Timing of Auctions of Real Options
39 Pages Posted: 9 Sep 2012 Last revised: 9 Oct 2017
Date Written: April 1, 2017
This paper endogenizes auction timing and initiation in auctions of real options. Revenue-maximizing timing deviates from welfare-maximizing or bidders' preferred timing because the information rent the seller pays makes her face a "virtual strike price'' higher than the option exercise cost. The irreversible nature of time endows a seller potential control over the winning bidder's eventual option exercise. As long as she does not strongly prefer early exercise, she inefficiently delays the auction; otherwise auction timing is efficient, but option exercises are always inefficiently delayed. When the seller lacks commitment to auction timing and offer finality, bidders always initiate in equilibrium regardless of the divergence in their and the seller's preferred option exercise. The model also predicts that bidder initiation corresponds to faster option exercise, consistent with empirical evidence from the selling and drilling of oil and gas tracts.
Keywords: Real Options; Auctions; Initiation; Optimal Stopping; Security Bids; Mechanism Design
JEL Classification: D21; D23; D44; D82; L26
Suggested Citation: Suggested Citation