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DBL%20Hendrix%20small.png College chemistry, 1983

Derek Lowe The 2002 Model

Dbl%20new%20portrait%20B%26W.png After 10 years of blogging. . .

Derek Lowe, an Arkansan by birth, got his BA from Hendrix College and his PhD in organic chemistry from Duke before spending time in Germany on a Humboldt Fellowship on his post-doc. He's worked for several major pharmaceutical companies since 1989 on drug discovery projects against schizophrenia, Alzheimer's, diabetes, osteoporosis and other diseases. To contact Derek email him directly: derekb.lowe@gmail.com Twitter: Dereklowe

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July 8, 2009

How Much Does the Drug Industry Spend on Marketing?

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Posted by Derek

Anyone who defends the pharmaceutical industry has to be ready to hear, over and over and over, about how much it spends on sales and marketing versus R&D. This is thought to be a telling point about where the priorities really are. I've addressed this one several times, and my best response is to point out that sales and marketing are actually supposed to bring in more money than you spend on them, and do so more reliably than R&D in the short term.

There's now a very useful paper in Nature Reviews Drug Discovery looking at just this issue. The authors (from three universities in the US and Israel) are looking into the general question of which is the better use of money: put it into R&D for the long term, or promote existing products for the short term? I should make clear at the outset that those two options do line up in that way. R&D expenditures take years to pay off, if ever, given the amount of time that drug development takes. And marketing of a current product had better start paying off in a shorter time frame, because every patented drug is a wasting asset, constantly being eaten into by competition and by its time to patent expiration.

So which makes more financial sense? The authors numbers from the Wharton databases on publicly traded drug companies, looking at those with more than $50 million in sales. Using the company stock prices as a measure of value (J. Finance LVI(6), 2431–2456 (2001), I'm giving you references here), they found, in general, that R&D investments have a net positive effect, while increased promotion has a negative effect. (See also Rev. Account Stud. 7, 355–382 (2002), another journal I don't reference much). Both effects are larger for smaller companies, as you might expect, but they held up across the industry. The effect also holds up if you factor out the compensation packages of the top five executives of each company (which is a nice control to run, I have to say). And yes, since you ask, there is a negative effect on stock price that correlates to higher executive compensation, and I'm willing to bet that this effect holds for more than just the drug industry.

Since we're talking about stock prices, which are generally forward-looking, the way to interpret these results is probably that investors expect R&D expenditures to pay off in the long term, but actually expect sales and marketing expenditures to reduce long-term value. If that's so, then why spend money on marketing? The reason the authors propose is just what I'd been talking about: short-term reliability. Drug discovery and development is inherently risky, and promotion of existing products is (at least comparatively) more of a sure thing. Companies engage in a mix of the two to try to even the cash flow out. (And as the authors note, if executive compensation is tied more to short-term performance, then there's an incentive to go with the short-term gains).
NRDD%20graph.jpg
In general, though, you'd figure that companies should invest more in R&D. And here's the real kicker: that's exactly what's been happening. As this graph from the paper shows, over the last thirty years expenditures in the Sales, General, and Administrative area have risen only slightly as a per cent of sales. The Cost of Goods Sold category (materials, physical plant, manufacturing facilities, etc.) has gone proportionally down, with an interesting excursion in the mid-1990s. (Note also that this used to be the leading category). And R&D expenditures (again, as a per cent of sales) rose in the 1980s, were flat in the 1990s, and have risen since then. Overall, since 1975, the proportion of money spent on R&D has more than tripled, from 5% to 17%.

This, I hardly need point out, does not fit the narrative of some of the e-mails and comments I get. Some perceptions of the drug industry have us, Back In the Old Days, as spending our money on R&D, only to slimily slide into becoming pure marketing businesses as time has passed, with our recent years being especially disgusting and rapacious. According to these figures, this is at the very least not accurate, and comes close to being the opposite of the truth. Comments are welcome - most welcome, indeed.

Comments (58) + TrackBacks (0) | Category: Business and Markets | Drug Development | Drug Industry History


COMMENTS

1. Greg Hlatky on July 8, 2009 7:53 AM writes...

You spend more on marketing and sales than on R&D. All your ideas come from NIH-funded projects. Your mother was a hamster and your father smelt of elderberries!

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2. Lethe on July 8, 2009 8:31 AM writes...

The choice as presented is between spending money on marketing or on R&D. There is, of course, is a third option, which is not spending the money at all, and instead, lowering the price of drugs. Crazy talk, I know. Much better to spend vast sums of money hiring former cheerleaders to bring doctors branded pens and stationary.

