03-099
A PROSPECT THEORY MODEL OF R&D ALLOCATION AND INVENTION
Philip Bromiley and Lee Fleming
In contrast to the substantial literature on how firms
should allocate R&D, less research addresses how managers
actually allocate R&D funds across potential projects.
We develop two models of R&D resource allocation under
risk, based on assumptions of utility maximization and
behavioral mechanisms of prospect theory. The models assume
consistent but not profit-maximizing behavior and demonstrate
how resources, managerial risk propensity, and aspiration
reference levels interact to influence the level of R&D
spending, the expected number of patents, and the probability
of a breakthrough patent. The behavioral assumptions of
prospect theory result in predictions of hunger-driven
innovative search and breakthroughs; surprisingly, the
same assumptions also predict slack-driven search breakthroughs.
TOM
47 PAGES
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