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Auctioning Long-Term Projects under Financial Constraints

Author

Listed:
  • Malin Arve

    (NHH - Norwegian School of Economics and Business Administration, Department of Economics - Norwegian School of Economics and Business Administration)

  • David Martimort

    (TSE-R - Toulouse School of Economics - UT Capitole - Université Toulouse Capitole - UT - Université de Toulouse - EHESS - École des hautes études en sciences sociales - CNRS - Centre National de la Recherche Scientifique - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement)

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 cost-reducing activities related to the add-on, this firm may need extra funding by outside financiers. Non-verifiable effort in reducing these costs creates a moral hazard problem which makes the firm's payoff function for the second period concave in returns over the relevant range. This concavity has two effects: It makes it more attractive to backload payments to facilitate information revelation and 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 behavior and reserve prices in the first-price auction with bidders.

Suggested Citation

  • Malin Arve & David Martimort, 2024. "Auctioning Long-Term Projects under Financial Constraints," Working Papers hal-04773728, HAL.
    • Handle: RePEc:hal:wpaper:hal-04773728
    Note: View the original document on HAL open archive server: https://hal.science/hal-04773728v1
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