Innovating for the market: Focus on research and facilitating an entrepreneurial environment

As the government attempts to open strategic sectors of the economy to competition and attract more foreign direct investment (FDI), much is also being done to improve science and research as a means to spur innovation. Increased spending, coupled with changes in regulation, is expected to fuel the growth of start-ups and make the business environment more dynamic. Increased political support for research came as the new president, Enrique Peña Nieto, took office. Days after beginning his presidential term in late 2012, Peña Nieto announced the creation of a high-level committee to advise him on scientific matters and assist in designing reforms for the sector.

Political discourse is increasingly echoing the position that Mexico’s future economic growth will depend on businesses’ capacity for innovation. The current administration’s stated goal is to raise annual expenditure on science and technology from its current 0.4% of GDP to at least 1% of GDP by 2018, when Peña Nieto’s term is set to finish. Much will depend on a better organisation of resources.

IMPROVED INVESTMENT: Mexico’s public research activity is centred on a range of public universities and research institutes. In November 2013 Congress passed a bill to increase the 2014 budget for the country’s main research agency, the National Council for Science and Technology (Consejo Nacional de Ciencia y Tecnología, CONACYT), by 20.5%, reaching MXN31.5bn ($2.4bn). Because of its impact on supporting programmes, the strengthening of CONACYT sends a strong message. Coupled with this budget increase is a rise in Mexico’s total science budget by 12%, to MXN82bn ($6.3bn). “Mexico needs to enter a new investment-attracting stage in which knowledge transfer reigns,” Enrique Cabrero Mendoza, General Director at CONACYT, told OBG.

Such budget expansions will deliver new force to developing the sector’s human resources. In the early 1980s CONACYT established the National System of Researchers (Sistema Nacional de Investigadores, SNI), a classification scheme that divides scientists into three levels depending on their published work, mentoring of other researchers and other academic achievements. This has been the central method used to evaluate human resources in public scientific research institutions.

According to 2011 figures, around 40% of the country’s researchers are staff from National Autonomous University of Mexico (Universidad Nacional Autónoma de México, UNAM), Mexico’s biggest university. There are 20,000 scientists currently listed in the SNI, and the small number of researchers registered may be connected to university degree choices. Between 1990 and 2012, just 16.7% of university graduates chose to study engineering or technology-related degrees.

The government finances more than 60% of all research. CONACYT has steered financing to specific areas, prioritising research on renewable energy, pollution management, ecology and health. It also channels support towards collaborative research between private and public institutions, but these efforts have had a limited impact on the creation of new spin-offs. Despite government efforts over the years to boost the quality of scientific research done in the country to international standards, effects on the local industry have so far been limited.

MAKING PROGRESS: Government incentives for private research and development (R&D) have evolved over the last decade. Recently, Mexican authorities have put more emphasis on the distribution of grants, especially as a way to encourage collaboration between the private sector and public organisations.

Tax breaks for R&D have been tried before. In 2002 the CONACYT set up a $1.3bn programme for companies investing in research through tax breaks. The scheme was cancelled in 2009 due to disputes over new tax regulations and the perception that exemptions were benefitting larger companies. Indeed, both the private sector and the research community have called for tax incentives to be re-introduced. CONACYT’s new management has announced a plan to redesign the programme, although further details have not yet been released.

In the meantime, there are grants. In 2013 financing for a CONACYT government grant programme to encourage innovation in the private sector was increased from $150m to $230m. The programme, created in 2009, is aimed at supporting research by private companies, especially of the sort that can lead to production efficiencies at small and medium-sized enterprises (SMEs), and more importantly, that can foster new business ventures. This is essential in a country in which 99.8% of all companies are SMEs and where SMEs account for 72.3% of formal employment, according to a 2013 OECD report.

With financing from banks hard to secure for Mexico’s smaller firms, government financing creates a positive relationship, as the companies are expected to later back government funds with their own investments. A total of 522 companies benefitted from the programme in 2012, up from 503 firms in 2009. Besides the financing aspect, the programme for private investment in research has also helped to strengthen the link between the private sector and university research capabilities.

According to CONACYT, the percentage of companies that cooperated with academia on government-funded research programmes rose from 69% in 2009, the programme’s first year, to 91% in 2012.

NEW REGULATIONS: A new intellectual property bill will help to better link innovation with new business development by letting universities use publicly funded work for commercial purposes. Mexican authorities hope this might spur greater entrepreneurialism. Under the current law, scientists working in government institutes are not allowed to profit from new patents. This has been a strong deterrent to incorporating scientific research into new products, as well as connecting what is done in public institutions with the needs of the market.

“Because of the way research has been disconnected from industry and the commercial aspect, most researchers aim for the publication of their investigation, not necessarily for discovery for commercialisation,” Antonio del Río Portilla, the director for the Institute for Renewable Energy at UNAM, told OBG. “This is changing, and slowly more students and researchers think about research and innovation as a means of future business creation.”

