What happened to IT's wasted R&D billions?

Microsoft has an annual $10 billion budget for research and development but still produce unimpressive products. Andrew Harrer / Bloomberg News

IT companies spend billions on research and often it's money poured down the drain. There is an increasing trend to buy smaller and more innovative companies.

A Microsoft is spending billions of dollars on research and development of its new cloud-computing platform, raising the question of how much value information technology companies actually receive from their massive investment in R&D.

With a total annual R&D budget of almost US$10 billion (Dh36.73bn), Microsoft should in theory be constantly rolling out popular new products and services.

Nokia is also reported to have an annual R&D budget of about $4.4bn. But, because of a perceived lack of innovation, both companies have been losing market share to newer competitors such as Apple and Google.

In a move that should benefit the IT sector in the UAE, some investors are already demanding that giants such as Microsoft, Nokia and Research In Motion (RIM), the maker of the BlackBerry smartphone, cut their R&D budgets and spend more on international mergers and acquisitions (M&A).

When companies such as Microsoft do make acquisitions, they often represent a much faster track to market for new products than traditional R&D. Microsoft has made several successful purchases. One example was the Multimap acquisition in 2007 that enabled Microsoft to compete with Google Maps.

Another was the acquisition of the business software company ProClarity in 2006, which kept Microsoft competitive in the business intelligence software market.

Microsoft has, however, also made disappointing acquisitions.

"Microsoft's acquisition track record is a bit like the curate's egg. If you look at a list of acquisitions over the last 20 years, only some of these acquisitions are a Microsoft service or feature today," says Richard Edwards, a principal analyst at the research company Ovum.

Mr Edwards says Groove Networks was Microsoft's most disappointing acquisition, as it was really about finding a replacement when Bill Gates decided he had had enough. Groove's talented leader was Ray Ozzie, who left Microsoft at the end of last year.

Companies that are the size of Microsoft must also be careful not to make too many acquisitions to avoid looking like a monopoly. "One of the issues Microsoft has to live with is that the regulators are looking over its shoulder all the time." says Mr Edwards.

Microsoft has also been known to invest in billions in R&D for software that subsequently bombed, such as its unpopular operating system Vista, which was released in January 2007. But there is also an argument that not all the billions of dollars Microsoft spends on R&D are wasted.

"Without developing Vista first, Microsoft would not have been able to develop Windows 7, which offers what users hoped Vista would achieve," said Mr Edwards.

But this raises the question of why R&D costs companies such as Microsoft so much.

In Microsoft's case, the reason is that its Windows operating system relies on a computer code that is decades old. Millions of lines of code have to be rewritten to incorporate quite simple instructions.

This is why Microsoft's plan to develop powered cloud services will be so expensive - an estimated $8.6bn.

With competitors such as Google already trying to steal Microsoft customers away to their own cloud-based software, Microsoft may not be in a position to cut its R&D budget any time soon. But other IT companies are increasingly willing to cut R&D when they can do so.

Nokia may have already decided to throw in the towel on its R&D strategy. The company is considering cutting about 6,000 R&D jobs in the wake of a decision to ditch its Symbian operating system in favour of Microsoft software. Nokia has already all but admitted its existing Symbian smartphones, which cost billions of dollars to develop, will be a hard sell during the switchover to Microsoft.

Jorma Ollila, the Nokia chairman, said his board had "discussed explicitly that there would be an expected lower market share in the meantime with the opportunity then to pick up and build on the new concept".

Even RIM, may soon conclude that its efforts to keep up with Apple may mean shifting some of its massive R&D budget on to mergers and acquisitions. The company is reported to spend about 7 per cent of its revenues on R&D.

The increasing pace of change in consumer IT and the drive to get new services to market is likely to force more IT companies to cut R&D budgets in favour of swallowing up smaller and more innovative players. This would mean billions spent on M&A in the global IT sector over the next couple of years.

For developing regions such as the Middle East, this expected tidal wave of M&A cash is set to benefit the local IT sector.

Developments such as Dubai Silicon Oasis should soon stand an increased chance of attracting funding for UAE start-ups.