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America's Fall in R&D: "Nobody Cares"

National Semiconductor (NSM) CEO Brian Halla is old enough to remember the day the Soviet Union launched the Sputnik satellite and the reverberations of that event as America realized it wasn't the world's technological leader.

Halla was an 11-year-old living in Fort Dodge, Iowa, when he and his family, together with neighbors, scanned the night sky to watch the little dot of light that changed the world. America responded by pouring more money into the space program, developing computing muscle, and research and development in general.

By-products of that response include many of the high-tech innovations of the second half of the century: the personal computer, supercomputers, the Internet, and manned missions to the Moon.

BULLY PULPIT. To Halla, the U.S. is in the midst of a new Sputnik era, this time with China. The world's most populous nation already has more Internet users and wireless phone subscribers than the U.S. Its universities are producing roughly three times the number of college graduates in engineering, and its education system is catching up to the U.S. in accounting and life sciences (see BW Online, 8/22/05, "A New World Economy"). Halla says the U.S. has yet to respond with the same determination it did after Sputnik.

Next month, Halla will assume leadership of the Semiconductor Industry Assn. Using that position as a bully pulpit, he intends to promote American technological competitiveness.

He recently sat down with BusinessWeek reporter Arik Hesseldahl to explain why he's concerned about America losing its technological edge and what he thinks should be done about it, including eliminating the cap on so-called H1-B visas, which apply to foreign workers employed temporarily in a specialty occupation. Edited excerpts of their conversation follow:

Do Americans understand the competitive threat that China represents?

Go to China, and then go again in three months, and your jaw will drop at the changes you see in that three months. Just to give you an example. I arrived on Thursday for a ribbon-cutting at our new testing facility in Suzhou. When I arrived, Suzhou was 75 kilometers on a side. By the time I left on Monday, the governor had made it 125 kilometers on a side.

Five years ago, I talked with a peer CEO friend of mine who dismissed the China threat by saying he had heard it all 20 years before, with Japan. But Japan is a tiny island that ran out of people very quickly, and their cost of wages dramatically exceeded the U.S.'s. Second, Japan had to obey our laws, because the U.S. market was the only market, and so when it came to dealing with anti-dumping legislation, they had to obey, because they had to sell here.

But it's different with China. They have a total addressable market of 400 million upper- to middle-class spenders they can sell to without ever having to touch the U.S. And another thing China has done, just like we did during the Industrial Revolution: learning from the mistakes of others who have gone before you, and also learning from the things that work.

One of the things they found that works is stock options. And so stock options are very lucrative in China now, and there is no capital-gains tax. Now, do I think our politicians understand this? Absolutely not. And yet daily our politicians enact legislation without fully comprehending what's really going on in China at all.

What should politicians be doing to protect the U.S. technological lead?

Eliminate the cap on H1-B visas, because we don't grow enough math and science graduates here internally. We've got to increase research funding at the National Science Foundation. We've got to extend DARPA's [the Defense Advanced Research Projects Agency, the R&D arm of the U.S. Defense Dept.] horizon from 18 months to a longer time, because there's no Bell Labs doing basic research anymore.

And we've got to find a way to get kids interested in math and science. When I talk to people in the tech industry, we're all in such agreement, and yet nothing is happening.

The problem is that we're all in California and Texas and Massachusetts and New York. Beyond that, nobody cares. And not only do they not care, but they also think the people in the [tech] industry are a bunch of crooks and that their stock options are tools used by evil people for evil deeds. Tech people know tech issues.

But the President and the Congress aren't going to allocate dollars to Corporate America for something that people in the Midwest doesn't care about. They're looking for votes. You can explain textiles and farming. But almost everyone in Minnesota and Iowa has a cell phone and LCD TV or are about to get one. And they say we're still the leader in technology.

Do politicians in Washington realize the competitive edge is sliding?

Even if they do get it, they have to do what gets them votes. This is a tremendous opportunity for the Administration to get ahead of this and get ahead of it by funding a solution.

