China's Top-Down Take on Innovation
State-Run Model Is Limiting, Some Chinese Economists Say
By BOB DAVIS BEIJING—To understand why China has such a tough time producing world-class innovations, take a look at how the Chinese play games.
Ping pong tables are everywhere in public spaces and open to all comers, from kids to agile retirees, producing a reservoir of talent that has made China a ping pong innovator and champion. By contrast, basketball courts in China are generally locked up. Entrance is controlled by the state—in this case, school officials—shrinking the talent pool and the chance for youngsters to hone their moves. The result: basketball mediocrity.
For decades, China has followed a state-led innovation model, where science and technology ministries identify priority areas, fund them generously and send thousands of students overseas to study in those areas. In some fields, the approach has been successful, including space exploration, supercomputers and military technology. Now, China's leaders are looking to replicate that state-driven model in dozens of other technologies, including biotechnology, alternative energy and new materials.
But many Chinese economists and scientists say the central-planning tack has come up short on new ideas, noting that these fields are well-trod technologically by the West. They are calling for China to move beyond a "catch-up" strategy.
"With innovation, there is serendipity. You need a lot of participants [because] only 1 in 1,000 ideas may succeed," said Bai Chong-en, an economist at Beijing's Tsinghua University. "It's just like ping pong, where there is a lot of grass-roots participation."
In preparation for a November meeting of the Communist Party leadership, China is putting together a reform plan that is supposed to guide the country over the coming decade. But with China's growth slowing to about 7.5% this year from 10.4% in 2010, economists inside and outside China worry about a far sharper slide ahead. China needs to step up its game, they argue, so it no longer relies as much on low-cost exports on the one hand, and immense state-owned oligopolies on the other.
But how?
Former World Bank chief economist Justin Yifu Lin argues that because China is still a developing nation, it can still grow by imitating Western technologies and producing them better or more cheaply. "Our innovation doesn't necessarily have to be based on invention," said Mr. Lin, who now teaches at Peking University.
Other economists disagree. "You have to let big ideas flow" to power economic growth in the future, said Cai Fang, a senior economist at the Chinese Academy of Social Sciences. "We're at a big turning point from government-led investment to innovation based on free-market growth."
In China, that's an especially tough transition. Chinese scientists complain that Beijing focuses too heavily on headline-grabbing efforts, like building supercomputers—it currently makes the world's fastest supercomputer, in a ranking done every six months by Top500, a group of leading computer scientists—rather than fundamental science that could spawn new industries.
China has become the world's No. 2 spender on R&D behind the U.S., but the U.S. spends 19% of its R&D budget on basic science—the kind of research that can spawn new fields over time—compared with just 5% for China, according to the U.S. National Science Foundation.
"Chinese politics is a major inhibiting factor—with so many circumscribed 'no-go zones' for research," said David Shambaugh, a George Washington University China scholar. Singapore's prime minister, Lee Hsien Loong, noted during a speech to a senior Communist Party school last year, "all eight Nobel Prize winners in science who are of Chinese descent either were or subsequently became American citizens."
Some Chinese startups have managed to handle the obstacles, including Tencent Holdings Ltd., TCEHY -2.28% whose WeChat talk-and-text service is a hit internationally. The company is politically as well as technologically savvy. Earlier this year, Tencent's chief executive, Pony Ma, joined China's nearly powerless but symbolically significant parliament, a sign the company had become part of the Chinese establishment.
Even so, Mr. Bai, the Tsinghua economist, says China's state-owned telecom giants still have huge power to decide which Internet-based ideas can make it commercially because they control China's telecom infrastructure. The monopoly firms "have their self-interest" to protect, he said.
In some instances, the state doesn't intervene enough to protect invention, China technology experts argue. Intellectual-property protection is weak and private domestic firms frequently are barred from competing in lucrative state-owned sectors, such as telecommunications, energy or electricity production.
But for the most part, say a number of economists in and out of China, the problem is too much state control, which snuffs out what's often called "curiosity-based" innovation. Research grants must be approved by science and technology bureaucrats who judge whether they fit into a pre-approved state project. Corruption, or simply bad judgment, can kill ideas.
