Competition and irreversible investments under uncertainty

We examine the effect of competition on investment decisions in an industry in which each firm has a completely irreversible investment opportunity and the product market has positive externalities for a small market size and negative externalities for a large market size. In the latter case, which corresponds to the traditional competitive industries, firms invest sequentially as market profitability develops. In the former case, which corresponds to industries in which investment is mutually beneficial, firms invest simultaneously after the market’s profitability has developed sufficiently to gain all network benefits and to recover the option value of waiting. These extensions of a ‘‘real options” analysis may help explain rapid and sudden developments such as recent Internet investment, or explain the late take-off phenomenon of prolonged start-up problems, such as the case of fax machine production. 2007 Elsevier B.V. All rights reserved. JEL classification: C61; D81; G31