Hertz (NYSE:HTZ) is on the move again and HTZ stock rose a staggering 142% on Friday.
The cause appears to be an agreement for $1.65 billion in financing. That financing ostensibly gives Hertz a longer runway to manage through pandemic-related disruptions. And, to some traders, what’s good for Hertz as a company is good for Hertz as a stock.
That’s simply not the case, however. The financing is a part of the ongoing Hertz bankruptcy process. It keeps the company operating, but doesn’t change the outlook for the equity.
That outlook remains as bleak on Monday as it was on Thursday. Yet HTZ stock has better than doubled. As traders better understand what, exactly, is going on here, this rally is almost certain to fade.
Understanding DIP Financing
It is true that Hertz came to an agreement for $1.65 billion in financing. It is not true that the financing is good news for Hertz stock.
The cash raised isn’t going to get Hertz out of bankruptcy. It’s going to get Hertz through bankruptcy. As Hertz projected in a presentation filed with the U.S. Securities and Exchange Commission, the company needs more than $1 billion (see p. 13) just to avoid running out of cash.
It’s getting that cash from a group of existing bondholders. In return, those bondholders receive first-priority claim on “substantially all of the Debtors’ [ie, Hertz and its subsidiaries] assets.”
That is what debtor-in-possession financing means. It allows the company to raise cash without negotiating with every claimant in the bankruptcy case. In return, the lenders providing the cash move to the front of the line.
Again, the $1.65 billion is not getting Hertz out of bankruptcy. DIP financing is a common part of Chapter 11 cases. Hertz needs the money because it needs to replenish its fleet and because it’s still burning quite a bit of cash.
According to the above-linked presentation, on-airport rental days still were down 74% year-over-year in July. Adjusted EBITDA (earnings before interest, taxes, depreciation and amortization) remains sharply negative despite aggressive cost-cutting.
Simply put, the financing doesn’t change the story here.
What’s Left for the Equity
If anything, the DIP agreement confirms the bearish story. As of May 22, Hertz had $19 billion in debt. The figure now is even higher, given accrued interest and cash burn.
Neither the company nor the existing fleet likely is worth that much — or anywhere close. That is why secured lenders refused to grant another extension on debt payments, a refusal which pushed Hertz into bankruptcy in May.
What the DIP financing does is give “super senior” claim on the assets to additional lenders — which only adds to the list of claimants who have to be paid off before shareholders see a penny. Hertz itself made this point (p. S-4) in an SEC filing when it tried the unprecedented step of selling equity while in bankruptcy:
…we expect that common stock holders would not receive a recovery through any plan unless the holders of more senior claims and interests…are paid in full, which would require a significant and rapid and currently unanticipated improvement in business conditions to pre-COVID-19 or close to pre-COVID-19 levels.
Most unsecured debt trades around 40 to 45 cents on the dollar. Again, as Hertz itself has warned, those bondholders likely need to get paid off in full before shareholders see a cent. Those bonds barely budged on Friday, because that side of the market understands that the DIP financing agreement doesn’t change the underlying problem. Hertz has more debt than its business has value.
Is HTZ Stock a Zero?
All told, the rally in HTZ stock on Friday seems driven by a combination of day trading and the fact that some investors misunderstand exactly what the financing arrangement entails. After all, a billion shares traded on Friday alone.
That’s not the sign of investors jumping into a long-term opportunity, or short-sellers covering. It’s a trading frenzy. The same frenzy hit HTZ in June, and briefly sent the stock above $5 before the rally faded almost as quickly.
It seems likely that, once again, traders will move on and HTZ will fade. The interesting question is whether it will fade to zero.
To be fair, that’s not guaranteed. Equity can retain some value in Chapter 11. A famous example is mall operator General Growth Properties, which filed during the financial crisis and wound up making some shareholders returns well over 1,000%.
Hertz shareholders could get thrown a proverbial bone in this case as well. It’s theoretically possible that used car values keep rising, meaning the total sum of the assets winds up exceeding the debt. Given cash burn and updated financials, however, that seems like the longest of longshots.
What value there is in HTZ stock remains minimal. And, most importantly, that value changes little, if at all, based on Friday’s news. Hertz remains in bankruptcy, and the DIP agreement shows that it’s staying in bankruptcy. In the context, Friday’s rally simply looks silly.
On the date of publication, Vince Martin did not have (either directly or indirectly) any positions in the securities mentioned in this article.