Over the coming weeks, Chinese leaders will need to confront a fundamental question: How much are they willing to ease control, let markets operate more freely and encourage curiosity-based innovation? The more they pull back, the more they may reduce their ability to control society. The more they continue to dominate, the less they spur the kind of innovation that can create new technologies and industries.
Write to Bob Davis at bob.davis@wsj.com
A Red-Tape Turnoff for Startups
SEC rules undermine the Jobs Act, making it harder, not easier, to raise capital for new ventures.
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Last year, Congress and the White House managed to agree on a law to lessen the regulatory burden on startup companies so they can get outside capital more easily. But when the Securities and Exchange Commission finished the supposed deregulation last week, startups and their angel investors discovered they face more regulation, not less. It must be so long since Washington tried to deregulate something that it's forgotten how.
The Jumpstart Our Business Startups Act, or Jobs Act for short, was supposed to remove New Deal-era barriers entrepreneurs face in raising funds and individuals face in being able to invest. Getting regulation right for private companies is especially important because private offers are by far the largest source of funding for companies. In the U.S. last year, $900 billion was invested in private securities compared with $43 billion in public offerings.
corbis
The securities laws enacted 80 years ago were designed for big, industrial-era companies with legions of lawyers, not entrepreneurs in a garage with an idea and a laptop. These laws, written when Washington blamed Wall Street for the Great Depression, replaced a free market with elaborate rules limiting what companies can say about their business performance, how they solicit investors, and who are deemed by bureaucrats to be "accredited" investors trusted to risk their own money.
The Jobs Act was supposed to give startups the option of being exempted from what the securities laws call the "general solicitation" rules, which prohibit public marketing of private securities. Congress saw the opportunity to deregulate because entrepreneurs can use new tools to promote their business ideas to potential investors, from crowdfunding websites like Kickstarter to Twitter posts and YouTube videos.
The Democratic majority of SEC commissioners, over the objections of their Republican colleagues, undermined the intent of the law by creating new, burdensome regulations. Companies can still offer shares only to accredited investors, defined as people with annual income of more than $200,000 and a net worth of $1 million excluding a primary residence. But whereas in the past investors attested to their financial qualifications, the onus is now on companies to obtain potential investors' tax returns or bank statements—information they're understandably reluctant to share.
Even though the SEC retained the dubious requirement that only wealthy people can invest in startups, the Democratic commissioners, in the interest of "protecting" these investors, imposed new restrictions on how startups can raise funds. These rules are so onerous that New York venture capitalist Fred Wilson called them, on his blog, "a non-starter in startup land."
He objected to a rule requiring a company to file details with the agency 15 days before beginning a fundraising process "and before the company even knows if it will be able to raise capital," instead of the old rule calling for a filing 15 days after the fundraising. Mr. Wilson also noted the new obligation on companies to send the SEC all written materials provided to investors at a time "when entrepreneurs update their slides and other fundraising material from meeting to meeting."
If a startup even unintentionally violates these regulations, the penalty is a one-year prohibition on raising funds. Given the early-stage companies' frequent need for new capital, "this effectively means that a startup that violates any of these rules is likely to be put out of business," Mr. Wilson wrote.
Startups also worry that the demo days held around the country, where entrepreneurs pitch to investors, could become legal booby traps, since they are advertised publicly and could be attended by people who aren't accredited investors.
Hundreds of entrepreneurs and investors have sent letters to the SEC objecting to the rules. "This means that investors like me will have less transparent ways of getting information about companies, leading to more potential fraud, more difficult ways to fund companies, and a general slowdown in investment activities," wrote investor Mitch Kapor, who founded Lotus Development.
The Jobs Act was also supposed to let entrepreneurs take advantage of new crowdfunding opportunities using online marketplaces. The law instructed the SEC to get rules in place by the end of 2012 to enable funding online, but the agency missed the deadline.
What was supposed to be an example of bipartisanship in Washington to liberate a key part of the economy instead became a way for activists on the SEC to impose new controls. Entrepreneurs, investors and everyone who benefits from a thriving economy deserve better.
You Have a Great Idea. Now What Do You Do?
Many people have no desire to start a business, but they want to make money from their inspiration. Here are some options for doing just that.
Want to know a couple of secrets?
