SEC Company Response from Thomas Equipment, Inc. (CIK 0001122380) — Dec 2, 2005
Thomas Equipment, Inc. (CIK 0001122380)
Date: Dec. 2, 2005 · CIK: 0001122380 · Accession: 0001144204-05-038644
AI Filing Summary & Sentiment
File numbers found in text: 333-124217
Referenced dates: December 1, 2005
Letter
Thomas Equipment, Inc.
Amendment # 5 to Registration Statement on Form S-1
File No. 333-124217
Responses to SEC Comment Letter dated December 1, 2005
General
1.
We note your response to prior comment 1. Please address the following:
•
In calculating the present value of the cash flows for purposes of applying the 10% test, tell us how you applied the following guidance provided in EITF 96-19:
-
If either the new debt instrument or the original debt instrument is callable or puttable, then separate cash flow analyses are to be performed assuming exercise and non-exercise of the call or put. The cash flows assumptions that generate the smaller change would be the basis for determining whether the 10 percent threshold is met.
-
If the debt instruments contain contingent payment terms or unusual interest rate terms, judgment should be used to determine the appropriate cash flows.
•
Likewise, please explain why it is reasonable to assume the maximum amount of registration penalties for purposes of the cash flow analysis.
•
Confirm to us that you treated the $600,000 penalty as part of the cash flows related to the old debt or explain why it is appropriate to treat the payment as part of the new debt.
Response
We will prepare an analysis in a format appropriate for the Staff’s review and provide that to them separately.
Note 12. Convertible long term debt and Convertible credit facility, page F-35
2.
We note from your response to prior comments 2 and 4 that you have bundled the conversion option, the expected future interest stream settled in shares, and the interest rate reset feature into a single, compound derivative.
•
Please clearly describe to us what you mean by the "conversion option" and the "expected future interest stream settled in shares" and highlight the differences between them.
•
Please revise your proposed footnote disclosure in Exhibit A to present the freestanding and compounded derivatives separately.
Response
The “conversion option” refers to the embedded conversion option related to the debt, which is being bifurcated and accounted for separately from the host (debt) instruments.
of
The “expected future interest rate stream settled in shares” refers to the series of call options represented by Laurus’ ability to request payment of the interest on the debt in shares, rather than cash. At each interest payment date (monthly), Laurus can elect to receive the interest payment in cash or shares and thus has, in effect, a call option based on the amount of interest to be paid and the stated conversion (exercise) price of $1.50 per share.
At each reporting date, the number of ‘options’ underlying the bifurcated embedded conversion option is the total dollar amount of the future principal and estimated interest payments, divided by the stated conversion price of $1.50 per share. The value of those options (determined using Black-Scholes), together with the estimated value of the interest rate reset feature (see comment below), and the value of any bifurcated redemption feature (see comment 5 below) are used in the determination of the value of the compound derivative instrument (though not necessarily by simply adding them together).
As discussed with the Staff by telephone on December 1 and further on December 2, we can modify the footnote disclosure related to the discounts associated with the Laurus debt “to present the freestanding and compounded derivatives separately”. However, as discussed in our telephone conversation with the Staff on December 2, we are not certain that this is appropriate.. To illustrate, consider the following example from that footnote, related to the $6,000,000 term loan with Laurus:
Successor
Business
12. Convertible long term debt (Successor only)
June 30, 2005
Term loan with Laurus, bearing interest at US prime plus 3% (9.0% at June 30, 2005) with monthly principal repayments of $207 per month plus interest. Funds were used to finance the acquisition of Thomas Equipment Limited assets.
$
6,000
Debt discount, net of amortization of $00, related to a portion of 4,020,000 options and 2,200,000 warrants to purchase shares of common stock and to the embedded conversion option which has been bifurcated and accounted for as a derivative instrument liability.
