Underfunding novel and complex inventions: The Theory of Value Translation

Abstract

Recent literature has resurfaced Arrow’s prediction of possible discrimination against investing in certain valuable inventions. I argue that some valuable inventions are indeed underfunded because of limitations in the knowledge needed to envision the path by which they develop into innovation. I develop theory that considers two types of knowledge, held by two organizations that spearhead two mechanisms needed to delineate the path(s) the invention may take. With technological knowledge, the inventor pushes the technology along feasible paths. With commercialization knowledge, the funder pulls the technology toward markets with high (ex post) value potential. The inventor and funder jointly delineate all plausible paths and translate their value to when funding is needed (ex ante). Inventor and funder knowledge limitations imply that not all paths will be delineated—and hence not funded or pursued, leaving potential value on the table. This is a problem of value translation. For inventions that are novel and complex (i.e., with synergies and interdependencies among multiple paths, leading to multiple innovations), knowledge limitations are more likely, exacerbating the value translation problem and underfunding. Because breakthrough innovation often stems from novel and complex inventions (as more innovations may impact more technologies), their underfunding is of particular concern.

Keywords: investing in innovation, bounded rationality, financing innovation, bounded rationality, commercialization knowledge, valuation, technology push and demand pull, breakthrough innovation