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Innovation Canada: A Call to Action
Special Report on Procurement

The Scope for Using Procurement to Enhance Innovation

In Canada, the federal procurement system has fairly diffuse responsibilities. The Treasury Board is responsible for policy and oversight. PWGSC is responsible for the administration of the system, and it formally contracts for about 89 percent of the total value of annual procurement representing 11 percent of all contracts. In other words, PWGSC provides contracting services on large contracts constituting a minority of the volume but a majority of the value. The Minister of Public Works and Government Services delegates authority for procurement of smaller and routine requirements. PWGSC also offers a number of tools like standing offers for these routine purchases that departments may use. Notwithstanding PWGSC's role in terms of value, the system leaves individual departments considerable leeway in defining their procurement strategies.

Within the Government of Canada's procurement regime, there are, however, a number of areas where policy direction could be altered in order to stimulate innovation.

Making Innovation a Specific Procurement Objective

The main objective of federal procurement policy is to achieve value for money. The policy also has a number of subobjectives: supporting SMEs, improving environmental outcomes and promoting Aboriginal business. Promoting innovation is not on this list of subobjectives as policy direction to departments and agencies, nor is there any clear direction on how to achieve such a result through procurement.

In this regard, one promising avenue to encourage innovation would be through specifying requirements in terms of their performance or functional characteristics, rather than their design characteristics. This would leave greater scope for new ways of achieving or surpassing requirements and open the door to innovation. While performance specifications are mentioned in the federal government's contracting policy, it does not focus on this, stating only that the "best value may be promoted if performance specifications are stressed."

Optional performance specifications are not likely to be used as frequently as desirable, since their use can involve greater risk and administrative cost than known, off-the-shelf design specifications. It does not necessarily follow, however, that performance specifications involve higher price, since that approach implies a potentially larger pool of competitors and the enhanced prospect of transformative, cost-effective innovation. In this regard, some departments such as DND are increasingly adopting performance-based specifications for large projects.

Increasing Contracting Out of R&D to Industry

Another avenue is to enhance contracting out of R&D required by government departments and agencies. Science-based departments and agencies tend to keep research required to inform their regulatory function in-house, but they also tend to keep research related to their social and economic mandates largely in-house, more for historical than any detailed costbenefit analysis.

According to Statistics Canada, federal intramural R&D amounted to $2.7 billion in 2009–10, while R&D contracted to business amounted to $0.8 billion (about half that amount again is contracted to academic institutions). Much of the extramural R&D to business is accounted for by a few agencies: the Canadian Space Agency ($250 million), the NRC ($150 million) and DND ($100 million). There is no government-wide policy mandating, or even promoting, contracting out.

It bears noting that the rules in international trade agreements exempt R&D contracts and "first product or service" and "prototype development" from open bidding. This means that there is considerable scope to ensure that contract R&D is undertaken by Canadian-based suppliers.

Even when contracting out takes place, the government's policy on title to intellectual property, namely to have it rest with the contractor, is often not followed. This long-standing policy, designed to encourage commercialization, was revised in 2000 at the instigation of Industry Canada to achieve higher levels of compliance. However, exceptions continue to be the rule, and the Auditor General found in a 2009 report that more than half of the contracts reviewed had intellectual property ownership retained by the Crown. Again, however, as is the case under the general contracting policy, the policy serves to provide guidelines, with no systematic incentives and disincentives to promote compliance.

Improving Support for SMEs

Governments support SME innovation through various tax and direct expenditure programs favouring SMEs. Procurement is also a potentially powerful instrument. Canada has not made use of specific small business set-asides, as permitted by trade agreements.

The federal government has experimented with the use of procurement as a tool for innovation, with SMEs as the target group. The most notable example is the Canadian Innovation Commercialization Program (CICP), a $40-million pilot program announced in Budget 2010 and managed by the Office of Small and Medium Enterprises in PWGSC. The program was created to help Canadian SMEs bridge the "precommercialization gap." Following matchmaking trade shows between industry and government departments, the program invited proposals not exceeding $500 000 from SMEs for near-commercial products with no less than 80 percent Canadian content in four priority areas of interest: environment, safety and security, health, and enabling technologies.

CICP is consistent with trade agreements, since the purchase and testing of precommercial goods and services are exempt. Follow-on purchases would be subject to open bidding by foreignbased companies under WTO and NAFTA, unless Canada invoked a small business exemption, which it has heretofore not chosen to do.

