Deadlines in Product Development

Abstract:     
Deadlines are common in product development. However, deadlines are often too stringent -- many projects are still worth continuing at the time of termination. We examine the value of stringent deadlines from the agency-theoretic perspective. We consider a firm that hires an agent to lead product development activities. The chance of success depends on the as yet unknown fertility of the project and the private effort of the agent. As the project proceeds without success, doubts grow as to whether the project can be fertile. Believing that no success has emerged in spite of the agent's effort, the pessimistic firm will offer the agent a generous bonus for success to motivate continued effort during the late stage of the project. However, this bonus undermines effort incentives during the early stage. By shirking today, the agent privately knows that it is his lack of effort rather than project infertility that has delayed success, and hence perceives a more optimistic chance of earning a generous bonus tomorrow. The firm in turn must offer another large bonus to motivate the agent to work today. As a result, the firm may find it more profitable to impose a deadline at the end of today to eliminate the agent's dynamic incentives to shirk, although doing so forfeits any positive continuation value tomorrow. We derive conditions under which the firm should impose deadlines.

Number of Pages in PDF File: 31

Keywords: deadline, agency theory, dynamic incentives, learning, product development

JEL Classification: D82, D83, M31, M37

working papers series