Split-award contracts with investment

This paper studies procurement contracts where a buyer can either divide full production among multiple suppliers or award the entire production to a single supplier. We examine the effect of using multiple suppliers on investment incentives. In a framework of generalized second-price auctions with pre-auction investment, we show that the optimality of split-award depends on the socially efficient number of firms at the investment stage. When that number is greater than one, sole-sourcing is buyer-optimal. When that number is one, split-award lowers the buyer procurement cost. ► Split award contracts popular in practice. ► Theory suggests they are inefficient in common scale economy circumstances. ► We show that when investment favors a single supplier, split awards reduce buyer costs. ► Scale economies reduce competition and split awards create artificial competition. ► When there are scale diseconomies, split awards do not help buyer.