Reverse Dutch Auction
Most of us have had some exposure to auctions, whether through our employment (e.g., bidding on work contracts) or through our personal lives (e.g., shopping at eBay).
A Reverse Dutch Auction has a fundamental difference with the conventional auction that most of us are used to (the English Auction). In an English Auction, buyers openly compete against one another and item being auctioned off goes to the highest bidder. In a Reverse Dutch Auction, the auctioneer sets a high initial price, and then decreases this price at regular increments until the willing buyer is found.
A conventional English Auction typically involves multiple bids before an object is sold. A Reverse Dutch Auction concludes with one single bid.
Reverse Dutch Auctions and Cars
Whether intentional or not, used cars are often sold by way of Reverse Dutch Auction. When first advertising a car for sale, a private owner will typically set an asking price higher than the price he or she ultimately expects to receive. As time passes, the same owner may successively lower the asking price, until a willing buyer is found.
Reverse Dutch Auction Calculator
The Reverse Dutch Auction Calculator is a Discounted Cash Flow (DCF) model that estimates the Internal Rate of Return (IRR) on purchasing and reselling a car (or other object) for a profit. The initial parameters shown in the Excel file assume the following:
A car will be purchased on January 1, 2012 at a cost of $15,000.
The car will be delivered on February 1, 2012, at which time an additional cost of $2,000 will be incurred.
On March 1, 2012, the owner will start to sell the car by way of a Reverse Dutch Auction. The initial asking price for the car will be $30,000 per year. The owner will decrease his price at a rate of $750 per week until a sale takes place.
Weekly advertising costs for the auction will be $50 (until such time as the car is sold).
The owner’s cost of capital (e.g., APR on a credit card) will be 5.0% per annum.
Based on the above assumptions, my model demonstrates that the sale by Reverse Dutch Auction will be profitable if (and only if) the car sells before late-June (at a price between $18,000 and $18,750).
The above result assumes a 5.0%-per-year APR. Hitting the “Calculated” button calculates the Internal Rate of Return (IRR) corresponding to other specific dates of sale. For example, if the car were to sell on May 3, 2008, the owner’s Internal Rate of Return (IRR) will have been 95.9%.