Timing Vertical Relationships | Billette de Villemeur, Etienne
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Communication de conférence

Timing Vertical Relationships

in Real Options Group (ROG), Rome, Juin 16-19, 2010

Billette de Villemeur, Etienne ; Ruble, Richard ; Versaevel, Bruno (19..-....) ; Real Options Group (ROG) Annual Meeting. 14th, Rome, Italy, Juin 16-19, 2010

2010 - 30 P.

We show that the standard analysis of vertical relationships transposes directly to investment timing. Thus, when a firm undertaking a project requires an outside supplier (e.g. an equipment manufacturer) to provide it with a discrete input, and if the supplier has market power, investment occurs too late from an industry standpoint. The distortion in firm decisions is characterized by a Lerner index, which is related to the parameters of a stochastic downstream demand. When feasible, vertical ... restraints restore efficiency. For instance, the upstream firm can induce entry at the correct investment threshold by selling a call option on the input. Otherwise, competition may substitute for vertical restraints. In particular, if two firms are engaged in a preemption race downstream, the upstream firm sells the input to the first investor at a discount that is chosen in such a way that the race to preempt exactly offsets the vertical externality, and this leader invests at the optimal market threshold.

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