Incubation is alive and well: let the budget cuts fall where they may, schools continue to feed the incubators that nurture new business and new revenue. (Business).

Chances are you've never heard of Knowledge Dynamics, Hydroglobe, or AnthroTronix, but one day, their products may improve life for us all. These, and hundreds of successful products and companies--the Google and Lycos search engines, the cancer-busting drug Taxol, and the Internet grocer Peapod, to name but a few--began life in university-affiliated business incubators.

At more than 200 colleges and universities across the country, administrators are hoping to leverage their relationship with business incubators to bring in research funding, attract entrepreneurial faculty and students, strengthen local economies, and bring in revenue from licensing research discoveries to startups.

RETURN ON INVESTMENT

But incubators offer more than revenue-generating opportunities for colleges and universities, they create a bit of cache to research-focused institutions such as Columbia University, Ohio State, Rensselaer Polytechnic Institute, and Massachusetts Institute of Technology. They also help these schools to attract high-caliber faculty and students. In fact, according to the National Business Incubator Association (www.nbia.org), colleges and universities are affiliated with or sponsor more than a quarter of the 950 business incubators in North America.

And for as many schools involved with incubators, there are nearly as many approaches to managing and funding the operations. Most successful incubators are nonprofits, largely outside the realm of university governance. This independent setup is prized because it allows the incubator management to be entrepreneurial and turn on a dime--two characteristics often anathema to university culture.

What's more, says Meredith Erlewine, director of Publications for NBIA, "I believe a large part of an incubators success is attributed to the invaluable network it creates for its clients. An incubator tenant is not a standalone company--it shares space with many other startups, and can brainstorm with them about how to deal with revenue shortfalls and the like. And, unlike start ups in the corporate world, these startups have incubator managers and whole networks of professionals that they can call on."

Many schools build and subsidize the incubators as part of research parks, and spring for the salaries and benefits paid to incubator staff, says Erlewine. Of course, startup costs vary by the nature of the business, but operational startup costs typically total several million dollars, with annual operating costs running at half a million or less, depending on the breadth of the program. For universities, the incubator is the valuable link between research and the marketplace, nurturing young companies through the critical startup phase.

The top incubators are themselves dynamic models of business efficiency. Like Purdue University's Purdue Gateways (www .purdue.edu/Research/PRF/Gateway.htm; see sidebar), they not only provide office space under affordable, flexible terms, but also offer shared resources such as office equipment and technology support. Most also have marketing and management services for their fledgling, temporary tenants.

Other institutions go further, providing seed funding to new companies. And today, many university incubators also reduce or eliminate the licensing fees that the startups would normally have paid to commercialize the discoveries made in the university research labs, opting instead to take equity positions in the new companies.

These capital and annual outlays are repaid in several quantifiable ways, including:

* the dollars that schools collect in licensing their discoveries to incubator companies

* fees paid to rent university lab time or equipment

* the returns realized when a startup (in which a school owns equity) is acquired, or goes public

The equity-stake path hasn't resulted in vast returns, however, because most new, publicly held high-tech companies flounder for some time. But, historically, universities can afford to be mighty patient investors. "Universities have only been actively incubating since the mid-'90s," says Erlewine. "It will be a few more years until we can truly see what the returns will be like."

FRINGE BENEFITS 

But revenue is just one intention of incubators. Just as important are less tangible benefits such as:

Internal and public relations value. Business incubation on campus helps retain faculty that might otherwise leave for the private sector, because it offers entrepreneurial faculty the opportunity to start their own companies with the blessing of the school. It also gives students the experience they need to get jobs after graduation. Plus, by bringing jobs to the campus, incubators can improve community relations. And incubators often meld perfectly with an institution's mission because they enrich the educational experience and the local community.

The best employee pool. Students may have the most to gain, with their technology and business skills in demand at incubator companies. At the Science and Technology Campus Corp. (Scitech: www.stcc.org), an incubator affiliated with and partially supported by Ohio State University, more than 30 percent of the 300 people employed by the 26 incubator tenants are students. Incubator companies also participated in 169 cooperative research and development projects with university faculty and students, says Ora Smith, president of Scitech.

Boost to regional economy. In the fiscal year 2000, nearly 370 new companies were formed with technologies licensed from academic institutions, according to the most recent survey data available from the Association of University Technology Managers (www.autm.org). Of these, more than 80 percent remained in the same geographic area, directly boosting the regional economy with an infusion of jobs and revenue that may not have come to the area otherwise. More than 500,000 jobs have been created by incubators since 1980, when the Bayh-Dole Act spurred the first big wave of incubator creation. What's more, while the Small Business Administration estimates that about half of small businesses fail within four years, the NBIA claims a remarkable 85 percent survival rate for incubator companies.

"These startup companies take root across the state; they become taxpayers and hire the kinds of graduates that we produce," says Don Gentry, vice provost for Engagement at Purdue. "Thor's our return on our investment." Purdue operates 150,000 square feet of incubator space housing 62 high-tech startup companies. The revenue generated is enough to cover the costs of the building.

Reducing "brain drain." Many incubators are open only to specific kinds of companies--biotechnology or industrial engineering, for example--and usually place limits on the size of incubator companies or duration of their stay. Some are limited to no more than 50 employees or five years in the incubator. Others, such as those hatched at the biotechnology incubator at the University of Alabama, for example, must leave when their products receive USFDA approval. Companies are frequently selected for their industry niche, and to attract other companies in the field. Their selection is often part of a concerted effort to make a region a high-tech nexus.

The idea, says Gentry, is to entice graduates to stay in the school's state, rather than move to other states where high-tech companies cluster. "We're trying to produce the kinds of jobs our graduates would take."

