IT Investment Under Competition: The Role of Implementation Failure

Abstract

How does competition impact firms’ incentive to innovate by investing in information technology (IT)? Prior literature suggests opposite predictions on the direction in which competition drives IT investment. This paper analyzes a game theoretic model of duopoly competition and shows that an important feature of IT sheds new light on firms’ investment decisions: IT implementation can fail. Without the possibility of implementation failure, the opportunity to invest in IT hurts firms’ profits because the productivity gains are competed away. Implementation failure creates a possibility of cost-based differentiation and mitigates competition, although these two effects can drive firms’ IT investment in opposite directions. Interestingly, a higher probability of implementation failure can lead to lower investment risks and higher expected profits. Firms in highly competitive markets are better able to recoup the returns to their IT investments and, therefore, more motivated to invest in risky IT than firms in less competitive markets. The online appendix is available at https://doi.org/10.1287/mnsc.2017.3005 . This paper was accepted by Chris Forman, information systems.