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DJ The GameStop Dilemma: What to Do if Day Traders Target Your Company Stock

· 02/05/2021 11:07
By Charley Grant

Day traders have sent your company's share price surging, seemingly without reason. What now?

That usually isn't on the long list of things corporate executives have to worry about, and especially not at a company struggling to reinvent itself. Your share price is usually seen as a real-time vote of confidence in how you are doing and, when times are good, a currency for raising capital or buying a competitor -- except when your company's value rockets from $250 million a year ago to more than $25 billion in large part because of posts on a message board.

Shares of struggling retailer GameStop recently traded as high as $483 after closing at just below $19 last year and around $4 before the pandemic based on no real change in the company's business prospects. The plunge has been just as stark as the climb: The stock closed below $54 on Thursday. Similarly volatile trading spilled over to shares of other businesses facing serious challenges like AMC Entertainment Holdings, Express Inc. and Bed Bath and Beyond.

While the general public gawks at the price action, executives of the affected companies need to come up with a plan. They face some hard choices about whether to use an inflated stock price to raise more money for their company or even to boost their own wealth by cashing in stock options that are suddenly worth more. Those choices, as tempting as they may be, have real consequences.

Deciding whether to raise money is far more complicated than it might seem. The first instinct for holders of inflated stock is to sell it. That goes for companies just as much as individuals. After all, a high share price can have real business implications if there are people clamoring to buy it.

But a shareholder base of day traders is far less desirable to executives than one of institutional investors, who tend to act as long-term partners and are less erratic about their decision making. One would have been hard pressed to find a seasoned fund manager who would have bought shares of GameStop last week with a long-term view.

There are other complicating factors. For example, executives need to be mindful of their cost of capital, or how high a return investors will expect on new funding. They learn on the first day of business school that it typically costs more to sell a stake in the company than to take out a loan -- but it briefly wasn't in the past weeks' Bizarro World. Your brand new shareholders probably won't be satisfied with how much money you just saved, however. Investors tend to sue when a new issue they just purchased drops like a rock, no matter how much legal boilerplate is in the prospectus.

Executives also need to consider the possibility of more aggressive regulation after all this chaos. The Securities and Exchange Commission appears to have taken an interest in the market situation, and Congress plans to hold hearings on recent trading activity on February 18. Acting SEC chair Allison Herren Lee said in a radio interview this week that the agency is watching whether issuers who choose to raise money in the current environment fully disclose any risks surrounding their stock. Ms. Lee also said the agency would be watching to see if corporate insiders trade personal holdings of stocks affected by the recent volatility.

Even a brief spike in the share price could make an executive's stock options worth spectacular sums for a short period of time, which gives insiders an opportunity to cash out. That decision may not be popular with investors either, and it could create a public relations issue at the same time.

While this episode of market madness caught everyone by surprise, executives can start planning now for what to do if a sequel arises. They could turn to more unconventional financing methods such as convertible bonds, which allow borrowers to repay their debt with stock instead of cash if the shares are trading at a price that is satisfactory to the lender.

Or they can tap so-called "at the market" financing," or ATM, which allows companies to sell new shares directly into the market at prevailing prices. That differs from a traditional offering, where an investment bank will sell shares to institutional investors in one shot at a fixed price.

Traditionally these ATM offerings have been the domain of sleepy biotech companies, but that is changing. U.S. companies raised nearly $90 billion in 2020 via ATM programs, according to Dealogic. That includes $10 billion raised by stock market darling Tesla Inc.

AMC offers a prime example of these benefits: The company announced last week that it would settle $600 million in convertible debt with stock, and that it raised a fresh $300 million by selling stock via its ATM. All told, the wild trading freed up nearly $1 billion in cash -- badly needed funding for a theater chain struggling with the impact of coronavirus.

GameStop hasn't yet missed the boat altogether. Even today's price is still far higher than most analysts thought possible. Its shares changed hands for $5 or less for much of 2020. It could have a chance to raise money at advantageous prices in the coming weeks once volatility subsides.

As for the rest of the publicly traded universe, the frenetic circumstances might mean new messaging is called for. Public company executives are fond of saying -- perhaps fibbing -- that they pay little to no attention to daily moves in their stock price. Given the Reddit-crazed markets of 2021, no one will blame them if that talking point is soon retired.

Write to Charley Grant at charles.grant@wsj.com

(END) Dow Jones Newswires

February 05, 2021 11:07 ET (16:07 GMT)

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