Business case study

strategy+business ISSUE 81 WINTER 2015 REPRINT 00370 BY BARRY JARUZELSKI, KE VIN S\fHWARTZ, AN\b VOLKER STA A\fK THE GLOBAL INNOVATION 1000 Innovation’s New World Order Asia is now the top regional destination for R&D spending, followed by North America and Europe. feature innovation 1 Illustration by Mar tin O’Neill The geographic footprint of innovation is changing dramatically as research and development programs become more global. An overwhelming 94 percent of the world’s largest innovators now conduct elements of their R&D programs abroad, according to the 2015 Global Innovation 1000 study, our annual analysis of corporate R&D spending. These companies are shifting their innovation investment to countries in which their sales and manufacturing are growing fastest, and where they can access the right technical talent. Not surprisingly, innovation spending has boomed in China and India since our 2008 study, when we rst charted the global ows of corporate R&D spending. Collectively, in fact, more R&D is now conducted in Asia than in North America or Europe. Perhaps more unexpectedly, innovation spending in the U.S. has held relatively steady as a share of global innovation spending, despite increases in the amount of R&D that U.S. rms conduct in Asia. This is due in part to companies from other countries increasing their R&D activity in the United States; Silicon Valley, in particular, has been a powerful draw.

Innovation spending in Europe, in contrast, grew more modestly and unevenly, with some countries, such as France and the U.K., showing net decreases in domestic R&D spending from 2007 to 2015. More European companies are choosing to expand their R&D operations elsewhere, in both low-cost countries in Asia (de ned as countries where the average annual engineering salary is less than US$35,000) and high-cost countries such as the United States. Asia is now the top regional destination for R&\f spending, followed by \borth America and Europe.

by Barry Jaruzelsk\Si, Kevin S\fhwartz, an\b Volker Staa\fk Innovation’s New World Order 1 000 feature innovation 2 strategy+business issue 81 3 For leading companies, implementing a global in- novation strategy is paying off. We found that rms that favor a more global R&D footprint outperform their less globalized competitors on a variety of nancial mea- sures. This is important, because, as in previous years, we found no statistically signi cant evidence that higher levels of spending guarantee better results (see “The 10 Most Innovative Companies,” page 9). Our refrain has long been that it’s not how much you spend on research and development, but how you spend it. But it’s also where you spend that determines your success — and our 2015 study shows that decisions about R&D loca- tion look very different today than they did less than a decade ago ( see Exhibit 1 ).

Worldwide, R&D spending by the Global Innova- tion 1000 companies — the 1,000 public corporations worldwide that spent the most on researching and devel- oping products and services for their markets — rose 5.1 percent to $680 billion in 2015, the strongest increase in the last three years. Companies headquartered in the U.S., Europe, and Japan continued to account for a large majority of innovation spending: 86 percent in 2015 (see “Pro ling the Global Innovation 1000,” page 5). But we know that analyzing global innovators based solely on where their headquarters are located doesn’t reveal where the actual work of innovation is being done. To analyze the ows of R&D spending among regions and countries, we researched the inno- vation activities of 207 companies in 23 countries con- ducting R&D at 2,041 sites in more than 60 countries (see Methodology, page 15). This sample of major in- novators accounts for 71 percent of the total Global In- novation 1000 spending. To describe location and ows of innovation spend- ing, we use the terms in-country (or in-region ) spending, exports , and imports as a convenient shorthand. A multi- national that spends a third of its R&D budget outside its headquarters country is thus considered to be export- ing 33 percent of its R&D spending. The disadvantage of using this terminology is that the concepts of import- ing and exporting are antithetical to the concept of a multinational corporation, which by de nition conducts business globally rather than nationally. It can also be potentially misleading, in that mergers and acquisitions can alter the export and import numbers even though the location of past innovation activity does not change. Still, this type of analysis provides an accurate gauge of where innovation activity is being conducted around the world, and how corporate management makes R&D investment decisions. It also provides a way to chart the relative gains and losses across countries and regions. As a complement to our study, we asked global in- novation executives about both their companies’ expe- riences with global innovation and their views on suc- cessful innovation practice. The 369 respondents to the Web survey represented companies that collectively ac- counted for more than $106 billion in R&D spending — 16 percent of the Global Innovation 1000 total. We also conducted in-depth interviews with a select group of senior innovation leaders to hear rsthand how the global innovation model has evolved. Given the pervasiveness of globalized innovation and the performance premium that a globalized foot- print provides, the bene ts for companies are obvious.

But executing such a strategy comes with challenges, and a set of best practices has emerged to help innova- tion leaders manage them. It’s critical that they do so, because the best opportunities are now scattered far and (continued on page 7\r) Barry Jaruzelski barry.jaruzelski@ strategyand.us.pwc.com is a thought leader on inno\f vation for Strateg\b&, PwC’s strateg\b consulting business.

Based in Florham Park, N.J., he is a principal w\rith PwC US.

He works with high\ftech and industrial clients on corporate and product strateg\b and the transformation of core innovation processes.

He created the Global Innovation 1000 stud\b in 2005, and i\rn 2013 was named one\r of the “Top 25 Consultants” b\b Consulting magazine. Kevin Sc\fwartz [email protected] is a principal with\r PwC US, and leads the rm’s innovation and development consulting services. Based in San Francisco, he focuses on driving enterprise\fwide innovation and enabling\r growth through new products, services, and business model innovations.

V\blker Staack volker.staack@ strategyand.us.pwc.com is a leading practitioner for Strateg\b&.

He is a principal with PwC US. He focuses on engineered products and services, particularl\b in the automotive and heav\b equipment industries, and specializes in strategic product value management, turnarounds, and implemen\f tation of global M&A.

