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The Thomas Cook share price just fell 40%. Don’t say I didn’t warn you

The Thomas Cook Group (LSE: TCG) share price is down by 40% at the time of writing Friday morning. This collapse leaves the stock worth about 90% less than a year ago.

Friday’s slump was triggered by news major Chinese conglomerate Fosun is in talks to make a £750m investment in Thomas Cook as part of a proposed refinancing of the group. This cash injection would make Fosun the controlling shareholder in the tour operator business and give it “a significant minority interest” in Thomas Cook Airlines.

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This deal might seem like good news, but there’s a sting in the tail. In Friday’s update, management said this cash will be needed just to keep the group trading over winter and put spending plans in place for the future.

In addition to this cash, Thomas Cook will also need to agree a refinancing deal with its lenders. This is expected involve a debt-for-equity swap — cancelling some of the group’s debts in exchange for new shares in the business.

Even worse than expected

Chief executive Peter Fankhauser warns trading in the European travel market has become “progressively more challenging” in recent months. This has weakened the firm’s financial position and made it difficult to find a buyer for the airline. Profits for the second half of the year are also expected to be lower than last year.

This has left Fankhauser with no choice but to seek a debt-for-equity swap to reduce the company’s £1.7bn debt mountain to a more sustainable level. As I’ve commented, Thomas Cook’s bonds (debt) are trading at a big discount to their face value. This implies the group’s lenders don’t expect to get all their money back. That’s bad news for shareholders.

What this means for shareholders

With that £1.7bn of debt and a market-cap of just £125m, a deal to swap debt for new shares is likely to require a very large number of new shares to be issued. I’d expect them to outnumber existing shares by at least nine to one, giving the firm’s lenders a 90%+ stake in the business.

At the time of writing, Thomas Cook shares are changing hands for about 8p. In my opinion, this is far too high. I expect the shares to fall to 1p, perhaps even less. If shareholders don’t approve the refinancing deal, then I think the company is likely to go into administration. This would result in a total loss for shareholders.

What I’d do now

In my last piece on Thomas Cook in June, I warned the shares were “a reckless gamble” at best. I hope my warning managed to help a few readers avoid this trap.

In my view, today’s statement makes it clear the company is in financial distress and cannot continue operating without fresh cash from new investors and debt restructuring. This situation means existing shareholders will see very large losses.

For anyone who’s still holding the shares today, my view remains the only sensible thing to do is to sell. When details of the refinancing deal emerge, I expect the shares to fall much further than they have today.

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Roland Head has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.