The Slater & Gordon Limited (ASX: SGH) share price has dropped 3.3% to 8.9 cents today after the law firm announced a deal that will leave it with just $30 million of debt payable over a three-year term.
That may seem like good news for shareholders, but the share price is stuck under 10 cents because its new hedge fund and private equity owners have written off the debt in exchange for taking a 95% equity ownership interest in the business.
In other words existing shareholders have been diluted around 20x as the value of their shareholding in the business now only represents around 1/20th of what it did prior to the debt-for-equity swap.
Still, it's probably 20x better to own a business with $30 million in debt and a viable operating future (at 9 cents per share) than a business going bust (at 30 cents per share) due to an impossible debt burden. In reality Slater & Gordon had no choice but to file for bankruptcy or seek a debt rescue on onerous terms from U.S. specialists.
What now for shareholders?
Importantly for existing shareholders Slater & Gordon now has little debt and the chance to carve out a profitable future as a UK and Australian tort law specialist. It can also axe its loss-making UK operations and is pursuing a $1 billion claim against the Watchstone Group that it purchased its Quindell business from.
Unfortunately for shareholders, the recapitalisation deal also means Slater & Gordon's new owners will receive the first $250 million of any net proceeds received as a result of the Watchstone claim, or due to any "asset divestments or insurance proceeds received by the Company's subsidiaries".
I would be surprised if Slater & Gordon is able to recoup anywhere near $250 million in compensation, insurance claims, or via UK asset divestments, which means the firm's shareholders are unlikely to see any benefit from compensation claims even if its new owners do.
Given the extremely heavy dilution for shareholders I don't expect the share price is going to rocket anytime soon as the exchange-traded value of the scrip now only represents 1/20th or so of the actual value of the firm. Still it may catch the attention of bargain hunters if the company can start to post consistent profits thanks to the strength of its Australian business and restructuring in the UK.
The interests of the new lenders and shareholders are also now aligned, with the new lenders having written off so much debt and taken a 95% ownership interest they will be heavily focused on getting the business back on track. What they do with their 95% ownership interest over the long term is up for debate, but it's likely they will be plotting a profitable exit strategy within the next 10 years.
Slater & Gordon also announced its CEO, Andrew Grech, is to leave the business effective immediately. As the man responsible for the Quindell deal and almost total destruction of shareholder wealth this comes as no surprise.
