Tough Times Spur Shifts in Corporate R&D Spending – BusinessWeek

Lots of intersting data about R&D budgets in the Business Week article Tough Times Spur Shifts in Corporate R&D Spending:

Domestic R&D spending by all U.S. companies fell 13.1 percent, to $233.92 billion, in 2008, the most recent year for which data are available, from $269.27 billion in 2007, according to the National Science Foundation. (Including R&D paid for by other U.S. concerns, but performed in U.S. companies’ domestic locations, spending rose to $283 billion in 2008 from $269 billion in 2007, according to the NSF.) During the prior recession, which was far milder, domestic R&D spending was down 0.5 percent, to $198.51 billion, in 2001 from $199.54 billion in 2000.

R&D budgets have actually INCREASED through the downturn!

Yet even amid the sharpest economic downturn since the Great Depression, the 232 companies in the Standard & Poor’s 500 index for which data were available increased their aggregate research and development expenditures to $163.37 billion in 2008 and $166.42 billion in 2009 from $154.44 billion in 2007, before the recession began, according to Bloomberg data. (Of those 232 companies, 115 spent more on R&D in both 2008 and 2009 than they did in 2007.)

Even so, R&D seems to have been moved towards nearterm maintenance and away from invention/innovation.

Total utility patent applications—covering inventions and excluding patents for ornamental design of manufactured goods—have stayed flat at around 456,100 for the past three years, while total utility patent grants have been frozen at around 167,300 per year since 2002, according to data on the U.S.Patent & Trademark Office’s website.

3M has cut R&D budget but not heads by eliminating bonuses.

Cuts in R&D may not signal a reduced commitment to innovation. Even outfits noted for their heavy emphasis on R&D, such as 3M (MMM), have pared their R&D budgets since before the 2008-09 recession. (3M’s $1.29 billion R&D budget in 2009 was down 5.8 percent from 2007.)

Dow maintains 20% of its R&D budget (see below) for innovation projects whose ROI is difficult to measure.

Dow’s $1.49 billion in R&D spending in 2009 represented a 14.6 percent increase from 2007, while revenue fell 16.1 percent over the same period.

P&G has been flat over the period, but they are increasing focus on accessing innovation from the outside:

P&G’s R&D spending was nearly $2.0 billion in fiscal 2010 (ended June), up from $1.95 billion in fiscal 2008, when adjusted to exclude its pharmaceuticals unit sold in October 2009. Net sales—adjusted for the disposal of the pharmaceuticals business and the company’s coffee business in November 2008—fell 0.4 percent over the same period.

Monsanto has formed a strategic allinace with BASF to gain more leverage from R&D – helping them relatively cut R&D budget even though their revenues have actually incresed through the downturn.

Monsanto’s total R&D spending reached $1.1 billion in 2009, up 14.2 percent from 2007, vs. a 40 percent increase in revenue over the same period.)

Here are some others:

Danaher’s R&D budget rose 5.2 percent from 2007, to $632.65 million in 2009. Danaher has doubled its R&D spending as a percentage of sales over the past 10 years, to about 6 percent in 2010, even as its total revenue has tripled over that same period.

[BHI] The oilfield service company’s R&D budget climbed 6.7% from 2007, to $397 million in 2009, despite a 7.3 percent drop in revenue over the same period.

Between Invention and Innovation

Here is something different – an excellent report developed for the National Institute of Standards & Technology on analysis of funding for early-stage technology development. You might want to dig through the 150+ page report when you have time, but here are my notes on what I learned from it:

The project has sought to answer two sets of questions:
– What is the distribution of funding for early-stage technology development across different institutional categories? How do government programs compare with private sources in terms of magnitude?
– What kinds of difficulties do firms face when attempting to find funding for early stage, high-risk R&D projects? To what extent are such difficulties due to structural barriers or market failures?

