Bank Priority and Strategic Debt Restructuring

I analyze how bank priority affects distressed debt restructurings. The model assumes that the firm has two types of creditors (a bank and a non-bank lender) and can be liquidated/ restructured at two dates. If covenants are violated, the bank has the option to intervene immediately (early liquidation or bilateral renegotiation with the firm) or to delay its intervention (with the perspective of late liquidation or multi-creditor renegotiation). In this dynamic restructuring framework, I show how conflicts between creditors of different priorities affect the order and the form of debt restructuring and how a distressed firm can benefit from playing one class or creditor against another (senior vs. junior) to minimize its own concessions. Depending on its initial debt structure and its expected quality, the distressed firm can benefit or suffer from a debt structure with a senior bank and bank priority can increase or decrease the bank's incentive to monitor.