Monday morning saw Thomas Cook (LSE:TCG) announce that it had made an application to the High Court for compulsory liquidation, confirming media reports published over the weekend. The news comes as a horrible blow for investors after months of uncertainty, and our condolences go out to all shareholders in the UK’s oldest travel agent. Here, we look at the lessons that can be learned when it comes to taking a risky gamble on troubled firms.
Earlier this year, the debt-laden business secured a £900m rescue deal led by its largest shareholder, Chinese business Fosun Tourism Group. However, the firm revealed on Friday that lenders had demanded that it raise a further £200m in contingency funding, casting doubt over the deal’s realisation.
On Monday, Thomas Cook confirmed that discussions over the weekend with key stakeholders to secure final terms on its recapitalisation and reorganisation had been unsuccessful. As such, the package holiday provider said it had no choice but to enter compulsory liquidation with immediate effect. Chief executive Peter Fankhauser said the move was a matter of ‘profound regret’, adding:
‘We have worked exhaustively in the past few days to resolve the outstanding issues on an agreement to secure Thomas Cook’s future for its employees, customers and suppliers. Although a deal had been largely agreed, an additional facility requested in the last few days of negotiations presented a challenge that ultimately proved insurmountable.’
The business has repeatedly put its problems down to a series of issues. These include political unrest in holiday destinations such as Turkey, last summer’s prolonged heatwave, and customers delaying booking holidays because of Brexit. Another vital issue for the business has been the rise of online competition – which essentially allows holidaymakers to fill the role of travel agent themselves – and its slow progress in mending its finances. Indeed, in spite of its substantial debt burdens, the company only stopped dividend payments to investors in November.
Thomas Cook’s demise puts more than 20,000 jobs at risk, including 9,000 in the UK. It also leaves 150,000 Brits stranded abroad as all of the business’s flights have been cancelled – thankfully, efforts by the Civil Aviation Authority are currently supporting the return of these individuals to their homes.
The firm’s demise also means that many shareholders are now sat on huge losses. Our condolences go out to these market participants, many of whom will have taken a punt on the opportunity of recovery in June when the firm revealed that it had received a potential offer for its tour operator arm.
Unfortunately, the story serves as a reminder of the risks associated with playing Russian Roulette on firms that have suffered a massive loss after a period of bad news. Other examples of such a gamble falling foul for retail investors over recent years include Flybe, Carillion, and Debenhams.
As we highlighted in the case of Thomas Cook back in June, and in a subsequent piece in August, a good way of assessing the true health of a business that appears to be in dire straits is to look at its bonds. In August, Thomas Cook’s 2022 bond, which yields 6.25%, could be bought at just 27.2% of par value.
Bondholders are generally very cautious and for a good reason – they have very little upside compared to equity holders yet are the first to be paid out if something goes wrong. When a company gets put into administration, it is always the bondholders who get first pick on any available assets. If anyone believed in Thomas Cook’s turnaround at the time, then the logical approach would be to hoover up its bonds. But nobody was.
As our contributor, Michael Taylor, highlighted at the time, a more prudent approach in this set of circumstances would have been to take the short side, providing one did not overleverage when there is likely to be a squeeze as people rush to cover.
Once again, it is always sad to watch the downfall of well-established names like Thomas Cook – especially when you consider that some shareholders are likely to have put life savings into the organisation. However, there are always lessons to be learned. When it comes to taking a risky punt on a dying business, investors must make sure they take all the precautions possible to ensure that: 1) there is even a slim chance of recovery, and 2) they get exposure in the most prudent way possible if there is.
