80

76 Hatakenaka, S, Westnes, P, Gjelsvik, M and Lester, R. (November 2006), The Regional Dynamics Of Innovation: A comparative case study of oil and gas industry development in Stavanger and Aberdeen, (Massachusetts Institute of Technology, Massachusetts). 77 Dahlman, C, Routti, J and Yla¨-Anttila, P.(January 2006), Finland as a Knowledge Economy—Elements of Success and Lessons Learned, (The International Bank for Reconstruction and Development / The World Bank, Washington). 78 NESTA (October 2006), The Innovation Gap: Why policy needs to reflect the reality of innovation in the UK, (NESTA, London). 79 From EEF (2004), Catching up with the Continent, Final report on EU and UK manufacturing productivity. 80 NESTA (June 2007), Hidden Innovation—How innovation happens in six “low innovation” sectors, (NESTA, London). Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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5.2 From this approach, the UK appears to have struggled to retain previous indigenous strengths in areas such as mass market manufacturing, electronics and computing (IT hardware), telecommunications, chemicals, and some areas of engineering. This may reflect a long-term under-investment in higher value- added activities, as well as poor management, under-investment more generally (for example, in the latest technologies), and increasing international competition.81 5.3 The corollary of this may be that the areas in which the UK remains strong are those that have historically invested at competitive levels in higher value-added activities (whether or not these investments are captured in existing metrics of innovation).82 Obvious examples include pharmaceuticals, oil and gas production, the financial services, aerospace and some areas of niche / advanced engineering such as motor sports.

The detailed operation of each sector’s innovation system is considerably diVerent 5.4 In banking, innovation often relies on investments in ICT supplied by service companies which are then integrated to provide new services to customers. By contrast, in education the bulk of new practice is developed by individual schools and teachers. In oil production and the rehabilitation of oVenders, it is frequently groups from outside their sector that provide innovation (for oil, it is global service suppliers like Schlumberger; in rehabilitation of oVenders, it is frequently voluntary groups). In construction, collaborative problem-solving with clients is a major source of innovation. This contrasts strongly with legal aid services, for instance, where there is currently limited innovation involving clients or the lawyers providing services to them.83

Q6 The impact on business of government eVorts to promote research and development, including the research and development tax credit?

Evidence reveals a positive impact of tax credits on business R&D 6.1 The R&D tax credit is perhaps the foremost channel for Government to stimulate business expenditure on R&D. Studies have consistently shown that R&D tax credits are eVective at raising investment in R&D. A 10% reduction in the cost of R&D is associated with a 1% increase in short term investment and 10% in the long term.84 However, as yet, there has been no thorough evaluation of the eVect of the R&D tax credit on the UK’s innovation performance. As such, we do not know if R&D tax credits directly stimulate innovation, and consequently if they impact on overall levels of UK productivity.

The R&D tax credit remains poorly understood and overly-complex 6.2 R&D tax credits need to balance cost-eVectiveness and simplicity. A clear and narrow definition of eligible expenditures reduces uncertainty and facilitates implementation. However, this simplicity excludes some research and development that should be eligible for support, particularly in the services sector where formal R&D is relatively less common. 6.3 R&D is increasingly funded across national boundaries, while the knowledge learned from such investment is increasingly globalised. This internationalisation of R&D and knowledge transfer raises several issues about what expenditures should qualify for a credit. R&D performed by foreign multinationals in the UK generates benefits for the UK economy, while R&D expenditures by UK firms abroad improve the UK’s ability to apply new knowledge. Finally, the mobility of R&D raises the question of whether R&D tax credits are driven by tax competition or whether they have a net positive eVect on overall R&D.

R&D tax credit or innovation credit? 6.4 Policy should concentrate on building capacity for innovation rather than the creation of specific innovations. Ultimately, there are two possible objectives for innovation policy. The first is directly to stimulate innovation in a sector. The second is to improve a sector’s capacity for innovation not only by generating more innovation, but also by improving its internal incentives and processes for developing and diVusing innovations, and its ability to identify and draw them in from elsewhere. These policy objectives may best be served through an innovation tax credit that funds these activities, rather than an R&D tax credit.

81 NESTA (June 2007), Hidden Innovation—How innovation happens in six “low innovation” sectors, (NESTA, London). 82 For example, the DTI Value-Added Scoreboard suggests that the UK retains some strengths in high-value added areas. See DTI (2006), The R&D Scoreboard 2006—the top 800 UK and 1,250 Global companies by R&D Investment, Vol. 1 of 2— commentary and analysis, (DTI, London). 83 NESTA (June 2007), Hidden Innovation—How innovation happens in six “low innovation” sectors, (NESTA, London). 84 Bloom, GriYth and Van Reenen, (2002), Do R&D tax credits work? Evidence from a panel of countries 1979–97, Journal of Public Economics, 2002 and Griliches, Zvi, (1998), R&D and Productivity: The Econometric Evidence, in Smith, B and Barfield, C. (1996), Technology R&D, and the Economy (The Brookings Institution, Washington). Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Q7 The progress that has been made on university / business co-operation and knowledge transfer since the publication of the Lambert Review in December 2003?

Knowledge transfer from universities has improved, but performance is mixed 7.1 Knowledge transfer and commercialisation activities have steadily increased in UK universities since the early 1980s, with a large exploitation of such activities since 1997.85 University spin-out companies attract a significant proportion of the UK’s venture capital, almost 12% of all venture capital investment in the UK in 2006.86 7.2 Evidence indicates that collaboration between business and universities is generally on an upward trend.87 Contract research income increased by 13% in 2005–06 from the 2003–04 survey. There was also a consistent increase in the number of disclosures and licences granted by universities and colleges between 2001 and 2006. However, despite this, only 10% of the UK’s innovative businesses currently interact with universities.88

DiVerent models of university knowledge transfer 7.3 Whilst it is important that universities, and industry, recruit and retain individuals focused on and skilled in commercialisation and knowledge transfer activities, this alone will not improve performance. It is increasingly important to seek out and exploit new models of university-business collaboration. For example, the IP Group provides an upfront payment to a number of UK universities in return for exclusive rights to the commercialisation of intellectual property, although the university retains some of the profit.89 7.4 NESTA has committed to investing in the UMIP/MTI fund,90 which has been established to invest in Intellectual Property (IP) coming out of the University of Manchester. This is the first time that an established venture capital house has partnered with a specific university to resolve IP problems at the early stage of partnership.91

Universities should reach out to a wider range of businesses 7.5 As the UK economy is increasingly dominated by the service sector, universities must identify how their academic research and knowledge could benefit these businesses.92 Reaching out to a wider range of businesses will mean introducing more flexible schemes, with limited bureaucracy and greater incentives for both sides to collaborate. In time, this should lead to more extensive collaborative activity.NESTA therefore welcomes Recommendation 4.6 of the Sainsbury Review, to introduce mini Knowledge Transfer Partnerships (KTPs), intended to help spread the benefits of KTPs to smaller businesses through shorter- term (3–12 months) and less expensive projects.93

Q8 Whether business and government interpret innovation too narrowly?

Linear interpretation of innovation is misleading 8.1 Innovation is vital to the future economic prosperity and quality of life of the UK. It rarely happens based on traditional understandings of linear, “pipeline” R&D that lead only to new products, drugs or technology.If that were the case, where, for example, would there be room for the retail innovation of IKEA, Zara and eBay, or the role of the City of London as a centre for financial services? What would we make of the UK’s advertising and music industries, or of social innovations such as NHS Direct, the BBC and the Open University?

85 UNICO (2007), UK University Commercialisation Survey: Financial Year 2004, available at http://www.unico.org.uk/ msurvey.doc 86 Library House (2007), Spinning out quality: University spin-out companies in the UK, available at http:// www.libraryhouse.net/publications/downloads/MTSO report Mar2007.pdf 87 Higher education-business and community interaction survey 2004–05 and 2005–06 (July 2007), available at http:// www.hefce.ac.uk/pubs/hefce/2007/07 17/ 88 Eurostat press release (2007), “Fourth Community Innovation Survey, More Than 40 Per Cent of EU27 Enterprises are Active in Innovation”, (Eurostat, Luxembourg). 89 Information from IP Group website, available at http://www.ip2ipo.com/ipo/ [accessed 15 August 2007]. 90 University of Manchester Intellectual Property and MTI Partners. 91 For further information on the UMIP /MIT fund see FT article (05 September 2007), Manchester University to set up fund aimed at research investment, available at http://search.ft.com/ftArticle?queryText%manchester!university !to!set!up!fund!aimed!at!research!investment&y%3&aje%true&x%19&id%070905000606&ct%0 92 Council for Science and Technology, September 2006, Innovation and Wealth Creation—Services Sector and Public Procurement: letter to the Chancellor of the Exchequer, http://www.cst.gov.uk/cst/reports/files/services letter.doc, [accessed 07 August 2007]. 93 Lord Sainsbury of Turville (2007), The Race to the Top—a Review of Government’s Science and Innovation Policies, (HM Treasury, London). Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Traditional indicators ignore major sectors of the UK economy 8.2 Traditional indicators of innovation performance are heavily biased toward investments in scientific and technological invention and so do not capture innovation in those sectors that represent the vast majority of the UK economy. Moreover, even within those sectors that they do represent, traditional indicators poorly reflect the true level of innovative activity.94 8.3 While the traditional innovation metrics suggest that the UK has a poor performance at innovation activities, these indicators are incomplete measures of the UK’s most important innovation. The results do little more than describe the sectoral make-up of the UK economy rather than measuring the innovation performance of those sectors. As a result, these metrics ignore important sections of the UK economy. 8.4 The metrics ignore innovation in sectors such as financial services, retail, consultancy and the public sector, that together account for 94% of the UK economy. The accepted definition of R&D even ignores expenditure on oil exploration activities (that industry’s version of R&D), another vital sector to the UK. Finally, although the UK performs exceptionally well on pharmaceutical R&D (a sector where R&D expenditure is directly relevant to innovation), this performance is lost when aggregate indicators are compiled and other sectors where R&D is less relevant are mixed in. 8.5 By using OECD analysis to reinterpret the raw data provided by traditional innovation metrics, the gap between the UK and Finland on Business Expenditure on Research and Development halves from 1.9% to 0.8%.95 The gap with Germany on triadic patents produced per million of population reduces from 38 to 10.96 On business R&D intensity, the gap between the UK and France closes by 80%.97

Understanding “hidden innovation” is vital to the UK’s future prosperity 8.6 To understand the dynamics of hidden innovation, NESTA conducted a detailed analysis of six sectors that perform poorly on traditional metrics of innovation: oil production, retail banking, construction, legal aid services, education and the rehabilitation of oVenders.98 None of these six sectors invests heavily in formal R&D; nor do they produce many patents. Three represent publicly-funded services that are typically not included in studies of innovation at all. It examined whether these sectors are truly lacking in innovation, or whether traditional measures of innovation are failing to capture all of the innovation that takes place. 8.7 This research has revealed at least four types of hidden innovation: — Type I: Innovation that is identical or similar to activities that are measured by traditional indicators, but which is excluded from measurement. For example, the development of new technologies in oil exploration. — Type II: Innovation without a major scientific and technological basis, such as innovation in organisational forms or business models. For example, the development of new contractual relationships between suppliers and clients on major construction projects. — Type III: Innovation created from the novel combination of existing technologies and processes. For example, how banks have integrated their various back oYce IT systems to deliver internet banking. — Type IV: Locally-developed, small-scale innovations that take place “under the radar”, not only of traditional indicators but often also of many of the organisations and individuals working in a sector. For example, the everyday innovation that occurs in classrooms and multidisciplinary construction teams. 8.8 In oil production, for example, the development of new technologies in oil exploration is a better measure of innovation than spending on R&D. This is because much of the development of technology takes place in close collaborations between production companies and suppliers, often on-site rather than in research labs. This type of technology development, testing and refinement is explicitly excluded from some

94 NESTA (October 2006), The Innovation Gap, (NESTA, London). 95 Unadjusted data from Organisation for Economic Co-operation and Development (2005), Main Science and Technology Indicators (MSTI): 2005/2 Edition, (OECD, Paris). Adjusted gaps due to sectoral composition from Organisation for Economic Co-operation and Development (2005), Economic Survey of the United Kingdom 2005: Raising Innovation Performance, (OECD, Paris). 96 Unadjusted data from Organisation for Economic Co-operation and Development (2005), Main Science and Technology Indicators (MSTI): 2005/2 Edition, (OECD, Paris). Based on triadic patent families, that is, sets of patents taken at the European Patent OYce (EPO), the Japanese Patent OYce (JPO) and the US Patent & Trademark OYce (USPTO) that share one or more priorities, and using R&D intensity as a proxy for patenting activity intensity. Adjusted gaps due to sectoral composition from Organisation for Economic Co-operation and Development (2005), Economic Survey of the United Kingdom 2005: Raising Innovation Performance, (OECD, Paris). 97 Unadjusted data from Organisation for Economic Co-operation and Development (2005), Main Science and Technology Indicators (MSTI):2005/2 Edition, (OECD, Paris). Adjusted gaps due to sectoral composition from Organisation for Economic Co-operation and Development (2005), Economic Survey of the United Kingdom 2005: Raising Innovation Performance, (OECD, Paris). 98 NESTA (June 2007), Hidden Innovation—How innovation happens in six “low innovation” sectors, (NESTA, London). Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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international surveys of R&D spending. The construction industry patents few new inventions, but drives innovation elsewhere in the economy; moreover, innovation in construction methods that go uncounted by traditional indicators have already saved more than £800 million in central government procurement alone.

Innovation policy needs to be sensitive to sectoral diVerences 8.9 The Department for Business, Enterprise and Regulatory Reform (BERR) has commissioned research on broader categories of innovation, including innovation in services. The BERR-NESTA Sector Innovation Groups (SIGs) will be completed in early 2008 and deliver recommendations for future Government action geared towards supporting innovation in six service sectors under-served by traditional innovation policy.

Developing new metrics for innovation is possible and valuable 8.10 Measurement of innovation is not simply a matter of academic interest: it is fundamental to the development of evidence-based policy and monitoring the impact of those policies. Though traditional metrics are flawed, they are at least consistent, and relate to economic measures such as productivity in particular sectors. They are, however, usually only proxy indicators for innovation. 8.11 To date, innovation policy has valued longevity and comparability over accuracy, and placed insuYcient weight on “health check” indicators compared to inputs and outputs. The result has been a small set of indicators relevant to only a small part of the UK economy. Most obviously, there is an inherent tension in seeking to establish metrics for innovation that never develop—as if the innovation that matters in a particular sector will not change over time. In this respect, the desire for longevity needs to be balanced against a stronger regard for accuracy. 8.12 While it would be ineYcient to collect data for a vast set of highly accurate indicators that were valid only for one sector or for a very short period of time, NESTA’s research demonstrates that it is possible to develop a small but accurate set of indicators that would eVectively track the innovation performance of particular sectors. The resulting set of indicators may give a clearer impression of the innovation performance of the UK as a whole.99

Q9 What the government can do to further promote higher value-added business activities and innovative thinking among UK businesses?

Supporting formal R&D and absorptive capacity are important 9.1 Government has incentivised R&D, encouraged businesses to collaborate with universities and substantially increased public investment in scientific research. Although R&D spend does not reflect true levels of UK innovation, it remains important that the UK invests at a competitive level in formal R&D. For example, even in a period of increasingly open innovation—where more firms are seeking to exploit the value from ideas and technologies developed outside the firm—internal R&D remains crucial for a business’s ability to identify, assimilate, and exploit knowledge from its wider environment, including other research centres, businesses, or customers.

Ensuring the growth of the creative industries 9.2 The creative industries provide a major source for economic growth in the UK, but such growth is dependent on the commercialisation of creative content, services and experience. As part of an overall focus on intellectual property for small businesses, NESTA has suggested that the Government should launch a campaign around the creation and exploitation of IP within the creative industries, linking outreach and education eVorts across the Department for Culture, Media and Sport, the Patent OYce, BERR and related entities, and fronted by new role models within the creative sectors.

Innovation Vouchers 9.3 Stronger links between industry and academia could also further promote higher value-added business activities and innovative thinking among UK businesses. EVorts to boost business demand for university R&D should be stepped up. One exemplary approach is the Innovation Voucher scheme currently being piloted by Aston University. Based on a Dutch model, this has provided 80 high-growth SMEs with £3,000 vouchers which they can use to purchase academic support to improve their innovation capability.100

99 NESTA (June 2007), Hidden Innovation—How innovation happens in six “low innovation” sectors, (NESTA, London). 100 Aston University Press Release (27 November 2006), Aston University pilots revolutionary innovation voucher scheme, available at http:// www.aston.ac.uk/downloads/bpu/index2.pdf Processed: 12-08-2009 19:14:34 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Supporting domestic collaboration—a National Innovation Advisory Service

9.4 With “open innovation” systems101 becoming increasingly important, UK businesses need actively to engage with other domestic businesses and universities. However, since small businesses often lack the knowledge to engage in such processes, a nationally branded, regionally delivered Innovation Advisory Service should be developed to actively facilitate open innovation. This should build on the existing regional innovation advisory services, and would ensure that all regions have a core oVering to businesses to support open innovation. Crucially, it must be led by highly skilled and credible advisors and work with businesses from all sectors.102

Q10 The impact of nationality of ownership on the location of research and development work?

The decision where to locate R&D is based more on home country than nationality

10.1 A home country is defined as where a firm was first started, whereas its nationality is where its corporate headquarters are located. Nationality has less impact in an increasingly global and multinational corporate environment than a company’s home country on where it decides to locate R&D activities. This role becomes clear when we outline the factors that often shape the location decisions of R&D of companies. 10.2 Generally speaking firms base their decision to locate their R&D activities abroad on the basis of the following:103 — Growth potential of that country’s market. — Quality of the local R&D personnel. — Collaborations with local universities. — Cost.

Availability of scientific and technological excellence

10.3 The decision to keep certain R&D activities at home and move other activities abroad is largely decided by the factors listed above. However, a strong scientific and technological base is an important magnet for R&D investment, which can outweigh these factors.104 Some research has shown that the decision is often driven by the strength of the home country in certain science and technology fields.105 If the home country is superior in science, for example, then a firm relying on scientific research is less likely to move its R&D operations in that field abroad. If the home country is less specialised or lags behind in science then that firm is very likely to move part or all of its R&D activities to better performing countries.

Tax Incentives, Regulations & Government Assistance

10.4 Some firms are influenced in their decision on R&D location by government incentives, such as tax breaks and/or direct government assistance. Where they help keep the costs of R&D low, such incentives help mitigate the high risks associated with R&D spending.106 Furthermore, visa and work permit regulations can be important drivers or deterrents, since R&D personnel usually include many nationalities. Also important is the ease of negotiating ownership of intellectual property from research relationships, especially with universities, and this also reflects the extent to which a country’s cultural and regulatory environment is conducive to new businesses. In general, a country also has to have the reputation for a strong collaborative business culture, as no firm wants to locate somewhere where it is isolated.

101 Open innovation means innovating by sharing knowledge with external partners like universities, suppliers and small firms rather than relying on knowledge generated in-house. Definition taken from: Chesbrough, H. (2003), Open Innovation: The New Imperative for Creating and Profiting from Technology, (Harvard Business School Press, Massachusetts). 102 NESTA (October 2007), The End of the Beginning, (NESTA, London). 103 The National Academies (2006), Here or There: A Survey on the Factors in Multinational R&D Location—Report to the Government-University-Industry Research Roundtable, available at http://www7.nationalacademies.org/guirr/ here or there report brief.pdf. 104 Jones, G, Hildy, J and Teegen (2003), Factors aVecting foreign R&D location decisions: management and host policy implications, International Journal of Technology Management (IJTM), Vol. 25, No. 8. 105 Cantwell, J and Janne O. (1998), Technological globalisation and innovative centres: the role of corporate technological leadership and locational hierarchy, Research Policy, Vol. 28, Nos. 2–3, 1999, pp. 119–144. 106 The National Academies (2006), Here or There: A Survey on the Factors in Multinational R&D Location—Report to the Government-University-Industry Research Roundtable, available at http://www7.nationalacademies.org/guirr/ here or there report brief.pdf. Processed: 12-08-2009 19:14:34 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Q11 The eVectiveness of machinery of government arrangements in encouraging innovation and creativity?

The link between universities and innovation is now reflected in government structures 11.1 As we have noted, the creation of the Department for Innovation, Universities and Skills (DIUS) means that for the first time, innovation policy has a seat at the Cabinet table. These changes have also emphasised the link between innovation policy and universities, and brought both strands of the dual support system for higher education funding into one department. It has also linked innovation policy to skills—perhaps the single most important driver of the UK’s future capacity for innovation. 11.2 To take full advantage of the opportunities that these changes provide, the newly formed DIUS should build on the innovation agenda laid out by the Department of Trade and Industry, and work closely with other Government departments (particularly the new Department for Business, Enterprise and Regulatory Reform) to develop world-leading innovation policy.

Developing a broad national innovation agenda 11.3 DIUS, as a Cabinet-level voice for innovation policy, now has the opportunity to build on these initiatives to develop a fuller innovation agenda that includes, but reaches beyond science and technology, to ensure that innovation is maximised across the UK’s economy and society. This means acting as a champion of innovation across Government, particularly in procurement.

Cross-departmental and sector-sensitive policy-making

11.4 More generally, innovation policy needs to be sensitive to these dynamics already at work—but Government cannot be expected to do this alone. In ensuring optimal conditions for innovation in the UK, the relationships between DIUS, the Department for Business, Enterprise and Regulatory Reform (BERR) and the Technology Strategy Board need to be close and co-operative, particularly when considering important drivers of innovation like enterprise support, early-stage investment and framework conditions like taxation, competition policy and regulation. DIUS should work closely with the Department for Children, Schools and Families to build a coherent approach to developing the skills necessary for innovation in schools, colleges and informal learning settings.107

Working to co-ordinate the innovation responsibilities of RDAs

11.5 Many regional and city innovation strategies are similar. Of England’s nine RDA strategies, eight include biotechnology or health sciences as a priority area, and five mention the creative industries. Nearly all include traditional science-based policy interventions such as technology parks, and university-industry collaboration. 11.6 This similarity inevitably leads to competition. But it is not clear exactly how many biotechnology hubs the UK really needs or can sustain, and this duplicative approach may waste resources. So many competing eVorts may also be counterproductive—preventing the formation of critical mass at any one location. 11.7 What the UK requires is suYcient competition between local areas to allow for local relevance, policy experimentation and the emergence of good ideas, but not so much competition as to be destructive to the nation’s ambitions or its use of public resources. 11.8 Local ambitions should be placed in a regional and national context. In developing their innovation strategies, cities and regions should conduct the policy equivalent of an environmental assessment to establish their own strengths and understand what others are doing. The resultant strategy should overtly complement those eVorts rather than compete against them. 11.9 In developing its innovation strategy, a city / region should build on its history and focus on identifying its unique capabilities and challenges. Policies and programmes should then be based clearly on those strengths and the outcomes the city desires from innovation activity, rather than simply attempting to support innovation for its own sake.108 October 2007

107 NESTA (July 2007), Innovation Policy at the Cabinet Table, (NESTA, London). 108 NESTA (January 2007), Innovation in UK Cities, (NESTA, London). Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Supplementary memorandum submitted by NESTA

Executive Summary Recessions present opportunities, as well as challenges. The UK is one of the world’s most open and connected economies and it would be a mistake to retreat in panic from our ultra-networked world. Instead, the UK must learn to “domesticate” its networks, nurturing and managing them to sustain economic growth and emerge stronger from the downturn. Finland provides an outstanding recent example of a developed economy that was able to recover from a sharp recession in better shape. To do so required a reconfiguration of its national economic mission, led from the centre, and the mobilisation of resources across the economy. At the heart of Finland’s new economic vision was an understanding of its role as an “innovation economy”. The UK can also use these diYcult economic circumstances develop a national innovation narrative that recognises and builds upon its strengths, and helps overcome some historic weaknesses. The new National Economic Council should take a lead in using the opportunity presented by the downturn to address major social challenges including climate change, an aging society, and increased international competition.

About NESTA NESTA is the National Endowment for Science, Technology and the Arts. NESTA’s mission is to transform the UK’s capacity for innovation. We conduct research to build a body of evidence about how best to support, measure and improve UK innovation; we develop innovation programmes to encourage in the UK a culture that helps innovation to flourish; and we invest in early stage high tech companies. NESTA welcomes the opportunity to respond to the Select Committee’s hearing on the economic downturn. NESTA’s Policy and Research Unit is developing a strand of work around the theme of innovation and expect to produce interim findings on this at the start of December.

The Networked Recession

This is the first truly “networked recession” 1. The world has changed since the last downturn. This could be the first true “networked recession”: the first where our ultra-connected world, linking billions of us together, faces a global economic challenge. Events a thousands miles away can aVect us almost immediately: defaulting sub-prime mortgages in the US brought down Northern Rock; the collapse of Iceland’s banking system has hit local councils and public services throughout the UK. 2. The financial system, the central nervous system of the world economy, became faster and more responsive following the “Big Bang” of 1986: a dramatic shift to new, electronic markets that enabled the tiniest price movements to be communicated almost instantaneously across the world.109 The dot.com boom, and subsequent bust, left behind a new, open, global network of electronic communications that is transforming society. And the containerisation of our transport systems, alongside other eYciency improvements, has helped reduce the price of transporting freight to a fraction of its previous level.110

The UK is one of the world’s most open and connected economies 3. The UK has a tradition of openness, flexibility and free trade. The UK has some of the world’s lowest barriers to competition,111 and is the most lightly regulated economy in the European Union.112 Consequently, it is little surprise that the UK is the world’s second largest exporter of services,113 the fifth most attractive location for foreign-funded R&D,114 and the fourth most attractive destination for foreign direct investment.115 4. The UK also acts as a magnet for talented people. Historically, aside from conducting world-leading research, the UK’s universities have proven a compelling destination for international students. From 1996–97 to 2005–06 the number of non-EU international students has more than doubled.116

109 Webster, F. (1995), Theories in the Information Society, London: Routledge 110 Levinson, M. (2006), The Box: how the shipping container made the world smaller and the world economy bigger, Princeton: Princeton University Press 111 OECD (2005), The Benefits of Liberalising Product Markets and Reducing Barriers to International Trade and Investment: The Case of the United States and the European Union, Paris: OECD. 112 OECD (2006), Going for growth 2006, Paris: OECD. 113 BERR website. Available at http://www.dti.gov.uk/europeandtrade/trade-policy/page10188.html 114 OECD (2007) “Moving up the value chain: staying competitive in the global economy.” Paris: OECD. 115 A.T. Kearney (2005) “FDI confidence index.” Chicago: A.T. Kearney. 116 Universities UK (2007), “Patterns of higher education institutions in the UK : Seventh report.” London : Universities UK. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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We cannot retreat from the networked economy

5. It would be too easy to blame an imminent recession on this connectedness. The intricate linkages between banks and financial institutions that once helped drive economic growth now appear to have turned against us. “Contagion”—the rapid spread of economic crisis across economies—has been observed before.117 The demands to pull up the drawbridges and retreat from our connected world are growing. 6. But the withdrawal of governments and nations from the global economy during the 1930s helped prolong the Great Depression. Following the Wall Street crash in October 1929, world trade declined by about 30% in total between 1929 and 1932.118 The slide was worsened by deliberate attempts to impose import controls and tariV barriers.119 Global governance suVered a near-total collapse, with no international agreement on the best route to stabilisation until after WWII.120 7. Globalisation is not an irreversible process. Already, sharp rises in energy prices and pushing up transport costs.121 This, in turn, is aVecting low-cost manufacturers across East Asia.122 The threads that have held the world economy together may prove more fragile than we thought. 8. Severing our connections to the globalised world today would merely pull us further down. But then passively failing to manage those connections could be equally damaging. We have already seen how excesses in the financial sector have aVected the rest of the economy. The networked economy will work for us when it is nurtured, rather than abandoned: promoting potential areas of growth, and pruning and regulating where appropriate.123

The UK needs to domesticate its networks

Economic turbulence can present opportunities, as well as dangers

9. The idea that recessions provide a platform for innovation and economic growth has long been argued. Jospeh Schumpeter wrote about the importance of what he called “creative destruction” to drive the economy forward.124 Periods of economic turbulence have been associated with the development of new technologies and ways of working—like the spread of mass production between the wars.125

The UK has real strengths that will help show a way out of crisis . . .

10. The UK’s “innovation ecosystem” remains robust.126 The science and research base is solid and produces over 13% of scientific papers cited worldwide, on a fraction of global research spending.127 The service sector, now accounting for over 70% of Gross Value Added, has a strong record of hidden innovation.128 UK manufacturers are now consistently high-performers, with world-leading companies in areas such as pharmaceuticals and aerospace able to consistently innovate throughout their operations.129 Historic legacies of industrial progress can provide the foundation for economic success today.130

117 Eichengreen, B., Rose, A. and Wyplosz, C. (1996), “Contagious currency crises”, NBER Working Paper 5681 118 Marsden, J.B (2001), “Trade barriers and the collapse of world trade during the Great Depression”, Southern Economic Journal, 67:4 119 Jakob Marsden estimates that the cumulative impact of trade restrictions over 1929 to 1932 was responsible for over half (by value) of the decline in world trade. See Marsden, ibid. 120 Kindelberger, C.P. (1986), The World in Depression 1929–1939, Berkeley: University of California Press 121 Rubin, J. and Tal, B. (2008), “Will soaring transport costs reverse globalisation?”, StrategEcon, Toronton: CIBC World Markets, Inc. 122 Daily Telegraph (22 September 2008), “Oil price shock means China is at risk of blowing up” 123 Homer-Dixon, T. (2006), The Upside of Down, London: Souvenir Press, Ltd., ch.11 124 Schumpeter, J.R. (1943), Capitalism, Socialism and Democracy, New York: Harper & Row Publishers, Inc. 125 Lipsey, G., Carlaw, K.I., and Bekar, C.T. (2005), Economic Transformations: General Purpose Technologies and long term economic growth, Oxford: Oxford University Press 126 Lord Sainsbury (2007), The Race to the Top: a review of the UK’s science and innovation policies, London: HM Treasury 127 HM Treasury and DIUS, Science and Innovation Investment Framework, 2004–2014: annual report 2007, London: HM Treasury 128 NESTA (2006), Hidden Innovation, London: NESTA 129 NESTA (2008), Total Innovation: why harnessing the hidden innovation in high-technology sectors is crucial to retaining the UK’s competitive edge, London: NESTA 130 Simmie, J., Carpenter, J., Chadwick, A., Martin, R. (2008), History Matters: path dependence and innovation in British city- regions, London: NESTA 131 Bloom, N. and van Reenan, J. (2006), “Measuring and explaining management practices across firms and countries”, Centre for Economic Performance discussion paper No.176, London: LSE 132 ibid. 133 NESTA (2007), Education for Innovation, London: NESTA 134 Simmie, J., Carpenter, J., Chadwick, A., Martin, R. (2008), History Matters: path dependence and innovation in British city- regions, London: NESTA Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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. . . but also many weaknesses 11. Many weaknesses remain. The UK has a “long tail” of underperforming firms.135 Management is too often amateurish and ill-equipped to cope with economic change.136 Employers report deficiencies in essential skills.137 Economic growth, and the potential for growth, is unevenly distributed.138 And the transport infrastructure is underdeveloped across too much of the country, damaging productivity.139 12. Collaboration and networks will therefore be integral to an eVective strategy for coping with the economic downturn. The UK must learn to build on its strengths as a networked economy, using these to pull up those weaker areas. Tying together networks and building eVective coalitions will require a clear innovation strategy.

Finland offers an example on successful economic transformation

Finland suVered a severe recession in the early 1990s 13. There is one outstanding, recent example of a developed economy that used recession as a period of opportunity, rather than only threat. Finland entered one of the worst recessions in its history in the early 1990s. The collapse of its major trading partner, the USSR, had pulled the Finnish economy down with it. Deregulation of the financial markets led to interest rate increases, weakening businesses further. And Finland’s largely primary-goods and heavy industry economy was not well-placed to withstand the emerging cost pressures of globalisation.140 Unemployment topped 20% in 1990, and the state budget deficit was of around 70% of GDP.141

A new innovation strategy, with strong central leadership, delivered economic prosperity 14. Building on Finland’s strong engineering inheritance, the Finnish government developed a new economic strategy, heavily geared towards technological innovation and centred on the growth of Finland’s telecommunications cluster.142 15. The Science and Technology Policy Council, chaired by the Prime Minister and consisting of ministers, business leaders, representatives of employee and employer organisations, scientists and technologists, played the leading role in driving through the new strategy. It established a shared vision of the transformation needed, played a co-ordinating role across other bodies in the economy and crucially delivered the high-level political leadership needed to make the new strategy function.143 16. The Council oVered a new, systemic vision of Finland as the premier “knowledge economy”. Rooted in an appreciation of the networked society, and drawing on Finland’s existing strengths, this vision created a powerful narrative that showed a new course for the whole economy. The Council had the credibility needed to make the strategy work. 17. The strategy’s success can be seen in the improvement in Finland’s productivity growth rate, from 2.2% in the 1980s, to 2.8% in the 1990s. For comparison, US productivity growth rose from 0.8% in the 1980s to just 0.9% over the next decade, whilst France’s actually declined over the same period, from 1.9% to 0.5%.144 Finland is now a world-leading economy in key communications technologies, perhaps best represented by Nokia and the Linux open source operating system.

Delivering a UK innovation narrative

We must tailor a narrative to suit the UK’s strengths 18. It will be possible to both play to the UK’s strengths and, in doing so, meet not just the economic trials ahead, but also the major social challenges we face. A strong political lead and a clear strategic vision for the UK economy are required. We can here oVer some initial proposals.

135 Bloom, N. and van Reenan, J. (2006), “Measuring and explaining management practices across firms and countries”, Centre for Economic Performance discussion paper No.176, London: LSE 136 ibid. 137 NESTA (2007), Education for Innovation, London: NESTA 138 Simmie, J., Carpenter, J., Chadwick, A., Martin, R. (2008), History Matters: path dependence and innovation in British city- regions, London: NESTA 139 Brown, H. (2008), “UK Cities in the Global Economy”, London: Centre for Cities; Sir Rod Eddington (2006), “The Eddington Transport Study: the case for action”, London: Department for Transport, p. 32. 140 Sheinstock, G. and Ha¨ma¨la¨inen, T. (2001), Transformation of the Finnish Innovation System: a network approach, Helsinki: SITRA 141 OECD (1996), Economic Surveys: Finland, Paris: OECD 142 Ministry of Trade and Industry (1993), National Industrial Strategy for Finland, Helsinki: Ministry of Trade and Industry Publications 143 Sheinstock and Ha¨ma¨la¨inen, ibid., p.44 144 Multifactor productivity (MFP) figures given. Taken from Sheinstock and Ha¨ma¨la¨inen, ibid., p.38 Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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A strong central lead will be required to meet the challenges ahead 19. The new National Economic Council (NEC) oVers an opportunity to deliver that lead and that vision. NESTA welcomes the appointment of the Secretary of State for Innovation, Universities and Skills, the Secretary of State for Business and the Science Minister to the Council as giving appropriate recognition to the importance of innovation in diYcult economic times. 20. After the NEC has dealt with initial challenges, its remit should be broadened to encompass the delivery of a national vision for economic recovery and transformation. To win support for such a vision, membership of the NEC should be broadened to encompass those parts of civil society that will be critical to its delivery, beyond the business leaders and leading academics currently present. 21. At the same time, it should move rapidly to present a credible innovation narrative for the whole economy. This should consider addressing itself to some of the key long-term challenges the Government has previously identified: climate change, an ageing population, and increased competitive pressures arising from globalisation.145 The announcement by the Business Secretary of an “Action Programme for Business” is a step in the right direction and this should feed into a broader narrative.146

Bold, co-ordinated action will be needed 22. Major infrastructure and policy hold-ups to unlocking innovation should be identified. Already, the UK’s response to climate change—and the pressing need to meet binding EU targets—is hampered by blockages elsewhere in the system. Wind turbine producers are overwhelmed by demand, pushing up costs;147 major infrastructure projects are subject to planning delays;148 and key skills are in short supply.149 Fresh thinking from within and outside the UK150 will be needed to unblock these, including direct Government intervention at key stress points. The new Department for Energy and Climate Change can help provide a lead here. 23. The challenges of intense competitive pressures from rising economies like China, India and Brazil can be partially met by delivering the modern infrastructure needed to sustain and reinforce our networked economy. NESTA backs BERR’s moves to support high-speed broadband throughout the economy,151 and recommends that these proposals be brought forwards as part of a comprehensive response to an economic downturn. In addition, serious consideration should be given to sustainably improving the UK’s longitudinal transportation infrastructure, strengthening inter-regional linkages to boost productivity.152

NESTA is launching a research theme on the “networked recession” 24. The recession will be a test of the innovative capacity of the whole country. Whether the UK emerges from it stronger or weaker depends upon the action taken now to set a firm lead and establish a credible innovation narrative and the political will to deliver it. 25. NESTA is developing work around the theme of “innovation in the downturn”, drawing on our existing research and understanding of how economies respond to significant economic challenges. We expect to present this work in early December, and welcome contributions and points for discussion in the interim. October 2008

145 HM Treasury (2007), Long-term opportunities and challenges for the UK: analysis for the 2007 Comprehensive Spending Review, London: HM Treasury 146 Press Association (18 October 2008), “Mandelson targets industrial future” 147 Daily Telegraph (9 May 2008), “Rising costs threaten UK windfarm programme” 148 The Guardian (19 May 2008), “Wind farms stalled by five-year planning delays” 149 Henning von Barsewisch (21 May 2008). “The skills gap and what the industry is doing about it”, REPower UK, All-Energy Conference 150 Non-OECD countries account for a rising share of global R&D spend. For instance, China’s GERD was the third largest worldwide, behind only the US and Japan, and its R&D intensity has risen from 0.6% in 1995, to 1.43% of GDP today. See OECD (2008) “OECD Reviews of innovation policy: China.” Paris: OECD. 151 Financial Times (18 October 2008), “Digital economy to “reboot” Britain” 152 See, for example, the evidence presented by the Northern Way in Steer Davies Gleave (2007), Strategic Direction for Transport, Newcastle: The Northern Way, p.11 Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Memorandum submitted by QinetiQ

About QinetiQ QinetiQ is a leading international science and technology company with over 13,500 employees. QinetiQ delivers technology-based services and exploit QinetiQ’s strengths in technology research by selling systems solutions, products, managed services and licences to Government and commercial customers, and by creating technology-based ventures. QinetiQ’s ability to evolve, develop and leverage these technologies for diVerent customer bases underpins our position at the forefront of technological innovation not only in our core markets but also in numerous important areas such as space, energy, aviation, telecommunications and human sciences. Over the past 50 years QinetiQ and its predecessors have established an internationally recognised track record for innovation and adding value that has had substantial and consistent impact on the global economy. Government science and innovation policy and the role it accords to Research and Technology Organisations (of which QinetiQ is Britain’s largest) has an immense impact on the climate in which QinetiQ operates, so we welcome this opportunity to provide evidence to the Select Committee in the role of Government in promoting high value-added activity by UK business.

