Abstract
This paper extends Boyle and Guthrie (2003) to investigate the interdependent effects of asymmetric financing capacities and investment costs on investment timing decisions in a duopoly with a first-mover advantage. We demonstrate several novel findings. First, suffering a significant cost disadvantage, the supplier with a larger financing capacity can still be the leader when the risk of future funding shortfalls is relatively high. Second, a weaker supplier with a significant lower financing capacity and a small cost disadvantage can even be the leader under some degree of the risk of future funding shortfalls. In addition, the weaker supplier that is still more liquidity constrained cannot be the leader anymore as its financing capacity improves and closes to that of the rival. Third, only when the risk of future funding shortfalls is relatively low, small asymmetry of investment costs can make the rival’s preemption threat effective. Finally, higher project return volatility can lead to a change of the supplier’s role from a follower to a leader under some degree of the risk of future funding shortfalls, thereby lowering the supplier’s optimal investment trigger.
Highlights
The finance literature has studied well the separate effects of financing capacities and industry competition on a supplier’s investment decision
We show that a weaker supplier with a significant lower financing capacity and a small cost disadvantage can even be the leader under some degree of the risk of future funding shortfalls
In this paper we investigate the interdependent effects of asymmetric financing capacities and investment costs on optimal investment timing decisions in a duopoly with the first-mover advantage where the two suppliers’ roles in the investment timing game are endogenously determined
Summary
The finance literature has studied well the separate effects of financing capacities and industry competition on a supplier’s investment decision. Employing a leader-follower equilibrium similar to that of Carlson et al (2014), we study the impacts of own and rival’s asymmetric financing capacities on the two suppliers’ roles and decisions in an investment timing game when the two suppliers are subject to asymmetric liquidity constraints and strategically compete to win a first mover advantage of an investment opportunity. Carlson et al (2014) use a similar framework to examine the effects of a supplier’s expansion and contraction options on the risk dynamics of the required returns when there is a rival supplier owning the same rights Compared with these papers, our model contributes to the real options game literature by further taking asymmetric financing capacities between the two suppliers into consideration.
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