R&D is Dis-integrating

30 Jan 06

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 Here are snapshots of a few successful 20^th century corporate research labs:

Iconic Research Labs

These labs, and many more like them, feature a campus-style layout located in beautiful rural settings, surrounded by fields and trees. If you look carefully, you can see an exercise course laid out in front of the PARC building. 

These are dedicated, and isolated, research facilities.  There’s no commercial production on these campuses, and there’s minimal office space for other functions, such as finance, marketing, or operations. 

These labs are typical of most major corporate R&D investments of the last 60 years.  All were built with the same underlying approach to research management.  This approach borrows a great deal from the university – geographically rooted, in a beautiful campus setting.  Many of the researchers in these centers look to colleagues in academia.  They publish in academic journals and attend academic conferences. 

Historically, when a company wanted to improve its innovation performance, it budgetted more money to go to one of these research and development centers.  

But the relationship between this kind of research and a company’s business performance has been increasingly called into question.  Consider a recent study by the consulting firm Booz Allen Hamilton (BAH). They looked at the largest 1000 R&D spenders from 1999 to 2004 and found that raising the level of spending on research appeared to have no effect on sales growth.

“There is no relationship between R&D spending and the primary measures of economic or corporate success, such as growth, enterprise profitability, and shareholder return.”

Booz Allen Hamilton, December 2005

The BAH study did find some evidence for a minimum required level of R&D spending – those companies in the bottom 10 percent of their industries in terms of R&D spending performed poorly relative to competitors.  But once a company was above the 10 percent level, the study found no relationship between R&D spending and growth.

The pharmaceutical industry, for example, has significantly increased its R&D spending over the last decade, from $10 billion in 1994 to $38 billion in 2005.  At the same time, the number of new compounds has declined.  In 2005, the US Food and Drug Administration approved only 20 new drugs, down from 34 in 2004, and one of the lowest approval rates in a decade.

The Booz researchers found a similar lack of effect when they looked at number of patents.  In most innovation-intensive industries, in fact, the firms with fewer patents had better growth and market cap than those with large patent portfolios.

For both patents and budget, the story seems to be one of quality rather than quantity.  A few good patents or excellent researchers, for example, are infinitely more valuable than many mediocre ones.  As a result, simple measures of the quantity of inputs or outputs do not correlate with business results.

The lack of relation between investment and performance helps explain why investment in R&D capability varies widely between companies within the same industry.  For example, in industrial conglomerates, GE spends around 2 percent of sales on R&D.  Siemens, on the other hand, spends more than 7 percent of sales on R&D, according to a 2005 article in MIT’s Technology Review.

This does not mean that Siemens is more innovative than GE.  As the BAH study points out, many of the companies that we regard as highly innovative, like Apple Computer or Toyota, put a modest amount of money in R&D.

Faced with the lack of relationship between investment and returns, it’s no surprise that many companies are looking beyond the traditional concentrated “campus” model of R&D.   R&D is dis-integrating – there are more smaller R&D facilities, located all around the world.

Geographical Dis-integration

The biggest R&D spenders are diversifying geographically.  As the table shows below, most big R&D spenders are opening their newest facilities in Asia.

Src: Booz, Allen, Hamilton 2005

Top Global R&D Spenders 2004

          Increasing amount of small-scale research

            Hank Chesbrough, at Berkeley’s Haas School of Business, has used data from the National Science Foundation to track US industrial research spending by size of enterprise from 1981-2001.  During this time, he’s found that the share of total research funding by large enterprises has declined from about 71 percent in 1981 to 39 percent in 2001. 

Research model dis-integration?

Corporate research has not always been done using an academic research model.    Thomas Edison, for example, used a “factory” model for generating innovation.  

Thomas Edison’s “Invention Factory,”

Menlo Park, NJ

Edison was home-schooled, and had little experience with any kind of academic institution.   He called his research facilities “invention factories.”  Between 1876 and 1882, Edison’s invention factory was in Menlo Park, NJ.  There, he and his assistants invented everything from the phonograph to the electric light bulb in an unprecedented and unequalled display of applied innovation.

In concluding their study, the Booz Allen Hamilton researchers noted:

“Of all the core functions of most companies, innovation has the most competitive value —and is managed with the least discipline.”

Booz Allen Hamilton 2005

This lack of discipline is by design.   Most R&D spending follows a research model that is designed to give researchers the maximum amount of freedom to pursue their interests.   As Thomas Edison demonstrated in the 19^th century, there are other approaches to innovation that have been extremely productive.   

More Information:

1. The Booz Allen Hamilton Study is titled “Money Isn’t Everything,” and was published in December 2005.  Its authors were Barry Jaruzelski, Kevin Dehoff, and Rakesh Bordia.  Here’s a link to the results of the study.

2. For more on Thomas Edison’s Menlo Park Research Labs, go here.

3. For a 2004 Update discussing innovation in pharmaceuticals, go here.

4. For more on Hank Chesbrough’s work at Berkeley’s Haas School of Business, go here.