Abstract: In light of intensifying competition in the supply chain, it becomes imperative for enterprises to bolster their technological innovation capabilities in order to maintain a sustainable competitive advantage. This paper examines the market dynamics resulting from the limited availability of products due to technological innovation. It also investigates the tendency of decision makers to display overconfidence, whereby they often overestimate consumers’ acceptance of innovative products. Through model construction, we analyse enterprises’ strategies for product iteration, the innovation levels of new products and the allocation of capacity between old and new products. The theoretical findings reveal the following insights: 1) When consumers’ acceptance of innovative products is low, rational decision makers opt for a gradual iteration strategy; in the opposite situation, they opt for a radical iteration strategy. However, highly overconfident decision makers tend to mistakenly choose the radical iteration strategy over the gradual iteration strategy. 2) Both rational and overconfident decision makers invest less in innovation but achieve higher profits under gradual iteration strategy than they do under radical iteration strategy. However, as consumers’ acceptance of innovation increases, the profit gap between the two strategies narrows. 3) Regardless of consumers’ acceptance of innovation, overconfident decision makers tend to excessively invest in enhancing product innovation levels and allocating more capacity to innovative products, thereby negatively impacting their profits. Finally, the numerical analysis examines the impact of consumers’ acceptance of innovation, the intensity of competition between old and new products, and the impact of overconfidence level on capacity allocation and the corresponding optimal profits. This study reveals the impact of overconfidence on firms’ product iteration and capacity decision-making, and provides a theoretical basis and practical reference for enterprises to avoid decision-making biases and improve profitability.

Key words: iteration strategy, capacity allocation decision, innovation decision making, overconfident behavior, consumers’ acceptance of product innovation