Executive Summary

The UK has a strong science base, despite relatively low levels of research and development funding (R&D), but historically has been less successful at translating the benefit of that knowledge into innovative commercial solutions that add value to the functions of business, government and the economy as a whole. A high value-added economy generates high value-added per person, it needs to be sustainable and adaptable; this requires a high degree of innovation in both products and processes. Such adaptability is largely achieved through labour/skills mobility leading to innovation spillover and re-use within the supply chain network. For example, aerospace can be considered a high-value added business as it sustains employment and infrastructure, maintains competitiveness in a global world, and transfers skills and technologies over into adjacent industries. The aerospace and defence sectors are characterised by long time lines for the value of R&D to be realised, often over 20 years. In all nations which display competitive advantage in these markets the national government is engaged in forward looking R&D and skills programmes. These long lead in times mean that advanced nations can sustain competitive advantage which makes it a good investment for governments, particularly because the spillover applications of the resulting innovations can add significant benefits to the wider economy. The areas of public procurement and early adoption of new technology in government are vital to the eVectiveness of government arrangement in encouraging innovation and creativity and unlocking more high value added activity within the UK economy. In turn this will help to stimulate the nation’s skill base for innovation. Procurement across Government needs to take relevant opportunities to develop innovative technology solutions rather than always to take oV the shelf solutions. This will mean needing to be less risk averse with their investment in leading edge technologies. All government departments should have to report what there are doing to foster innovation and be assessed against this. Comparison of UK businesses’ R&D with that within the EU indicates that UK is in the group of “average countries” behind the group of “leading countries”. Similar comparison with the US highlights the greater proportion of mission-driven R&D undertaken in the supplying base, thereby better positioning industry to drive the US economy. UK Government can promote higher value-added business activities and innovative thinking among UK businesses through the use of the Technology Strategy Board (TSB) Innovation Platforms that are formally linked to the procurement plans of the Government department. This will enable innovation and its benefits to be pulled through into the UK economy. The creation of TSB as a Non Departmental Public Body and the appointment of Ian Gray as chief executive are welcome developments. It is important for changing the mould of government procurement in the UK that this body is properly resourced and has the right culture to provide leadership in procuring for innovation. The Government has a role to play in drawing through innovation, and the benefits of innovation into the UK economy by supporting innovative approaches, to bridge the gap between proof of concept and commercialisation. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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The eVectiveness of machinery of Government arrangements in encouraging innovation and creativity

Public Procurement and Risk-taking in Government The areas of public procurement and risk-taking in Government are important to the eVectiveness of Government arrangement in encouraging innovation and creativity. Government spends between £125 billion and £150 billion annually on procuring goods and services, such procurement is widely recognised as potentially being a major driver of innovation. Figure 1 compares the scale of Government funding streams. The high level of money that flows through the public procurement route, demonstrates why procurement is so critical to fostering innovation UK.

Figure 1

THE IMPORTANCE OF PROCUREMENT IN THE UK

Science & R&D budget

Business support

TSB (current)

R&D Tax Credit

Private sector R&D investment

Public procurement

0 20 40 60 80 100 120 140 160

GBP in billions To date the UK has been falling short when it comes to pulling through innovative products and services into public procurement. The CBI/QinetiQ Innovation Survey of UK businesses and academia 2005 concluded that: “Current procurement practices not only fail to foster business innovation, but also fail to allow Government to maximise long-term value from its investments.” A survey carried out by the Engineering Employers Federation found that: “The conduct of public procurement was more likely to be seen as negative rather than positive for innovation. Companies saw public procurement in the UK as risk-averse, slow and bureaucratic.” In January 2007, the Government announced plans to transform public procurement across the UK. One of the areas for reform was the risk-averse nature of the UK Public Service, which has risk avoidance built into its ethos. It would be a positive step forward if the National Audit OYce (NAO) and Public Accounts Committee (PAC) built in to their reviews and examined targets and objectives given to departments for innovation and utilising procurement to draw through innovation. Previous procurement problems have made Government even more risk-averse. This leads UK Government to procuring existing technological solutions which it perceives are low risk and provide value for money, thereby acting as a late adopter of technology. As a result procurement contracts are placed increasingly frequently with overseas companies (or with UK companies buying overseas equipment) because they have been able to develop track record with overseas governments who have been more agile in their procurement. This leaves UK industry at a distinct disadvantage. Firms who win orders from a first adopter public sector customer are able to reduce the time to market for their products and improve their chances of success. By buying a new product or service, government demonstrates the benefit to potential users, achieves economies of scale, which lowers prices and facilitates more sales. The track record that companies gain of having supplied to government attracts additional opportunities that are much greater than the value of the original contract. In order to encourage innovation and creativity into public procurement, QinetiQ supports the Government’s proposals relating to strategic procurement in the Science & Innovation Investment Framework 2004. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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We would also argue for clearer procurement strategies to be developed for major government programmes and for these to be launched only once a stable policy framework has been matured. In order to foster innovation, we recommend that all government procurement programmes should have to consider where innovation would, if successful, bring benefits, and be able to show what they are doing to strengthen the appropriate UK supplier base. Departments should have to report what they are doing to foster innovation and be assessed against this. The PAC and NAO should embrace decisions that have taken a properly assessed risk to achieve innovative solutions, and be prepared to criticise departments and ministers for being too cautious.

What the Government can do to further promote higher value-added business activities and innovative thinking among UK businesses

Regulation as a driver for innovation The role of Government as a regulator is a powerful mechanism to drive innovation and thereby support UK industry. Within the EU, the UK Government often acquires a reputation of being one of the last to adopt legislation (eg the WEEE directive) but once adopted, the legislation is then implemented comprehensively. This approach of being late to adopt regulation means that UK industry is missing out on supplying innovative solutions to UK Government, as other governments have already commissioned solutions which the UK regards as tried and tested, and then subsequently procures as “oV the shelf”. An example relating to biometric passports is oVered in Annex A. A way forward to harness the innovation potential of regulation would be through early engagement by the TSB. Working closely with oYcials from relevant areas of government the TSB would assess the potential for technology innovation within upcoming EU regulation. The Board would decide to instigate early action through the TSB’s Technology Programme or Innovation Platforms on a small number of candidate regulation projects to build capability and draw through innovation by UK industry. Taking action with suYcient lead time prior to regulation enforcement, and in conjunction with the relevant lead government department, will pull through technology and improve the capability of UK industry.

Innovation Platforms Some of the biggest issues facing the UK today, including traYc congestion, climate change, energy security, water shortage, will require technical solutions. Getting innovative solutions to market more rapidly would support UK industry and lead to wider global opportunities. We are strongly supportive of the recent formation of the TSB as a non departmental public body and the programme of “Innovation Platforms” it is defining. Those announced so far provide vehicles of challenge- led research and development that addresses real problems. We recommend that this model should be progressively extended to become an integral component of major procurement programmes across Government, and be funded as part of these programmes while being led through the TSB. A clearly identifiable customer in the Public Sector, who had the authority to commission innovative solutions, pulling through from the science base into system prototype and mainstream procurement, would be the preferred public procurement route. These Innovation Platforms should be jointly sponsored by both TSB and by the relevant lead government department, and that the Innovation Platforms are formally linked to the procurement plans of that government department. This approach will establish a road map for pull through of innovative solutions into public procurement, supporting UK industry including developing new skills and providing better services for the public. The Government has announced its intention to be a leader in the field of climate change, pushing for greenhouse gas reduction targets and move to a low-carbon economy. This strategic focus on combating climate change is a huge opportunity for Government to encourage innovation in UK enterprises and establish global leadership in key technologies. The UK’s space industry is already a world leader in global environmental monitoring. If industry can draw on the UK’s world class research base then there is the potential for the UK to become a leader in other fields.

How UK business compares internationally in areas such as research and development, creativity and design?

Importance of Mission-Driven Research Mission-driven research is where the objective is to deliver needed and useful capability, which involves innovation. This is diVerent to research initiated by “principal investigators” which is aimed at advancing specific technologies or areas of science. Mission-driven research provides the opportunity for suppliers to identify new solutions to end-users’ problems, whilst maximising the economic leverage achieved from innovation taking place within the supplier base. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Supporting evidence for the importance of this mission-driven research can be seen from the diVerence in approach to government-funded research between UK and the USA. Figure 2 compares US and UK Government funded R&D that is committed to mission-driven as compared with principal investigator (PI) initiated research.

Figure 2

COMPARISON BETWEEN MISSION-DRIVEN AND PRINCIPAL INVESTIGATOR RESEARCH BETWEEN UK AND USA

Mission driven PI PI from MoD initiated initiated Mission 30% 50% NSF 24% driven OST ex from MRC DOD NIH 52% MRC DH

HEFC

Mission driven from civil Mission Departments driven from 24% civil Departments USA 20% UK

The diVerence in approach between the two countries is striking, with a greater proportion of US Government R&D funding addressing directly exploitable outcomes that are driven by legitimate procurement needs of Government. The higher percentage of mission driven research in the US means that more of the capabilities generated in undertaking the research are created in the supplying base, and are therefore more directly exploited in subsequent delivery of the solution. This explains the greater pull- through of research into the products and services that drive the US economy. The UK does not have an equivalent magnitude of mission-driven programmes and this has an important debilitating eVect on innovation in UK industry. An additional comparison can be made from OECD R&D data which indicates that spending on R&D as a proportion of GDP in the UK is low by comparison with other developed countries (see figure 3).

Figure 3

R&D SPENDING ON R&D AS A PROPORTION OF GDP

R&D as % of GDP % from industry % from Government EU-27 1.74 62 30 UK 1.78 42 33 France 2.13 53 38 Germany 2.46 67 26 USA 2.62 65 30 Japan 3.33 76 17 Finland 3.48 67 31

What is meant by a high value-added economy, and which business activities qualify as such?

A high value-added economy generates high value-added per man, it needs to be sustainable and adaptable; this will require a high degree of innovation in both products and processes. Such Adaptability is largely achieved through labour/skills mobility leading to innovation spillover and re-use within the supply chain network. For example, in the aerospace industry, technologies such as composites can migrate quickly into adjacent industries such as automotive and leisure-marine. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

Business, Enterprise and Regulatory Reform Committee: Evidence Ev 231

Figure 4

UK SUCCESS STORIES: AEROSPACE AND PHARMACEUTICALS

100

90

80

70

60

50

40

30

20

10

0 % of Global 1000 R&D in 7 largest sectors for 6 major countries USA Japan Germany UK France Switzerland Aerospace Automotive Chemicals

Electronics Pharmaceuticals IT Hardware Software

Aerospace is acknowledged to be one of the key sectors where the UK is truly a global player. The UK is the second largest supplier to the aerospace market, after the US, generating £15 billion a year. Aerospace can be considered a high-value added business as it sustains employment and infrastructure, maintains competitiveness in a global world, and transfers skills over into adjacent industries. Another such high-value added business in the UK is pharmaceuticals. Figure 4 shows the results of these two success stories. It is important to recognise that both the aerospace and pharmaceuticals sectors have long time lines for the value of R&D to be realised through the entry of new products to the market. To maintain the world-class position of the UK aerospace industry the Aerospace Innovation and Growth Team (AeIGT) recognising this world class position and the barriers to entry in the aerospace sector, the developed the National Aerospace Technology Strategy (NATS). The Strategy highlights the long lead times for aerospace products due to technological complexity, stringent certification and safety requirements. Research typically needs to start up to 20 years before entry into service. Fundamental research will usually take at least five years followed by technology acquisition and validation lasting up to 10 years with product development then taking a further two to six years before certification. While industry is working to reduce these lead times, the reality is that if any step in this process is not adequately supported, capability is typically lost forever. Figure 5 shows the aerospace technology life-cycle. Industries such as aerospace, defence and pharmaceuticals must be sustained in the UK to complement the growing number of service industries that are not tied geographically to UK. The Government’s strategy for Science and Innovation recognises the need to develop knowledge and skilled people through funding the science base, thereby retaining and attracting more R&D-intensive companies to the UK. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

Ev 232 Business, Enterprise and Regulatory Reform Committee: Evidence

Figure 5

AEROSPACE TECHNOLOGY LIFE-CYCLE

Technology taken Technology Project Product up by industry validated launch certification 5 + Years 3 - 10 Years 5 - 6 Years 25 + Years

Series production & product support

Pre- Contract production R negotiation Product & & Process Selection Design & D Process Development

Technology selected for application by Customer R Technology & Validation Pull through from the Technology T Technology readiness science base into industry Acquisition Fundamental Science base: Universities, industry & other research bodies Research

The study published in 2006 on “The EVect of Defence R&D on Military Equipment Quality” reinforces this long timeline issue prevalent in the defence industry. A model of the relationship between defence R&D and equipment capability was developed, and the military equipment quality of 10 nations was evaluated from 1971 to 2005. It was found that the R&D expenditure of a national government was positively correlated with equipment capability. The statistics suggest that investment made 20–25 years beforehand predominantly determines military equipment quality.

What can be learnt from the experiences of other countries in this area and how fast other countries are moving up the value chain?

The 2006 DTI Economics paper on UK Productivity and Competitiveness Indicators points out that the UK has a strong science base but has been less successful at exploiting its benefits compared with other countries. The ratio of total and business R&D expenditure to GDP over the last decade has been consistently lower in the UK than in US, France and Germany. This section discusses what the UK is able to learn from experiences of other countries in the creation of high-value added businesses.

EU perspective

The European Innovation Scoreboard (EIS) was developed to compare innovation performance of the European countries. It measures how well countries transform innovation assets into innovation results. EIS 2005 positions UK in the category of “Average Countries,” behind the group of the five “Leading Countries,” indicating that the UK has scope for improvement. The Fraunhofer Institute carried out a recent review of issues associated with innovation and public procurement in EU. This concluded that the procurement of innovation could be fostered in centralised systems or in more diVuse systems where good networks exist. The Institute found that the EU is a significant way behind the US and Asia, where pre-commercial public procurement of innovation is often used strategically to provide a robust home market for domestic companies facing strong international competition. Another European study looking at the pre-commercial procurement of innovation stresses the importance of developing technologically demanding customers and the wider benefits that can flow from being an early adopter of innovative products and services. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

Business, Enterprise and Regulatory Reform Committee: Evidence Ev 233

US perspective The US has led the major R&D-performing nations for the last 20 years in terms of absolute levels of R&D spending. Since 1904, US total R&D spending has steadily increased at a rate of approximately 6%. High value-added activities in the USA are funded through the Defense Advanced Projects Research Agency (DARPA). DARPA was set up in 1958 and aspires to technological superiority not just in military capability, but also in the technological and commercial position of the US. It develops innovative research programmes by focusing on capabilities military commanders might want in the future, looking for technologies that are radically better than alternative approaches. Some key aspects of the DARPA model are listed below: — Sets challenging goals and takes risks. — Identifies areas where US technological superiority is paramount and achieves this through preventing foreign access and aggressive funded programs. — Constructs programs to create complete value chains, from innovators through to manufacturers. Takes technology advances forward into procurement programs. — Forms strong links with all end users, to ensure it solves important problems. — Empowers and funds Technical Entrepreneurs to identify future technology winners. — Helps US companies grow through 100% funding of major technology advances that would not normally be funded by private finance. Figure 6 indicates DARPA’s role in Science and Technology as sitting along a notional timeline from “far” to “near”, which is indicative of the “time to go” for a science and technology investment to be incorporated into a US acquisition programme.

Figure 6

DARPA’S ROLE IN SCIENCE AND TECHNOLOGY IN US DARPA Role in Science and Technology

DOD funding for Manufacturing 10B - Technology eg ManTech and Title III Programs-matures and validates emerging manufacturing technologies to support low-risk implementation in Industry and DoD facilities egElectronics Processing Science and 5B - Technology & Fabrication Mantech$80m pa Programs for the Armed Services Fundamental Research, Leading Edge Discovery, System Concept Invention DARPA

Science & Technology $ (FY05) $ Technology & Science $3 Bn pa 0 - NEAR MID FAR

The DARPA model ensures that there are a large number of innovative industries in US, which have access to a customer keen to exploit innovation. The most striking success from adopting technology early is Arpanet, which evolved into today’s Internet. As a result of DARPA backing this idea 30 years ago, the US holds a dominant position in technologies and services that are changing the world. The UK does not have an organisation akin to DARPA, and this has an impact in the ecosystem for innovation. If the initial exploitation is carried out in US, the subsequent manufacture is also more likely to occur in US. Therefore this has an impact on UK intellectual property as the manufacturing capability is generated in US not in UK. Interestingly the US Government agencies are prepared to fund research outside the US providing it is demonstrably world-leading. This behaviour confirms their focus on solving problems rather than distribution of grants within the US. As part of their policies, they insist on industrialising their research into the US economy, hence a physical presence in the US is essential for any R&D intensive company that seeks growth from US Government customers. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

Ev 234 Business, Enterprise and Regulatory Reform Committee: Evidence

DiVerences in the organisation of defence R&D mean that synergies between defence and civil research in the US are far ahead of the situation in Europe and, whilst an artificial defence-civil divide continues to hamper Europe, there are further US eVorts to promote the synergies that emerge from dual technologies. Utilisation of aspects of the DARPA model such as those described above, could contribute towards the creation of high value-added businesses in the UK.

The extent to which UK business has absorbed new business practices such as lean manufacturing A distinction can be made between innovation in business processes, and innovation in business content. The UK has a reputation for not adopting innovation content well, and this is an area where improvement is needed, however, UK business is good at absorbing innovative business practices (eg PFIs). There is a recognized challenge being faced by the UK, with regards to successful technology transfer of innovative research adding value to the market place. An area which may deliver benefits here in the future is to encourage the public sector to act in a way that a private investor would in a market economy, Market Economy Investor Principle (MEIP). It is particularly applicable as a means of enabling industry to access the expertise from large research and technology businesses, encouraging innovation, improving competitiveness and stimulating economic development. Such innovative business practices bridge the gap between proof of concept and commercialisation. They enable access to technologies to support new product development to increase innovation and achieve eVective close collaboration in the supply chain. The Government has a role to play in drawing through innovation and ensuring the benefits of innovation are absorbed into the UK economy by: — Supporting innovative approaches. — Bridging the gap between proof of concept and commercialisation. — Enabling access to technologies to support new product development.

The impact on business of Government eVorts to promote research and development, including the research and development tax credit R&D tax credits have helped stimulate innovation but it is still too early to judge the overall impact across UK business as a whole. R&D tax credits are a key mechanism to encourage companies to conduct research to support the future development of their business. The tax credit also assists companies to continue investing in R&D in industries with a long lead time (eg pharmaceutical, aerospace and defence). Over the last five years, R&D tax relief has provided the tax savings. The savings have stimulated investment in technologies through internal development, spin-outs, acquisitions and collaborations. The relief has had a significant yet indirect influence on decision making. Such positive impacts will increase in the longer term as businesses incorporate them into the business strategies. Over the last five years, R&D tax relief has provided the tax savings to improve bottom line performance. The savings have stimulated investment in technologies through internal development, spin-outs, acquisitions and collaborations. The relief has had a significant yet indirect influence on decision making. Such positive impacts will increase in the longer term as businesses incorporate them into the business strategies. The system for administering R&D Tax Credits needs to be both simple and consistent to garner a suYcient level of certainty within businesses to encourage investment activity. This will only be gained over time. Overall, tax relief is not an incentive for the short term and it will take time for the opportunities from the relief to be fully recognised by businesses. The need to take a long term view is supported by the experiences of the Canadian tax regime. In addition, the HMRC report of December 2005, “Supporting Growth in innovation: next steps for the R&D tax credit” stated that the tax credits are having some impact in achieving their objectives but acknowledge that it is still early days. The Government target is set for 2014 recognising the long term eVects of the relief. As R&D is one of the many contributors towards innovation expenditure in firms, it is worth considering that currently the bulk of Government support for business innovation is currently targeted at R&D. This support is clearly vital, but there is an opportunity to extend tax credits into other areas, eg for innovation- focused capital investment, design and prototyping. A broader range of support for these other factors, could have a significant impact on encouraging a wider and more competitive innovation culture in UK businesses. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

Business, Enterprise and Regulatory Reform Committee: Evidence Ev 235

The progress that has been made on university/business co-operation and knowledge transfer since the publication of the Lambert Review in December 2003 The CBI/QinetiQ Innovation survey measured the eVectiveness of collaboration with external partners in 2005, see figure 7. At the time 63% of companies agreed that stronger links with academia would boost their competitive advantage. Further progress has been made on university/business co-operation and knowledge transfer since then. It is important to consider three areas here: — definition of an exploitation route for physical science research, — technology transfer, and — skills gaps.

Figure 7

EFFECTIVENESS OF COLLABORATION WITH EXTERNAL PARTNER

Effectiveness of collaboration with external partner Most frequent Future trend Least effective Most effective

85% Companies in the supply chain 1

77% Universities 4

75% Consultants 2

67% Companies not in the supply chain 3

40% Government research institutes 5

Least often -40- -20- 0 20 40 60 %

companies agree stronger links with academia would boost their competitive advantage 63%63%

Defining the exploitation route for physical science research University/business co-operation has improved, but defining the exploitation route in physical sciences is not straightforward, and bringing universities closer to business does not necessarily work. The simplistic model of how innovation occurs as a result of invention at universities is a rare occurrence, and how research in physical sciences impacts industry is not a linear process and is not generally well understood. For example, when lasers were invented fifty years ago, nobody at the time predicted their multitude of uses in surgery, communications, logistics and advanced manufacturing. In reality the process is considerably more complicated and often involves bringing together a range of expertise and technology. Figure 8 indicates schematically the diVerence in value-added between these two sectors and the important role which engineering plays in releasing the value-added in the physical sciences. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

Ev 236 Business, Enterprise and Regulatory Reform Committee: Evidence

Figure 8

VALUE CREATION: IMPORTANT DIFFERENCES BETWEEN SECTORS Value Added

Engineering Physical Sciences

Life Sciences

Invention Innovation Industrialisation Manufacture Marketing

Technology Transfer One aim of business-university collaboration is to transfer research generated in universities to businesses. University research is predominantly early stage and pushing this technology into the marketplace is diYcult and rarely works. Most value comes from bridging the gap between market need and new technology. This involves transfer of knowledge and requires a variety of skills, such as market understanding, creating a value chain, and gaining investment. Research and Technology Organisations (RTOs) like QinetiQ have a key role to play in business- university collaboration as an intermediary in the technology transfer process. These organisations operate in the mid-range of technology maturity and have the necessary skills to work with universities to develop an idea into a business proposition and with manufacturers to take to the product to market. The RTOs are able to eVectively network together SME’s, universities and industrial partners to create innovation chains around innovative products and services. The EPSRC-QinetiQ Chair in Exploitation in the Physical Sciences at Imperial College London has been established to address the comparative lack of systematic approaches for the commercial exploitation of ideas in engineering or the physical sciences when compared to the growing body of academic research on the commercialisation of innovation in bio-sciences, such as medicine and pharmaceuticals. A recent example of the success of this approach is for the production of Zephyr; a product that has been developed by QinetiQ from global technologies sourced from a variety of diVerent supply chain members. Zephyr is a High Altitude Long Endurance Unmanned Aerial Vehicle which is solar powered and has recently managed to fly for 56 hours, an unoYcial world record.

Skills Gap In 2006 The DTI summarised that for the UK to realise its potential, more investment is needed in people, in new ideas and in enterprise. They found that the UK has maintained the world-class performance of its research base in the face of increasing competition from abroad, facilitated by increases in the science budget in recent years. However levels of innovation still seem to be lower than those of our main competitors, and a better skills base will be required if we are to improve these levels. One respondent to the survey carried out by the Research and Development society survey on employers’ current and future skill needs stated: “I believe the ability to attract and keep good engineers and scientists is the most serious threat to our company”. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

Business, Enterprise and Regulatory Reform Committee: Evidence Ev 237

The skills needed in the future will not only be in the traditional subjects of maths, science, technology and engineering, but also in design, marketing, knowledge transfer, social sciences, entrepreneurship and the management of innovation. This will encourage an eVective ecosystem in which the public sector, private sector organisations and individuals all invest in innovation.

Whether business and Government interpret innovation too narrowly Innovation can be defined as the successful exploitation of new ideas. UK firms invest a significant proportion of their turnover in innovation and the trend is improving. Much of this investment, however, is not captured in oYcial statistics that focus on R&D as the main activity in innovation. R&D is just one component of innovation. Depending on the company, market-related innovation work, design, and innovation-related capital expenditure and training can also indicate innovative activity. The 2005 CBI/QinetiQ innovation survey found the average median investment of companies in innovation is 5% turnover. Companies report highest levels of success in their innovation work when investment is 10% or above. The Government needs to take a broad approach to measuring and reporting innovation and its impact. In particular a balanced approach is needed towards innovation support, continuing to focus on R&D initiatives such as the R&D tax credit, together with support other components of business innovation. October 2007

Annex A

PASSPORT INNOVATION In 2002 US Congress passed legalisation that required the 27 countries in the visa-waiver programme to start issuing high-technology passports by October 2004. Visitors entering the country without visas would be required to hold a passport with a biometric identifier held on an electronic chip. The deadline was then extended for a year to October 2005, with the European Union looking for a further extension till August 2006. Interoperability and security issues with the biometric readers were taking longer than expected to address and only six EU countries—Austria, Belgium, Finland, Germany, Luxembourg and Sweden--were in a position to meet the October 2005 deadline. Sweden began issuing biometric passports in 2005. Finnish smartcard company Setec won a five-year contract, worth around EUR100 million, to issue 5 million passports featuring a facial image of the passport holder stored in a microchip. Sweden is the second country to have taken the decision to issue biometric passports that comply with the requirements of the US-VISIT programme; the first country to do so was Denmark, which last year also selected Setec to supply it with biometric passports. The Norwegian National Police Directorate has also chosen the Finnish smart card company Setec to be the manufacturer of its new biometric passports. The value of the agreement is over EUR 30 million. As a result of this agreement Setec will establish a new subsidiary in Norway. This news item was reported in the Financial Times in 2005. The Governments of Sweden, Denmark and Norway alongside those of the other EU countries in an advanced state of preparedness to introduce biometric passports appear well tuned in to the potential that a lead in this new technology will endow on their industries in relation to the global market. The decision of these Governments to become first adopter customers and procure this innovative technology will give their industries a considerable lead over suppliers from other nations. It is worth noting that Sweden and Finland are anticipated to comfortably reach the 3% target for R&D as a percentage of their GDP.

Supplementary memorandum submitted by QinetiQ

The Context for the UK 1. Competition in the high value-added sector of the economy will only increase as the emerging economic powers, such as Brazil, Russia, India and China continue to rise. 2. The UK currently performs exceptionally well in the production of its knowledge base as evidenced by the number of journal citations. As a nation, however, the UK lags behind in the translation of that knowledge base into mainstream economic benefit and the enhancement of the UK jobs and skills base. 3. In order to redress this situation there needs to be a cultural shift in the UK not only to the acceptance and management of risk but also in the exchange of staV and skills between the private, governmental and academic sectors. Part of this will be the facilitation of interaction between businesses with a challenge and organisations that can conceptualise a solution and nurture the outcome to a suitable level of readiness. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

Ev 238 Business, Enterprise and Regulatory Reform Committee: Evidence

4. To stimulate innovation and the commercialisation of the UK’s knowledge base there needs to be recognition of, and support for, the role of intermediaries. The ability of such organisations to understand the market need, draw upon multiple disciplines to synthesize the best solution and support it through a viable business model and to engage routes to market, is hugely beneficial in getting good ideas out of the lab and into the market. 5. The UK’s infrastructure needs to look for and support technology platforms that can support a wide range of diVerent markets with the same underlying architecture, thus positioning the UK well to access global opportunities. 6. The approach of the client is also important. In the Ministry of Defence QinetiQ has benefited from the support of a large customer who understands that innovative application of technology is critical to its objectives and who directs its research funding strategically towards real outcomes. 7. This process of cultural change also needs to include raising the status of science and engineering as professions. In many of the UK’s competitor nations the status is much higher and in turn this encourages greater attention to them as potential careers for brilliant candidates. 8. If the UK as a whole is to benefit the number of a high calibre Stem graduates with good business and interpersonal skills needs to increase, it is vital therefore that the recent momentum behind the promotion of Stem subjects and careers continues to build. If the availability of UK based domestic talent decreases enhancing the competitive standing of the UK would become more challenging.

Supporting High Value-added Activity

9. Keeping high value-added activity in the UK will mean securing the key roles in future product and service innovation such as design, system integration, production of key sub-systems and components. 10. Stimulating the UK market to develop first will give UK companies a head start in taking value from UK generated intellectual property. This will need clients that are willing to accept and manage risk to pull through technologies or solutions from concept to product. Government can play a role by using its procurement budget to draw through additional benefits and create the right climate in the UK for excellence in innovation. UK based clients in the public and private sector need to demonstrate a desire to be an early adopter for new solutions. Government can support this through the provision of grants and credits. 11. In instances where we as the solution provider and the early adopter client has been in the UK our preference has been, skills permitting, to find a local manufacturer to prove that the workshop concept can be turned into a mass manufactured product. The reason for this is that the development of the first few products will require significant input, testing and calibration by the solution provider and client. 12. Once the manufacturer has developed a successful process for production they then have a significant advantage in taking forward any further developments in the technology and also to supply any new markets where those products are sold.

The Role of QinetiQ as an Intermediary

13. For a brilliant idea to become a successful solution it must have been forged by understanding both capability and market need. Too often there is a separation of innovation in the business model from the innovation in technological development. This can result in technologies without a useful application and business challenges without the technology to meet them. The focus has to be on innovating around market needs, for example by the direct engagement of end users, end-user facing businesses and technologists in the innovation process. 14. QinetiQ has an established pedigree as a world leading intermediary between real, challenging needs and technology that extends over decades. Our history of having to find, often life saving, solutions for an end user, has lead to many of the right instincts for innovation being built into our organisational culture. 15. Through years of partnering, collaborative projects and an open approach to innovation we have developed a rich network of contacts across, academia, SMEs, larger businesses and commerce that enables us to build teams capable of winning global competitions. 16. Our heritage has given us a huge breadth of deep expertise under one roof and our reorganisation of the business has promoted lateral combinations of technologies. Many of our key innovations arise from teams that bringing together experts from many disciplines. 23 October 2008 Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

Business, Enterprise and Regulatory Reform Committee: Evidence Ev 239

Memorandum submitted by Research Councils UK (RCUK)

1. Research Councils UK (RCUK) is a strategic partnership set up to champion the research supported by the seven UK Research Councils. RCUK was established in 2002 to enable the Councils to work together more eVectively to enhance the overall impact and eVectiveness of their research, training and innovation activities, contributing to the delivery of the Government’s objectives for science and innovation. Further details are available at www.rcuk.ac.uk

2. This evidence is submitted by RCUK on behalf of all seven Research Councils and represents their independent views. It does not include or necessarily reflect the views of the Science and Innovation Group in the newly formed Department for Innovation, Universities and Skills. The submission is made on behalf of the following Councils:

Arts and Humanities Research Council (AHRC)

Biotechnology and Biological Sciences Research Council (BBSRC)

Engineering and Physical Sciences Research Council (EPSRC)

Economic and Social Research Council (ESRC)

Medical Research Council (MRC)

Natural Environment Research Council (NERC)

Science and Technology Facilities Council (STFC)

3. The Research Councils (collectively as RCUK) would like to focus primarily on three areas of the inquiry where they wish to highlight issues that are relevant to future Research Council objectives. The following table contains key RCUK policy points drawn from the evidence provided, which the Research Councils particularly wish to emphasise. Detailed evidence against each of these points appears under the heading, “RCUK Progress and Policy Issues.”

Area of Inquiry Key RCUK Policy Issues The progress that has been made The recent report for the Research Base Funders’ on university/business co-operation Forum by the group chaired by Peter Saraga and knowledge transfer since the provides a very helpful commentary on the state of publication of the Lambert Review negotiations between business and universities. The in December 2003 Research Councils support the comments made, not least those regarding the unrealistic expectations held by many of the parties to these negotiations. Whether business or government RCUK supports the Technology Strategy Board’s interpret innovation too narrowly plans to take a broad view across all the sectors of the UK economy. It wishes to work with the Technology Strategy Board to understand how research might contribute towards innovation within its newer and emerging, more non-traditional sectors. The eVectiveness of machinery of RCUK strongly believes that the planned government arrangements in replacement for the Research Assessment Exercise encouraging innovation and (RAE), and/or the mechanism used by the Funding creativity Councils to allocate resources to universities, should in future reflect a broader range of considerations.

4. Additional information and commentary have been provided for points of the inquiry which centre on the promotion of research & development (R&D), higher value-added business activities, and innovative thinking. The evidence submitted against these points highlights progress that the Research Councils have made in these areas (see “RCUK Progress and Policy Issues”).

5. Finally, evidence has also been submitted against points of the inquiry chiefly relevant to the research supported by the ESRC. Much of the RCUK input under the heading “Relevant Research” therefore highlights research from ESRC investments in key areas. ESRC has also provided additional information in a separate Annex (Annex A).

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RCUK Progress and Policy Issues

The progress that has been made on university/business co-operation and knowledge transfer since the publication of the Lambert Review in December 2003 6. RCUK is placing an ever-increasing emphasis on knowledge transfer (KT), and has made considerable progress in the KT area since the publication of the Lambert Review and the 2006 examination of Research Councils’ KT activities by the House of Commons Science and Technology Committee154. Particular advances have been highlighted in the recent update155 to the Government Response to the House of Commons Science and Technology Select Committee Report, “Research Council EVectiveness in Knowledge Transfer156.” In January 2007, RCUK published “Increasing the Economic Impact of the Research Councils,” which outlined how the Research Councils planned to respond to the challenge of the Warry report157.In October 2007, RCUK published “Excellence with Impact158”, which reports Research Council progress against the “Warry” action plan. 7. In conjunction with Unico and Universities UK, RCUK published “Impacts: Successes from UK Research” in early 2007 featuring case studies of innovation arising from academic research159. The economic benefits of some of AHRC’s and NERC’s research outputs were quantified in a study by PricewaterhouseCoopers in 2006160,161. 8. The Research Councils have developed strong networks with the business and policy communities. They have formal links with key government departments through concordats, and they often involve policy-makers in programme-management committees. Councils have greatly increased their interaction with businesses by engaging with the Regional Development Agencies (RDAs), and some Research Councils are represented on business groups such as the CBI Inter-Company Academic Relations Group (ICARG). Businesses are able to provide significant input into the Councils’ decision- making through representation on Councils’ boards and committees, as well as through the peer review process. 9. The recent report for the Research Base Funders’ Forum by the group chaired by Peter Saraga, “Streamlining University/Business Collaborative Research Negotiations: An Independent Report to the ‘Funders’ Forum’ for the Department of Innovation, Universities and Skills162,” provides a very helpful commentary on the state of negotiations between business and universities. The Research Councils support the comments made, not least those regarding the unrealistic expectations held by many of the parties to these negotiations. RCUK endorses the conclusion that the organisations undertaking the research are usually best-placed to both exploit the research outputs arising from Research Council investments, and to manage the Intellectual Property (IP), although they need not always retain ownership of the IP. There are occasions where there may be mutual advantages for universities to explore other arrangements. As a result, RCUK is reviewing its guidance on Intellectual Property (IP) management. RCUK currently sees no need for a change in policy, and management of IP in Higher Education Institutions (HEIs) will continue to be the norm. RCUK believes that in the majority of cases, management of IP by the organisation undertaking the research is the most eVective route. 10. Not all research outputs can, or indeed should, be codified as IP. Much research is “public good”— particularly that associated with policy research—and its impact does not require contractual arrangements between researchers and users. Successful researchers are often actively engaged with users for framing, disseminating and then promoting the outputs of research. 11. Looking forward, Research Councils are working to develop their Delivery Plans—due to be published in December 2007. The Delivery Plans will include a specific outline on how each Research Council plans to maximise economic impact through the period covered by the Comprehensive Spending Review 2007 (CSR 2007). These plans are contingent on strong partnerships, collaborations and coincidence of purpose between users and researchers. An eVective interface between universities and business is therefore regarded as vital for RCUK.

