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The Effect of Vertical Relationships on Investment Timing

Billette de Villemeur et al. [Billette de Villemeur, E., Ruble, R. and Versaevel, B. [2014] Investment timing and vertical relationships, Int. J. Industrial Organization 33, 110–123] discuss the case of a firm undertaking a project in order to serve an uncertain demand. They show that when the investor requires an outside supplier with market power to provide it with a discrete input the investment occurs too late from an industry stand point. In this paper, we extend their work assuming that the input production cost is also uncertain. We show that upstream market power results in dynamic inefficiency also in our framework. We also demonstrate how this inefficiency is affected by the correlation between the two stochastic terms.