Debt valuation, renegotiation, and optimal dividend policy

The valuation of debt and equity, reorganization boundaries, and firm's opt imal dividend policies are studied in a framework where we model strategic interactions between debt holders and equity holders in a game-theoretic se tting which can accommodate varying bargaining powers to the two claimants. Two formulations of reorganization are presented: debt-equity swaps and st rategic debt service resulting from negotiated debt service reductions. We study the effects of bond covenants on payout policies and distinguish liqu idity-induced defaults from strategic defaults. We derive optimal equity is suance and payout policies. The debt capacity of the firm and the optimal c apital structure are characterized.