Strategic capacity expansion under a potential entry threat

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Abstract

This paper examines strategic investment decisions on capacity expansion in the presence of a potential entry threat. The model derives an equilibrium investment strategy on expansion thresholds and scales and evaluates the strategic value of the capacity expansion. It demonstrates that an incumbent firm expands its production capacity by strategic incentive to deter a potential competitor's market entry and prolong its period of monopoly. The results suggest that the strategic value of the expansion is high enough to induce the incumbent firm to undertake the capacity expansion that generates negative cash flows in the future as a stand-alone project.

Original languageEnglish
Pages (from-to)157-177
Number of pages21
JournalInternational Review of Economics and Finance
Volume38
DOIs
Publication statusPublished - 2015 Jul 1
Externally publishedYes

Keywords

  • Capacity expansion
  • Real options
  • Strategic incentive

ASJC Scopus subject areas

  • Finance
  • Economics and Econometrics

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