Puerto Rico’s Bankruptcy

Bond covenants are generally inviolable, but bankruptcy can change that. Recently, Puerto Rico’s bankruptcy allowed the country to restructure sales-tax backed bonds. Owners of these bonds will receive 93 cents on the dollar, more than the bonds were recently trading for, but will give up half of the promised sales tax that was backing the bonds. This is better than Detroit’s general tax obligation bonds, who only received 75 cents on the dollar. However, other holders of debt of Puerto Rican debt received much lower payouts, an indication of the priority of claims in a municipal bankruptcy.

Dumb Money

A common belief among professional Wall Street traders is that dumb money, better known as retail investors, will flock to the market when stock prices are rising, then get out of the market after the stock has fallen. This sort of trading strategy will create a lot of losses, hence the term dumb money. During the stock market downturn in December, professional investors had a very low level of sentiment toward the market and left the stock market. And dumb investors poured $22 billion into passive index funds, reaping the reward from the recent market upturn. One possibility is that retail investors have become  believers in efficient markets, resulting in the money flowing into index funds, or at least they have been conditioned to understand that a market downturn can mean that stocks are on sale.

PG&E Files Bankruptcy

Several weeks ago, we discussed the possibility that PG&E might file for bankruptcy. Yesterday, PG&E made it official with its bankruptcy filing. PG&E listed assets of about $71 billion and liabilities of about $52 billion in its filing. The advantage of bankruptcy for PG&E is that it will slow down lawsuits that have been filed or will be filed in relation to recent wildfires in California. It is estimated that the company faces about $30 billion in claims from these wildfires. PG&E may take up to two years to emerge from bankruptcy.

Tesla Bond Coming Due

As we discussed in the textbook, there are many different types of bonds. Tesla has a bond coming due that is a convertible bond, but can be settled in cash and stock only if certain conditions are met.  At maturity, the cash component of the Tesla bond repayment is calculated by calculating a weighted average price for the 20 trading days prior to February 26, multiplied by a conversion ratio of 2.7788. The maximum cash payment is $500 per $1,000 bond, with the remainder paid in Tesla stock. However, for the stock component to become part of the settlement, Tesla stock needs to rise to about $360, a 21 percent increase in stock price. Unless the stock price hits this level, Tesla will be forced to settle the entire $920 million bond issue in cash.

Underwriting Risk

While some people are amazed at the money earned for underwriting stock offerings, it can be a risky business. Credit Suisse recently underwrote a 10 million share secondary offering for Canada Goose, known for its expensive coats and parkas. When the offering was made, in an unrelated incident, Huawei Technologies finance chief was arrested in Vancouver, sparking a diplomatic dispute between Canada and China. The arrest led to a Chinese boycott of Canadian brands, sending Canada Goose shares down by 20 percent. Credit Suisse was forced to sell the shares at a loss to the offering price or risk a further decline in the stock price. Reportedly, Credit Suisse lost $60 million on the transaction.

Lehman's Bankruptcy Tally

The Federal Reserve Bank of New York released a final (hopefully) estimate of the cost of the Lehman Brother's 2008 bankruptcy filing and the numbers are staggering. Compensation and benefit costs amounted to $1.97 billion, professional and consulting fees were $2.56 billion, and other operating expenses were $1.37 billion, for a total of $5.9 billion! This does not include the $1.36 billion paid out for the Security Investors Protection Act (SIPA)claims. While the bankruptcy costs (excluding SIPA claims) were about $6 billion, the number appears to be in line with other bankruptcies. Research indicates that bankruptcy costs are generally 1.4% to 3.4% of a company's pre-bankruptcy value. For Lehman, which had $300 billion in assets, bankruptcy costs were about 2% of assets.

Sears Bankruptcy

Sears survived the Great Depression and two world wars, but couldn't survive internet shopping. As a result, the company was forced to file bankruptcy and now it is going to get expensive. Lehman Brothers 2008 bankruptcy cost more than $2 billion, while the Toys R Us bankruptcy in 2017 has cost $375 million to date and still counting. In the Sears bankruptcy, at least 36 lawyers are charging more than $1,000 per hour. The company has employed six law firms, three investment banks, two financial advisors, and seven others who are providing tax, real estate, and other bankruptcy services. One law firm has already billed more than $5 million in the first two weeks of bankruptcy.