Article

02/10/2014

In search of Central European Silicon Valley

Filip Konopczyński, Karol Muszyński

Imagine a startup created by two IT students who met on a technological university campus. They found a niche in the market and an idea for a solution – text-to-speech software that would help visually-impaired people run more normal lives, enabling them to obtain decent quality spoken text on the Internet, for e-books, or wherever needed.

The startup uses extremely innovative solutions and quickly gains venture capitalist investment. It is systematically developed, and successfully releases its product onto the market. After a couple of years, the company is purchased by a huge corporation that provides it with enough funding to spread their innovative product all over the world. The corporation’s stock price booms, gaining over 2% right after the deal is disclosed, and yielding profit to its elated investors and shareholders.

Sounds like a Silicon Valley story? Partially. The small startup is Poland-based IVONA Software, the best speech synthesis system in the world to date; the university – Gdańsk University of Technology; the initial venture capitalist was actually the Polish state, which funded IVONA at the beginning and provided it with essential infrastructure; and the big corporation at the end is a tech giant whose net worth is estimated over 20 billion dollars. To be more specific – Amazon, the Amazon. It all sounds like a marvelous success story, doesn’t it? Let’s have a closer look.

Polish programmers are considered to be among the best in the world, often winning hackathons and coding championships. Poland ranks high in the fields of mathematics and physics (PISA 2013, IMC 2013), and the level of a Polish IT education encouraged Google to fund a campus in Warsaw – the third in the world after such technological power hubs as the UK and Israel. It is therefore not astonishing that the Polish economy has recently become very startup-oriented.

The Polish Agency for Enterprise Development (PARP) supports creating tech parks and venture incubators, and runs programs boosting R&D, however mainly in the small and medium enterprises sector. The most famous of PARP’s initiatives, “8.1 program,” aims to provide subsidized companies with support ranging from 5,000 to 170,000 euros, which is, due to the rather small amount of money, visibly intended to go to small businesses. The problem is that support, however essential for an aspiring startup, is usually not sufficient enough to turn a company global.

Silicon Valley functions as a technological hub with small startups countered by huge corporations that provide them with the means to make their success global. The Polish economy is mainly about SMEs (which account for more than 90% of all companies). If a Polish startup proves to be good enough (successful, promising, scalable), it usually ends up being purchased by a large foreign company.

The Polish economy suffers from a shortage of big, technology oriented business players. Foreign companies “draining” the recently-in-bloom market of local startups thwart the chances of a hi-tech Central European network rising. Such a network could function as an effective business ecosystem, connecting large companies with its smaller counterparts thus creating a, pardon the word, synergy effect for the Polish as well as Central European economies and its labor markets.

Let’s not be unclear on this: it is not the old question of economic nationalism, but rather one of the possibility of overcoming obvious economic obstacles and challenges on a regional scale. Without strong companies successfully competing on the global market, Poland will find it hard to maintain its recent high economic growth into the future.

Experts from Lewiatan Business Angels, a leading Polish venture capitalist group, suggest that the biggest problem for Polish startups is, in fact, not the shortage, but, on the contrary, the surplus of money. The spectacular flow of easily accessible European funds leads to a situation where there is too much money for businesses that aren’t truly innovative. The generously subsidized, under-incentivized and unproven on the real market entrepreneurs have little chance of getting subsequently purchased by a larger company.

Seeing no way to implement the globalization of their innovations, Polish startups are instead getting the funding and creating a veneer of real business, only to take the public’s money and run, leaving their initial project behind. Startups hone innovations that require a business launch pad for them to enter the global market. With few exceptions, Poland lacks these launch pads.

GOG.com, a Polish company and the second biggest video games online distribution service in the world, is an exceptional case. Parented by a highly successful Polish game developer, CD Projekt, GOG.com managed to develop an innovative formula that made it a “rising star” among the digital game distributors. As a side note, CD Projekt RED received substantial financial aid from the state and Europe. GOG.com is not a typical garage startup success story, but it illustrates that a globally competitive, Polish high-tech businesses will probably not appear spontaneously. These types of innovative business models often happen to be fragile in the beginning, and require financial and institutional support. The state’s economic incentives might very well be of great use in that area.

The need for larger enterprises is also crucial since they are far more likely to invest in R&D than their smaller counterparts. It is true that some innovations are created in lousy garages by a bunch of brilliant-but-extremely-nerdy college drop outs. Yet, the majority of successfully implemented innovations are, in fact, offspring of the experienced professionals, bred in a routinized process in an institutionalized environment, and provided with significant funding.

Poland is actually flooded with micro-enterprises, which employ less than ten workers that are supported by the state’s economic policy. In fact, they constitute almost 96% of all Polish enterprises, as opposed to 82% in Germany (Eurostat 2013), a far more innovative country than Poland (Bloomberg Innovation Quotient 2014). Statistical evidence shows that these micro-enterprises are globally far less innovative than big companies with developed R&D laboratories, which fund and run research on a regular basis (PARP 2010).

Financial aid for startups is essential, but one must look at an entrepreneurial business as a type of ecosystem. Small enterprises have more possibilities of developing revolutionary out of the box scalable business models, but they must be supplemented by larger companies in order to globalize their innovations. Without these larger companies, Polish startups will have to seek global opportunities in partnership with foreign entities, and money spent on the most costly initial phase of a startup’s life will eventually boost economic development elsewhere, i.e., Silicon Valley or Seattle.

The IVONA wonderkid startup is a vivid example of a modern business success story, whose creators earned well-deserved millions for their hard work and innovative brilliance. Unfortunately, it is also a sad tale of the state’s economic policy failure. By investing public money in a private company subsequently sold to a foreign technological tycoon, Poland missed an opportunity to leverage the blooming high-tech sector of its economy. By shifting IVONA’s ownership overseas, the Polish tech hub lost one of its potential key global players.

Filip Konopczyński and Karol Muszyński are co-founders of the Kalecki Foundation, a Warsaw-based think-tank whose aim is to broaden the public debate on macroeconomic policy in Poland and beyond. The foundation’s prime focus is on the impact of state policies on economic development, the political nature of economics as well as the roots and challenges of socio-economic inequalities.

The text was first published in Visegrad Insight.