Lease auctions with retention options

Abstract

When a lease expires, the lessor can choose between auctioning it and offering the retention option to the current leaseholder. In the latter case, the leaseholder gets the opportunity to retain or renew the lease by paying the retention price, as decided by the lessor. However, if a leaseholder declines the retention option, the concerned lease is re-allocated via auction. This study compares a lessor’s revenue when it offers the retention option against that when it does not. Retention options prompt academic interest as they are often used to allocate coal, oil, and other mines. They are also used to assign players’ services in sports tournaments like the Indian Premier League (IPL). We study three game-theoretic models with varying assumptions (number of leases, complete/incomplete information, etc.) to achieve the aforementioned objective. In each game, we find the leaseholder’s equilibrium retention strategy and lessor’s expected revenue. We find that retention options help increase the lessor’s revenue when competition among the leaseholder is low. Otherwise, auctioning the leases fetches more revenue.