Constructing New Product Development Portfolios with Internal and External Projects

In order to build a successful new product development (NPD) portfolio, a firm must ensure not only its access to a wide variety of candidate NPD projects but also its capacity to collect and verify vital information about these projects prior to project selection. In practice, a popular strategy to enrich the set of candidate projects is to contemplate investing in both internal and external NPD projects; however, this approach often interferes with the firm’s ability to evaluate its own projects reliably, which in turn results in subpar project selections. To meet this managerial challenge, the firm must carefully craft its project selection process and incentivize its project managers to evaluate projects thoroughly and share their honest evaluation of outcomes. We address these issues by developing a principal–multiagent model, and our findings yield direct managerial implications. First, we show that the relative importance of a firm’s NPD portfolio scope versus its project evaluation costs is what dictates how flexibly the firm should select between internal and external projects; of course, greater flexibility leads to broader portfolios but also to higher evaluation costs. Second, controlling the tension between internal and external NPD projects while ensuring effective project evaluation requires that the firm offers—in addition to individual performance incentives—shared incentives, which signal its project selection preferences and also limit project managers’ opportunities to extract rent. This paper was accepted by Sridhar Tayur, entrepreneurship and innovation. Supplemental Material: The online appendices are available at https://doi.org/10.1287/mnsc.2023.03917 .