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.

Bidding for Conservation Contracts

“…Provision of good 2 requires the seller to keep L in its current pristine state, as well as to undertake on-site activities a¤ecting the service (quality or quantity) level. 9 Letting g denote the service level, the per-unit-of-time direct cost of conservation practices is given by c(g; i ), which is strictly increasing and convex in g, and decreasing in i (c g > 0; c gg > 0, c 0). We also assume that c g < 0 and we exclude the presence of …xed costs, c(0; i ) = 0.…”

“…195-199). 9 We are setting our focus on contracts proposed to agents holding land which is still in its pristine state. Conservation programs usually labelled as Payment for Ecosystem Services (PES) …t within this category.…”

“…1 8 Note, however, that the model can be easily extended, to include a probability-based penalty for early exit, provided the expected penalty for breach does not exceed the seller's outside option value (see Dosi and Moretto, 2013). 1 9 Notice that if, in the event of early exit (Ti < T ), the buyer imposed the repayment of the whole funds already paid:…”

“…Second, public procurement regulations or general legal principles may limit the freedom to stipulate penalties for contract breach (Dosi and Moretto, 2013). For example, under the Common Law of Liquidated Damages, payments for breach, even though mutually agreed, can be subsequently voided (in part or in their entirety) by courts if it appears that they were designed to be a deterrent rather a reasonable pre-assessment of damages that could be su¤ered in the event of breach (DiMatteo, 2001).…”

“…Within this literature, most papers have focussed on the e¤ects of managerial ‡exibility upon the ex-post value of the project to the seller, by overlooking the feedback e¤ects of ‡exibility on bidding behavior (see, for example, Ford et al One of the few exceptions is the paper by Dosi and Moretto (2013) that studies the e¤ects of the buyer's inability to enforce compliance with delivery schedules on competitive bids for public works. The authors, however, limit their analysis to homogeneous projects, where bidding is restricted to the price dimension.…”