Work

Auctioning Long-Term Projects under Financial Constraints

Year: 2024

Type: article

Abstract: We consider a procurement auction for the provision of a basic service to which an add-on must later be appended. Potential providers are symmetric, have private information on their cost for the basic service and the winning firm must also implement the add-on. To finance value-enhancing activities related to the add-on, this firm may need extra funding by outside financiers. Nonverifiable effort related to these activities creates a moral hazard problem which makes the firm’s payoff function for the second period concave in returns over the relevant range. Concavity has two effects. First, it makes it more attractive to backload payments to facilitate information revelation. Second, uncertainty on the cost of the add-on introduces a background risk which requires a risk premium. In this context, we characterize the optimal intertemporal structure of payments to the winning firm, equilibrium bidding behaviour and reserve prices for a first-price auction.

Source: The Review of Economic Studies

DOI: 10.1093/restud/rdae106

Authors: M Arve, D Martimort

Institutions: Norwegian School of Economics, Toulouse School of Economics, Université de Toulouse, Université Toulouse Capitole

Language: English

Topic: Auction Theory and Applications

Subfield: Management Science and Operations Research

Field: Decision Sciences

Domain: Social Sciences

Open Access status: hybrid

Estimated APC paid: $6,647

Funder: Agence Nationale de la Recherche