To Collaborate or Not: Product Upgrading Strategy in a Competitive Duopoly Market

Releasing an upgraded version of a product is a common tactic that firms use to maintain competitiveness. However, in light of the significant research and development investment required to upgrade products, a new industry trend has emerged in which incumbents collaborate with market entrants to innovate products. At the same time, such collaboration may lead customers to think that the upgraded products are more similar than those innovated without collaboration. Consequently, we consider the following tradeoff: collaboration allows firms to share the innovation investment, but leads to less differentiated products. Specifically, we consider a two-period model where the incumbent is a monopoly during the first period. This incumbent and a market entrant decide whether or not to collaborate to innovate their products, and the two firms sell their products during the second period. We find that both firms can benefit from a higher innovation cost. Moreover, the market entrant can be better off when the products become less differentiated due to collaboration, or when customers are impatient to buy in the second period. Finally, we find customers can be worse off when there is a lower innovation cost or more differentiated products.