Whether business and government interpret innovation too narrowly 12. The UK has a mixed and very diverse economy. The Research Councils are seeking to reflect the characteristics and requirements of the UK economy, not least strengths within the UK service sectors, creative industries and public sector. However, it is not obvious that established methods and approaches to support business innovation are appropriate or suited to these sectors.

154 http://www.publications.parliament.uk/pa/cm200506/cmselect/cmsctech/995/995i.pdf 155 http://www.parliament.uk/documents/upload/LEGmemosforwebsiteupload.pdf 156 http://www.publications.parliament.uk/pa/cm200506/cmselect/cmsctech/1653/1653.pdf 157 http://www.rcuk.ac.uk/cmsweb/downloads/rcuk/publications/ktactionplan.pdf 158 http://www.rcuk.ac.uk/cmsweb/downloads/rcuk/economicimpact/excellenceimpact.pdf 159 http://www.rcuk.ac.uk/cmsweb/downloads/rcuk/publications/impactsspread.pdf 160 http://www.ahrc.ac.uk/about/ke/evaluation/impact/impact case studies.asp 161 http://www.nerc.ac.uk/publications/corporate/economic-fullreport.asp 162 http://www.berr.gov.uk/files/file41123.pdf Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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13. RCUK supports the Technology Strategy Board’s plans to take a broad view across all the sectors of the UK economy. It wishes to work with the Technology Strategy Board to understand how research might contribute towards innovation within its more non-traditional sectors. 14. There is also a lack of recognition that the research base itself is a major user and procurer of innovative technologies and services. It is largely regarded as the supplier of new knowledge, rather than the consumer of knowledge, or indeed the driver of innovation. RCUK members are developing initiatives to use research infrastructure procurement as a stimulator of innovation. However, despite the scale of the global market this is not widely recognised as an opportunity for British business even though there are clear examples of companies achieving world-scale sales through innovation and high quality. Such innovations can then feed through into other markets, such as healthcare and security, for which the primary technology was not initially developed.

The eVectiveness of machinery of government arrangements in encouraging innovation and creativity

15. The higher education sector is an important component within the UK innovation system. Government has high expectations of the research base, to demonstrate greater social and economic benefits from public research investments, including those made by the Research Councils. For the system to operate eVectively there need to be suYcient incentives and rewards, both at the individual and organisational level, for KT and associated impacts to flourish. 16. The research funding of universities by the Funding Councils is primarily driven by the outcomes of the Research Assessment Exercise (RAE). At present this is heavily dominated by the quality of research outputs, and there are too few drivers in the system to influence a culture change towards delivering economic impact as an activity of comparable worth to producing high-quality research. RCUK strongly believes that the planned replacement for the RAE, and/or the mechanism used by the Funding Councils to allocate resources to universities, should in future reflect a broader range of considerations. This will be a primary driver for cultural change across the academic system, and should motivate university management to recognise and reward their research staV for the impact of their work, as well as research excellence. It should take account of applied policy- and practice-based research, and encourage researchers to be more pro-active and prominent in their interactions with society and business.

The impact on business of government eVorts to promote research and development, including the research and development tax credit

17. The Research Councils have an important role within the UK innovation system, supporting collaborative research, postgraduate training, commercialisation and interchange between research and the wider economy. 18. The Research Councils are working to promote an enterprise culture within the research base, which will then percolate into the wider economy.Councils (individually,collectively and in partnerships with other stakeholders, eg the Technology Strategy Board) seek to improve the scale and richness of interactions between the research base and business. 19. A number of Research Council schemes provide support for academics and researchers in Council institutes to develop an idea to a potential commercialisation stage, which may result in a spin-out company or the sale of a license to an existing company. 20. As stated on the Government’s BERR website163, Government eVorts to promote R&D include not only R&D Tax Credits, but also initiatives overseen by the Technology Strategy Board164 such as Knowledge Transfer Networks (KTNs)165 and Knowledge Transfer Partnerships (KTPs)166. The Research Councils play an important role in supporting and promoting both KTNs and KTPs, and in promoting innovation and collaboration through other means. Some of them also participate in projects under the Government’s Small Business Research Initiative167. 21. The Research Councils welcome the Government’s commitment to stimulate business involvement in energy R&D through support for the Energy Technologies Institute168, in which the Engineering and Physical Sciences Research Council is particularly involved. Other Councils are likely to be engaged as a result of links with the Research Councils’ Energy Programme and the UK Energy Research Centre.

163 http://www.berr.gov.uk/innovation/randd/index.html 164 http://www.berr.gov.uk/innovation/technologystrategyboard/index.html 165 http://www.ktnetworks.co.uk/epicentric portal/site/KTN/?mode%0 166 http://www.ktponline.org.uk/ 167 http://www.berr.gov.uk/innovation/sbri/index.html 168 http://www.energytechnologies.co.uk/ Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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22. ESRC Centre for the Macroeconomic Analysis of Public Policy (CPP) at the Institute for Fiscal Studies, IFS, features Rachel GriYth’s leading evaluative work on the design, implementation and cost- eVectiveness of the R&D tax credit. More information is available at: http://www.ifs.org.uk/publications.php?publication id%1230 http://www.ifs.org.uk/publications.php?publication id%1766 http://www.ifs.org.uk/publications.php?publication id%2090

What the government can do to further promote higher value-added business activities and innovative thinking among UK businesses 23. RCUK welcomes the new role and direction for the Technology Strategy Board as outlined in the recent report by Lord Sainsbury, “Race to the Top,”169 and the intention to cover all sectors of the UK economy.New forms of innovation are likely to require new multidisciplinary partnerships, reaching beyond core technology disciplines to involve, for example, social sciences, humanities, natural sciences and medical researchers. 24. The Technology Strategy Board mission is to stimulate innovation in those areas which oVer the greatest scope for boosting UK growth and productivity, thereby promoting the UK as a global leader in innovation and a magnet for technology-intensive companies. “Race to the Top” states that the Research Councils will increase their collaborative activity with the Technology Strategy Board, contributing at least £120 million over the period of the CSR2007. Through this investment in strategic, collaborative activity, RCUK aims to increase the economic impact of its research portfolio. RCUK believes that this can be achieved in part using successful and proven collaborative models. However, the ambition to move into new sectors and areas, and engage new business partners means that more flexible funding approaches will be required. Research Councils and the Technology Strategy Board have established a “Transition Group” to maintain momentum and build collaboration through this early formative period. 25. RCUK shares the Technology Strategy Board vision, that the emerging technologies of today should become the growth sectors of the future. By “emerging technologies” we mean those technologies that are based upon recent scientific breakthroughs, and are thus at an early stage of development and well upstream of current UK technology priorities. This represents a very natural and fertile area for partnership between RCUK and the Technology Strategy Board, and we will strongly support the development of a national strategy for emergent technologies.

Relevant Research Findings (Primarily ESRC)

How UK business compares internationally in areas such as research and development, creativity and design 26. ESRC/EPSRC Advanced Institute of Management Research (AIM): AIM Ghoshal Fellow, Bruce Tether, has worked on the role of design in business performance. A particular finding, based on the Community Innovation Surveys between 1998 and 2000 is that the majority of firms that had engaged in technological innovation activities did not report any expenditures on either design or R&D activities, whilst 20% only reported expenditures on intra-mural R&D, 13% only reported expenditures on design, and 9% had expenditures on design and R&D. Manufacturers were again more likely than service firms to report expenditures on design, R&D, or both. More information is available at: http://www.aimresearch.org/publications/bt creativityrpt.pdf. 27. ESRC Evolution of Business Knowledge170 Programme (EBK): Joe Tidd and Jennifer Whyte have led work on managing knowledge representation in design. A notable outcome was that companies have extensive datasets at their fingertips, but face problems understanding what they know. They have much to learn from designers, who routinely use pictures and drawings to visualise complex sets of information. More information is available at: http://www.ebkresearch.org/manknow.html. 28. Professor John Van Reenen: now Director of the ESRC Centre for Economic Performance but then working with Rachel GriYth and Rupert Harrison at the ESRC Centre at the Institute for Fiscal Studies, IFS, produced important work on the impact of R&D spillovers on UK firms. A specific result was that the increase in the US R&D stock in manufacturing between 1990 and 2000 was associated with, on average, a 5-percent-higher level of productivity (Total Factor Productivity) for the UK firms, with the majority of the benefits accruing to firms with an innovative presence in the US. This compares with an average 6- percent-higher level of productivity associated with the increase in their own R&D stocks over the same period. Increases in US R&D in the 1990s seem to have had major benefits for the UK economy, and, by implication, for many other countries in the world. However, these results can be reported only as associations, and not as causal relationships without further research, which is now in hand. Nonetheless, they are suggestive with interesting implications for policy. Governments are generally keen to promote higher levels of domestic R&D activity, and the member states of the European Union have agreed on a target to raise the level of R&D spending within the European Union to 3% of GDP. The results suggest

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that policies that seek to achieve this target by inducing European multinationals to relocate their existing R&D eVorts away from the US and toward Europe could be counterproductive, as they may reduce the ability of European firms to benefit from US-based R&D spillovers. The full scientific paper, from the world leading journal, is at: http://cep.lse.ac.uk/textonly/people/vanreenen/papers/are 96-5.pdf 29. ESRC Centre for Research on Innovation and Competition171 (CRIC): Jeremy Howells has undertaken work on the sourcing of R&D knowledge by firms for their innovation processes. A particular focus is how “knowledge intermediaries”help generate and source research and knowledge for companies. More details of this stream of research are available at: http://www.cric.ac.uk/cric/staV/Jeremy Howells/interests.htm

The extent to which UK business has absorbed new business practices, such as lean manufacturing 31. ESRC Centre for Organisation and Innovation (COI)172: Stephen Wood & Toby Wall have undertaken work on the eVects of management practices on company performance. “The Essentials of the New Workplace; A Guide to the Human Impact of Modern Working Practices” (Holman, et al.) brings together much of the Centre’s work with that of collaborators in the UK and abroad. It serves to summarise the current state of knowledge on important management practices (eg total quality management, lean production, knowledge management, advanced manufacturing technology, supply-chain partnering, employee involvement, virtual working, team working, call centres), and to identify key issues for research and practice. A persistent theme of the international comparative work is that the UK is rarely at the leading edge, even within Europe. More information can be found in: http://esrccoi.group.shef.ac.uk/pdf/2005.pdf (especially Section 5.1). 32. ESRC Centre for Economic Performance (CEP): John Van Reenen and Nick Bloom have published important work on measuring management practices and links to productivity. They use an innovative survey tool to collect management practice data from medium sized manufacturing firms in the US, France, Germany and the UK. Measures of good managerial practice are strongly associated with firm-level productivity, profitability, returns, sales growth and survival rates. Management practices also display significant cross-country diVerences with US firms on average better managed than European firms, and significant within-country diVerences with a long tail of extremely badly managed firms. They find that poor management practices are more prevalent when (a) product market competition is weak and/or when (b) family-owned firms pass management control down to the eldest sons (primogeniture). More information is available from: http://cep.lse.ac.uk/pubs/abstract.asp?index%2313 33. The ESRC Centre for Economic Performance has also demonstrated that a critical factor in the superior productivity performance of US businesses is the way they use information technologies. The evidence from firm level, micro-economic studies is that IT does have an economically and statistically significant impact on productivity but this varies dramatically between firms: having the right organisation helps greatly in making the most of IT. They suggest that these organisational diVerences also lie behind the diVerent productivity performance between the US and Europe—US firms are better placed to take advantage of ICT. More information is available at: http://www.lse.ac.uk/collections/EDSInnovationResearchProgramme/pdf/EDSdp002.pdf

Annex A

ADDITIONAL INFORMATION: RELEVANT FORTHCOMING ESRC RESEARCH

A. Succeeding in the Global Economy A higher value-added economy needs to be considered against the background of increasing globalisation of higher value added economic activities. In particular, the rising economic powers of India, China, Brazil and Russia provide both market opportunities and new competition as their businesses seek to move up the value chain. The importance of these countries in setting regulatory standards for international trade is likely to increase. The ESRC intends a major new research investment on this area, beginning in 2008.

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B. Education and Skills The higher value-added economy is more demanding of workforce skills. One reason why some sectors of the UK economy appear to be trapped in lower value added activity is that for the individual company it can be rational to minimise investment in skills, while the cumulative eVect for the economy as a whole can be very serious. A new phase of work at the ESRC’s Centre on Skills, Knowledge and Organisational Performance will address this dilemma in the context of recent policy and economic developments.

C. Innovation For the modern economy a wide definition of innovation that includes successful introduction of products, processes and ways of working is appropriate. The Economic and Social Research Council, in partnership with the Engineering and Physical Sciences Research Council has this year invested in eight new projects and seven new fellowships to address issues in keeping with this broad approach, including: how can the rate of innovation be increased to enhance economic growth and competitiveness, while the direction of innovation simultaneously steered to achieve social and environmental sustainability? What are the options for public policy at diVerent levels to increase innovation and steer towards such policy objectives? What economic, social and managerial factors enable an economy such as the UK to best capture high value from increasingly global innovation processes? How is it best to model and measure emergent innovation activities?

D. ESRC Collaboration with Technology Strategy Board The ESRC will be working with the Technology Strategy Board (and other Research Councils) on a number of important new collaborations relevant to the higher value-added economy. These include: financial services, the creative sectors, computer network security,healthcare and sustainable infrastructures in transport and housing. 22 November 2007

Memorandum submitted by Christopher Roebuck

Good talent and great leaders—the key to high value-add and innovation in UK business The creation of a high value add economy is critical to the UK continuing to be able to compete and expand our economy. This is particularly critical as the economic down turn bites across the world. The current environment will reduce market size and business margins such that only those organisations delivering the best service to customers will survive or profit. For world class organisations the downturn is an opportunity to beat their less eVective competitors who survived just because the markets were expanding. High value add is the key to both survival and positioning for the upturn. High value add and innovation are often viewed as an end in themselves. However, this is counter productive as it disconnects them from their real contribution—as key elements in delivering optimal customer service and organisational eVectiveness. Innovation is often viewed as a Research and Development activity in UK, whereas our competitors often view it as a day to day part of business for everyone, eg the Japanese concept of kaizen, or continuous development. For an organisation to innovate eVectively and be high value add there are two key components often overlooked in the equation, talent and leadership. To be the best you have to have the best people and the best leadership. Further the best leaders have to be in the right place at the right time. The majority of UK organisations have reached nowhere near the potential they have to innovate or deliver maximum value add because most of those who work for them do not have the direction or eVective leadership to do so. This applies equally to both manufacturing and services. To deliver high value add for customers, and thus increase profit and market share, you must deliver high value add for employees through eVective leadership and talent development. This creates a focussed and motivated workforce that is constantly looking for better ways to deliver service or product. The overall themes are set by good leadership from CEO and Directors with the day to day encouragement coming from good line manager/leaders. The statistics are clear, for example a good line manager can increase a talented employees: — potential to go further by 43%, — ability by 36%, — aspiration to go further by 8% — engagement by 42%. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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At the organisational level this is critical, over 80% of the shave value in most companies is now held to be in intangibles, not tangibles, and leadership, talent and innovation are within that 80%, as is brand value. This is also substantially influenced by the quality of leadership. It is therefore vital to have well developed and eVective leaders. The figures speak for themselves : — Top tier leadership development organisations outperform their peers in Total Shareholder Return (TSR) by 10% over a 3 year period. (CLC) — This means the average organisation (£2 billion market cap) increases market capitalisation by approx £200 million due to leadership and talent. — Low leadership quality organisations lose about 6% on TSR and about £110 on market capitalisation — Top quartile performing companies have a higher focus on developing leadership than bottom quartile (Hewitt) — Companies with stronger leadership development systems have higher ROE and Profit than competitors, up to 7% higher (DDI) — 85% of top 20 performing companies out of 273 hold their leaders accountable for developing talent (Hewitt) — Direct link between good succession planning and shareholder return (McKinsey) There must be a culture and system in the organisation to ensure people perform at their best—this is the only way to get real high value add and constant innovation all the time from all levels. Having just the top 3 levels in an organisation doing well will not deliver the results or make the organisation world class if no one else is. Very few UK organisations have such cultures and processes in place. There is a common misconception that these are complex and expensive to implement. This is factually wrong—most organisations already have suYcient internal resources to do this but just don’t know how to. Smaller organisations with limited size may not have the resources to do so but opportunities exist for Government to play a role in providing support through tax breaks or direct delivery for support and training focussed on creating high value add culture and systems together with leadership and talent development. For British business to dramatically increase value add is neither complicated nor expensive, it is simply about developing leaders that can use the people they have better. This can be done quickly, simply and eVectively at minimal cost. This is not only an issue within the commercial sector. Exactly the same benefits are needed in the public sector to deliver eVective, innovative and high value add public services. Again most of the human resources are in place but guidance is needed to help release the potential that exists. This is perhaps the most frustrating element of the failure of British organisations to take steps to be world class; that the potential exists, is simple to release but nothing is being done in s systematic way to make it happen. October 2008

Memorandum submitted by Rolls-Royce Rolls-Royce Supplementary Evidence Bootle Supply Chain: We undertook to provide the Select Committee with details of the numbers of suppliers that may be aVected by the Company’s decision to close the Bootle facility. The Energy Business in Liverpool spends approximately £58 million on external procurement in the UK. Of this amount around £6 million reflects expenditure with 37 suppliers local to the Liverpool region. The Defence Advanced Research Projects Agency (DARPA) manages and directs selected basic and applied research and development projects for DoD, and pursues research and technology where risk and payoV are both very high and where success may provide dramatic advances for traditional military roles and missions. We are involved indirectly on Blackswift, where RR is a subcontractor to Lockheed Martin. Via AFRL (Air Force Research Laboratories), DARPA is also funding the RR HiSTED contract. Both of these programs are for High Mach propulsion. DARPA sets out to mine fundamental discoveries—the Far side—and accelerate their development and lower their risks until they prove their promise and can be adopted by the US Armed Services. DARPA’s work is high-risk and high-payoV precisely because it bridges the gap between fundamental discoveries and their military use. See attached paper for background. ARPA-E (Advanced Research Projects Agency—Energy) creates brand new energy technologies and strategies to ensure that US global economic competitiveness is not compromised by their energy needs in the coming decades. Key features are: — Takes its inspiration from DARPA (Defence Advanced Research Projects Agency). — Independent of the US Department of Energy. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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— ARPA-E would be authorised to award cash prizes to encourage and accelerate achievements. — Full funding for five years recognising importance and urgency 2008–12—total $4.9 billion. — Not more than 50% in any year shall be for late-stage demonstrations and commercial application of technologies and research. Hydrogen Fuel Initiative by the Department of Energy: £1.2 billion programme announced by President Bush in 2003 to reverse US growing dependence on foreign oil—currently imports 55%, expected to grow to 68% by 2025. — Government key role from 2004–09 to achieve technology readiness needed to allow industry to commercialise by 2015. — To develop commercially viable H2 powered fuel cells and infrastructure technologies by 2020 to power cars, trucks, homes and businesses that produce no pollution and no greenhouse gases. — Renewable and nuclear-based hydrogen production technologies, and coal with CCS—could make carbon emissions-free future possible. — Federal support to accelerate development to overcome technical and cost barriers. — Programme activities include research, H2 production / delivery and storage, safety, standards, validation and systems integration.

Defense Advanced Research Projects Agency (DARPA) The Defense Advanced Research Projects Agency (DARPA) is the central research and development organization for the US Department of Defense (DoD). It manages and directs selected basic and applied research and development projects for DoD, and pursues research and technology where risk and payoV are both very high and where success may provide dramatic advances for traditional military roles and missions. DARPA’s original mission, inspired by the Soviet Union beating the United States into space with Sputnik, was to prevent technological surprise. Today,DARPA’s mission is to prevent technological surprise for the US and to create technological surprise for its adversaries. Stealth is one example of how DARPA created technological surprise.1 DARPA’s strategy for accomplishing its mission is embodied in strategic thrusts (nine at present) which evolve over time as threats and opportunities change. DARPA’s main tactic for executing its strategy is constantly to search worldwide for revolutionary high-payoV ideas and then sponsor projects that bridge the gap between fundamental discoveries and the provision of new military capabilities.1 DARPA’s mission implies one imperative for the Agency: radical innovation for national security. DARPA’s modus operandi is to bring in expert, entrepreneurial program managers, empower them, protect them from red tape, and quickly make decisions about starting, continuing, or stopping research projects. To maintain an entrepreneurial atmosphere and the flow of new ideas, DARPA hires these managers for only four to six years. Since they are not at DARPA for a career, they are more prepared to pursue high-risk technical ideas even if there is a reasonable chance the idea will fail. Another element of DARPA’s strategy is to cultivate entrepreneurial performers in university and industry by funding ideas that represent revolutionary technical achievements.1 DARPA looks beyond today’s known needs and requirements. DARPA’s approach is to imagine what capabilities a future military commander might need and accelerate those capabilities into being through technology demonstrations.1 DARPA’s mission, shown in Figure 3, is to find the people and ideas on the “Far side”, and accelerate those ideas to the “Near side” as quickly as possible. DARPA thus sets out to mine fundamental discoveries—the Far side—and accelerate their development and lower their risks until they prove their promise and can be adopted by the US Armed Services. DARPA’s work is high-risk and high-payoV precisely because it bridges the gap between fundamental discoveries and their military use.1 Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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10B -

Science and 5B - Technology Programs for the Armed Services Fundamental Research, Leading Edge Discovery, System Concept Invention DARPA Science & Technology $ (FY07) $ Technology & Science 0 - NEAR MID FAR

DARPA’s budget estimate for FY2008 is for $3.085 billion, broken down as follows: Basic research: 5% ($153m) Applied research: 45% ($1403m) Advanced technology development: 48% ($1477m) Management support: 2% ($53m) Although RRC or LW currently do not have any contracts directly with DARPA, we are involved in DARPA activity. The DARPA Tactical Technology OYce (TTO) is the main focus group for RR. One of their current programs is Blackswift, where RR is a subcontractor to Lockheed Martin. Via AFRL (Air Force Research Laboratories), DARPA is also funding the RR HiSTED contract. Both of these programs are for High Mach propulsion. DARPA’s Quiet Supersonic Project helped launch the Gulfstream Low Boom SSBJ technology program where RR is a partner with Gulfstream. DARPA TTO was also the lead organization within DoD to secure funding for the AFRL ADVENT program. RR/LW is currently in discussions with DARPA on a Hybrid Turbine Engine demonstrator, low cost missile engine technology and DEW (Directed Energy Weapon) technology demonstration. DARPA TTO funded Northrop Grumman for the Global Hawk development and flight testing where RR was subcontracted to develop/install the AE3007 engine. DARPA also conducted an AVordable Short TakeoV, Vertical Landing (ASTOVL) program that eventually transitioned and became the Joint Strike Fighter (JSF) program.

Reference 1 DARPA Strategic Plan (Feb 2007) February 2008

Memorandum submitted by the Royal Aeronautical Society (RAeS)

Summary — As one of the two or three world benchmarked manufacturing sectors in the UK, Aerospace is central to the future of British manufacturing. It is also one of the UK’s major contributors to, and users of the national science and technology base. — Aerospace is increasingly an exemplar of a manufacturing-services hybrid. Aerospace companies are exploiting their manufacturing capability and intellectual property to develop high value services. — Innovation in aerospace is not “linear” but the product of an interaction between industry and academia throughout the development cycle of its products. The process is also vertical through aerospace supply chains and horizontal across related sectors. Government policy should reflect Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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this more complex model of innovation with support for both “upstream” investment in the relevant science base and “downstream” to prove the integration of technology through investment in technology demonstration. — Systems Integration is a key organizing concept in understanding the nature of innovation in aerospace. This will include the incorporation of external activities of firms as they integrate components, skill and knowledge from other firms, including suppliers, users and partners, in order to deliver ever more complex products, services and systems. Moreover, as the distinction between manufacturing and services becomes less obvious, systems integration is emerging as the highest value capability in any production system, from designing the architecture to delivering the mix of goods and services, often in a close, long term relationship with the customer or end user. — Aerospace is frequently a key “first user” of technology, providing an initial market and an environment driving down costs and proving fundamental concepts. The importance of aerospace as a first user is evident in a number of case studies, for example the quality of Ciba Geigy’s carbon fibre product was driven by aerospace. — Maintaining critical technologies on shore is the nub of the ownership issue. In practice this means striking a balance between domestic and foreign ownership. Investment in UK based technology is perhaps the single most important dimension to achieving balance. The history of multinational operations shows that R&D investment or activity varies markedly in its value to the host economy. The critical question is where the integration of technology occurs to create new high value products. The least valuable is simply R&D in order to adapt foreign technology for local markets. — As new entrants such as China and India increase their skills and expertise, they will become serious competitors to UK suppliers to international programmes. The UK cannot therefore rely upon the high barriers to entry to protect its domestic aerospace industry when these are exposed to a sustained and highly committed attack by well-funded, highly motivated state-led investment strategies.

Introduction 1. The Royal Aeronautical Society (RAeS) is the Learned Society for the Aerospace and Aviation community. Based in London, it has a world-wide membership of over 19,000, with over 16,000 in the UK. Its Fellows and Members represent all levels of the aeronautical community both active and retired. Through its various Boards and Committees, it can draw upon considerable experience and expertise in aviation matters. In addition, the Society has over 160 organisations who are members of its Corporate Partner scheme.

UK Aerospace as a High Value Industry 2. As one of the two or three world benchmarked manufacturing sectors in the UK, Aerospace is central to the future of British manufacturing. It is also one of the UK’s major contributors to, and users of the national science and technology base. This factor alone makes Aerospace a vital element in the UK economy, generating high value products and high quality employment. This was thoroughly explored in the Aerospace Innovation and Growth Team report of 2003 and was reflected in subsequent increased commitments by HMG to aerospace research. HMG is also deeply involved in funding the industry through the defence equipment budget and through repayable launch investment for civil aircraft and engines. 3. Aerospace is increasingly an exemplar of a manufacturing-services hybrid. Aerospace companies are exploiting their manufacturing capability and intellectual property to develop high value services. This can be seen in the evolution of leasing and service-based agreements in the supply of aero-engines to airlines and life cycle support procurement for the MoD and other defence customers. Aerospace has also been a major stimulator of and customer for high-value services in areas such as IT and research consultancy. 4. One of the best measures of high value is research intensity and the cumulative stock of knowledge. The stock of knowledge includes intellectual property held by firms; the imbedded knowledge and experience of individuals across a wide spectrum of specialised sectors, including marketing and customer relations; and the ability to integrate this knowledge to design, develop, manufacture, market and support complex products. Combined with the existence of costly specialised research facilities, this represents a major barrier to entry for potential competitors. 5. This is a major source of productivity for firm, industry and nation—the “standing on past shoulders phenomenon”. At 30.82, Aerospace has the highest R&D stock to output ratio of any UK industrial sector (Computing is second at 20.37, Electronics 13.79 and Pharmaceuticals 8.94) Aerospace is also the market leader in patent filings, another indicator of openness and innovation eYciency.173

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Innovation and the Aerospace Industry 6. Much of the recent UK economic debate has focused on the importance of innovation and its contribution to productivity growth and competitiveness.174 However, the process of innovation has been itself subject of considerable debate amongst economists both in and outside of government. The modern consensus suggests that there are in fact several models of innovation, and that policy should reflect this more complex reality. 7. In particular, the process of innovation in the engineering-based sectors is especially complicated and if it seeks to encourage the process, government must select the most appropriate means amongst a range of tools, a point made in reports from the House of Commons Science and Technology Committee in 1994.175 In particular, the simplistic assumptions of linear models of innovation do not fit the requirements of aerospace and comparable industries. The liner model implies a direct relationship between basic science, invention, innovation and marketable products—“science-push”. According to this view, the most appropriate role for government is to invest in the science base and innovation will flow through to the economy. 8. In aerospace, the process is more cyclical and involves more modest gains than implied by the “big breakthrough” of science-push models. In reality, progress is made primarily through incremental improvements in a cyclical manner. The driving force is speed in the manufacturing cycle. This requires a collaborative network where timing and teamwork are key elements in successful exploitation. It also implies a continuous cycle of overlapping research, development and production (and marketing?) with each phase informing and feeding back to the other. In short, as Rosenberg puts it, “a large portion of the total growth in productivity takes the form of a slow and often almost invisible accretion of individually small improvements in innovation…a frequent preoccupation with what is technologically spectacular rather than economically significant”.176 9. In the case of military aerospace, innovation is also driven by requirements to meet perceived threats. This creates a need for industry and government to draw up technology trajectories (or road maps) for the key technologies that are essential to maintain what the MoD calls “appropriate sovereignty” matching threat development, an assessment of technological maturity and capability against time and thus risk. This is a necessary condition for an eVective management of the MoD’s R&D budget and for industry to invest its own money in technology acquisition. Successful innovation depends upon a constant, transparent and highly active dialogue between government and industry. 10. This view of innovation reflects an Interactive Model of innovation, focusing on the importance of market demand for new products where “demand-pull” is at least as important as technology push in generating economic returns. One review of the field suggests that between “60% and 80% of important innovations in a large number of fields have been in response to market demands and needs”. In this approach to innovation, the “innovation community” extends beyond the science base, integrating it with industry and other players. Distinctions between “far from”, “near to” and “in the market” are false. Basic concepts will certainly generate the potential for new products, but market-related problems can also throw up questions of fundamental scientific interest. Above all the importance of “innovation networks” within companies and research institutions, and the “trans-institutional” elements company-to-company, and companies to research institutions, often internationally, cannot be overstated. In this respect Aerospace has particularly strong innovation linkages both with research institutions and through its supply chains which also have strong inter-sectoral links. 11. The SET base remains an important starting point for innovation, but the process also involves a series of feedback relationships continually cueing links between the commercial exploiter and the sources of innovation. The process is further complicated by the interactions between industrial sectors. This is evident in several case studies of technology transfers where concepts and developments have been exchanged and re-exchanged in a cyclical relationship. It follows that government policy directed at stimulating technological change generally will need to be based on “the clearest possible understanding of … inter-industry relationships”.177 12. Public policy should, therefore, take account of diVerent innovation processes, especially as innovation links are becoming “steadily more complex, and the nature of that complexity varies from sector to sector … (reinforcing) our belief that an understanding of the innovation networks used by each sector will be vital if Government policy is to be eVective”.178 Martin & Scott confirm this judgment, “the strong evidence of underinvestment in technological advance justifies public action to support private innovation, and the variations across sectors in the sources of innovation underinvestment indicate that the mechanisms to deliver that support should also vary across sectors”.179

174 This section is derived from a paper submitted as part of the work of the Aerospace Innovation and Growth Team Finance Group. 175 House of Commons Science and Technology Committee, The Routes Through which the Science Base is Translated into Innovative and Competitive Technology, HC74, Session 1993–94, Para 46. 176 Nathan Rosenberg, Inside the Black Box: Technology and Economics, Cambridge University Press, 1982, p. 62 177 Rosenberg, op. cit. p. 76 178 HC 74, para. 61. 179 S Martin & J T Scott, “The nature of innovation market failure and the design of public support for private innovation”, Research Policy, Vol. 29, April 2000pp. 437–47. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

Ev 250 Business, Enterprise and Regulatory Reform Committee: Evidence

13. Chemicals, pharmaceuticals, electronics and computing are close to the science base and have least diYculty in linking directly with research. Engineering disciplines find single discipline research results diYcult to use directly.180 These sectors had to integrate several technologies, often over a long period of iterative development. Indeed, the “D” of R&D was invariably the greater part of activity. “R” in the pharmaceuticals industry is about 30% of the total, for aerospace it is between 10-15%. While bringing a drug to market (including field trials etc.) did take a long time, developing an aerospace product requires even longer period of time where technical and financial risks were commensurately very high. In this context, risk reduction through technology demonstration was especially important and an integral part of the innovation process for sectors such as aerospace.

Systems Integration 14. The aerospace industry comprises a number of interrelated sectors, including structural engineering, propulsion, electrical and mechanical engineering, electronics, computing etc. In turn, these elements draw upon a wide range of technologies and basic scientific principles, mainly but not exclusively from the physical and engineering disciplines. It follows that most of its products, certainly the core “platforms” and “sub systems” of civil and military aircraft are individually of “great systemic complexity”. Even given advances in design and development techniques, bring an aerospace product to market entails a long and uncertain iterative process, where continual support from the science and technology base to solve continuing problems, often in themselves setting challenging fundamental questions, is vital. 15. This principle has underpinned much of Rolls-Royce’s technology strategy over the last 30 years. A key element in the process has been the formation of a number of University Technology Centres (UTCs) whose mission has been to support research fields associated with the creation and maintenance of Rolls’ distinctive competencies. Some eight technologies support Rolls’ competence, including thermodynamics, aerodynamics, heat transfer, combustion, structures, materials’ manufacturing processes, instrumentation and controls. As a result, Rolls still retains a total design capability even over hived oV components manufacturing. In short, maintaining core competencies at the top level of aerospace requires multi- technological capabilities. This also entails an ability to identify and to respond to disruptive technologies at systems and at a subsystems level. 16. Systems Integration is, therefore a key organizing concept in understanding the nature of innovation in aerospace. This will include the incorporation of external activities of firms as they integrate components, skill and knowledge from other firms, including suppliers, users and partners, in order to deliver ever more complex products, services and systems.181 Moreover, as the distinction between manufacturing and services becomes less obvious, systems integration is emerging as the highest value capability in any production system, from designing the architecture to delivering the mix of goods and services, often in a close, long term relationship with the customer or end user. In this respect, several aerospace companies, notably Rolls- Royce and Thales, have moved in this direction. In Rolls’ case, this is undertaking to deliver “Power-by- the-hour” to its airline customers.182 Other examples are increasingly found in the defence sector such as the Paradigm programme to deliver a satellite-based communications system to the UK armed services.

Aerospace as a first user 17. The importance of technology users in the innovation process should not be overlooked.183 Lead users not only have a greater general incentive to innovate because they expect higher gains fro investment, but they also experience needs in advance of a bulk market reducing risks and demonstrating applicability to other potential users. Lead users become “opinion leaders, fueling the innovation process”. As a result, early users may be “an important part of the diVusion process”.184 18. In some respects Aerospace historically has derived considerable benefit from a wide range of fundamental innovations in materials, electronics and computing.185 In this sense, aerospace is the focus for as much, if not more “spin-in” than “spin-oV”. However, this does not undermine the importance of aerospace in the innovation process but oVers a potentially vital complementary dynamic. Often as a first use of innovation in other sectors, aerospace has stimulated significant gains in price and reliability for general applicability as well as generating high intrinsic value from complex systems integration. 19. Aerospace is frequently a key “first user” of technology, providing an initial market and an environment driving down costs and proving fundamental concepts. The importance of aerospace as a first user is evident in a number of case studies, for example the quality of Ciba Geigy’s carbon fibre product was

180 HC 74, para.89 & HC 195, para.11. 181 See, A Prencipe, A Davies & M Hobday, (eds.) The Business of Systems Integration, Oxford 2003, p.1. 182 DTI Economics Paper No.7, Competing in the Global Economy, DTI 2003, pp.59–60. See also Andrew Davies, “Integrated Solutions” in A Prencipe, A Davies & M Hobday, Chap.16. 183 A Hughes, Knowledge Transfer, Entrepreneurship and Economic Growth, op. cit. p.18 184 P D Morrison, “The nature of lead users and measurement of leading edge status”, Research Policy, 33, 2004, pp251–2. 185 Rosenberg, op. cit. pp.164. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

Business, Enterprise and Regulatory Reform Committee: Evidence Ev 251

driven by aerospace. The development of high quality and powerful synthetic adhesives was also driven by aerospace. The wider application of simulation technology by Thomson (now Thales) came on the back of an aerospace programme, halving development costs.

