Coinvestment games under uncertainty

Abstract

There are many business situations in which investments by a supplier and a producer (“coinvestments”) are both necessary for either of them to grasp a business opportunity. For instance, better quality tanks are needed to manufacture reliable hydrogen-powered vehicles. One of these two firms may be more willing to invest, but the cautionary attitude of the other delays the coinvestment. We model supply-chain interactions in a classical tractable way to derive the firms' net present values (NPVs) upon coinvestment and determine their Nash equilibrium investment (timing) strategies. Firms coinvest when the real option of the weaker firm is ‘deep in the money.’ These business situations are likely to be affected by evolving market circumstances, in particular due to changes in the demand dynamics or endogenous decision (by, say, the supplier) to conduct research and development (R&D). We investigate related model extensions, which confirm the robustness of our key result.