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Optimal default and liquidation with tangible assets and debt renegotiation

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  • Makoto Goto
  • Teruyoshi Suzuki

Abstract

We propose a pricing model for corporate securities issued by a levered firm with the possibility of debt renegotiation, where the firm's earnings follow a geometric Brownian motion with stochastic collaterals. While equity holders can default the firm when the earnings become insufficient, they may liquidate it by repaying the face value of debt when the value of collaterals becomes sufficiently high. Unlike the existing models, the bivariate structure enables us to distinguish strategic default, liquidity default and ordinary liquidation, which makes the contribution of strategic debt service to credit spreads lower than that obtained in the previous models.

Suggested Citation

  • Makoto Goto & Teruyoshi Suzuki, 2015. "Optimal default and liquidation with tangible assets and debt renegotiation," Review of Financial Economics, John Wiley & Sons, vol. 27(1), pages 16-27, November.
    • Handle: RePEc:wly:revfec:v:27:y:2015:i:1:p:16-27
    DOI: 10.1016/j.rfe.2015.07.001
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    References listed on IDEAS

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