But I fear that the worst will happen, and the worst is that the whole issue gets politicized. And then it's condemned to death, and nothing will happen. The whole issue will be used to try to knock over the current Administration, and nobody benefits.

Take a guy like Representative Frank Wolf [R.-Va.]. He gave the introduction to a speech I gave in Washington last week, and I talked to him afterward.

He gave a brilliant, articulate presentation describing what the problems are. He said there are four precincts that you have to win in order to get movement on this: the President, the Vice-president, Josh Bolten (director of the Office of Management & Budget), and Karl Rove (President Bush's Deputy Chief of Staff).

And I said to him afterward that there's a fifth precinct, and that is the American public. And to the American public, this isn't Sputnik. And not only is it not Sputnik, but to them it looks like corporate fat cats trying to line their pockets.

I think the perception of most people outside the technology industry is that China is still full of people working with their hands by candlelight. It's not like that. China has state-of-the-art semiconductor fabs and state-of-the-art everything, and they're producing cool stuff.

And I don't think that most people understand that China is graduating 400,000 engineers a year when the U.S. is graduating 65,000. The U.S. is still the IQ magnet of the world, but the best and brightest are finding more and more reasons not to come here. One is they can't stay once they get their PhD. Two is that it's just tougher to get in here, post-9/11.

Does China have an educational advantage?

I often tell a story that illustrates this. There's a major university in the [San Francisco] Bay Area that you would have thought was one of the best-funded universities in the world. And one of our fellows at National is a professor there. And he said they just got a new gift of a network analyzer from Agilent (A). It's worth about $110,000 and they put it on a metal cart, and professors will hide it away and hoard it. And to use it, you have to sign up for it days in advance, and they roll it around from lab to lab.

And then he was invited over to China to give a speech and was given a tour of Tsinghua University. And he was shocked and amazed that every lab had one of those very same Agilent network analyzers. Some of them had never been used or turned on, but they had them just in case they ever needed one. The funding is incredible, and meanwhile we're sitting here thinking we're doing fine.

I think our politicians believe that that the leadership we have enjoyed since Sputnik has been God-ordained. It's not. Someone has to fund it. We're not asking for handouts for companies. But the vast majority of companies these days don't do R&D, they just do D. And we work with universities to get the R, and now the universities are saying that they can't do basic research anymore.

Look at Bell Labs back in the 1940s. It was very unsuccessful in that only 1 of 20 projects was successful. But look at the successes: the transistor, the laser, the Telstar satellite, stereophonic sound. That's my long-winded way of saying funding needs to increase for basic research.

How does all this affect your own company?

Theood news is that National is an analog company [specializing in analog chips], and we won't have these problems until much later than everyone else, because we're still people-intensive.

How is business at National now that you're out of the business of trying to sell microprocessors for handheld computers and Web tablets?

We're No. 1 in power management, so if it's a device that you want to be portable or have a long battery life, or if it plugs into the wall and you don't want it to have fan noise, we're there.

We're No. 2, sometimes No. 3, in the market for amplifiers. And this is just things that amplify signals. We're now moving into high-speed and high-precision amplifiers. We're also strong in interfaces for flat-panel displays and in data conversion -- where you convert analog signals to digital or digital signals to analog.

Analog Devices (ADI) owns that space, and we've just released some absolutely killer technology in that space with average selling prices above $300, which is not your father's National Semiconductor. We've got no place to go but up in that market.

It looks like the chip industry is getting ready for another downturn. How will National fare this time around?

We've divested ourselves of all the business units that don't meet our criteria of 60-30-30 -- that is 60% gross margin, with a 30% combined R&D and selling, general, and administrative spending, to yield a 30% operating margin. Our gross margin just hit about 56.2%, which is a record in the history of the company. And when we get to 60%, we'll raise the bar again.

We've divested ourselves of about six businesses over the last three years. Also, we have had a strategic disassociation with commodity products. We try not to do anything that other people can do. So to that extent we're somewhat inoculated against the cycles.

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