Some findings:

We found that most funding for technology development in the phase between invention and innovation comes from individual private-equity “angel” investors, corporations, and the federal government-not venture capitalists. Our findings support the view that markets for allocating risk capital to early-stage technology ventures are not efficient. Despite (or in response to) market inefficiencies, many institutional arrangements have developed for funding early-stage technology development. This suggests that funding mechanisms evolve to match the incentives and motivations of entrepreneurs and investors alike.

We also found that the conditions for success in science-based, high-tech innovation are strongly concentrated in a few geographical regions and industrial sectors, indicating the importance in this process of innovator-investor proximity and networks of supporting people and institutions. Among corporations, the fraction of R&D spending that is dedicated to early-stage technology development varies both among firms and within industries. The latter variation may be related to industry life cycles. Overall, we found that the federal role in early-stage technology development is far more significant than would be suggested by an uncritical glance at aggregate R&D statistics. Federal technology development funds complement, rather than substitute for, private funds. Decisions made today regarding the nature and magnitude of federal support for early-stage technology development are likely to have an impact far into the future.

1: Most innovation funding comes from everyone but venture capitalists. As per the article venture capitalists are not in R&D / innovation business, they are in financial business.

Most funding for technology development in the phase between invention and innovation comes from individual private equity “angel” investors, corporations, and the federal government — not venture capitalists.

2. Markets for allocating risk capital to early stage technology ventures are not efficient. Many entrepreneurs remain thirsty for funds while venture capitalist are sitting on funds.

A report from the National Commission on Entrepreneurship notes that “the substantial amount of funding provided through informal channels, orders of magnitude greater than provided by formal venture capital investments and heretofore unknown and unappreciated, suggests some mechanisms for filling the gap may have developed without recognition” (Zacharakis et al. 1999: 33).

3. Geographic concentration because of angels and technologists (needs virtual teams to get products to market?)

Conditions for success in science-based, high-tech innovation are strongly concentrated in a few geographical regions, indicating the importance in the process of innovator-investor proximity and networks of supporting people and institutions.

4. Early stage technology development funding (as a fraction of total R&D spend) varies from 0% in software to 30% in biotech)

Among corporations, the fraction of R&D spending that is dedicated to early-stage development varies both among firms and within industries. The latter variation may be related to industry lifecycles.

Why firms introduce new management practices?

Here is another article from Prof. Birkinshaw in the same vein as Management Innovation. The last article talked about internal organizations context and external environment. This one brings in the concept of external search (looking for management innovation outside the firms):

Management innovation is the introduction of management practices new to the firm and intended to enhance firm performance. Building on the organizational reference group literature, this article shows that management innovation is a consequence of a firm’s internal context and of the external search for new knowledge. Furthermore the article demonstrates a trade-off between context and search, in that there is a negative effect on management innovation associated with their joint occurrence. Finally the article shows that management innovation is positively associated with firm performance in the form of subsequent productivity growth.

Below is some background:

Hamel (2006, 2007) in particular has forcefully argued that in today’s age management innovation may represent one of the most important and sustainable sources of competitive advantage for firms because of its context specific nature among others.

The introduction of newmanagement practices is an important issue for firms as they seek to upgrade their productivity, improve the quality of customer offerings and retain competitiveness (Ichniowski et al., 1995; Pil and MacDuffie, 1996).

The article addresses this gap by considering two questions. First, under what conditions do firms introduce new management practices? The focus is on two sets of variables, around context and search.

is management innovation something new to the state of the art (Abrahamson, 1996; Hamel, 2006), or simply new to the firm that is implementing it (Stjernberg and Philips, 1993; Zbaracki, 1998)?

does management innovation involve conceptualizing a new practice, implementing a new practice, or both?

Here are three hypothesis the article presents and tests successfully:

Hypothesis 1. The larger the firm, the higher the level of introduction of new management practices.
Hypothesis 2. The more highly educated the workforce of the firm, the higher the level of introduction of new management practices.
Hypothesis 3. The greater the geographical scope of the market the firm is operating in, the higher the level of introduction of new management practices.

