Advanced Search
MyIDEAS: Login

Reaching an Optimal Mark-Up Bid through the Valuation of the Option to Sign the Contract by the Successful Bidder

Contents:

Author Info

  • João Adelino Ribeiro

    ()
    (Faculdade de Economia, Universidade do Porto, Portugal)

  • Paulo Jorge Pereira

    ()
    (CEF.UP, Faculdade de Economia, Universidade do Porto, Portugal)

  • Elísio Brandão

    ()
    (Faculdade de Economia, Universidade do Porto, Portugal)

Registered author(s):

    Abstract

    This paper aims to establish a support decision model by which an optimal mark-up (profit margin) in the context of a bidding process is reached through the valuation of the option to sign the contract assuming the contractor is chosen to perform the project. The price included in the bid proposal remains unchanged from the moment the offer is sealed until the contractor has the right - but not the obligation - to sign the contract, whereas construction costs vary stochastically throughout the period. Contractors should only sign the contract if the construction costs, at that moment, are lower than the price previously defined. We evaluate the option using an adapted version of the Margrabe (1978) exchange option formula and we also assign a probability of winning the bid for each profit margin using a function that respects the inverse relationship between these two variables. We conclude that to the higher value of the option - weighted by the probability of winning the contract - corresponds the optimal mark-up bid. Finally, we consider the existence of penalty costs which makes the model more efficient in explaining what actually takes place in some legal environments; we then conclude that the option to sign the contract and, therefore, the optimal mark-up bid are affected by their existence.

    Download Info

    If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
    File URL: http://www.fep.up.pt/investigacao/cef.up/WP/2012/2012_01_wp.pdf
    Download Restriction: no

    Bibliographic Info

    Paper provided by Universidade do Porto, Faculdade de Economia do Porto in its series CEF.UP Working Papers with number 1201.

    as in new window
    Length: 21 pages
    Date of creation: May 2012
    Date of revision:
    Handle: RePEc:por:cetedp:1201

    Contact details of provider:
    Postal: Rua Dr. Roberto Frias, 4200 PORTO
    Phone: 351-22-5571100
    Fax: 351-22-5505050
    Email:
    Web page: http://www.fep.up.pt/
    More information through EDIRC

    Related research

    Keywords: Optimal bidding; real options; construction projects; price determination;

    Find related papers by JEL classification:

    This paper has been announced in the following NEP Reports:

    References

    No references listed on IDEAS
    You can help add them by filling out this form.

    Citations

    Lists

    This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

    Statistics

    Access and download statistics

    Corrections

    When requesting a correction, please mention this item's handle: RePEc:por:cetedp:1201. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Ana Bonanca).

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If references are entirely missing, you can add them using this form.

    If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.