takes place under symmetric information and is efficient.
Thus, the timing of moves is as follows: (i) at date 0. firm ownership is determined: (ii)
at date 1. employee(s) make human capital investments which generate uncertain values:
(iii) at date 2. the uncertainty is resolved and the parties bargain over the price of the
service: (iv) at date 3. the service is provided.
Obviously, a key question is how bargaining works in our model? A natural and often
used bargaining solution for multilateral bargaining problems is the Shapley value3. This
is the solution we shall adopt when there is no competition between employees. Unfortu-
nately. however, the Shaplej' value does not adequately reflect the out∞me of competition
among employees. Therefore we consider an alternative bargaining solution based on the
so called “outside option principle’’ (see Binmore, Rubinstein and Wolinsky, 1986) when
we consider situations where two or more employees compete with each other4.
To see why the Shapley value is not an entirely satisfactory' solution consider the sit-
uation where two identical employees compete for a single customer. In such a situation
competition à la Bertrand between the employees would lead to a surplus division where
the customer gets the whole net surplus v. But the Shaplej- value in this case is jv for
the customer and ∣v for the employees.
Given that we consider bargaining situations involving up to four or more parties (two
or more employees, one customer and one outside owner) we cannot Unfortunateh- use an
"off the shelf bargaining-with-outside-options-solution. since such a solution is simply
not available in the bargaining literature. We are therefore led to specify very simple
extensive form bargaining games which capture the logic of the outside option principle.
In all these games the weakest partv- (with no outside option) is assumed to make a
take-it-or leave-it offer to the other parties. The other parties can accept or reject. If
one of them rejects either the game ends or bargaining proceeds to another stage, where
another party is selected to make a take-it-or-leave-it offer. We shall allow for at most
two stages in all the bargaining games we consider.
While the rules of these bargaining games may appear somewhat arbitrary' they have the
virtue of keeping the analysis of bargaining as simple as possible. Moreover, the solution
of these games capture in a simple way the logic behind the outside option principle: when
the weakest party makes the takc-it-or-leave-it-offer it can hold the other parties down to
3This is the bargaining solution adopted in Grossman and Hart (1986). Hart and Moore (1990) and
Rajan and Zingales (1996) to mention just a few papers where this solution is adopted.
4A number of papers have considered multilateral bargaining solutions based on the ouUide option
principle. See in particular Bolton and Whinston (1993). and de .Meza and Lockwood (1996).