Abstract
Using a dynamic model of strategic bargaining between equity and debt holders following default, we analyze the impact of shareholder bargaining power on the investment effects of debt overhang. Our empirical tests utilize a new measure of debt overhang wedge based on default probabilities generated from a hazard model for bankruptcy. Consistent with the theoretical predictions, bondholder (shareholder) ownership concentration ceteris paribus enhances (weakens) the overhang wedge and dampens (increases) capital investment. We identify novel ownership structure related factors in firm-level capital investment and document how post-default shareholder bargaining power alleviates the underinvestment problem caused by debt overhang.
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