Real options in an asymmetric duopoly: who benefits from your competitive disadvantage?

This paper analyzes the impact of investment cost asymmetry on the optimal real option exercise strategies and the value of firms in duopoly. Both firms have an opportunity to invest in a project enhancing (ceteris paribus) the profit flow. We show that three types of equilibrium strategies exist. Furthermore, we express the critical levels of cost asymmetry delineating the equilibrium regions as functions of basic economic variables. The presence of strategic interactions among the firms leads to counterintuitive results. First, for a certain range of the asymmetry level, a marginal increase in the investment cost of the firm with the cost disadvantage can enhance this firm's own value. Moreover, such a cost increase can reduce the value of the competitor. Finally, we discuss the welfare implications of the optimal exercise strategies and show that the presence of identical firms can result in a socially less desirable outcome than if one of the competitors has a significant cost (dis)advantage

R&D Investments with Competitive Interactions

In this article we develop a model to analyze patent-protected R&D investment projects when there is (imperfect) competition in the development and marketing of the resulting product. The competitive interactions that occur substantially complicate the solution of the problem since the decision maker has to take into account not only the factors that affect her&his own decisions, but also the factors that affect the decisions of the other investors. The real options framework utilized to deal with investments under uncertainty is extended to incorporate the game theoretic concepts required to deal with these interactions. Implementation of the model shows that competition in R&D, in general, not only increases production and reduces prices, but also shortens the time of developing the product and increases the probability of a successful development. These benefits to society are countered by increased total investment costs in R&D and lower aggregate value of the R&D investment projects. Copyright 2004, Oxford University Press.

Sale before Completion of Development: Pricing and Strategy

The paper examines the risk-and-return characteristics of a popular development strategy, the presale system (or sale before completion), used in many Asian cities. We model a presale decision in a real-options framework and suggest that the use of presale is primarily for a risk-sharing purpose. That is, developers can reduce bankruptcy and marketing risks by selling (or leasing) their projects before their completion dates. Our model also indicates that, because of the presale system, there is a barrier for new developers to enter into a market, which helps explain the anecdotal observation that most real estate markets in Asian cities are oligopolistic in nature and dominated by large developers. Copyright 2004 by the American Real Estate and Urban Economics Association