Procurement with Unenforceable Contract Time and the Law of Liquidated Damages

Abstract

Time overruns are common in public works and are not con…ned to inherently complex tasks. One explanation advanced in this paper is that bidders can undergo unpredictable changes in production costs which generate an option value of waiting. By exploiting the real-option approach, we examine how the inability to force sellers to meet the contract time in ‡uences their bidding behaviour, and how this can ultimately a¤ect the parties' expected payo¤s. Further, we examine the outcome of the bidding process when legal rules prevent the promisee from contracting for damage measures which would grant more than her lost expectation. We show that when the pre-agreed compensatory payments prove insu¢ cient to discourage delayed orders, setting a liquidated damages clause would not lead to a Pareto superior outcome with respect to the no-damage-for delay condition. While such a clause would increase the seller's expected payo¤, the buyer's expected payo¤ is lower than when the contract does not provide for any compensation for late-delivery.

Cost Uncertainty and Time Overruns in Public Procurement: A Scoring Auction for a Contract with Delay Penalties

“…Given the monotonicity property of the scoring rule, this means that the auction leads to an equilibrium where the contract winner generates the highest potential social welfare in equilibrium (ex-ante efficiency). Second, similarly to Dosi and Moretto (2015), we find that all bidders tend to anticipate the possibility of ex-post revisions of the reported trigger value, by incorporating in the bid price the maximum foreseeable damages for breach of contract (  ).…”

“…However, our results could be extended to the case where penalties are collected during the breaching period. 12 Since…”

“…17 In fact, since Σ(  ) We now look more in detail at the impacts upon the individual expected payoffs, by decomposing the parties' joint gains into the buyer's and the supplier's surplus. By (12), the supplier's expected profit is given by:…”

“…For instance, Triantis and Triantis (1998), using as we do in this article a real options approach, show that when the costs of performance to the promisor and the value to the promisee are volatile and uncorrelated, limiting a promisee's recovery to his lost expectation can fail to lead to an efficient outcome because this does not allow to fully internalize the cost of breach to the other party. In a different vein, Dosi and Moretto (2015) argued that the literature, by mostly focussing on bilateral negotiations, has somehow overlooked the indirect effects of damages clauses on competitive bids for contracts. They restrict their analysis to a price-only auction and, by assuming that it is always in the procurer's interest having the task performed as soon as possible, show that an expectation damages stipulation does not necessarily lead to a Pareto superior outcome.…”

Termination Fees and Contract Design in Public-Private Partnerships

“…More specifically, the first line in (18) shows that, as pointed by Kruse and Strack, the information rents can be determined by calculating the expected present value of all future cash flows the contractor would loose by keeping x t below x τ . Notice, however, that since in our framework the contractor also benefits of an exit option, the information rents (i.e.…”