Investment and Exit Under Uncertainty with Utility from Anticipation

Abstract

This paper explores investment and exit decisions under uncertainty when the entrepreneur has anticipatory utility, which leads to the time‐inconsistency problem. Our model predicts that anticipatory utility has ambiguous effects on the investment strategy, which depends on the form of the project’s payoff. Under a lump‐sum payoff, an entrepreneur with anticipatory utility will under‐invest. However, she prefers over‐investing if the project delivers a flow payoff. Moreover, the model predicts that an entrepreneur with anticipatory utility is more reluctant to abandon an existing project. Finally, our model provides theoretical support and alternative explanation for the empirical evidence that people procrastinate to terminate projects from the perspective of time‐inconsistent preferences.