If I had a dollar for every time a leadership team asked, “How much should we budget for innovation?” I’d be able to self-fund most clients’ pilot products.
But here’s the thing: how much you budget is far less important than how you decide what gets budgeted and where the dollars go.
In other words, the process you use to set and allocate your innovation budget matters more than the size of the budget itself.
This post builds on our earlier work—Setting New Product Budgets and How Much Should You Budget for Product Innovation?—but focuses on the process of budgeting, infused with the latest research.
1. Separate Innovation Governance from Operational Budgeting
Too often, innovation budgeting happens during annual planning, where the uncertain returns from new ideas can put innovation budgets at risk of being starved by investments in existing services and products. In Productize, we share how one firm divorced innovation budgeting from the annual planning process by forming a Product Innovation Council—a cross-functional team responsible for prioritizing product investment across the Three Horizons Framework: Horizon 1 (core), Horizon 2 (adjacent), and Horizon 3 (transformational). This separate process protects innovation budgets from funding existing operations and helps balance risk and return while managing different types of product bets.
According to Deloitte’s 2023 Tech Trends, leading companies create ring-fenced innovation funds for Horizon 3 - Transformational. These are kept separate from both corporate and business unit budgets and are overseen by a central innovation office or external venture arm. This insulates bold bets from cost-cutting cycles. And the highest performers are protecting over a third of their innovation budget for Horizon 3.
How much of your innovation portfolio is allocated to each category should be based on the risk appetite and investment thesis of your owners or funders. For example, a privately held services firm owned by conservative stakeholders may prioritize incremental, Horizon 1 innovation that strengthens existing offerings and drives near-term revenue. In contrast, a PE-backed firm pursuing aggressive growth targets might allocate a larger share of its innovation budget to Horizon 2 or 3 initiatives—those that explore adjacent markets or entirely new business models. Publicly traded companies may also face pressure to show short-term returns, which can skew allocations toward safer, faster-to-market ideas unless leaders explicitly carve out funding for riskier, longer-horizon bets. The key is to align your innovation investment mix with the strategic posture and financial expectations of those funding the work. Without that alignment, innovation efforts may either be overly cautious or dangerously misaligned with organizational tolerance for risk and return.
Keep in mind that innovation thrives on diverse perspectives, especially when it comes to deciding what to fund. That’s why the best performers are rethinking who sits at the table for the Product Innovation Council and are including frontline innovators, customer-facing employees, and even customers on their decision panels—not just executives. The result? More balanced innovation portfolios and fewer blind spots, particularly around emerging opportunities or underserved customer needs.
2. Allocate Budget Based on Pre-Determined Criteria, Not Pet Projects
A healthy innovation portfolio needs a mix of incremental, adjacent, and transformational investments. But how do you actually decide what gets funded in each category? In Productize, we show how clients implement a scoring matrix based on criteria like customer need, strategic fit, and technical feasibility.
Traditional ROI-based evaluation often works against innovation, especially in its early stages when uncertainty is high and data is limited. Instead, many leading companies are shifting toward criteria that emphasize learning potential, such as whether a project can reduce strategic uncertainty or teach the team something valuable about the market. For example, using multi-dimensional frameworks that score proposals on strategic fit, potential to uncover unknowns, and opportunity to validate assumptions, not just projected revenue. As highlighted in a recent Harvard Business Review article, this approach helps organizations invest in ideas that may not look big on paper yet, but could become future growth engines.
Some companies are turning to AI to help make more objective innovation investment decisions. One organization, profiled in HBR, trained an algorithm on years of internal product data to identify patterns in successful projects. They found that initiatives with early customer validation, small cross-functional teams, and quick prototyping had much higher odds of succeeding. The firm now uses these predictors as part of its funding criteria for new proposals. This doesn’t replace human judgment—it enhances it, using historical insight to inform better bets.
Even without full-scale AI, teams can replicate this by analyzing their past product performance to inform scoring models.
3. Build in Reallocation Flexibility
Innovation is uncertain by nature. That’s why we recommend embracing rolling innovation allocation, where budgets are not fixed annually but re-evaluated quarterly or even monthly based on market learnings and product performance. This agile budgeting model ensures resources are fluid and can quickly pivot based on validated learning.
A powerful concept from venture capital, metered funding breaks down your innovation budget into stages (e.g., discovery, validation, scaling), and teams “earn” the next tranche of funding by hitting key learning milestones. One Vecteris client adopted this approach, setting $25K, $50K, and $150K tranches with predefined exit criteria. The result? Faster iteration and more disciplined investment.
Conclusion: The Budgeting Process Is the Strategy
Innovation budgeting isn’t just a financial exercise—it’s a strategic act that signals where you’re willing to take calculated risks and where you expect teams to learn. By establishing clear governance, aligning investments to portfolio goals, and revisiting funding decisions regularly, you create the structure necessary to build lasting innovation capability, not just launch a few new products.
Would you like help building out a metered funding model or running a portfolio scenario planning session? We’ve facilitated these for clients across all types of B2B professional services. Just say the word.