(0,000
)
The fair values initially determined for the freestanding warrants and options, together with the fair value of the bifurcated embedded derivative instruments (primarily the conversion option) will be disclosed in the discussion in the debt footnote, as well as in the separate footnote related to the derivative instruments. In certain circumstances, the initial fair value of the derivative instruments may exceed the face amount of the debt. For the purpose of this example, assume the derivative instruments are initially valued at $7,000,000. The debt would be initially recorded at $0 (i.e., in this example, net of discounts of $6,000,000) and an immediate charge to income of $1,000,000 would be recognized for the amount by which the fair values of the derivative instruments exceeded the proceeds received. In order to present the discount related to the freestanding derivatives separately from the discount related to the bifurcated embedded derivative, it would be necessary to make some allocation of the reported discount between the two, perhaps based on the relative initial amounts of each. Given that the total discount is amortized using an effective interest rate method, it would also be necessary to allocate the amortization between the two. Given that the full amounts initially allocated to the freestanding and embedded derivatives will be disclosed, we are concerned that displaying the unamortized balance, allocated between the two types of derivative, may not provide any additional useful information to the reader and may, in fact, only serve to confuse. For this reason, we would propose to only show a combined amount in the discount line displayed above.
of
3.
You state that yon used the Black-Scholes option pricing model to determine the fair value of the "single compounded embedded derivative".
•
Please explain to us how you concluded that the Black-Scholes option pricing model was an appropriate method to determine the fair value of the compound derivative which appears to include certain non-option features such as the interest rate reset feature. Explain how the Black-Scholes option pricing model is able to capture the value of the different elements of the compound derivative.
•
Tell us how the Black-Scholes option pricing model compared to any other fair value models you considered.
Response
1.
The substantial majority of the value of the compound derivative relates to the values for the embedded conversion option and the call options related to the interest rate stream. These elements were valued using Black-Scholes. At present, the only non-option feature included in the compound derivative is the interest rate reset feature. This was valued separately, based on estimates of the potential interest rate reduction, and that value was then used, together with the option values, to determine the value of the compound derivative. The value of the interest rate reset feature is relatively small compared with the value of the embedded conversion options. We will review the manner in which the valuation methodology is described to ensure that it is appropriate in the circumstances.
2.
We considered whether it would be appropriate to use a different fair value model but concluded that, because of the significance of the conversion options to the aggregate value of the embedded derivatives, it was appropriate to use the Black-Scholes model for that element of the compound derivative. We believe the Black-Scholes option pricing model is very widely used and generally accepted in practice. As noted above, the methodology used to value other elements of the compound derivative may be different, depending on their nature, and to the extent that they are significant, will be described.
4.
In light of the materiality of the amounts in question, please revise the critical accounting policies section of MD&A to include a description of the methodology used by management in determining the fair value of your derivative instruments; including the significant assumptions made and the significant estimates used in developing such estimate of fair value. Refer to the guidance provided in FR-72.
Response
The discussion of the critical accounting policies section of the MD&A will be revised accordingly.
5.
Please refer to prior comment 3. Tell us how you considered the fact that you have the option to redeem the term notes at 105% of the outstanding principal and accrued interest at any time in reaching your conclusion, that the call option is clearly and closely related to the host instrument and should not be separated from the host contract. We note that if the redemption option is exercised immediately, the investor's initial rate of return is doubled and would appear to meet the condition outlined in paragraph 13(b) of SFAS 133. Alternatively, please provide us with a revised detailed analysis which clearly shows how you considered the guidance in paragraphs 13 and 61 (d) of SFAS 133 and DIG Issues B-16 and B-39.
of
Response
Redemption (call) options exercisable by Thomas
As discussed with the Staff by telephone on December 2, we believe that call (redemption) options that are exercisable by us (specifically, our ability to prepay the Laurus debt with a 5% premium and our ability to redeem our series A preferred stock (see 7 below) are not required to be bifurcated and accounted for separately from the host contract, based on DIG Issue B-39.
That issue addresses the following question:
“Are there circumstances in which an embedded call option (including a prepayment option) that can accelerate the settlement of a hybrid instrument containing a debt host contract would not be subject to the conditions in paragraph 13(b) of Statement 133?”
The response is:
“The conditions in paragraph 13(b) do not apply to an embedded call option in a hybrid instrument containing a debt host contract if the right to accelerate the settlement of the debt can be exercised only by the debtor (issuer/borrower).”
It goes on to note that:
“The conditions in paragraph 13(b) were intended to apply only to situations that meet the two conditions specified in paragraphs 13(b)(1) and 13(b)(2) and for which the investor has the unilateral ability to obtain the right to receive the high rate of return specified in those paragraphs.”
Based on our reading of this response to the Issue, we believe that the call (redemption) features that are exercisable solely at our option do not require to be bifurcated from the host contract and accounted for
Show Raw Text
CORRESP
1
filename1.htm
Thomas
Equipment, Inc.
Amendment
# 5 to Registration Statement on Form S-1
File
No. 333-124217
Responses
to SEC Comment Letter dated December 1, 2005
General
1.