Also contributing to this article were s+b contributing editor Rob Norton, Strateg\b& campaign manager Kri\rsten Esfahanian and senior associate Spencer Herbst, and PwC manager Viv\rek Shrivastava. feature inn\bvati\bn 3 4 1000 South Kor ea $13 South Korea $7 China $55 China $25 U.S. $145 U.S. $109 Japan $50 Japan $40 Germany $32 Germany $28 India $28 India $13 U.K. $22 U.K. $23 France $16 France $20 Italy $11 Italy $8 Canada $10 Canada $9 2007 2015 Israel $7 Israel $11 In-Country R&D S\fen\Sdin\b Domestic and imported R&D for countries in which US$10 billion or more was spent on R&D in 2015 US$ Billions 2007 2015 $100 $150 $200 $100 $150 $200 In-Re\bion R&D S\fendin\b 20072015 Exhibit 1: Global Shifts in R&\SD S\fendin\b, 2007–15 US$ Billions Cor\forate R&D S\fendin\b by Headquarters (Domestic and Imported) US$ Billions North America Europe Asia Source: Bloomberg data, Capital IQ data, Strategy& analysis Companies headquartered in North America continue to spend the most on corporate R&D. But where companies spend their R&D money has changed dramatically: Asia is now the leading region in innovation spending, and\ Europe has slipped to third place. The chart at right shows a country-level vie\ w. South Kor ea $13 South Korea $7 China $55 China $25 U.S. $145 U.S. $109 Japan $50 Japan $40 Germany $32 Germany $28 India $28 India $13 U.K. $22 U.K. $23 France $16 France $20 Italy $11 Italy $8 Canada $10 Canada $9 2007 2015 Israel $7 Israel $11 In-country R&D spending (which includes domestic and imported R&D) for countries in which US$10 billion or more was spent on R&D in 2015 US$ Billions 2007 2015 $100 $150 $200 $100 $150 $200 In-Region R&D Spending 2007 2015 Exhibit 1: \flobal S\bifts in R&\dD Spending, 2007–15\d US$ Billions Corporate R&D Spending by Headquarters (Domestic andImported) US$ Billions North America Europe Asia Source: Bloomberg data, Capital IQ data, Strategy& analysis Companies headquartered in North America continue to spend the most on c\ orporate R&D. But where companies spend their R&D money is being sp ent has changed dramatically: Asia is now the leading region in innovation spending, and\ Europe has slipped to third place. The chart at right shows a country-level vie\ w. South Kor ea $13 South Korea $7 China $55 China $25 U.S. $145 U.S. $109 Japan $50 Japan $40 Germany $32 Germany $28 India $28 India $13 U.K. $22 U.K. $23 France $16 France $20 Italy $11 Italy $8 Canada $10 Canada $9 2007 2015 Israel $7 Israel $11 In-Country R&D S\fen\Sdin\b Domestic and imported R&D for countries in which US$10 billion or more was spent on R&D in 2015 US$ Billions 2007 2015 $100 $150 $200 $100 $150 $200 In-Re\bion R&D S\fendin\b 20072015 Exhibit 1: Global Shifts in R&\SD S\fendin\b, 2007–15 US$ Billions Cor\forate R&D S\fendin\b by Headquarters (Domestic and Imported) US$ Billions North America Europe Asia Source: Bloomberg data, Capital IQ data, Strategy& analysis Companies headquartered in North America continue to spend the most on corporate R&D. But where companies spend their R&D money has changed dramatically: Asia is now the leading region in innovation spending, and\ Europe has slipped to third place. The chart at right shows a country-level vie\ w. feature innovation 4 strategy+business issue 81 5 2015 2014 Source: Bloomberg data, Cap\ftal IQ data, Strateg\b& anal\bs\fs Exh\fb\ft B: The Top 20 R&D Spenders RANK Company Industry 2015 US$ B\fll\fons Change from 2014 % of Revenue Headquarters R&D Spending $15.3 $14.1 $11.5 $11.4 $10.8 $9.8 $9.3 $9.2 $9.1 $8.5 $8.4 $7.6 $7.4 $7.2 $6.9 $6.4 $6.3 $6.0 $5.7 $5.6 $176.5 Auto Comput\fng and Electron\fcs Comput\fng and Electron\fcs Software and Internet Healthcare Software and Internet Software and Internet Auto Healthcare Healthcare Healthcare Auto Auto Healthcare Auto Healthcare Comput\fng and Electron\fcs Comput\fng and Electron\fcs Healthcare Healthcare 13% 5% 9% 9% 8% 24% 41% 1% –8% 4% 26% 9% 3% –4% 8% 1% 6% 35% –7% 16% 9% 5.7% 7.2% 20.6% 13.1% 20.8% 14.9% 10.4% 3.7% 17.3% 11.4% 16.9% 4.4% 4.7% 17.0% 4.8% 14.1% 13.4% 3.3% 15.0% 21.4% 8.4% 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 1 2 3 4 5 9 14 7 6 8 13 12 11 10 15 16 20 32 19 28 Volkswagen Samsung Intel Microsoft Roche Google Amazon Toyota Novartis Johnson & Johnson Pfizer Daimler General Motors Merck Ford Sanofi Cisco Systems Apple GlaxoSmithKline AstraZeneca Europe South Korea North America North America Europe North America North America Japan Europe North America North America Europe North America North America North America Europe North America North America Europe Europe TOP 20 TOTAL Although some of t\phe\fr rank\fngs sh\ffte\pd, the 2015 l\fst of \pthe 20 b\fggest R&D \pspenders features m\pan\b of the same nam\pes as the prev\fous \bear’s l\fst (\pand \fn 11 cases, as l\fs\pts from the last d\pecade). However, t\phere were two nota\pble entrants to th\pe top 20: Apple and \pAstraZeneca. Companies in RED have been among the top 20 R&D spenders every year since 2005. above-average \fat\fh-up gains after the Great Re\fession. It also in\bi\fate\b a reversion to the long-term tren\b of R&D spen\bing grow th of 5.4 per\fent \bemonstrate\b over the last 10 years.

Revenues for the Global Innova- tion 1000 woul\b have in\frease\b as well, ha\b it not been for the effe\fts of \follapsing oil pri\fes on top-line grow th in energy rms, whi\fh e\bge\b overall revenue \bown by 1 per\fent.

This phenomenon also \fontribute\b to a slight rise in R&D intensity, or inno- vation spen\bing as a per\fentage of revenue, from 3.5 per\fent in 2014 to T he \fompanies in the Global Innovation 1000 spent US$680 billion on R&D in 2015. That repre- sent e\b a 5.1 per\fent in\frease from 2014, a year in whi\fh R&D spen\bing grew a meager 1.4 per\fent. The 2015 spen\bing grow th marke\b the larg- est year-over-year in\frease sin\fe 2011 an\b 2012, when we repor te\b Pro ling the Global Innovation 1000 Indexed to 1998 1.0 1.5 2.0 2.5 3.0 3.5 2005 2015 2000 2010 Revenue R&D Spending R&D Spendingas a % of Revenue Exhibit A: R&D and Revenue R&D spending in 2015 rose an impressive 5.1 percent from last year.

Sou rce: Bloomberg data, Capital IQ data, Strategy& analysis feature innovation 5 6 3.7 per\fent in 2015.

Companies ten\b to sti\fk with their in- novation programs \bespite \fy\fli\fal revenue u\ftuations:

R&D spen\bing grow th has often out- pa\fe\b revenue grow th for the Global Innovation 1000 ( see Exhibit A).

Volkswagen, Samsung, Intel, Mi\frosoft, an\b Ro\fhe le\b the Global Innovation 1000 in R&D spen\bing, an\b hel\b the top ve positions for the se\fon\b year in a row. Apple joine\b the top 20 list at number 18, powere\b by its sustaine\b grow th. AstraZene\fa was the other new\fomer to the list, at number 20 ( see Exhibit B). This is the rst time Apple has appeare\b on the top 20 spen\bers list. Still, the \fompany is an ef \fient an\b effe\f- tive innovator: It has the lowest R&D intensity of any \fompany on the top 20 list, spen\bing only 3.3 per\fent of its revenues on R&D, \fompare\b with an average of 12.5 per\fent for the other 19 \fompanies on the list. In a\b\bition, Apple’s R&D intensity is less than one-thir\b the 11.8 per\fent average intensity of its \fompetitors in the \fom- puting an\b ele\ftroni\fs in\bustr y.

