A sign sits on the outside wall of Lockheed Martin Corp.'s stand on the third day of the Farnborough International Air Show in Farnborough, U.K., on Wednesday, July 11, 2012. (Chris Ratcliffe/Bloomberg)

The big idea: A top-down research and development portfolio strategy can ensure that R&D projects implement your corporate strategy.

The scenario: Lockheed Martin Space System Co. designs, develops, manufactures and operates advanced technology systems for government and commercial customers. The company is focused on nine core business segments: human space flight; global communications systems; commercial space; sensing and exploration systems; missile-defense systems; strategic missiles; commercial launch systems; surveillance and navigation systems; and special programs.

This collection of business segments requires advanced research and development to deliver cutting-edge technology. Most of the advanced R&D takes place in a centralized manner, serving each of the business segments as needed. To allocate resources across R&D initiatives, LMSSC uses a predominantly “bottom-up” strategy. R&D projects are suggested by each of the business segment managers. The projects are then scored and ranked based on required investment, duration of investment and other financial metrics, such as net present value and return on investment.

Over the years, this practice resulted in gaps in the company’s R&D portfolio. Some segments dominated the portfolio with incremental, short-term projects. At the same time, other segments that had been deemed important strategic battlegrounds did not received adequate funding to support long-term advanced technology programs.

The resolution: In 2010, the company embarked on an initiative to overhaul its R&D portfolio and resource-allocation strategy. It shifted to a “top-down” strategy. This involved understanding the company’s strategy and committing money to “strategic buckets” before making decisions about individual projects. The strategic buckets ensured that money would be available for key strategic technologies or markets that otherwise might look weak from a return-on-investment (financial) point of view. The strategic buckets served to protect R&D money from the incremental projects that often consume R&D budgets.

The lesson: Bottom-up R&D portfolio strategy often uses financial project information to score and rank projects. The result may be large gaps and a mismatch between corporate strategy and resources in the R&D portfolio. This can be avoided by using a top-down strategy that first makes resource commitments to key strategic buckets, then ranks projects within the buckets.

— Raul O. Chao

Chao is assistant professor of business administration at the University of Virginia Darden School of Business.