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Why the Behemoths Buy Startups – The Business of Research & Development and Fortune 500's

Original Post on 16-Jun-06 3:47pm
The booming 90′s and the tech bubble produced some of the fastest paths to riches, especially for entrepreneurs. Startups with good ideas were quickly snapped up, without even a completed product. Thankfully, that exuberance burst, and the idea must at least be fleshed out. This system nearly makes corporate R&D budgets redundant and cost ineffective.

First, a bit of history: in the olden days, companies handled research and development in house. Costs for a mainframe computer were more than all but the largest organizations could afford. Think of Xerox PARC. The company developed everything, from the copier to the mouse, most dependent on computers. Most other companies couldn’t afford the R&D costs/staff for such a lab, and it was just too much of a risk exposing the fruits of lab’s labor, the intellectual property, to any external companies. The case law building the legal aspects of technology transfer were in place, but not as well defined as today. Later, University sponsorships gained popularity for their pure research aspects, where the technology was not normally developed into anything tangible, and instead transferred into the in-house labs. As time wore on, companies sponsored research with other companies, sharing the huge expenses, risks, and splitting the final rewards.

Compare this work to the more recent PC era. Anyone could do basic research or software creation with their own IBM clone and a little programming knowledge; the costs of entry were extraordinarily reduced. Smaller companies like Microsoft, and later Cisco in Networking, could compete in a fledgling industry with a first to market or lowest cost marketing advantage. These tiny companies make changes in response to new opportunities and define new strategies faster than their process oriented, large-scale opponents. Also with the PC and computer age came a slew of technology case law and boundary pushing patent applications. By the 90′s, business process patents began covering the hyperlink, one click purchase, and wireless email. Several of these came out of smaller, less well funded companies.

Fortune 500 corporations’ R&D couldn’t keep up. They became less integral to the company’s bottom line. The R&D expenses associated with the larger companies became a drag on the company’s profits and thereby susceptible to outsourcing. The new technologies necessary for a company’s business were protected by the more lenient laws, and licensed by the smaller developer to multiple big companies. This eliminated any competitive advantage for all of the licensees. So, most big companies spun off their R&D departments, creating autonomy and more nimble, competitive organizations, or essentially, well funded startups.

Today, to replace the lost product enhancements and cutting edge capabilities created in-house, Fortune 500′s began buying the smaller companies with market changing intellectual property or patents. By incorporating those products into the larger corporate vault, they also took away any competitor market balancing licensing or product copying techniques. This trend continues today, virtually eliminating the in-house Research & Development departments, and instead, allowing upstarts with great ideas the profits.

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