Looking for the exit.
Hertz Global Holdings, in a filing Thursday, asked the court overseeing its Chapter 11 bankruptcy reorganization to authorize a stunning plan to raise $1 billion by selling 246.8 million new shares.
“It’s bananas,” says Matthew Cavenaugh, a bankruptcy attorney with Jackson Walker, who has no involvement in the case. “The whole concept of funding a Chapter 11 through an equity raise, in the first month, in this unprecedented environment, strikes me as ludicrous.”
This is because by almost any stretch of the imagination, shares in Hertz should already be considered worthless — with equity holders so far down the totem pole that they would be foolish to believe a Hertz reorg would leave them with any value whatsoever.
But don’t tell that to retail investors who have inexplicably piled into Hertz since its May 22 bankruptcy filing, driving up the share price from 56 cents to as high as $5.53 earlier this week. In after-hours trading last night the stock has shot up nearly 50% to $3.
It’s “a unique opportunity,” according to the Hertz court filing, “to raise capital on terms that are far superior to any typical debtor-in-possession financing.” Typically, when bankrupt companies need to raise cash to get them through a restructuring, the funds come with high borrowing costs. But issuing new stock, says Hertz in the filing, would not impose restrictive covenants, would not impair any of the creditors, and would carry no repayment obligations, “and the Debtors would not pay any interest or fees to those who provide the funding by buying shares at the market.”
Hertz is essentially saying that if morons are offering free money, why not take it? Bondholders will still end up taking over anyway. “Caveat emptor,” says Jeff Anapolsky, managing director of Crossroads Strategic Advisors and co-author of The Art of Distressed M&A: Buying, Selling and Financing Troubled and Insolvent Companies. “While Hertz common stock may be an interesting gamble, it’s not a good investment.” With $2.7 billion of Hertz senior notes trading in the 30s, even raising $1 billion will not make the creditors whole, explains Anapolsky: “If the value of Hertz is less than the amount of the debt, then the creditors are likely to receive the new equity in the reorganized company, leaving the old equityholders with nothing.”
There’s very little precedent for this kind of move, says Anapolsky, and long-running debate as to whether exchanges and regulators should allow shares of insolvent companies to continue trading in bankruptcy. Is it too much mothering to prevent companies from baiting naive millenials — on new day-trading platforms like Robinhood — into handing over free money?
How can we be so sure that Hertz stock will end up worthless? Look at the capital structure. According to court filings the bankruptcy of Hertz Global Holdings involves $2.7 billion in debt (its $14.5 billion in vehicle-related debt is not subject of these proceedings). That $2.7 billion face value debt is currently trading at about 35 cents on the dollar — for an implied market value of about $950 million. Even if Hertz (via its investment bankers at Jefferies) could hypothetically sell $1 billion in new stock, that wouldn’t be enough to make its bonds whole, and the creditors would still end up taking over.
Even if the court allows Hertz to sell its 246.8 million in additional shares, there looks to be zero chance of raising anywhere close to the $1 billion headline number. At $3 per share, Hertz has a current implied market cap of just under $300 million. Because an additional equity offering would be overwhelmingly dilutive to existing holders, the only direction for the share price to go is down — at least in a rational market with rational participants.
But this is 2020, so who knows, maybe it will work.