You don't have to be an entrepreneur to have a great idea for a business. And you don't need to start a business to profit from a great idea.
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Inspiration can strike anybody—it happens all the time. Someone is struggling with a chore around the house and thinks of a gadget that would be a big help. Or maybe they're rooting around for obscure information online and realize an app could automate the job.
The next step is launching a startup, right? Not necessarily.
There are lots of options for people who have a great idea but don't want to take on the burdens of starting and running a company. Whether they want an immediate payday or recurring income, whether they want to sign away their idea outright or keep a firm hand on it, there are steps they can take that are a lot simpler and less daunting than becoming a full-blown entrepreneur.
Here are some of those steps.
Taking a Quick Payoff
It's about the simplest setup possible: Someone signs over all the rights to an idea, gets a check and enjoys the payout. This option can be appealing to somebody who's pursuing a rewarding full-time job and doesn't want to give it up. Perhaps also for someone looking for a quick cash infusion without any headaches—money to tide them over while looking for work, for instance, or a beefed-up nest egg for an early retirement.
John Kuczala
Before doing anything, though, inventors should seek intellectual-property protection, like a patent. In fact, that advice holds true for any situation where someone is shopping an idea around. Without it, a potential buyer might swipe the concept, warns Elle Kaplan, chief executive and founding partner of wealth-management firm Lexion Capital Management in New York City. Asking a suitor to sign a nondisclosure agreement before making a pitch can help, though some companies—like food manufacturers—tend not to ink those deals because they see so many similar products.
It also helps to bolster the case—and potentially increase the sale price—by preparing a prototype or presenting evidence that shows consumer demand. Survey data helps, though letters of intent from potential consumers are significantly better. "Research is one thing, but there's nothing like a customer order," says John McAdam, an author from Lambertville, N.J., and an instructor at the University of Pennsylvania's Wharton Small Business Development Center.
As for finding buyers, a good way to start is to investigate the market leaders in the industry. People can go to company websites and look for press releases or other material that describe outside products or entrepreneurial ideas they've purchased. In recent years, many big businesses have snapped up inventions from third parties to bolster their innovation efforts. Alumni associations, professional groups and contacts from trade shows can help make an introduction.
For people in academia, meanwhile, universities often have a technology-transfer office, which keeps in touch with venture capitalists about business-worthy patents that staffers develop. Bear in mind that these offices may want the school to hold the patent, not the creator—so they would end up taking a big cut of the payout.
And there are other caveats for any creators to remember. Approaching multiple companies in the hopes of striking a deal may backfire, since buyers want exclusivity. And if the creator has a day job, the employer may hold rights to the idea if it's in their field and if the inventor worked on it during business hours, says Steve Faktor, founder and chief executive of IdeaFaktory, an accelerated-growth and innovation consultancy in New York City. Companies often wink at employees in these situations because they don't want to be seen as villains, but there's no way to be sure.
There are also psychological questions to think about. If an idea gets rejected again and again, or if the sale price is skimpier than expected, inventors may end up resentful about the whole experience. On the other hand, inventors may feel remorse if the idea turns out to be a eureka startup and they get shut out of the glory.
Signing On for Steady Income
But maybe a quick payoff is too quick. Say an inventor has come up with an idea that seems destined to have a long shelf life—a kitchen utensil, for instance, versus something tightly tied to a trend, like a mobile app or fashion accessory. So, the creator wants to get a permanent cut of the sales instead of just a single check.
That means licensing the idea instead of selling it outright. Usually, the inventor will get a smaller initial payment than a straight-up sale and then 5% to 15% from each product sold.
John Janning of Bellbrook, Ohio, took this approach. When his wife asked him to find the bad bulb in a string of Christmas-tree lights, inspiration struck and he came up with a way to keep tree lights lit even if one burned out. Mr. Janning, a retired engineer who holds dozens of patents, thought the idea had a lot of potential but "I'm not a marketing guy—that's not my forte." So, after getting a patent for his lights, he researched manufacturers and found one that was willing to mass-produce his product and sell it. The terms: $50,000 upfront, plus a royalty of 5% on future sales.
As with an outright sale, inventors can check out potential suitors online, and those in academia can turn to their school's technology-transfer office. There are also middleman consulting firms that can make introductions to manufacturers, says Ms. Kaplan of Lexion Capital Management.