Innovation Networks and Supply Chain Interactions 20. A key aspect of the externalities process is the role of supply chains and inter-sectoral linkages. Firms can derive some benefit from being located in a sector populated by innovative firms. The leading companies issue signals regarding quality and standards thus encouraging suppliers, explicitly or implicitly to raise their game. Working in multiple supply chains also encourages interactions and dissemination. This has the eVect of increasing export competitiveness. Nor is this always a “downhill” process; large firms can benefit from association with smaller, innovative companies. There is a form of “learning spillover” between R&D- intensive plants and their innovative suppliers. 21. The linkage is especially strong and beneficial if the smaller company has a formal R&D department or a defined commitment to R&D in some form, and where restrictions due to security classification, military standards and other defence regulations are minimized. Small firms in particular “may generally derive their knowledge inputs not from their own R&D but from knowledge spillovers from other firms and from universities within the country or industrial sector”.186 This may be accentuated through geographical proximity, or clustering. 22. Undoubtedly, Governments can compensate to a degree for corporate under-investment in R&D by funding basic research, but this does not automatically result in increased growth. The result is a pool of knowledge available for exploitation by commercial actors often utilizing a combination of technologies and basic concepts. Moreover, corporate actors must still be prepared to invest in more market-related research to make best use of the science base. 23. Since the Second World War, governments have sought to capture the economic and other social benefits of S&T. There have been waves of policy initiatives and fashions, some doing more harm than good. The UK has probably been the most prone to policy tinkering as governments change and economic ideologies come and go. While it is better that the UK government adopts a positive view of intervention in the innovation process, it must also accept that a single or dominant approach to the problem inevitably runs a risk of partial coverage and the danger of lost opportunities. Individual policy instruments applied in isolation are “unlikely to have a dramatic impact on overall system performance”.187 Investment in the science base is vital, but these measures must be complemented by other policies such as supporting technology demonstration involving academic and industrial partners.

The Impact of Nationality of Ownership on the Location of Research and Development Work 24. Comprehensive data on the extent of foreign participation in the UK defence industrial base are hard to find, but about a fifth of U.K defence turnover is generated by foreign owned companies (mostly in aerospace and electronics).188 Moreover, the quality and long term significance of much of this investment is noteworthy. Airbus UK is now wholly owned by EADS, Finmeccanica Westland Helicopters and GE Smiths Aerospace. Foreign companies have key roles in the supply of much of the UK’s Network Enabled Capability (NEC): General Dynamics and Bowman, EADs and Skynet 5-Paradigm, Raytheon and Astor, Thales and Watchkeeper are the most well known. In many if not all of these examples, the subsidiary is UK registered, with a high proportion of UK senior executives and they have so far accepted the government’s concern to transfer technology and retain high value manufacturing and jobs in the UK. But the local generation of technology means little unless it is incorporated into higher value products that can be sold independently in world markets. 25. UK policy reflects a long tradition of relative openness towards inward investment. Without the influx of foreign investment, a large part UK manufacturing would have ceased to exist. It should also be said that a large proportion of UK business R&D is the result of foreign investment and we have certainly benefited from accessing and absorbing the lessons of Japanese manufacturing techniques. But this may not be wise in qualitative terms because in many respects ownership does matter when the issue is strategic control and when the commercial going gets tough. 26. In the case of aerospace and defence the oYcial position on ownership stems from the Defence Industrial Policy paper of October 2002 and the subsequent Defence Industrial Strategy of December 2005. The government’s position reflects the increasingly globalization of defence supply and industry and Britain’s singular position at the centre of a web of internationalized defence companies, joint ventures and international collaboration. It also asserts the long term superiority of US technology and the importance of maintaining access to the American market and capabilities. Crucially, it refers to the “blurring” of the definition of what comprises the UK defence industry with foreign companies not only bringing technology

186 S Roper, et al, “An ex ante evaluation framework for the regional benefits of publicly supported R&D projects”, Research Policy, 33 (2004), p.494. 187 Ken Guy & Claire Nauwelaers, Benchmarking STI Policies in Europe: in Search of Good Practice, IPTS Report, EU Joint Research Centre, Issue 71, 2003. 188 Derived from the SBAC annual survey. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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and employment, but also having domiciled boards and directors. In short the government is less concerned about the ownership per se of UK defence companies, but the onshore location of intellectual property and key employment. 27. This is in contrast with France and Germany where the foreign ownership of major French and German defence industrial assets is not an issue; to date there have been few cases in either country. Both countries are considering measures to ensure tighter control over foreign investment in national defence companies. In France, foreign companies cannot acquire a large French defence company and government permission is required in the case of a smaller firm with a defence component. The U.S. also tends to take a more robust view of foreign ownership, but at least allows selected entry even to a high level of security importance. However, mergers and acquisitions are subject to scrutiny and in the possibility of a Presidential veto under the 1988 Exon-Florio Amendment. In practice, this has been delegated to the Committee on Foreign Investment in the U.S. (CFIUS). This is further underpinned are backed in practice by stringent controls over foreign citizen access to operations in their foreign subsidiaries and the repatriation of technology developed in the U.S. 28. Maintaining critical technologies on shore is the nub of the issue. In practice this means striking a balance between domestic and foreign ownership. Investment in UK based technology is perhaps the single most important dimension to achieving balance. The history of multinational operations shows that R&D investment or activity varies markedly in its value to the host economy. The critical question is where the integration of technology occurs to create new high value products. The least valuable is simply R&D in order to adapt foreign technology for local markets. We have to be assured that overseas contractors are doing more than this to fulfil UK defence requirements. 29. There has to be an incentive for companies to invest in the UK (whether inward investment by foreign- owned companies in the UK, or UK owned companies with the option of investing abroad) to ensure that intellectual property remains on shore. In respect of the latter, it should be noted that Rolls-Royce has increased its overseas investment in R&D from 10% to 50% in a decade. Even UK owned companies will focus their investment in countries where the conditions are most favourable. These include the scale and scope of government investment in science and technology, support for technology demonstration, infrastructure investment and export promotion (for both civil and military aerospace). This underlines the fact that as the global nature of contemporary aerospace applies as much to government as it does to companies. 30. The UK must also retain high level systems integration capability. If systems design can be separated from technology development and hardware production there may be greater room for UK located companies to compete on quality and price. Even so, this leaves the UK aerospace and defence industrial base exposed to more external competition than most of its equivalents in the U.S and Europe. If the systems architects have hardware interests, the power of vertical integration could overwhelm the domestic supplier. 31. The UK government must increase its commitment to the domestic technology base and improve generally the investment climate. This will ensure that overseas companies will want to invest here and import their most interesting technologies. More important, it will retain the attractiveness of British companies as partners and as suppliers to a global market. The Defence Industrial Strategy and Defence Technology Strategy,as well as investment in civil aerospace research and programmes are positive steps. But more still needs to be done to underpin the UK defence research base, particularly in the area of technology demonstration.

The Challenge of New Entrants 32. The UK aerospace industry is a leading player in a global industry. As such UK companies are in direct competition with other established aerospace companies in the US, Canada, Western Europe, Australia and Japan. All are beneficiaries of state support, either directly or indirectly. In the case of Australia and Canada, this has included targeted industrial strategies to raise the standing of their respective national industries. 33. China, India and a revitalised Russia are also challenging the established aerospace nations. Although these countries are not yet in top rank of aerospace players, the strength of their challenge is growing. In the case of India and China, they are leveraging market access in return for investment and collaboration. Their main competitive advantage lies in their relatively cheap labour costs (although this has less relevance in aerospace than other manufacturing sectors). However, this is increasingly supplemented by higher value inputs, including software engineering. As skills and expertise grow, they will become serious competitors to UK suppliers to international programmes. The UK cannot therefore rely upon the high barriers to entry to protect its domestic aerospace industry when these are exposed to a sustained and highly committed attack by well-funded, highly motivated state-led investment strategies. 24 October 2007 Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Memorandum submitted by Scottish Enterprise

1.0 Introduction Scottish Enterprise (SE) is funded by the Scottish Government to provide enterprise, investment and innovation support to an area covering 93% of the population, reaching from Grampian to the Borders. Working in partnership with Scottish business and the public sector, we aim to support the sustainable growth of the Scottish economy, contributing to the delivery of the objectives of the recently launched Scottish Government Economic Strategy. In recent years we have been changing our organisation and practices to make sure we deliver the greatest possible economic impact for Scotland. We have been identifying the opportunities and working to overcome the barriers to growth in Scotland’s priority industries. More recently we have been adapting our economic development approach and working increasingly with Scotland’s research base to respond to the specific challenges and opportunities available to Scotland in the global economy. Following the Scottish Government review of the SE network which was announced in September 2007, we have been given a very clear focus to help support business growth and to build a better business environment. We aim to implement our new organisational structure from 1 April 2008 in order to deliver this as eYciently and eVectively as possible. Details of the Scottish Governments’ economic strategy is available at http://www.scotland.gov.uk/ Publications/2007/11/12115041/0 Details of the Scottish Government’s review is available at http://www.scotland.gov.uk/Publications/ 2007/11/12115041/0

2.0 Question Areas The strategic context and background to the work of SE over the last period is defined in two documents— Smart Successful Scotland and the recently published Scottish Government’s Economic Strategy189.Itisnot intended that this response should re-articulate these documents but in providing this submission highlight elements that we see as being distinctive.

2.1 How UK business compares internationally in areas such as research and development, creativity and design The value of business enterprise research and development (BERD) undertaken in Scotland in 2005 was £584 million, 4.4% of the UK total and 0.59% of Scottish GDP. Expenditure increased from £494 million in the previous year (a 16% increase in real terms). This is the highest level of Scottish BERD in cash terms since 1999, however in real terms it is just below the levels seen in 2001 and 2002. R&D expenditure in Scotland has increased by 29% in real terms in the six year period between 1999 and 2005, compared to a real terms increase of 3% in the UK. Almost two thirds of Scottish BERD supported just three product groups: “pharmaceuticals” (40%); “precision instruments” (17%) and “radio, TV and communications equipment” (9%). Business R&D provided employment for 7,400 people in 2005.

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Ev 254 Business, Enterprise and Regulatory Reform Committee: Evidence

£ million Business R&D Expenditure 1999-2005 650

600 Cash terms

550

Cash terms 500

450

400

350 1999 2000 2001 2002 2003 2004 2005

In 2005 BERD expenditure was equivalent to 0.59% of GDP in Scotland compared to 1.08% of GDP in the UK. BERD expenditure as a percentage of GDP is lower in Scotland than in most important competitor countries. In 2005 EU expenditure as a percentage of GDP was almost twice as high as that in Scotland (1.12%). The leading countries in terms of business R&D have expenditure levels more than four times higher than Scotland (eg 2.92% of GDP in Sweden).

Business R&D expenditure by UK region2006

Wales North East Yorkshire Northern Ireland Scotland Eastern London West Midlands

East Midlands

South West South East

North West

Within the UK, the bulk of business R&D expenditure takes place within the East of England (25%) and South East (24%) regions. In terms of expenditure as a percentage of GDP, Scotland ranked 7th out of the 12 UK regions in 2005. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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The level of business expenditure on R&D (BERD) has been an area of focus for the Scottish Government and SE. This has led to a great deal of activity to address current levels both at the firm and at the innovation system.190 To assist this activity,a pipeline of support, covering diVerent aspects of research and development has been developed as illustrated below.

Pipeline of Innovation Support (All)

Production

Co Pre- Production Invest Productisation R&D SCIS Plus Prototype Ent Industry Development Fellow Development SPUR ITIs Experimental Development Industry SMART POC Research Applied Research Strategic & Specific Academic Funding Councils Basic Research research Pure & Orientated SHEFC

Time to Market (scales according to sector)

Notable interventions in this area have been: — R&D Plus: The UKs first scheme to encourage larger business to carry out R&D.191 — ITI Scotland. A unique approach to creating market focused R&D in three specific areas—Energy, Life Science and Tech Media.192 — The Proof of Concept Programme which aims to improve the level and quality of commercialisation in Scotland in order to ensure the longer-term development of a strong, knowledge-based economy. Overall £79 million has been committed to the Programme over 12 years. So far the Programme has supported 184 projects and committed funding of £30 million.193

2.2 The extent to which UK business has absorbed new business practices such as lean manufacturing

SE has supported this type of activity for a number of years. Our current “business improvement” activities include the Scottish Manufacturing Advisory Service, Lean Management, Environmental Management Initiative and ICT/e-business support. The focus of ICT is its role in business eYciency, productivity and innovation (particularly within the service sector). A recent survey has suggested that although the take-up of broadband has been extensive, more sophisticated use of ICT technology (eg business process integration) is limited to particular sectors eg Financial Services. There also remains room for improvement in others eg Food and Drink and Tourism (Scottish E-Business Survey 2007 will be published in January 2008).

Environmental Management activity has seen a growth in demand in recent years, driven mainly by increased energy and waste management costs. In essence businesses now see this as a business eYciency/ cost saving agenda rather than an environmental argument, hence the increased uptake. The Scottish Manufacturing Advisory Service and Lean Management have similarly been driven by global competition in this sector from Eastern Europe and Asia. SE has provided these services for two years and whilst take up has been positive, activity needs to continue to ensure competitiveness of UK businesses.

190 The Scottish Innovation System: Actors, Roles and Actions Scottish Government 23/1/06 191 http://www.scottish-enterprise.com/publications/r d plus.pdf 192 http://www.itiscotland.com/ 193 http://www.scottish-enterprise.com/proofofconcept Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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2.3 The progress that has been made on university/business co-operation and knowledge transfer since the publication of the Lambert Review in December 2003 The Scottish Government has developed a significant range of support for knowledge transfer provides funding for several programmes designed to increase university/business co-operation: — The Scottish Funding Council’s Knowledge Transfer Grant (increased to £19 million in 2007–08) which is allocated by formula to higher education institutions to support knowledge transfer activities including commercialisation of research.194 — The SEEKIT programme is designed to support projects that will promote co-operation in R&D and knowledge transfer between small to medium sized enterprises (SMEs) and the Scottish public sector science base. Projects are supported within public bodies, such as Universities, Research Institutes, Technology Transfer Organisations, NHS Trusts etc. The scheme supports a wide range of knowledge transfer/outreach activities.195 — The SCORE programme is a grant designed to support R&D projects jointly undertaken between public sector research bodies (such as Higher Education Institutes (HEIs), Research Institutes, NHS Trusts) and Scottish SMEs. Under this scheme, an SME or group of SMEs with a specific technical problem or need can assign a significant part of the required scientific and technological research to a public sector research body196. — We have supported the development of a single point of access, “Interface” which is helping businesses, particularly SMEs, to gain easier access to Scotland’s science base to help improve technology transfer197.

2.4 Whether business and government interpret innovation too narrowly The new Government Economic Strategy recognizes that the linear model, Science and Technology- dominated approach is too narrow and specifically mentions the need to look at the service sector and non- technological innovation. The Community Innovation Survey results show that Scottish businesses are relatively strong in UK terms in the areas of radical (Schumpeterian) product and process innovation but weak in areas such as corporate strategy and marketing innovation which may stem from too narrow an interpretation.

2.5 What the government can do to further promote higher value-added business activities and innovative thinking among UK businesses SE has taken a more focused approach to working with the business community by targeting its eVorts at businesses with the potential for growth (measured by sales growth) and across priority industries. To support this process, we operate an “Account Management” approach of working directly with these potential “higher value-added” businesses, allocating a dedicated account manager and oVering a range of potential supports. Interventions are focussed on growth related activities including strategy development, innovation and business eYciency and internationalisation activities. We also take an industry view of working with higher value-added businesses. Whereas the account management approach provides the 1:1 activity with companies, taking an industry approach allows support and promotion of activities across industries, including specialist advice, infrastructure or financial supports. This is delivered through dedicated industry teams working in partnership with industry groups and businesses.

3.0 Conclusion198 Scotland’s economic performance continued to improve in 2006–07. GDP and business outputs are growing. The level of employment is in the top quartile of the OECD, with most forecasts indicating that these trends can be sustained. Scotland also continues to enjoy a competitive position in creativity, and has significant natural resources to support wealth creation as well as many internationally competitive industries. However, we continue to have opportunities to improve our wealth creation in the areas of business research and development, entrepreneurial activity and in building companies of scale. It will be through resolving these issues that we can close the productivity gap between Scotland and the top quartile of the OECD. These are the areas where Scottish Enterprise’s strategy is specifically directed.

194 http://www.sfc.ac.uk/index.htm 195 http://www.scotland.gov.uk/Topics/Business-Industry/support/16879/14115 196 http://www.scotland.gov.uk/Topics/Business-Industry/support/16879/14127 197 http://www.interface-online.org.uk/view item.aspx?item id%3&closed1%true 198 http://www.scottish-enterprise.com/publications/intro pack.pdf Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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SE’s annual report for 2005–06, signalled the start of important changes to the way in which we deliver higher levels of value to our customers and the Scottish economy. These largely centred on the tailoring of our services in response to the demands of our key industries and in developing projects of scale. Details of our activities and the economic impact they made are set out in the Annual Report 2006–07199. A few areas that are worthy of special mention are: — The development of the Edinburgh BioQuarter, which is expected to generate £250 million of investment and create 6,500 new jobs, took a major step forward with the appointment of Alexandria Real Estate Equities, the largest dedicated life science property specialist in North America, as the development partner for the commercial research campus. — The creation of this campus, integrating the Royal Infirmary of Edinburgh, the Queen’s Medical Research Institute and the Scottish Centre for Regenerative Medicine with 1.4 million square feet of commercial life sciences space, will be unique in Europe, and is hugely exciting. — Our support for growing companies was recognised in a report by research organisation, Library House, which named SE, with 17 investments, as the top investor in European venture capital backed companies in the first part of 2007. — Our R&D Plus programme generated an additional £80.7 million of business research and development that would not otherwise happen in Scotland with an investment of £13.7 million in 21 projects. — Our decision to increase investment in our overseas sales force is also paying oV with strong overall levels of foreign direct investment into Scotland during 2006–07. Scottish Development International secured 59 inward investment projects worth more than £313 million and creating or safeguarding up to 7,500 jobs. Nearly 1,800 of these were high-value jobs, with over a third more R&D investments coming to Scotland than the UK and European averages. According to the European Investment Monitor, Scotland won more R&D projects than at any time over the past six years during 2006, equalling the number won by London and the South East for the first time. 18 December 2007

Memorandum submitted by the Society of British Aerospace Companies (SBAC)

Summary — The aerospace industry is a highly attractive and growing industrial sector. The UK has the largest aerospace industry outside of the US and is potentially well placed to exploit further growth in the global marketplace. — The aerospace industry, alongside pharmaceuticals, provides important balance to the UK economy and sustains high value careers in design, research, engineering and manufacturing. — The UK aerospace industry is globally competitive, exporting 63% by value of all aerospace sales. The sector supports a positive balance of trade worth in excess of £2 billion and invests more than £2.5 billion each year in research and development. — The UK aerospace industry is entering a critical period in its development. Increasing globalisation, intense cost pressures and the diYculties of selling in a US dollar denominated market are making aerospace research, development and production more internationally mobile. — The defining business opportunities for UK aerospace will be future single aisle programmes and the delivery of the fixed and rotary wing sector strategies, as part of Defence Industrial Strategy. It is essential industry and Government work to maximise the opportunities for UK based businesses on these important programmes. — The UK aerospace industry has the opportunity to secure competitive advantage and to help deliver improved environmental performance across the global aviation industry, by the faster development of new, lower emission technologies. — The UK aerospace industry is a major contributor to the success of other key industries. It supports major developments in information technology,computer software, advanced electronics and systems integration. Aerospace investment in research and development creates significant economy wide social returns well above rates achieved in other sectors. — Future competitiveness and global success in meeting these challenges will be heavily dependent on high levels of investment in research and new technology. The globalisation of the aerospace industry and the technologically advanced supply chains that support them, now mean companies have a wide choice of possible locations for their investments.

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— In an increasingly competitive global market place it is essential for UK based companies to increase productivity at a faster rate than competitors. The aerospace and defence industry has embraced lean manufacturing techniques and delivered significant productivity improvements. SBAC, through its SC21 initiative, is encouraging greater collaboration at all levels of the supply chain to maximise productivity gains and foster greater innovation. — The UK aerospace industry sustains a high proportion of innovative small and medium sized enterprises. These companies play a major part in the development of new technology and bring a spirit of enterprise and achievement to the sector. — In technologically advanced sectors a highly skilled workforce is essential. The UK aerospace and defence industry has identified skills gaps at management, professional, craft and operator/ assembler levels. SBAC supports the development of the National Skills Academy for Manufacturing and would like to see greater eVorts directed to simplifying the currently fragmented funding for skills and training.

Role of aerospace in the UK 1. SBAC is the UK’s national trade association representing companies supplying civil air transport, aerospace defence, homeland security and space. SBAC encompasses the British Airports Group and UKSpace. Together with its regional partners, SBAC represents over 2,600 companies, assisting them in developing new business globally, facilitating innovation and competitiveness and providing regulatory services in technical standards and accreditation. 2. SBAC welcomes the House of Commons Trade & Industry Committee’s inquiry examining the role of Government in promoting high value-added activity by UK business. The UK aerospace industry is globally competitive and has a strong reliance on new technology, advanced manufacturing techniques and a highly skilled workforce. 3. Aerospace is a highly attractive and growing industrial sector. Globally the top 100 companies generated sales in excess of $480 billion in 2006 with growth currently running at approximately 5% per annum. The UK has the largest aerospace and defence industry outside of the US and is potentially well placed to exploit further growth in the global marketplace. 4. The UK is home to a large number of globally successful aerospace and defence companies. Their presence and continued investment in the UK helps to sustain and develop a highly competitive and technologically advanced supply chain. 5. The aerospace industry, alongside pharmaceuticals, provides important balance to the UK economy and sustains high value careers in design, research and engineering. It directly employs 124,000 people; in 2006 it had a turnover of £20 billion and secured more than £26 billion of new orders. 6. UK aerospace manufacturing is globally competitive and exports 63% of its total sales. UK companies also have a significant presence overseas, employing 48,000 people and generating sales of £8 billion. 7. Aerospace manufacturing provides high value and highly skilled jobs. The latest data shows that 34% of all employees in the sector hold a university degree or equivalent and this is forecast to increase to 40% by 2010. The industry also has a growing demand for technicians with NVQ level 3 and 4, equivalent to two or more A levels. 8. Average salaries in the sector are £33,645, 43% higher than the UK average and 31% above the manufacturing average. In many parts of the country, particularly the south west, east midlands, north west and north east, this means aerospace is one of the highest value uses of labour and makes a significant contribution to regional economies. 9. Major aerospace companies and their supply chains provide many of the high technology jobs in regional economies. Investment by Rolls-Royce has made Derby the area with the highest proportion of high technology jobs in the country. The industry is committed to improved training and skills development and employs 2,600 apprentices. 10. Research, development and new technology are incredibly important for long-term competitiveness in the aerospace industry. The sector is one of the most R&D intensive sectors in the UK economy and invests £2.5 billion per annum.

Future single aisle programmes 11. The UK aerospace industry is well placed to compete for a wide range of civil and defence opportunities, both new build and technology insertion. The most important of these will be future single aisle programmes and the delivery of the fixed and rotary wing sector strategies, as part of Defence Industrial Strategy (DIS). Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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12. Single aisle aircraft represent close to 70% of all new civil aircraft sales. They are the aircraft of choice for low cost airlines in Europe, USA and the fast developing markets in Russia, China and India. Within the next decade Airbus and Boeing are likely to develop replacements for their successful A320 and B737 family of aircraft. 13. These aircraft will define the global aviation industry’s environmental performance in the first half of the 21st century. Positioning UK industry for these programmes and enabling cutting-edge technology to be developed and matured in time for inclusion on these programmes is of paramount importance. 14. In addition there will significant opportunities for UK companies on future regional aircraft, business jets and new aircraft programmes in existing and emerging markets. 15. Collectively these will oVer a diversity of opportunities for UK industry in developing wings, engines, avionic and electrical systems, landing gear and structures. The scale of the commercial risk and opportunity provided by these programmes far outweigh all other opportunities for civil aerospace. 16. Single aisle programmes will define the next generation of civil aerospace technology and capability. They will need to meet increasingly demanding environmental targets, as well as the sophisticated safety, security and in-flight systems demanded by the travelling public. The single aisle programmes will fundamentally change the nature of aircraft manufacturing requiring a wide range of new technologies and production processes. 17. A failure to win a substantial share of new business on these programmes would seriously undermine the long-term sustainability of the UK industry. It needs to equip itself to meet the technology and production challenges of these programmes and all Government support for the industry should reflect this priority.

Defence aerospace 18. In the defence sector DIS has set out the key capabilities and programmes the Ministry of Defence (MOD) will be taking forward in the next decade. This focuses on the development of unmanned aerial systems (UAS), the upgrade and through life capability management of existing platforms and future helicopters. The development of DIS has highlighted the increasing critical role of technology in securing military advantage. 19. The emphasis is increasingly on rapid delivery of capability to the front line and the upgrading of existing assets. This is being achieved through the addition of improved C4ISTAR and complex weapons capabilities, which have their own specific DIS sector strategies. 20. Meeting the aspirations of MOD for the fixed wing, helicopter, C4ISTAR and complex weapons sector strategies will require significant investment in research, technology and demonstration projects. MOD is currently preparing DIS v2.0. Industry is closely engaged in this process and seeking to ensure that the key gaps, technological and strategic, identified in the original strategy are addressed. DIS v2.0 should create opportunities for bringing together civil and defence technology for dual use applications in areas such as unmanned aerial systems.

A high value-added economy 21. SBAC is confident that the aerospace industry provides a wide-range of high value-added employment. Its reliance on a skilled workforce, record of investment in research and new technology and success in highly competitive global markets marks it as one of the strongest sectors in the UK economy. 22. Aerospace is a long-run business that oVers greater manufacturing predictability than many other sectors. Investment in research, development and manufacturing capabilities leads to a high value run for a new aircraft lasting 20 years or more, with a further substantial period of support and technology insertion activity. 23. A high value-added economy suggests a range of well paid, interesting and long-lasting careers. These would need to be sustained by a significant competitive advantage based on skills, research, new technology and innovation. High-value added implies that the location of the work is less influenced by low costs and more reliant on quality and access to particular skills and know-how.

Importance of research and development (R&D) to a high-value added economy 24. The Government has recognised the importance of R&D investment to the broader economy and has the aim of increasing it to 2.5% of UK GDP. In March 2005 the Treasury and Department for Trade and Industry published Economics Paper No.11—R&D Intensive Businesses in the UK. This set out how the required growth in business R&D could be achieved: — Maintaining or growing R&D where the UK is strong; — Attracting investment into the UK from multinationals in an already highly internationalised system; Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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— Increasing R&D intensity in firms or sectors that are lagging behind their peers; — Developing new R&D intensive sectors through the creation and growth of R&D intensive small and medium sized enterprises (SMEs). 25. Economics Paper 11 identified aerospace, defence and pharmaceuticals as sectors where the UK is strong. It also confirmed that Government funding for R&D had declined significantly during the 1980s, which was largely related to cuts in defence spending. The recent Sainsbury Review of science and innovation highlighted the importance of aerospace and defence in sustaining high value research and development activities and the need to provide additional support for globally competitive sectors. 26. The benefits to the economy from increased investment in research and development are large. In 2006 Oxford Economic Forecasting (OEF) estimated that a one time investment of £100 million in aerospace R&D would raise UK GDP by £70 million per annum. This work estimated that these economy wide-social returns or spillovers were higher for aerospace than other manufacturing sectors. (a full copy of the OEF study has been submitted to the Committee) 27. In the 2003 Government, industry and academia jointly collaborated on the development of the Aerospace Innovation and Growth Team (AeIGT) report. This was undertaken in the wake of 9/11 and the SARS epidemic and sought to establish a 20 year vision for the continued competitiveness of the UK aerospace industry. 28. The AeIGT report identified skills, productivity, environmental issues and technology as the key factors determining future competitiveness. It also recommended a significant increase in Government funding for collaborative aerospace research and technology. 29. The National Aerospace Technology Strategy, jointly funded by industry, Government and regional development agencies, provides a coherent framework for achieving competitive advantage in environmental, safety, security and defence technologies. This collaborative programme helps pull through investment made by Government in the science base. 30. Government funding for aerospace collaborative research declined steadily until 2003. The introduction of the Technology Programme, under the control of the Technology Strategy Board, has seen public investment increase from around £20 million in 2003 to £43 million in 2006. 31. The aerospace industry helps to support and encourage a world-class science base through its work and relationships with UK universities. These relationships are essential in maintaining valuable research facilities and ensuring academic studies maintain relevance for UK industry. 32. There are relatively few studies on the level of public support for aerospace R&D provided in other countries. In August 2005 TECOP International Inc, published a study of government support for civil aeronautics research. This was undertaken for NASA and looked at all countries within the European Union. The study shows that in 2002 UK Government support for civil aeronautics R&D was significantly below that oVered in France, Italy, Spain, Germany and the Netherlands. 33. International competition for high value aerospace investment has intensified. In addition to the traditional aerospace economies there are a growing number of emerging markets that wish to develop their own national aerospace capabilities. This means that successful international companies are faced with a wider range of investment locations and frameworks of support. 34. SBAC recognises the eVorts made by UK Government to raise the level of funding available for collaborative research and the support it and regional development agencies have provided to the National Aerospace Technology Strategy. It is anticipated that the establishment of an arms length Technology Strategy Board with an increased budget and leadership role will help raise overall level of business R&D investment. 35. The UK aerospace industry is entering a critical period in its development. Increasing globalisation and intense cost pressures are making aerospace research, development and production more internationally mobile. If the UK is to remain and prosper as a location for all these activities and the intellectual property associated with them, it is essential that Government ensures the framework of support it provides is globally competitive. A failure to do so will result in an increasing proportion of high-value R&D being undertaken outside the UK.

Increasing productivity 36. The aerospace industry has made significant eVorts to improve its productivity. SBAC data shows that there has been sustained improvement in productivity, with average annual increases of more than 5%. There are a large number of world-class companies that have embraced and implemented lean manufacturing techniques. 37. In a highly competitive global marketplace the need to deliver continuous improvement is well understood. In 2006 SBAC launched its Supply Chains for the 21st Century (SC21) initiative. This aims to increase the rate of productivity improvement at all levels of the aerospace supply chain by encouraging companies to work more collaboratively and by focusing resources. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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38. SC21 is a change programme designed to accelerate the competitiveness of the aerospace & defence industry by raising the performance of its supply chains. International competition, together with the challenges posed by the defence industrial strategy, necessitates rapid improvement in the eVectiveness of our supply chains. At the same time, industry must ensure that it delivers competitive solutions for customers whilst maintaining profitable business growth. 39. Signatories to SC21 are committed to developing supply chains to ensure they remain competitive and able to deliver increased value to customers. Companies from all levels of the supply chain are active participants in SC21. 40. SC21 is about collaboration at all levels of the supply chain. The initiative is currently focusing on three key issues: — Reducing duplication and waste by minimising the number of customer audits undertaken across the supply chain. — Developing a common and co-ordinated approach to supplier development, that identifies lead companies and common metrics. — Strengthening relationships at all levels of the supply chain to build greater trust and collaboration. 41. SC21 now has some 244 individual companies committed to working collaboratively to improve productivity and enhance innovation. It has gained the support of the Ministry of Defence and is working closely with Airbus to inform its Power 8 programme.

Promoting skills and training

42. The UK aerospace industry sustains a full range of high value and highly skilled jobs encompassing design, research, technology development, engineering and manufacturing. It is a crucial contributor to the “knowledge economy”. 43. The UK aerospace industry is committed to sustained improvement in skills. It is a major contributor to the National Skills Academy for Manufacturing (NSAM) and works in partnership with universities, further education colleges and schools throughout the country. 44. The sector has identified skills gaps at management, professional, craft and operator/assembler levels. The industry is also concerned by the lower number of students studying science, technology, engineering and maths (STEM) in schools and universities and the implication this has for the future talent pool. 45. The current funding regime for work based training is a complicated environment to negotiate through and is resource intensive with onerous audit and reporting requirements. Industry would prefer a single source of funding and a single responsible body that industry can build a coherent relationship with. It is hope that NSAM will play a key role in delivering this objective. 46. Industry would like to see funding made available for trainees of all ages, particularly for advanced vocational qualifications. This would help to support industry eVorts to boost productivity and provide employees with a wider range of career opportunities.

Supporting a world-class aerospace and defence industry 47. To sustain a world-class aerospace industry UK Government must ensure its support for collaborative research and new technology is globally competitive. 48. New aircraft will need to meet increasingly stringent environmental performance criteria. This will demand significant technologically advances and extensive systems development activity. The Government should work with industry to ensure the UK is equipped to meet these future challenges. 49. Civil aerospace and defence are global industries and senior Government representatives should play a role in championing UK industry in the international market. 50. The Defence Industrial Strategy and the Defence Technology Strategy set the framework for the defence industry. DIS v2.0 should reinforce the implementation of these strategies and should be supported by appropriate levels of public expenditure. 51. The UK aerospace industry has an important role to play in the emerging security and resilience market. It is important that Government works to create a more coherent market for equipment and services with clearer long-term technology requirements. October 2007 Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Supplementary memorandum submitted by Society of British Aerospace Companies (SBAC)

AEROSPACE AND DEFENCE, RESEARCH AND DEVELOPMENT FUNDING MECHANISMS Government support for Research and Development investment that leads to innovation and new technological development is a crucial part of many aerospace developments. A proactive and positive approach to R&D by governments provides the necessary reassurance to long-term industries such as aerospace that there is a strong government commitment to investment. There are many diVerent types of funding mechanisms, partnerships, university and business collaboration types around the world. SBAC welcomes the opportunity to provide information to the House of Commons Trade and Industry committee on the diVerent types of funding mechanisms that the aerospace industry uses. SBAC has canvassed the opinions of members on the types of R&D funding mechanism of which they are aware and this paper introduces some of the programmes that are taking place throughout the world. It describes: — US Defense Advanced Research Projects Agency (DARPAR) — Israel, Defence research and development funding — France, Aerospace Valley — Canada, New Strategic Aerospace and Defence Initiative

A comparison between DARPA in the US and the common EU model of R&D investment Through contrasting the mission driven approach to research and development investment employed by DARPA in the US and the common European model of RTOs in a bridging or facilitating role, there are some clear distinctions. The former has enabled the US to remain in at a pinnacle position in technology development and exploitation terms, where as the latter has limitations in terms of being able to globalise. Mission-driven research is where the objective is to deliver needed and useful capability, which involves innovation. This is diVerent to research initiated by “principal investigators” which is aimed at advancing specific technologies or areas of science. Mission-driven research provides the opportunity for suppliers to identify new solutions to end-users’ problems, whilst maximising the economic leverage achieved from innovation taking place within the supplier base. Supporting evidence for the importance of this mission-driven research can be seen from the diVerence in approach to government-funded research between UK and the USA. Figure 2 compares US and UK Government funded R&D that is committed to mission-driven as compared with principal investigator (PI) initiated research. The diVerence in approach between the US and UK is striking, with a greater proportion of US Government R&D funding addressing directly exploitable outcomes that are driven by legitimate procurement needs of Government. The higher percentage of mission driven research in the US means that more of the capabilities generated in undertaking the research are created in the supply base, and are therefore more directly exploited in subsequent delivery of the solution. This explains the greater pull- through of research into products and services that drive the US economy. The UK does not have an equivalent magnitude of mission-driven programmes and this has an important eVect on innovation in UK industry. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Mission driven PI PI from MoD initiated initiated Mission 30% 50% NSF 24% driven OST ex from MRC DOD NIH 52% MRC DH

HEFC

Mission driven from civil Mission Departments driven from 24% civil Departments USA 20% UK

A good example of this would be to examine the operation of DARPA in the USA.

The Defense Advanced Research Projects Agency (DARPA) DARPAR aspires to sponsor “revolutionary, high pay-oV research that bridges the gap between fundamental discoveries and their military use”.200 It seeks radical innovation for national security and acts as a programme management organisation. DARPA does not conduct research and development themselves and managers are short-term appointees rather than permanent staV. There is also a “complete acceptance of failure if the pay-oV from success was high enough”.201 The “Bridging”/facilitation model can be seen in many parts of mainland Europe. The UK lags behind the leading group of EU nations when it comes to R&D, the figures below are taken from OECD R&D data, which indicates that spending on R&D as a proportion of GDP in the UK is low by comparison with other developed countries

R&D as %of GDP % from industry % from Government EU-27 1.74 62 30 UK 1.78 42 33 France 2.13 53 38 Germany 2.46 67 26 USA 2.62 65 30 Finland 3.48 67 31

The bridging model of European RTO undertakes R&D and provides related technology services in the public interest. They undertake specific projects bringing forward value from their knowledge base into the economy and society. Most commonly research is funded through government sources for: — Informing public policy — Certification and standards setting — long-range strategic R&D on promising new technologies, Such funding needs to be reasonably predictable in order to provide the necessary institutional stability. Although popular with some commentators the model does have limitations, one of the main ones being that because of their subsidised status they can’t globalise easily. For example Fraunhofer can only operate in those countries where there is German industry and it wants their support. There are a number of other mechanisms used in the US (eg small business innovation research (SBIR), small business technology transfer research (STTR) and co-operative R&D agreements (CRADA) that demonstrate the potential for more imaginative thinking in the UK.

