Money can’t buy innovation

R&D spending of the top 1,000 corporate research and development spenders rose by more than $20 billion in 2005.  But money simply can’t buy effective innovation, according to the second global innovation study, Smart Spenders, carried out by the management consultants Booz Allen Hamilton.

There are no significant statistical relationships between R&D spending and the primary measures of financial or corporate success: sales and earnings growth, gross and operating profitability, market capitalisation growth, and total shareholder returns, says the study. Gross profits as a percentage of sales is the single performance variable with a statistical relationship to R&D spending.

The study analysed financial data for the Global Innovation 1000 using a basket of seven performance measures from 2000 to 2005. This showed that only 94 of the 1000 consistently outperformed their peers over the five-year period, while spending less on R&D as a percentage of sales than their sector median.

High leverage innovators

These “high-leverage innovators,” including Toyota, Apple, Christian Dior, Google and Caterpillar use many different models and approaches to outperform their competitors. But they are generally noted for distinctive skill in at least one element of the innovation process, and are adept across all of the stages.

Google, for example, is known for generating new ideas with blistering speed.  Toyota excels at developing its products and processes far more efficiently and effectively than most other companies. And Apple is noted for its capabilities in project selection and customer understanding.

“Innovation can lead to higher performance, but the process isn’t automatic and it does not necessarily require above average levels of investment. The most successful companies combine an integrated process and a supportive culture to create a sustainable competitive advantage,” said Barry Jaruzelski, Vice President at Booz Allen. “There’s no silver bullet, and just throwing money at the problem is not the answer.”

However, the study does show companies are getting better at squeezing benefits from their R&D spending While R&D spending by the Global Innovation 1000 was up by more by more than $20 billion last year, revenues rose at an even faster rate. Indeed, the most meaningful indicator of innovation investment, R&D spending as a percentage of sales, has decreased steadily since 2001, and by that measure, only 40 per cent of the companies actually increased their spending rate in 2005. 

Scale provides advantages to R&D spenders. For the largest 500 companies, median R&D spending was only 3.5 per cent of sales in 2005, compared with 7.6 per cent for the 500 smallest firms.

 While boosting R&D spending can increase the number of patents that a company creates, there is no statistical relationship between the number, or even the quality, of patents and overall corporate financial performance.

One size does not fit all

R&D budget levels vary substantially, even within industries, suggesting there is no consensus on the right level of innovation investment, since companies are using a range of different innovation business models.

Indeed, the study found that the high-leverage innovators distinguish themselves not by the money they spend, but by building strong capabilities in the four principal elements of innovation: idea generation, project selection, product development, and commercialisation.   

“Our research found that most companies can achieve a greater return on their R&D spending if they view innovation as an end-to-end process that begins with a new idea and ends with a satisfied customer,” said Kevin Dehoff, Vice President at Booz Allen. “The most effective innovation is often not the most expensive.”

The Global Innovation 1000 companies spent a total of $407 billion on R&D in 2005, up 6 percent from 2004. This is more than the combined gross domestic product of Denmark and Norway, and roughly equivalent to the budget of the US Department of Defense.

Globally, corporate spending on R&D is highly concentrated among the top 1,000. In comparison, the next 1,000 companies spent a mere $25 billion in 2005. Booz Allen estimates that the Global Innovation 1000 accounts for about 85 per cent of total global corporate R&D spending, and 55 per cent of all R&D spending, including government and not-for-profit R&D.

This spending is highly concentrated in just a few large industries, with nearly two-thirds going to computing and electronics (26 per cent), health (22 per cent), and automotive (17 per cent).   

The proportion of R&D spending by Innovation 1000 companies outside the traditional leaders of Europe, North America and Japan increased by nearly 60 percent in 2005, to 4.6 per cent of the total.