The impact of delivery lags on irreversible investment under uncertainty

We consider the valuation and rational exercise of irreversible investment opportunities in the presence of revenue uncertainty and delivery lags. In order to capture supply side market imperfections in the markets for investment goods, we assume that the lag depends on the revenue process faced by the investor. We show that such imperfections have a pronounced decelerating impact on rational investment demand as they may increase the value of waiting in excess of the exercise payoff even for projects which otherwise would be perceived as highly remunerative. We also consider the comparative static properties of the optimal investment policy and its value, and demonstrate that typically increased uncertainty decreases the investment incentives by increasing the value of waiting. (C) 2002 Elsevier Science B.V. All rights reserved.