200 Dr. Tony Tether, Director, Defense Advanced Research Projects Agency, July 21, 2005 201 DARPA Over the Years, http://www.darpa.mil/body/overtheyears.html Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Defence research and development funding in Israel Israel has been very successful in generating innovative, cutting edge solutions in a wide variety of sectors from a relatively modest budget. While this has been greatly assisted by often preferential assistance from the US (government and Industry), it is true to say the Israelis have impressed many by their ability to optimise their investment. Key features of this appear to be: — very close relationships between the warfighter and industry so that industry has a real understanding of the armed forces’ operational needs. It acquires this knowledge direct, not through a filter of requirement managers. — strong R&D funding up to Technology Demonstrator Programme (TDP) maturity level. Money is allocated to key companies to fund innovative TDPs; these are not specified at the outset— industry receives an allocation and comes up with ideas for how best to spend it.

Aerospace Valley—France The French Government took the decision to set up competitiveness clusters in September 2004. ƒ1.5bn has been allocated over three years to these clusters. Sixty-six clusters were identified in 2005, of which there are six global competitiveness clusters including Aerospace Valley which is located in the South-West of France. The objectives of Aerospace Valley are to: — Consolidate the cluster’s world number one position in civil aeronautics — Consolidate the European number one position in the field of space — Strengthen a position of excellence in the field of embedded systems — Become a world-wide reference for research and education/training — Reinforce the strengths and synergies of the major corporations and SMEs in the face of worldwide competition — create 40,000 to 45,000 jobs within the next 20 years The aim of the Association is to develop the competitiveness of the cluster on a national, European and international level. The initiative provides Research and Development investment and recognises the scientific and technological skills as being the core of the cluster’s project. Technological development and innovation are widely supported in the region and already constitute major assets and levers for all the cluster’s participants. Examples of composite programmes that have received R&D funding are: — Development of Commercial Aircraft Composites Door — Development of complete composite fuselage section — Nanotechnologies and Nanostructures for advanced composites materials Companies involved in this initiative include large companies, SME’s and Universities for example, Airbus, Safran, ATR, Latecoere, Thales, Dassault and an Aerospace campus with over 1,000 researchers has been create in Toulouse. Canadian: New Strategic Aerospace and Defence Initiative In the second quarter of this year the Canadian government launched a new research and development investment initiative to promote excellence and accelerate innovation in Canada’s aerospace, defence, security and space (A&D) industries. The Strategic Aerospace and Defence Initiative (SADI) which is a collaborative research and development programme between the Canadian Government and the aerospace and defence industries is designed to deliver new products, processes and services. This new initiative has been developed with three key objectives in mind: 1) to encourage strategic R&D that will result in innovation and excellence in new products and services; 2) to provide enhanced opportunities for Canadian A&D industries; and 3) to foster collaboration between research institutes, universities, colleges and the private sector. This programme of investment sends a strong signal to aerospace and defence companies that the Canadian government is seriously committed to this industry, for the long-term. SADI, is a repayable contribution program, which will be administered by Industry Canada’s Industrial Technologies OYce (ITO), a Special Operating Agency, which is subject to regular internal and external reviews. New transparency and accountability measures include providing Canadians with such information as project assessment criteria, the assessment process, contribution recipients, as well as regular updates on project results, program performance, and program accomplishments. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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In his statement the Minister of Industry Maxime Bernier said that, “Canada’s aerospace and defence industries are among the world’s best, and they are important economic drivers in all regions of the country. All Canadians will benefit from the economic growth and technological advancements developed under this new initiative.” The aerospace sector in Canada alone had sales of $21.8 billion, exports of $18.5 billion, and employed 75,000 highly skilled-and-paid Canadians in 2005. SADI is expected to invest nearly $900 million over the next 5 years, with funding to reach a maximum of $225 million per year. December 2007

Memorandum submitted by The Society of Motor Manufacturers and Traders (SMMT)

1. Introduction 1.1 The Society of Motor Manufacturers and Traders (SMMT) is the leading trade association for the UK automotive industry, providing expert advice and information to its members as well as to external organisations. It represents more than 500 member companies ranging from vehicle manufacturers, component and material suppliers to power train providers and design engineers. The automotive industry is a crucial sector of the UK economy, generating a manufacturing turnover of £48 billion, contributing well over 10% of the UK’s total exports and supporting around 850,000 jobs (190,000 directly in manufacturing). 1.2 We welcome the opportunity to respond to this inquiry. We have put together this short response in full consultation with our members.

2. Executive Summary 2.1 The UK automotive industry is a diverse industry that is under significant global and competitive pressures. In spite of these pressures, the industry is a key contributor to manufacturing output in the UK and is a high value-added industry. However, in order to maintain and progress, the industry needs the right skills base and competitive conditions to continue to invest in R&D and innovation.

3. UK automotive—industry specifics 3.1 The UK automotive industry is a crucial part of the manufacturing industry in the UK but is facing serious competitive pressures and needs consistent policies from the UK government to survive and prosper. 3.2 In the UK, manufacturing remains a significant driver of innovation, investment, trade and employment. With an extensive number of businesses involved in the manufacturing supply chain and the transport services sector, automotive manufacturing is linked very closely to the UK’s overall prosperity as a trading nation. In recent years the sector in the UK has accounted for approximately 10% of annual total manufacturing turnover value, seen an export value of over £20 billion (10% of total UK export value) and net capital investment of £1.9 billion. 3.3 The UK is home to a large number of major volume manufacturers and the largest collection of specialist car manufacturers in the world. Some 100 low volume specialist car producers are based in the UK, making a positive contribution to the UK and EU economy through high value-added products, employment, skills and innovation.

4. Recent industry highlights—automotive as a higher value added industry 4.1 The Committee may be interested in some significant developments in the industry over the past few years, which demonstrate a buoyant industry in spite of the significant competitive pressures which it faces. — The Nissan Qashqai is the first all-new product to be designed, engineered and built in the UK by Nissan. Total investment in the Sunderland plant now stands at £2.3 billion. — Honda has just opened its £24 million logistics operation in Swindon. — Optare has invested £2 million in an expansion programme at its Rotherham plant. — Bentley has undergone a £500 million development at its Crewe factory since 2000. It has introduced five new models since 2005. — Ford’s Dagenham plant, home to diesel engine engineering and manufacturing has now produced over 1 million units since 2006. — Total investment in the Mini plant at Cowley (Oxford) now stands at £380 billion since 2000. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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5. Competitiveness of the industry

5.1 As outlined briefly above, the automotive sector is a crucial part of the manufacturing industry in the UK. Automotive has played a significant role in the shift to high-technology, high value-added products in UK manufacturing (the concept of “lean manufacturing” for instance, is a Japanese concept which has radicalised supply chains in manufacturing).

5.2 The creation of a higher value-added economy ultimately concerns competition. The automotive industry in the UK has been under consistent pressures against competing markets but remains a key employer and significant global force in automotive. In spite of the closure of two volume passenger car manufacturers (reducing the number of plants from nine to seven) and the closure of one commercial vehicle plant, the value-add has increased to £9 billion in 2006. These closures have also led to a reduction in net capital investment overall and the decrease in the amount of employees. However, turnover has increased between 1999 and 2006.202

5.3 Innovation and R&D: The UK automotive industry spends £1 billion per annum on R&D, but recognises that investment in R&D can only continue with the right skills base and conditions for R&D capacity. To this end, close working with UK government is considered as essential.

5.4 The government is committed to reaching 2.5% GDP R&D investment through the private and the public sector. From April 2008 the R&D tax credit will increase to 130% from 125% for large companies and the SME R&D tax credit increase to 175% from 150% (subject to state aids clearance). Legislation will be introduced in Finance Act 2007 to extend the SME R&D tax credit scheme to companies with between 250 and 500 employees (mentioned in Budget 2006).

5.5 In the next few months UKTI will work (with other government departments) to attract high-tech R&D investment to the UK. The Technology Strategy Board (TSB) will allocate £100 million for Collaborative R&D. In addition to the current innovation platforms (which includes Intelligent Transport Systems), three new platforms will be developed by the TSB, one of which will focus on environmentally friendly vehicles.

5.6 The Low Carbon Transport Innovation Strategy was recently published alongside the UK Energy White Paper. There is a significant focus on the automotive industry, with £20 million public procurement funding to encourage greater market penetration of low-carbon vehicles (for government fleet) and a £20 million R&D funding programme for low carbon technology development.

5.7 These developments are positive for the UK automotive sector, and are likely to encourage continued investment in R&D. However, concern remains for tax credit opportunities for larger businesses with low- profits, where for example, oVsetting tax credits against NICs would be a more appropriate incentive for R&D investment. Investment in R&D in the UK has been far lower than other European member states, with Ford accounting for 80% automotive vehicle manufacturer R&D in the UK (Ford is rated six out of ten in the UK for investment in R&D, the only automotive company to feature in the top ten). In the EU overall, the automotive sector is Europe’s largest investor in R&D, spending 20 billion euros. DaimlerChrysler is the top R&D spending firm in the EU-25, investing £5.2 billion euros per annum. Other automotive businesses in the top ten across the EU are VW, Bosch and BMW, indicating that automotive companies are extremely serious about R&D. There is a role here for the UK government to foster the right environment for such levels of R&D investment to take place to ensure that the UK does not lose out to other EU member states and the wider world in terms of investment from the automotive industry.

5.8 Skills: Improved skills levels are crucial in the UK, especially against a growing skills base in BRIC countries. The industry welcomes the development of the National Skills Academy for Manufacturing (NSAM) but its work streams and development must fully embrace fostering specific automotive skills. 5.9 The recently published Skills Pledge has been signed by several SMMT members. Whilst this is welcome, it tackles Level Two skills alone, which will not help to increase industry value-added. Focus must also be given to skills that will increase the R&D and innovative capabilities of automotive employees, if the UK is to remain an attractive place for manufacturer investment and compete in an increasingly global economy.

5.10 Participation in the government’s ambition to become a world-class leader in skills following the Leitch Review of Skills in England (although automotive businesses are located throughout the United Kingdom) will be important for the industry. The automotive industry welcomes, as an adjunct to this, the “AIGT refresh” (Automotive Innovation and Growth Team) as a key development in identifying skills needs and gaps. It is only where there is a changed perception and also a change in government policy working increasingly with relevant stakeholders that skills shortages will be addressed.

202 Turnover has increased from £44.2 billion in 1999 to £48.5 billion in 2006, SMMT’s Eighth Sustainability Report, p44 Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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6. Conclusion 6.1 The automotive industry in the UK is a high value-added industry, and has a significant role to play in furthering the position of the UK as a higher value-added economy. However, the competitive and regulatory pressures that the industry faces have made trading conditions challenging. The UK economy cannot survive by relying on the service industry alone, but the strengths outlined in this short paper of the UK automotive industry demonstrate that the sector is crucial to the UK’s overall prosperity and public policies should seek to take account of this role. November 2007

Memorandum submitted by the South East England Development Agency (SEEDA)

What is meant by a high value-added economy? Which business activities qualify as such? High value added activities are any activities that are knowledge-intensive, irrespective of whether they involve products, processes or services. These activities create high-value jobs that lead to increased productivity and drive innovation. The RDAs, with UK Manufacturing Forum and BERR, have recognised through recent policy research and debate that the boundaries between manufacturing and services are increasingly blurred, and that higher value activities typically involve a whole-business process that involves sale of a hybrid of products and services.

How UK business compares internationally in areas such as research and development, creativity and design. The challenge for the UK is to both reduce regional disparities within the UK and to increase global competitiveness of the UK. It is not sustainable for the UK to achieve only one of these objectives. The Sub-national Review emphasises the importance of high value-added, knowledge intensive businesses. The review goes on to highlight the encouraging progress being made in reducing regional disparities through initiatives such as the Northern Way and Science Cities, as well as other focused activity centred around UK knowledge strengths. We note that the Northern Way focuses on reducing the disparity between the South East and the North, and as such provides only a part of the solution. Even the best performing UK regions (London, South East and East) are falling in international competitiveness; and productivity in these regions remains relatively low compared to the best performing world regions. There is an opportunity with the formation of the Technology Strategy Board (TSB) as an NDPB to develop a strategic overview of UK strengths and understand where regional disparities arise on the basis of sector or technology strengths. This overview would be could be based on existing evidence initially and identify gaps that should be addressed through further research. (Following recommendation of the 3.7 Sainsbury Review).

What can be learnt from the experiences of other countries in this area and how fast other countries are moving up the value chain. The UK has much to gain from collaboration with other countries. As such the RDAs are looking to strengthen links with the Foreign and Commonwealth OYce Science and Technology Network, and work with the regional Inward Investment teams and UKTI to garner good practice from around the world. In addition RDAs and DAs are well placed to share good practice within the UK. The regions are also looking to build strong relationships with other regions across the world, through a variety of mechanisms such as the Innovating Regions in Europe network, or working with national government. These relationships provide an additional opportunity for the UK to learn from other nations. The Sainsbury Review particularly noted the San Diego CONNECT scheme, which has UK partners in the from of SETsquared, a partnership between the universities of Bath, Bristol, Southampton and Surrey, which give a level of scale required to develop meaningful relationships both nationally and internationally.

The extent to which UK business has absorbed new business practices such as lean manufacturing. There are many interpretations of lean manufacturing, and it is important to recognise that the original concept related to the whole business needs for reacting to and shaping customer demand, not just addressing shop floor operational competitiveness issues such as wasted time and materials. The concept has been pioneered by the automotive industry, and by 2000 it had already been recognised that the agenda had changed from one of eYciency to growth. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Over the past 5 years, the BERR Manufacturing Advisory Service has helped businesses to embrace new business practices to drive down costs and increase their agility in the global market place. Research has shown the uptake to be at best sporadic across the country. Specific research in the North east region has shown that even though companies are aware of the available benefits of lean manufacturing few are applying it. Those companies with less than 250 staV have been slower in the uptake especially on introducing business practices such as Lean Manufacturing due to lack of resources and access to information. However, the companies that have used government business support programmes, such as the Manufacturing Advisory Service, to kick-start improvement programmes have found that they can gain a competitive advantage due to their resource eYciencies and low-cost access to best business practices. In some cases, businesses that believed it would be cheaper to oVshore their production have found that with some investment in business improvements the opposite is true. It must be recognised that the work needed to change a WHOLE company to one which is a “lean” company is a journey of some 3 to 5 years initially then a further 5 years to embed and become innovative. A trend has emerged that those companies wanting to grow their operations to the next lifecycle stage ie moving from small business of 20-30 staV to a medium sized business of 50! staV or from a medium to a large business are most receptive to adopting best business practices such as lean manufacturing. However companies of this size have diYculty coming to terms with the full organisational impact of the change to lean manufacturing. The Manufacturing Advisory Service has kick-started manufacturing companies to adopt lean manufacturing, which is an example of process innovation. There are many companies who are outside of the target audience of MAS who desperately need help in moving towards lean manufacturing but find help hard to come by. Designing Demand and Innovation Advice Guidance (eg the Innovation Advisory Service in the South East) have extended support to innovation in products and services. Looking to the future, closer cooperation between MAS and the National Skills Academies provides the opportunity to not just initiate change processes, but to underpin them with formal training that will ensure that a culture of continuous improvement is embedded. There is a scope to make very large added value changes to manufacturing companies if they are given access to the correct skills. The refreshed MAS vision is to help companies that might not normally be able to aVord external advice to access it and make the journey to world class.

Why some sectors of the UK economy appear to be more eVective at embracing value-added activities than others There are two factors that influence the perception of the take-up of high value-assed activities. — Firstly, there are some sectors, such as oil and gas, that are highly capital intensive, so that the significant value of R&D appears small compared to the turnover that it influences. — Secondly, there are sectors such as financial services and retail with “hidden innovation” that is not recognised by current approaches to innovation / research and development. Innovation support tends to focus on new technology concepts rather than a broader definition of innovation.

The impact on business of government eVorts to promote research and development, including the research and development tax credit. All the RDAs have been involved in a rigorous assessment of public support for research and development through their key role in the Business Support Simplification Programme (BSSP). Direct public support (national, regional and local) for research and development can be classified into four broad areas, namely 1. Innovation Collaborations—Funding to support collaborative research and development (consisting of networking, secondments and joint projects) 2. Innovation Finance—Funding for single company research and development 3. Business Expertise for Growth—Subsidised access to expert knowledge and specialist input. 4. Research and development tax credit Through the BSSP programme, it has been demonstrated that all of these areas are eVective in promoting research and development and should be regarded as complementary mechanisms. Funding for collaborative R & D is rightly one of the most widely available mechanisms as it oVers a scale of support from networking through secondments, such as KTPs, to collaborative projects that can be £Ms in value. This mechanism is the most eVective in terms of economic spillovers, addresses specific priorities and helps to create an open innovation system for the UK. Funding for single company research and development addresses the significant market failure experienced by SMEs in obtaining finance for research and development activity. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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The subsidised provision of Business Expertise to SMEs is justified in particular circumstances where businesses are not aware of the opportunities and the potential benefits. The R & D tax credit is a positive fiscal incentive for increasing the overall level of research and development. While take-up has been stronger in large companies, there is evidence that awareness is increasing and private sector professionals are proficient in advising their use for their clients. We are aware of eVorts to further promote this scheme by HMRC and this would be welcomed. In terms of broader taxation issues, the recent proposal regarding the removal of taper relief and its replacement with a standard Capital Gains Tax rate is retrograde.

The progress that has been made on university/business co-operation and knowledge transfer since the publication of the Lambert Review in December 2003. One of the most eVective ways in which regional development agencies can promote innovation is by building business-university collaborations. As publicly-funded organisations which are business-led, they are well placed to act as a bridge between business and universities. Increasingly, the RDAs are focussing on increasing the speed of innovation through knowledge transfer and promoting open innovation. RDA activity to support knowledge transfer can be considered to fall into four broad areas of activity 1. KT Partnerships oVer knowledge transfer through various depths of people exchange, ranging from short-term interactions through vouchers to full Knowledge Transfer Partnerships. 2. KT hubs are aimed at making the knowledge base more accessible to business, and particularly small businesses, through providing facilities that are focused on business support. 3. Technology brokering is bringing together technology developers and potential users who might not otherwise find each other. 4. Partnership R & D is collaborative research and development where much of the value of the project is generated through the combination of partners, as much as the technical content. In response to the Lambert Report, the RDAs introduced a new core mandatory output 4a: the number of businesses within the region assisted to engage in new collaborations with the knowledge base. The RDAs assisted 7,572 businesses in 2006/07 through a range of knowledge transfer initiatives.

Whether business and government interpret innovation too narrowly. The two most commonly used measures of innovation performance are business R&D spend and the volume of patenting, which are inputs rather than outcomes. The UK performs unimpressively on both counts and so it has been widely concluded that the UK lags its international competitors on innovation. However, the Sainsbury Review says that these measures are inadequate because they are only relevant to a small number of R&D intensive sectors such as pharmaceuticals and aerospace. Innovation in other sectors where the UK is internationally very competitive, particularly financial services and the creative industries, takes place in very diVerent ways and is not captured by these measures. As a result our innovation policy has been too narrowly focused on R&D intensive sectors and we’ve paid insuYcient attention to the innovation potential of other sectors which are extremely important to our economy. Sainsbury argues that UK innovation policy should no longer be driven by these narrow indicators. Instead it suggests that we should be guided by the four major goals of the Technology Strategy Board. The ambition must be to adopt a broader approach to innovation that recognises innovation in products, processes and services. Particularly as services are a UK strength and the second largest foreign direct investment in the UK. However, we recognise that the current metrics and support mechanisms may not be easily extendable to a more inclusive definition of innovation and welcome the work in this area by range of organisations, including central government, Royal Society and CBI. We would be happy to work with these organisations to develop this definition more widely. In addition we would expect to see compelling evidence and recommendation from NESTA, who are well placed to provide this.

What the government can do to further promote higher value-added business activities and innovative thinking among UK businesses. Throughout this response it has been emphasised that high-value added, innovative and knowledge- intensives activities should be recognised whether they create new products, processes or services. In this context, three recommendations are made that are relevant to all high-value activity. 1. Increase the supply of people with skills for innovation. These are higher level skills in both STEM subjects (including technical skills) and in leadership and entrepreneurship. These high-level skills are required to turn good ideas into commercial successes. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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2. Reinforce the importance of networking businesses with each other and the knowledge base within the UK. Successful innovators are well connected and open to collaboration. They are continuously seeking out new suppliers, partners, customers, investors, or just people they can learn from. A specific opportunity to encourage business engagement with the knowledge base is through the use of voucher schemes. Vouchers are used to subsidise a first-time collaboration between a business and an institution of their choosing. Voucher schemes have been used successfully in London and the West Midlands, and there is also evidence from schemes in the Netherlands and Ireland. 3. Increasingly, competition is global, but so is collaboration. Companies exposed to international competition are more innovative. High-value business activities may need support to find and address opportunities for global competition and collaboration. In addition, inward investment plays a critical role in high value added activity. The prime objective of RDA activity in this area is to attract investment into the region based on the research strengths and the existence of high value manufacturing businesses and service providers. There should be increasing support for this nurturing of global innovation connections and relationships, based on high value added activities.

The impact of nationality of ownership on the location of research and development work. One of the UK assets has been a lack of restriction on the ownership of research and development work carried out in the UK, which has made the UK a “global-friendly” place and enabled international exchange.

The eVectiveness of machinery of government arrangements in encouraging innovation and creativity. The creation of DIUS and the Technology Strategy Board (as a NDPB) oVers opportunities to align the innovation and skills agendas, with a stronger focus on higher-level skills. In particular, the leadership role of the TSB, in partnership with the RDAs, is strongly welcomed as the TSB is able to take an overview of the innovation landscape and collaborate with partners to maximise impact. Alongside this it is important that — DIUS maintain the necessary business focus for innovation, including cross-departmental working with BERR where appropriate, — DIUS has a broader view of innovation than research led activity, — DEFRA schemes which provide parallel process innovation support work in close partnership with the BERR and DIUS schemes. Alongside government departments, the nine English Regional Development Agencies (RDAs) have a critical role to play through: — understanding the strengths of regional businesses and the knowledge base, — providing the focus for SME involvement and investment, and — catalysing and coordinating partnership-working with diverse stakeholders. This enables the RDAs to implement aspects of national policy that benefit from tailoring to regional needs. However, there are still challenges for the RDAs from the capital and revenue split in the Single Pot. The emphasis on capital spend restricts the projects that can be used to support innovation, as innovation support tend to involve revenue spend.

Annex

MANUFACTURING LEAD ROLE POSITION 1. Manufacturing is strategically important to the UK, eg by driving and investing in new knowledge- creation, as well as in straightforward employment and export/balance of payments terms. 2. Manufacturing is transforming rather than declining, as services add to the product mix of their value- adding, eg RR engine servicing, new health-care products linked to monitoring services, eg via telephony. 3. But its productivity growth lags behind competitors. 4. Manufacturing support needs to be more clearly demonstrated—both by improving our communication of the relevance of the whole portfolio of business support measures and by demonstrating in new policy measures a commitment to retaining manufacturing in the UK (eg to help redress problems of recruitment of qualified people to the sector). Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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5. The lean manufacturing agenda is in fact a whole-business agenda (not a shop-floor one) that includes a range of issues including marketing, design, sales, as well as shop-floor improvements. This requires business support schemes to work more closely and eVectively together, eg MAS/IMRC/NSAM interfaces, Nevertheless, the big agendas for manufacturing are technology and globalisation, and a failure to engage a wider range of manufacturers on these agendas will result in large scale disinvestment in the UK economy, eg shift of supply bases or whole business operations overseas. 6. EVorts therefore still need to be made to increase the flexibility with which RDAs can provide tailored packages of business support, and recognise that our remit extends beyond SMEs to include similar companies with similar problems. 7. More company-specific and technically-capable interfaces to this generic support need to be provided, along the lines of the successful MAS model. 8. But overall, government must make sure that the UK environment is generally attractive for UK manufacturing, and that it is pulling the big levers to ensure the competitiveness of the manufacturing sector, eg managing school curricula; ensuring that the costs of establishing and running a business are competitive vis-a-vis other European locations. November 2007

Memorandum submitted by South West Regional Development Agency (SWRDA)

How UK business compares internationally in areas such as research and development, creativity and design There is a huge opportunity with the formation of the Technology Strategy Board (TSB) as an NDPB to develop a strategic overview of UK strengths in these areas, bringing together the expertise and knowledge that already exists and adding value by addressing, through research, gaps in this intelligence. This should cover both the expertise and knowledge found within the academic sector as well as the high knowledge centres found in the private sector and Public Sector Research Establishments (PSREs). This follows the recommendation of the Sainsbury Review (Recommendation 3.7). Regional Science and Industry Council’s (including that in the South West) are working regionally to improve intelligence and ensure it is better used to inform policy making by a wide range of organisations. The emphasis is increasingly on understanding where we have genuine strengths and drilling down from broad, generic descriptions to a more informed understanding of our specialisms and how these can improve our international competitiveness. The South West is increasingly seen as a creative hub, building on international success within the creative industries, and strengths in cutting edge technologies and pioneering industries such as renewable energies and digital industries. The South West has key assets that underpin the UK economy, including Bristol Science City, Silicon Southwest and Wavehub. These harness the practical creativity, innovation and knowledge of Southwest businesses and seek to couple them with the knowledge and creativity found in the public sector knowledge base. The South West Science and Industry Council provides the strategic direction and real world expertise the guides SWRDA investment decisions. Overall, South West business investment in R&D (as a proportion of GVA) is above the UK average and has grown more quickly than the national average. However, this is highly concentrated within a small number of large businesses and mainly undertaken in the north of the region. As with all regions, most South West R&D spend (75%) is by business, with the remainder accounted for by government and Higher Education R&D spending.

What can be learnt from the experience of other countries in this area and how fast other countries are moving up the value chain The South West of England Regional Development Agency (SWRDA), in conjunction with the other RDAs, is looking to strengthen its relationship with the FCO science and technology network, and utilise the links through its Inward Investment teams, UKTI and the FCO to build on the good practice of other countries. The UK can benefit considerably from the work of other countries, both within Europe and the wider international community, and regions have the opportunity to share this learning within the RDA and DA community. We are currently exploring the possibility of leading a new European network as part of the EU’s Innovating Regions of Knowledge programme, which will focus on the capitalisation of past exchange of experience into more innovative Structural Funds activities to support innovation in our small and medium sized businesses. This builds upon our past engagement in European network which have provided a valuable opportunity to benchmark our performance and introduce good practice from elsewhere. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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The Sainsbury Review particularly noted the San Diego CONNECT scheme, which has UK partners in the from of SETsquared, a partnership between the universities of Bath, Bristol, Southampton and Surrey, which give a level of scale required to develop meaningful relationships both nationally and internationally. We have supported a number of visits by South West academics overseas to raise awareness of the South West oVer and to learn from what is happening elsewhere.

Why some sectors of the UK economy appear to be more eVective at embracing value-added activities than others The impact of metrics cannot be ignored in this context. Focus on metrics such as R&D spend and patents lead to under reporting of other areas of innovation that go unreported, which distorts the overall comparison between sectors. This can lead to the development of broad policy responses which are not appropriate to all sectors and may fail to support innovation and growth potential sectors in ways which best suit to their development and their particular style of innovation. Reports from NESTA and others have described the complex connectivity between companies, individual business-people, academics, researchers, creatives, investors, marketers, advisors, mentors and various business support professionals, in the UK and overseas, which drives innovation. There is often an element of chance in such interactions and it is diYcult to engineer situations and predict outcomes. This provides a case for more flexible policies to support innovation which are less based upon traditional outputs. NESTA have also made the case that a concentration on measuring innovation through R&D spend, numbers of patents etc creates an emphasis on the role of natural sciences and manufacturing industry and understates the true extent of innovation. Government measures of UK’s innovation performance rely partly the amount of investment made by businesses. This mainly relates to spending on physical plant and machinery that can be relatively easily counted. As the proportion of total activity accounted for by the manufacturing sector is decreasing, investment in such “tangible” assets grows relatively slowly.In a modern knowledge economy, however, there is an argument that significant investment takes place in intangible elements: computer software and scientific R&D, non-scientific research into new design and products, and investment in brands and organisational skills. If measured at all, these may be counted as consumption rather than investment. Yet these “softer” elements of innovation are becoming critical for productivity-led development. There is a growing interest in looking at broader based models of innovation, beyond traditional physical science based models. This includes the emergence of a new academic discipline known as services science, which is exploring how technical advances, particularly in ICT, create new business models in areas such as business and financial services, which are responsible for so much of the economic and productivity growth of advanced economies. This merges technology with an understanding of business processes and organisation, bringing together a range of diVerent disciplines including computer and communications sciences, design, business science, and psychology.

The impact on business of government eVorts to promote research and development, including the research and development tax credit The impact of government investment in this area needs to be increased, and we see the Science and Industry Councils (SICs) and the TSB as key drivers and communicators in this process, supported by national and regional mechanisms (within the BSSP framework). The RDAs have recently provided a set of Case Studies and outputs to HMT as part of the Comprehensive Spending Review, which show the specific impact of RDA investment. It is also important to note that the EU Structural Fund Programmes (Convergence and Competitiveness in the South West) have a strong commitment to innovation and future public sector investment will need to take this into account. Each have a Priority Axis focused on Innovation and Research as a Priority Axis aimed at improving the region’s overall innovation performance and close the intra-regional gap in innovation; maximising the economic contribution from the region’s HE/FE institutions and helping companies exploit their own ideas and innovations. In the far South West, the Convergence Programme aims to enable Cornwall and IoS to compete as a centre for creativity, innovation and R&D, identifying and supporting areas where Cornwall and the Isles of Scilly can establish specialist expertise and knowledge, attract investment and talented people and build, on established business and sectoral strengths.

The progress that has been made on university/business co-operation and knowledge transfer since the publication of the Lambert Review in December 2003 The RDAs collectively responded to the Lambert Report with the introduction of a mandatory core output “4a: the number of businesses within the region assisted to engage in new collaborations with the knowledge base”. The RDAs report annually against this target, and the wider context and supporting information was recently submitted as part of the Comprehensive Spending Review. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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In addition, the South West has piloted a small programme which supports academics who aspire to become non–Executive Directors of businesses, in line with the recommendations of the Lambert Review. This has already successfully enabled academics to gain positions in a highly competitive environment.

Whether business and government interpret innovation too narrowly It is our opinion that this is the case—see comments above.

What the Government can do to further promote high value-added business activities and innovative thinking among UK businesses The recent strengthening of the SIC link to the TSB, and the reinforcement if the SIC role nationally, as well as the establishment of the TSB as a Non-Departmental Public Body (NDPB), provides an ideal opportunity for creative thinking around the promotion of innovation. The Government needs to allow suYcient flexibility within BSSP to allow best placed organisations to promote innovation, and also promotion that is appropriate for the target community. We also support continued delivery and mainstreaming of the Cox review recommendations, including the work of the Design Council.

The impact of nationality of ownership on the location of research and development work We support the continued lack of restriction on the ownership of research and development work carried out in the UK, which is part of the enabling framework for UK interactions within the global economy. There is a rich tradition of international student and visiting worker activity among UK HEIs and research rich private industry. SWRDA believe that this provides a rich global alumni network which gives an opportunity to promote the South West and the UK as a positive environment for inward investment.

The eVectiveness of machinery of government arrangements in encouraging innovation and creativity The current national government arrangements are relatively recent, and so we believe that it is too early to examine the eVectiveness of this structure. We welcome the establishment of the Technology Strategy Board as an NDPB, and look forward to working closely with the TSB in setting national and regional priorities. We would note, however, our concerns regarding the capital and revenue split within the Single Pot, and the capital spend restriction that this carries. If the bulk of monies available to the RDA is in capital, it has a strong influence on the type of innovation and creativity investment that can be made. Given that the bulk of innovation and creativity investments lean towards revenue spend, this is an issue of some concern for RDAs. November 2007

Memorandum submitted by the Trades Union Congress (TUC)

Introduction 1.1 The TUC is the voice of Britain at work. Representing nearly 6.5 million workers in 59 unions, we are proud that one worker in every four belongs to a TUC aYliated union. Globally, we are part of a trade union family with 156 million members in 148 countries. 1.2 The TUC welcomes this timely inquiry into “Creating a Higher Value-Added Economy”. This inquiry follows an earlier study, carried out by the Trade and Industry Select Committee, into skills, public procurement and the marketing of UK plc, with specific regard to manufacturing. The TUC made a written submission to that inquiry and gave oral evidence in December 2006.

Globalisation and the Case for High Value 2.1 A consensus appears to have emerged that the only way for the UK to remain competitive in the era of globalisation is to focus on high value, high skill production. 2.2 Speaking to last year’s annual CBI dinner, in one of his last major speeches as Chancellor of the Exchequer, Gordon Brown told his audience: “Above all, we all recognise that in a world in which we will be competing based on our talent and ideas, the source of our strength is our creativity and innovation—which is why we are investing twice as much in science than in 1997 and guaranteeing a 10 year science budget—and in people Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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and their skills. More than ever before it is your employees who will be the creators of your intellectual capital, productivity and competitiveness. And we have to invest in that, equipping them so that if they have to move from their last job we can help them get their next job”.203 2.3 “The Race to the Top: A Review of Government’s Science and Innovation Policies”, prepared by the former Science Minister Lord Sainsbury and published in October 2007, puts it succinctly: “In today’s global economy, investment in science and innovation is not an intellectual luxury for a developed country, but an economic and social necessity, and a key part of any strategy for economic success”.204

The Asian Challenge 2.4 It does not require a very detailed look at world trends to understand why this step change in investment is required. Sainsbury reports that the balance of global economic activity is shifting from Europe and the USA to Asia. Asia may account for over half of global growth over the next 15 years, by which time China and India are individually forecast to be bigger than the UK, French and German economies combined (in purchasing power parity terms). New markets will add approximately one billion consumers to the world market and China and India’s combined share of global expenditure is expected to double over the next 15 years. 2.5 Asia’s not-so-secret weapon is an abundance of low cost labour. Some countries can have wage costs that are 5% of those in the UK. It follows that industries with a large percentage of costs that are made up of the price of labour will be tempted to migrate to countries with low labour costs. Textiles are an obvious example. The UK had a dominant role in the clothing and textile industries in the early 19th century, but has suVered a steady decline. Meanwhile, in the past five to 10 years, the textile and clothing industries have become increasingly concentrated in China, Pakistan, India, Bangladesh, Mexico, Romania, Cambodia and Turkey.205 2.6 Furthermore, the situation in which we find ourselves is not so simple as experiencing a trade oV between low cost work, which will migrate east, and high cost, high skill, high value work, which will remain in the industrialised west. Gordon Brown has often reminded us that China and India are producing four million graduates a year. And as Lord Sainsbury warns: “Countries such as China and India will not be content for long on the lower rungs of the economic ladder, remaining forever in mass production manufacturing based on low technology, low wages and low skills. They are determined to improve the quality of their goods and services, increase their rates of innovation, and move into high value-added goods and services”.206 2.7 Remaining economically competitive will require a considered response from UK policy makers. As an advanced, wealthy nation, we cannot possible cut our costs to the level of some parts of Asia, even if that were desirable. The UK solution lies elsewhere. 2.8 Under globalisation, competition is tough and is going to get tougher. But this does not mean that all is lost. In the TUC’s view, the UK must identify its area of focus. The questions to be asked are: What are we good at? Where are we competitive? Where can we remain/become competitive? What support must government give? What challenges must employers rise to? What role is to be played by modern trade unions? 2.9 To begin to answer those questions, we can be sure of one thing: the UK will only remain competitive in areas of high value. So how do we define high value?

What is Meant by High Value Added? 3.1 To give a technical answer, “value added” is the diVerence between the costs of inputs purchased and the value of the output produced. For example, if a person was to buy a wooden table, that person is buying the wood from which the table is made, but more importantly he or she is paying for the skill of the craftsman that made the table. The better the wood, the more expensive the table. Yet the skill that is used to make the table is probably even more expensive. A basic, mass produced table will be much cheaper than an individually produced “work of art”, that will take pride of place in the purchaser’s dining room. Such a work of art can only be produced by a craftsman of talent, who undertook years of training and, quite possibly had a designer’s eye for a unique product. Skills and design will be two important concepts in any discussion of high value goods and services. The market, through the basic rules of supply and demand, plays a role in setting the price, of course, but value added refers more closely to the quality of the product.

