TELZ - Tellurian's Baby Bonds Offer An 11% Yield For 74 Cents On The Dollar

2023-06-21 12:16:20 ET

Summary

• Tellurian's baby bonds offer a double-digit yield with maturity in 2028.
• These are currently swapping hands for 74 cents on the dollar.
• The company is set to double the number of authorized common shares to raise more funds for Driftwood.

Tellurian's 8.25% Senior Notes Due 2028 ( TELZ ) offer an alternative way to gain exposure to the fledging natural gas company. These baby bonds started trading in late 2021 with the sale of 2,300,000 notes at a par value of $25 per share. They pay out a $2.0625 annual coupon for an 11.1% yield on cost. These offer a healthy investment profile for those looking at building some exposure to the natural gas company at a markedly lower risk than the common Tellurian stock ( TELL ).

They're not zero risk through. Firstly, they've declined 15% over the last year on the back of ten consecutive rate hikes up until the June FOMC meeting. Total returns over the same time frame stand at a more minor 5.13% loss. What's the upside potential here? You're currently able to buy these for $18.44, a $6.56 difference from their $25 par value. This 26.2% discount to par represents the upside to be captured if the baby bonds return to their par value ahead of their 2028 maturity date. To be clear, you can buy Tellurian's sole publicly traded fixed-income security for 74 cents on the dollar and wait for it to move back to par as you get paid a double-digit yield in quarterly installments.

Tellurian's Cash Position Increases On Sale-Leaseback Transaction

Tellurian's cash position is set to be bolstered by a $1 billion sale-leaseback transaction with an unnamed New York-based investor. The company currently faces $1.2 million in quarterly interest expenses for the baby bonds, a relatively minuscule figure against its current operational gearing. Hence, the core risk here would be a possible Chapter 11 filing. The risk of this was highlighted when the company's cash and equivalents position as of the end of its fiscal 2023 first quarter fell to $150 million , a $324.4 million sequential decline from the fourth quarter.

However, with Tellurian in a relative state of flux and chasing more funding to fully build out Driftwood, it's hard to state what type of future financing the company will have access to or what terms these will come with. The sale-leaseback funding comes with an 8.75% capitalization rate and 3% annual rent escalators. This is not cheap and is already set against a balance sheet that held long-term debt of $382.9 million as of the end of its first quarter. Hence, whilst the new funding seemingly provides an unassailable cushion for the continuation of the annual coupon, these funds are earmarked for construction with the company still aggressively chasing funding to complete the export facility.

Hence, bears could argue here that these baby bonds possess the same symmetrical risk profile as the commons against the scenario that Tellurian files Chapter 11 before their maturity date. Just over one in 10 of its shares are being shorted with the company's short interest at 13.4%, its Chairman has been selling his position in the commons, and the company has halted its natural gas drilling operations in the Haynesville Shale. Tellurian is currently in a state of flux with the breakeven price for the average Haynesville operator growing to nearly $3 per MMBtu on the back of cost inflation pressures seen over the last year.

Common Shareholders Set For Dilution As US Natural Gas Prices Drop

The company produced 19.3 Bcf in the first quarter, more than 3x the 6.1 Bcf produced in its year-ago comp. US natural gas prices experienced a generational rally last year when prices spiked as high as $9.50 per MMBtu. The surge last year was of course driven by Russia's invasion of Ukraine and what was a race by the EU to fill up its gas storage before the winter. Hence, with current Europe-wide energy storage at 74.67% , well above its 5-year average for June, it's hard to see the same type of summer rally that happened last year occurring. A mild winter took away most predictions of doom and helped collapse prices. Hence, one of the core factors that could see a broader rally in natural gas prices would be a repeat of last summer's extremely hot and dry conditions that impact hydroelectricity production or a brutally cold 2023/2024 winter.

The Netherlands is set to permanently close down the Groningen field, the largest natural gas field in Europe, later this year. Hence, the longer term could undoubtedly see demand for US LNG continue to rise with a possible boost to US natural gas prices as a possibility. Shareholder sentiment towards Tellurian has taken a hit even as the company recorded revenue of $50.9 million for its first quarter, up 96% from its year-ago comp. The company is now seeking to double its number of authorized common shares from 800 million to 1.6 billion, a move that would allow more shares to be issued to raise more funds for Driftwood. Overall, the commons continue to be a lottery ticket on full funding being realized for Driftwood with the baby bonds offering a double-digit yield at a discount.

For further details see: