Does R&D Matter to Tech Companies?

June 13, 2013 by Douglas A. McIntyre

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There is a broadly held assumption that research and development (R&D) budget sizes matter a great deal to the current and future financial prospects of most tech companies. A review of the financial results of many of these companies shows that assumption may not be true.

The San Jose Mercury News posted an analysis that shows, among other things, that Hewlett-Packard Co. (NYSE: HPQ) has chopped its R&D budget in recent years. That might be a cause for its terrible financial condition now. However, some companies that have large budgets, and even accelerated R&D investments, have not done much better than HP.

Among those companies that spent a very large amount on R&D compared to their revenues last year are battered Advanced Micro Devices Inc. (NYSE: AMD), Yahoo! Inc. (NASDAQ: YHOO) and Juniper Networks Inc. (NYSE: JNPR).

At the other of the spectrum are companies that spend a very small portion of sales on R&D. These include Apple Inc. (NASDAQ: AAPL), Cisco Systems Inc. (NASDAQ: CSCO) and Oracle Corp. (NASDAQ: ORCL), each of which has to be considered the leader in its sector.

The ready argument about the why R&D investment and success are not linked is that troubled corporations have such pathetic revenue size compared to their rivals, and such little growth, that any expenditure would look large. On the other hand, very large companies that are growing quickly may spend a large amount in actual dollars on R&D, but they are so successful that even these very large investments appear small compared to their massive sales.

The final case about R&D expenditure size is that successful companies can make modest investments because their spending is “smart” while that of troubled rivals is “stupid.” The ultimate proof of that is Apple’s ratio of R&D to sales is very small. But its investment has created products like the iPhone. At the other end of the spectrum, AMD has not come even close to rivaling the market share of Intel Corp. (NASDAQ: INTC) in terms of PC processor sales. Its R&D investments, therefore, have to be misplaced.

The Mercury News quoted one expert whose opinion may be completely wrong because it defies what appears to be a case that R&D as a percentage of revenue may favor companies with low ratios:

“HP is not as competitive as they should be across a lot of their portfolio,” said Baird Equity Research analyst Jayson Noland, “and that absolutely has some correlation to what they spend on R&D.”

In reality, HP may just have placed its R&D bets on products that have taken it in the wrong direction.