Investors underestimate importance of R&D budgets

The financial community’s need for immediate gratification has permeated its way into all aspects of business


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I was amused with Jon Gertner’s article, “The X factor,” which appeared in the May issue of Fast Company magazine. It’s about GoogleX, one of Google’s innovation labs, the one that develops the really far-out ideas, like Google Glass, their new computer that you wear like a pair of glasses.

According to Mr. Gertner, “Recently, when [Larry] Page was challenged on an earnings call about the sums he was pouring into X, he made no effort to excuse it. ‘My struggle in general is to get people to spend money on long-term R&D,’ he said, noting that the amounts he was investing were modest in light of Google’s profits. Then he chided the financial community: Shouldn’t they be asking him to make more big, risky long-term investments, not fewer?”

There you have it: a perfect summary of one of our biggest problems. Google is a company that sells innovation. It’s been incredibly successful and profitable at it. Yet the financial community is never satisfied, no matter how much they make. Admittedly, the stock is trading down from its high, but no stock stays on a high. Stock charts are a series of peaks and valleys, and the Google story, viewed in its proper perspective is about the best you’ll find.

In order to increase immediate stockholder returns, which are about as good as such things get, analysts are willing to cut future profitability to make a little more right now. Would they try to get automobile producers to spend less on steel? Should oil companies spend less on drilling and exploration?

It’s like asking a farmer to sell the seeds to next year’s crops so he can make a little more this year. I suppose it could be a good strategy, if you think it’s the last year he’ll be around.

Unfortunately, this need for immediate gratification permeates its way into all aspects of American business nowadays. Increasing profitability at all costs is the mantra. As a result, very few managers want to take any risks at all. And risks with no immediate return are often completely out of bounds.

Admittedly, the vast majority of such investments never pay off. The few that do, pay for the ones that fail and deliver handsome profits besides. Without a crystal ball of some sort, it’s impossible to pick the winners up front.

 

Past ingenuities

 

Interestingly, Apple stock is down as well. They haven’t had a blockbuster new product in a while and people wonder if they can still do it without the late Steve Jobs. I wonder if anyone is criticizing Apple’s developmental budgets?

And, of course, this is not just a problem in high tech; many industries suffer from the same malaise. In this economy, many companies are hard-pressed to deliver a profit at all, so all too often the modus operandi is to do the best you can with what you have. That works for a while, but customers get tired of the same old stuff.

A friend was recently looking for a new car. When he test-drove the latest model, he changed his mind. There were styling changes, but it felt just like he was driving his six-year-old car, which he wanted to trade-in because the mileage was getting up there. As a result, he switched and bought another model. He felt spending all that money should have entitled him to something he didn’t already own.

When we manufacture a product or produce a service over time, we should be learning ways to improve it. Our people should be giving us ideas, which might cost money to implement, but enhance the value to our customers. Customers will also give us good ideas, if we provide a convenient way for them to do it.

We can only live on our past ingenuities for so long. And of course, our competitors, if they’re any good, would be doing the same thing. Some companies get it, others don’t.

Which begs the question, how many financial analysts understand this? They’re the “experts” who try to assess the value of these companies to recommend whether we buy, sell or hold their stock.

Have you ever wondered how once great companies fade away? They get satisfied with what they already have, making it so much easier for their customers to find something better from someone else.

Shouldn’t financial analysts be reviewing R&D budgets to make sure they're big enough, instead of small enough, before issuing “buy” or “hold” recommendations?

Ronald J. Bourque, a consultant and speaker from Windham, has had engagements throughout the United States, Europe and Asia. He can be reached at 603-898-1871 or RonBourque@myfairpoint.net.


 

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