Preparing for the end of the boom: should super funds invest in science and innovation?

Investing in research and innovation could pay handsome dividends for a cashed-up superannuation industry. Flickr/Truthout

Superannuation funds typically invest in the market - ASX 200 companies, property, cash and bonds. These are attractive for several reasons. Management costs are relatively low, the assets are objectively valued, and they are frequently and easily traded. But is there a place for superannuation funds to invest in research and development? Would you want your super to be invested in science? How safe would it be?

In March this year a conversation was started between the scientific research community and superannuation industry about how superannuation funds could be used stimulate innovation in Australia. I was an invited panellist at this event, which was organised by Science and Technology Australia and attended by Federal Ministers Bill Shorten and Chris Evans, as well as representatives of the research and superannuation sectors.

The challenges facing both sectors are clear. The research community believes it never has enough money, and comparisons are inevitable with countries such as Singapore and Israel, where per capita research spending is much higher.

These countries, however, have few or no natural resources. While Australia still spends more than other resource rich nations, perhaps the abundance of natural resources in Australia leads to complacency. Coupled with the current debate over falling productivity in Australia, the concern is that we may as a nation have serious problems when the resources boom ends.

The superannuation industry has at its disposal funds of some $1.3 trillion, which, with contributions and investment income will rise to $3 trillion within 10 years. This is equivalent to more than double Australia’s GDP. But is it not as simple as just giving money from superannuation for research. Superannuation funds have a duty to invest for the benefit of their members, not scientists.

I would argue that superannuation fund members could, in fact, benefit from investment in R&D. Investing in research and innovation can pay handsome dividends. There are well documented successes, such Google and Apple in the US and, closer to home, Cochlear. But investing in research and innovation is a long way from the typical superannuation fund’s comfort zone of listed securities.

Research and innovation, by its nature, is risky. For example in the Biotech industry the success rate can be as low as 1 in 2000. That is, for 2000 chemical compounds synthesised and tested, only one will make it into an approved pharmaceutical. But ironically, the Biotech sector has a model that people can understand. The timescales and milestones (successful clinical trials, FDA approval and so on) are well understood. Unfortunately this is not the case with other sectors, like information technology, where success or failure apparently just happens.

Many innovative companies are small. Smaller and emerging companies are less attractive for several reasons - lack of liquidity, lack of available information and management costs.

Management costs are very topical following the Super System Review in 2010, chaired by Jeremy Cooper. There is a drive in the industry to contain and reduce costs and improve net returns, particularly when returns are low. Liquidity is important as members are at liberty to withdraw funds at 30 days notice. But as funds consolidate, and the total funds under management more than double, changes may be both necessary and possible. Larger funds can afford to invest in illiquid (and risky) assets because their overall exposure is lower, and as more and more money flows in, the question arises of where to put it and still get good returns.

So there may be advantages in superannuation funds considering investment in smaller, earlier stage, companies where the potential increase in value of the successful ones will more than outweigh any failures. The investment in this category (i.e., the exposure) must be relatively small for the reasons above, but for the bigger funds, this should still not be an issue.

Similarly, larger funds have capability to absorb higher management costs associated with smaller investments. The remaining issue is lack of information (or rather understanding). One suggestion is to emulate the mining industry that created a code of conduct after the Poseidon bubble in 1969. This mandates standards for reporting and accreditation, providing reliable information to investors. It was suggested that a similar code could be adopted for research and innovation, giving investors more confidence.

Equally, scientists need to understand what investors want and what information they must provide. They need to recognise that investors place a high value on non-scientific factors such as management quality, governance, barriers to entry, path to market and growth potential. The invention or idea, per se, is necessary but by no means sufficient for success. Essentially scientists must learn the language of investment and understand what investors need.

So there may a win:win. Superannuation funds discover a whole new class of assets with potentially high returns, members are happy and research and innovation gets access to more funding. It is a worthwhile goal that, if achieved, will have benefits for the Australian economy and society as a whole. Let’s keep that conversation going.

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