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3. Ed on July 8, 2009 8:34 AM writes...

Drug companies are no longer allowed to bring doctors branded pens and stationary.

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4. imarx on July 8, 2009 8:35 AM writes...

The absolute numbers are still pretty dramatic though - 40% sales & marketing vs. 15% R&D? That's quite a sizable difference. Or does that 40% include other things besides marketing?

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5. MTK on July 8, 2009 8:53 AM writes...

First, I have not read the article, so I'm just going off of Derek's comments.

With that in mind, just because the authors found that spending money on marketing is a net negative on stock price doesn't suggest that less money spent on marketing would be better, since that presumes that the increased SG&A costs led, directly or indirectly, to the lower stock price.

An alternative could be that companies with less in the R&D pipeline would spend more on marketing to squeeze out as much as possible now. So spending more on marketing does not lead to lower stock prices, but is rather a response to lower, or future lower, stock prices due to lower R&D productivity.

Lethe, as for your suggestion to spend nothing. Those are called generic companies. They discover no new drugs and they conduct only the most limited of clinical trials. They have a role, but so does Pharma. Unless of course you believe there is no room for improvement in the treatment of the human condition.

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6. Sili on July 8, 2009 8:54 AM writes...

So why are executives rewarded in the short term, and how does one stop that?

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7. Hap on July 8, 2009 9:02 AM writes...

While I have yet to figure why cutting R+D will magically create more drugs, I can see why drug company executives might wonder why they don't seem to be producing more drugs with their increased R+D expenditures. It's kind of like how I feel lately about taxes (and how I'm sure I will feel even more when they go up, shortly) - if you're spending so much money, what exactly are you doing with it? I'm not buying that it's been a five- or ten-year unlucky streak for drug companies - it seems sort of improbable, particularly since with that much money, R+D ought to be spread among fields likely to flower with different arrival times.

On the other hand, well over twice as much money on marketing and sales as to R+D? It probably fits both what they want their revenue stream to be and what businesses spend (the R+D for drugs sounds a lot bigger, actually), but it doesn't sound like a balance designed to get more drugs. If you have something useful, in most cases demonstrably so, why does it cost so much to get people to buy it (particularly when the cost of getting people to buy it drives up its costs and forces you to work harder to get people to buy it)?

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8. milkshake on July 8, 2009 9:08 AM writes...

post-approval clinical research is often carefully designed with an eye on the marketing so the distinction becomes blurred, and the scientific integrity suffers - as we have seen most recently with Merck

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9. Ben on July 8, 2009 9:15 AM writes...

This data is very interesting, Derek. Do you know if there have been any studies showing the ROI of investments in sales/marketing vs investments in R&D?

In a purely rational setup, you would expect companies to spend on sales/marketing and R&D until the ROI of both was equivalent (and thus you get to that mystical "profit maximizing" point). I'm wondering how much of that is being done here -- the only way I can rationalize your point with the "theoretical" view (which is not perfect, but still roughly what sort of decision is being made) is if there is a huge difference between actual and perceived payout for R&D and sales/marketing.

Also to the rest of the peanut gallery, please remember that SG&A includes far more than sales/marketing. It includes things like HR, IT, support services, etc. So a percentage of the SG&A spend is also "relevant" (either on a medical level because it involves working with insurance companies and doctors or on a company level because it pays for work that needs to be done).

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10. MTK on July 8, 2009 9:18 AM writes...

imarx,

Yes, it dos include other things beyond marketing. Sales is the S. G and A is general and administration. Expenses that would be included are payroll and HR, taxes, rent, capital depreciation, maintenance, IT, etc.

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11. Hap on July 8, 2009 9:20 AM writes...

#6: Because some (a lot) of the stockholders are holding stock for the short-term, and so execs that benefit in that term are likely to make them more money than those looking for long-term gains? Alternatively, long-term contracts (such as in baseball) are expensive, and if you're looking for the long-term, you have to give excutives enough time to achieve the goals you want, which is expensive and uncertain. You also have to separate other types of market gains from your stock gains (you want to know what your CEO got you that you wouldn't have gotten otherwise), and in the long term that's probably hard. Maybe giving shareholders as a whole (rather than merely the preferred ones) more of a say would help.

#2: Sure - because not spending money on R+D will get you more drugs, right? If companies knew they could get drugs from doing nothing, don't you think they would be doing it already?

