The option approach to the new product development process

*Study financed by the Netherlands Technology Foundation (STW) The authors gratefully acknowledge discussants at Philips Corporate Research and Philips Corporate Strategy, especially Joop Dat, for fruitful discussions. The article expresses the view of the authors solely and doesnot necessarily correspond with former or current research and product policy decisions at Philips Electronics. 1 [Abstract] Current phase-review processes for new product development can not properly capture the economic value of managerial flexibility to continue or abandon a project at different stages of development. Due to this, the discussion whether it is fruitful to skip phases in the development process in order to create time-to-market advantage is left open. By applying insights from the valuation of real options, this article proposes a framework for the assessment of new product development at different stages. Moreover, we derive criteria to speed up the development process or not and introduce the options portfolios, which serve as a basis for assessment and as a tool for choosing an optimal set of business initiatives from a variety of feasible alternatives. We have explored the portfolio approach at Philips Electronics and illustrate the article with examples of some current R&D projects. 2 1. Introduction Today's world is characterized by major changes in market and economic conditions, coupled with rapid advances in technologies. Management is often confronted with the dilemma whether or not to invest in a particular stage of the new product development (NPD) program, given market and technology uncertainties surrounding such a decision in current markets, most of all technology-driven or high-tech markets (Moriarty and Kosnik, 1989). The changing economic conditions and technologies combined with increased domestic and global competition, changing customer needs, rapid product obsolescence and the emergence of new markets, require a fast resource Therefore, the trade-off between accelerating time-to-market or making pre-launch improvements in product performance has become a topical concern. On the one hand, an accelerated market introduction may lead to a substantial gain of future market share. The market share advantage that results from a rapid time to market has been explored by Urban et al. give surveys on the acceleration of the NPD process by skipping phases. On the other hand, as argued by Griffin and Page (1993), reducing time to market is only advisable when this does not limit the probability of success of the final product to be introduced to the market. Furthermore, Crawford (1992) discusses that there are …

[1]  T. H. Williams,et al.  Analysis of Decisions under Uncertainty , 1970 .

[2]  W. Perraudin,et al.  Real Options and Preemption , 1996 .

[3]  M. A. Cusomano,et al.  Microsoft Secrets-How the World''s Most Powerful Software Company Creates Technology , 1995 .

[4]  G. Mitchell,et al.  Managing R&D as A Strategic Option , 1988 .

[5]  Nalin Kulatilaka,et al.  Strategic Growth Options , 1998 .

[6]  David Wilemon,et al.  The Credibility–Cooperation Connection at the R&D‐Marketing Interface , 1988 .

[7]  John C. Narver,et al.  The Effect of a Market Orientation on Business Profitability , 1990 .

[8]  D. Wilemon,et al.  A Survey of Major Approaches for Accelerating New Product Development , 1992 .

[9]  Daniel Granot,et al.  Optimal Sequencing and Resource Allocation in Research and Development Projects , 1991 .

[10]  R. McDonald,et al.  The Value of Waiting to Invest , 1982 .

[11]  George S. Day,et al.  Assessing Advantage: A Framework for Diagnosing Competitive Superiority , 1988 .

[12]  Edwin Mansfield,et al.  The Costs of Industrial Product Innovations , 1975 .

[13]  Matthew J. Liberatore,et al.  Expert Support Systems for New Product Development Decision Making: A Modeling Framework and Applications , 1995 .

[14]  J. L. Bower,et al.  Fast-Cycle Capability for Competitive Power , 1988 .

[15]  R. Cooper.  Perspective third-generation new product processes , 1994 .

[16]  A. Griffin.  Metrics for Measuring Product Development Cycle Time , 1993 .

[17]  D. Wilemon,et al.  A Model for Studying R&D–Marketing Interface in the Product Innovation Process , 1986 .

[18]  Ruth Milkman,et al.  Microsoft Secrets: How the World's Most Powerful Software Company Creates Technology, Shapes Markets, and Manages People , 1995 .