These are pretty intuitive except for the third one. I guess working across cultures requires firms to innovate their management processes. On the flip side, here are some other hypothesis (although they did not test with as much significance as others) that balance out the above:

Hypothesis 5a. The effect of internal sources on the introduction of new management practices is mitigated by size, education of the workforce, and geographic scope of the firm.
Hypothesis 5b. The effect of market-based sources on the introduction of new management practices is mitigated by size, education of the workforce, and geographic scope of the firm.
Hypothesis 5c. The effect of professional sources on the introduction of new management practices is mitigated by size, education of the workforce, and geographic scope of the firm.

A few more intuitive hypothesis that tested successfully. The more interactions between different people and organizations, the more management innovation there is:

Hypothesis 4a. The more internal sources the firm interacts with, the higher the level of introduction of new management practices.
Hypothesis 4b. The more market-based sources the firm interacts with, the higher the level of introduction of newmanagement practices.
Hypothesis 4c. The more professional sources the firm interacts with, the higher the level of introduction of new management practices.
Hypothesis 6. The introduction of new management practices is positively associated with future firm performance, in the form of productivity growth.

Planning as learning

Here is a a very influential HBR article from Arie deGeus from back in 1988 (it has been cited over 1,200 times). The key message is this:

Benefits accruing from planning are not just the objectives and strategies that emerge, but the learning that occurs during the planning process

Planning as learning is very important in R&D management as well. It is not just the planning at senior management level – it is the institutional learning from distributed planning.

… they depend on company’s senior manager to absorb what is going on in the business environment and to act on the information with appropriate business moves. In other words, they depend on learning. Or, more precisely, on institutional learning, which is the process by management teams change their shared mental models of their company, their markets, and their competitors. For this reason, we think of planning a learning and of corporate planning a institutional learning.

deGeus is talking about corporate strategy which can be planned by a select few. R&D, however, requires knowledge a lot of people to come together. Most managers I know depend on their various technologists to bring forward plans. More importantly, to get a product to market requires knowledge of many different technologists and planning is extremely critical to get all the pieces moving in synchrony.

Even so, planning is not as formalized in R&D as in corporate strategy / finance. One reason for this might be that R&D planning is much more complicated and full of jargon. There are few who can understand jargons of two or at best three disciplines (e.g., structures, life and CFD). Plans for each discipline are filled with discipline specific jargon, and it is often difficult to combine them. Unfortunately, it takes many more disciplines to get a product to market. That does not mean we should not try though. The software I am developing is proposing a new framework to do just that…

While I am on the subject, here is another HBR article that talks about planning as learning…

Aire deGeus, Planning as Learning, Harvard Business Review Vol 66 (2), pages 70-74.

Marketing and Manufacturing involvement in R&D

The paper A Cross-National Comparative Study of Senior Management Policy, Marketing–Manufacturing Involvement, and Innovation Performance in the Journal of Product Innovation Management has some useful data to support many intuitive judgments.

The proposed framework is contingent on the national culture of the country in which product development occurs. Structural equation modeling is used to test the framework with data from a sample of 146 U.S. marketing managers and 185 Japanese marketing managers.

First takeaway is the senior managers have a huge impact on how cross-organizational collaboration works.

The results suggest that a number of senior management policies are effective in promoting joint involvement between the marketing and manufacturing functions during the innovation process.

Another takeaway is the cultural has a significant impact. Individual behavior / rewards worked in US when they encouraged the R&D team leader, but not in Japan. More clarity and structure worked in Japan and not in the USA.

While the use of formal cross-functional integration policies was found to promote marketing–manufacturing involvement both in the United States and Japan, team leader autonomy, team rewards, and job rotation were found to promote marketing involvement in the United States but not in Japan. On the other hand, promoting marketing–manufacturing involvement via goal clarity and promotion of teamwork proved to be effective in Japan.

These findings go very well with the research on how IT helps collaboration between R&D and marketing.

