ALERT: Super Smelly Debt Instrument Issued, page-21

Enjoyed my forced holiday, thank you HC.

La Tache,

To clarify, the 22c is calculated as 10 options multiplied by 2.2c of option value. 10 x 2.2 = 22c. This detail was provided.

The 2.2c option valuation was calculated using Black Scholes, the inputs were: i. duration: 12 months; ii. share price: 17c; iii. strike price: 20c; iv. volatility: 50%. v. output: 2.2c. Even if re-priced using a 14c share price, the option value will still be about 2c as this is a junior resource company with no resource. So, lets call it 10 x 2c = 20c of option value received by the note holder for every $1 of note held.

Therefore, LKE has raised $1.65m through the issue of a ~4.5 month note with a 5%pa coupon and with ~20c worth of options attached (10 x 2). On an annualized basis the option value represents an additional 63%pa of coupon: 1.2^(12/4.5)-1.

Add the 5% to the 63% and we have an effective coupon of 68%pa. Even if we halve the option value, the effective coupon is still about 35%. This said I very much doubt you would get anyone to write an At or Near the Money 12m option on a junior resource company like LKE for 1c.

So at 68%pa this is far from a cheap debt instrument – actually is massively expensive and therefore clear why the note was oversubscribed – so who’s doing well? No matter what happens the note holders will be ok, they will get their money back, or a heap of shares in a workout scenario.

The company will raise $3.3m if the options are exercised. Of this, $1.65m needs to be allocated against the repayment of the note, leaving net $1.65m of the cash raised – if the options are exercised.

BUT

Will the options be exercised at all, and, if so, will the exercise date be before the note is due to be repaid? What will the share price be when the notes are due? Who knows, these are the known unknowns, the dangers of debt, plenty of resource and non-resource companies have had their capital structures ruined using debt/convertible instruments at the wrong time. Also, history tells us the options will not be exercised unless very well in the money – AVZ is a very good recent example of delayed option exercise behaviour.


As far as I can see these are smelly debt instruments – 5% pa plus 20c worth of options for a 4.5 month exposure – which equates to a 68%pa yield. Given this, it would seem the thread heading is entirely appropriate – very few junk bonds would have a yield this high. I suppose it could be changed to 'super junk issue'.

Maybe, instead of a troll, I am a concerned shareholder who is voicing an informed opinion. I would have liked to have been offered these really high yielding notes. Who was the broker?