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Allocating cost reducing investments over competing divisions

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  • TESORIERE, Antonio
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    Abstract

    This paper examines a three-stage model of divisionalization where, first, two parent firms create independent units, second, the parent firms allocate cost reduction levels over these units, and third, the resulting units compete in a Cournotmarket given their current costs of production. The introduction of the cost reduction phase is shown to reduce the incentives toward divisionalization severely, relative to other existing models. Namely, the scope for divisionalization in equilibrium reduces as the marginal cost of the cost reducing investment decreases, and eventually vanishes. A second-best welfare analysis shows that, for any given market structure, the equilibrium investment decisions of the parent firms are socially optimal. In addition, the no divisionalization outcome is sustainable in equilibrium only if it is socially optimal.

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    File URL: http://www.uclouvain.be/cps/ucl/doc/core/documents/coredp2007_36.pdf
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    Bibliographic Info

    Paper provided by Université catholique de Louvain, Center for Operations Research and Econometrics (CORE) in its series CORE Discussion Papers with number 2007036.

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    Date of creation: 01 May 2007
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    Handle: RePEc:cor:louvco:2007036

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    Keywords: divisionalization; horizontal mergers; research joint ventures;

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