The results have a number of implications for product development practice. Foremost among these is the finding that, despite the fundamental ideological differences separating the marketing and manufacturing functions, senior management policies can enhance the level of marketing–manufacturing involvement, and consequently can improve the likelihood of new product success. The second implication is that the effectiveness of specific senior management policies depends on national culture. Thus, managers wishing to improve the marketing–manufacturing interface should select the policies that match the culture in which the product development project is located.

Does management involvement drive down R&D efficiency?

In a press release titled Secret to Successful New Product Innovation, the marketing firm Nielsen publishes shocking results that management involvement reduces the effectiveness of R&D:

Nielsen’s research of the innovation processes at 30 large CPG companies operating in the U.S. reveals that companies with less senior management involvement in the new product development process generate 80 percent more new product revenue than those with heavy senior management involvement. Companies that employ this and other best innovation practices derive on average 650 percent more revenue from new products compared to companies that do not.

Also interesting is a result that if the R&D team is located at the corporate HQ, the overall new product development results are poorer:

Nielsen’s research shows that simply being physically near corporate headquarters can stifle new idea generation. In fact, it turns out that having no Blue Sky innovation team at all is better than having a team on-site at corporate headquarters. The best place for your breakthrough innovators? Far, far away. According to Nielsen, companies with an off-site Blue Sky innovation team report 5.7 percent of revenues coming from new products, compared to 4.8 percent from companies with no Blue Sky team at all. Companies with Blue Sky teams on site report just 2.7 percent of revenues coming from new products.

Here is one key take away: R&D managers must manage R&D process, not interfere in the actual research or development:

Nielsen’s research shows that another important key to success is for senior management to precisely manage the new product development process, not the ideas themselves. According to Nielsen, CPG companies with rigid stage gates – – decision points in the process where a new product idea must pass certain criteria to proceed forward – – average 130 percent more new product revenue than companies with loose processes.

And a few more short takes:

• Two to three stage gates that are strictly followed across the organization. The first stage gate is typically designed to identify ideas that will then be developed into a concept and prototype, while the last stage gate is usually designed to determine whether a product should be committed to production and market.
• A development focus two to three years out
• A formal scorecard to provide structure to organizational learning
• A standardized and required post-mortem on all new product development efforts
• A knowledge management system to retain learnings from previous product launches.

Can IT enhance integration between R&D and Marketing?

There in an interesting paper The Role of Information Technologies in Enhancing R&D–Marketing Integration: An Empirical Investigation in Journal of Product Innovation Management. We have discussed role of IT in enhancing R&D management before. This is a new take on the subject.

The effective integration of research and development (R&D) and marketing contributes to the development of successful new products. Barriers such as physical separation of R&D and marketing, goal incongruity, and cultural differences hamper the cross-functional cooperation. However, it may not be either possible or desirable to eliminate the cross-functional integration barriers in practice.

The first take away is that two types of IT support systems – communication and decision-aiding – both enhance integration:

Previous research findings suggest that information technology (IT) can be used to reduce the negative impact of the barriers. This paper examines the moderating role of communication technologies (ITc) and decision-aiding technologies (ITd) in improving the R&D–marketing integration in new product development. The empirical findings from analyzing data on 171 new product development projects suggest that both IT systems can be used to reduce the negative impact of physical separation, goal incongruity, and cultural differences on R&D–marketing integration”

The overall finding is very intuitive: Need communications technology when the organizations are dispersed and decision-aiding technology when goals and objectives are disconnected between the two organizations.

However, effectiveness of the two types of IT differs. While ITcappears to be more effective than ITd in overcoming the constraint of physical separation, ITd is more effective than ITc in reducing the negative impact of goal incongruity and cultural differences. ITc is found to have the strongest effect on reducing the negative relationship of physical separation and integration, a less strong effect on cultural differences, and a weak effect on goal incongruity. Conversely, ITd is found to have a strong effect on goal incongruity.

Hopefully, the decision-aiding tools can also increase team satisfaction!

