The Effect of Capital Market Concerns on Specific Investments in the Supply Chain

Abstract

The financial market gives significant consideration to the supply chain activities of publicly listed firms, which could in turn use their investments in the supply chain to manage market expectations. We study the effects of the capital market concerns of a publicly traded retailer that collaborates with a privately owned supplier in a supply chain. The firms each undertake a relation-specific investment and then bargain over the joint surplus generated by the collaboration. The retailer's market concerns make it a more aggressive bargainer and increase its ability to obtain a higher share of the joint surplus. The investments of both firms increase with the retailer's market concerns when the retailer's investment is sufficiently important for the collaboration. In this case, the retailer benefits from its market concerns. When the supplier's investment is sufficiently important, both firms invest less, and the retailer suffers as a result of its market concerns. From the perspective of the whole supply chain, the retailer's market concerns could mitigate or exacerbate the hold-up problem between the two firms and thus could be either beneficial or detrimental. In the extension, we also discuss the observability of the firms' investment decisions as well as the case of two symmetric firms that are both publicly traded.

Keywords: hold-up, specific investment incentives, capital market valuation, supply chain

JEL Classification: M40, M21, M11, G30