The other issue is that when you have a patented drug, why would you lower the price? Unless you have competition, there isn't any reason (and you wouldn't have disclosed and patented and tested the drug in the first place if you could expect to make more money some other way) to lower the price of the drug (which in lots of cases, won't help the end users, anyway, who you could more directly target - the gains will go to insurance companies, in most cases).

Everyone wants to be able to make money from the products of their own work and mind, but wants at the same time the output of others' minds and their work to be free or cheap. Good luck with that.

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12. Dylan on July 8, 2009 9:22 AM writes...

The 40% number is for all SG&A (Selling, General and Administrative) expenses and includes more than just sales and marketing, pretty much everything that isn't a direct input to R&D or production gets lumped in to SG&A.

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13. Tom King on July 8, 2009 9:39 AM writes...

SGA includes operations ( finance, warehousing etc etc) to operate a pharma company you need to take orders and then deliver product. You need to employ scientists and lab space. SGA covers a wide swath of expenses. My company has about 80 reps and about 20 back office support. The reps cost about 150K a year ( salary, commission, car, expenses) the back office support staff cost about 120K a year. Thats about 14 million a year for the sales team and we sell about 300 million a year of our product. Fairly reasonable to me.

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14. Bny on July 8, 2009 9:52 AM writes...

Here is a question.. would the G&A costs also include biz operations costs associated with R&D but not direct R&D inputs? For instance HR related costs associated with researchers, etc?

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15. Hap on July 8, 2009 10:01 AM writes...

If sales and marketing include a whole bunch of costs that are not just for sales and marketing (HR, accounting, payroll - things that are used in common for lots of parts of the business), then isn't comparing sales and marketing (and lots of other stuff) to R+D and the ROI incorrect, if not deceptive? I'm not a fan of sales spending, but lumping in fixed costs that don't generate money for the company (ever) but are necessary to its operation to expenditures that may generate future revenue would seem to reduce the ROI of sales and marketing unfairly and make the comparison not so good. Maybe bad data is better than none, but this could be a large flaw if not addressed.

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16. Dana on July 8, 2009 10:09 AM writes...

I have read that research and development as defined by the drug companies often includes market research. I wonder if this study took that into account?

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17. Big biotech on July 8, 2009 10:42 AM writes...

NEJM suggested spending on mkting was $30 billion in 2005: http://content.nejm.org/cgi/content/full/357/7/673

Don't forget the marketing adage, "I konw half my advertising works, I just don't know what half".

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18. RandDChemist on July 8, 2009 11:01 AM writes...

Marketing isn't inherently evil, neither is R&D inherently good.

I've seen glimpses of the reality distortion field that exists within some marketing groups. I've certainly seen it within R&D. It comes down to asking the tough questions, challenging assumptions and asking for the data. In both areas.

Part of the problem is that there exists a gap between the two areas. Finding a scientist who can work with marketing (understand, comprehend, etc.) or a marketer who can grasp the scientist is no mean feat.

To me, the absolute numbers mean little. As ben points out in #9, what is the ROI for both?

Do they account for lobbying expenditures?

To me, it appears that more breakdown is needed.

One thing that has impressed me about skilled marketing is managing a product's lifecycle. Well done, it can sustain a company for years.

One of the issues is that companies often have an imbalance of a certain group at the head of the table. A scientist running the show will fail if they do not surround themselves with people who compliment them and can sell the science. Likewise, no scientific input and just trying to make a sale will ruin the venture.

A larger issue is that of pride and go once you are at the upper echelons of the company. I expect confidence, but it can blind you if it becomes arrogance.

Thanks for challenging assumptions Derek!

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19. John Harrold on July 8, 2009 11:03 AM writes...

milkshake mentioned:
post-approval clinical research is often carefully designed with an eye on the marketing so the distinction becomes blurred, and the scientific integrity suffers - as we have seen most recently with Merck

I'm not quite sure 'post-approval' research is really that relevant here. Most R&D expenditures are going to be coming from pre-approval research namely drug discovery, preclinical trials, and clinical trials.

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20. Cloud on July 8, 2009 11:27 AM writes...

Very interesting post, Derek.

@Dana- just from an operational standpoint, I'd guess that most of the market research done is included in SG&A, not R&D. The only way a company the size of a Pfizer is likely to report these sorts of numbers is by looking at expenses reported by business units. Any group doing market research is going to be housed in some sort of sales/marketing business unit, not in one of the R&D business units.

