From Over 34% in 2021 to Under 13% Now: Proposing Enhanced R&D Productivity Amidst Software Market Slowdown [A.T. Kearney]

A.T. Kearney Co., Ltd. (Minato-ku, Tokyo, Representative for Japan: Takefumi Harigaya) has released a white paper titled "The Urgent Need for R&D Productivity Enhancement in Software Companies."

This paper highlights that while the software market's growth rate has declined from over 34% in 2021 to less than 13% currently, R&D growth rates for both SaaS and traditional software companies are outpacing revenue growth, thereby pressuring EBITDA margins. The increasing involvement of CFOs in SaaS procurement, leading to directives for approximately 30% budget reductions in software spending, is also pointed out as a move towards stronger buyer discipline.

Moving forward, software companies will need to evaluate R&D investments not solely based on developer-centric productivity metrics, but also from the perspectives of efficiency and effectiveness, considering factors such as lead time, throughput, rework rate, change failure rate, and recovery time. Furthermore, a portfolio perspective that transforms R&D into the next source of growth, including platform investments and addressing technical debt, will be crucial.

From Over 34% to Under 13%: R&D Productivity Becomes the Focus of Competitiveness Amidst Slowing Growth

Against the backdrop of rising capital costs and soaring software investments, global demand for software is losing momentum. According to the white paper, the software market, which grew at over 34% in 2021, has seen its growth rate fall to less than 13% currently, with the top 100 listed software companies experiencing nearly flat growth.

Meanwhile, software companies continue to expand their R&D budgets, with R&D growth rates exceeding revenue growth for both SaaS and traditional software companies. The paper points out that a fundamental improvement in R&D productivity and efficiency is essential to supplement innovation investments that were once covered by growth.

Budget Reduction Pressure of Approximately 30%: Sub-optimal Metrics Fail to Capture R&D Challenges

On the buyer's side, there is a growing focus on cost management and maximizing return on investment, leading to stricter budget controls, enhanced demand management, and price negotiations with vendors. The white paper notes the increasing instances of CFOs becoming deeply involved in SaaS procurement and issuing directives to reduce software budgets by approximately 30%. Additionally, the "Better Contracting Initiative" has been launched in the United States with the aim of improving federal government software procurement efficiency by about 25%.

In this environment, limiting productivity discussions solely to defining "what to measure" has its limitations. While common metrics like DORA metrics capture the speed and quality of code changes, they may not fully address overall lead times, throughput, or inefficiencies in the operating model. As AI-powered code generation becomes more prevalent, a perspective that combines effectiveness metrics such as rework rate, change failure rate, and recovery time with the identification of root causes becomes even more critical.

Therefore, the white paper argues that R&D investments should be evaluated from the perspectives of efficiency, effectiveness, and the overall operating model. Cumbersome internal processes, such as environment setup, overly strict IT guidelines aimed at standardizing development tools, and siloed work styles resulting from divisions between sales, product, and engineering, often act as impediments.

Three Lessons and Two Value Axes: R&D Spending to Be Redesigned from an ROI Perspective

The white paper proposes three lessons for enhancing R&D productivity: avoiding a myopic focus on metrics, strategically leveraging productivity improvements, and evaluating based on the balance between expenditure and value, not just expenditure. It is important to structurally grasp the overall R&D portfolio and reinvest the resources freed up by productivity improvements into the right products and solutions.

In ROI-driven R&D management, it is necessary to evaluate investment allocation based on the risk characteristics of mature and new products, platform investments such as common infrastructure and development tools, and addressing technical debt in an integrated manner. Understanding two axes—defending existing revenue streams and creating new revenue sources—is essential for grasping value.

To understand how R&D investments contribute to acquiring new markets, the white paper suggests evaluating metrics such as average transaction value and annual recurring revenue, alongside the number of new customers acquired monthly, expansion into new regions and industries, and revenue generated from new products and services. Disciplined metric management, a strong commitment to ROI, and operating model transformation, including strategic partnerships, are key to the next phase of growth.

- About the White Paper

Title: "The Urgent Need for R&D Productivity Enhancement in Software Companies"

URL: https://www.jp.kearney.com/issue-papers-perspectives/how-can-software-companies-supercharge-rd-productivity-to-ignite-the-next-wave-of-growth

- Supervisors

Kenji Kawasaki, Partner

Graduated from the Faculty of Science, The University of Tokyo, and holds an MBA from Duke University, Fuqua School of Business. After working at NTT East, a US-based strategy consulting firm, and the Big4 consulting division, he joined A.T. Kearney. He has been involved in a wide range of CXO agendas, including mid-term management plans, global management, technology strategy, business model transformation, and operational performance improvement, primarily for Japanese and Southeast Asian telecommunications and high-tech companies. In recent years, he has also undertaken numerous digital transformation support projects, from strategic concept development to execution support.

Jumpei Hayakawa, Partner

Graduated from the Graduate School of Information Science and Technology, The University of Tokyo. After working at Mizuho Bank, Ltd., he joined A.T. Kearney. He handles a wide range of themes, including business strategy, M&A strategy, new business development, sales and marketing reform, and organizational culture transformation, primarily for technology and healthcare companies.

About A.T. Kearney

A.T. Kearney (Global Brand Name: Kearney) has been a trusted partner for over 100 years as a leading global management consulting firm, serving more than three-quarters of the Fortune Global 500 companies and government agencies worldwide. With offices in over 40 countries, our greatest strength lies in our people. Upholding "Impact, First," we tackle our clients' most challenging issues with innovative thinking and execution capabilities, driving transformation together. We entered Japan in 1972 and have provided consistent support, from strategy formulation to transformation execution, to leading companies across all major industries. For more information, please visit our website: https://www.jp.kearney.com/