Innovation, Uncertainty and Strategy

Should a firm innovate and, if so, how quickly? Answering this question involves determining whether the firm should invest resources to grow rather than adopting a more conservative strategy. As with any other strategic question, determining the pace of innovation is an issue that is clouded with uncertainty.

The answer to how rapidly a firm should innovate will have implications with respect to R&D expenditures, technology development and adoption, organizational structure, and strategic partnerships and alliances. These, in turn, will affect the firm’s cost structure, revenue streams, and profitability.

With respect to innovation, three types of uncertainty can be identified. First, there is the technical uncertainty associated with determining what can be done in what time, and at what cost. Secondly, there is market uncertainty where the rate of market acceptance and adoption for new innovations cannot be known with precision. Finally, there is competitive uncertainty, where the response of competitors to an innovation cannot always be predicted.

Firms can model and help resolve these uncertainties through the use of decision trees. A decision tree allows a firm to logically work through the innovation process and examine the decision alternatives available at every stage. The tree can be used to evaluate and select the optimal innovation responses at each level of analysis. Applied thoughtfully, decision trees can help manage the uncertainty surrounding innovation and help a firm determine it preferred rate of innovation.

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