- Updated Review of Gran Colombia Gold's "Gold Notes."
- Gran Colombia Gold has posted its first quarter earnings for 2019.
- Q1 2019 Saw notable improvements and increases, both in revenues and earnings, and a further strengthening of its balance sheet.
Beyond Belief… this may be the most fascinating debt instrument we have ever reviewed.
Rising with the price of gold, the cash flow and yield of Gran Colombia Gold’s senior secured “Gold Notes” appears to be headed straight into the land of unbelief. Perhaps what we see here is either wrong… or something in this picture seems to have quietly escaped the attention or the view of most other investors in the high yield bond market. Granted, this is not a straightforward and easily understood issue because of the quarterly interest boost linked to its amortized quarterly redemption of principle when the price of gold is higher 1250 per ounce. However, it is precisely this “hard to be understood” feature that is driving its current push into the land of dreams.
Given the difficulty of unmasking the beauty of what these gold notes can and might actually return as a result of the rapidly changing price of gold, we thought it necessary to draw your attention to this with an “urgent update” to our last review of Gran Colombia Gold GCM.TO (TSX) / TPRFF (OTCBB), which was posted April 16, 2019 on bond-yields.com. We strongly recommend reading it for further background and details on the company and its operations. Since our last review (two month ago), Gran Colombia Gold has posted its first quarter earnings for 2019, In a nutshell, there were notable improvements and increases, both in revenues and earnings, and a further strengthening of its balance sheet.
- Revenue of 77.5 million in the first quarter 2019, up 20% over Q1 2018.
- All-in-sustaining-costs of $621/oz for Q1, down from $920 Q1 2018.
- Adjusted EBTDA of 35.3 million for Q1 2019, up 29% from Q1 2018.
- Free cash flow $11.3 million for Q1 2019, up from $4.5 million Q1 2018.
While Gran Colombia Gold’s most recent financial statements and balance sheet are certainly impressive in and of themselves when considering the merits of buying or holding its debt, they are not the whole story and do not convey some of its most important, and most compelling, features.
The corporate debt held typically by retail investors is “senior unsecured” paper. However, these 2024 Gold Notes from Gran Colombia are “senior secured” paper. Therefore, the 20 million of Gran Colombia’s Convertible Debentures that were issued on April 4 of 2019 plainly take a back seat in rank and priority behind these “Gold Notes.”
Considering the amortized redemption terms of the Gold Notes, there is absolutely no uncertainty in how the company intends to fully repay the debt. It is plainly explained below:
During the six-year term of the Notes, the Company will deposit an amount of gold each year in a trust account (the “Gold Trust Account”). The annual number of ounces of gold to be deposited by the Company into the Gold Trust account and the amortization the principal amount of the Notes are as follows:
Ounces Principal Amortization
Year 1: 15,600 US$19,500,000
Year 2: 15,600 US$19,500,000
Year 3: 13,200 US$16,500,000
Year 4: 12,000 US$15,000,000
Year 5: 12,000 US$15,000,000
Year 6: 10,000 US$12,500,000
Total: 78,400 ounces, equivalent to US$98 million @ US$1,250 per ounce floor price
The debt repayment of $19,500,000 for year one has already been completed, and the remainder of outstanding Gold Notes now stands at $78,500,000. Please note the defined number of ounces of gold (the “Gold Trust Account”), with a minimum guaranteed value of $1,250 per ounce, that is being used to redeem the debt. The current 2019 estimated production of gold for Gran Colombia is between 210k and 225k ounces. Therefore, the scheduled redemption of Gold Notes this next year appears to only require setting aside about 7 to 7.5% of their projected gold production. Next year (2020), it would only require about 6 to 6.5% of the company’s gold production, presuming similar production estimates. The year after, it would be even less. Therefore, between having paper that is secured by the physical assets of the company (which in and of itself might well be more than sufficient) and this rather modest redemption schedule, the default risk for this debt appears to be significantly mitigated.
