Is the Thomas Cook Group (LSE: TCG) share price a bargain for bold investors? After all, stock markets have a reputation for overshooting on bad news.
The shares have popped about 17% higher today, at the time of writing, fuelling hopes of a rescue bid.
I’ve bought a few bombed-out stocks for my portfolio over the years, but I won’t be buying Thomas Cook. In my opinion, this business has a serious debt problem that stock investors can’t afford to ignore.
Airline sale may not be enough
Thomas Cook just has way too much debt. Net debt reached £1,247m at the end of March, compared to £886m at the same point last year. At the same time, winter season losses have increased and profit margins are falling.
Although the company is now entering the strongest part of the year, it’s already planning for another difficult winter season. Management has agreed a new £300m overdraft facility, starting from October. However, the firm’s banks have said they won’t provide this facility unless the company finds a buyer for its airline.
According to last week’s half-year results, “multiple bids” have been received for the airline. Shareholders will be hoping that the successful offer will allow Thomas Cook to repay its debts and get the business back on its feet, but I think this is unlikely.
A serious problem
One obvious problem is that as a forced seller, Thomas Cook isn’t in a strong bargaining position with potential buyers.
However, a much bigger problem is that the company’s lenders don’t think the firm will be able to repay its debts. They are selling Thomas Cook debt at a big discount to its face value. At the time of writing, bonds due for repayment in 2022 were selling at less than half their face value.
For shareholders, this is very bad news, as lenders always take priority over equity. If the company can’t clear its debts by selling the airline, then lenders may demand a debt-for-equity swap to refinance the business.
This would see lenders receive a big chunk of new Thomas Cook shares in exchange for writing off some of the group’s loans. The lenders would effectively become the owners of the company. Existing shareholders would be heavily diluted and left with almost nothing.
What about a rescue bid?
I’ve seen suggestions in online chat forums that Chinese travel firm Fosun could bid for the whole Thomas Cook business. The two companies are already in a joint venture to support expansion in China.
I think this is very unlikely. If the company changed hands, the terms of its loans mean that the new owner would have to repay all debt in full.
There’s no reason for Fosun to do this when it could buy Thomas Cook’s debt for about half its face value in the debt markets if it wants to take control. The shares are irrelevant.
Buy, sell or hold?
Thomas Cook’s banks have agreed to provide extra financing if the airline can be sold. Because of this, I expect the group to continue trading.
However, I think the existing shares will end up being worth close to zero. If I owned any stock today, I would sell at any price.
