Should You Buy Wolfspeed Stock Right Now?

Key Points

• Wolfspeed has exited Chapter 11 protection, successfully eliminating billions in debt.

• Existing shareholders have been severely diluted as part of the process.

• 10 stocks we like better than Wolfspeed ›

Wolfspeed (NYSE: WOLF) stock has seen some major changes in the last couple of days. Some investors were jumping for joy when they saw reports that the stock had jumped more than 1,600% yesterday, only to find that when they checked their portfolios, they were down -- a lot. So what's going on?

Shareholder dilution

The struggling chipmaker filed for Chapter 11 bankruptcy protection on June 30 this year after its debt grew unmanageable. The company successfully negotiated a massive reduction of its debt -- about 70%. With its creditors satisfied, on Monday, Wolfspeed announced its "emergence from Chapter 11 protection."

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But as you might expect, reducing your debt by that much comes with some pretty hefty strings attached. A key step, which it executed yesterday, was to replace its existing stock with shares of a "new" stock. This new stock would be distributed to both its creditors and its common shareholders, but not evenly.

That's why, despite the massive jump in the stock price yesterday, the value of shareholders' portfolios plummeted. They received roughly one share for every 120 they owned, while its creditors received the lion's share of Wolfspeed's new shares.

Image source: Getty Images.

The situation highlights how critical it is for investors to truly understand what they are investing in. Bankruptcy is complicated, and these sorts of "details" can get lost in the shuffle but radically change the value of an investment.

Should you buy Wolfspeed stock now?

I wouldn't. Wolfspeed still has its work cut out for it. The company's key customer base is the electric vehicle (EV) market, and EVs have their own issues these days. Its debt is reduced, but not eliminated, and the company still needs to correct the operational and strategic issues that got it in trouble to begin with. On top of that, its new stock could still face further dilution.

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Johnny Rice has no position in any of the stocks mentioned. The Motley Fool recommends Wolfspeed. The Motley Fool has a disclosure policy.