One critical element for building a stable middle market company is developing a strong brand identity. Successfully competing against larger firms happens when the marketplace knows your organization for something in particular. When a firm and its offerings are associated with certain valued traits, the organization has a competitive advantage that can and should be leveraged on a consistent basis.
A company's research and development (R&D) function can be an important part of that branding effort. First, it acts to keep the firm's competitive advantages going, thus strengthening the brand. Second, it must gather data and insight from internal and external sources to create new such advantages through blue-sky innovation. If your company's brand identity is linked to innovative products or services, then R&D will naturally occupy a central role in your organization.
R&D Is a Unique and Proprietary Calculation
As critical as the R&D function is, measuring its effectiveness is a tricky thing. According to a faculty paper from French business school INSEAD, "companies using financial measures in their R&D funding decisions perform worse than companies that don't." What's more, "no widely accepted performance measurement for R&D exists ... success criteria are not always known because they are strategy dependent." Unfortunately, there's often a disconnect between R&D's understanding of its role and what management desires from the department when maximizing the firm's strategy, performance and standing. This is a problem that, as INSEAD points out, cannot be solved with a bigger budget.
Therefore, executives must maintain strong, steady communication with R&D regarding the department's priorities over a particular time frame and how progress will be measured. One example: Management sees that R&D can develop some type of process improvement that would save on production costs while delivering the product more quickly to market, with higher initial customer-satisfaction scores. This initiative, if given a higher proportion of the annual R&D budget and personnel time, will push any in-progress blue-sky innovation projects to the back burner. However, depending on the improvement's cost savings and additional revenue, a product's typical life cycle and the firm's brand identity, this priority shift certainly could be acceptable.
Inversely, when management later checks the progress of blue-sky innovations after R&D priorities changed, the typical measurement criteria must be downplayed. These criteria often include the new-product sales ratio (or the percentage of sales derived from products less than three years old), the new-product profit ratio, the percentage of first-to-market products in the portfolio and the average age of products versus the industry life cycle. What's more, if the company's strategy causes R&D to focus on safe incremental projects and lessens the production of breakthrough concepts, then the executive suite must shoulder the blame if competitors gain an innovative advantage.
Looking From Others' Perspectives
Another warning from the INSEAD paper: Don't necessarily use widely admired companies' benchmarks to measure your company's R&D function. Unless your firm shares some commonality in mission and brand identity, many of these measurements will likely not apply. Even if these items are similar, remember that the dynamics of your market and its product life cycles also factor into whether you can measure R&D effectiveness and contribution in the same ways as other companies.
Then again, you can look to other companies for incremental and breakthrough ideas that are based on commonalities between both organizations. When executives and R&D specialists from noncompeting firms discuss market challenges, ingredient and material challenges and process challenges, it's known as an open innovation network. Participants often offer solutions that were used within their firms and help brainstorm other ideas. A low-cost way to boost R&D effectiveness and value, open innovation lets your company grab ideas from others and emulate applicable parts of their measurement criteria.
How to Measure Progress
While there is no across-the-board solution for R&D productivity measurement, some general guidelines can help. For shorter-term projects with lower risk and moderate reward possibilities, measure the department's actual output. Track the percentage of projects launched that reach the one-year target for units sold or revenue earned, as well as R&D yield, or the profit gained from projects over total R&D costs. Additionally, measure production cost savings, time-to-market and initial customer-satisfaction scores. For higher-risk, longer-term projects, gauge the quality of R&D's process plus the learning gained from it. These will act as interim guideposts for each project. Measuring in these ways will also help inform and streamline future R&D efforts.
In the end, the INSEAD paper recommends that the executive suite give its R&D team a top-down vision in the form of strategic direction, and then let it propose ideas gathered from all corners of its reach. This advances the strategy using a bottom-up approach. Then measure R&D effectiveness based on those strategic priorities, which should provide a rough balance between the firm's strength in existing niches and its growth over time through new offerings and markets.
How does your company measure its research and development productivity? Does it split criteria based upon project size? Let us know by commenting below.
Rob Carey is an NCMM contributor and a features writer who has focused on the business-to-business niche since 1992. He spent his first 15 years at Nielsen Business Media, rising from editorial intern to editorial director. Since then, he has been the principal of New York-based Meetings & Hospitality Insight, working with large hospitality brands in addition to various media outlets.