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 COLUMN
How do you tell your company its profit is too high? EVENTUALLY EVERY PRODUCT gets replaced in the marketplace. Ideally your company will successfully replace its own product rather than having it displaced by another company. The CTO's role in making sure this happens is to persuade the board of directors to divert some current profits toward targeted reinvestment in research and development.
For example, when I was at Rockwell, the company had a successful division (which has since been spun off as Conexant) that captured a dominant share of the global market for fax modem chips. The bad news was that a new generation of modem chips cost several hundred million dollars to develop and is replaced by an even newer generation within a year. In the face of declining profits and market share, Conexant maintained R&D investment and moved to what it called a "fabless" business model, meaning "one based on outside purchase" of new chipset models. It also established a range of diversified products (such as Mindspeed Internet infrastructure) that reduced its PC product sales to one-third of total revenue. The key question confronting your company is whether or not it will be the first to offer a new market standard -- and can the company earn healthy profits by doing so? When a CTO asks company management for internal reinvestment of profits in R&D, the case hinges on ROI. The burden of proof lies with the CTO to demonstrate credibly that no competing option offers a higher ROI for the company's capital. Not only is this a high standard, but evaluation and re-evaluation are also continuous, because opportunities for investment are constantly surfacing and management is tempted to pay for an opportunity by cutting back on R&D. Depending on the product cycle at your company, the negative consequences of cutting back on valuable R&D may not show up for some time. This is known as "eating your seed corn" -- causing the harvest of future research to diminish to starvation levels. For publicly traded companies, institutional investors provide a check-and-balance by scrutinizing R&D investment levels and retreating from positions in companies that precipitously reduce strategic reinvestments. Company standards and strategies vary, but a typical research dollar is expected to generate at least two dollars in operating income within several years, at an ROI of 17 percent or higher after taxes. In general, R&D investment averages about 2 percent of total sales for American companies, and 3 percent for California companies. But high-tech companies are much more aggressive. Lucent is more representative of most IT companies, with an average of $3 billion in annual R&D investment, or about 15 percent of its total sales. Tenacious smaller companies striving to maintain R&D investment in the face of declining revenues can exceed 35 percent. During economic downturns, an R&D emphasis on improving internal productivity may align better with corporate cost-cutting. Putting together a persuasive business case for internal investment requires alliances with finance, sales, marketing, engineering, and manufacturing. They are internal customers and ultimate beneficiaries of your efforts, so they are key allies. One engineering department head originally pushed to eliminate my centralized planning operation so that he could lobby for his own R&D allocation, but became a supporter when the process successfully defended a larger-than-ever R&D budget for his group. A CTO can succeed at balancing reinvestment with current profits by bringing forward a product development plan that is widely supported within the company and backed by a clear technology road map that focuses on achieving the board's strategic business objectives. The board sees this proposal as good news not bad news -- not as an attack on profits, but as an enabler of higher future profits. In my next column in this continuing series about why balance is everything for today's CTO, I will discuss balancing in-house R&D against the purchase of technology expertise from outside sources. Stay tuned for that installment, online Dec. 3, at www.infoworld.com/cto. Gene Rogers (gene.rogers@boeing.com) is chief technologist for the Space Systems Engineering organization of Boeing, in Huntington Beach, Calif. A member of the InfoWorld CTO Advisory Council, Rogers is responsible for technology forecasting, technology development, technology collaborations, and technology transfer across Boeing's space system businesses.  RELATED SUBJECTS  Business NewsProfessional DevelopmentSPONSORED WHITE PAPERS 
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