How Complexity Impacts R&D Portfolio Decisions and Technological Search Distance

Abstract:     
Choosing which projects to include in the R&D portfolio is one of the most important and complex problems that managers face. R&D portfolio decisions require managers to balance the risks and rewards associated with local and distant technological search. The former involves exploitation of existing technologies while the latter involves exploration of new technologies. In this paper we propose a novel measure of technological search distance that captures local versus distant technological search decisions. We estimate this measure for a broad set of firms covering a wide variety of industries and spanning from 1980 to 2002. We then explore how two types of complexity that are present in R&D portfolio decisions affect technological search distance. One type of complexity stems from organizational elements (firm size, number of business units, and interactions between those business units) while the other is due to financial constraints (lack of available resources) that force difficult tradeoffs between R&D projects. We find strong empirical evidence that both sources of complexity drive companies to pursue more distant search in the R&D portfolio. Our results are consistent with the stream of literature arguing that complexity affects the risk-return profile of potential innovation projects and makes distant search more valuable.

Number of Pages in PDF File: 33

Keywords: R&D Portfolio, Resource Allocation, Technological Innovation, Search Distance, Complexity Theory, Organization Structure, Financial Constraints

JEL Classification: O31, O32, O33, G31, L22, L25

working papers series