When Virgin Galactic (SPCE 5.16%) announced a proposed convertible senior notes offering on Thursday, it was seen as a resounding negative for the stock. Shares dropped 19% in trading, and there's worry that the company is burning cash at an unsustainable rate at this point.
The worries are valid, given consistent delays in launching a commercial spaceflight service. But with the official launch of those paid flights expected in late 2022 (at best), there could be good reason to raise money now. And since Virgin Galactic is raising money through the debt markets and not a stock sale, this won't be as dilutive for investors if this growth stock lives up to current timeline expectations.
Image source: Virgin Galactic.
Why is Virgin Galactic raising money?
When companies raise money, they need to tell investors why. In the case of Virgin Galactic, here's the most important quote from the press release on Thursday: "The Company intends to use the net proceeds from the offering to fund working capital, general and administrative matters and capital expenditures to accelerate the development of its spacecraft fleet in order to facilitate high-volume commercial service."
The first half of that sentence is standard in most fundraising announcements; it's the second half that we can read more into. I see two scenarios for needing to raise money to reach "high-volume commercial service."
- Development and production costs are higher than expected, and delays are stretching the company's finances, resulting in the need to raise more money.
- Management is bullish on how quickly demand can scale, and they want to build spacecraft to meet that demand. In other words, this debt raise is about building supply more quickly than previously expected.
The first scenario I laid out is definitely bearish for the stock, and given the company's history, it's safe to assume that's what investors think is going on.
But if it's indeed true that Virgin Galactic is raising money to "facilitate high-volume commercial service" and needs to increase spacecraft production, that would actually be very bullish for the stock.
Strike while the iron is hot
The supply side of Virgin Galactic's business has been a challenge to get off the ground. But when the company introduced ticket prices that started at $450,000, the market didn't seem to blink an eye. And if it's true that demand can scale to hundreds or thousands of ticket sales per year at that price, it makes sense to add spacecraft as quickly as possible.
A recent flight-enhancement program, which led to the most recent delays, is actually being done to increase the frequency of flights and reduce the number of flights between major inspections. This should lead to more flights per year and more revenue, which management saw as a good trade-off versus starting commercial operations sooner.
Is a capital raise good or bad news for Virgin Galactic?
The market clearly didn't see a potential $500 million capital raise as a good sign for Virgin Galactic, and it's understandable why. Virgin Galactic had $1 billion in cash at the end of the third quarter, according to management, and that's a huge war chest for any company. It also planned for less than $100 million in cash burn in the fourth quarter, so it should have the runway to get to revenue-generating flights in 2022 or 2023.
A bullish interpretation of the announcement is that Virgin Galactic's management wants to accelerate the frequency of flights once commercial operations are up and running. And another $500 million could mean an extra spacecraft or two a year or two earlier than otherwise planned. Given about $3 million in revenue per flight, pushing up production could be a good move financially.
What's challenging here is that investors don't know whether this debt offering will accelerate growth or fund more delays. And it'll likely be months until we really find out what's going on behind the scenes.
