Collateral, Renegotiation and the Value of Diffusely Held Debt

Debt with many creditors is analyzed in a continuous-time pricing model of the levered rm. We speci cally allow for debtor opportunism vis-a-vis a non-coordinated group of creditors, in form of repeated strategic renegotiation o ers and default threats. We show that the creditors' initial entitlement to non-collateralized assets will be expropriated through exchange o ers. Exchange o ers successively increase the level of collateral until all assets are fully collateralized. The ex ante optimal debt contract is neither fully collateralized nor without any collateral. Di usely held debt allows for a larger debt capacity and bears lower credit risk premia than privately held debt. We derive simple closed-form solutions for the value of equity and defaultable bonds. Numerical estimates show that the bond valuation is very sensitive to the correct speci cation of the debt renegotiation model. JEL Nos.: G12, G32, G33.