Real options with ex-post division of the surplus |
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Institution: | 1. Faculty of Economics and Business Administration, Alexandru Ioan Cuza University of Iasi, 22th Carol I Blvd, 700505, Iasi, Romania;2. Swiss National Bank and CEPR, Postfach, 8022 Zurich, Switzerland;3. Swiss National Bank, Postfach, 8022 Zurich, Switzerland |
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Abstract: | This paper examines a real option model where two vertically related firms are involved in a specific investment project that is subject to an uncertain payoff. While ex-post bargaining between a seller and a buyer leads to underinvestment by the seller in a standard model where timing of the seller’s investment is exogenous, we show that this need not be the case when the seller’s timing of investment is endogenous. However, bargaining with a buyer leads to excessive waiting. More severe holdup and higher uncertainty will lead to vertical integration of activities to avoid timing inefficiencies. |
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