The R&D 100

Toyota tops this year's list

8 min read
The R&D 100
Illustration: Stuart Bradford

Toyota jumped three places to top the R&D leaderboard this year [download “Spectrum’s Top R&D Spenders,” PDF], just as it was passing General Motors to become the biggest automaker in the world. The coincidence raises a question: Are Toyota’s sales so high because of its lavish R&D spending, or is its R&D spending lavish because its sales are so high?

Of course, R&D spending today will affect sales only some years from now, so we must look to the past to understand the present—and history in fact shows that R&D cannot have been the key determinant of success in this case. Five years ago, Toyota ranked fourth among the 12 leading carmakers in R&D spending. It laid out just two-thirds as much as top-ranked Ford—a company that had been the industry’s leading R&D spender for five years running while at the same time struggling mightily with declining sales and near bankruptcy.

But let’s not jump to conclusions. Could it be that Ford outspends Toyota in absolute terms, but not relative to sales? Nope. Even this metric, which we call R&D Intensity, shows that though Ford has consistently outspent Toyota, with an R&D Intensity that has long been on the high end for automakers, its performance has been subpar. Meanwhile, Toyota’s 9.6 percent bump in R&D spending was dwarfed by a 13.8 percent increase in sales, which meant that its R&D Intensity actually fell a bit. No matter how you look at it, Toyota has been consistently on the low end of R&D Intensity for years. You can’t make the case that R&D spending accounts for Toyota’s edge.

Is this finding just an anomaly? Apple, the one company perhaps most closely associated with innovation, doesn’t even show up on the R&D leaderboard this year. In fact, it hasn’t appeared there since Standard & Poor’s and IEEE Spectrum began this series five years ago. (To run the numbers yourself, try our interactive calculator.) Its absence can’t be attributed to size, because Apple’s sales of US $19.3 billion surpassed those of 30 of the list’s 100 firms. Comparing those sales to the relatively meager $712 million Apple spent on R&D in 2006 yields an R&D Intensity of just 3.7 percent, a fraction of Nokia’s 9.5 percent.

Then there’s Google, another firm most people would call innovative. Yet it cracked the top 100 for the first time only this year, coming in 79th. Although it more than doubled its R&D spending, its R&D Intensity still came to just 11.5 percent, lower than that of most software firms.

These examples are part of a larger pattern, identified in a recent study by Booz Allen Hamilton, a consulting firm. The study found that firms whose R&D spending put them in the top 10 percent of their peer group did not outperform those peers in any financial metric. On the other hand, the Booz Allen study found that being a scrooge with R&D is also a bad idea: companies in the bottom 10 percent underperformed their peers.

It isn’t clear what the findings mean. It could be that R&D spending is necessary but only up to some ill-defined point. It could also be that unusually low R&D spending is a symptom of larger problems. After all, a company may spend little simply because it is strapped for cash. Finally, a company may so dominate its market that it feels little pressure to come up with new ideas.

Investors’ only source on R&D spending is the quarterly and annual reports that publicly traded companies must submit to the agencies that regulate the various stock exchanges, as the Securities and Exchange Commission does in the United States. However, the quality of information in those reports varies greatly.

Toyota’s filing provides a lot of detail on the company’s R&D strategy. The company goes out of its way to declare that maintaining leadership in R&D is a key to improving overall performance. The argument, however, avoids any acknowledgement of the company’s low R&D Intensity relative to that of other carmakers. Toyota’s filing asserts that its R&D priorities are to develop such environmentally friendly technologies as hybrid gas-electric drive, fuel cells, and recyclable materials. But it gives little information on the scale of those investments. Of course, Toyota is well known for its Prius hybrid, an iconic symbol for green-conscious drivers. So it has already received large dividends from its R&D in environmental technologies.