203 Speech by the Rt Hon Gordon Brown MP, Chancellor of the Exchequer, at the CBI annual dinner, 15 May 2007. 204 “The Race to the Top”, p 22. 205 “Well Dressed: The Present and Future Sustainability of Clothing and Textiles in the United Kingdom”, Institute for Manufacturing, Cambridge University. 206 “The Race to the Top”,p9. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Manufacturing and Services 3.2 Historically, production and manufacturing have been associated with so-called “metal bashing”, in the style of the mass-produced table in the example above. Yet modern manufacturing is now sophisticated almost beyond recognition. As Lord Sainsbury reminds us, early manufacturing companies were typically vertically integrated, undertaking as many operations as possible on their own premises. As skills, capabilities and demand increased, subcontractors emerged who could supply parts, sub systems or services competitively. Over the past 20 years, competition and customer demand for greater variety have grown while the reduction of cycle times for innovation has forced companies to adopt new models for product service and development. So, for example, purchasers of new cars can now choose from an array of additional features and colours, making their individual car unique—their own “work of art”. 3.3 The value chain of manufacturing now encompasses research and development, design, supply management, production, routes to market and after sales service. Companies may specialise in one, some or all of those specialisms, yet the days of manufacturing companies simply building a product are long gone. 3.4 This has implications for the way in which we view the distinction between manufacturing and services. To quote Sainsbury once more: “Software for an aeroplane produced by an aeroplane manufacturer is classified as manufacturing, but if it is outsourced to a computer services company it is classified as a service. Jet engine manufacturers such as Rolls-Royce no longer sell engines and spare parts, but propulsion services, because the value of services on a product through its lifespan can exceed original sales by as much as five times”.207 3.5 When the TUC has expressed concern at manufacturing job losses in recent years, we have often received the response that, quite simply, jobs that used to be considered to be manufacturing jobs are now classified as services. This is probably true up to a point, but the extent to which jobs have been reclassified, as opposed to having disappeared, is unclear. 3.6 And without knowing exactly what is going on, it is impossible to develop policy to respond eVectively. 3.7 The TUC’s first recommendation, therefore, is to re-examine the industry figures that are produced by the OYce of National Statistics. Although the way that manufacturing and services are measured worked well in the past, the current definitions of those sectors are no longer fit for purpose. If we are to focus our energies on high value industry, first we must develop a greater understanding of what is actually happening, in manufacturing, services and at all points in between.

Comparative Advantage 3.8 If the UK is to remain successful, it is critical that we identify and support those areas of high value production and services where we are most competitive or could become competitive. 3.9 The economic theory of “comparative advantage”, first developed by the 19th century economist David Ricardo and espoused by the Treasury, is helpful here. To quote the Treasury directly: “Comparative advantage predicts that, when economies have the flexibility necessary to adapt to more open markets, labour-intensive, lower-technology production will take place in countries with an abundance of low-cost labour, while advanced economies, where labour costs are higher but physical capital and expertise are more prevalent, will concentrate on exporting more skill– and capital- intensive goods. This specialisation by countries in the production of goods and services in which they have a relative advantage drives trade. Specialisation resulting from comparative advantage allows countries to use their resources more eYciently, which in the long run benefits everyone by increasing the global potential for growth”.208

A modern industrial strategy 3.10 In the TUC’s view, the logical conclusion of this theory is that the UK should identify the sectors where the UK is or could be successful and develop an industrial policy accordingly. Yet the UK Government refuses to do that. Its credo is one of “horizontal” support and it refuses to distinguish between one industry and another, with regard to those industries’ strategic value to the UK. 3.11 Which sectors would be targeted by a modern industrial strategy? A useful list of possibilities is set out in the following paragraph, also from the Sainsbury Review: “It is not possible to predict where the new jobs will emerge in the future but it is possible to see many opportunities for UK companies to create new products and services, and new industries in areas as diverse as aerospace, pharmaceuticals, biotechnology, regenerative medicine,

207 “The Race to the Top”, p 38. 208 “Globalisation and the UK—strength and opportunity to meet the economic challenge”, HM Treasury, December 2005, p 19. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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telemedicine, nanotechnology, the space industry, intelligent transport systems, new sources of energy, creative industries, computer games, the instrumentation sector, business and financial services, computer services and education”.209 3.12 Until 1979, governments of all political colours pursued industrial strategies. Those governments had a sense of where they could build the UK’s industrial strength and a policy designed to enhance that strength. With the benefit of hindsight, it is possible to see that mistakes were made, but the radical response of the Thatcher Government—the view that only companies decide which industries exist and that any government vision amounts to “politicians picking winners”—was surely incorrect. Governments in competitor countries have a very clear sense of where their industrial strength lies, but the British Government, still bruised by the experience of British Leyland and one or two other high profile cases, refuses to countenance an industrial strategy. The result is that we compete with one hand tied behind our backs. 3.13 The extract from the Sainsbury Review quoted above is couched in the language of British culture— “It is not possible to predict where the new jobs will emerge in the future . . .”—before going on to present a considered list of exactly the kind of industries where the UK should focus. The TUC welcomes this list of industries as the basis for a new UK industrial focus. 3.14 For example, UK entrepreneurs cannot be expected to invent technology and then, through a lack of proper policy support, allow others to exploit it. In the 1980s, the UK was leading the Research and Development of wind turbines, yet the Danish and German Governments saw an opportunity to develop markets in this area. Market-based policies to grow demand, notably through a feed-in tariV, guaranteed an income from investment. 3.15 The report of the Commission on Environmental Markets and Economic Performance,210 on which the TUC was represented, was published in November 2007. This argues that, by making the UK one of the best locations in the world to develop and introduce low carbon and resource eYcient products, processes, services and business models, the country can attract the investment today that will help create tomorrow’s prosperity and jobs, as well as contributing to a cleaner environment. Achieving this goal will require a policy framework that drives investment and enterprise in environmental markets in the UK and provides more eVective support for the development and commercialisation of environmental innovations. 3.16 Such a policy framework would be central to the TUC’s concept of a modern industrial strategy. 3.17 The TUC’s second recommendation is therefore that all stakeholders in industry should develop a modern concept of industrial strategy that politicians and businesses are comfortable with. If that is to happen, the change will be as much about a new culture as a new policy.

The Motor Industry 3.18 The one sector that the TUC would add to Lord Sainsbury’s list of strategic, high value sectors is the motor industry. According to a report produced by the European Economic and Social Committee,211 the European automotive industry is one of the EU’s most important economic sectors, producing 18.6 million passenger vehicles, goods vehicles and buses, each year. 27% of worldwide motor vehicle manufacturing takes place in the EU. More than 12 million families rely on motor vehicle-related employment, with 2.3 million direct jobs and a further 10 million in ancillary sectors. Eleven major international manufacturers have their head oYces in Europe (BMW, DAF, Daimler, Fiat, MAN- Nutzfahrzeuge, Porsche, PSA Peugeot Citroen, Renault, Scania, VW and Volvo), as do the European subsidiaries of General Motors and Ford (General Motors Europe and Ford of Europe). 3.19 The automotive industry is one of the EU’s leading export sectors, with net exports of Eur 41.6 billion. The sector has a high rate of innovation, with annual expenditure of Eur 20 billion on Research and Development, or 4% of its turnover. 3.20 The EU share of global automotive production amounts to 27%. Within the EU, Germany is by far the biggest producer of motor vehicles. The German share of EU motor vehicle production—as measured by units produced—has remained at the level of 32% since 1990. 3.21 However, between 1990 and 2006, there were major changes in French, Italian, British and Spanish motor vehicle production. The French, Italian and British share of European production fell sharply while the Spanish share saw a large rise. Within the UK, a major internal change took place: the production of domestic motor vehicle manufacturers continued to fall, while production of foreign—in particular Japanese—transplants rose sharply. At the same time, a number of British motor manufacturers lost their independence (Rover, Mini, Rolls Royce, Bentley, Jaguar). 3.22 Apart from Germany, of the “old” EU Member States, only Belgium and Austria achieved production increases. In all other Western Member States, production of passenger vehicles has fallen since the early 1990s, while the new Member States have achieved uninterrupted production increases.

209 “The Race to the Top”,p8. 210 Commission on Environmental Markets and Economic Performance, Defra, November 2007. 211 Information report of the Consultative Commission on Industrial Change on the automotive sector in Europe: current situation and prospects, European Economic and Social Committee, 23 November 2007. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Nevertheless, in 2006 aggregate manufacture of passenger vehicles in Central and Eastern European countries was only just over 14% of total EU production, with over 85% still taking place in the “old” Member States. 3.23 The TUC has one comment and one recommendation to the Committee, in relation to the automotive industry. The comment is that the incredible success of the new Mini, built at Cowley, demonstrates, once again, the value of design. According to media reports on 30 November 2007, the Mini is so successful that it is to be built outside the UK for the first time in 2008 or 2009, because production at Cowley will be at maximum capacity.212 3.24 The recommendation is that the Committee takes evidence from Nissan UK. The UK’s Nissan plant, situated in Washington, Tyne and Wear, has long held the reputation of being the most productive car plant in the whole of Europe. We congratulate Nissan on its success, but this does beg the question: if Nissan can do it, why cannot others also do it? Evidence from Nissan on the factors which contribute to its success and the lessons the might be learnt for high value production throughout the UK, would be very useful. 3.25 Another potential witness for this inquiry is the Institute for Manufacturing at Cambridge University, whose work on comparative industrial strategies around the world might be of great interest. 3.26 Furthermore, it is surely no accident that the German motor industry remains so successful, even in the light of competition from Eastern Europe. It is the TUC’s view that Germany is successful in this and so many other areas of high value manufacturing because its government targets those areas and builds its industrial support system around them. It is high time the UK Government did the same.

The Role of Government 4.1 Were an industrial strategy such as that proposed by the TUC to be adopted, one advantage is that the focus would be on companies that already have a good story to tell on high value. The motor industry, aerospace, pharmaceuticals, the creative industries etc are, by definition, high-skill, high-value industries. Their skills training records are good, as are their records on innovation.

Skills 4.2 Nevertheless, there is no room for complacency and the UK needs a step change in its performance on skills if it is to be competitive in the global age. To quote the Prime Minister once more: “Today, there are in Britain five million unskilled people. By 2020 we will need only just over half a million. So we must create up to five million new skilled jobs and to fill them we must persuade five million unskilled men and women to gain skills, the biggest transformation in the skills of our economy for more than a century”.213 4.3 In October, the Government published the results of its Comprehensive Spending Review 2007 (CSR 07). This included a Public Service Agreement that sought to improve the skills of the population, on the way to ensuring a world-class skills base, by 2020. As performance indicators for the achievement of this PSA, it would seek to raise the proportion of people of working age achieving functional literacy and numeracy,to raise the proportion of people of working age qualified to at least full Levels 2 and 3, to increase the proportion of apprentices who complete the full apprentice framework, to raise the number of working age adults qualified to Level 4 and above and to increase the higher education participation rate. 4.4 The PSA target and indicators largely reflect the Government’s endorsement of the proposals of the Leitch Review,214 which called for the doubling of current attainment at most skill levels and the virtual eradication of low skills by 2020. The TUC welcomed this scale of ambition and agreed with Lord Leitch’s central conclusion that the UK would need to have a world-class skills base by 2020 in order to support further progress on productivity, economic performance and social justice. 4.5 The Government’s response215 endorsed the majority of Lord Leitch’s recommendations and also included a welcome change in tone—there is a greater focus on individuals and employees than in recent policy statements. The TUC is currently supporting the Skills Pledge proposed by Lord Leitch, but on the basis that the Government remains clearly committed to introducing a statutory right to workplace training if there is not a suYcient rate of improvement in the proportion of employees with a Level 2 qualification by 2010. 4.6 The TUC has welcomed the focus in CSR 07 on an increased investment by Government in workplace skills, but there is a need for employers to up their game and significantly increase their investment if there is any prospect of making the UK a world leader in skills in the coming years. The TUC has also welcomed the ongoing support by the Government for the trade union role on skills, and in particular the Prime Minister’s continued commitment to the Union Learning Fund in his speech at the TUC’s 2007 Congress.

212 “Mini made abroad for first time ever”, The Sun, 30 November 2007. 213 Speech by the Chancellor of the Exchequer, the Rt Hon Gordon Brown MP, to Mansion House, 20 June 2007. 214 “Prosperity for all in a global economy—world class skills”, HM Treasury, December 2006. 215 World Class Skills: implementing the Leitch Review of Skills in England, DIUS, July 2007. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Science and Innovation 4.7 The TUC warmly welcomes Lord Sainsbury’s report, “The Race to the Top: a review of Government’s science and innovation policies”. This report sets out the scale of the challenge before us and is clear in its assessment of the implications for the long-term health of the British economy if we do not meet that challenge. Its description of an innovation ecosystem, which brings together the inter-linked activities which, between them, contribute to a country’s innovation rate, is valuable. Across a range of areas, including a new leadership role for the Technology Strategy Board, the value of knowledge transfer, targeted support for early stage high technology companies and a major campaign to enhance the teaching of science and technology, its recommendations are important. However, such inter-linking needs to operate vertically as well as horizontally. For example, as Lord Sainsbury recognises, departmental science and innovation strategies and their funding of R&D can come under pressure if funds are needed for operational activities in times of diYculty. Science, innovation and R&D spending must be protected. 4.8 The prominence given by Lord Sainsbury and, for that matter, by Gordon Brown, to the value of science is to be welcomed. At a time of tight resources, guaranteeing a ten-year science budget is no small promise. Yet there is cause for concern. The Sainsbury Review reports that although there has been a steady increase in the amount of money spent by Research Councils, government department funding of R&D by civil departments is now lower than at the start of the decade and defence R&D spending, as a percentage of GDP, has declined almost continuously. This is of concern for the quality of our public policy-making, and the stimulation of innovation in the companies with which government departments interact. We are significantly reducing our capacity to have a high-level scientific input made into key policy decisions. Given the high costs and benefits that these key policy decisions involve, this could turn out to be a very serious economic mistake. 4.9 The fourth recommendation of this paper is to call for a national campaign to promote the value of science. Economists, including those in the Treasury, tend to value science because of the economic spin-oVs that come from scientific activity. There is nothing wrong with that, yet it is also important, especially if we are inspire the young and encourage them to take up careers in science, to show that we value science as an intrinsic good in itself. A recent survey by the Institute of Ideas reported that a majority of scientists thought that Government, Research Councils and academia were restricting academic research by focusing too much on its economic and social outcomes. We fully support Lord Sainsbury’s own conclusion that our basic research base is an outstanding asset for this country and we must make certain that we continue to fund it properly. 4.10 At its most basic, science is linked to humankind’s quest for discovery. It is 45 years since John F Kennedy told an audience in Houston, Texas: “We choose to go to the Moon in this decade and do the other things, not because they are easy, but because they are hard, because that goal will serve to organise and measure the best of our energies and skills, because that challenge is one that we are willing to accept, one that we are unwilling to postpone, and one which we intend to win, and the others too”.216 Answering the question, “Why go to the moon?”, Kennedy said we may as well ask why climb the highest mountain or why, 35 years previously, fly across the Atlantic. Undoubtedly, the economic and industrial benefits of the American space programme were huge, but it was the quest itself which inspired the nation. 4.11 Furthermore, it is simply impossible to divide science between that which has an economic benefit and that which is “blue sky” science. It is also often forgotten that some science supports public policy, such as the scientific endeavour which supports much of DEFRA’s work on animal diseases and environmental protection.

Research and Development 4.12 Research and Development is an important component in the quest to increase UK productivity, a challenge with which the Treasury has been grappling for some time. Furthermore, its relatively high level of Research and Development is one reason why the TUC believes it is important to persist in the development of modern manufacturing on these shores. The amount of R&D in manufacturing, in areas such as defence, aerospace and pharmaceuticals, is critically important for our long-term economic fortunes. 4.13 The TUC has consistently supported the role of Research and Development tax credits. The decision in Budget 2007, to increase the enhanced deduction of the SME R&D tax credit to 175% and the large company R&D tax credit to 130% from April 2008, is to be welcomed.

The Role of Employers 5.1 The best British employers have an excellent story to tell on creating high value. Companies such as Rolls-Royce, BAe Systems, Toyota, Nissan and BMW are world class operators who promote skills and innovation among their workforces. To them, investment in training, innovative working practices and Research and Development are not costs to be borne, but foundation stones for future success.

216 President John F Kennedy, Rice University, Houston, Texas, 12 September 1962. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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5.2 The challenge for the UK is for all employers to aspire to the standards of the best. The TUC understands that not every company can be a Rolls Royce and to compare all companies with those world- class examples is unfair, as things currently stand. Nevertheless, if we accept that a high value economy will require companies to raise their game, the onus is on all of them to become the best that they can be. 5.3 Lord Leitch introduced the concept of shared responsibility on investment in skills, involving all interested parties. For example, he recommended that the additional annual investment in skills up to Level 3 will need to rise by £1.5—2 billion by 2020. Under the scenario of shared responsibility, employers will be expected to significantly boost investment in intermediate and higher level skills, whilst government commits to increase investment to tackle “market failure” by fully funding achievement up to Level 2 and also providing targeted support at other skill levels. 5.4 As the quote from Gordon Brown in paragraph 4.2 made clear, we have thirteen years to create four- and-a-half million new skilled jobs. The vast majority of those must come from the private sector. That is the scale of the challenge to which employers must rise. 5.5 On innovation, it is important for companies not just to consider new plant and equipment, but also to recognise the role of innovative working methods. Lean production was incredibly innovative when first introduced in the UK by Japanese motor companies such as Nissan and Toyota in the 1980s. All of us, including trade unions, found lean production to be a shock to our systems, yet this production method transformed Toyota from being a middle ranking motor producer in the 1950s to one of the world’s biggest and most successful automobile manufacturers thirty years later. 5.6 Innovative working systems require a multi-skilled workforce, but they also require more devolution of decision-making to the shop floor. Some status-conscious first-line managers have struggled with that idea. The best decisions also require a high level of confidence among those making them, in an atmosphere in which reasonable risk-taking is rewarded rather than frowned upon. Such is the nature of innovation. 5.7 Similarly, companies must not regard innovation as something that other companies do. A company with that attitude will sink under the tide of globalisation. Innovative need not be as diYcult as it sounds. There is probably not a company in the UK that could not make simple changes to make it more innovative.

The Role of Trade Unions 6.1 Modern trade unions also have a part to play. In 2006, the TUC established Unionlearn, which was set up to help unions open more learning opportunities to their members, particularly those disadvantaged in the labour market. Unionlearn’s key annual target is for 250,000 learners to access learning and skills through the union route by 2010. Most of these will be advised and supported by union learning representatives (ULRs), which, in turn, requires the training and accreditation of 22,000 ULRs by 2010. 6.2 A major challenge for unions will be to take advantage of the Government’s Skills Pledge. This requires that employers provide free training for all employees who don’t have a first Level 2 qualification underpinned by Skills for Life. Unionlearn will actively promote this entitlement and help unions secure employer commitments to deliver the training. We will also assist unions to negotiate employee development through learning agreements and by establishing collective learning funds. 6.3 Many trade unions have also developed modern approaches to relations with management, that can help to improve both decision-making and employment relations. To give just one example, the Scottish Qualifications Authority, working with Unite and UNISON, hold regular consultation meetings, in which unions are involved in the development of human resources policy. Having achieved this, management and unions are now about to begin joint work on proactive strategic initiatives. A behavioural competency framework has been drawn up and a development needs analysis has been prepared, against which all union reps and human resources manages involved in this work are measured. Training and development to meet identified needs has been undertaken. 6.4 Such an approach to employment relations is highly innovative and could have an important role to play as companies seek to move up the value chain in response to globalisation.

Conclusion 7.1 In conclusion, the TUC agrees with the established consensus, that the UK can only remain competitive in the era of globalisation by creating a high value economy. In our view, it is necessary for us to move on from the prevailing UK economic orthodoxy, in which any strategic industrial objectives are characterised as “governments picking winners”. Lord Sainsbury provides an exciting list of industries where the UK can remain competitive or become competitive. That list is not exhaustive and, in particular, the value of the motor industry should be recognised, especially where high quality design, as exemplified by the new Mini, or high rates of productivity, as shown by Nissan, can provide a competitive edge. We must learn from the example of the best. We must ensure that ground-breaking ideas, such as wind turbine development, are developed in the UK, rather than going abroad, with the economic benefits enjoyed by competitor countries. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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7.2 The findings of the Sainsbury Review must be implemented. The UK’s basic research base is an outstanding asset and must be funded properly. A national campaign to promote the value of science, to inspire youngsters to take up scientific careers, is necessary. 7.3 There will be no place in a high value Britain for companies that do not train their workforces. Innovation, including innovative working practices, is also required. The trade union role in the promotion of skills and the adoption of innovative working methods must not be overlooked. 7.4 The TUC is happy to send these conclusions to the Trade and Industry Select Committee and would be delighted to give oral evidence if that would be of benefit to this inquiry.

Summary of Recommendations 8.1 The TUC’s first recommendation is to re-examine the industry statistics that are produced by the OYce of National Statistics. Although the way manufacturing and services are measured worked well in the past, the current definitions of those sectors are no longer fit for purpose. If we are to focus our energies on high value industry, first we must develop a greater understanding of what is actually happening, in manufacturing, services and at all points in between. 8.2 The TUC’s second recommendation is to develop a modern concept of industrial strategy that politicians and businesses are comfortable with. If that is to happen, the change will be as much about a new culture as a new policy. 8.3 The TUC’s third recommendation is that the Committee takes evidence from Nissan UK. The UK’s Nissan plant, situated in Washington, Tyne and Wear, has long held the reputation of being the most productive car plant in the whole of Europe. We congratulate Nissan on its success, but this does beg the question: if Nissan can do it, why cannot others also do it? Evidence from Nissan on the factors which contribute to its success and the lessons that might be learnt for high value production throughout the UK, would be very useful. 8.4 The fourth recommendation is to call for a national campaign to promote the value of science. Economists, including those in the Treasury, tend to value science because of the economic spin-oVs that come from scientific activity. There is nothing wrong with that, yet it is also important, especially if we are inspire the young and encourage them to take up careers in science—to show that we value science as an intrinsic good in itself. December 2007

Supplementary memorandum submitted by the TUC Thank you for inviting the TUC to submit supplementary evidence to the Business and Enterprise Committee inquiry into “Creating a Higher Value Added Economy”. This follows written evidence that we submitted to that inquiry in November 2007. In our view, recent developments in the world economy make this inquiry even more important. It is quite right that policymakers’ attention, in recent weeks, has been fully focused on the developing economic crisis and the measures needed to ensure that the UK is able to weather the storm. In quieter times, no doubt commentators will wish to consider how this happened. Most important of all, in our opinion, is to ensure that it never happens again. Let us be clear. The UK and world economies are set for very turbulent times. Things will get worse, possibly much worse, before they get better. A sharp upturn in unemployment is almost certain. An increase in poverty could be the result. It is diYcult, in these circumstances, to imagine that there may be some small silver lining to this cloud. Yet the TUC believes the financial collapse oVers us a once-in-a-generation opportunity to rebuild the UK’s economic system around principles of social and economic fairness. It also provides a chance to think about how we make money in our society. To debate what we mean by high value and how we create it, invest in it and share it. We must grasp this opportunity with both hands.

AModern Industrial Strategy In our earlier submission, we set out our belief in the need for a modern industrial strategy. We described the changes taking place in the nature of the world economy,especially regarding the rise of China and India. Recent news reports, which highlight that Chinese growth has been hit much harder by the economic downturn than previously envisaged, and has therefore fallen to nine%, show the phenomenal growth rate that has been experienced by that country. We have argued that, if the UK is to rise to the challenge of a new world economic order, we must focus more directly on areas of economic strength. The UK has introduced horizontal industrial support mechanisms, covering skills, research and development, innovation etc. The Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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TUC is happy to support these, yet in our view, a more targeted focus is necessary on those industries and sectors that are or could be competitive in the era of globalisation, and could remain competitive in the decades to come. Our criticism of the UK’s industrial approach in recent years has been twofold: first, it has focused too narrowly on financial services and the housing boom, at the expense of a wider range of industries; and second, industrial support has been rather “scattergun”, refusing to identify growth sectors for fear of being seen to “pick winners”, in a prevailing economic orthodoxy that values the role of the market in identifying successful sectors. In our earlier submission to this inquiry, we highlighted “The Race to the Top”, Lord Sainsbury’s report into science and innovation. This report specifies sectors where the UK could succeed in the future, including aerospace, pharmaceuticals, biotechnology, regenerative medicine, telemedicine, nanotechnology, the space industry, intelligent transport systems, new sources of energy, creative industries, computer games, the instrumentation sector, business and financial services, computer services and education. The TUC believes that, if the Sainsbury report was important in October 2007, when it was first published, it is absolutely vital one year on. So many of its recommendations are valuable. We particularly highlight the importance of science, technology, engineering and mathematical (STEM) skills at school, college and university level. Last month’s Ofsted report, highlighting that nearly half of all maths lessons are not good enough, was a cause for concern. The insight that children are being taught to pass exams, but are not equipped with the mathematical skills or knowledge needed for their future, is a carbon copy of criticisms made about wider STEM education, not least in the TUC policy document, “Hybrid Cars and Shooting Stars”. And, of course, Lord Sainsbury told us that we are looking at a 20-year decline in the number of children taking physics to A-Level. The TUC welcomes this week’s better news, showing increases in students taking degrees in maths and chemistry, with a small increase in physics, as highlighted by the Higher Education Funding Council for England, but we still have some way to go to match the levels of STEM education and training that we need. The TUC has called for better pay to attract science graduates into teaching and better careers advice to ensure that a scientific career is considered to be a viable option by children and young adults with an aptitude for science. We have also called for steps to eradicate stereotyping and gender sensitive teaching methods to attract more girls and young women into scientific disciplines and to keep them there. However, it is now time to go further. The TUC believes that skills policy must dovetail with industrial policy. Once we have highlighted the key sectors for our industrial future, we should ensure that centres of learning are geared to deliver the skills required by those sectors. Of course, all skills are valuable, yet if we are serious about focusing on key growth sectors, we cannot aVord a scattergun approach to skills which may deliver some, but not all of the skills necessary for our targeted sectors to succeed.

Procurement Policy The TUC has long championed the role that public sector procurement could play in support of a modern industrial strategy. We welcomed the publication of the Treasury/OYce of Government Commerce booklet, “Buy and make a diVerence”, which was launched at the TUC in June. This booklet describes the ways in which social, economic and employment objectives can be included in public sector contracts, in accordance with EU law. In the current economic circumstances, we would urge public sector bodies, including central government, to make full use of the opportunities provided by procurement law. For example, it would be possible to include contract clauses that provide for employment creation in areas of social and economic deprivation, which are particularly likely to feel the pain of a recession. Procurement can also be used to promote skills training, innovation and sustainability. These will be much needed practices as we seek to build a higher value-added economy after the financial crisis has subsided.

The Role of Employment in Industrial Policy The TUC believes that a central target for any successful economic and industrial strategy must be a specific level and quality of job creation. What we mean by this is that, since 1979, governments have taken the view that economic policy should be designed to promote steady growth, low inflation and low interest rates. If these objectives are achieved, it is believed, job creation will take care of itself. That is a questionable assumption to begin with. However, in the current climate, we have CPI inflation at 5.2%, with many commentators believing it has peaked, while unemployment is expected to reach two million by Christmas and is moving in an upward trajectory. No serious economic thinker expects falling inflation to result in falling unemployment in the short or medium term. In other countries, industrial strategies are designed with a number of objectives in mind, one of which is job creation. The TUC calls for a similar approach here. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Does this work? To answer that question, the TUC has looked at statistics from Eurostat, which show all those working in manufacturing, aged 15 years and over, across Europe, between the second quarter of 1998 to the second quarter of 2008. These figures tell us the following: — Manufacturing employment in the EU15 (“old” Europe) fell by 1,712,200 between 1998 and 2008 (In 1998 it stood at 28,994,000. By 2008, it was 27,281,800). — Manufacturing employment in the UK fell by 1,432,500 during that time. This means that 84% of the net loss of manufacturing jobs in the EU15 can be accounted for by the UK. — The UK has seen a loss of manufacturing employment year-on-year. Germany has lost just 143,500 jobs in those ten years, from a total of 8,127,100 in 1998, but saw manufacturing employment increase in 1999, 2000, 2006 and 2007. — Italy and Spain saw net gains in their manufacturing employment over this time, in Italy by 118,400 and in Spain by 379,900. Of course, there are other industries apart from manufacturing. However, we quote these figures because it is often presented as a truism that, with the growth of Asian producers and their abundance of cheap labour, together with the lower labour costs of Eastern Europe, manufacturing employment in richer Western European states will inevitably fall. The TUC believes there is no inevitability about this, but also that targeted industrial strategies, with a major focus on jobs created, are necessary.

Potential Growth Sectors In support of our belief in a modern industrial policy built around strategic sectors, the TUC has commissioned research that identifies growing sectors and considers the policy mix necessary to help them develop further. We looked in detail at a number of industries which have particular potential. Those sectors included: telecoms; films; civil engineering; and technical testing and analysis. The telecoms sector drives at least 3% of UK gross value added (GVA). It has grown more than twice the speed of the overall economy in recent years and achieved productivity growth of more than three times that of the overall economy.Because of its knock-on eVect on the whole value chain, it has the prospects of having a considerable multiplier eVect on the economy. Studies have shown that maximising the success of this sector alone could boost growth in the UK economy over the next ten years by 0.3% per annum. The film sector is currently relatively small, accounting for 0.2% of GVA and 0.1% of employment. However, its recent growth and productivity performance have been spectacular, both exceeding 20% per annum. Continued growth at anything approaching this rate will rapidly lead the sector into being a major contributor to the economy. Civil engineering accounts for 3.7% of UK GVAand 2.0% of employment. It has recently achieved growth of 5.7% and productivity growth of 7.0%. Technical testing and analysis is an emerging sector, but is generating explosive growth, with 18.7% GVA growth and 13.3% productivity growth. On this trajectory, this sector is also likely to become a major contributor to the UK economy. A number of cross-cutting themes have emerged in terms of government policy to support these growing sectors. Unsurprisingly, skills are a major issue, giving further weight to our argument for skills policy to dovetail with industrial policy, as described above. Other issues include risk and uncertainty aVecting funding, and the increasing importance of intellectual property,its legislative protection and the enforcement of that protection.

Immediate Measures The policies set out above describe how a high value-added economy might be nurtured in the medium to longer term. The TUC believes, however, that there are immediate measures that can be put in place to support the economy and provide much needed employment in the short term. The Chief Secretary to the Treasury, Yvette Cooper, is surely correct when, as quoted in The Observer, 19 October 2008, she praises “the power of government” as the only force equal to banks worth more than the GDP of some small countries. We welcome newspaper reports that the Treasury will use the forthcoming Pre Budget Report to fast-track targeted spending on large infrastructure projects. The TUC has been calling for such action and we are pleased that pressure from trade unions and other actors has paid oV. The Chancellor, Alistair Darling, is reported as highlighting housing and energy as classic examples where people are feeling squeezed. In construction, medical buildings, social housing and leisure centres might be built more quickly. Other projects, including the £16bn Crossrail development and the 2012 Olympic Games oVer potential. The TUC warmly welcomes the news that the Energy Bill will now include a feed-in tariV for small scale power generation. This could help to kick-start a new microgeneration industry, which might form a part of a green answer to the economic slowdown. This is a major shift in Government policy. We now ask the major power utilities to drop their opposition. Germany has implemented a renewable energy tariV. This has led directly to the installation of 130,000 solar power units in 2007 alone and the creation of a renewable energy sector employing 249,000 people, compared to 7,000 people in the UK. The German renewable energy sector now has a turnover of 24 billion euros. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Also significant was Gordon Brown’s announcement that thousands of loft insulators will be trained to help stop homes from leaking heat. This win-win solution will both help to create jobs and meet a social need. Some have sought to trivialise it, yet initiatives such as this are particularly welcome at this time. Housing is another sector in which fast-track, targeted spending could be eVective. The Government set a target of building three million more homes by 2020 in the 2007 White Paper “Homes for the Future: More AVordable, More Sustainable”. The proposed eco-towns oVer an opportunity to develop new skills in the building industry, which will be a vital prerequisite for meeting the target of making house building a zero- carbon industry by 2016. Providing a suYcient stock of housing is not only a desirable end in itself, it is also a necessary to ensure the well-being and mobility of labour. Clearly plans to increase the rate of house building will suVer a serious reversal unless further action is taken as a matter of urgency. The private sector is currently finding it impossible to deliver on the housing targets, so we must rely on the public sector to take up the slack. The Government has recently made a further £13 million available for local authorities to buy surplus private build for use as social housing. This is welcome, but a much larger intervention will be needed in order to deliver the planned homes and the skills development and labour mobility that is needed. With private housing in the doldrums, the provision of more social housing must be the highest priority. All of these initiatives will cost money, of course. However, in the current situation, additional borrowing is both justified and possible. Public sector net debt, at 43%, is low by international standards. Furthermore, the TUC recognises that, as the economy enters a recession, any tax increases would reduce demand and are therefore undesirable. Over the medium to longer term, we maintain that a fairer tax system, based on ability to pay and with tax loopholes closed, is necessary. 21 October 2008

Memorandum submitted by Unite the Union

1. Executive Summary 1.1. Unite believes the creation of a higher value added economy can only be achieved when government and industry recognise that equal weight must be given to the needs of workers and workers are given a voice and role in the company decision making process. 1.2. Unite rejects the assertion that the only way to achieve higher added value manufacturing in the UK is be extending further the concept of a flexible labour force. It believes that there are alternative social economic models which have delivered sustainable manufacturing jobs and growth elsewhere in Europe without compromising job security to the same extent as in the UK. 1.3. The UK invests less than other competing countries in research and development and is lacking in translating research and development into marketable products. Unite believes government has a role in stimulating UK investment performance that does not exploit workers and force companies to oV-shore. The right support for manufacturing investment will help address the failure to grow productivity at a fast enough rate in comparison with EU and global competitors over recent years. 1.4. Unite believes it is the education, training and skills agenda where government needs to act to create the higher value added economy. In the present global, knowledge driven economy, a skilled workforce can represent a distinct competitive advantage. However, this advantage is only of benefit if there is a highly skilled and highly motivated management structure within a company. Unite believes government needs to consider introducing a statutory training levy for employers where current voluntary arrangements are clearly not working. 1.5. Unite believes one of the problems adding to the low skills culture is the large number of mergers and acquisitions that happen in the UK. By advocating the “national champions” of manufacturing industry in the UK, government can support manufacturing as a sector. 1.6. Unite believes government oVers a broad definition of what elements constitute innovation. However, there are significant omissions.

2. Introduction 2.1. It is clear that the UK government is focused on creating a high value added economy. Some of the requirements for that high value economy are already being achieved: 2.1.1. an unemployment level that is stable; 2.1.2. an economy that has been growing for the past 10 years; 2.1.3. unprecedented levels of Foreign Direct Investment (FDI), and 2.1.4. a commitment by government to further economic growth in the UK. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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2.2. There are however, areas where government and business are not achieving the high value that is necessary for today’s economic climate. Research and development is an area where UK business excels in relation to quality but not in quantity and is under considerable threat from the emerging economies of India and China. Similarly innovation is an area where the UK excels but there are concerns that the UK workforce is being constrained in its capability to embrace new innovative practices due to the lack of investment in education, training and development. 2.3. Although UK manufacturing companies have been enjoying a quiet resurgence, the number of jobs lost in manufacturing in the last ten years is now standing at over 1 million217. A higher value-added economy cannot be created from the service sector alone. Manufacturing is vital to creating a high value- added economy. 2.4. Unite believes that both the public and private sector have a role in helping government to achieve their goal. For example there are a number of key procurement initiatives that the public sector could undertake to assist UK manufacturing industry. The private sector also has a strategic role in ensuring that the UK workforce continues to be trained and developed to embrace any future research and innovation within the UK manufacturing sector.

3. Definition of a Higher Value Added Economy

3.1. If the UK government is committed to its pursuit of a higher value-added economy this must include manufacturing. In a highly competitive global market the prosperity of the UK economy is dependent upon companies that deliver high value to the economy, the company and the employees. 3.2. Government is encouraging UK companies to “move up the value chain and to reap the benefits of high-skilled, knowledge intensive manufacturing operations”218, while striving for unique value and innovation. However, the attainment of this goal must not be at the expense of factory closures, job losses, oV shoring, out sourcing abroad, lack of training and development and ultimately a malaise in UK manufacturing industry. This is reflected in the DBERR value added scoreboard which identifies only six UK manufacturing companies in the top 30 for 2007. 3.3. Unite believes the creation of a higher value-added economy can only be achieved when government and industry recognise that they must give equal weight to the needs and voice of workers. This can only be achieved by involving workers and engaging with them on all aspects of development, restructuring and training. Government missed an opportunity to assist this process with the introduction of the Information and Consultation Regulations which fail to fully reflect the opportunities intended by the EU Directive. Related to this is the continued reluctance of government to accept that training should form part of the statutory collective bargaining issues. 3.4. Unite does not believe that a flexible workforce as defined and determined by employer organisations is a necessary ingredient to create a higher value added economy. Flexibility can only acceptable where workers are given a voice and a role in any decision making process and where appropriate employment protection legislation is in place.