Among in\bustries, the \fomputing an\b ele\ftroni\fs, health- \fare, an\b auto se\ftors \fontinue\b to spen\b the most on R&D. In total, they a\f\founte\b for 62 per\fent of total Glob- al Innovation 1000 R&D spen\bing ( see Exhibit C ). However, R&D spen\bing by \fomputing an\b ele\ftroni\fs \fompanies fell 0.7 per\fent in 2015, whereas R&D Exhibit C: Spending by Indu stry, 2015 Healthcare companies continued to narrow the gap with the largest industry spender, computing and electronics.

Sou rce: Bloomberg data, Capital IQ data, Strategy& analysis Telecom 1.8% Other 1.5% Aerospa ce and De fense 3.3% Consumer 3.0% Computing and E lectronics 24.5% Health care 21.3% Softwa re and In ternet 11.2% Indu strials 11.1% Auto 16.1% Chemi cals and Ene rgy 6.2% 1 000 Source: Bloomberg data, C\Sapital IQ data, Str\Sateg\f& anal\fsis \bxhibit D: Change in R&D Spe\dnding \fy Indus\bry, 20\d14–15 Software and Interne\St companies increase\Sd spending b\f 27.4 pe\Srcent — roughl\f thr\See times the percentage increase \Sof industrials. Software and Interne\St 27.4% Industrials 8.9% Healthcare 6.0% Aerospace and Defens\Se 5.0% Auto 4.5% Chemicals and \bnerg\f –0.1% Computing and \blectr\Sonics –0.7% Other –2.8% Consumer –4.3% –10.0% Telecom W\bIGHT\bD AV\bRAG\b:

5.1% Length of bar = Cha\Snge in spending from \S2014 Height of bar = 201\S5 R&D spending spen\bing by health\fare \fompanies rose 6.0 per\fent ( see Exhibit D). The health\fare se\ftor is \flosing in on the number one position; if the \furrent tren\b \fontinues, the in\bustr y will be the largest R&D spen\ber by 2019. But the biggest movers among in\bustries have been software an\b Internet \fompanies. The in\bustr y in\frease\b R&D spen\bing by 27.4 per\fent between 2014 an\b 2015.

Software an\b Internet also ha\b the largest average grow th of any in\bustr y over the last 10 years — 13.2 per\fent — an\b passe\b in\bustrials in 2015 to be\fome the four th-largest in\bustr y in terms of R&D spen\bing.

This rank \fhange happene\b \bespite the fa\ft that in\bustrials \fompanies poste\b the se\fon\b-largest year- over-year in\frease, at 8.9 per\fent, an\b the thir\b-highest 10-year aver- age in\frease, at 6.3 per\fent. From a regional perspe\ftive, \fompanies hea\bquar tere\b in Nor th Ameri\fa, Europe, an\b Japan \fontin- ue\b to \bominate the Global Innova- tion 1000. But their share of R&D spen\bing has fallen from 96 per\fent in 2005 to 86 per\fent in 2015. Nor th Ameri\fan \fompanies’ share e\bge\b \bown from 42 per\fent to 40 per\fent; European \fompanies’ share was at; an\b Japanese \fompanies lost the most, falling from 24 per\fent to 16 per\fent of the total. During the last \be\fa\be, innovators hea\bquar tere\b in other regions, notably in China an\b the “rest of worl\b” \fategor y (whi\fh in- \flu\bes \fountries su\fh as Brazil, In\bia, an\b Israel), in\frease\b their share of the Global Innovation 1000 spen\bing substantially — from 3 per\fent in 2005 to 14 per\fent in 2015.

(\fontinued on next pa\be) 6 feature innovation 6 strategy+business issue 81 (\fontinued from previous pa\be) Companies hea\bquar tere\b in these \fountries now represent 227 of the Global Innovation 1000, \fompare\b with 64 \fompanies 10 years ago. Companies base\b in China, in par ti\fular, in\frease\b their spen\bing by 31.6 per\fent in 2015 ( see Exhibit E ). An\b over the last \be\fa\be, Chinese \fompanies in\frease\b their R&D spen\bing by more than 3,000 per\fent. Moreover, as we’ve note\b, measuring innovation spen\bing by where \fompanies are hea\bquar tere\b as oppose\b to where the innovation work is a\ftually \bone signi \fantly un\berstates the major shift of innovation a\ftivity to Asia. wide. “One of the lessons learned over the years is that innovation does not have borders,” observes Philippe Keryer, chief innovation and strategy of cer at France- based telecom equipment giant Alcatel-Lucent, which specializes in IP networking, ultra-broadband access, and cloud technology. “And we need to be careful, be - cause the next generation of disruptive technology will not necessarily come from the same place as the last one.” The R&\f Boom in Asi\&a The most dramatic change in global ows of innovation spending has been Asia’s rise as the number one loca - tion for corporate R&D. In 2015, Asia accounted for 35 percent of the global total for the 207 largest spenders, surpassing both North America (33 percent) and Eu - rope (28 percent). This is the total of “in-region” R&D spending, including both spending by local companies and R&D spending imported from other regions. In 2007, Europe was the leader, followed closely by North America. In 2007, the majority of R&D spending in Asia, North America, and Europe all came from domestic rms (in each region). In 2015, Asia became the only one of the three to see the balance shift. Fifty-two percent of its R&D spending was imported — done by rms headquartered outside the re - gion. Such innovation activity in China and India has been central to Asia’s rise. Between 2007 and 2015, R&D spending in China increased by 120 percent, to $55 billion, making it the second-larg - est location for corporate R&D, passing Japan and Germany ($50 billion and $32 billion, respective - ly). Although the U.S. retains its top position with $145 billion, its lead is narrowing: In 2007, R&D in China was 23 percent of the U.S. total. In 2015, it amounted to 38 percent of the U.S. total. China’s imports of R&D from multinationals headquar - tered in other countries were $44 billion in 2015 — 81 percent of the $55 billion in-country total ( see Exhibit 2 ). That’s up from $25 billion in 2007, when virtual - ly all R&D in China was import - ed, because only one Chinese company was included in our sample of top innovators that year. By 2015, 11 more Chinese companies had joined the sample. Together these 12 companies spent $10 billion domestically. The U.S. led in exports of R&D to China in 2015, account - ing for 39 percent of in ow, followed by Japan (20 per - cent) and Germany (10 percent). Our survey respondents cited proximity to a high- growth market as the top reason for moving R&D to China (71 percent), followed by proximity to key manu- facturing sites (59 percent), proximity to key suppliers (54 percent), and lower development costs (53 percent).

