Revenue Driven Resource Allocation: Funding Authority, Incentives, and New Product Development Portfolio Management

Abstract

The first step in transforming strategy from a hopeful statement about the future to an operational reality is to allocate resources to innovation and new product development (NPD) programs. We explore how funding authority affects a manager's allocation of resources between multiple programs in a portfolio. Funding may be either fixed or variable depending on the extent to which the manager is free to use revenue derived from existing product sales to fund NPD efforts. Our results indicate that the allocation of resources between existing product improvement (relatively incremental projects) and new product development (more radical projects) depends critically on the funding authority. We find that the use of variable funding drives higher effort toward improving existing products and developing new products. However, variable funding induces the manager to focus on existing product improvement to a greater degree than new product development, and leads to an incremental balance in the NPD portfolio. In addition, we highlight a substitution effect between explicit incentives (compensation parameters) and implicit incentives (career concerns). Explicit incentives are reduced as career concerns become more salient.

Keywords: Innovation and New Product Development, Resource Allocation Strategy, Portfolio Strategy, Organization Design, Incentives

JEL Classification: O31, O32, C61, M52