Subcontracting and Competitive Bidding on Incomplete Procurement Contracts
This paper investigates the cost implications of contractual incompleteness and itse ect on subcontracting decisions in the bridge construction industry. Construction contracts are incomplete because the original blueprints and specications may require modications during construction. According to the transactions cost theory of the rm|Coase (1937), Williamson (1985)|such contract revisions can lead to signicant bargaining and renegotiation costs. Furthermore, theory predicts these costs are larger if a subcontractor performs the work. Forward looking contractors anticipate these costs and incorporate them in their bids. I develop an empirical framework to quantify the impact of incompleteness on cost for both integrated and non-integrated transactions and apply it to 32 bridge contracts procured by the California Depart-ment of Transportation. Contracts contain many work items (e.g. casting concrete,drilling, trac striping). For each item, contractors decide whether to perform work themselves or hire a subcontractor and submit a bid. The di erence between the work item quantity in the original contract and the quantity actually installed after revi-sions proxies for incompleteness. In estimation, I account for the strategic aspects of bidding to recover cost from bids and exploit the panel data structure to account for the endogeneity of subcontracting decisions. On average, incompleteness explains a small portion of cost, 2%, for integrated transactions and a large portion, 13%, for non-integrated transactions. The results provide quantitative evidence in support of in-complete contracting theories of the rm and have practical signicance for evaluating procurement practices.