Piecewise Procurement of a Large-Scale Project

This paper studies the optimal procurement of a large-scale project. The project consists of several subprojects to be procured in a predetermined order and yields its full return upon completion. In the unique Markov perfect equilibrium of the dynamic procurement game, I find that: (1) Even though the procurer lacks long term commitment power, both the procurer and suppliers strictly prefer the project to move forward; (2) unlike the static setting, the procurer’s optimal strategy depends on the number of suppliers and more importantly, it is nonmonotonic. As one more supplier participates in the procurement auction, the procurer softens competition in the initial stages by including more cost “types” while increasing competition in the mature stages, (3) this, in turn, implies that existing suppliers might favor participation of additional suppliers, and actively search for new bidders along with the procurer, and (4) absent the scheduling and resource constraints, the procurer would prefer to procure the project as one piece if the suppliers’ technology exhibited constant or increasing returns, and no additional suppliers were attracted to bid. This rationalizes the frequent division of large-scale projects on the grounds of either decreasing returns to scale technology, e.g., capacity constraints, or enabling smaller firms to enter the bidding process. I also demonstrate that the optimal dynamic mechanism can be easily implemented via a sequence of dominant strategy auctions of the Vickrey type.