What Are Research and Development (R&D) Expenses?

Research and development (R&D) expenses are associated with the research and development of a company's goods or services. A company generally incurs R&D expenses in the process of finding and creating new products or services. As a type of operating expense, a company may deduct R&D expenses on its tax return.

Understanding Research and Development Costs

Research and development is a systematic activity that combines basic and applied research in an attempt to discover solutions to problems or to create or update goods and services. When a company conducts its own R&D, it often results in the ownership of intellectual property in the form of patents or copyrights.

An important component of a company's research and development is its R&D expenses, which can be relatively minor or can easily run into billions of dollars for large corporations. Companies in the industrial, technological, health care, and pharmaceutical sectors usually have the highest levels of R&D expenses. Some companies—for example, those in technology—reinvest a significant portion of their profits back into research and development as an investment in their continued growth.

Key Takeaways

  • Research and development (R&D) expenses are associated with researching and developing a company's goods or services.
  • Companies in the industrial, technological, health care, and pharmaceutical sectors have the highest levels of R&D expenses.
  • A company may deduct R&D expenses on its tax return.

Real World Example of R&D Expenses

Tech companies rely heavily on research and development capabilities; so they have heavy R&D expenses. In a constantly changing environment, it's important for a company to remain on the bleeding edge of innovation. Companies such as Facebook (FB: NASDAQ), for example, invest heavily in the research and development of products such as virtual reality and predictive chatbots. These endeavors allow Facebook to diversify its business and find new growth opportunities as technology continues to evolve.

Large companies have also been able to conduct R&D through acquisition, of which Facebook's 2017 acquisition of Oculus Rift is a perfect example. Facebook already had the internal resources necessary to build out a virtual reality division, but by acquiring an existing virtual reality company, it was able to expedite the time it took them to develop this capability.

Reasons to Conduct R&D

Businesses conduct R&D for many reasons, the first and foremost being new product research and development. Before any new product is released into the marketplace, it goes through significant research and development phases, which include a product's market opportunity, cost, and production timeline. After adequate research, a new product enters the development phase, where a company creates the product or service using the concept laid out during the research phase.

Some companies use R&D to update existing products or conduct quality checks in which a business evaluates a product to ensure that it is still adequate and discusses any improvements. If the improvements are cost-effective, then they will be implemented during the development phase.