Financial Flexibility under Non-Exclusive Lending

This paper studies optimal financial flexibility in debt issuance. A borrower raises funds for an initial investment and may need financing after observing a private liquidity shock. Under non exclusive lending, new lenders price only their claims, so additional borrowing dilutes existing debt and leads to excessive leverage. The optimal simple debt contract is an endogenous debt limit. It captures the intertemporal commitment–flexibility tradeoff: more borrowing today fi nances investment but increases dilution incentives, requiring tighter limits on future borrowing. Richer clauses, including performance-sensitive debt and contingent prepayment provisions, re store the exclusive-lending benchmark by compensating existing lenders when new financing is raised.