Designing internal innovation contests

Innovation contests within firms offer the potential to tap latent employee expertise across the organization and expand innovation beyond the core R&D teams. Still, firms undertaking an internal contest, unlike the more commonly studied external contests, incur significant opportunity costs when employees divert their efforts toward the contest (and away from their routine work). Managing this key challenge forms the focus of the current study, with the overarching question being How should firms design internal contests? Motivated by fieldwork in electronics companies, we develop an application‐driven model that explicitly captures the fundamental trade‐off between incurring greater opportunity cost (of lost routine work) and increasing participation and contest effort. Analysis of our model demonstrates that for problem types that do not need significant effort for solution generation, the optimal contest reward is non‐monotonic in both the problem uncertainty and the wage rate of the participating employees. In case of more complex problems that require contestants to exert some minimal effort, the firm uses the reward decision to restrict participation and to ensure that contestants exert the required effort. In this case, the optimal reward increases with problem uncertainty, thereby incentivizing more contestants to enter. While the firm can attempt to mitigate the loss due to opportunity costs by organizing internal contests during employee leisure time, we identify conditions under which it is still optimal to organize these contests during working hours.