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Resource accumulation under uncertainty

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The extent to which competing firms use real options is often taken to depend on a trade-off between commitment and flexibility. Consistent with this, the authors start with a simple duopoly model with uncertainty where the equilibrium is either for one firm to commit by making a large preemptive investment or for both firms to preserve their flexibility by exercising the option to wait. They then introduce an assumption that the accumulation of productive resources takes time, which delays firms' response to the resolution of uncertainty. This accumulation lag alters the relative attractiveness of flexibility and commitment. Moreover, a third equilibrium emerges in which the benefit to early investment does not come from commitment, but rather from an initial price premium. As the price premium is endogenous, their model also elucidates the extent to which prices for a new product fall over time.

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