“We have to acknowledge that China is the workbench of the world,” says Siegfried Russwurm, chief technology of cer and member of the managing board at the global industrial and technology company Siemens, headquar - tered in Germany. “We made a conscious decision that we need to be close to this promising market with our product de nition, product design, and engineering.” Russwurm notes that typical Western-designed high-end products often don’t resonate in China. “Our colleagues in China have open access to all the technol - ogy that Siemens owns, and [they] design products with distinct functionality as needed for their markets — at a fabulous cost position, using Chinese suppliers, and (\fontinued from pa\be 3) Exhibit E: Change in R&D Spending by Region\2, 2\f14–1\b Companies headquartered in China again showed the strongest percentage increase in spending. Europe 4.0% North America 7.\f% Rest o\b World 9.5% China3\f.6% Japan –6.3% Source: Bloomberg data, Capital IQ data, Strategy& analysis WEIGHTED AVERAGE: 5.1% feature innovation 7 8 1000 perfectly tted to China’s needs.” Russwurm says that innovation from Siemens’s Chinese R&D facilities has enabled the company to offer some of these products, such as simpler computerized machine controllers, in Western markets, capturing new market segments at lower price points than many customers would have ex- pected from the company.

Chinese rms are now also exporting R&D spend- ing. Although China’s total R&D exports in 2015 were a modest $2.0 billion, some leading Chinese companies have become global brands — and are setting up global R&D operations. Consumer electronics and home ap- pliance company Haier, for example, established an R&D center in Japan after its acquisition of Sanyo’s ap- pliance business from Panasonic in 2011. It has since opened R&D hubs in Germany and the U.S., as its business has grown in Europe and North America. In 2012, Haier acquired New Zealand–based ap- pliance manufacturer Fisher-Paykel, including its prod- uct development center for kitchen appliances. Work- ing with Haier’s main innovation center at the rm’s Qingdao headquarters, says Wang Ye, vice president of Haier Appliance Industry Group and general manager of Haier Global R&D, each global R&D center func- tions as “a platform to exchange resources and to con- nect with global channels — including more than 200 universities, 100 technolog y incubators, and thousands of tech companies, and, of course, local governments.

All these resources continue to offer ideas and solutions for our end customers.” One example that Wang cites:

Haier’s Qingdao innovation headquarters collaborated with the New Zealand center to combine technologies in electric motors and drum washing machines. The re- sulting product — the Intelius line of premium washing machines — has become a sales leader in New Zealand and commands 30 percent of China’s market for pre- mium washing machines.

The rise of India as an R&D force has also been impressive. Total corporate R&D conducted in India increased 115 percent between 2007 and 2015, to $28 billion. The growth was powered by R&D spending from other countries, which grew 116 percent. India, Japan U.S.

2007 2015 Exhibit 2: China Attracts Innovation Spending R&D \fpending in \bhina by companie\f h\Deadquartered in other countrie\f nearly doub led from 2007 to 2015, led by the United State\f. $18.2 $7.6 $4.9 $1.8 $2.9 $2.2 $3.8 $1.1 $0.4 $9.2 $2.5 $4.6 $3.1 $3.8 $1.8 $0.9 Germany Switzerland Other Europe France South Korea Re\ft of World TOTAL: $24.7 billion TOTAL: $44.2 billion North America Europe A\fia Other \bhina’\f Imported R&D US$ Billion\f Note: Total\f may not equal \fum\D\f due to rounding.

Source: Bloomberg data, \bapi\Dtal IQ data, Strateg\Dy& analy\fi\f Between \f007 and \f01\b, corporate R&D spending in China increased by 1\f0 percent, to $\b\b billion, passing spending in Japan and Germany. feature innovation 8 strategy+business issue 81 A pple an\b Google still rule as the worl\b’s most innovative \fompanies, a\f\for\bing to our 2015 Global Innovation 1000 sur vey ( see Exhibit F ). This one–two showing has been \fonsistent sin\fe we began asking par ti\fipants to i\bentif y the top innovators six years ago. Apple \fon- tinues to set new pro\bu\ftion re\for\bs for iPhones an\b \fomputers, an\b burst into an entirely new market with the \bebut of the Apple Wat\fh. Meanwhile, Google’s para\bigm-\fhanging self- \briving \far proje\ft \fontinues to gen- erate buzz, as \bo its experiments with solar-powere\b \brones for provi\bing Internet ser vi\fes in remote areas. In August 2015, the \fompany intro\bu\fe\b its Alphabet hol\bing \fompany stru\f- ture to better fa\filitate fo\fus an\b in- novation a\fross its growing por tfolio. Tesla Motors, whi\fh rst joine\b the most innovative list in 2013 in ninth position an\b move\b up to number ve last year, jumpe\b to thir\b pla\fe in 2015 — just above Samsung, whi\fh hel\b its pla\fe at number four.

Tesla intro\bu\fe\b a “lu\bi\frous mo\be” option for its Mo\bel S roa\bster this year, enabling it to a\f\felerate from zero to 60 miles per hour in 2.8 se\f- on\bs, an\b announ\fe\b that its planne\b US$4 billion-plus batter y “Giga- fa\ftor y” will be pro\bu\fing more auto power pa\fks by 2020 than the total worl\b pro\bu\ftion in 2013. Amazon, rst vote\b onto the most innovative list in 2012, pla\fe\b fth in 2015. The sixth spot again went to 3M, whi\fh has been in the top 10 in ea\fh of the last six years — proving that innovation exe\futives aren’t im- presse\b only by shiny \bigital \bevi\fes, futuristi\f \fars, an\b online \bominan\fe.

Next were perennial top 10 mem- bers GE, Mi\frosoft, an\b IBM. Toyota rejoine\b the list, in 10th pla\fe, after \bropping off in 2013 an\b 2014. This is the rst year that two auto \fompanies were vote\b most innovative. For the sixth year running, no pharma\feuti- \fal \fompany ma\be the top 10, even though the in\bustr y \fontinues to be well represente\b in the Global Innovation 1000. As in all previous years, the 10 most innovative \fompanies outper- forme\b the 10 biggest R&D spen\bers on revenue grow th, EBITDA as a per- \fentage of revenue, an\b market-\fap grow th (after normalizing for in\bustr y variations) ( see Exhibit G ).

Although mu\fh remains the same when it \fomes to the most innovative list, \fhange may be on the horizon. Apple’s margin of vi\ftor y narrowe\b in 2015. As high a propor- tion as 80 per\fent of respon\bents name\b Apple number one in past years, but only 62 per\fent \bi\b so this year — opening the \boor for new \fompanies to move into top positions, or to enter the fray. 1 2 5 4 3 6 7 8 9 11 Source: Bloomberg data, Capital IQ data, Strategy& 2015 survey data and analysis Company 18 6 273 2 7 80 36 4 26 8 Apple Google Tesla Motors Samsung Amazon 3M GE Microsoft IBM Toyota 3.3% 14.9% 14.5% 7.2% 10.4% 5.6% 2.9% 13.1% 5.9% 3.7% Companies in RED have been among the 10 Most Innovative every year since 2010.

