Fraunhofer institutes offer model for boosting commercialization in Ontario
In Working Paper 31, The final leg: How Ontario can win the innovation race, the Institute finds that Ontario’s poor record of commercializing research and inventions contributes substantially to the province’s mediocre innovation performance. This is a lost opportunity because the new and improved value-adding products, services, and processes that emerge from innovation are widely beneficial. They enable businesses to better serve customers, employ more workers at higher wages, and raise the productivity and living standards across the economy and society. Ontario should therefore close these commercialization gaps and boost innovation by investing in a network of technology and innovation centres (TICs) across the province.
This network would be based on the successful Fraunhofer Society in Germany, which many in the innovation space have touted as a global leader in research and innovation commercialization. In addition to long-term benefits to competitiveness and employment, Fraunhofer was estimated to add $3.4 billion to the German economy in 2015 through increasing firms’ sales, exceeding the total annual Fraunhofer budget of $3.2 billion.
But what is Fraunhofer, and why have its institutes been so successful in boosting the innovativeness and competitiveness of German firms? This blog post examines the Fraunhofer Society, its roots, and the reasons for its continuing success.
Fraunhofer Society: an established model for networks of TICs
The network of 69 Fraunhofer Society institutes across Germany are the most prominent and successful example globally of TICs. These intermediary innovation organizations act as a platform to support business innovation by providing client firms with on-demand services, such as specialized expertise and equipment, to fit their commercialization needs. They are characterized by physical locations where academic researchers and businesses can collaborate and jointly determine the TIC’s research agenda. TICs maximize the impact of other government spending on innovation, create jobs from growing more businesses, address the market failures of the commercialization gap, and act as “anchors for community economic development.” The Fraunhofer institutes are contracted to perform technical and commercialization research for public and private sector clients and develop university and self-generated research into marketable products and processes.
Fraunhofer’s origins and growth
The Society was established in 1949 during Germany’s post-war reconstruction. It began in the state of Bavaria as an organization tasked with identifying research topics, bridging university and industry research, and managing research funding. Initially it experienced financial difficulties, struggled to find its place in the German research ecosystem, and was limited to a largely administrative role.
This began changing in 1952, when Fraunhofer was declared the applied research ‘third pillar’ of the German research system alongside the DFG research funding organization and Max Planck Society for basic research. In 1954 its first contract research organization was established, the Fraunhofer Institute for Applied Microscopy, Photography, and Cinematography. Growth accelerated over the next two decades as Fraunhofer started receiving government base funding, military research contracts, and West Germany experienced an ‘economic miracle.’ By 1979 the Fraunhofer Society included 27 research institutes with 2,200 employees that generated annual revenue equivalent to $406 million.
Fraunhofer has continued to grow in size and scope. Despite its early reliance on military contracts—which made up over half of the Fraunhofer total research budget in the late 1960s—it later shifted toward civilian technologies and contracts with German businesses. It has grown by creating new institutes and absorbing existing research organizations, including several from the former East Germany after 1991. There are now Fraunhofer institutes across nearly all fields of German research strengths, such as polymers, cell therapy, algorithms and scientific computing, digital media, and more. Fraunhofer has helped develop several notable innovations including MP3 audio files, light-emitting diodes (LEDs), and cochlear implants. The 69 Fraunhofer institutes now employ 24,500 staff that engage in 8,000 research contracts each year, earning over $3 billion.
Throughout evolution, Fraunhofer regional approach has been key
A clusters approach ensures that Fraunhofer institutes’ technological specializations are aligned with the economic and academic characteristics of their surrounding area. Public and private sector organizations hire the scientists and engineers at Fraunhofer institutes to assist with commercializing new and improved products and processes. Clients typically approach Fraunhofer with a business challenge or idea that requires the institutes’ technical and business expertise to become feasible and cost-effective. Fraunhofer also performs technical commercialization research to develop inventions generated by its own scientists or in German universities.
While Fraunhofer generates a majority of its revenue from large firms, its core mission is providing applied research support to SMEs, especially ‘Mittelstand’ businesses. These are small family-owned businesses, often manufacturers descended from well-established artisanal producers and deeply rooted in the small towns and rural areas in which they are located. Mittelstand firms tend to dominate niche industrial subsectors and avoid competition through specialization and continuous process improvement, facilitated by contracts with Fraunhofer institutes. While Fraunhofer supports these firms with R&D services, it could also be argued that these firms support Fraunhofer because they generate a significant—and arguably the most consistent—share of its research contracts.
Sustainability from unique funding and governance arrangements
Fraunhofer has been able to survive—and thrive—for so long in large part because of its ability to adapt the organization to fit changing circumstances. One example is the ‘drittelsung’ funding model adopted in 1972. Under this arrangement, contracts with public and private sector clients each make up one-third of institutes’ revenue, incentivizing institutes to focus on research that meets businesses’ practical needs. The rest comes from government base funding that helps insulate institutes from short-run business cycles, subsidizes risky early stages of product development, and funds basic research that forms the foundation for future industry-oriented knowledge transfer.
Fraunhofer’s governance structures have also evolved to fit its growth and changing mission. As the Society doubled in size between 1965 and 1975 and took on an increasing number of contracts with industry, the central Fraunhofer organization headed by the Executive Board was assigned a stronger role. However, this centralization, designed to align Fraunhofer’s organizational structure to industry partners, led to backlash from Fraunhofer institutes that feared a loss of autonomy. Therefore a more inclusive and federalized governance system was developed over the next few years. This involved making base funding more dependent on agreed-upon benchmarks, opening up membership in the Fraunhofer Senate to individuals from more diverse backgrounds, and giving institutes greater operational flexibility to respond to changing conditions in the scientific community and contract research market.
Proven, widespread benefits from Fraunhofer
Throughout its history, Fraunhofer has proven beneficial for client firms and the economy-at-large. Partnering with TICs enables business to reduce risk, decrease time to market, and pay less for R&D. It also increases firms’ awareness of and capacity for adopting new technologies to better serve consumers and corporate customers. Contracts with Fraunhofer institutes generate substantial value to firms by enabling them to make use of otherwise unattainable abstract scientific knowledge. These benefits are particularly impactful for firms involved with manufacturing and other goods-producing sectors. Analysis shows that manufacturing firms experienced a 1.1 percent increase in sales revenue for every one percent increase in spending on Fraunhofer contracts. Ontario should therefore look to Fraunhofer for lessons to create long-lasting, substantial improvements to the province’s commercialization and innovation performance.
 Calculated from 2015 estimates reported in Euros in Comin et al. “Do Companies Benefit from Public Research Organizations?” 35.
 National Research Council. “Appendix A1: Canada’s Industrial Research Assistance Program (IRAP).” in 21st Century Manufacturing: The Role of the Manufacturing Extension Partnership Program, ed. Charles Wessner (Washington, DC: The National Academies Press, 2013).
 Figures reported in “60 Years of Fraunhofer-Gesellschaft.” Fraunhofer-Gesellschaft, 2009. Converted from 1979 Deutsche Marks to 2018 Canadian dollars by Institute for Competitiveness & Prosperity analysis based on data from MeasuringWorth and the Bank of Canada.