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How vertical relationships and external funding affect investment efficiency and timing?

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  • Dimitrios Zormpas

Abstract

In this paper we consider a potential investor who contemplates entering an uncertain new market under two conditions: i) a prerequisite for the project to take place is the purchase of a discrete input from an upstream firm with market power and ii) the completion of the investment is conditional on the participation of an investment partner who is willing to bear some of the investment cost receiving compensation in return. Using the real option approach, we find that the involvement of any of the two alien agents causes the postponement of the completion of the investment and we discuss how these timing discrepancies are reflected on the value of the option to invest in the project. We next analyze the synchronous effect of outsourcing and external funding both in a non-cooperative and in a cooperative (Nash bargaining solution) game-theoretic setting and we show how the endogeneity of the sunk investment cost affects the timing and the value of the option to invest in projects characterized by uncertainty and irreversibility.

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  • Dimitrios Zormpas, 2017. "How vertical relationships and external funding affect investment efficiency and timing?," 2017 Papers pzo81, Job Market Papers.
    • Handle: RePEc:jmp:jm2017:pzo81
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    More about this item

    JEL classification:

    • C61 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Optimization Techniques; Programming Models; Dynamic Analysis
    • D92 - Microeconomics - - Micro-Based Behavioral Economics - - - Intertemporal Firm Choice, Investment, Capacity, and Financing
    • G30 - Financial Economics - - Corporate Finance and Governance - - - General

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