Of course, the target selection process typically includes a look at predicted market size. You want to know if the a drug hitting the target would have sufficient payoff to justify the investment. At a small company, some of this sort of "market research" gets done in R&D, but it is usually limited to "what do published sources say about the potential market?" not "let's call a bunch of doctors and ask them what they think." I have no idea how targets actually get selected in big Pharma- I've never been high enough in one of those companies to have any insight into the process.

Regardless, I would also guess that the cost of even a thorough market survey is absolutely dwarfed by what gets spent in the research labs.

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21. Sigivald on July 8, 2009 12:25 PM writes...

Lethe: Beyond what hap said, there's the pesky fiduciary duty* the board has to its shareholders (who, lest you forget, are probably* as likely to be retirement funds as individual investors).

(* That might not be exactly the right term of art, but it's close and I'm too busy not-being-a-lawyer to care.

** I don't have specific data for ownership breakdown in Pharmaceutical stocks, but that's typical of established industries in general, as far as I know.)

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22. Bill on July 8, 2009 12:33 PM writes...

Why haven't specific marketing companies filled this niche so that small biotechs or even bigger companies for that matter can focus on R & D and cut out sales. Basically another type of outsourcing, for the marketing and sales portion, in the end the competition of many marketing companies should ultimately drive down the cost and maybe even drug prices. Just a thought.

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23. Cellbio on July 8, 2009 1:13 PM writes...

Bill, basically, pharma is best suited to handle registration, distribution and marketing, and these all fit well in one shop. With limits on what sales reps can do or say, companies also employ Medical Liasons, who discuss the "science" of the product, but are not formally part of the sales force. Sales and marketing are also, and best if nearly soley, supported by timely and truthful sicentific publications. All this, if done well, is part of a long strategy of life cycle management that requires mutliple disciplines, including research. I believe a larger % of R in the R&D of big companies will serve this role, and it is an important role, both for marketing and the accuracy of clinical claims, while more of the discovery part of R will occur in small companies.

Research innovation does not scale well, IMO.

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24. Dave on July 8, 2009 1:17 PM writes...

Why is that no seems to understand that drugs are priced just like everything else in the world that takes big money to develop? Balpoint pens were more than $25 each when they first hit the market, calculators cost hundreds, and the first microwaves were priced out of almost everyones budjet. A new drug costs hundreds of millions of dollars to develop and the initial branded price reflects that. Once a drug has been around long enough to become a generic it becomes cheaper because all the initial development costs have been long repaid...just like that calculator sitting on you desk.

Oh yeah, and all those profits? They are being poured back into developing the next drug that may help keep you or your children alive and healthy.

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25. Cloud on July 8, 2009 1:33 PM writes...

@Dave, while I understand (and largely agree with) your point, I think your comparisons are unlikely to matter to most people who complain about drug costs. No one needed the ballpoint pen or a microwave oven to survive. The reason discussions about drug pricing get so emotional is that these products are often about life and death, and that is an inherently emotional topic.

You don't, for instance, see people getting upset about how much Viagra costs, except as a comparator- e.g., "why is Viagra so cheap when the drug I need to control my life-threatening condition is so expensive?"

The discussion also gets all tangled up in access to care issues. The people who care most about the cost of drugs are the ones for whom the cost is prohibitive- people without adequate health insurance and without the means to pay the costs out of pocket. They complain vocally, and a cute little kid who needs asthma medication that his parents can't afford is always going to be more sympathetic than a large pharma company.

Like it or not, our industry has to find a way to address these concerns, because the end user doesn't really care about repaying the cost of development or ensuring that there is money to fund future research. He cares about his own health and his own financial viability, and it is completely understandable that he lashes out and looks for someone to blame when it seems that he can't have one without wrecking the other.

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26. Dave on July 8, 2009 1:49 PM writes...

Cloud, my point is that as long as the FDA and patent laws force us to be competitive businesses by allowing generic competition so early in the marketing life cycle, the current price structure is the only way we can remain in business and viable. Prices would be lower and would be stable for much longer if the innovator of a drug product were given lifetime exclusivity in exchange for a reduced pricing structure. The governemnt has forced this "perceived" captialistic greed game and only they can change it.

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27. RickCain on July 8, 2009 2:18 PM writes...

Why do drug companies market at to the public at all? Doctors prescribe drugs, and they are already under enough pressure from companies who promote drugs to them and don't need their patients badgering them to prescribe the latest thing just because Wilford Brimley says so.

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28. Anon on July 8, 2009 2:34 PM writes...

