Default, Restructuring and Bankruptcy

A company misses a bond payment. What happens next is not chaos — it's a slow, heavily lawyered process with a predictable shape, and understanding that shape is most of what "credit analysis after default" actually means. Default itself is just the trigger; bankruptcy is the machinery that decides, methodically, who among the company's creditors and owners gets what's left.

From default to a filing

A default (missing an interest or principal payment, or breaching a loan covenant) doesn't automatically mean the company disappears. Often there's a grace period and attempts at an out-of-court restructuring — creditors agreeing to extend maturities or swap debt for less debt, avoiding court entirely because it's faster and cheaper. When that fails, the company (or in rarer cases its creditors) files for bankruptcy protection, which in the U.S. usually means Chapter 11 (reorganization: the company keeps operating while it restructures its debts under court supervision) or Chapter 7 (liquidation: the company's assets are sold off and it ceases to exist).

Who gets paid, and in what order

Bankruptcy law imposes a strict pecking order on claims: secured creditors (holding specific collateral) get paid first from that collateral, then unsecured creditors in order of contractual seniority, then preferred shareholders, and common equity holders last — only if anything remains. In practice, for a company that's actually gone bankrupt, equity is very often wiped out entirely, and even senior unsecured creditors frequently recover only cents on the dollar, paid partly in cash and partly in new securities (new stock or new bonds) of the reorganized company.

A concrete example

Suppose a company has $500m of senior secured debt, $300m of senior unsecured debt, and $200m of subordinated debt, and its assets are ultimately valued at $600m in the reorganization. The secured creditors are made close to whole (say $480m of the $500m, since their collateral covers most of it). The remaining $120m of value is split among the senior unsecured claims first — they might recover $120m against their $300m claim, a 40% recovery — leaving nothing at all for the subordinated debt or the equity, both of which are wiped out.

What this means in practice

The bankruptcy process is why credit investors watch recovery rates, not just default rates: two bonds with identical probability of default can be worth very different amounts depending on where they sit in the capital structure and what the underlying assets are worth. Distressed-debt investors specifically buy claims after default, betting on how the reorganization will ultimately value and distribute the company's assets — a bet on the bankruptcy process itself, not on the company's future operations in the way an equity investor would think about it.