$6.0 $9.8 $0.5 $14.1 $9.3 $1.8 $4.2 $11.4 $5.4 $9.2 2015 US$ Bil. R&D Spending 1000 Rank % of Revenue 2015 2014 RANK 1 2 3 4 5 6 7 8 9 10 Exhibit F: The 10 Most Innovative Companies Tesla, which first appeared on this list in 2013 at number nine, now ranks third. Toyota is back for the first time since 2012.

50 Exhibit G: Top 10 Inn ovators vs. Top 10 R&D Spende rs On an indexed basis, the top innovators led on all three financial metrics for the sixth straight year.

Sou rce: Bloomberg data, Capital IQ data, Strategy& 2015 survey data and analysis NORMALIZED PERFORMANCEOF INDUSTRY PEERS 65 63 EBITDA as % of Revenue5-yr. Avg. 53 46 Market CapGrowth5-yr. CAGR RevenueGrowth5-yr. CAGR 55 SPENDERS 63 INNOVATORS HIGHESTPOSSIBLESCORE: 100 LOWESTPOSSIBLESCORE: 0 The 10 Most Innovative Companies feature innovation 9 10 not surprisingly, is the largest global destination for software R&D. Multinationals that have moved R&D to India cite a variety of reasons for the move, and cost is often not the most important. “Our tech center in In- dia gives us an around-the-clock capability to accelerate development work due to the time difference with the U.S.,” says Denise Ramos, chief executive of cer of ITT Corporation, a U.S.-based manufacturer of specialty components for the aerospace, transportation, energy, and industrial markets. “The highest priority was ac- cess to technical talent that was in close proximity to regional customers. The fact that some of the labor is lower-cost was nice to have, but not a primary driver.” India moved from seventh to fth among all countries in terms of total in-country R&D in 2015, surpassing the U.K. and France. Elsewhere in Asia, South Korea’s in-country R&D grew 98 percent between 2007 and 2015, moving it into eighth place, ahead of Israel, Italy, and Canada. Japan fell from second to third place, despite a 24 percent growth in in-country R&D between 2007 and 2015.

Japan decreased the amount of R&D exported to the U.S., moving it largely to “nearshore,” low-cost China.

Japan’s imports of R&D rose 74 percent, mainly as a result of imports from South Korea and Europe.

The U.S.: Leading,\& but Losing Ground The U.S. held its position as the number one location for innovation, with total in-country R&D spending of $145 billion in 2015, despite the fact that U.S.-head- quartered companies exported $121 billion in R&D in the same year. Much of this exported R&D went to lower-cost countries, particularly in Asia. India and China led as destinations for U.S. exports, each with 15 percent of the total. This represents a signi cant change since 2007, when the U.K. was the top destination for U.S. R&D exports. France was also among the top 10 destinations for U.S. exports in 2007, but has since been surpassed by South Korea. A helpful way to visualize how relative advantage has changed between countries from 2007 to 2015 is to look at the change in each coun- try’s total in-country R&D spending compared with that of the United States, which remains the largest lo- cation for R&D ( see Exhibit 3). The in-country R&D total in the U.S. was sup- ported by a 41 percent increase in R&D spending by U.S. companies from 2007 to 2015 (to $93 billion) — and by a 23 percent rise in R&D imported from other countries, to $53 billion. Over the past decade, some policymakers, analysts, and business leaders have voiced concerns about a “hollowing out” of U.S. industry, fear- ing that R&D would be exported to low-cost countries in the same way that much of the U.S. manufacturing industry was offshored in the 2000s. And although the United States has seen increased R&D exports, the ef- fect was muted by the rise in imports. The biggest gains came from imports from European companies, which have invested heavily in the U.S. and provided 63 per- cent of the U.S. total in 2015. R&D imports from 1 000 China 64% 61% India 48% South Kor\fa 26% Isra\fl \b% Italy –41% Franc\f Japan –7% G\frmany –14% U.K. –29% Canada –16% 1\b% Exhibit 3: Relative Spending Index: Gains and L\fsses, 200\b–15 In a comparison of \rth\f R&D sp\fnding in \roth\fr countri\fs to th\r\f sp\fnding in th\f top d\fstinati\ron — th\f U.S. — th\f\r p\frc\fntag\f chang\f b\f\rtw\f\fn 2007 and 201\b r\fv\fals\r wh\fr\f advantag\f has \rb\f\fn gain\fd (Asia) a\rnd lost (Europ\f).

* East\frn Europ\f sp\fnd\ring is bas\fd on data\r from Poland, Slovak\ria, Cz\fch R\fpublic, \r Croatia, Romania\r, Lithuania, Hunga\rry, Turk\fy, Bulgaria,\r Estonia, Slov\fnia, \rS\frbia, Latvia, and Russ\ria.

S\furce: Bloomb\frg data, Cap\rital IQ data, Strat\r\fgy& analysis EASTERN EUROPE* North Am\frica W\fst\frn Europ\f Asia Oth\fr In-Country R&D Sp\fn\rding R\flativ\f to th\f\r U.S.

P\frc\fntag\f Chang\f, 20\r07–1\b $\b\b billion in 201\b R&D sp\fnding ADVANTAGE GAINED ADVANTAGE LOST U.S. = 0 feature innovation 10 strategy+business issue 81 11 Germany, for example, rose 121 percent between 2007 and 2015. Germany is now the leading source of U.S.

imported R&D, surpassing Japan, which led by a wide margin in 2007.

The surge of U.S. R&D imports from Europe un - derscores the fact that cost is typically not the main driver in R&D location decisions. After all, the U.S. is a high-cost country for R&D — in many cases it car - ries higher costs than European countries. (Nor were companies headquartered in other countries coming to the United States for tax bene ts; see “Tax Policy:

Where the U.S. Is Not Number One.”) European com - panies instead came to the U.S. for proximity to their markets and operations, for access to talent and tech - nology, and to take advantage of the United States’ cul - ture of innovation — in particular in Silicon Valley. For pharmaceutical companies, for example, one of the attractions of the United States is its extensive and coherent innovation ecosystem, says Mikael Dolsten, president of worldwide research and development at U.S.-based pharma manufacturer P zer. “The Nation - al Institutes of Health is the largest biomedical institute in the world, and has traditionally provided signi cant funding,” says Dolsten. “Although that funding has eroded somewhat in recent years, it remains a corner - stone for academic research, and has set a strategic di - rection for the U.S. There are strong academic labora - tories, a vibrant biotech industry, global pharmaceutical companies, and strong engagement from philanthropic organizations and patient foundations.” Adds Russwurm of Siemens: “The U.S. is attrac - tive for global R&D for several reasons other than the proximity to its large and growing market. One is that digital skills are becoming more and more important.