Now that the concern for the return of principle has been addressed, let’s move on to examining what the return on investment might look like. On the surface, these Gold Notes are couponed at 8.25%, pays the interest monthly, and neither of these attributes can change. However, it is the quarterly bond redemptions and corresponding “bonus interest” adjustments where much of the difficulty in understanding this issue arises, for the following two reasons.
The first reason is that the quarterly adjustment involves a fractional redemption of bonds at par value. While the number of bonds called are plainly known, the percentage of the outstanding bonds that are called necessarily changes every time. The second reason is the bonus payment distribution that is added to the monthly interest payment every time the sale price of gold from the “Gold Trust Account” is over 1250 per ounce, which is used to make bond redemptions at the end of every quarter. Suffice it to say that the minimum expected cash flow incorporates both a partial redemption of bonds (at par) every third month, and the couponed interest payment of the bonds each and every month.
That said, it must be noted that the price of gold is now well above $1250 per ounce. And, short of attaching a very lengthy and extremely complex spreadsheet highlighting the initial cost of the bonds, the projected price of gold at the time of sale from the Gold Trust Account, and percentage of bonds called each quarter – not to mention the possibility of the notes being called in full (at par) as early as April 30, 2021 – it quickly becomes rather difficult to show or satisfactorily explain the range of hypothetical and/or probable returns resulting from gold prices ranging any higher than $1,250 per ounce.
In spite of this shortcoming, the following (small sampling) is our “best estimate” view of reasonably calculated returns, presuming a stable and unchanging price of gold between now and the notes maturity (or worst full call date.) It quickly becomes apparent that the rising price of gold has a more pronounced effect upon the yield than the cost premium does.
Price of Gold –>
*The current price of gold appears to be over 1400 per ounce, while a reasonable price target for buying the bonds appears to be about 102.
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For investors seeking a bond with a higher return, these “Gold Notes” provide the incredibly unique opportunity to earn a bonus premium on top of its already very respectable 8.25% coupon. For investors with a higher tolerance for risk and volatility, it appears that there may be much higher capital gains possible taking a position in its common stock, if we are right in seeing both its significant growth potential and its currently undervalued position. For these reasons, these unique “Gold Notes” are marked for additional weighting in Durig Capital’s Fixed Income 2 (FX2) High Yield Managed Income Portfolio, shown below.
Considering the recent move in gold prices, we were moved to reexamine the impact these higher prices would have on these monthly paying notes, and were very pleasantly surprised just how significant and marvelous it really was. To put it bluntly, we simply don’t know what else might be compared to these senior secured 2024 Gold Notes from Gran Colombia Gold. Be forewarned, though, as the bonds are thinly traded and patience may be required to acquire them at reasonable levels. And if gold prices continue to rise, it is hard to believe that much of this tasty paper will continue to be available at such delicious prices, so close to par. We will continue to feast on them… when we can.
Issuer: Gran Colombia Gold, Inc.
Ticker: GCM.TO (TSX) Price (6/26/19): C $4.18
Ticker: TPRFF (OTCBB) Price (6/26/19): $3.18
Warrant Ticker: TPRXF (OTCBB) Price (6/26/19): $1.78
(Warrant Exercise Price is C $2.21)
“Gold Note” Bond Coupon: 8.25%
Stated Maturity: 4/30/2024
Average Maturity: 11/30/2021
Callable after 4/30/2021
Ratings: B- (Fitch Ratings)
Yield to Maturity: ~8% (plus gold bonus… see chart above)
Disclosure: Durig Capital and certain clients may hold positions in Gran Colombia Gold’s “Gold Notes”.
Disclaimer: Please note that all yield and price indications are shown from the time of our research. Our reports are never an offer to buy or sell any security. We are not a broker/dealer, and reports are intended for distribution to our clients. The high yield strategies presented in this review by Durig Capital may not be suitable for all investors. This is not investment advice from Durig Capital, nor a specific recommendation to buy or sell securities. If you have any questions or concerns about its suitability for your personal investment, you should seek specific investment advice from a registered professional before making an investment decision.