The CICP had its antecedent in the Unsolicited Proposals Program, which ran from 1974 to 1994. That program funded proposals from the private sector for the development of products and services of potential long-term interest to federal departments and agencies.

The only other federal program that is somewhat similar to CICP is Sustainable Technologies Development Canada (SDTC), a $1.5-billion fund targeted at helping late-stage development and precommercialization demonstration of clean technologies. Although SDTC does not have an explicit procurement objective, it does consult extensively with federal departments with respect to first use of technologies. The more likely market for most of its products, however, is at the municipal level.

Leveraging Defence and Security Procurement

Defence and security-related procurement constitutes an important opportunity for the support of business innovation because it is such a large proportion of total procurement and because state-of-the-art technological sophistication is required in modern equipment. Indeed, one of the key drivers of the US innovation system has been the civilian adaptation of military technology.

In 2008, the federal government announced the Canada-First Defence Strategy designed to strengthen key military capabilities and to facilitate Canadian industry participation, particularly high-value-added technology sectors, in forthcoming defence procurement requirements. There are three main industrial components of the strategy: the development of critical (short term) and strategic (longer term) technologies, industrial and regional benefits, and sector-specific procurement.

Critical and Strategic Technologies

DND's overall expenditure on science and technology was in excess of $400 million in 2009–10 and, of that amount, Defence R&D Canada (DRDC), the department's R&D arm, has an annual budget of about $340 million, with 1700 staff in nine research centres across Canada. According to DND officials, the department contracts out about 40 percent of its R&D requirements to business and academic partners through partnership programs such as the Defence Industrial Research Program and the Technology Demonstration Program. Another new program set to stimulate early engagement of industry and academia in generating innovative solutions to defence procurement needs, Project ACCORD, was launched this year. The program was inspired by successful models from Australia and the United Kingdom. With this recent launch, there is clearly scope to expand R&D partnerships with industry.

Industrial and Regional Benefits

Much of Canada's major equipment procurement is undertaken through foreign prime contractors and, as a result, the federal government has had in place for many years an IRB policy that requires prime contractors to allocate business to Canadian industry equivalent to 100 percent of the contract value. Currently there are about $20 billion in IRB obligations from existing major procurements. Industry Canada estimates the potential for IRB obligations on a go-forward basis to add up to a cumulative total of more than $40 billion.

The IRB policy, under Industry Canada's mandate, was reviewed in 2009 and implemented in 2010. It retains its essential feature of 100-percent benefits through commitments related directly to the acquisition in question or indirectly in other areas of the prime's activities. IRB policy also retains the feature of proposals being evaluated on a pass–fail basis rather than as an explicitly rated element of the overall bid and, consequently, specific transactions within IRB plans are left to the discretion of foreign primes, with monitoring by federal officials.

Although these changes are a significant step in the right direction, implementation is clearly a work in progress, and Industry Canada should actively review the pace and extent of uptake in order to make adjustments that would maximize the benefits from $20 billion of IRBs under active implementation and up to a total of $40 billion anticipated.

Sector-Specific Procurement

The main changes in the IRB update relate to incentives for greater Canadian participation in technology development. For example, under the former policy, 60 percent of IRBs needed to be identified prior to contract award. This has now dropped to 30 percent for large contracts, but within a long-term strategic plan to allow time to identify and negotiate high-value-added contracts. There are also incentives: up to five times "multipliers" (i.e., credits worth five times the nominal amount) for the creation of public–private consortia, investments in Venture Capital Funds, and investments in academic and non-profit R&D institutions. Some elements of the revised IRB policy are still conceptual, such as targeting transformational technologies for future needs as well as investment in firm-level R&D and commercialization.

In 2010, the federal government announced a new National Shipbuilding Procurement Strategy (NSPS). The strategy is driven by the economic opportunities presented by ship procurement spending over the next 30 years of about $35 billion and represents a Canada-first, strategic approach to a sustainable industrial capacity.

The NSPS seeks to provide for the long-term support of two Canadian shipyards, one for combat vessels and the other for non-combat vessels. According to federal officials, although Canadian shipyards will be designated, contracts may be led by foreign primes, thereby also involving IRB offsets as part of the overall package.

In addition to traditional offsets, bidders are required to propose a "value proposition" equivalent to 0.5 percent of the contract price for the long-term capacity development of strategic partners in the Canadian marine sector in the following priority areas: human resources development, technology investment and industrial development. Unlike current IRB policy, the value proposition is a rated requirement in bid evaluation. The NSPS is a potentially useful model for other sector-specific or technology-specific, Canada-first procurement designations.