Reserve Price

Reserve price refers to the minimum price at which the seller of an item is ready to sell in an auction, below which he is not obliged to accept the deal. In the case of such bidding, suppose their reserve or reservation price did not meet in the auction; the seller is not bound to sell the item. This price is undisclosed to the potential bidder during the auction process.

It is the most common in the case of the item auction by the seller to the potential bidders. It is the minimum price during the auction process of an item for sale at which the seller of the said item is ready to sell it. If there is no bidding at a price equal to or higher than the reservation price, then the seller is not obliged to complete the deal, and he can reject the deal even to the highest bidder among all.

• Reserve price means the minimum price at which the item seller is willing to sell in an auction and is not obliged to conduct the deal at the below prices. 
• The primary objective of the reserve price is to protect the seller's interest, where they will not be obligated to sell at a price lower than the reserve price.
• The reserve price concept could be more appealing from the buyer's perspective since they may lose the bargain, and the auction may be unsuccessful, wasting their time and money.

Reserve price can be any minimum price below the seller is not ready to sell his product to potential buyers. Generally, it is hidden from the potential buyers until the seller decides to disclose the same. On the one hand, it protects the seller against the unfavorable outcome as it is not compulsory for the seller to execute the deal if the bidding ends at a lower price than the reserve price.

The reference price in auction is the price at which an asset or property is sold. In the process, the interested buyers bid for the asset in question and there comes a point where there is no possibility for buyers and respective sellers to negotiate any further. That becomes a walk-away point of the process.

From the buyer’s perspective, the concept is not attractive because with this, they might lose the bargain deal, and there are chances that the auction will go unsuccessful, leading to wastage of their time and money.

If any items are to be sold by way of the auction, the seller can ask to keep the minimum price at which he can sell the object, known as the reserve price (excluding the cases of no reserve auction). The auction firm will keep the item’s reserve price at the seller’s request. That will generally be the hidden price except when the seller is ready to disclose the same to the potential buyers.

If the highest bidding exceeds the reserve price during the bidding process, the auction will execute the deal between the seller and the highest bidder. In this case, the seller is bound to complete the pact. However, if the highest bidding does not exceed the reserve price, the seller is bound to complete the deal, and if the seller does not accept the agreement, it will not execute.

Its main purpose is to safeguard the seller’s interest, where it will not be bound to sell its item at a lower price than the reserve price. So, if the seller gets the last bidding, which is less than the maintained reserve price, he is not obliged to execute it. Instead, he may reject, and the deal will be closed in that case.

Let us consider the instance below to understand the concept and check how it works in auction:

There was an auction to sell some of the items. During the process, the firm appointed as the auction firm sets the item's reserve price to be $500,000 with consultation with the item's seller. As this price is hidden from the potential bidders, this price is undisclosed to anyone. The opening bidding price was $300,000. During the auction process, the highest bidding by one of the persons was $450,000. But the seller disagrees with selling the same at this price. Is the seller bound to sell?

The auction firm of $500,000 sets the present case. If all bids are less than the reserve price, then the item's seller is not under any compulsion to execute the deal. So, if the seller disagrees with the agreement, it will end without execution.

Reserve price is the minimum price that helps the minimum standards of a bidding process. It is an important price that must necessarily be determined before carrying out the auction prices. There are several different advantages of these prices. Let us have a look at some of them:

• A reserve price during the auction process safeguards the owner's interest from getting a lower price against his item. That is so because in case even the highest bidding is less than the reserve price, then the seller is not under any compulsion to execute the deal.
• It is undisclosed to the potential bidder. It does not impact the bidding process and amount. However, one can reveal the same if the seller wants on his wish or with the potential bidders' requests.

Now when the advantage of determining these prices is known, let us check out the limitations of them in brief. Following are the disadvantages to look at:

• From the buyers' perspective, it might not be a good concept because it reduces the chances of buyers getting low prices or bargaining the deals. Hence, it will not benefit them to a great extent.
• As it is not compulsory to disclose the reserve price well before starting the auction process, the buyers are unaware of this price. Due to this, even if a person bids the highest among all the potential bidders, he might not get the deal if the price is less than the reserve price. So, due to this uncertainty, many prospective buyers will not participate in the agreement as they might find it a waste of their time and money.
• It is not the same for every bidding process. So, the bidder has to read the terms and conditions thoroughly at the time of each such bidding.

Reserve price and starting price or starting bid are two terms that are widely used in the process of auction. However, they share a set of dissimilarities that one must be aware of:

• While reserve price is the price set as minimum expected amount for the process, the starting bid or price is the amount with which the auction process begins.
• The reserve price is a confidential figure that sellers select to agree to the deal. This means the bidders must state that amount or exceed it to buy the property or asset in question. On the contrary, the starting price is the amount at which the auction starts and hence, it is made public through an announcement.

Besides the reserve and starting prices, another figure that plays a significant role in the auction process is the guide price. The reserve price also shares differences with the guide price, which include the following:

• As the name suggests, a guide price is only a clue about the price at which the sellers are willing to sell the asset or property. On the other hand, the reserve price is a decided figure at which or beyond which the deal is to be finalized by the sellers and buyers.
• While the guide price is just an estimate, a reserve price is the actual minimum figure that the seller would accept for the property in question.
• Guide price only guides the buyers so that they get to the reserve price easily.

This article has been a guide to Reserve Price and its definition. Here, we explain the concept along with vs starting bid, vs guide bid, and examples. You can learn more about financing from the following articles: -

• What is Share Market?
• Bid vs. Offer Price
• OTC Market
• Formula for Bid Ask Spread
• Loss Aversion Bias