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Termination Clauses in Partnerships

  • Stefano Comino
  • Antonio Nicolò
  • Piero Tedeschi

In this paper, we prove that two firms may prefer not to include a termination clause in their partnership contract, thus inducing a costly termination in case of failure of the joint project. This ex-post inefficiency induces partners to exert large levels of non-contractible efforts (investments) in order to decrease the probability of failure. Therefore, the absence of a termination clause works as a "discipline device" that mitigates the hold-up problem within the partnership. We show that writing a contract without a termination clause is a credible commitment even when partners can add such a clause in the contract in any moment of their relationship. Comparative statics analysis suggests that contracts lacking a termination clause are suited to alliances in R&D, when partners are not rivals or when they have strong technological complementarities.

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Paper provided by Università degli Studi di Milano-Bicocca, Dipartimento di Statistica in its series Working Papers with number 20060505.

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Length: 41 pages
Date of creation: May 2006
Date of revision:
Handle: RePEc:mis:wpaper:20060505
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