I personally wonder what percentage of the R&D budget is basic research and development and what percentage is the skyrocketing costs of clinical trials. It is entirely possible to envision a situation where the total R&D budget increases (due to the disproportionate costs of clinical trials) while the funds for basic development (discovery) of new drugs (which would include funding for chemists/biologists/etc) are decreasing. If this hypothetical situation were true, it would explain the apparent decrease of basic research as compared to marketing (which has not changed markedly).

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29. TFox on July 8, 2009 3:03 PM writes...

I once read that the large majority of pharma marketing expenditures consisted of free samples, and the accountants require these to be priced at full retail value, rather than the marginal cost of making an additional pill. Not sure if that's true, or taken into account in these studies, but it risks making marketing seem far more expensive than it really is.

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30. alig on July 8, 2009 3:06 PM writes...

Derek, you are going to need to institute one of those "report abuse" buttons the way these drug spammers are taking a liking to your site (ie 29. Michael Pain).

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31. beentheredonethat on July 8, 2009 3:22 PM writes...

It's funny how so few, that work in pharma research, understand what the companies they work for, actually do. Big pharma DEVELOPS and MARKETS!! They buy good ideas from small nimble companies that RESEARCH, and turn them into products that they can SELL! Therefore they spend a lot of money on marketing and selling what they DEVELOPED. The people at the top know full well that it's almost impossible to foster the kind of environment required for research in a large corporate environment. They have a token research effort to give the air of prestige and an understanding of fundamental discovery science.

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32. Hap on July 8, 2009 3:35 PM writes...

It's the same spammer/moron (but I repeat myself) as always, or at least the same website the spammers are trying to push traffic to. I wonder if it's the same IP or class of IPs (whether we have one or many).

I'm still trying to decide whether the drug spammer is simply evil and should be terminated with extreme prejudice or whether he is helping other morons to find their inner Darwin Award winners (because if you buy narcotics from a spammer, you might be lucky if drug trafficking/possession charges are the only consequences). I'm having a hard time deciding.

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33. Hap on July 8, 2009 3:50 PM writes...

Lifetime exclusivity is unlikely to end well - this discussion has been around the block. If the government has control of pricing with drug companies, it will likely be abused, either by the gov't (appealing to voters to get cheap drugs) or by the companies themselves (to generate larger profits).

If the government doesn't have a role in pricing, then lifetime exclusivity is likely to give lots of similar, nonexchangeable drugs with large price tags - it probably won't help R+D (because, though the potential benefits of a drug are higher under such a system, the costs will still be high or higher to get the drug - it doesn't make drug company R+D cheaper than acquiring it from other companies, and because companies don't want to spend on R+D once they have a secure revenue stream, though they might spend to get there). Drugs will probably not get cheaper (because everyone wants as much money as they can get - they will charge what they can get, knowing that there is no alternative). There might or might not be more drugs - it might depend on whether the revenue stream from initial drugs allows the winners enhanced access to others' R+D. It might be better to start the patent/sales exclusivity clock when the drug is approved, but I don't know what holes that plan would have.

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34. Cellbio on July 8, 2009 4:10 PM writes...

Are you guys sure #29 is a spammer, looks like gibberish, and coupled with.."for example I take hydrocodone, vicodin which is medicine..." makes me think maybe entering his piece is just a nice way for him to pass 2 or 3 hours until the next "dose". Maybe he has MJS....Michael Jackson Syndrome. And us regular folks are limited to being just addicts, life is so unfair.

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35. Hap on July 8, 2009 4:23 PM writes...

If it's gibberish, why does he always mention pharmaceuticals (usually narcotics) and always makes sure to include the website he finds his drugs on? The style and text of the comments are consistent (occasional use of caps, complaints about his/her pain), and the topic of the spam is generally completely disconnected from the topic of the posts on which the comments appear.

It's relatively well-made spam (the lack of context and the location forces people to look at the comments and digest them for a second before they realize that it's spam) but it's still spam.

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36. Sebastian on July 8, 2009 6:23 PM writes...

"The absolute numbers are still pretty dramatic though - 40% sales & marketing vs. 15% R&D? That's quite a sizable difference. Or does that 40% include other things besides marketing?"

It includes a lot of other things besides marketing. It includes the cost of the finance department, the legal department, non-manufacturing operations, human resources, secretaries, and nearly all of the other things that corporations need to run other than production and research.

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37. Fred Drinkwater on July 8, 2009 6:41 PM writes...

Another data point: In the 80's I worked in Silicon Valley developing minicomputers and telephone switches, for a very successful, growing company. We spent 13-15% on R&D and that was considered high by industry standards.

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