You get good results with people who are true digital natives, and there are more of them in the U.S. than any where else. Another is the openness of U.S. society toward innovation. If you look at the car industry, for example, autonomous driving is a major area of inter - est for innovation. The regulatory circumstances and approach to innovation are more favorable in the U.S.

than in Europe, and that is a force driving more innova - tion activity in the United States.” Europe Slipping The hollowing out of innovation capabilities is happen - ing more noticeably in Western Europe, which has seen the steepest fall in R&D activity. Between 2007 and the Reagan a\bministration, the U.S.

be\fame the rst \fountr y to offer a tax \fre\bit for R&D spen\bing. But other nations were qui\fk to \fopy the i\bea, an\b many went on to offer far more attra\ftive an\b extensive tax bene ts.

A 2013 stu\by by the Organisation for E\fonomi\f Co-operation an\b Develop - ment (OECD) measure\b the generosity of R&D tax in\fentives for 31 \fountries, an\b foun\b that the U.S. ranke\b 22n\b. Moreover, the U.S. government has often kept \forporate Ameri\fa guessing, authorizing the R&D tax \fre\bit for only a year or two at a time.

The U.S. Congress has even let the \fre\bit lapse several times, usually resurre\fting it later an\b making the bene t retroa\ftive. The Sili\fon Valley Tax Dire\ftors Group — a tra\be asso\fiation of 79 innovation lea\bers, most of them U.S. W h en innovation lea\bers \fonsi\ber where in the worl\b to lo\fate an R&D fa\fility, tax in\fen - tives are typi\fally less impor tant than seven other attributes, su\fh as a\f\fess to talent, proximity to \fustom - ers, market insight, an\b operating \fosts, a\f\for\bing to the 2015 Global Innovation 1000 sur vey respon\bents.

At the same time, however, tax \beals \fan have a positive effe\ft at the mar - gin. “It’s i\fing on the \fake, but not the primar y \briver,” says Denise Ramos, CEO of IT T Corporation. Ba\fk in 1981, in the early \bays of \fompanies — has been pushing for an overhaul of the U.S. \forporate tax \fo\be in general an\b for a permanent an\b enhan\fe\b R&D tax \fre\bit in par - ti\fular. Current U.S. poli\fies, a\f\for\b - ing to the group’s position statement, en\fourage “the migration of resear\fh an\b \bevelopment a\ftivities to other \fountries with more pre\bi\ftable, more favorable tax treatment.” It is impossible to know how mu\fh of U.S. \fompanies’ R&D ex - por ts might have been avoi\be\b if tax in\fentives ha\b been more generous an\b \fer tain. But as the globalization of R&D \fontinues, an\b as more \foun - tries \fompete for innovation lea\ber - ship, it’s a topi\f well wor th revisiting by U.S. poli\fymakers. Jeffery Jones is the U.S. R&D tax ser vi\fes pra\fti\fe leader at P wC US. Ta x Po l i c y : Where the U.S. Is Not Number One by Barry Jaruzelski and Jeffery Jones feature innovation 11 1000 2015, net European exports of R&D to other regions — exports minus imports — grew by 352 percent. At the country level, Germany was Western Europe’s big - gest net exporter, followed by Switzerland. France and Sweden, both net R&D importers in 2007, were net exporters in 2015. As a result, Europe’s total in-region R&D spending fell from 35 percent of the world total in 2007 to 28 percent in 2015. Overall, companies in Eu - rope conducted 57 percent of their R&D inside Europe in 2007, but only 48 percent in 2015. The U.S. was the largest export destination, despite having higher engi - neering direct labor costs than most European countries. Germany — Europe’s biggest economy — is a case in point: In-country R&D spending rose a modest 15 percent between 2007 and 2015. German companies’ R&D exports totaled $35 billion in 2015, which more than doubled their domestic spending. Meanwhile, Ger - many’s overall R&D imports fell. France’s R&D perfor - mance was similar, but even weaker. Total in-country R&D spending in France fell by 21 percent between 2007 and 2015, as French companies’ exports of R&D rose 46 percent and total French imports fell by 21 per - cent ( see Exhibit 4 ). The largest destinations for French R&D exports were the U.S. (28 percent), China (13 per - cent), Germany (8 percent), and India (7 percent). The R&D portfolio of Western European coun - tries has shifted signi cantly as a result of these changes.

Spending in home countries declined from 32 percent of all European R&D to 29 percent. Western European companies’ spending in nearshore, high-cost European countries fell from 23 percent to 16 percent, while their spending in offshore, high-cost countries, such as the U.S. and Japan, rose 46 percent. Part of the rise in exports of R&D from Europe is due to the M&A activities of European multinationals.

When a multinational merges with or acquires another company, it also acquires the company’s R&D person - nel and facilities — typically continuing those opera - tions and integrating them into its overall innovation program. After a major acquisition of a U.S. rm, the acquired U.S. R&D activities are counted as exports in our study even though the location of the work has not changed. Thus the R&D assets included in Fiat’s $4.3 billion acquisition of Chrysler, completed in 2014, or those in Siemens’s recent $7.6 billion purchase of the U.S. oil eld equipment maker Dresser-Rand Group add to the “export” totals. What’s more worrisome for Europe’s overall position in R&D is the decline of in- region R&D spending.

Meanwhile, low-cost Eastern European countries increased their imports of R&D by 53 percent between 2007 and 2015 (compared with 15 percent growth for Western European countries), to $14 billion; these countries were led by Russia, Poland, and Romania.

Imports from the U.S. made up half the total, and im - ports from Western Europe made up another 29 per - cent. If Eastern Europe were ranked as a single country, 46% 76% 2007 2015 European R&D Expor\dted to \figh\bCost Countries Change in R&D Flows\d for France and Germany, 2007–15 Germany Imports Exports France –21% –7% Exhibit 4: European C ompanies Spend Less at Home Com panies in Western Europe increased their R&D exp orts to high\bcost cou ntries eve rywhere — except in Wester\dn Eu rope. This increase\d in exp orts outside the re gion, coupled with a decline in R&D i\dmports (as evidenced by France and Germany, \dat right), contribu ted to Europe's loss of R&D investmen t.

Source: Bloomberg data, Ca\dpital IQ data, Stra\dtegy& analysis US$ Billions Western EuropeNorth America Asia Rest of World $0 $10 $20 $30 12 feature innovation 12 strategy+business issue 81 13 it would be the eighth-largest spender on R&D, roughly equivalent to South Korea.

High-cost European countries nevertheless remain a major force in global innovation, with advantages that include proximity to their large market of wealthy consumers, highly talented and skilled workers, and, in many industries, signi cant public-sector support for R&D — all of which make it appealing to do innova - tion work in the region. “We’ve seen increasing investment in pharmaceu - tical R&D in Europe as a result of European Union funding through the Innovative Medicines Initiative,” says Dolsten of P zer. “It has fostered industry and aca - demic partnerships, and provided E.U. funding, which the industry has matched. Another attraction is that Eu - rope has a more integrated healthcare system, so there are large clinical databases that help us understand the impact of disease on populations. Some European coun - tries have very sophisticated electronic medical records systems, which enable us to use big data effectively.” Other innovation leaders also cite the availability of sophisticated and deep talent pools in Europe, as well as proximity to its large and wealthy market. Some, however, point to Europe’s relatively restrictive labor laws and trade unions as a disadvantage for conducting R&D, compared with other regions.