[19]  D. Littler.  Design and Marketing of New Products , 1981 .

[20]  Abdul Ali,et al.  Pioneering Versus Incremental Innovation: Review and Research Propositions , 1994 .

[21]  Boris Magnusson,et al.  Technology integration , 1996, CSUR.

[22]  J. Lattin,et al.  Investigating the relationship between time in market and pioneering advantage , 1994 .

[23]  A. Griffin.  Evaluating QFD's Use in US Firms as a Process for Developing Products , 1992 .

[24]  M. Weitzman,et al.  FUNDING CRITERIA FOR RESEARCH, DEVELOPMENT, AND EXPLORATION PROJECTS , 1981 .

[25]  Bela Gold,et al.  Approaches to accelerating product and process development , 1987 .

[26]  A. Parasuraman,et al.  Marketing/R&D Interaction in New Product Development: Implications for New Product Success Rates , 1990 .

[27]  V. Mahajan,et al.  New Product Development Process: A Perspective for Reexamination , 1988 .

[28]  Eduardo S. Schwartz,et al.  Investment Under Uncertainty. , 1994 .

[29]  E. Pennings,et al.  The Option Value of Advanced R&D , 1997 .

[30]  John R. Hauser,et al.  Design and marketing of new products , 1980 .

[31]  Kim B. Clark,et al.  Modularity-In-Design: An Analysis Based On the Theory Of Real Options , 1998 .

[32]  R. Gomory.  From the 'ladder of science' to the product development cycle. Scout for technology, design for manufacture, shorten the time to market. , 1989, Harvard business review.

[33]  Alex Cukierman,et al.  The Effects of Uncertainty on Investment under Risk Neutrality with Endogenous Information , 1980, Journal of Political Economy.

[34]  L. Trigeorgis.  Real options and interactions with financial flexibility , 1993 .

[35]  Teck-Hua Ho,et al.  New product development: the performance and time-to-market tradeoff , 1996 .

[36]  D. Wilemon,et al.  Accelerating the Development of Technology-Based New Products , 1990 .

[37]  K B Clark,et al.  What strategy can do for technology. The five rules of technology leadership. , 1989, Harvard business review.

[38]  Geoffrey Randall.  Principles of Marketing , 1993 .

[39]  D. B. Montgomery,et al.  First‐mover advantages , 1988 .

[40]  E. Pennings,et al.  R&D as an option on market introduction , 1998 .

[41]  Milton D. Rosenau,et al.  From experience: Faster new product development , 1988 .

[42]  A. Griffin,et al.  Patterns of Communication Among Marketing, Engineering and Manufacturing-A Comparison Between Two New Product Teams , 1992 .

[43]  George T. Haley,et al.  Net Present Value Techniques and Their Effects on New Product Research , 1995 .

[44]  Robert Schlaifer,et al.  Analysis of decisions under uncertainty , 1969 .

[45]  R. Sanchez.  Strategic flexibility in product competition , 1995 .

[46]  E. Mansfield,et al.  Organizational and Strategic Factors Associated with Probabilities of Success in Industrial R & D , 1975 .

[47]  W. Souder.  Managing relations between R&D and marketing in new product development projects☆ , 1988 .

[48]  A. Page.  Assessing New Product Development Practices and Performance: Establishing Crucial Norms , 1993 .

[49]  Matthew J. Liberatore,et al.  The Practice of Management Science in R&D Project Management : Management Science , 1983 .

[50]  R. Nelson.  Uncertainty, Learning, and the Economics of Parallel Research and Development Efforts , 1961 .

[51]  C. Crawford.  The Hidden Costs of Accelerated Product Development , 1992 .

[52]  Christoph H. Loch,et al.  Special Issue on Design and Development: Project Management Under Risk: Using the Real Options Approach to Evaluate Flexibility in R...D , 2001, Manag. Sci..

[53]  Onno Lint,et al.  Market entry, phased rollout or abandonment? A real option approach , 2000, Eur. J. Oper. Res..