Synergies in Recurring Procurement Auctions: An Empirical Investigation

By De Silva, Dakshina G. | Economic Inquiry, January 2005 | Go to article overview

Synergies in Recurring Procurement Auctions: An Empirical Investigation


De Silva, Dakshina G., Economic Inquiry


I. INTRODUCTION

This study empirically investigates the impact of potential synergies and competitive advantages on bidder behavior in recurring auctions of road construction contracts held by the Oklahoma Department of Transportation (ODOT) from January 1997 to August 2000. In this study, synergies are defined as complementarities associated with winning an additional project(s) in a particular geographic area. Furthermore, a firm's valuation of a project may depend on competitive advantages associated with its familiarity with local market resources and with inherent firm efficiencies. The first two advantages are crucially correlated to geographical space.

When projects are irregularly dispersed and recorded as points in the landscape, it is more difficult to define a set of "influential" neighboring projects. Therefore, spatial relationships that reflect a decaying distance between points or locations identified by latitudes and longitudes are often assumed to be appropriate. Moreover, firms bidding for different projects in different regions face different weather conditions and labor, transportation, and material costs. When empirical studies cannot control for such variables, paying attention to spatial dependence allow researchers to capture these information in the residuals. Thus, when there is a correlation among projects due to location (spatial correlation), ignoring the spatial interdependence of projects is like ignoring the sequential ordering in time-series studies.

Each year, federal and state agencies initiate numerous auctions of contracts that are spatially correlated. (1) An understanding of these spatial correlations could help state and federal governments sequence auctions of related projects more efficiently. This understanding is also beneficial to bidding firms, enabling them to take advantage of the synergies and economic advantages.

Only recently have equilibrium models appeared in the literature on recurring auctions. Two concerns in recurring auctions are bidders' extraction of synergies between goods and the enhancement of efficiency in distribution of goods (McMillan 1994, Cramton 1997). Motivated by these concerns, Krishna and Rosenthal (1996) and Branco (1997) show that in recurring auctions, bundle bidders who bid on multiple objects bid more aggressively than unit bidders who bid on a single object. Jeitschko and Wolfstetter (2002) have described bidding behavior in first-price sealed-bid ascending recurring auctions and show that bidders who have previously won may experience the potential synergies in subsequent auctions.

Empirical research on synergies in auctions is scarce. Gandal (1997) shows that complementarities associated with winning multiple projects in a particular geographic area enhanced the values of neighboring CATV licenses in major metropolitan areas in Israel. Ausubel et al. (1997) show that there are geographic synergies associated with winning multiple adjacent licenses in spectrum license auctions in the United States. (2) Rusco and Walls (1999) show that in repeated spatially correlated timber auctions, bidders with complementarities associated with winning multiple projects bid more aggressively. Jofre-Bonet and Pesendorfer (2000a,b) use data from repeated highway construction procurement auctions to show that the distance between firms and projects have a negative impact on the submission and value of bids. In addition, they have shown that capacity unconstrained bidders (bidders with low backlogs) are more likely to submit a bid and to bid more aggressively than are bidders with high capacity constraints. Porter and Zona (1999), in their study of dairies bidding for contracts to supply milk, and Bajari (2001), in his study of highway construction firms bidding for procurement contracts, have also shown that location plays a major role in a firm's bidding behavior when collusion between firms is present.

In this study, I examine bidders' behavior in recurring auctions of road construction contracts held by ODOT between January 1997 and August 2000 to determine whether they have been affected by the potential synergies and competitive advantages (or no advantages).

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