The Global Footprint Premium Regional shifts aside, one truth remains constant across all geographies and industries: Companies that overweight their R&D spending outside their headquarters country continue to outperform their less globalized competitors.

Companies that deployed 60 percent or more of R&D spending abroad in 2015 earned a premium of 30 percent on operating margin and return on assets, and 20 percent on growth in operating income, over their more domesti - cally focused competitors. This nding was similar to the results of our 2008 study, suggesting that there continues to be a payoff from the deployment of capabilities and capacity on a global scale, and greater success in under - standing and meeting local market needs. In both this year’s study and our 2008 analysis, companies whose share of R&D assets invested over - seas was greater than their share of overseas sales out - performed companies whose corresponding share was lesser in return on assets, operating margin, and total shareholder returns. We also found that companies that allocate a greater share of their R&D spending to lower- cost countries outperformed their competitors by 20 percent on gross pro t and 10 percent on sales growth. Moreover, companies have become more pro cient at managing global innovation networks. In our 2008 study, for example, we found that companies with high - ly focused footprints (those with the smallest number of global R&D sites, relative to sales) tended to outper - form companies with more fragmented global R&D op - erations consisting of numerous smaller sites. Evidently they found it easier to manage teams in person than via conference or video calls and collaboration tools. In this year’s study, companies with dispersed global R&D op - erations are performing as well as or better than compa - nies with focused footprints. This suggests that multina - tionals have become more experienced at coordinating projects across global sites, and that the digital col - laboration tools available have improved markedly and companies have become more adept at employing them.

These changes afford multinationals the best of both worlds: the ability to locate their R&D facilities close to Companies that overweight their R&D spending outside their headquarters country continue to outperform their less globalized competitors.

1 000 feature innovation 13 14 their markets and the ability to access the best talent at optimal cost levels, all without compromising ef ciency.On average, the 207 companies in our global foot - print sample export R&D to about six countries, and the gure hasn’t changed much since 2007. When we ranked companies in quartiles based on their degree of R&D globalization, companies in the top quartile in - creased the number of countries to which they export R&D by just 7 percent, from an average of 13.5 in 2007 to an average of 14.5 in 2015. The companies in the bot - tom quartile increased this number by 67 percent, from 1.0 countries on average to 1.7. When we looked by re - gion, U.S. companies reduced the number of countries to which they export R&D modestly, while the average number for European companies increased moderately.

Among industries, the average number of countries to which companies export R&D increased the most in the auto sector. Both models of globalized innovation — a limit - ed number of more concentrated R&D facilities, and widely dispersed operations — can be effective. And different companies have different preferences. Alcatel- Lucent, for example, nds that a smaller number of R&D sites is more ef cient for development activities.

“In development, there is always a trade-off between lo - calization and complexity,” says Keryer, the company’s chief innovation and strategy of cer. “As part of our current corporate strategy, we are deemphasizing sub - scale development sites to create more ef ciency, and are concentrating on a set of anchor points — big and diverse development centers.” For research and innova - tion, on the other hand, Keryer states that talent pools are the more important consideration. “Smaller and more dispersed teams can be effective,” he says, “wheth - er it is California for Internet protocol, Israel for cloud, the East Coast of the U.S. or Europe for optics, France for mathematics — or China, which is becoming an important place for innovation, in particular in wireless and optics.” Managing a \fispersed \betwork Establishing a global R&D model has become a stan - dard requirement for large corporations that want to be competitive in today’s marketplace. But it comes with a unique set of complexities. Our survey respondents cited a variety of challenges in conducting R&D out - side their home countries, with “ nding and retaining top talent” and “protecting intellectual property” most often named (and most particularly in China). Other challenges included quality and customer focus, risk and project management, and cultural differences. The good news is that leading innovators are nd - ing ways to manage these and other complexities. To ensure the long-term success of a globally dispersed R&D footprint, company leaders should focus on the following imperatives: • Company le aders mu st cl early ar ticulate, as pa rt of the overall business strateg y, the role that innovation plays in the company’s mission. How central is innova - tion to the company’s competitive advantage? • The ce ntralit y of in novation in th e co m p a ny ’s co mpetitive advantage should inform the organiza - tion’s global footprint. In the absence of a holistic view, R&D sites can proliferate as a result of one-off decisions strive to be the rst to market with breakthrough pro\bu\fts an\b ser vi\fes. Market Readers , who ten\b to wat\fh their \fustomers an\b \fom - petitors \flosely, \freate value by in - \fremental \fhange an\b \fapitalizing on market tren\bs, using a se\fon\b-mover strategy to keep risks low. Technology Drivers , who leverage their R&D to propel both breakthrough innovation an\b in\fremental \fhange, \bevelop original pro\bu\fts an\b ser vi\fes via new te\fhnology. I n 2007, the Global Innovation 1000 stu\by i\benti e\b three fun\bamen - tal kin\bs of \fompanies, ea\fh with its own \bistin\ft way of managing the R&D pro\fess an\b its relationship to \fustomers an\b markets. Need Seekers, whose strategy is to as\fer - tain the nee\bs an\b \besires of \fon - sumers by engaging them \bire\ftly, As par t of our 2015 sur vey, we aske\b respon\bents from all three types of \fompanies about the \fhallenges they fa\fe in implement - ing global innovation mo\bels. Most repor te\b similar \fon\ferns, with a few key \bifferen\fes: Intelle\ftual proper ty prote\ftion an\b quality \fon - trol were paramount for Nee\b Seek - ers, whereas n\bing an\b retaining top talent was of greatest \fon\fern for Market Rea\bers an\b Te\fhnology Drivers. The Three Innovation Models 14 feature innovation 14 strategy+business issue 81 A s it has in ea\fh of the past 10 e\bitions of the Global In - novation 1000, this year Strategy&, P wC’s strategy \fonsulting business, i\benti e\b the 1,000 publi\f \fompanies aroun\b the worl\b that spent the most on R&D \buring the last s\fal year, as of June 30, 2015. To be in\flu\be\b, \fompanies ha\b to make their R&D spen\bing numbers publi\f. Subsi\biar - ies that were more than 50 per\fent owne\b by a single \forporate parent \buring the perio\b were ex\flu\be\b if their nan\fial results were in\flu\be\b in the parent \fompany’s nan\fials.

The Global Innovation 1000 \fom - panies \folle\ftively a\f\fount for 40 per\fent of the worl\b’s R&D spen\bing, from all sour\fes, in\flu\bing \forporate an\b government sour\fes. In 2013, Strategy& ma\be some a\bjustments to the \bata \folle\ftion pro\fess in or\ber to gain a more a\f\furate an\b \fomplete pi\fture of innovation spen\bing. In prior years, both \fapitalize\b an\b amor tize\b R&D expen\bitures were ex\flu\be\b. Star ting in 2013, we in\flu\be\b the most re\fent s\fal year’s amor tization of \fapital - ize\b R&D expen\bitures for relevant \fompanies in \fal\fulating the total R&D investment, while \fontinuing to ex\flu\be any non-amor tize\b \fapital - ize\b \fosts. We have now applie\b this metho\bology to all previous years’ \bata; as a result, histori\fal \bata referen\fe\b in the stu\bies from 2014 onwar\b will not always align with previously publishe\b gures for the 2005 through 2012 stu\bies.

