Tech firms killing off Pentagon R&D

That hardly serves to inspire confidence in the world's most high-tech military. But the Defense Department doesn't have much choice: Last December, Intel closed its military-development arm, which used to make customized chips for the Pentagon. "It was a very expensive business for us to run and the volumes were relatively small," says Intel spokesman Chuck Mulloy.

Intel Corp. (Nasdaq:INTC) isn't alone. IBM Corp. (NYSE:IBM), DuPont Co., General Electric Co. and numerous other technology-oriented companies also have sold or shut their defense research-and-development businesses in recent years. Even some traditional defense contractors are scaling back on R&D work. Stan Solaway, the Pentagon's head of acquisition reform, says three-quarters of the country's top 75 or so information-technology companies won't do research for the military.

A shrinking R&D slice
After dominating American R&D activities for decades, the Pentagon today is responsible for a shrinking share of the nation's R&D spending, and fewer companies are willing to put up with the red tape involved in competing for it. Moreover, the surging economy has created a voracious consumer appetite for high-tech gadgetry and driven companies that might otherwise be interested in military work to more marketable endeavors where there is no question who can profit from new innovations.

"What makes this really sobering is that much of what we're looking at in the future is a battlefield dominated by information technology," Solaway says. And there's no telling, he adds, what futuristic weapons of warfare might never exist as a result.

In the past, Pentagon-sponsored R&D made the U.S. the world's undisputed leader in smart bombs, stealth aircraft and the like, while spawning innovations that found their way into just about every household in the country, from the Internet to the microwave oven. But much of America's high-tech firepower was designed to fight the Soviet Union. Now that the Cold War is over, threats facing the United States are changing, making innovation all the more important.

And when it comes to innovation, these days the commercial sector is leading the way: In 1971, the U.S. Patent Office awarded 1,271 patents to the armed services, accounting for 1.6 percent of total patents issued. Last year, the figure dropped to 585, a paltry 0.4 percent of total patents issued. U.S. companies, by contrast, received 66,062 patents last year, 45 percent of the total and a 50 percent increase over 1971.

A future in 'jeopardy'
"The Defense Department's future technological superiority is in jeopardy if it can't effectively leverage our commercial industry," says Jim Richardson, vice president for research at the Potomac Institute, a nonprofit think tank that studies such issues for the military.

Budget pressures have squeezed military R&D spending in recent years, and that spending is expected to total $38 billion in fiscal 2000, down 30 percent from its inflation-adjusted peak in 1989. Meanwhile, the private sector's share of total R&D expenditures in the United States is soaring. In 1960, private-sector R&D spending amounted to roughly one-third of the country's total. In 1999, it accounted for two-thirds (an estimated $166 billion). Over the same period, the military's share dropped to 16 percent from 53 percent.

Thus, the Pentagon just isn't the big R&D customer it used to be. Up until 1970, it accounted for all but a handful of all computer-chip sales. Today, private-sector customers snap up 98 percent of them. "We're looking at a marketplace that is exploding around us," says Mike Ellingson of IBM's Global Government Industry Division, explaining why IBM sold its defense-oriented aerospace arm to Loral Corp. in 1994.

Most companies gladly sell the military anything from their general lines. But specialized R&D projects tend to involve a bureaucratic morass. Just to keep up with the Pentagon's many financial checks, Eastman Kodak Co.'s (NYSE:EK) government-systems division employs twice as many finance and accounting people as a commercial unit that rings up twice the sales, says contract manager Stanley Fry.

Contracts and legal staff
Earlier this year, the Air Force asked Corning Inc. to develop a glass window that could withstand laser penetration. The contract was worth less than $100,000, a sliver of the $10 million in sales overseen by Bob Jones, Corning's product line manager for mirrors, so he figured he could shirttail the project to another production line with minimal effort. But then the Air Force sent him a 60-page contract.

Jones says Corning doesn't mind such requirements for major projects, but, in this case, "we had to bring three or four of our legal folk to see if we were in compliance -- almost to do [the Air Force] a favor," Jones says. It took three months just to finalize the agreement. Given all this, Jones says, he foresees manufacturing a number of windows for the military and then "we'll have to re-evaluate the profitability of this business."

The Defense Department has tried to address such complaints as part of a broader effort to streamline procurement while maintaining checks prompted by the 1980s' procurement scandals. The Pentagon issued regulations in 1991 that allow for more commercial-friendly R&D agreements. After the Defense Advanced Research Projects Agency, known as DARPA, the top military laboratory where the Internet was born, experimented with a "dual use" program that finances research projects with both military and commercial applications, the Defense Department extended similar programs to the services' budgets.

A growing practice
DARPA general counsel Richard Dunn brags that "much more than half" of his agency's projects now take advantage of such reforms. But he says the rest of the Pentagon is "hierarchical and bureaucratic. There are lots of layers of folks who need to be convinced." For example, he says that on a recent visit to the Navy's system's development and procurement headquarters, "they knew none of the details" of the programs. Gen. Richard Paul, commander of the Air Force Research Laboratory in Dayton, Ohio, says, his service's "learning curve has really accelerated in the last three years or so after we stuck our toes in the water." Still, just 5 percent of the Air Force's $1.2 billion R&D budget went to dual-use projects.

"The [procurement] situation has gotten better -- just not in R&D," says Bob Spreng, executive director of a group of nine major, high-tech companies that are pushing for reforms to make dual-use work easier to undertake.

It's not just red tape that spooks potential Pentagon partners. There's also the high-stakes question of intellectual-property rights. Companies understandably want to own and profit from any patent developed through government research. But traditional defense contracts don't allow that, based on the rationale that the government shouldn't allow just one company to profit from an innovation financed by the taxpayers. "These are the biggest frustrations," says Henry Kohlbrand, Dow Chemical Co.'s director of external technology and intellectual-asset management, explaining why his company does little Pentagon work. "You have to educate them on trade secrets and patents and the importance of that in the outside world."

Access to data
Moreover, the military often demands access to sensitive data used by companies to develop its products, arguing that it needs such information for battlefield repairs. But in many cases, company executives say, the data are only tangentially related to the system in question. Contract negotiations between Kodak and the Air Force for an imagery-software development project recently bogged down over such issues. The Pentagon wanted Kodak to modify software that it hadn't yet put on the market. But the original contract would have given the Pentagon access to data used not just for the modifications but for the original software, too. After two months of negotiations, the Air Force deleted the problematic language.

"They fund a little incremental piece of work, but they want rights to all the data," says Kodak's Fry.

"We have the ability to do a lot more than what we're doing," says Solaway, the acquisition reform official. The brass encourages greater cooperation with the private sector, but in the rank and file, "a lot of people are afraid someone will come down on them with a hammer if it doesn't work," he adds. "What's really required are big cultural changes."