Most of the caveats about outright sales apply here, too, and there's something else to bear in mind: Some companies include a "best efforts" clause in their licensing agreements, noting that they'll try to sell as many products as possible. But some companies may interpret that very loosely—if not ignore it altogether. Bruce Bachenheimer, a clinical professor of management and director of the Entrepreneurship Lab at Pace University, gives an example from the gem industry. A conglomerate, he says, may seem keen to license a device that can transform carbon into diamonds—and agree to pay $1,000 for every carat produced. Yet they may take the agreement, "file that in a drawer and never produce a single carat," he says. "They want to control supply."
One way for inventors to stay safe: Make sure the license agreement specifies a minimum level of production, and that the company will deliver regular copies of sales reports to ensure royalties are being calculated correctly.
Keeping Long-Term Ties
In some cases, people can't follow up on an idea themselves but want to stay involved with it, beyond getting a regular royalty check. Often they want to have a strong advisory role, with influence on things like how the product is priced or how the brand should grow.
In these situations, there are a couple of broad strategies that people can pursue. First, they could find partners, or an existing company, to link up with. The partners provide the funding for the venture and manage the daily operations, while the creator sticks to the big picture.
Of course, there's a trade-off here. Since the creators aren't putting up any money to get the business going, they might have to skip an upfront payment and consider it the cost of getting a stake and continuing role. At the start, they can also expect to spend more time assisting with everyday things like recruiting efforts and ensuring their patents are correctly filed before moving into a behind-the-scenes role.
What's more, inventors who go this route run the risk of getting shunted aside as the company grows and more people come on board. They should be sure to get an agreement that spells out their title and role.
The other option for keeping long-term tabs on an idea: Instead of finding partners who fund the venture, the inventor fronts the cash and hires employees who run the nuts and bolts of the business. The inventor owns the company and directs the strategies, and the workers do everything else.
Obviously, there's a big trade-off here, too. Inventors need to put up money and find people to hire, and they risk losing their cash if the business flops. In fact, they're taking many of the steps they'd take to launch a regular business. But if they set it up correctly, they have a much stronger hold over their idea than they would if they found partners to pay for everything. And they won't have to make the commitment of time and effort that small-business founders usually face.
Consider Gracious Fade, a company that offers a Web-based service where people can leave digital photos and messages for their loved ones to see after they die. The founders—Allen Karch, a maritime enforcement specialist with the U.S. Coast Guard and with the state police, and Kevin Conrad, an attorney and state trooper—couldn't devote all of their time to the venture. So they hired outside experts to handle key areas of their business while they put in just a few hours a week—sometimes as few as five.
"It was important to bring people in-house and build up our company," says Mr. Conrad.
Giving the Idea Away
This option isn't as crazy as it sounds. In fact, it can be appealing for people who care about the idea more than the money—an educational or medical product that will help lots of people, for instance, or simply a concept that the inventor feels truly passionate about.
Mr. Faktor of IdeaFaktory says he has seen this happen many times at companies he's worked with, on social networks and in competitions for generating business ideas, especially among scientists and academics. "Many aren't wired for business and got into their field because of their genuine interest, curiosity and desire to help people," he says.
Creators who want to go this route may be best served finding a businessperson they know personally, or an organization they believe in, and signing an agreement spelling out that they're giving them the idea free and clear. Recipients, meanwhile, will want something in writing to protect themselves from claims down the road, says Mr. McAdam of the Wharton Small Business Development Center.
Sitting Tight for the Time Being
Finally, there's one important option to consider: waiting.
In all of the scenarios above, creators give other people some measure of control over their idea. But remember that ultimately inventors are going to be the best steward for their brainchild, even if they aren't willing to build a company around it right now. "No one has the passion that you have for the business," says Mr. Karch, who originally conceived the idea for Gracious Fade.
With time, reluctant entrepreneurs might be able to figure out exactly what's stopping them from launching a company. Are they waiting for the kids to finish college, for instance? Are they hesitant about the idea because they need to hammer out problems with it? Once they've identified the obstacles, they can create a timeline for working through them.
