Real Options in Strategic Investment Games between Two Asymmetric Firms
33 Pages Posted: 28 Feb 2006
Date Written: March 13, 2006
Abstract
This paper examines strategic investment games between two firms that compete for optimal entry in a project that generates uncertain revenue flows. Under asymmetry on both the sunk cost of investment and revenue flows of the two competing firms, we investigate the value of real investment options and strategic interaction of investment decisions. We provide a complete characterization of pre-emptive, dominant and simultaneous equilibriums by analyzing the relative value of leader's and follower's optimal investment thresholds. In a duopoly market with negative externalities, a firm may prevent loss of real options value by selecting appropriate pre-emptive entry. Under positive externalities, firms do not compete to lead.
Keywords: Real options, strategic investment games, pre-emption
JEL Classification: G31, D81, O31
Suggested Citation: Suggested Citation