Hertz Global Holdings Inc. and most of its affiliates filed for bankruptcy on May 22, 2020. This was just one corporate failure among many in the midst of the COVID-19 pandemic; but, a novel strategy by Hertz to raise capital to fund its bankruptcy has raised eyebrows instead.
On June 11, citing volatile trading activity in its common stock, Hertz sought emergency approval from the Bankruptcy Court to sell up to $1 billion of authorized but unissued shares of its common stock pursuant to an existing shelf registration.[1] The Court approved the motion the very next day. The SEC appeared at the hearing to note that it would monitor the process closely but did not object to the requested relief.
Despite the implications of permitting a debtor to sell stock to the public that many believe will be worthless, the legal question before the Court was not particularly difficult. Section 363(b)(1) of the Bankruptcy Code permits a debtor to sell property of the estate outside of the ordinary course of business after notice and a hearing.[2] There is hardly any doubt that selling the stock would be in the best interests of creditors, particularly when compared to the alternative of seeking some kind of priming or other expensive financing under Section 364 of the Bankruptcy Code. Unlike typical DIP financing, the sale of stock would not place any restrictive covenants on Hertz, would come with no repayment obligations, no interest payments, and no fees to those providing the funding. From the perspective of every other non-equity stakeholder in Hertz, this was free money.
Of course, as many observers recognize, the increased stock price and trading volume belie Hertz’s grim financial condition: Hertz has approximately $24 billion in debt, a recent 10-Q showed a $355 million net loss, and it has furloughed or laid off approximately 21,000 employees. Hertz has made no secret of the strong financial headwinds it is facing, and has repeatedly stated – in the motion and elsewhere – that the stock may have no value.[3]
Some have attributed volatility in the Hertz stock to the exuberance of retail investors, whose low- or no-barrier access to the market through commission-free brokerages, have driven the stock higher purely on speculation.[4] But, free access alone may not be the only cause of the spike in price. Hertz is a recognizable brand with a seemingly easily understood business model (although many retail investors may not fully grasp the complexity of its vehicle finance program). It is also possible that younger retail investors – with more time and fewer outlets for recreation than ever before, full control over their own capital, and who have watched an uninterrupted bull market pass them by for more than a decade – may have a new eagerness for exposure to equities.
Whatever the reason, we are not prepared to predict a wave of Chapter 11 stock sales. For one thing, after a raft of negative coverage of the Court’s approval of the sale of Hertz stock, the SEC now appears to be taking a more aggressive posture. On June 17, SEC Chairman Jay Clayton informed CNBC that the SEC had comments on Hertz’s drafted prospectus supplement.[5] Later that same day, Hertz’s finance committee suspended the sale pending their further understanding of the nature and timing of the SEC’s review.[6] We expect that any similar transactions in the future would undergo at least as much SEC scrutiny. Moreover, a debtor that wanted to follow in Hertz’s footsteps would need not only a sufficient number of unissued shares already registered with the SEC, it would also need to enjoy a repeat of the unusual enthusiasm for shares of a bankrupt company. We think such a confluence of factors will be difficult for the vast majority of debtors to replicate.
[1] “Debtors’ Emergency Motion for Authority to Enter into a Sale Agreement with Jefferies LLC and to Sell Shares of Common Stock of Debtor Hertz Global Holdings, Inc. Through At-The-Market Transactions,” In re: The Hertz Corporation, et al., Case No. 20-11218 (Bankr. D. Del. June 11, 2012), ECF No. 387. According to the motion, Hertz’s common stock closed at a price of $0.56 per share the first trading day after the bankruptcy case was filed. By June 8, the common stock closed at a price of $5.53
[2] In fact, as Hertz observed in the motion, “[c]ertain courts have found that a debtor does not have a property interest in unissued stock, and therefore a debtor could issue stock without complying with section 363 of the Bankruptcy Code.”
[3] For example, Hertz’s prospectus supplement reads in part: “[w]e are in the process of a reorganization under chapter 11 of title 11, or Chapter 11, of the United States Code, or Bankruptcy Code, which has caused and may continue to cause our common stock to decrease in value, or may render our common stock worthless.” Later in the prospectus supplement, Hertz states, “[c]onsequently, there is a significant risk that the holders of our common stock, including purchasers in this offering, will receive no recovery under the Chapter 11 Cases and that our common stock will be worthless.” Hertz further states that “[i]f we are unable to negotiate and confirm a Chapter 11 plan of reorganization, we could be required to liquidate under chapter 7 (‘Chapter 7’) of the Bankruptcy Code in which case our common stock would be worthless.” Hertz Global Holdings, Inc., Prospectus Supplement (Form 424(b)(5)) at Title Page, S-5, S-6 (June 15, 2020).
[4] Robintrack, a site that tracks the number of Robinhood users holding different stocks over time, saw a 237% increase in the number of users holding Hertz stock from May 22nd through June 11 (from 44,998 users on May 22, 2020 and 151,793 users on June 11). Casey Primozic & Alex J., HTZ – Hertz, https://robintrack.net/symbol/HTZ?symbol=HTZ (last visited June 23, 2020).
[5] Maggie Fitzgerald, The SEC told bankrupt Hertz it has issues with its plan to sell stock, Chairman Jay Clayton says, https://www.cnbc.com/2020/06/17/the-sec-told-bankrupt-hertz-it-has-issues-with-its-plan-to-sell-stock-chairman-jay-clayton-says.html (last visited June 23, 2020).
[6] Michael Wayland, Hertz halts plan to sell $500 million in shares pending SEC review, https://www.cnbc.com/2020/06/17/hertz-halts-plan-to-sell-500-million-in-shares-after-sec-review.html (last visited June 23, 2020).
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