Game theoretic analysis of negotiations under bankruptcy

We extend the contingent claims framework for the levered firm in explicitly modeling the resolution of financial distress under formal bankruptcy as a non-cooperative game between claimants under the supervision of the bankruptcy judge. The identity of the class of claimants proposing the first reorganization plan is found to be a key determinant of the likelihood of liquidation and of the renegotiated value of claims. Our quantitative results confirm the economic intuition that a bankruptcy design must tradeoff the initial priority of claims with the viability of reorganized firms.