In contrast, Ford’s description of its impressive R&D program can charitably be described as perfunctory. It simply lists, in two brief paragraphs, how much it spends and where it spends it. Ford does not provide a rationale for last year’s 10 percent cut, nor does it try to play up the company’s continuing position as one of the most R&D-intense companies in the world. Ford’s brevity may reflect other, competing goals in such financial disclosures; the company may, for instance, wish to keep its competitors in the dark.

Fortunately for investors, most other automakers provide a level of detail that is closer to Toyota’s than to Ford’s. Indeed, many companies cite their R&D ranking as a source of strength. For example, Samsung Electronics Co. says in its filing, “In 2006, the Financial Times ranked Samsung Electronics ninth in R&D investment among 1250 companies around the world…. This newspaper reported that over the past four years, Samsung’s massive investment in R&D has had a great impact on the electronics industry, prompting competitors to spend more on R&D.” As Spectrum reported last year, Samsung surpassed Intel as the leading spender on R&D in the semiconductor industry, a position the South Korean company maintained this year in spite of double-digit growth in Intel’s spending [see “IBM Takes the Guesswork Out of Services Consulting,” Spectrum Online, December 2006].

Another metric of R&D is the number of patents that come out of it. Of course here, too, there must necessarily be a lag between the investment and the result. Samsung boasts of registering 2474 new patents in the United States during 2006, raising it three notches to place second, behind IBM, the world leader for the 14th year in a row. The problem is that the business value of patents varies greatly, so the sheer number of patents correlates loosely at best with a firm’s actual performance [see “Keeping Score in the IP Game,” Spectrum, November].

The filings also provide a window into R&D collaborations between companies. For example, Motorola highlighted its creation of a new joint research facility with Huawei Technologies, in Shanghai, to bring the Universal Mobile Telecommunications System and High-Speed Downlink Packet Access cellphone technologies to market. Intel touts its collaboration with Micron Technology to develop NAND flash-memory technologies.

One more point: the year-by-year filings provide a kind of slide show of the process of globalization. The top R&D spenders are all multinational corporations, and their R&D operations are themselves increasingly dispersed around the world. Microsoft has R&D facilities in Canada, China, Denmark, India, Ireland, Israel, and the United Kingdom. Even upstart Google has R&D centers in China, India, Israel, Japan, and Russia.

How Wall Street’s pros evaluate R&D depends on the industry, the company, and the individual analyst. R&D Intensity is always the analyst’s main benchmark, but the key question is what, exactly, it is supposed to be measuring. R&D is an investment in the future and also an expense against current earnings. An analyst may choose to favor either side of the equation.

Stephen R. Biggar, director of U.S. equity research for Standard & Poor’s (which is separate from the data-generating arm of the company that supplied the R&D statistics for this article) says that Wall Street’s desire for ”instant gratification” is too high, and it’s getting higher. He blames a short-term outlook that puts pressure on companies to shoot for ever-quicker payoffs, which in turn tends to make them shortchange R&D. The reason is that lag time again: it takes a long time to yield profits—up to 15 years in the pharmaceutical industry. That’s forever to most analysts, who generally forecast revenues and earnings just two or three years out. He says those pressures are stronger in the United States than in other countries (perhaps because boards of directors in those countries are less in thrall to shareholders).

Biggar says pressure for quick payoffs isn’t all bad. It induces companies to try to squeeze what they can out of the plant and equipment they already have, which is good for efficiency so long as no technological revolution intervenes to render that equipment obsolete. He also notes that R&D is viewed differently in each sector. He says a good rule of thumb is that the higher a sector’s average R&D Intensity tends to be, the more important R&D will be to analysts.

Consider these three industries: pharmaceuticals, semiconductors, and software. They all have very high R&D intensities, but each invests in R&D in its own way, shaped by its own risks, time to market, industrial organization, regulatory regimes, and business models.

Pharmaceuticals companies live and die on R&D: their R&D Intensity averages 16.4 percent. Because the vast majority of apparently promising compounds end up as failures, a firm must sink billions of dollars over many years just to get one or two successes. That’s why a drug company’s fortunes can turn on the result of a single patent trial; it’s also why pharmaceutical analysts work ferociously to track R&D projects as they snake their way through the many stages of the pipeline.

