Title:A Game Model of Irreversible Investment under Uncertainty

Authors: Pauli Murto and Jussi Keppo

Date: December 2002

Status: International Game Theory Review, Vol. 4, No. 2, 2002, pp. 127-140.

Keywords: real options, irreversible investment, game theory, uncertainty, telecommunication

Most of the literature on real options considers the optimal decision of a firm in isolation from competitors. In reality, however, the actions of competing firms often affect each other's investment opportunities. We develop a game model where many firms compete for a single investment opportunity. When one of the firms triggers the investment the opportunity is completely lost for the other firms. The value of the project for the firms is assumed to follow a geometric Brownian motion. The model combines game theory and the theory of irreversible investment under uncertainty. We characterize the resulting Nash equilibrium under different assumptions on the information that the firms have about each other's valuations for the project. As an example, we present a case of building a telecommunications network.