To coordinate with the federal government’s efforts to increase innovation within the Mexican economy at large, individual states are also trying to attract new R&D activity to specific areas of the country. The Federal District, Morelos and Jalisco were the first three states to create their own secretariats for innovation, science and technology. Over the past few years, this regional innovation policy was followed by the creation of technological parks in several cities, such as Monterrey, Guadalajara, Cuernavaca and Tijuana. Equally important will be efforts to improve working conditions for researchers. Limited employment opportunities and low pensions after retirement have encouraged some Mexican engineers to look for better paying positions abroad. One of the government’s challenges as it attempts to increase finance for research is to attract human resources back to the country. “In the US alone, there are about 11,000 Mexican scientists, about half of total scientists included in the SNI,” said Manuel Flores de Orta, senior manager for process innovation, knowledge management and analytics at PwC México.

Incremental improvements will come through the opening up of new positions. CONACYT plans to create 500 new research positions in 2014. The country’s main institute for scientific research will foster opportunities in sectors that have become important for economic development, such as renewable energy, health and agricultural genetics. Much can also be achieved by improving the retirement plans of researchers, who are reluctant to forfeit most of their salaries in favour of meagre pension schemes. A better pension scheme would allow researchers to retire earlier and open up the market for younger professionals to replace them. The average Mexican scientist is 48.3 years old, according to CONACYT. Tapping into younger talent could help to strengthen links between academia and industry.

RECENT SUCCESSES: Despite this, some success stories have shown that it is indeed possible to close the gap. UNAM, for example, has been able to turn pure scientific research into new products. The university’s Institute of Biotechnology, based in Cuernavaca, Morelos, created Mexico’s first biological fungicide to protect fruit crops. Fungifree, the product’s commercial name, has been patented in Mexico and is waiting on patent approval in Brazil, a massive agriculture market.

The spin-off was done through the creation of a new company, Agro & Biotecnia, which now produces Fungifree under a technological licensing agreement with the university. The company was developed at the Centre for Innovation and Technology Transfer in Morelos and received a grant of MXN2.3m ($178,710) from CONACYT’s Mixed Fund for Innovation for the production of a few batches of fungicide. Another recent successful spin-off from UNAM’s Institute of Biotechnology is a company producing an assortment of anti-venom products against scorpion and snake bites, which work more quickly and with fewer side effects. The scorpion anti-venom was also the first medicine produced in Latin America to be approved by the Food and Drug Administration for distribution in the US.

VENTURE CAPITAL: These examples show that a large amount of innovative research capability in Mexico remains under higher educational structures. But entrepreneurs are also appearing directly on the market with new ideas. In the latter case, venture capital is sometimes the best way to source initial financing. A big factor explaining the low levels of venture capital investment in the past has been the insufficient protection accorded to minority shareholders.

However, the creation of sociedades anónimas promotoras de inversión (SAPI), which is a type of limited liability firm, is designed to be a first step in allowing companies to join the stock market. Because of their stringent governance standards, SAPIs allow for more complete protection of minority owners’ rights, making it a viable option for start-ups to get financing from a variety of sources.

“The legislation has made things easier, because the law now protects the rights of small partners, which means that more venture capital funds are comfortable in taking minority partnerships in new companies,” said Fernando Lelo de Larrea, managing partner at Venture Partners, a venture capital fund based in Mexico City.

A much bigger role for venture capital might also arise from the current economic reforms the government is trying to push through, which are set to increase the level of competition in key sectors such as telecoms and energy. A freer economy, with more players competing against each other, might provide the right economic incentives to make financing start-ups with potential attractive. “In venture capital, the success stories are few, but the successes are generally very big, so you get the return on your level of risk. However, as long as institutional investors in Mexico continue to have above-normal profits in sectors with little risk, there won’t be a lot of appetite to invest in new ventures,” Lelo de Larrea told OBG.

INTELLECTUAL PROPERTY: Successful business ventures can sometimes translate into opportunities in the real estate segment. The Mexican Institute for Intellectual Property (Instituto Mexicano de la Propiedad Industrial, IMPI), which works within the Ministry of Economy, is responsible for all patent and trademark registration. Patent applications in Mexico have been increasing steadily, from 13,061 in 2000 to 15,314 by 2012, according to figures from the World Intellectual Property Organisation (WIPO).

A large percentage of applications for intellectual property originate from foreign nationals, which attests to the fact that the country still depends heavily on imported innovation and products. While according to WIPO patents in force nearly tripled from 38,372 in 2004 to 96,962 in 2012, Mexico continues to rank considerably lower than other neighbouring countries in the region.