AFTER THE FALL

In the last year, while budget cuts ravaged most areas of higher ed, insiders say incubators have weathered the storm fairly well. Case in point: Although Enterprise Development Inc. (www.enterprise-development.org), an incubator affiliated with Case Western Reserve University in Ohio, shared in a 6 percent reduction of state funding to all agencies earlier last year, it was spared a further 25 percent budget cut that other state programs, including higher education, endured later in the year. That, says Wayne Zeman, vice president of Incubation and Commercialization at EDI, was because the state recognized the importance of the incubators in economic development.

Academic R&D. More important than minor fluctuations in incubator budgets, however, is the continued research and development funding of a school's academic departments, because it is the work done here that leads to the creation of an incubator.

"Research is the foundation of innovation," says Terry Young, president of the Association of University Technology Managers (www.autm.net) and assistant vice chancellor for technology transfer at Texas A&M University. "Without it, we wouldn't have the ideas that eventually become intellectual property we can work with."

Here, too, though higher education programs are taking hits in a difficult economy, funding for research and development seems unlikely to decline, especially in the current world climate. The government is particularly eager to find ways to counter threats of bioterrorism as well as attacks to the nation's information infrastructure. In fiscal 2000, about $30 billion was spent on research and development at U.S. colleges and universities, according to the National Science Foundation. More than half the funding came from the federal government, which has increased funding for university research nationwide an average of 5 percent a year from 1995 to 2000. In 2000, only about 20 percent of university research funding came from institutional sources such as university budgets and university foundation grants, and that number remained steady over the preceding few years. Corporations contributed just under 7 percent, according to NSF data.

NOT-SO-VENTURESOME CAPITALISTS

Perhaps the greatest effect the recession has on university incubators is that their fledgling companies are finding it difficult to secure venture capital to fund operations beyond the university's initial seed money.

Tighter VC funding; tougher deals. "Venture capital funding is now more conservative; it's harder to get dollars into the business," says Zeman of EDI at Case Western. "So, although the companies are operating, they're not growing as fast as they once were."

Then, too, as venture capitalists hold onto their money, some schools have seen a decrease in technology licensing deals completed--and less money means fewer buyers. "In the past year, we've noticed that the segments of our business that license the technology have slowed dramatically. It's tougher now to complete deals," says James Severson, past president of AUTM and president of the Cornell Research Foundation.

Positive side effects. Some incubators have also seen a decrease in companies vying for incubator space. That's not necessarily a bad thing, says Smith of Scitech: "The quality is up noticeably. We get far fewer crackpots and weird ideas." And, just as in a bear market, some schools see the poor economy as a buying opportunity. "The recession is reducing our borrowing costs, which makes it cheaper for us to build more incubator space," Smith says.

Backing their own venture. Scitech is one of the few university-affiliated incubators that operates its own venture capital fund, composed of state and corporate donations. The incubator invested $2.4 million in six companies during the last year. Those six companies are among the 20 small technology businesses that reside in Scitech's 430,000-square-foot research park. "The incubator has a client admission committee that looks for evidence of viability," says Smith. "To join, a company has to have a business plan and some idea about what the heck they're doing."

Scitech is now working to raise a second round of VC funding. The first time, companies donated the matching funds required by the state. This time, the recession is making the job a bit tougher, Smith says. "I'm confident we'll raise the matching funds, but it's taking longer than it did a couple of years ago," he says. "The next match will probably have to be set up on an investment basis, and not as contributions."

Unlike the dot-corn boom of several years ago when venture capital could be had for little more than a concept, investors are more careful with their money, and scrutinize star[ups closely. There is a positive side effect of this trend, however: a growing confidence in the value of incubated companies.

As for the future of college- and university-sponsored or -affiliated incubation, additional help may be coming from the government. Last summer, Sen. Edward Kennedy (D-MA), proposed senate bill $1335, advocating the expenditure of $20 million to support business incubation in academic settings. The legislation, currently in committee, would help universities provide space and expertise to nurture new and emerging small businesses.

Says EDI's Zeman: "We're seeing fairly strong and ongoing support because people recognize that incubators will stimulate the future economy."

[HIGHLIGHTS]

* More than 500,000 jobs have been created by incubators since 1980.

* Most incubated companies remain in the same geographic area as their parent university, directly boosting the regional economy with jobs and revenue.

* In 2000, nearly 370 new companies were formed with technology licenses from academic institutions.

* Research funding is unlikely to decline given the current concern over security and bioterrorism.

RELATED ARTICLE: Spreading the good word.

When Purdue University launched its Purdue Gateways incubator in 1993, the idea was simply to license some of the technology the school was developing. "We weren't experiencing the growth we thought we should, although we had many discoveries coming out of the the university" says Don K. Gentry, vice provost for Engagement at Purdue.

Since then, the program has met with remarkable success. Morn than 40 new companies have been launched in the four industry segments that are Purdue strengths: information technology, biomedical, manufacturing technology, and software development. Sixteen of those 40 were founded last year alone. The incubator program hasn't seen any of its companies fail in the past two years, says Gentry.

The Purdue Research Foundation built the incubator facility from its own funds as a debt-free facility, intending the building to become self-supporting via rental fees after four years. That milestone was reached in just three years, and at 90 percent occupancy, the facility generates enough income to pay for the incubator services and staff. Now the state wants Purdue to replicate its model in other Indiana communities.

"Our success is based on two things," says Gentry: "The advantage of being able to use university resources and, more importantly, our Gateways services such as strategic planning, market analysis, introductions to investors, and business-plan assistance. That's the model we want to take to other places."--RS

Rebecca Sausner is a freelance writer based in Brooklyn, NY.