But beware: There's a time limit for anyone seeking to protect an idea through a patent, and someone else might come up with the same concept in the meantime. And, of course, not every idea gets better with age, notes Michael Lasky, an Atlanta-based patent and trademark attorney with Schwegman, Lundberg & Woessner. Many simply become obsolete—and if investors wait around too long, they may find that their product solves a problem that doesn't exist anymore or latches onto a trend that has fizzled out.
"Time is the enemy of invention," Mr. Lasky says.
Mr. Parmar is the assistant managing editor for WSJ.Money magazine. He can be reached at neil.parmar@dowjones.com.
Startups Seek Out Workers Who Want to Be Entrepreneurs
Many workers with in-demand skills aspire to start their own businesses—so recruiters are appealing to their entrepreneurial side
How do you get somebody to work at your startup if they'd rather be launching their own?
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It's a situation many new companies are facing. They're hungry for workers with advanced technical skills like engineers and product designers. But these days, many of those workers aspire to start businesses instead of signing on with someone else. So, startups are trying to appeal to prospective hires' entrepreneurial side, offering them the chance to set their own salary and decide which projects to work on. They're also pitching the jobs as a way for would-be entrepreneurs to learn how to launch their own company later on.
Sometimes, employers try more personal inducements. Jason Freedman, co-founder of commercial real-estate startup 42Floors, made a job offer to an engineer who was a self-professed Roald Dahl fan. Mr. Freedman sweetened the deal by leaving a plate of cookies and a copy of "Charlie and the Chocolate Factory" on his doorstep.
"It was one of those tiny small things that made him feel respected and loved," Mr. Freedman says.
A Necessary Mix
If finding entrepreneurs is so tough, why not just look for workers who don't want to start their own companies? Some employers say they need what would-be founders have to offer.
42Floors
Startup 42Floors tries to attract entrepreneurial staffers
Mr. Freedman, for one, says he wants employees who can work fast, come up with ideas without being told what to do and help reshape the company over time. What's more, nonentrepreneurs often can't handle the loose structure of a startup and have trouble working without guidance, he says.
But the pool of tech talent with entrepreneurial skills is small—so companies are competing hard to land qualified candidates, says Naval Ravikant, co-founder of AngelList, a fundraising site for startups, and AngelList Talent, a recruiting site for new companies.
Freedom is a big lure. At 42Floors, engineers can build what they want by working on their own or by pitching ideas to the company during weekly meetings. This method has launched some innovative projects for the company, Mr. Freedman says, including a feature where users can hover over an online image of real-estate listings to see the picture and details without having to click. For more mundane projects, Mr. Freedman says, he and other executives have to try to persuade employees of its importance. If they're not able to persuade them right away, he says, the project typically must wait until they make a stronger case.
A Sense of Mission
Mr. Ravikant says it's also important to give prospective hires the promise of a big mission, like a company "that will change how startups fundraise forever."
42Floors
Roger Cosseboom, an engineer at 42Floors, can attest to that. Mr. Cosseboom—who received Japanese scotch as a personalized gift from the company—says he ultimately chose to work there because he felt the employees were aligned in their vision of creating what was best for users. "It's not that it comes down to the perks," says the 31-year-old. "It's more about the kind of cultural fit and whether or not I can be part of a team that [I] believe in."
Mr. Cosseboom says that he still wants to start his own company. "It's kind of cheesy, but it's the best way to change the world a little bit nowadays," he says, adding that he hopes to learn from the team at 42floors. "You can internalize these lessons and then find a better platform to launch your idea."
Indeed, the chance to learn about entrepreneurship can be a strong draw. Jason Tan, CEO of Sift Science, a Web platform based in San Francisco that helps retailers identify fraud, says he tells engineering and design graduates to think of working for his startup as a training school for their future companies. "Instead of paying tuition, you're getting paid to learn," Mr. Tan says.
As for compensation, Mr. Tan says he offers candidates equity "in the top percentage." Mr. Freedman also gives equity and lets employees pick their salaries. They typically choose reasonably, he says, because everyone in the firm sees what everyone else makes.
Ms. Huston is an editor of The Wall Street Journal's The Accelerators blog on startups. She can be reached at caitlin.huston@dowjones.com.
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