Herman Saftlas, who covers some major pharmaceutical companies for Standard & Poor’s, says most firms highlight their pipelines much as a manufacturer might account for back orders. Pfizer, for example, documents its drug pipeline in detail in a special report ( The transparency of pipelines allows analysts an opportunity to evaluate the productivity of a firm’s R&D, and Saftlas has concluded that some firms are simply better at getting more for their R&D buck than others. (He notes, for instance, that Pfizer’s R&D performance has been below average for its sector, in part because its 2003 acquisition of Pharmacia Corp. hasn’t worked out as well as it expected; Merck, by contrast, has bettered the average.) Firms have adjusted their R&D strategies to fit the changing marketplace for drugs. The attrition rate for candidate drugs has risen so high that firms are beginning to give up hope of bringing in billions with blockbuster drugs, and are instead settling for mere tens of millions in niche markets. It’s the difference between, say, a Viagra and a longer-acting antihistamine pill. The development timeline for such niches is shorter and less risky.

Semiconductor manufacturers are putting a high and rising share of their resources into R&D, for a research intensity averaging 17.1 percent. Still, Clyde Montevirgen, who covers the sector for Standard & Poor’s, says R&D is not his single most important metric—sales are. He reasons that R&D still constitutes a small part of overall costs, and one that is hard to gauge because most firms jealously guard their data, rarely talking at all about developments that are more than a year away from the market. Montevirgen therefore measures R&D effectiveness by ”design wins,” in which a firm announces a partnership with a hardware device maker. For example, in August, STMicroelectronics, No. 60 on the leaderboard, announced that Garmin had selected STM’s chips for its new range of portable and handheld GPS and navigation devices.

Market changes since 2000 have pushed semiconductor firms to ratchet up their R&D budgets, Montevirgen says. Because an ever-broadening array of products incorporate semiconductors—think PDAs, smart phones, GPS, iPods—many in the industry hope that the market will grow even faster than it already has. However, Montevirgen cautions that the semiconductor industry is a highly cyclic market and R&D spending will surely follow the cycle. If the market turns downward, expect R&D spending to drop back.

Jim Yin, who covers major software firms for Standard & Poor’s, puts less emphasis on R&D spending than his two colleagues do, even though the sector’s average R&D Intensity of 17.9 percent puts it higher than those of semiconductors and pharmaceuticals. He looks, instead, mainly at sales.

Because R&D spending varies widely, he says, it’s hard to compare numbers across the industry. Investments increase rapidly before a product launch and then fall quickly afterward. A young firm spends all it has to make its first launch, while an established firm can get sales out of existing lines with far less R&D investment. Software projects are notoriously prone to late delivery, and that makes it even harder to forecast the payoffs of R&D.

To limit the confusion, Yin focuses not on total R&D but just on the portion budgeted for a specific product launch he is following. He also divides software into categories requiring differing R&D investment. For example, a game company may need to spend more per product because each game has features that cannot be shared easily with others. Yin adds that Microsoft’s immense profitability allows it to place bigger R&D bets than other firms do and to wait longer for those bets to pay off.

So, keep the following in mind as you review our R&D leaderboard. R&D spending and intensity do matter, but different industries require different R&D investments, as do companies in different niches within an industry and at different stages of development within a niche. Whether a firm emphasizes quick or long-term payoffs depends on its country, its industry, its maturity, and its strategy. Finally, what matters isn’t how much money you spend but how wisely you spend it. Unfortunately, our leaderboard doesn’t have a column for wisdom.

About the Author

RON HIRA is an assistant professor of public policy at the Rochester Institute of Technology, in New York ( He is past chairman of the Research & Development Policy Committee of IEEE-USA.

To Probe Further

IEEE Spectrum’s top R&D reports are also available for 2002, 2003, 2004, 2005, and 2006.

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