In contrast to Mexico’s 1294 patent applications from local residents in 2012, the US saw 268,782 patent registrations and Canada received 4709 during the same year. When compared to its neighbours in Latin America, Mexico still ranks below Brazil’s 4798 patent applications by residents in 2012, but higher than Colombia’s 213, according to the WIPO. Besides managing applications for patents, trademarks and industrial designs, the IMPI is also in charge of enforcing regulations. In 2013 Mexico’s intellectual property watchdog confiscated more than 6m counterfeit products worth nearly MXN36bn ($2.8bn).

FOREIGN PLAYERS: The increase in the number of patents will be spurred by more investment into R&D activities, especially within developing industries with the capacity to grow national exports. Despite the challenges of its internal R&D industry and its geographical proximity to the US, where the sector is much more advanced, Mexico is nonetheless attracting research activities in certain niche markets, most of which are connected to manufacturing.

With increased private investment and governmental measures to enhance development capabilities, Mexico has the potential to become an R&D hub for companies operating in the Latin American market. In April 2013 car component manufacturer Continental started the construction of a MXN300m ($23.3m) R&D centre in the Mexican state of Jalisco. The centre was inaugurated in February 2014 and is expected to employ more than 1000 engineers over the next five years.

Investment in several facilities is also expected to come from industrial manufacturer 3M. In mid-2013 the US-based firm announced plans to build three research centres in Mexico, at a total investment of $400m between 2013 and 2016. The first of these has already opened in San Luis de Potosi, where the company has a manufacturing operation. Improving research capabilities on top of its current industrial infrastructure might be the right way for the country to secure value-added FDI.

AEROSPACE: The strengthening of its manufacturing base has allowed Mexico to become a relevant player in the aerospace industry, which employs more than 32,000 people in over 300 companies and research centres, according to 2012 figures from ProMéxico, the state agency tasked with promoting FDI. This has attracted high-tech developers and industrial manufacturers aiming to cut development costs by transferring US-based manufacturing and R&D operations to the other side of the border.

When Mexico’s aviation industry started to pick up in 2006, US-based manufacturer General Electric established its biggest R&D centre in Querétaro, which employs 1300 engineers. Honeywell, another US-based aerospace systems manufacturer, invested $40m on a research laboratory for systems integration and testing, and employs about 400 engineers.

BIOFUELS: Connected to the country’s burgeoning aerospace industry, the Morelan Centre for Agro Innovation (Centro Morelense de Innovación Agropecuaria, CMIA) is working on a project to develop biofuel for aeroplanes using a local plant, jatropha curcas. The project is currently supported by Morelos’ Secretariat for Innovation, Science and Technology. The CMIA is already negotiating with the government to help subsidise the conversion of swathes of underused agricultural land to jatropha curcas plantations. The centre is also in talks with Aeropuertos y Servicios Auxiliares, the exclusive provider of jet fuel in Mexico, to provide 11% of all aeroplane fuel used in Mexico from the region’s feedstock. The CMIA and the secretariat are hoping eventually to attract private investment to take over the building and running of a biofuel plant in Morelos.

SUSTAINABLE ENERGY: Efforts to focus research on clean energy generation have translated into the creation of the Mexico Sustainable Energy Technologies Development for Climate Change programme. The scheme, a partnership between the Ministry of Energy and CONACYT, started in 2013 to support the development of clean energy and reduce Mexico’s use of fossil fuels. The programme will be partly financed by the World Bank through its Global Environment Facility, which will allocate $100m. An additional $18.4m will be channelled through the Energy Sustainability Fund, a fund put together by the Ministry of Energy and CONACYT to support energy efficiency. The programme will finance collaborative projects between research institutes and companies.

HEALTH: Mexico has also been focusing R&D efforts on improving health care. Since 2009, the United Mexican States Fund for Science has been supporting developments in the national health sector through a grant programme, targeting SMEs that develop new health products. The foundation’s Technologies for Health Programme (Tecnologias para la Salud, TecSalud) has helped to incubate new ideas and support existing companies in the sector.

The TecSalud programme also channels additional innovation funding from state governments, the Ministry of Economy and CONACYT. In 2012 alone TecSalud supported 88 companies in the health sector across the country, mostly to assist them with ISO certification. Several successful ventures have been developed through or received assistance from the TecSalud programme.

The Mexican firm CECYPE, which specialises in biomedical and clinical trials, was included in TecSalud to expand internationally. Another company, Neoteck, accessed CONACYT’s Technological Innovation Fund to help finance its development of IT-based health solutions, such as an internet-based platform to manage patients’ medical information.

OUTLOOK: The goal of reaching 1% of GDP expenditure on R&D will be challenging, but a more competitive economy and support for innovation can make it attainable. Encouraging innovation through legal incentives that allow public and private research to thrive will be reflected in economic growth.

Easing legislation for patent use will encourage spin-offs of new ideas, and increasing the number of researchers working in the country will be essential to responding to a variety of new and changing needs in the market. In addition, better coordination between existing government programmes for entrepreneurs will help new businesses to succeed.