4. Investment

4.1. Government investment in business, the workforce and the economy itself has never been more crucial. It is this investment that provides the enlightened economic environment that allows businesses to flourish, allows employees to enjoy the benefits of secure jobs and facilitates the wider economic benefits that this can bring to the UK economy. 4.2. At present, lack of internal finance is considered to be a significant constraint on investment in the UK. Twice as many firms in the UK cite this than in Germany and a third more than in France219. This lack of investment in UK manufacturing has been further exacerbated by the current problems in the global credit markets. 4.3. Globally the UK is ranked second only to the USA for attracting Foreign Direct Investment (FDI) and leads the EU. There are also significant results from the high growth economies of China—15.4% growth, India—44.4% growth and the Russian Federation—94.6% growth220. The UK FDI figure has been achieved in part through the current UK economic environment which oVers economic stability, low regulation and a flexible workforce. However, Unite believes there are alternative ways of achieving a higher value-added economy, by adopting the other social economic models. For example in Finland it is

217 OYce for National Statistics—UK snapshot. 218 Government Manufacturing Strategy Review July 2004, page 12. 219 EEF—Catching up with the Continent, Final Report on EU and UK manufacturing productivity, page 4. June 2004. 220 UNCTAD Investment Brief 2007—Table 1. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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acknowledged that there must be flexible labour practices but these must be negotiated with all stakeholders including trade unions and must not exploit workers or compromise the foundations of the Nordic model221. 4.4. Government has a clear role in stimulating UK investment performance that does not exploit workers and does not force companies to oV-shore. Greater and more eVective use of modern management techniques in conjunction with greater employee involvement would help to unlock the higher levels of productivity and profitability that are required to finance and encourage increased investment. Investment by business in improving skills, training, innovation and research and development would also reap unique rewards. As part of this process Unite believes government must now recognise the need to introduce a statutory training levy for employers who have failed to invest in training and skills. The current voluntary agreement is clearly not working. 4.5. Unite acknowledges that government is taking seriously the importance of research and development, with £1.8 billion of financial support, via R&D Tax Credits being paid out to over 22,000 companies222, 19,000 of which were small and medium sized enterprises. The union also welcomes the £1 billion committed to fund business innovation in the 2007 Comprehensive Spending Review. However, the UK still invests less than other competing countries in research and development and lacks the ability to maximise the translation of research and development into marketable products.

5. Skills and Training

5.1. Unite believes it is the education, training and skills agenda where government needs to act to create the higher value economy. The current level of investment in the training and skills sector is unprecedented. However, Unite is concerned that investment is not focussed in the most strategic way to achieve the desired outcome for UK business and the UK economy. Without a highly skilled workforce, UK manufacturing industry will continue its drift to other countries, with the loss of intellectual property, alongside job losses, being potentially the most significant problem facing UK manufacturing into the future. 5.2. Unite believes that a key economic challenge facing the UK in the next decade is a failure to grow productivity at a fast enough rate in comparison with EU and global competitors. A compelling feature of low productivity in the UK is a significant skills gap with our global competitors. The UK is the fifth largest economy in the world but only 13th in the global competitiveness league and only 18th in terms of GDP per head223. 5.3. Unite believes one of the problems adding to the low skills culture is the large number of mergers and acquisitions that happen in the UK. So far this year, there have been 112 mergers and acquisitions by foreign companies at a value of £12.6 billion224. There is a view that this level of economic activity can have a detrimental eVect on innovation and the training and development of the workforce within the companies that are taken over. The company focus is usually on restructuring and profit. Unite believes the unprecedented level of mergers and acquisitions also contributes to the level of poor management skills in UK companies. In the present global, knowledge driven economy, a skilled workforce can represent a distinct competitive advantage. However, this advantage is only of benefit if there is a highly skilled and highly motivated management structure within a company. 5.4. There is a further consequence of failure to adequately invest in skills development, seen most vividly in the construction sector, whereby employers will buy skills oV the shelf through migrant labour, a factor which adds to the casualisation of labour and is unsustainable in the medium to long term. 5.5. Training and development is crucial for the eVective management of human capital. Companies that under invest in skills development are also likely to ignore training and investment in management skills. Unite believes that investment in leadership skills would lead to improved staV management and would lead to a significant economic return for manufacturing companies. For example, in a company like Toyota, management have the ability to mobilize the intelligence of ordinary workers, facilitating the opportunity for the company to innovate and engage workers225. 5.6. Research has shown that UK companies lag behind their German and Norwegian counterparts when it comes to creating a progressive development ethos for managers226. They also have significant ground to make up in convincing line managers to take management development seriously. The research also shows that simply having the policies and appraisal systems in place did not guarantee that superior performance eVects would be achieved227. At present government policy has no provision for the implementation of best practice in the strategic training of management.

221 Globalisation and the European Economic and Social Model—Discussion paper for Parliament of Finland. 222 HM Revenue & Customs—Research & Development Tax Credits 223 OECD Employment Outlook 2007. 224 National Statistics -Mergers and Acquisitions involving UK Companies—4 September 2007. 225 Innovative Management—A conversation with Gary Hamel www.mckinseyquarterly.com 226 Skills and Economic Performance, Derek L Bosworth, Chapter 4 Management Strategy & Performance, page 251. 227 ibid Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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6. International Comparisons 6.1. The increasingly global market place means that economies that are moving up the value-added chain are at a comparative advantage over those of highly developed countries. They have the benefit of cheap labour combined with an abundance of skilled workers which, when taken together with an unprecedented level of technological change could sound the death toll for manufacturing in the West. UK government is in a unique position to assist and support UK companies and enterprises in breaking through these external markets and enabling them to export goods and services abroad. 6.2. By advocating the “national champions” of manufacturing industry in the UK, government can support manufacturing as a sector. Toyota has already been mentioned, Rolls Royce, BAE Systems and Shire are other companies that employ high performance workplace practices and reap the benefits with high levels of productivity and a highly skilled workforce. They have also had significant increases in their annual R&D growth in 2006228. While companies such as Astra-Zeneca and Unilever229 currently show a decline in investment in R&D as a result of being in a re-structuring position leading to substantial job losses. 6.3. The role of UK Trade and Industry (UKTI) cannot be expressed strongly enough. This is the mechanism that UK companies use to assist them to export. UKTI is doing an exemplary job of encouraging FDI but this is only one side of the market and Unite believes UKTI holds the key to the expansion of exports for UK manufacturing companies and the sustainability of the UK manufacturing sector. “British jobs for British workers”230 is a misnomer without the commitment and investment by government into UK manufacturing industry.

7. Innovation 7.1. Government has committed itself to an increase of public investment in the science base of 2.2% over 2007-8 to £18 billion231. However, Unite is concerned that this will not address the serious issue of the UK being fifth from bottom in a report showing the collaboration of higher education institutions with UK companies232. 7.2. Government must invest in the UK higher education system and in particular encourage UK higher education institutions to forge links with UK companies. This will ensure that any research and development or innovation will be kept in the UK and intellectual property will be protected. Unite notes the £150 million funding to the Higher Education Innovation Fund (HEIF)233 to strengthen links between business and academia and bring research to the market, but is concerned this figure is not nearly enough to provide for the level of increased innovation that is needed by the UK economy. 7.3. Unite believes government oVers a broad definition of what elements constitute innovation. However, there are significant omissions. These include: 7.3.1. employee engagement in the decision making process, 7.3.2. allowing the workers in a company to become involved, and 7.3.3. increased understanding about what the company objectives are and what the company is achieving.

8. Five Key Issues 8.1. The importance of the manufacturing sector cannot be underestimated when creating a higher value- added economy. Government needs to re-visit the UK manufacturing strategy, consulting and engaging all stakeholders in the process. 8.2. The current economic system in the UK requires modification to apply social model principles of achieving economic growth balanced with social benefits and worker participation and consultation. 8.3. Government needs to further encourage companies to invest in R&D and innovation. This could be achieved by increasing funding for the R&D Tax Credits system. 8.4. Unite believes government needs to oVer a strategic and pragmatic skills and training agenda. This should start in early education and run right through the whole education system. The current system is clearly not working and will exacerbate the current problems with skills shortages and skills gaps. Business must be compelled to invest in the training and development of their workforce. Voluntary agreements do not work. Government must introduce a compulsory training levy.

228 DTI—The R&D Scoreboard 2006. Top 800 UK & 1250 Global Companies by R&D Investment. Volume 1, page 99. 229 ibid 230 Gordon Brown speech—TUC Conference, Brighton—12th September 2007. 231 2007 Pre-Budget Report and Comprehensive Spending Review, DIUS, page 213. 232 OECD Science, Technology and Industry scoreboard 2007. 233 op cit Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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8.5. Government needs to increase its investment in Science and Technology, research and development, encouraging UK companies to develop marketable products and services. Unite believes £150 million is not nearly enough to foster positive links between higher education and business. This is a crucial issue for R&D and innovation. November 2007

Supplementary memorandum submitted by Unite the Union

SALE OF JAGUAR/LAND ROVER

1. Introduction 1.1. Over 12 months ago Ford’s senior management team were considering a sales package of Land Rover and Jaguar as part of a shake up of the company’s portfolio of upmarket British brands. Those considerations came closer to reality when UK politicians were briefed in June this year of its intentions and Ford appointed investment bankers to investigate the prospects for a sale. Now the company has moved to the final stages of sale through its discussions with three shortlisted bidders,—Tata, Mahindra & Mahindra and One Equity. 1.2. Unite is the major union recognised by Ford Jaguar/Land Rover and has been involved in detailed discussions throughout this process.

2. Factors leading to the decision to sell 2.1. Last year Ford Motor Company worldwide recorded losses of $12.7 billion. It has mortgaged its remaining assets, (excluding Jaguar/Land Rover and Volvo, its Premier Automotive Group, PAG), for $24 billion against which it is able to finance losses in to 2009. The cost of borrowing on this credit is enormous. 2.2. This situation has arisen primarily through the collapse of the US Market where Ford has been experiencing a decline in its market share over the last 10 years. Ford has taken a decision to restructure its global operations to match market share and this has already resulted in the closure of 14 plants in the US with the loss in excess of 50,000 jobs. 2.3. Competition from the Japanese car makers has led to a strategic decision for Ford to focus on its core products and remove itself from the premium car business. Ford has also previously enjoyed the benefits from the US truck market which has now been seriously damaged as a result or rising oil prices and the consequential impact on US fuel prices driving the business to switch to smaller cars. Earlier this year Ford disposed of Aston Martin and has also sold its Hertz Business. Whilst the company has stated that Volvo is not for sale at this moment, Unite believes that this will depend on the success of Ford’s recovery plan in the global market. 2.4. The Committee should also note that Land Rover will this year record its largest profits ever of $1 billion and the forecasted aggregate profits for Jaguar/Land Rover by 2010/11 is $3.3 billion. Given these positive projections it is apparent how desperate the current cash position of Ford Motor Company must be for them to proceed with this sale.

3. The likely future of Jaguar/Land Rover 3.1. Unite has made clear that its preferred option would be for Jaguar/Land Rover to remain as part of Ford in a major global manufacturer in the industry. However, Unite believes that the future of the UK plants will depend heavily upon the ultimate purchaser if Ford decides to proceed with the sale. 3.2. Tata has indicated strongly its intention to stick with the existing Jaguar/Land Rover long term business plan with additional investment going into new products and models. It has given assurances to the union that it has no intention of exporting jobs to India or elsewhere or doing anything that could undermine the integrity of the brands. It has stated that it would run Jaguar/Land Rover as an independent company and Tata’s record in similar ventures into Europe and the UK has suggested that its approach would be a hands oV one. 3.3. Mahindra & Mahindra, with financial backing from Apollo (Private Equity firm), is potentially the weakest of the three bidders in that the size of Mahindra is smaller than Jaguar/Land Rover and its previous interest has been focussed wholly on the Utility Vehicle market in India. Unite would have concerns that this might have for the future of Jaguar. 3.4. OneEquity, whilst led by former CEO of Ford, Jac Nasser, has made clear that its approach is that of a transitional owner with a view to taking an independent company to the stock market for flotation. Unite would have concerns that this could lead to job losses in preparing the company for a public flotation. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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4. The impact on R&D and innovation in the premium car market 4.1. Jaguar/Land Rover has two R&D sites at Whitley near Coventry and Gaydon in Warwickshire. All three bidders have said that they would retain these facilities and have no plans to move R&D elsewhere. Tata has specifically recognised that the technology and skills employed in the UK is significantly superior to anything they have in their own organisation. The UK has a No. 2 world ranking for premium car production and the retention of Jaguar/Land Rover R&D and design facilities is crucial to the success of this end of the automotive market in the UK. 4.2. Unite is concerned that the initiatives taken by the Advantage West Midlands (AWM) Premium Automotive R&D (PARD) Programme aimed at enhancing the manufacturing and design capabilities of automotive supplier companies particularly in the Midlands, could be undermined were the area to lose key R&D sites such as Whitley and Gaydon. It is therefore vital that the sale of Jaguar/Land Rover does not lead to the loss of these facilities.

5. The impact of public procurement decisions on Land Rover 5.1. Current procurement policy with regard to Land Rover ensures a significant sales outlet in terms of Range Rovers to the Police and Defenders to MoD and Red Cross. Whilst the volumes are not massive the high profit margin of these vehicles means that any negative change in policy would impact heavily upon company production and profitability. The consequence of such a move would inevitably be a loss of jobs. 5.2. Unite has publicised recently the results of its own research into public procurement in the automotive industry which demonstrated that government could do much more through intelligent procurement policies to secure jobs in the UK car vehicle industry.

6. Impact of climate change agenda on the premium car market

6.1. Unite is clear that the climate change agenda has already had an impact on this market and that this impact is likely to grow significantly in the future. Currently the average CO2 emissions of Jaguar/Land Rover is 174 grams per km. The EU Commission is seeking to introduce a limit of 130 grams per km in the future. Ford Motor Company is assessed on its average emissions for the whole range of products and so the lower emissions of its main products help oVset the high levels of premium models. 6.2. Once Jaguar/Land Rover becomes a stand alone company this oVset protection is lost and there is no way that it could ever meet the new target being demanded by the EU Commission. Unless governments are prepared to recognise this and negotiate a diVerent tariV, with built in targets for gradual reduction, for the premium car market, Unite believes that this segment of the automotive industry will be killed oV completely.

7. What can government do to ensure that high value added manufacturing such as Land Rover/ Jaguar remains UK based

7.1. 19,000 UK jobs are directly at stake with the sale of Jaguar/Land Rover, with a further 40,000 jobs dependent on the company. Unite expects the government, in line with its own manufacturing strategy, to recognise the strategic importance of such a company to the UK economy both in terms of the high skilled jobs it provides and also by virtue of the contribution it makes to the R&D and innovation base of UK manufacturing. 7.2. In the short term, government should protect taxpayers’ money that has been rightly ploughed into the company over the years and consider taking an equity share in the company. Jaguar/Land Rover is without doubt a manufacturing champion within the UK Automotive industry and the UK government should ensure that its recently announced manufacturing review addresses the long term strategic needs of the UK manufacturing base. 7.3. Government did not shirk its responsibilities when it invested £24 billion in Northern Rock to ensure its survival, Unite believes that it would be money well spent if similar action was taken to underpin the future of Jaguar/Land Rover. 7.4. The Committee is also reminded of the original evidence submitted by Unite on the key factors that must be addressed to ensure the retention of higher added-value jobs such as those at Jaguar and Land Rover. December 2007 Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Memorandum submitted by Universities UK

Introduction 1. Universities UK is the representative body for the executive heads of UK universities (Vice Chancellors or Principals) and is recognised as the umbrella group for the university sector. It works to advance the interests of universities and to spread good practice throughout the higher education sector. We are pleased to submit evidence to the Business, Enterprise and Regulatory Reform Committee on Creating a Higher Value-Added Economy. 2. This note gives Universities UK’s answers to the questions posed in the remit of this inquiry. In answering these questions we cover: — The contribution of higher education to a high value-added economy; — the success of UK universities in research and the challenges from competitor countries in this area; — Universities UK’s view on Government support for research & development, — Universities UK’s view on Government support for business collaboration and knowledge transfer — the need for adequate funding of the Technology Strategy Board — the importance of adequate information on Intellectual Property; — the contribution of the creative industries to an innovative economy.

What is Meant by a High Value-added Economy?Which Business Activities Qualify as Such? 3. Business-university collaboration brings much-needed added value to the economy, and enterprise is now firmly embedded into HEIs’ activities. For example, the most recent UNICO survey of university commercialisation (from the financial year 2003–04) showed that in the past two years alone, 20 spin-out companies from UK universities had floated on the stock market with a combined value of over £1 billion. The most recent Higher Education-Business and Community Interaction (HE-BCI) survey published by the Higher Education Funding Council for England (HEFCE) in 2006 has demonstrated a continuing upward trend in the volume of business-university interactions. Universities are also major businesses in their own right: they have an income of more than £17billion and with around 350 000 employees are one of the main employers in many UK cities. Universities play a key role in the UK economy, generating £43 billion of output per year and creating 270,000 jobs in the wider economy.

How UK Business Compares Internationally in Areas Such as Research and Development, Creativity and Design/What can be Learnt from the Experiences of Other Countries in this Area and how Fast Other Countries are Moving Up the Value Chain 4. Given the importance of higher education to the economy sustained investment is essential. Current levels of investment—public and private—in higher education represent a major challenge. 1.1% of GDP is spent on HE in the UK, which is on a par with Japan, but below the levels of key competitors such as Australia (1.5%), Canada (2.5%), the US (2.7%), and South Korea (2.7%). This is not just a UK problem; the European Commission has estimated that to close the investment gap with the US, Europe would need to invest an additional ƒ150 billion per year on higher education. 5. The UK also spends less on R&D as a percentage of GDP than its comparators (currently 1.8%). The UK is 18th in relation to the 21 OSI comparator nations for which data are available and 7th amongst G8 nations. 6. Recent OECD projections show that China will this year, for the first time, spend more on research and development than Japan and so become the world’s second highest investor in R&D after the United States. China’s spending on R&D as a percentage of GDP has more than doubled from 0.6% of GDP in 1995 to just over 1.2% in 2004. In current prices, this represents an increase from just over USD 17 billion in 1995 to USD 94 billion in 2004. It is increasing even faster than the growth in the Chinese economy as whole, which is up by between 9 and 10% a year. 7. Research Councils UK’s new International Research Strategy document (www.rcuk.ac.uk/cmsweb/ downloads/rcuk/publications/international.pdf) profiles the UK’s record on international research. It notes that “35% of 700,000 catalogued research articles published by UK-based researchers over the last 10 years have a co-author from another country. Almost half of all PhD students and around 40% of all researchers in the UK are non-UK citizens.” It also warns that China and India are fast catching up with some of their western competitors, saying: “research spending in China and India has grown rapidly and China’s share of world publications has increased to 6% in 2005 from 2% in 1996”. 8. In June 2007 a report by Evidence Ltd for the former UK OYce of Science and Innovation showed that UK scientists are engaged in 50% more international collaborations than ten years ago and that the UK collaborates more with China than any other European country (http://image.guardian.co.uk/sysfiles/ Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Education/documents/2007/07/13/OSICollaborationSummaryRepo.pdf). China, for its part, more than doubled its volume of research collaborations. A few weeks later, however, a Commons Science & Technology (S&T) Committee report on the research councils warned that the UK’s position as a desirable international partner was “slipping”. (www.publications.parliament.uk/pa/cm200607/cmselect/cmsctech/ 472/472.pdf)

The Impact on Business of Government Efforts to Promote Research and Development,Including the Research and Development Tax Credit 9. Universities UK supports the stability and growth in public investment that has been provided by the 10-year Science and Innovation Framework and the subsequent Next Steps document. The importance of strategic investment in the science base is clearly recognised by Government. 10. Universities UK supports the existing successful incentives provided by Government to promote industry research and development (R&D), notably the R&D tax credits initiative. We strongly support R&D tax credits extension to companies with less than 250 employees, which, in a SME-dominated economy, is vital to achieving the government’s targets for research and innovation. 11. A relatively low take up of the scheme by business suggests that it would benefit from more eVective marketing. Bureaucracy and local IR oYce interpretation have also acted as a barrier to the scheme working to good eVect. A culture change is required by HM Revenue and Customs so that it is not perceived by SMEs to be making it diYcult for them to take advantage of such schemes. Guidelines for R&D tax credits have historically excluded activity in the creative and other growing sectors, such as financial services and business consultancy. Restrictive guidelines have meant that the R&D tax credit simply does not work for many companies trying to innovate new services rather than new physical products, because their “R&D” is not suYciently compliant with standard Frascati definitions of science. We would recommend that the current definitions of R&D, which underpin government support for research and innovation, should be revised to take account of growing and emerging industries. Further work is also needed to gain a better understanding of the R&D dynamics operating within the growth sectors as detailed above. We would further recommend that consideration be given to a tax credit regime, as well as the exploration of other financial incentives, that encompasses innovation and not just R&D. 12. It is also important to recognise that research in universities often involves synergies between diVerent sources of funding (including both charitable and commercial sources). However, it is noted that current VAT regulations do not recognise this and can act as an inhibitor to collaborative research. Universities UK would suggest that the review consider how the current rules on VAT, as they relate to R&D activity, could be rationalised.

The Progress that has been made on University/Business Co-operation and Knowledge Transfer Since the Publication of the Lambert Review in December 2003 13. As indicated above, higher education is now worth £43bn a year to the UK economy, more than the aircraft or pharmaceutical industries, which represents an increase of £10bn over four years. All the evidence suggests that the direct economic importance of higher education will continue to grow in the future. 14. Universities oVer a range of services that can be utilised by industry. These include research facilities, research expertise, consultancy and continuing professional development (CPD). Relationships between a business and a university often start from an initial contact in one area and develop in depth as each comes to understand the full range of the other’s needs and capacities. Much of this progress is evidenced in the HE-BCI survey. 15. The Government’s commitment to a permanent source of third stream funding, through the Higher Education Innovation Fund (HEIF), has been extremely successful in stimulating knowledge transfer, business links and other forms of employer engagement such as continuing professional education. The move to formula funding for HEIF in the 2004 Spending Review has delivered more consistent and predictable funding for HEIs in this area. Formula funding has encouraged many HEIs to oVer career track positions to knowledge exchange staV for the first time, which has made an important contribution to the changing culture in HEIs. The settlement for HEIF in SR2007 at last meets the recommendations of Lambert’s review and makes a commitment that funding will rise to £150 m per annum by 2010–11. The 100% formulaic allocation will reduce the burden on universities but it is important to ensure that there is continued support and appropriate mechanisms for fostering collaboration in the type of innovative activity previously funded under the competitive element of HEIF. 16. Regional Development Agencies can, in some cases, play a distinctive role in working with business, especially SMEs, to encourage increasing access to the research base of universities. The added value that the RDAs can bring in many regions in the area of knowledge transfer is through their understanding of the company base—RDAs can play an important role in facilitating, encouraging and supporting relationships between universities and business. However the bureaucracy involved in submitting funding applications to RDAs has presented a serious barrier for universities, and support from RDAs has been found to be Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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restricted by location. Universities have pervasive impacts across regional boundaries and it is therefore crucial that the regional framework does not act as a barrier to the enhancement of science and innovation. RDAs need to strengthen their capability to cooperate and collaborate across regions in support of R&D. 17. Many universities have made excellent progress in developing and exploiting links with SMEs and public and voluntary organisations. However because SMEs often have little money to invest in research and innovation, further support is needed if they are to progress along the ‘innovation escalator’ through their increased interaction with universities, starting with the employment of graduates and moving towards increased engagement in R&D activity.Some concern has been raised that the move to full economic costing for university research may have implications for university-business links, particularly links with SMEs. However, a recent UUK survey, which explored these issues, has demonstrated that HEIs are taking sensible and informed strategic approaches to pricing following the adoption of full economic costing, balancing factors such as: the cost of the project; the need to ensure sustainability across all activities; the strategic worth of the project to the university (both financially and non-financially): the perceived value of the work; and the university’s market position. 18. The government’s flagship Knowledge Transfer Partnerships (KTPs) are widely acknowledged to be successful by both the business and university communities. One of the key reasons for the success of KTPs schemes is its staV-oriented approach. UUK has long pressed for expansion of and continued support for KTPs which are extremely valuable to the sector, but have suVered from a lack of funding. The Sainsbury Review recommended a doubling of the KTP scheme—now to be managed by the Technology Strategy Board (TSB)—and made more flexible and responsive to business with shorter period (3-12 month), low bureaucracy, mini-KTPs. Given the proven value of KTPs we hope that the new improved scheme is now supported with suYcient funding and resources.

Graduate Employability 19. Universities produce around 260,000 graduates a year and equip them with the skills they need to perform successfully in an increasingly competitive workplace. This includes both specific and generic, transferable skills such as creative thinking, problem solving and the ability to analyse complex information. There are also many examples of where universities are embedding enterprise into degree programmes as well as seeking input from employers on curriculum design and delivery. There has been a long history of successful collaboration through work placements as part of undergraduate and professional programmes. Universities are increasingly working with employers to deliver the skills they need and value. 20. Skills up to and including Masters and Doctoral level programme are a key driver of innovation, entrepreneurship and creativity within the economy, and are critically important for our competitiveness in the global knowledge economy, in which emerging economies are increasingly knowledge-based and are investing in their own higher education. Professional Masters and Doctoral Programmes in particular provide a mixed university-business environment for the acquisition of high-level, specialist skills that are vital for innovation and competitiveness.

Intellectual Property 21. Beyond the IP model contracts which were developed following Lambert, the complexity involved in obtaining and enforcing IP rights often acts as a barrier to university-business collaboration and remains an area where improvement is needed. Many HEIs struggle to pay for IP protection and enforcement is even more of a problem. The various time limits, deadlines and formalities mean that the system is accessible to those with the resource and know-how to satisfy the requirements, but acts as a barrier to others. Removal of these barriers would encourage investment in university research and start-up companies, and stimulate economic growth. If UK Plc is to become more competitive, incentives within the fees structure are needed for those who have limited expertise and resources available to them.

Research Careers 22. Universities have been working hard to ensure that researchers are equipped to be adaptable and flexible for career paths in academia and industry. Significant progress has been made through the Roberts’ and Research Careers Initiatives. Work is underway to revise the current Research Careers Concordat further strengthening the attractiveness and sustainability of research careers and embedding skills training. What the Government can do to further promote higher value-added business activities and innovative thinking among UK businesses. 23. The Sainsbury Review contains an assessment of progress and performance based on the work and thoughts of HEIs, business, trade unions and government and makes recommendations about how to improve the conditions for innovation and notably to “support a restructuring of British companies into high value goods services and industries”. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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24. The new Technology Strategy Board (TSB) aims to address the problems that business face in doing this. However the Review does not indicate the level of funding required to implement these recommendations. Treasury has announced that the TSB is ‘to receive £1 billion of funding over three years’ £700m in core funding; plus £120m from the Research Councils for joint projects and £180m in partnership from the RDAs. This only amounts to around half the funding that the CBI suggest is needed for the TSB to be really eVective. One issue will be whether funds committed in partnership from the Research Councils and RDAs, can be matched by support from government departments and agencies seeking to develop and procure innovative technology. Government can ensure that the new TSB is appropriately funded, and has the necessary support to carry out this new role eVectively.

The Impact of Nationality of Ownership on the Location of Research and Development Work 25. There is still a need for better provision of IP information to UK businesses at home and abroad; The Gowers Review of Intellectual Property addressed this issue and recommended consulting on a proposal to enable fast-track litigation to be used in IP cases; and support for the establishment of a unitary Community Patent (COMPAT) which will substantially reduce the cost of patent applications in Europe (currently twice as expensive as in the USA). This will address the fact that it is expensive to obtain and defend IP rights in the UK, and costs spiral when securing rights internationally. 26. Global IP protection is more important now than ever before, especially for small companies whom via the digital/internet revolution can more easily access markets worldwide. IP systems are well established in Europe, USA, Japan and a number of other key markets; however India and China are significant growth economies that still have to develop their IP systems and procedures. The more UK Government can put pressure on these countries to improve their approach in this field the less likely we are to lose control of IP that is important to the development of the UK economy.

The Effectiveness of Machinery of Government Arrangements in Encouraging Innovation and Creativity 27. The creation of a new department responsible for Innovation, Universities and Skills (DIUS) showed Government awareness that universities deliver not only the ideas—but also the skills—the UK needs. Universities are also central to the delivery of high-level science, research and innovation, so bringing these budgets under one department cements this relationship. 28. We also support the creation of the new business-led Technology Strategy Board. As the role of the Board is enhanced, it is vital that the focus on technology does not exclude key areas of innovation, such as the creative industries, and that the concept of reach-out to industry is widened eVectively to reach SMEs which are such a large part (80%) of UK business. 29. The Creative Economy Green Paper (due to be published shortly by DCMS) is expected to provide the fullest analysis yet of the creative sector’s importance to the UK economy and is expected to propose a policy framework for the next 10 years—we hope that this will re-emphasise the importance of creativity and innovation across the sectors. 26 November 2007

Memorandum submitted by the University of Hertfordshire The University of Hertfordshire is pioneering a “business-facing” mission and is committed to being at the forefront of both the high-level skills and the innovation agendas. We believe these are closely inter-linked. The University is focused on supporting wealth-creating companies in R&D, innovation and high-level skills development activities. Located within one of the highest concentrations of knowledge-based industries in the country, the University is well-placed to support and influence the development of value- added sectors of the economy. In essence, this is about focusing on how we serve the needs of business and our students, both in the UK and internationally. From equipping world-class graduates with the right mix of academic and practical skills, to providing support and innovative solutions to businesses, Hertfordshire concentrates on empowering its stakeholders to meet the demands of the regional, national and global skills economies. To this end, the Vice-Chancellor has been involved in the Sainsbury Review of Science and Innovation Policies, leading to the University of Hertfordshire being highlighted as a model example of a business-facing university. Hertfordshire is also one of the six universities, chosen by HEFCE to take forward a new business-facing model of HEI. It is our partnership with business that provides us with a valuable insight into the five areas of discussion addressed below, which we would like the Select Committee to consider as part of its Inquiry into: “Creating a higher value-added economy.” Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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Q1 What is meant by a high value-added economy? What business activities qualify as such? The University of Hertfordshire would endorse the CBI’s view that R&D is only one input into innovation. “Knowledge investment” is made in many ways, including investments in human capital, building organisational capability, incremental innovation, process improvement and reputation / branding. It is critically important that innovation does not become understood in a narrow scientific/technological R&D sense. It follows from this that universities can support innovation in diVerent ways. While a corporation may wish to commission exploratory investigative work from a research-intensive university, the same company may also want to work with a business-facing institution on exploitation, business processes or other aspects of innovation. Business-facing universities will also play a critical role in supporting innovation with the SME community, who can access the problem-solving capability of a university focused on and able to respond to business need across a wide range of issues. The University of Hertfordshire model of engagement with SMEs, which includes ownership of its local BusinessLink, as well as provision of incubation space and extensive KTP involvement, is one we would be pleased to explore with the Committee.

Q7 The progress that has been made on university-business co-operation and knowledge transfer since the publication of the Lambert Review in December 2003 The University of Hertfordshire’s Vice-Chancellor was a key contributor to the working group on this topic that reported to the DIUS Funders’ Forum in September. The group concluded that while in the main the system is working well, there were some important issues around the (over-)valuation of IP, clarity of messages from Government and the negotiating processes engaged in prior to collaboration. We would urge the Committee to consider the findings of the report, based on expert evidence and analysis from academic and industry stakeholders. Progress has been made since the Lambert Review, and certainly the emergence of business-facing universities is evidence of a significant degree of culture change within part of the HE sector. Funding streams have provided a level of incentive for institutions with an appropriate mission and focus to pursue employer engagement, knowledge transfer (although we would prefer “knowledge exchange” as an explicit acknowledgement of the two-way nature of the process) and innovation-related activities. The extent of sector-wide change is demonstrated by HEFCE-produced statistics on university-business interaction. However, both QA and funding systems have inhibited the agility and responsiveness of universities and are a particular concern to those institutions taking a clear business-facing mission. A challenge in creating a higher value-added economy will be to create an operational framework that allows creative and entrepreneurial universities to be responsive to the business needs of innovative companies.

Q8 Whether business and government interpret innovation too narrowly We would argue that, historically, the emphasis on research has not allowed the UK to develop its commercialisation capacity—that is, our capacity to translate new and existing knowledge and technology into new and better solutions. A new focus on “innovation” has the potential to address this issue. The CBI submission uses the term “servicisation of technology”—transforming technology into a workable service oVering. We see a key role for business-facing universities in supporting businesses to apply and optimise knowledge and technology. Incremental innovation can take businesses of all sizes forward and should not be undervalued compared to more radical steps.

Q9 What the government can do to promote higher value-added business activities and innovative thinking among UK businesses Universities, and particularly those focused on the needs of business, will be key agents in any knowledge economy. While certain sectors and certain types of business will be well linked in to universities, there remains a pervasive lack of awareness among UK companies of the breadth of what HE can oVer (9% of UK businesses are linked to a university). Any means by which contact can be encouraged by Government is to be welcomed, and we would support the CBI’s call for a “first engagement voucher”, as a pilot initially. We would again point to the Funders’ Forum report and the importance of clear messages on the purpose of collaborative activities for universities. A steer from Government that generating institutional income from research exploitation is not the highest priority for universities may help to encourage greater openness to collaborations with industry. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Q11 The eVectiveness of machinery of government arrangements in encouraging innovation and creativity

The creation of DIUS is a positive development and should help to release more of the potential of universities to contribute to innovation and growth. Universities have a broader role to play than the generation of new knowledge through “breakthrough science”; HEIs’ support of process improvement, incremental innovation, training and development will bring significant benefits to economy and society. The Technology Strategy Board has a key role. Its location adjacent to the Research Councils should help to develop synergies with their work, for example in knowledge transfer, but its mission and purpose are distinct. Clear messages from Government on this will help to prevent mission drift. There is a tension inherent in RDAs between their economic development and regeneration remits. DiVerential funding supports those regions with the greatest regeneration needs at the expense of those that generate wealth through innovation and creativity. Yet the regions of the Greater South East exhibit the greatest levels of innovation and research—the lifeblood of knowledge-based industries. This system does not allow these regions—the only net contributors to the national balance sheet—to give their Science and Industry Councils access to a pool of money appropriate to the scale of potential regional investments in high value-added activities. Continued under-investment in wealth-creating regions and their innovation activities will have a detrimental eVect on the capacity of the UK economy to support vital regeneration work. Regional structures can also inhibit the cross-border working and collaboration that business needs. Business, and perhaps especially innovative companies, do not and cannot recognise administrative boundaries; regional borders must not inhibit the formation of the kind of partnerships that drive innovation. Coherence between regional and national approaches will be a priority and the Sainsbury Review has addressed this issue to some extent. The current configuration of RDAs does not incentivise them to think in terms of competition rather than complementarity. The CBI submission proposes that each region may take the lead on a specific aspect of innovation/technology, others supporting. A mechanism would be needed whereby regional and national government could establish priority areas for regional leadership and which region had the best fit each area in terms of its own needs and strengths. We would support in principle a plan to bring coherence to the innovation agendas at national and regional level; such an approach would help to boost innovation and excellence by focusing resources, both financial and intellectual, and remove the potentially detrimental element of competition between regions. October 2007

Memorandum submitted by West Midlands Technology Network (WMTN)

1. Introduction

1.1 The West Midlands Technology Network (WMTN) warmly welcomes the Select Committee’s inquiry “Creating a Higher Value-Added Economy”. 1.2 The WMTN is a collaboration between 11 top research departments drawn from universities and colleges in the West Midlands. Over the past 4_ years the WMTN has achieved considerable success by working in partnership with SME’s in the manufacturing and emerging industries. We work with companies to identify the developments they need to enhance their business and then use our research skills to develop bespoke, practical solutions. 1.3 The Network has already has provided over 900 business assists to over 650 companies enabling them to enhance their products and services through the practical application of innovation. These are 900 real examples of using knowledge to enhance and develop new products and services. Over 90% of partner companies surveyed in 2006 were fully satisfied with the quality of their experience. 1.4 Through its activities the Network has secured and created 1,300 jobs and over £50.2 million of new / safeguarded sales in addition to £5.1 million consequential R&D spend. The WMTN is on course to meet or exceed the output targets agreed with our funders, the European Regional Development Fund (ERDF) and the European Social Fund (ESF) administered by Government OYce for the West Midlands (GO-WM)

1.5 We believe that we have successfully developed a practical approach to creating productive relationships between higher education research institutes and industry. We want to share with the Committee our experience and ideas for creating a higher-value-added economy. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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2. Evidence

2.1 In an increasingly competitive world, the future prosperity of our country depends more and more on the practical application of innovation by UK companies, both large and small. Key to improving the UK’s productivity and competitiveness is the transfer of knowledge and skills from our universities to the private sector. 2.2 The key to the WMTN success has been its ability to engage with small and medium size enterprises by providing practical support to develop all elements of their partners’ activities. These range from product design and development, to implementing processes that improve management and the delivery of goods and services. 2.3 From 2006 the Network has enhanced its services to include high level accredited training of the management and staV of collaborating companies. This includes both core skills and highly tailored training that specifically relates to a particular company’s activities. The WMTN has used a range of techniques, including e-learning, to provide support in ways that are most practical for its busy private sector partners. 2.4 A large part of WMTN’s success has been in understanding the needs of SMEs in its region, engaging with them in close and trusting partnerships and collaborating to deliver innovative but practical ideas that directly enhance their products and businesses. The skills transfer has been two-way, with our staV learning from their private sector partners so that they can pass this knowledge on to future partners. 2.5 With a proven record of success, we believe that the WMTN is a model for the transfer of knowledge, skills and technology through collaboration between higher education and the private sector.

