At this point in the pandemic, it’s hardly news that a century-old American brand has gone bankrupt. But the downfall of Hertz, the nation’s second-largest car rental company, is unlike any corporate bankruptcies we’ve seen before.
On May 22, Hertz filed for Chapter 11 protection after its car rental business plummeted during the coronavirus lockdown. But bizarrely, the company’s stock surged in the days that followed. Share price jumped from a post-bankruptcy low of $0.8 to above $5 in just a week, which prompted Hertz’ executive team to think that it might actually be able to raise some fresh funds in the stock market since investor interest is so high.
And it almost did. Last Friday, Hertz won bankruptcy court approval to sell up to $1 billion in new common stock. On Monday, the company said in a regulatory filing that it plans to raise $500 million in the new stock issuance.
Hertz’s offering included a chilling warning: these new shares will probably be “worthless” unless something miraculous happens.
“Although we cannot predict how our common stock will be treated under a plan, we expect that common stockholders would not receive a recovery” before the company repays every debt holder, secured and unsecured, the company said in Monday’s filing. “There is a significant risk that the holders of our common stock will receive no recovery under the Chapter 11 Cases and that our common stock will be worthless.”
The situation raised some eyebrows right off the bat.
“A bankrupt company issuing stock is exceedingly rare. I can’t recall this ever occurring before,” Steve Sosnick, chief strategist at the brokerage firm Interactive Brokers, told Observer this week.
“It is seeking to raise funds from shareholders who would only be paid back after all debts are paid. This is a very rare occurrence and unlike anything we have ever seen before,” distressed debt analysts at Reorg, a global provider of financial intelligence, told Observer in an email. “Hertz is effectively taking advantage of a disconnect between debt and equity markets.”
In a bankruptcy proceeding, debt holders are paid before equity holders. And retail shareholders are the last group of equity owners to be paid. Currently, Hertz’s long-term bonds are trading at less than 100 cents on the dollar, meaning that it doesn’t have enough money to repay bondholders in the case of liquidation.
“The rationale from the company side is that the equity raises the likelihood of recovery for current stock and bondholders,” Sosnick explained. “[But] bondholders see a low chance of a full recovery. If the bondholders don’t get a full recovery, it means the equity is essentially worthless.”
“If the new stock proves worthless, who would the buyers sue? The company will be bankrupt anyway,” he added.
For now, the stock plan has hit a wall at the SEC. On Wednesday, Hertz revealed in another filing that it had received a notice from the market regulator’s Division of Corporation Finance requesting further review of its fundraising plan. The stock issuance will be put on hold until the review is completed, Hertz said.
Meanwhile, the New York Stock Exchange has begun the process of removing Hertz shares altogether. On May 26, the stock exchange sent a delisting notice to Hertz, saying its shares are no longer suitable for trading in public market. Since then, Hertz has appealed the decision and is waiting for a hearing, which normally takes a few months. Until then, its stock will continue trading on the NYSE.