Implications of Breach Remedy and Renegotiation Design for Innovation and Capacity

Erica L. Plambeck () and Terry A. Taylor ()
Additional contact information
Erica L. Plambeck: Graduate School of Business, Stanford University, Stanford, California 94305
Terry A. Taylor: Haas School of Business, University of California, Berkeley, California 94720

Management Science, 2007, vol. 53, issue 12, 1859-1871

Abstract: Amanufacturer writes supply contracts with N buyers. Then, the buyers invest in innovation, and the manufacturer builds capacity. Finally, demand is realized, and the firms renegotiate the supply contracts to achieve an efficient allocation of capacity among the buyers. The court remedy for breach of contract (specific performance versus expectation damages) affects how the firms share the gain from renegotiation, and hence how the firms make investments ex ante. The firms may also engage in renegotiation design, inserting simple clauses into the supply contract to shape the outcome of renegotiation. For example, when a buyer grants a financial "hostage" to the manufacturer or is charged a per diem penalty for delay in bargaining, the manufacturer captures the gain from renegotiation. "Tradable options," which grant buyers the right to trade capacity without intervention from the manufacturer, return the gain from renegotiation to the buyers. This paper proves that, under surprisingly general conditions, the firms can coordinate their investments with the simplest of supply contracts (fixed-quantity contracts). This may require renegotiation design, and certainly requires that the firms understand the breach remedy and set their contract parameters accordingly.

Keywords: renegotiation; bargaining; contract manufacturing; capacity pooling and allocation; renegotiation design (search for similar items in EconPapers)
Date: 2007
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (14)

Downloads: (external link)
http://dx.doi.org/10.1287/mnsc.1070.0730 (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:inm:ormnsc:v:53:y:2007:i:12:p:1859-1871

Access Statistics for this article

More articles in Management Science from INFORMS Contact information at EDIRC.
Bibliographic data for series maintained by Chris Asher ().