A Dynamic Programming Approach to R and D Budgeting and Project Selection

Abstract

Contemporary models of research and development are incomplete in that they ignore the many reappraisals and budgeting decisions that occur in the time between a project's proposal and its commercialization. The sequential decision aspects of project budgeting are particularly important since 1) the research expenditure is usually an order of magnitude less than the irrevocable investment for commercialization and 2) an allocation to a project today does not presuppose continuation of the project into future periods. The research and development budgeting problem is structured to take into account the sequential decision characteristic. Utilizing the technique of dynamic programming, methods are developed to determine optimal project budgets when the aggregate research and development budget is either constrained or unconstrained, These models also suggest a rational explanation of the patterns of project expenditures over time that one observes in practice. Finally, some of the shortcomings of the developed methods which inhibit their practical application are discussed.