We have to apologize, all the attention is concentrated on InterOil at the moment, but then again, things are rather exciting there. And we did advise you earlier to take a (hedged) option position (here a follow up). It’s still not a done deal, remember that. Hence the hedging. Now, those credit negotiations…. 

By next Monday, InterOil needs to have $70M to pay-off a loan to Merrill Lynch. We have covered that issue extensively, but lets put what we know together and see what we can learn from that.

Some stylized facts:

1. InterOil is close to doing (or even concluding) a DST test which has a high probability of showing significant, perhaps stellar gas flows. If successful, this will put remaining doubts to rest about the status of their Elk/Antelope resource.
2. Clarion Finanz, who was owed $60M (same loan as Merrill), converted it to equity at a buck above the market price on Tuesday.
3. Significantly, Merrill has, at least until now, not opted for a similar conversion.

What can we conclude from that (if anything)?

1. Apparently, Clarion Finanz thinks there is a high probability the DST test will be positive.
2. It now seems reasonable to assume that if Merrill wanted, or was prepared to, do a similar conversion as Clarion Finanz, they would have done so by now. InterOil would have been a willing partner to such a deal, after all, they just did it with Clarion.
3. The only reasonable explanation for that is that Merrill holds out for a better deal and think InterOil will not have alternative finance by next Monday.

Well, now things really get interesting. Merrill is getting greedy, something we actually thought before. The funny thing is, Clarion Finanz’s move has, if anything, made a better deal for Merrill considerably less likely.

Why? Simple. Clarion is rightly seen as an insider, so the markets took their debt to equity conversion as a bullish take on Elk4. Up went the stock price. Down went Merrill’s chances to get a better, or even the same deal, or so it seems.

Now, it’s still not as simple. Timing also becomes an issue. There are two remaining issues that can have a large bearing on the situation:

1. Will there be results of a DST test before Monday?
2. Will InterOil have alternative finance (70M) before Monday?

In our view, both are 50/50 issues. They could do a DST test if they have stopped drilling some time ago, but almost certainly not if they’re going to total depth (which they’re probably not, see below).

Getting alternative credit was mentioned as a possibility by Raymond James’s analyst covering InterOil, Wayne Andrews. That could change the whole ballgame.

And as a parting remark, consider also the following; alternative sources of finance would be much more difficult to obtain without a successful DST test (hence, we think it’s likely they’re not going to total depth.)

But, in comes Carlo Civelli’s Clarion Finanz. Basically what he did, was a huge, very public, vote of confidence in the upcoming DST test. It’s not quite the same as the DST itself, but still.

Not only has it set off a market rally on very high volume, but other possible sources of finance will have become much more available as a result.

So basically, Civelli has undermined Merrill’s bargaining position not once, but twice, and in the process he showed them how the game has to be played (as we argued before).

He might not be the most popular guy at Merrill’s right now, but it strikes us as a very bold masterstroke.

It could all backfire still, if the DST results are poor. But then again, who argues that there is such a thing as risk-free investing?

Sometimes, when it’s your turn to make a move,  you move using the best information available at the time  and fill the gaps with your gut feeling. That’s what he’s done. Even if it falls apart, you have to admire him for it, let alone if he pulls it off…