Opportunistic underinvestment in debt renegotiation and capital structure

Yaacov Z. Bergman*, Jeffrey L. Callen

*Corresponding author for this work

Research output: Contribution to journalArticlepeer-review

69 Scopus citations

Abstract

This paper models debt renegotiation as a bargaining game between debtholders and shareholder-oriented management, in which management credibly threatens to run down firm assets to force concessions from the creditors. Creditors anticipate this opportunistic behavior by management, creating an upper bound on debt capacity that is less than the value of the firm. If an advantage to debt is introduced, such as favorable tax treatment, an interior optimal capital structure obtains even in the absence of realized bankruptcy costs. Our model also explains variations in debt-equity ratios and the use of certain puzzling debt covenants.

Original languageEnglish
Pages (from-to)137-171
Number of pages35
JournalJournal of Financial Economics
Volume29
Issue number1
DOIs
StatePublished - Mar 1991
Externally publishedYes

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