We
note your response to prior comment 1. Please address the
following:
•
In
calculating the present value of the cash flows for purposes of
applying
the 10% test, tell us how you applied the following guidance provided
in
EITF 96-19:
-
If
either the new debt instrument or the original debt instrument
is
callable
or puttable, then separate cash flow analyses are to be performed
assuming
exercise and non-exercise of the call or put. The cash flows assumptions
that generate the smaller change would be the basis for determining
whether the 10 percent threshold is
met.
-
If
the debt instruments contain contingent payment terms or unusual
interest
rate terms, judgment should be used to determine the appropriate
cash
flows.
•
Likewise,
please explain why it is reasonable to assume the maximum amount
of
registration penalties for purposes of the cash flow
analysis.
•
Confirm
to us that you treated the $600,000 penalty as part of the cash
flows
related to the old debt or explain why it is appropriate to treat
the
payment as part of the new debt.
Response
We
will prepare an analysis in a format appropriate for the Staff’s review and
provide that to them separately.
Note
12. Convertible long term debt and Convertible credit facility, page
F-35
2.
We
note from your response to prior comments 2 and 4 that you have
bundled
the conversion option, the expected future interest stream settled
in
shares, and the interest
rate reset feature into a single, compound
derivative.
•
Please
clearly describe to us what you mean by the "conversion option"
and the
"expected future interest stream settled in shares" and highlight
the
differences between them.
•
Please
revise your proposed footnote disclosure in Exhibit A to present
the
freestanding and compounded derivatives
separately.
Response
The
“conversion option” refers to the embedded conversion option related to the
debt, which is being bifurcated and accounted for separately from the host
(debt) instruments.
1
of
7
The
“expected future interest rate stream settled in shares” refers to the series of
call options represented by Laurus’ ability to request payment of the interest
on the debt in shares, rather than cash. At each interest payment date
(monthly), Laurus can elect to receive the interest payment in cash or shares
and thus has, in effect, a call option based on the amount of interest to
be
paid and the stated conversion (exercise) price of $1.50 per share.
At
each reporting date, the number of ‘options’ underlying the bifurcated embedded
conversion option is the total dollar amount of the future principal and
estimated interest payments, divided by the stated conversion price of $1.50
per
share. The value of those options (determined using Black-Scholes), together
with the estimated value of the interest rate reset feature (see comment
3
below), and the value of any bifurcated redemption feature (see comment 5
below)
are used in the determination of the value of the compound derivative instrument
(though not necessarily by simply adding them together).
As
discussed with the Staff by telephone on December 1 and further on December
2,
we can modify the footnote disclosure related to the discounts associated
with
the Laurus debt “to present the freestanding and compounded derivatives
separately”. However, as discussed in our telephone conversation with the Staff
on December 2, we are not certain that this is appropriate.. To illustrate,
consider the following example from that footnote, related to the $6,000,000
term loan with Laurus:
Successor
Business
12. Convertible
long term debt (Successor
only)
June
30, 2005
Term
loan with Laurus, bearing interest at US prime plus 3% (9.0%
at June 30, 2005) with monthly principal repayments of $207 per
month plus
interest. Funds were used to finance the acquisition of Thomas
Equipment
Limited assets.
$
6,000
Debt
discount, net of amortization of $00,
related to a portion of 4,020,000 options and 2,200,000 warrants
to
purchase shares of common stock and to the embedded conversion
option
which has been bifurcated and accounted for as a derivative instrument
liability.
(0,000
)
00
The
fair values initially determined for the freestanding warrants
and
options, together with the fair value of the bifurcated embedded
derivative instruments (primarily the conversion option) will be
disclosed
in the discussion in the debt footnote, as well as in the separate
footnote related to the derivative instruments. In certain circumstances,
the initial fair value of the derivative instruments may exceed
the face
amount of the debt. For the purpose of this example, assume the
derivative
instruments are initially valued at $7,000,000. The debt would
be
initially recorded at $0 (i.e., in this example, net of discounts
of
$6,000,000) and an immediate charge to income of $1,000,000 would
be
recognized for the amount by which the fair values of the derivative
instruments exceeded the proceeds received. In order to present
the
discount related to the freestanding derivatives separately from
the
discount related to the bifurcated embedded derivative, it would
be
necessary to make some allocation of the reported discount between
the
two, perhaps based on the relative initial amounts of each. Given
that the
total discount is amortized using an effective interest rate method,
it
would also be necessary to allocate the amortization between the
two.
