The authors present a model of a financially distressed firm with outstanding bank debt and public debt. Coordination problems among public debtholders introduce investment inefficiencies in the workout process. In most cases, these inefficiencies are not mitigated by the ability of firms to buy back their public debt with cash and other securities–the only feasible way that firms can restructure their public debt. The authors show that Chapter 11 reorganization law increases investment and they characterize the types of corporate financial structures for which this increased investment enhances efficiency.

We present a model of a financially distressed firm with outstanding bank debt and public debt. Coordination problems among public debtholders introduce investment inefficiencies in the workout process. In most cases, these inefficiencies are not mitigated by the ability of firms to buy back their public debt with cash and other securities--the only feasible way that firms can restructure their public debt. We show that Chapter 11 reorganization law increases investment and we characterize the types of corporate financial structures for which this increased investment enhances efficiency.

We present a model of a financially distressed firm with outstanding bank debt and public debt. Coordination problems among public debtholders introduce investment inefficiencies in the workout process. In most cases, these inefficiencies are not mitigated by the ability of firms to buy back their public debt with cash and other securities‐the only feasible way that firms can restructure their public debt. We show that Chapter 11 reorganization law increases investment, and we characterize the types of corporate financial structures for which this increased investment enhances efficiency.

We examine the investment behavior of firms before and after being spun off from their parent companies. Their investment after the spin‐off is significantly more sensitive to measures of investment opportunities (e.g., industry Tobin's Q or industry investment) than it is before the spin‐off. Spin‐offs tend to cut investment in low Q industries and increase investment in high Q industries. These changes are observed primarily in spin‐offs of firms in industries unrelated to the parents' industries and in spin‐offs where the stock market reacts favorably to the spin‐off announcement. Our findings suggest that spin‐offs may improve the allocation of capital.