For technology companies, the ability to create new or improved products and services is paramount. In an industry rife with disruption, only companies that innovate are able to continue to reward investors over the long term. However, this disruption certainly doesn't come cheap. For most Silicon Valley firms, their research and development operating expenses comprise a large percentage of its revenue.
For investors, however, research and development expense is somewhat of a double-edged sword. As previously stated, investors need technology companies to innovate, but on the other, these are tangible costs that will no longer tumble down the income statement as earnings.
In a perfect world, a company would be able to innovate on the cheap -- that is, to spend a low portion of its total revenue on research and development and still bring high-quality innovations to market. It seems tech giant Apple (NASDAQ:AAPL) is doing just that. So while Apple is spending less money, it's doing so in a more prudent manner.
Apple's spending less
Compared with other large tech-related companies (via Bloomberg), Apple spends a much smaller percentage of its top line on research and development. In its last full fiscal year, Apple spent a total of $8.1 billion on the line item, or approximately 3.5% of its revenue during the period. For a comparison to other companies, see this table:
|Company||Revenue (FY)||R&D (FY)||R&D as % of Revenue|
Apple's research and development spend as a percentage of revenue is much smaller than all others. This is partially due to the large discrepancy between its massive top line and other companies, as its $8.1 billion research and development spend is larger on a raw-figure basis than all but Alphabet, but also due to a disciplined spend approach that goes back to founder Steve Jobs' vision and statement that "innovation has nothing to do with how many dollars you have."
But is Apple being innovative enough?
Of course, it's hard to accurately gauge the effectiveness of research and development spend in the short run for a variety of reasons. First, in many cases, research merely becomes an improvement to an existing product, making it difficult to assess its individual effects from a profit standpoint.
In addition, the gestation period of innovation to income-statement contribution can be shockingly long. An example is Alphabet (NASDAQ:GOOG) (NASDAQ:GOOGL), which invests a portion of its research and development spend into what it affectionately calls "moonshots," high-risk, high-return projects such as its Wing drone delivery project or its Loon project of high-altitude Internet-delivering balloons. Could these be huge revenue drivers in the future? Who knows, but right now these projects only show up as expenses on the income statement.
The question, of course, is whether Apple is being prudent in its relatively small research and development outlay. For the reasons I've mentioned, it's hard to truly answer this question, but the signs point to yes. The company continues to perfect its signature iPhone, adding 3D Touch to its newest model, and has brought its first post-Jobs device -- the Apple Watch -- to market.
These are signs the company is doing fine from an innovation standpoint -- not to mention Bloomberg's data is incomplete.
Innovation is innovation -- whether purchased or created in-house
While Bloomberg's data is correct -- it's technically correct that Apple spends a low figure on in-house research and development -- that's not the only way the company acquires innovation. Company acquisitions are also a way for an acquirer to get its hands on game-changing innovations. And since this doesn't show up as an R&D expense, it renders Bloomberg's analysis incomplete.
In fiscal 2015, Apple recorded nearly $350 million after a massive $3.8 billion outlay last fiscal year, which included its high-profile purchase of Beats Audio. In this calendar year alone, Apple's purchased at least 10 companies with technology to improve Siri, Apple Maps, device cameras, and iCloud. The key point for investors is that Apple appears to be able to either create or acquire the technology it needs to compete.