Product Innovation and Technology Choice under Quality Uncertainty

Firms constantly invest in improving product quality with innovative technologies. However, the out-come of research into innovative technology can be inconsistent. This paper investigates how a firm should choose between a mature technology and an innovative technology in upgrading an existing product, where the level of quality improvement is jointly determined by two attributes – one is internal and determined by the firm and the other is external, outside of the firm's control. The two technologies are differentiated by the external attribute, where the innovative technology exerts some uncertainty but has flexibility in product offering while the mature technology does not have any uncertainty, which leads to no flexibility in product offering. The flexible product offering implies that the firm may switch to offer the existing product if the realization of the external attribute is unfavorable. Our paper is motivated by the battery industry, where innovation is critical and may enable more sustainable operations in the future. According to our analysis, the firm may or may not improve the product, irrespective of the technology adopted. However, it is more likely for the firm to improve the product when the innovative technology is adopted. If it is optimal for the firm to exercise the flexible product offering, the fixed development cost and the variable production cost impose different effects on the two technologies. Specifically, a higher fixed cost encourages the firm to consider the mature technology while a higher variable production cost makes the innovative technology more likely to be adopted. Finally, the high potential of the uncertain event in improving the overall product quality under the innovative technology is crucial for this technology to outperform the mature technology