3Post-Lambert Environment

3.1 The Lambert Review criticised government funding for technology transfer and university-business collaboration activities as being cumbersome, unduly ring-fenced and short-term and it is questionable how much has actually changed since December 2003? 3.2 For those Universities that attempt to build the necessary infrastructures to interface with businesses eYciently they are still trapped within short-term funding cycles and changing paymasters both of which control their sustainability. 3.3 This is prohibitive to maintaining continuous and eYcient long-term relationships with small business owners based on continuity, trust and longevity. Lambert recommended substantial, permanent and consistent third-stream funding for universities. 3.4 In addition the Lambert Report acknowledged that the main challenge in business-university collaboration is on the demand side. There was the recommendation for action from the Government to encourage business to engage further with Universities, especially in the case of SMEs. The Lord Sainsbury Review published 4th October 2007 announced a doubling in the amount of Knowledge Transfer Partnerships (KTPs), a scheme which is widely accepted as a gateway for graduate knowledge in the SME sector. 3.5 However, further measures are required to encourage SMEs, with limited resource available for research and development, to engage with Universities. 3.6 In addition SMEs do not always perceive universities as being relevant to, or interested, in their specific development issues. 3.7 The WMTN recognised this need for innovation and has provided the very practical response that has appealed to this sector. Some examples of our many successful partnerships are given in Appendix 1

4. Recommendations

4.1 Based on our experience we have made two clear recommendations for improvements that would assist the creation of a higher value-added economy, which we set out in the following paragraphs. 4.2 We recommend that the Government establish a series of beacon research projects for specific elements of economic activity that have been proven to work so that these can become national models 4.3 In addition we recommend that the Government provide substantial, permanent and consistent third stream funding for universities to establish of business support Networks assisting small, medium and large companies to progress and develop robust new product development activities using academically endorsed and proven processes. 22 October 2007 Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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APPENDIX 1

WMTN in action Barney Gardner’s Birmingham based company, Footrite, wanted to develop a new form of insole to meet the growing demand to correct feet and back problems. Using the latest computer technology WMTN helped him to design a better looking and better performing product which is now being produced and sold worldwide. Coventry based ABC Plastic products Limited benefited from prototype modelling and product testing when developing a new product range in order to diversify the core business into new markets. Chris Collyer, Managing Director acknowledges that the WMTN were able to provide the inspiration and real support needed to progress the project to the final stages. Fire Protection Coatings Limited, a leading manufacturer in the provision of flame proof/fire retardant coatings is celebrating having been able to introduce a unique product, new to market thanks to the assistance provided by the WMTN. They received engineering design input and assistance including CAD development and prototyping technology and the introduction of the new product has not only safeguarded existing jobs it has generated new sales of up to £1.5 million and provided opportunity for patent spin oV and application to other problems.

Memorandum submitted by the Work Foundation

Section 1: A Higher Value Added Economy The transition towards a high value added knowledge based economy is recognised in the recent Sainsbury Review of science and technology policies. The review rightly says that the only response for the UK to globalisation is to restructure the economy towards higher value added goods and services and that policy can help “position the UK as a key knowledge economy at the forefront of 21st century innovation”. All economies have in part been based on the exploitation of knowledge and all economies have included what might be termed higher value added goods and services. There is no sharp divide between an “old” and a “new” economy. A better term used by some academic commentators to describe the change is that of a “soft discontinuity”. The defining features of a knowledge economy include: — the creation and exploitation of knowledge and other intangible assets is becoming the basis of competitive advantage and is leading to the emergence of new economic structures; — these processes are most obvious in high tech industries and “knowledge intensive services” but in reality operate across all industries and all forms of economic activity; — distinctive features are the development of cheap, powerful and pervasive general purpose information and communication technologies coupled with mass education to graduate level and beyond; — the emergence of mass consumer and business markets and demand for public services for high value added knowledge based services and products. The knowledge economy is a story of how new general purpose technologies have combined with intellectual and knowledge assets—the “intangibles” of research, design, development, creativity,education, science, brand equity and human capital— to transform our economy. It is a universal process, operating across all sectors of the economy—manufacturing and services, high tech and low tech, domestic and internationally traded, public and private, large corporation and small enterprise. In doing so, the traditional boundaries between sectors such as manufacturing and services are disappearing and previously unnoticed industries—such as the creative sector—have emerged as major employers, generators of value-added, and exporters. The change to a knowledge economy is happening on a global scale—a transformation taking place in all advanced industrialised economies and to which many developing economies aspire. And as a result, global markets in ideas and knowledge are being created which oVer a new comparative advantage for advanced economies like the UK facing the challenges of competition from low wage economies. Our basic model in explaining why we are seeing the restructuring of economic activity is that it is demand driven, with more sophisticated, more demanding, and better educated consumers and business generating growing demand for high value added goods and services. Technological development has acted on both the demand and supply side, but has primarily been a supply side enabler. Globalisation acts as an accelerator that has speeded up the process on both sides. In other words, had China, India and Eastern Europe remained closed economies we would still have seen the shift towards high valued added production but at a much reduced pace. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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A more pessimistic interpretation is that globalisation will eventually undermine the shift towards a high value added economy because China and India will also enter world markets for high tech products and services—as they already have for some computer manufacturing and IT services. Some commentators who support this interpretation argue globalisation is occurring in two overlapping waves. The first wave has seen low wage manufacturing shift to developing economies in Asia and Eastern Europe. This process is still continuing. However, a second wave is now said to be underway focused on the transfer of services across all industries through oVshoring rather than particular sectors. It is argued that increasingly it will be high value added services that move while lower value added services that are hard to trade internationally remain at home. Some refer to the danger of the emergence of a “low wage-high skill” economy.234 Our assessment is that the threat of globalisation to the knowledge economy through oVshoring has been exaggerated.235 As we report below, the UK has a significant comparative advantage in knowledge service trade and there is little sign that this is being seriously challenged. However, we strongly caution against complacency.Competition in knowledge services trade will increase both from other OECD and non-OECD economies. We expect much more trade in knowledge based services and associated FDI flows both between the UK and other OECD economies and between the UK and non-OECD economies such as India. As a result, the importance of trade-related structural change will increase across a wider range of industries and occupations, including those associated with high value services, than in the past.

Section 2: How the UK Compares Monitoring of the English speaking media reveals that almost every member of the OECD thinks it is becoming a knowledge economy and almost every non-industrialised economy aspires to become one. Within many OECD economies every region, major city and State sees its future as lying with knowledge based economic activity. It is therefore astonishing that the knowledge economy is seldom defined or measured in a consistent or comparable way. Instead, we have a mass of indicators of variable relevance and quality.236 The only oYcial statistics explicitly on the knowledge economy currently available are produced by the OECD and Eurostat for what they term the technology and knowledge intensive industries. These sectors include high to medium tech manufacturing (such as aerospace, pharmaceuticals, chemicals, cars) and finance and business services, high tech services, telecommunications, and education and heath and creative and cultural industries.237 Although this Submission draws on the OECD/Eurostat industry definitions extensively for analytical purposes, it is important not to be trapped by the statistics into thinking the knowledge economy only exists in these sectors. An OECD study of large global retail firms concluded that the key to their success was the combination of high performance workplace practice and the intelligent use of ICT.238 Innovative firms in sectors classified as low tech are just as much part of the knowledge economy as the “knowledge industries”. A recent study239 prepared for the EU Commission concluded that such firms were: “intensive creators and users of practical knowledge and high grade design skills. They use engineering and scientific knowledge and are closely integrated with science and technology infrastructure. The mere fact that they do not do much internal R&D says nothing about knowledge intensity or their contribution to the knowledge economy.”

Restructuring in the UK economy Looking just at the knowledge based industries, the UK has a relatively large knowledge based sector compared with most other EU economies, the US, and Japan. — in 2002 knowledge based industries accounted for about 41% of GDP, compared with 43% in the US and Germany, 40% in France and 35% in Italy (OECD estimate and definitions); — in 2005 the knowledge based industries accounted for 48% of employment in the UK compared with 44% in Germany, 43% in France, 38% in the US and 37% in Italy (Eurostat estimate and definitions, WF estimate for US);

234 Brown et al, Towards a high-skilled, low wage economy? in Skills and Economic Performance, SSDA 2006. 235 Katerina Rudiger OVshoring and the Knowledge Economy, Work Foundation KE Programme, July 2007. 236 Brinkley I, Defining the Knowledge Economy, Work Foundation, KE programme July 2006. 237 The OECD and Eurostat definitions vary somewhat. Eurostat include some international travel services and some creative and cultural services. OECD publishes knowledge industry estimates by share of value added; Eurostat publish knowledge industry estimates by share of employment. 238 Case Studies of Successful Companies in the Services Sector and Lessons for Public Policy, STI Working Paper 2005–07, OECD. 239 Hirsch-Kriensen et al, EU PILOT project, Low Tech Industries and the Knowledge Economy August 2003. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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The Sainsbury Review shows how the UK has restructured more towards knowledge based activities than the US, Germany and France over the decade 1993–2002. Only Sweden has more than matched the UK. In the UK knowledge based activities have increased from 36.4% in 1993 to 40.5% of GDP in 2002, and knowledge based services from 28.4% to 34.3% of GDP240. The Sainsbury Review rightly says that the correct benchmark to judge success of the UK’s response to globalisation is not restructuring from manufacturing to services but the restructuring from lower to higher valued added goods and services. However, for manufacturing we can see two trends over the past decade, one encouraging and the other a cause for concern. The encouraging indicator is the rapid increase in the share of UK manufacturing exports provided by the high tech industries (OECD definition) between 1993 and 2003, so that in 2003 high tech exports accounted for the same share of manufacturing exports as the US and Japan. The indicator that gives cause for concern is the decline of high to medium tech manufacturing in the UK as a share of GDP over a similar period. The latter is in sharp contrast to Germany, France and Sweden who have all retained strong high tech manufacturing bases. Between 1993 and 2002 the share of high and medium tech manufacturing in the UK fell from 8% to 6.2% compared with an increase from 6.9% to 7.4% in France, an increase from 8.5% to 9.5% in Sweden, and from 11.9% to 12.1% in Germany (all figures OECD definition, Sainsbury Review 2007). We are not convinced this is the inevitable consequence of the growth of high value added services. Sweden has seen knowledge based services expand as a share of GDP just as strongly as in the UK but this has primarily been at the expense of lower value added services. In the UK the share of lower value added services has remained stable and the share of manufacturing (both low and high tech) has fallen. It is possible the relative decline reflects sector specific factors, reflecting the structure and market focus of some the UK’s high tech industries, but we have not undertaken the analysis to say for sure whether this alone can explain the relative decline. High to medium tech manufacturing has also declined as a share of GDP in the US, from 7.2% to 5.9%, albeit this is slightly less of a fall than in the UK.

Towards knowledge based economies share of GDP in knowledge absed industries, OECD defintions: Source: Sainsbury Review, october 2007. 50% 1993 2002 45% 43% 41% 41% 41% 39% 40% 40% 38% 35% 36% 35% 35% 30% 25% 20% 15% 10% 5% 0% Sweden UK France Germany US

240 Race to the Top, table 1.1, p17, Sainsbury Review October 2007. OECD definition of knowledge based industries. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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The restructuring of the UK economy has gone even further in terms of international trade. The UK has emerged as a world-leader in knowledge based service exports, generating a surplus in 2004–05 of just under 3.5% of GDP. This is shown in the chart below.241

Trade balances on Knowledge Services in 2005 knowledge services are business, financial, communication, computer and information and cultural services. Japan is 2004. Fgures exclude eduactional services. Source: Eurostat/OECD. 4% 4% 3.3% 3% 3% 2% 2% 1% 0.5% 1% 0.0% 0.0% -0.6% -0.8% 0% -1% -1% UK US Germany France Italy Japan -2%

However, this is not a simple manufacturing versus services story. An important reason for the UK’s relative success in knowledge based services is the result of major changes within the manufacturing sector. The dividing line between manufacturing and high value added services is becoming less relevant as manufacturers respond to consumer and business demand by no longer oVering just a product but a product and services package. A recent OECD study242 concluded: manufacturing activity in OECD countries increasingly incorporates high value added services. This change seems due to business models that increasingly emphasise intellectual assets and high value added services, such as R&D, financial and after-sales services instead of manufacturing as such.

Manufacturing itself is a significant generator of knowledge service exports such as business services, royalties and licence fees and technical and trade related services, according to recent research.243 Between 1997 and 2003 UK manufacturing firms generated nearly 25% of all business service exports and between 40 and 45% of intellectual property related payments (royalties and licence fees), technical services, and trade related services. The study concluded: the propensity to import and export services appears to be higher in manufacturing than services. Trade in producer services may therefore be even more important for manufacturing than services.

This in turn is changing the nature of the manufacturing workforce. Preliminary analysis of the high to medium tech industries suggests that between 1984 and 2004 the share of “knowledge workers” as defined by the top three occupational categories increased significantly to around one third of the workforce. The share of other white collar jobs such as admin and sales also increased. In contrast, the share of production workers fell significantly. By 2004 the share of the workforce in production jobs and the share in non- production jobs were close to parity.

Some of this shift must be because new technologies tend to displace production rather than non- production workers, but it also is highly likely to be also due to the incorporation of high value services in the production process.

This in turn makes it harder to know how much of the fall in high value added manufacturing as a share of GDP is driven by lack of competitiveness in some sectors, how much by greater outsourcing of high value added services, and how much by a shift towards business service related exports. As the OECD comments: “this distinction between manufacturing and services is blurring, complicating empirical analysis with data by economic activity.”

241 We have followed Rowthorne and Coutts, The UK in the World Economy, Briefing for the UK Science and Technology Council 2005. The authors distinguish between “traditional services and transfers” such as transport, travel and government services and “knowledge services” which includes all other traded services. 242 The Changing Nature of manufacturing in OECD Economies, OECD STI Working Paper 2006–09. 243 Hijzen, Pisu and Upward A Portrait of Trade in Services, Report to the DTI, June 2006. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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Knowledge service exports from UK manufacturing share of knowledge based service exports produced by manufacturing 1997-2003 Source: Hijzen, Pisu, Upward A Portrait of Trade in Services, University of Nottingham report for the DTI June 2006. 50% 45% 45% 41% 40% 37% 35% 30% 24% 25% 20% 15% 10% 5% 0% Business services Royalties, licences Technical services Trade related

Measuring high value added A more direct measure of the high value added economy is provided by the BERR Value Added Scoreboard. The Scoreboard oVers benchmark information based on the top UK based companies244.By these measures the higher value added economy could be defined as either all firms who approach the benchmarks or alternatively all firms who are experiencing an increase in value added as they move up the supply chain. The Scoreboard identifies three routes to higher value added: — By introducing new products and services that provide even greater value to its customers compared to the cost of the materials, components and services used to make them. — By selling more existing products and services by improved marketing or by entering markets in new geographies or, in non-competitive markets, by raising prices and hence margins. — By reducing the cost of bought-in items by more eVective procurement and improved design and development. The Scoreboard uses three measures to compare the UK against Germany and France—wealth creation eYciency (value added as share of input costs, labelled P2); profitability; and change in value added. On all three measures the UK was significantly ahead of both Germany and France in 2007. The latest figures are summarised in the table below:

VALUE ADDED PERFORMANCE MEASURES COMPARED

Wealth creation Profitability Change in VA UK 185.5% 12.2% !12.4% France 155.0% 11.2% ! 9.6% Germany 133.4% 7.2% ! 5.4% Source: BERR Value Added Scoreboard 2007 An important conclusion of the Scoreboard is that while the knowledge intensive industries are important performers, the UK also has strong performance in more traditional sectors such as retailing and leisure and sectors such as oil and gas where little R&D is performed by conventional measures but where technological innovation is often strong.245

244 Value added is defined as sales minus the cost of bought in inputs. The key benchmark is the ratio of value to costs or VA/ C. In their literature to encourage firms to use the scoreboard BERR suggests a ratio of 100 is cause for serious concern, a ratio of 125 leaves no room for strategic investment; a ratio of 150 is in line with the big company average and 175 or more is a very strong performance. 245 NESTA, Hidden Innovation, 2006. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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A wider concept of value added is set out in a recent report by the Institute for Manufacturing246 which argues that simple financial criteria do not fully capture what might be meant by higher value. The report says: Unfortunately there is no accepted definition of a high value manufacturer, making this high value vision hard to achieve or to support in policy. Most conceptions of value revolve around simple financial measures, and these do not consider the value of companies to other stakeholders. The report provides no figures on what proportion of firms might be judged high value by these more complex measures. However, it is a useful reminder that high value can be judged in other ways than the financial returns to shareholders—for example, the wider contribution to the science base, promoting what the Work Foundation has termed “good work”, and being environmentally responsible. In principle, these wider criteria could be applied to any firm and not just manufacturing.

Section 3: R&D and Investment in Intangibles The UK does poorly when R&D investment as a share of GDP is compared with most other major G7economies, although it is close to the EU average. There has been little change in the share over the past decade and no sign that the gap is closing against the world-leaders. The UK also underperforms when it comes to patenting compared with the world leaders. The latest R&D statistics show that business investment has fallen slightly as a share of GDP comparing 1999 and 2006. Business investment in R&D has increased by nearly 27% in cash terms but over the same period the economy has grown by 43% in cash terms. As a result, the share of business investment in R&D has fallen. R&D increased faster than GDP in the more R&D intensive sectors and some knowledge based service industries. For example, R&D spending went up by 56% in pharmaceuticals and 48% in aerospace and by between 90 and 108% in computer services and telecommunications. The fall in business R&D as a share of GDP was driven by falls in most other industries, including nearly 30% in motor vehicles (despite the apparent success in attracting high level development work associated with Formula One to the UK). As a result, R&D eVort has both become more concentrated in the high tech manufacturing industries and knowledge intensive services. Aerospace and pharmaceuticals accounted for 33% of business R&D in 1999 and 40% in 2006. Telecommunications and computer services accounted for 11% of business R&D in 1999 and 18% in 2006. However, the picture is more complex than the R&D and patenting statistics would suggest for the following reasons: — structural factors such as the share of R&D intensive industries, market size and ownership are all limit the growth of R&D as a share of GDP, even though actual R&D spending has increased significantly; — The BERR Scoreboard suggests that on a like for like basis UK firms are just as likely to be R&D intensive247 as their foreign counterparts;248 — Knowledge based services where UK companies perform well by international standards on average undertake less R&D than manufacturing as a share of value added (although investment has been increasing rapidly in recent years) and rely less on patenting to protect their innovations; — international trade in R&D services—essentially a trade in intellectual property- was almost non- existent ten years ago and has increased substantially, so the UK may be benefiting much more from R&D performed by multi-nationals overseas; — business has shifted investment to other “intangible assets” including software and what economists have called non-scientific R&D (copyright and licence fees, new product design and development): some measures suggest the gap against the US is much less than in R&D that falls within the OECD definition. Business investment in intangibles has since the early 1980s been increasing much faster than investment in machines and buildings, according to recent estimates by US and UK economists. The latest estimates for the UK set out in a Treasury working paper show investment in intangibles has increased from 6% of value added to 15% of value added between 1970 and 2004249. As the Treasury chart below shows, the ratio between intangibles business investment and tangibles investment remained steady at 40% in the 1970s before rapidly increasing from the early 1980s onwards to reach 130% by 2004.

246 Defining High Value Manufacturing, Institute for Manufacturing, January 2006. Report sponsored by BERR and the CBI. 247 The R&D Scoreboard uses a diVerent definition of R&D based on what firms report to that used in the OECD statistical definitions used in the UK statistics produced by the ONS. 248 The EU Commission has come to a similar conclusion comparing the EU average firm in R&D intensive sectors against the average US firms in the same sectors. 249 Intangible investment and Britain’s productivity: Treasury Economic Working paper No 1 October 2007. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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These estimates are based on work undertaken by economists at the US Federal Reserve to try and explain why US business investment appeared so unresponsive to otherwise highly favourable economic and financial conditions. The US estimates going back to the 1950s show a very similar pattern—little change in the investment ratios up to the end of the 1970s before a similar very rapid increase in intangible investment around the start of the 1980s. US business was investing, and investing heavily, but not in the physical assets that appear in the national accounts as investment. Ratio 1.4

1.2

1.0

0.8

0.6

0.4

0.2

0.0 1970 1975 1980 1985 1990 1995 2000

In many cases investment in intangibles is not a substitute for tangible investment but a complement. As we noted above, modern manufacturing appears to be shifting towards a new business model based on bringing together high value added manufactured products with high value added services and intellectual assets. Research in the US suggests that firms who invest heavily in new technologies need to invest even more in human and organisational capital in order to secure productivity and competitive gains over the medium to long term250. Work by academics at Queen Mary College provides a more detailed breakdown of investment in knowledge based assets between the US and the UK for 2004.251 UK business investment in R&D is just over half that of US business investment in R&D, but UK businesses invest comparable amounts in software and nearly 90% of US levels in non-scientific R&D and other intangibles such as brand equity and human and organisational capital. Investment in intangibles other than R&D does not fully oVset the UK’s lower rate of investment in R&D, but it closes a significant part of the gap against the US. However, these figures should be used with caution as an indicator of the potential scale of investment in intangibles that might be taking place rather than a precise measure. There are few if any robust statistics for many of the intangible items, so the researchers have had to make assumptions and use proxy measures, especially in areas such as non-scientific R&D, brand equity and organisational capital. There may also be diVerences in the quality and coverage of data between the two economies.252

UK-US BUSINESS INVESTMENT IN INTANGIBLES IN 2004 COMPARED

UK US US %100 R&D 1.1% 2.0% 55 Software 1.7% 1.7% 100 Non-scientific R&D 2.2% 2.5% 88 All other intangibles 6.0% 6.9% 87 Total of above 10.8% 13.1% 82 Note: non-scientific R&D includes design and new product development; all other intangibles includes brand equity, human and organisational capital Source: Marrano and Haskell 2006.

250 Brynjolfsson and Hitt, Beyond computation: information technology, organisational transformation and business performance, Journal of Economic Perspectives, Journal of Economic Perspectives 2003. 251 Marranno and Haskell How Much Does the UK invest in Intangible Assets? QMC Working Paper 2006. 252 Mahdon and Rudiger Intangible Investment in the Knowledge Economy, Work Foundation, November 2007. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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The shift towards a high valued economy is inseparable from the shift in investment towards intangibles. As a result, our understanding of how the modern economy works and the implications for growth and productivity has declined as statistical measures—primarily designed for a world where economic success rested largely on investment in and manipulation of physical assets such as machines and buildings— struggle to catch up. This lack of knowledge is increasingly being recognised by the statistical authorities. The OYce for National Statistics has already incorporated company in-house spending on software as investment in the national accounts, with R&D to follow. Other intangibles will also be incorporated, although securing suYciently robust measures for the purposes of oYcial statistics and getting international agreement on definitions make this a long term objective. One of the biggest puzzles is why the shift towards the high value added knowledge economy occurring at various speeds across the OECD appears to have had so little impact on productivity performance, especially in the UK where the speed of restructuring has been more pronounced than in other economies. In an accompanying document to the 2007 Comprehensive Spending Review (CSR) the Treasury working paper cited above strongly suggests part of the reason is the persistent under-estimation of business investment due to the exclusion of most intangible investments. According to the authors, the slowdown in UK productivity from the mid 1990s onwards disappears if intangibles are taken into account.

Creativity The picture on creativity is on the face of it encouraging. As the Work Foundation’s report Staying Ahead showed the UK has the largest creative sector in Europe and, relative to GDP, possibly in the world. The creative sector is as large as the financial services industry in terms of shares of GDP.253 However, the report warned that the UK’s predominance could not be taken for granted, and in recent years the sectors overall performance has weakened. Looking more specifically at design, there are more grounds for concern. The Cox Review of creativity in business raises concerns at awareness of the importance of design across British industry and the design industry itself has contracted as a share of GDP in recent years. The Government’s forthcoming Green paper on the creative sector will address these issues in more depth.

Section 4: The Policy Framework Government policy makers have been well aware that a wider approach to innovation has been required than the narrow focus on “hard” measures of innovation and R&D. The DTI (as was) commissioned a wide range of studies and has organised conferences and seminars on innovation in the service sectors and the importance of “softer” innovation forms such as managerial, marketing and strategic innovation. The challenge is not one of awareness but identification of specific policy actions that government might reasonably undertake. Policy levers exist to encourage scientific and technologically based innovation—for example, through investment in the science and technology base, the encouragement of high tech spin-outs from universities, and fiscal incentives such as the R&D tax credits. Many of these are identified in the Sainsbury Review. It is harder to devise similar specific instruments and provide the economic justification for public intervention for other forms of innovation. Indeed, in many areas the best approach may be concentrate on getting the framework conditions right and leaving the detail to both global and domestic market forces to work through. As a forthcoming WF report on innovation in market services will show, many of the broad- based initiatives that might be usefully taken relate to the skills agenda, the competition regime and planning policies.

The Comprehensive Spending Review In our Submission to the Comprehensive Spending Review (CSR) we argued that while the government had many positive individual policies in place, it lacked an overall strategic approach to the transformation of the economy. The purpose of such a framework would be to (a) ensure greater co-ordination and consistency across government and (b) establish the key long term public investment priorities to move the UK closer to the high knowledge investment economies of the OECD. We suggested the CSR should include a Chapter setting out such a strategy. The CSR refers more explicitly to the knowledge based economy than in previous years: for example, the summary of Chapter 4 opens with the phrase: Rapid technological change and the emergence of newly industrialised economies are driving shifts in the competitive environment, with knowledge and other intangible assets growing in importance, creating new opportunities for individuals and businesses. This is welcome.

253 Staying ahead: the UK‘s economic performance of the creative industries, Work Foundation 2007. There are no agreed international definitions of the creative sector. The DCMS definition includes arts, crafts, antiques, the performing arts, design, designer fashion, advertising and architecture, electronic publishing and media, computer software, and video gaming. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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However, the CSR falls well-short of the strategic framework that we believe the importance of the knowledge economy merits. The strategic sense of purpose shown in the Sainsbury Review for science and technology policy—which we comment on in more detail below—is largely absent from the rest of the CSR Chapter. It is vital that the opportunity is not missed again and that the government start to work towards such a knowledge economy strategy for inclusion in the next CSR. Our Submission recognised that in a tight spending round resources would be limited, not all solutions required new financial commitments, and that initiatives that had run their course, proved less successful than hoped, or were duplicating other eVorts might be closed down. The fact that the DIUS science budget— including knowledge transfer—is projected to increase in line with GDP to 2010 is welcome, given that overall public spending is expected to fall as a share of GDP. However, given the importance attached to science and innovation in a knowledge based economy, the CSR allocation looks the absolute minimum required. Had the government approached the CSR with a knowledge economy framework in place, there might have been a better alignment between objectives and spending priorities. Our CSR Submission drew attention to the OECD composite indicator of some knowledge based investment, combining R&D, ICT software, and higher education. This indicator can only give a partial picture, and spending is not the same as eVectiveness. However, the latest figures from the OECD show that not only the high investment economies such as the Nordics, North America, and OECD Asia moving away from the rest, the UK appears to be in danger of losing relative ground to other OECD economies such as France and Germany.

UK falls behind in some forms of knowledge investment 1994–2004

7% 6.6% 6.4% 1994 2004 6% 5.4% 5.3% 5.1% 5% 4.3% 4% 3.9% 3.9% 3.4% 3.4% 3.5% 3.5%

3%

2%

1%

0% US Sweden Japan France Germany UK

Note: OECD composite indicator of knowledge investment, share of GDP spent on R&D, ICT and higher education. Some figures are 2003. Source: OECD Science and Technology Indicators, 2005 and 2007 reports.

The Sainsbury Review The Government has accepted the Sainsbury Review in full and DIUS is to be charged with implementing the recommendations. We strongly welcome the thrust of the Review. The Review recommended an enhanced Technology Strategy Board to address the “fragmented” technology and innovation landscape in the UK, extend into the service sector and the creative industries and work with UK Trade and Industry to enhance the UK’s attractiveness to multi-nationals. Stimulation of innovation should be included as a Departmental Strategic Objective, DIUS should produce an annual Innovation Report on Departmental and RDA activities, and an annual report on the demand and supply of SET graduates should be produced. The Government has stated that a long term ambition was to increase the UK’s share of spending on R&D to 2.5% of GDP, as part of the EU’s target for 3% of R&D of GDP. We argued in our CSR submission that such targets were unhelpful because structural factors made them impossible to achieve in practice. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [O] PPSysB Job: 406492 Unit: PAG2

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The logic of the Sainsbury Review points strongly in the same direction and in all but name abandons the target. The Review argues that “rather than seeking to raise the amount of research performed by all industries we should focus our eVorts on the four major gaols developed by the TSB” (p4). These goals include helping leading sectors and business to sustain their global competitive position, stimulate those with world leadership potential, ensure emerging technologies become future growth sectors, and combine these to make the UK a centre for FDI. While agreeing with the main thrust of the argument, we would be very concerned if the emphasis shifted away from supporting industrial R&D, especially in sectors which are globally mobile and can site R&D in an increasing number of locations around the world. This is particularly important to the UK because of our exceptional high share of R&D funded from overseas. This is both a strength and a weakness. Foreign investment in R&D greatly strengthens the UK’s industrial base through “spillovers” into the domestic economy. However, it also makes the UK more vulnerable to shifts in the relative attractiveness of alternative locations in which to undertake R&D. Most R&D is still undertaken in multi-nationals home markets, so the UK not only has to overcome the traditional pull of home market advantage but also the opening up of new locations in Asia and elsewhere. However, the increasingly mobility of R&D across national boundaries is not just a feature of foreign owned firms. UK owned multi-nationals are increasingly likely to site new R&D in centres of excellence outside the UK which have the scientific and technical expertise that they need254. The evidence also suggests that human capital is one of the most important factors in determining where R&D is located –the quality of research institutions, the supply of high quality scientists, engineers and technicians, and the availability of technical managers255. The UK’s relative success in attracting foreign R&D investment is likely to reflect in part the high quality of the UK science base.

Measures to support R&D Public policy can directly influence the overall level of R&D through a number of levers. One is to subsidise private R&D investment either through grants or the R&D tax credit. Evidence from other OECD economies suggests tax credits have a positive impact, but the net eVects are small. The UK tax credits have not been in operation long enough to gauge what impact they have had. However, even if they were to prove a success, one estimate by the IFS is that they would not increase R&D spend as a share of GDP by much more than 0.1% of GDP256. The second more direct lever is the public spend on R&D. An increase in public spending on R&D can also induce an increase in private sector R&D provided there are good linkages between the public institutions undertaking the research and the private sector. The Sainsbury Review shows that the UK invests less in public sector R&D than the rest of the major OECD economies except Italy. In 2004 the UK public sector spent 0.58% of GDP on R&D compared with a EU15 average of 0.84%, the US figure of 0.69%, and 0.73% in Japan. Moreover, public spending on R&D as a share of GDP has remained static since 1997. The main reason is that falls in defence related spending and spending by Government Departments has oVset the increased spending on the civil science base. In other words, the distribution of public R&D has changed, but not the overall eVort (measured as a share of GDP). The latest figures show a fall in R&D defence spend in 2006 compared with 2005 in absolute terms, but these figures can be erratic and therefore not much weight should be attached to change in any one year. The Review calls on government Departments and the MoD to increase spending on R&D. For example, restoring spending by civil Departments and the MoD to their combined 1997 level would increase public sector R&D by 0.14% of GDP. This would be enough to close the gap with the US, Japan, and Germany.

Universities Public sector R&D is already highly eYcient, measured by citations and research papers produced. A traditional criticism was that it was less eYcient at translating this performance into marketable products. However, the performance of UK universities in terms oV commercialising their research has improved. For example, the number of spin-outs is now comparable with the US. However, the role of universities goes far wider and is much more important than the narrow measure of spin outs and the linear view of “knowledge transfer”. Indeed, our work on the knowledge economy suggests that investment in human capital at all levels and especially in higher education is essential if the UK is to be successful as a knowledge based economy in the future. For example, our work on the expansion of knowledge based graduate level jobs in the workforce over the past decade suggests the commitment to expand higher education set out in the Leitch Report is well-founded257.

254 WF seminar Commercialisation of R&D June 2007. 255 WF seminar, Internationalisation of R&D, the Centre, Brussels, Feb 2007 256 Productivity Policy, IFS 2005. 257 Fauth, B, Polarisation and Labour Market EYciency, Work Foundation 2006. Processed: 12-08-2009 19:14:35 Page Layout: COENEW [E] PPSysB Job: 406492 Unit: PAG2

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We have already highlighted the importance of sustaining centres of scientific excellence in retaining and attracting new R&D to the UK. Universities are increasingly valuable in their own right as agents of economic growth. University are major generators of knowledge service exports, in the form of fees paid by foreign students to study at UK institutions. In 2005 education services generated a £3 billion trade surplus. As the Sainsbury Review rightly says: “the change in the purpose and self-image of the university has been driven by the concept of the knowledge economy, an economy in which ideas and the ability to manipulate them are of more importance than the traditional factors of production. In this economy, a world class university looks an increasingly useful asset.” UK universities perform well in terms of the “Shanghai” rankings which measure academic output. A recent analysis published as a Brueghel Policy Briefing258 shows the UK and Switzerland are the only two countries who approach the performance of the US in the top 50 universities and only the UK, Switzerland, Denmark and Sweden approach or exceed the US in the top 100 universities. The UK achieves this good record despite relatively modest investment in the higher education sector. For example, according to the OECD investment in higher education represented 0.7% of GDP in the UK in 2003–04 compared with an EU average of 0.8%, between 0.9% and 1.2% in the Nordics, and 2.4% in the US. Clearly, other factors than spend are important. Nonetheless, sustaining and if possible expanding the number of UK world-class universities is likely to prove an extremely good long term investment. However, all universities and higher education institutions have a potentially important role in economic performance and regeneration. For example, we are undertaking further research on the role of higher education in the knowledge economy in cities as part of the Work Foundation’s Knowledge Economy and Ideopolis programmes. This research is looking at how the education institutions in a city can contribute to local economic development and how city leaders can develop eVective relationships with education institutions.

Section 5: Recommendations — The UK has moved further towards high value added knowledge based activities over the past decade than other major economies measured by the share of GDP, and has emerged as a world leader in the export of knowledge based services. — However, high value added is being created across all sectors and not just the “knowledge based” industries. Within manufacturing value added is increasingly being delivered through the inclusion of high value added knowledge services. — The CSR falls short of the overall strategic framework that we think this transformation of the UK towards a knowledge economy requires. The next CSR needs to acquire the same sense of purpose and awareness of the knowledge economy as shown in the Sainsbury Review. — As a result, the spending priorities in the CSR are not as closely aligned with supporting the knowledge economy as they might be. OECD indicators suggest the UK is falling behind the world-leaders. We are not convinced that investment in higher education, science, technology, and R&D has been given suYcient priority. — We strongly welcome the Sainsbury Review and the government’s commitment to implement the recommendations through DIUS, including the need to support innovation and technology across the service industries, including the creative sector, and sectors where little R&D by conventional definitions is being undertaken. — We welcome the move away from unattainable R&D targets, but in doing so the government must continue to support industrial R&D in both R&D intensive manufacturing and the knowledge based services and ensure that the UK remains an attractive place for retaining and attracting increasingly mobile R&D investment. — We welcome the Review’s call for government Departments and the MoD to increase their spending on R&D: if they moved back to 1997 levels, this would close the current gap in publicly funded R&D with the US, Germany and Japan. — We welcome the recognition in the Sainsbury Review of the key role for universities and other higher education institutions in the knowledge economy. Investment in sustaining world-class universities is likely to prove extremely valuable in the long term. — Universities and the higher education sector more generally have an extremely important potential role as economic actors at the national level and as agents of change in helping sustain regeneration at the local and regional levels. — It is in the UK’s interests to press for open trade in services at both European and world level together with liberal migration policies to help sustain the growth of knowledge based industries such as business services, finance, IT, and health and education.

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— An industry-specific focus on how general framework policies can be implemented and delivered most eVectively should be strengthened and if necessary extended, building on the current initiatives across government in areas such as manufacturing, the creative economy, the City and the IT industry. — We are concerned at the decline in the high tech manufacturing sector relative to other economies such as Germany, France and Sweden and would like to see a particular focus on why this taking place, whether additional public intervention is justified and,if so, what form it might take. — We welcome the recent improvements in oYcial statistics and oYcial interest in the role of intangibles: however, overall there is a remarkable lack of oYcial statistics directly measuring and defining the high value added knowledge economy. November 2007

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