Given that the full amounts initially allocated to the freestanding
and
embedded derivatives will be disclosed, we are concerned that displaying
the unamortized balance, allocated between the two types of derivative,
may not provide any additional useful information to the reader
and may,
in fact, only serve to confuse. For this reason, we would propose
to only
show a combined amount in the discount line displayed
above.
2
of
7
3.
You
state that yon used the Black-Scholes option pricing model to determine
the fair
value of the "single compounded embedded
derivative".
•
Please
explain to us how you concluded that the Black-Scholes option pricing
model was an appropriate method to determine the fair value of
the
compound
derivative which appears to include certain non-option features
such
as the interest rate reset feature. Explain how the Black-Scholes
option
pricing model is able to capture the value of the different elements
of
the compound derivative.
•
Tell
us how the Black-Scholes option pricing model compared to any other
fair value models you considered.
Response
1.
The
substantial majority of the value of the compound derivative relates
to
the values for the embedded conversion option and the call options
related
to the interest rate stream. These elements were valued using
Black-Scholes. At present, the only non-option feature included
in the
compound derivative is the interest rate reset feature. This was
valued
separately, based on estimates of the potential interest rate reduction,
and that value was then used, together with the option values,
to
determine the value of the compound derivative. The value of the
interest
rate reset feature is relatively small compared with the value
of the
embedded conversion options. We will review the manner in which
the
valuation methodology is described to ensure that it is appropriate
in the
circumstances.
2.
We
considered whether it would be appropriate to use a different fair
value
model but concluded that, because of the significance of the conversion
options to the aggregate value of the embedded derivatives, it
was
appropriate to use the Black-Scholes model for that element of
the
compound derivative. We believe the Black-Scholes option pricing
model is
very widely used and generally accepted in practice. As noted above,
the
methodology used to value other elements of the compound derivative
may be
different, depending on their nature, and to the extent that they
are
significant, will be described.
4.
In
light of the materiality of the amounts in question, please revise
the
critical accounting
policies section of MD&A to include a description of the methodology
used
by management in determining the fair value of your derivative
instruments; including
the significant assumptions made and the significant estimates
used in
developing
such estimate of fair value. Refer to the guidance provided in
FR-72.
Response
The
discussion of the critical accounting policies section of the MD&A will be
revised accordingly.
5.
Please
refer to prior comment 3. Tell us how you considered the fact that
you
have
the option to redeem the term notes at 105% of the outstanding
principal
and accrued
interest at any time in reaching your conclusion, that the call
option is
clearly and closely related to the host instrument and should not
be
separated from the
host contract. We note that if the redemption option is exercised
immediately, the investor's initial rate of return is doubled and
would
appear to meet the condition
outlined in paragraph 13(b) of SFAS 133. Alternatively, please
provide
us
with a revised detailed analysis which clearly shows how you considered
the guidance in paragraphs 13 and 61 (d) of SFAS 133 and DIG Issues
B-16
and B-39.
3
of
7
Response
Redemption
(call) options exercisable by Thomas
As
discussed with the Staff by telephone on December 2, we believe that call
(redemption) options that are exercisable by us (specifically, our ability
to
prepay the Laurus debt with a 5% premium and our ability to redeem our series
A
preferred stock (see 7 below) are not required to be bifurcated and
accounted for separately from the host contract, based on DIG Issue
B-39.
That
issue addresses the following question:
“Are
there circumstances in which an embedded call option (including a prepayment
option) that can accelerate the settlement of a hybrid instrument containing
a
debt host contract would not be subject to the conditions in paragraph 13(b)
of
Statement 133?”
The
response is:
“The
conditions in paragraph 13(b) do not apply to an embedded call option in
a
hybrid instrument containing a debt host contract if the right to accelerate
the
settlement of the debt can be exercised only by the debtor
(issuer/borrower).”
It
goes
on to note that:
“The
conditions in paragraph 13(b) were intended to apply only to situations that
meet the two conditions specified in paragraphs 13(b)(1) and 13(b)(2) and
for
which the investor has the unilateral ability to obtain the right to receive
the
high rate of return specified in those paragraphs.”
Based
on our reading of this response to the Issue, we believe that the
call
(redemption) features that are exercisable solely at our option
do not
require to be bifurcated from the host contract and accounted for