For ea\fh of the top 1,000 \fom - panies, we obtaine\b from Bloomberg an\b Capital IQ the key nan\fial met - ri\fs for 2010 through 2015, in\flu\bing sales, gross pro t, operating pro t, net pro t, histori\fal R&D expen\bi - tures, an\b market \fapitalization. All sales an\b R&D expen\biture gures in foreign \furren\fies were \fonver te\b into U.S. \bollars a\f\for\bing to an average of the ex\fhange rate over the relevant perio\b; for \bata on share pri\fes, we use\b the ex\fhange rate on the last \bay of the perio\b. All \fompanies were \fo\be\b into one of nine in\bustr y se\ftors (or “other”) a\f\for\bing to Bloomberg’s in\bustr y \besignations, an\b into one of ve regional \besignations, as \beter - mine\b by their repor te\b hea\bquar ters lo\fations. To enable meaningful \fom - parisons a\fross in\bustries, the R&D spen\bing levels an\b nan\fial per for - man\fe metri\fs of ea\fh \fompany were in\bexe\b against the average values in its own in\bustr y. To un\berstan\b the global \bistri - bution of R&D spen\bing, the \brivers of that \bistribution, an\b how the \bis - tribution affe\fts the per forman\fe of in\bivi\bual \fompanies, we resear\fhe\b the global R&D footprint of the top 100 \fompanies in terms of their 2015 R&D spen\bing, plus the top 50 \fom - panies in the largest three in\bustries (auto, health\fare, an\b \fomputing an\b ele\ftroni\fs) an\b the top 20 \fompanies in the in\bustrials an\b software an\b Internet se\ftors. The total number of \fompanies for whi\fh we assesse\b the \bistribution of R&D spen\bing a\fross \fountries was 207, re e\fting overlap in the top 100 an\b the ve sele\fte\b in\bustries. These 207 \fompanies are hea\bquar tere\b in 23 \fountries an\b \fon\bu\ft R&D a\ftivities at 2,041 R&D sites in more than 60 \fountries.

When geographi\f break\bowns were not publi\fly available, we \folle\fte\b \bata on the lo\fation of R&D fa\filities, the pro\bu\ft segments ea\fh fa\fility suppor ts, the year ea\fh fa\fility was establishe\b, the number of people ea\fh fa\fility employs, sales by pro\bu\ft segment, an\b global \bistribution of sales. This \bata was use\b to allo\fate total R&D \bollars to the \fountries where fa\filities were lo\fate\b. Finally, to un\berstan\b the ways in whi\fh global R&D is an\b will be \fon\bu\fte\b at \fompanies a\fross mul - tiple in\bustries, Strategy& \fon\bu\fte\b an online sur vey of 369 innova - tion lea\bers aroun\b the worl\b. The \fompanies par ti\fipating represente\b more than US$106 billion in R&D spen\bing, or 16 per\fent of this year’s total Global Innovation 1000 R&D spen\bing, all nine of the in\bustr y se\f - tors, an\b all ve geographi\f regions. Methodolog y feature innovation 15 16 1000 and acquisitions and lead to a loss of focus. Companies should also consider the speci c needs of each phase of the innovation life cycle. For example, in the idea-gen - eration phase, companies may bene t from setting up smaller, more agile teams where the top talent is located.

For product development, larger centers can take advan - tage of scale and lean principles. • Companies ne ed to de fine th e ge ographic ma r- kets and the customers within those markets that are central to the company’s growth strategy, and then determine where R&D resources need to reside so the company can best understand and serve those markets.

Different types of companies may have different ap - proaches (see “The Three Innovation Models,” page 14). For Need Seekers, for example, the key consider - ation may be locating R&D facilities as close to cus - tomers as possible, whereas Market Readers, as second movers, may have more exibility to base location deci - sions on cost. Technology Drivers may need to keep R&D more centralized to maintain their focus on technological breakthroughs. • To en sure op erational ex cellence, le aders mu st cr eate clear missions, roles, and lines of authority to align the dispersed R&D sites with the company’s in - novation strategy. Here, leadership needs to invest in the digital tools and related processes that have enabled the best companies to manage such areas as resource de - ployment, project collaboration, project green-lighting, portfolio ownership, strategic and operating metrics, and transparency mechanisms across a global network. • Companies ha ve to cr eate a global ta lent ma nage- ment strategy. Increasingly, the people with the skills that companies need are going to be found outside the Western countries where management may have looked most frequently in the past. Companies need common standards for talent development and retention that can be applied at each of their global centers. They should also rotate their top engineering talent, to give future R&D leaders a more global perspective and understand - ing of the company’s innovation capabilities. • Company le aders mu st fos ter a corporate cu lture th at supports the company’s innovation strategy and encourages collaboration among centers worldwide.

Speci cally, aligning the intangibles of culture — such as risk, creativity, and openness — is critical to success when R&D activities are dispersed globally.

As companies further develop and optimize their global innovation networks, they will continue to tap into more diverse global talent pools, a wider knowledge base, and deeper insights into growing markets. With the right implementation, the globalization of R&D will bene t the search for breakthrough innovations, and enable companies to make bigger-bet portfolio choices than they have in the past. + Reprint No. 00\f70 Resources Bill Fischer, Umberto Lago, and Fang Liu, “The Haier Road to Growth,” s+b , Apr. 27, 2015: Chinese appliance maker Haier has built the capabilities to rapidly innovate new products to meet consumer needs both at home and abroad.

Barry Jaruzelski, “Why Silicon Valley’s Success Is So Hard to Replicate,” Scienti c American , Mar. 14, 2014: Further analysis of the themes reported in the 2012 Strateg y& white paper “The Culture of Innovation:

W hat Makes San Francisco Bay Area Companies Different?” Dominique Jolly, Bruce McKern, and George Yip, “The Next Innovation Opportunity in China,” s+b , Autumn 2015: Multinationals have shifted their R&D focus in China from cost savings to market proximity — and, increasingly, to knowledge-based research.

For links to all previous Global Innovation 1000 studies from 2005 to 2014 (including our 2008 analysis of global R&D ows, “Beyond Borders”), as well as videos, infographics, and other articles, see strategyand.pwc.com/innovation1000.

Strategy&’s online Innovation Strategy Pro ler, strategyand.pwc.com/ innovation-pro ler: Evaluate your company’s R&D strateg y and the capabilities it requires.

More thought leadership on this topic: strateg y-business.com/innovation 16 feature innovation 16 strategy+business magazine is published by cer tain member \frms of the P \bC net\bork.

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