Bankruptcy stocks in the oil and gas space served up some great plays during 2017. The dip in energy prices exposed a number of entities, big and small, as being over-leveraged, and a flurry of chapter 11s followed suit. Bonanza Creek Energy Inc (NYSE:BCEI) is the latest of a number of Colorado companies to fall foul of this exact sequence of events. The company announced towards the end of December that it planned to file for bankruptcy in the “coming few weeks”. There’s a plan with the SEC, and in this plan is everything a shareholder needs to know with regards to what they can expect from the outcome of the restructuring, if it goes ahead. There’s also a lot worth noting about what will happen if the planned restructuring is rejected, or for whatever reason doesn’t take place.

Many traders like to play these stocks, and for someone who doesn’t mind the risk element of the trade, there’s plenty of reward on offer. Key Energy Services, Inc. (NYSE:KEG) is a nice example. The company is up 20% since it relisted on NYSE, and just picked up some big name institutional backers. SWIFT ENERGY CO COM USD0.01 (OTCMKTS:SWTF) is another one that’s picking up strength. It’s not as simple as that, however, so using Bonanza as an example, let’s explain why.

First up, the situation in these instances is almost always that a company’s securities are cancelled, and exchanged for shares of a new restructured entity. However, being unsecured, as equity interests like shares are, then there’s no real way to tell before a restructuring takes place how much of the new company the previous entity’s share base will remain. In this instance, Bonanza has outlined four different scenarios, with a potential equity interest ranging from 4.5% at the high end to 2.0% at the low end.

That necessitates the first question. If a holding is going to be diluted to that degree instantly, how much would the new entity need to gain before it negates the dilution? Bonanza’s current market cap is a little over $50 million. Ceteris paribus, at the top end, the previous equity holding will be worth a little over $2.2 million. That’s a lot of price growth needed to get the trade back in the green. It’s not impossible of course, especially given the further decline we’re likely going to see as the restructuring progresses, but it means these trades aren’t a a sure thing.

There’s another risk, as well. Say the plan doesn’t go through for whatever reason, it’s then basically up to the creditors to force a proposal, at their end, through the courts. These proposals leave no room for existing equity transfer, so as an existing shareholder, you’ve got to hope everything gets approved.

That’s the risk out of the way. Like we’ve said, there’s also plenty of reward on the right Q picks, and that’s what makes them so attractive to a certain type of trader. This time twenty-four months ago, Bonanza traded for just shy of $30 a share. The company has collapsed on macro pressures, and if it can restructure and move forward without the macro headwinds, it’s got every chance of pulling itself to those levels again, and as we’ve seen with some of the other names in the space (again, let’s use Key as an example here) the smart money can very quickly add sentiment driven value to a distressed entity.

The next few weeks will be key, as we get more clarity into exactly what rate current interests will transfer at, and we see just how low the company falls in the wake of the no-doubt negative press that will surround its journey through Chapter 11.

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Disclosure: We have no position in BCEI and have not been compensated for this article.