How to define Innovation?

We have discussed the problem surrounding definition of what constitutes innovation and what is invention or just engineering. The issue is important because funding and management of innovation is different from other R&D. Here is a paper in the Journal R&D Management that gives a background on what is innovation:

‘Innovation’ was defined by Schumpeter (1934) as the commercialisation of combinations of the following:
(i) new materials and components,
(ii) the introduction of new processes,
(iii) the opening of new markets,
(iv) the introduction of new organisational forms.
According to this definition, innovations are the composite of two worlds – namely, the technical world and the business world. When only a change in technology is involved, Schumpeter
terms this invention; when the business world is involved, it becomes an innovation (Janszen,
2000).

Another definition of Innovation is:

In this paper, innovation is defined as ‘the successful exploitation of new ideas incorporating new technologies, design and best practice’ (BIS, 2008).

This is what Peter Drucker had to say about it:

It is the means by which the entrepreneur either creates new wealth-producing resources or endows existing resources with enhanced potential for creating wealth – The Discipline of Innovation (HBR 1985).

Here is another definition – radical or disruptive innovation as opposed to incremental innovation:

Incremental innovation reinforces the capabilities of established organisations, while radical innovation forces them to ask a new set of questions, to draw on new technical and commercial skills and to use new problem-solving approaches (Tushman and Anderson, 1986; Burns and Stalker, 1966). Incremental and radical innovations require different organisational capabilities and may require different management processes.

International Product Development

As we have seen, global product development is a here to stay – whether organizations like it or not. Managing virtual teams is not easy. The article The Practice of Global Product Development from MIT Sloan Review has interesting models and checklists for organizations considering international or global product development (GPD).

The first suggestion in the article is to deploy GPD in stages (start with process outsourcing, move to components and then to design).

The article also lays out key success factors for GPD. I am going to rearrange and rephrase to make them a bit more succinct:

Management Priority: Clearly, global R&D is a big challenge – it requires major organizational and cultural change. None of it is possible without senior executive priority.
Core Competence (Clear strategy): Clear understanding of what is core to company and what can be outsourced is also key. I have seen many organizations that stumbled through outsourcing R&D and lost market share because of duplicate capabilities.
Modularity (Process and Product): To outsource a portion of the work, it needs to be easily separable. Modular processes and products are clearly required for outsourcing.
Infrastructure (Intellectual Property, Governance, Project Management, Data Quality, Change Management): Infrastructure is needed to manage global product development. The organization needs to be able to control IP such that each location can work its piece and critical IP is not exposed unnecessarily. Also, processes, tools and metrics need to be in place for virtual team management. Finally, since GPD is a major change, change-management will be needed to make sure it succeeds.
Collaborative Culture

Metrics: R&D Should Settle for Second Best

The article Metrics: R&D Should Settle for Second Best in CEB Views points out that it generally not worth putting in a lot of investment in developing new R&D metrics. However, as we have seen, there is plenty of research out there that suggests what you measure will drive behavior of your R&D teams – so please keep that in mind.

The article points out that most R&D departments use very simple metrics:

These simplistic measurements might not necessarily be because simple metrics are the most effective, they might be because measuring the right thing is difficult to do. For example, not one of the top metrics above addresses performance or maturity of R&D projects underway and how they compare with the expectations. Even though this is hard to do, it might have a huge benefit to overall R&D management.

Overall, the four takes aways have two useful ones:

Use qualitative metrics to evaluate early-stage investments: Very important because it is hard (if not impossible) to value benefits of early-stage technologies – especially when they might impact many different product lines or would require other technologies to mature before they can be of use.
Use business outcome targets to classify project types: I take this to mean that it is important to categorize the R&D pipeline and then measure them based on the category they fall into (some what related to the bullet above).
Supplement business outcome metrics for accurate performance assessments: Idea being revenues/profits should not be all that drive decisions…
Use metrics to motivate not intimidate: Easy to say, hard to do…