Technology investment under flexible capacity strategy with demand uncertainty

Abstract

This paper investigates technology investment under flexible capacity strategy with demand uncertainty. Technology investment enables a firm to reduce its total production cost, while flexible capacity strategy aims to reduce a firm׳s production waste by postponing production until demand is known. Adopting a general technology investment cost, we examine how technology investment cost structure affects a firm׳s technology investment decisions. We derive the conditions under which the firm will benefit from technology investment. We show that the firm can increase its expected profit through technology investment only when the unit technology investment cost that varies inversely with the basic technology level is below a threshold. However, even though the technology investment cost is zero, the benefit from the increase in technology level is limited. Furthermore, we analytically determine the optimal technology levels and establish their relationships under different technology investment cost structures. Our findings will help firms evaluate various technology investment options and choose the most proper one.