Resolution of Financial Distress Under Chapter 11
Posted: 19 Sep 2012
Date Written: January 1, 2012
Abstract
We develop a contingent claims model for a firm in financial distress with a formal account for renegotiations under the U.S. bankruptcy procedure (known as Chapter 11). Shareholders and two classes of creditors (senior and junior) alternatively propose a reorganization plan subject to a vote. The bankruptcy judge can intervene in any renegotiation round to impose a plan. The multiple-stage bargaining process is solved in a non-cooperative game-theory setting. The calibrated model yields the liquidation rate, the duration of Chapter 11 and the frequency of deviations from the Absolute Priority Rule, which are consistent with empirical evidence.
Keywords: Credit risk, Chapter 11, Game theory, Dynamic programming
JEL Classification: C61, C7, G33, G34
Suggested Citation: Suggested Citation
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