Apollo Gold Case Study Fred Leggett Madelyn Puente 14 December 2007

Apollo Gold (AMEX: AMT) is a gold mining company that has entered into an agreement with streetTRACKS Gold Trust (NYSEArca: GLD), the largest gold ETF, to supply $2,000,000 worth of gold (equivalent to 25 future contracts) for April delivery As of October 30, 2007, GCJ8 Futures (April 2008 delivery) is $ per ounce, with 100 ounces per contract With new mining ventures and increasingly efficient operations that are continually reducing throughput time, Apollo Gold is reaping the benefits of record Gold prices. Apollo applauds its team for landing such a lucrative contract; however, it seems that the company may have acted brashly given the current market conditions and streetTRACKS strong, bullish views (consequently discussed). Business Problem Apollo Gold and streetTRACKS From Apollo Gold 10-Q, 3Q 2007: 4 th Quarter Forecast: With the completion of the primary crusher project in October 2007, we anticipate that improvement in ore throughput will be achieved and there will be a respective increase in metal productions. As a result, we believe that in the fourth quarter 2007, the Mine should achieve its best operational results of Total Exposure Value: $2,000,000 Apollo Gold is short as it has already entered into the agreement with streetTRACKS The company has an established risk loss limit: only a 5% chance of losing more than $100,000 or 5% 5% loss probability associated with +/ standard deviations Position Summary: -25F

Market Outlook Economic environment, including lower interest rates and a weakened US dollar, puts upward pressure on Gold prices as investors seek Gold as a safe haven US Dollar and oil prices are key drivers of the price of Gold Gold is used as an inflationary hedge, and inflationary pressures continue to rise with the price of oil Both the value of the dollar and the price of oil are largely political, making the commodity’s price even more volatile Over the past 6 months we see: Source: I-Net; CSSS; Credit Suisse Analyst Report- 30 October 2007 Gold has risen by 19%Oil has risen in price by 35% US $ has weakened by 8% against the Euro CLH8 Price Call Implied Vol D Hist. Vol

Market Outlook: Volatility A one-cent change USD/EUR exchange rate drives the gold price by US $8/oz Source: I-Net; CSSS; Credit Suisse Analyst Report- 30 October 2007 Gold Prices sensitive to USD/EUR Movement… … As well as Oil US$ and oil volatility are becoming increasingly important drivers of gold. Gold has also displayed seasonality between December and March. As Apollo’s contract is for April, it could be affected by seasonal trend or the decline in the seasonal trend, again affecting volatility

Source: GFMS: World Gold Council; Credit Suisse Standard Securities Estimates, Market Outlook: Direction The forecasted upward trend in Gold prices is largely driven by supply and demand Global gold production declines as new reserves fail to replace the number of dying mines Significant inflation rates (see previous slides) accelerate this decline Once the current deficit exceeds 500 tons there will be a significant and lasting increase in the price of gold An additional 6,679 tons are needed to supply the demand through 2015 Net Deficit Conclusion: Market forces of Supply and Demand are invariably pushing the gold price UP

Direction: We see the price of gold going up, based on: –Supply and Demand market forces –Rising oil prices –Gold’s role as a safe haven against rising inflation Volatility: We estimate higher volatility than the market’s implied 21.85% volatility based on: –Strong correlations with uncertainty in both oil prices and the dollar exchange rate –Gold pricing seasonality at the time of our contract –Uncertain political influences  We estimate 25% volatility Market Outlook: Our View Market View Summary Apollo Exposure versus View After further investigation, it seems as if Apollo’s -25F (short) exposure is less than ideal given the current up/volatile market environment Given the situation, Apollo realizes it is necessary to hedge their initial exposure and effectively reverse their position to long

Critical Price and Risk Premium Calculation Today is October 30, 2007 For the Gold Contract due April 28, 2008 (GCJ8), there are 181 remaining days to maturity Using the Market Implied Standard Deviation of 21.85%, there is a likely range of $ to $ Based on market research, we predict still higher volatility of 25%, which gives us a wider likely range of $ to $ As our position is short and our view has the price of gold rising, our view does not equal a traditional short hedge that would leave us Net -2F. To hedge our view, we first buy +25 contracts to reverse the position. Based on CP- = , the loss is 24.86%. Next we buy an additional 5 contracts (20.11% of position) based on our 5% or $100,000 loss limit Our Net Hedge is to buy 30 contracts against our - 25F initial exposure. *There has been an observed declining trend in the correlation between Gold and the S&P 500. Average correlation is 0.2. Risk Premium Calculation

Value at Risk  Initial Short Position -25F Probability of doing worse than standard deviation (or ) is 4.95%

Value at Risk  Net Position +5F Probability of doing worse than standard deviation (or ) is 4.95%

 Our initial exposure is -25F  With a market down view, our loss would be ( – )/ = 34.33%  To comply with our loss limit, we would hedge +21F, for a net exposure of -4F Initial Hedge: -25F+30F  However, our view is that Gold futures will RISE significantly above the current futures price  Therefore, our loss would be ( – )/ = 24.86%  To comply with out loss limit, we would initially buy +25 contracts to reverse the short position and consequently buy up to our loss limit, or +30F for a net exposure of +5F

Market Data Futures Price: Maturity 04/28: $800.3 Prices taken from Bloomberg as of 10/30/07  Beyond Apollo’s initial hedge, the company is also looking for alternative hedging opportunities through options  The adjacent table summarizes options prices at various strikes as of October 30, 2007 Hedging Alternatives: Options

Hedge Summary: Map of Alternatives  Above is a map of alternative hedging strategies centered around our market view  Most consistent with our view is the synthetic long call, versus other alternatives that alter various market view factors (direction/vol)

Synthetic Long Call: -25F+25C+25C-25P  With a market up/volatile view, we strongly recommend the synthetic long call as a primary hedging strategy  The call option allows Apollo Gold to take advantage of an unlimited upside, while having the flexibility of an insured downside To create a synthetic long call from our initial position, using options: Synthetic Long Put + Synthetic Long Forward = Synthetic Long Call -F+C = Synthetic Long Put+C+P = Synthetic Long Forward -25F+25C+25C-25P-25F+25C+25F  Note that the maximum cost of creating a synthetic long call position ($ per oz or $98,250 per contract) falls within our loss limit of 5% or $100,000  Ideally, by buying 25 calls and 25 forwards, we would achieve the same results with less cost ($ versus $982.50)

Synthetic Short Put: -25F-25P-10P+25C  The synthetic short put is an alternative hedging strategy that would be appropriate if we saw a significant decrease in volatility while remaining bullish  A market up/stable view would allow us to trade for income by selling short puts To create a synthetic long call from our initial position, using options: Synthetic Short Call + Synthetic Texas Hedge = Synthetic Short Put -F-P = Synthetic Short Call-10P+25C = Synthetic Texas Hedge -25F-25P-10P+25C  Therefore, a -10P hedge is more appropriate given our risk appetite  Unfortunately this also limits the income gained from the position to $ as we are selling less put options -10P versus -25P Hedge Downside at CP-  Note that a -25F-25P-25P+25C hedge would position our downside far beyond our risk limits

Alternative Bull Spread: -25F+25Citm-25Pitm The Bull Spread View: Limited Up, Concerns about a big Down Maximum Income = $67,500 Maximum Loss = $57,500 Vs. Loss Limit = $100,000 This position gives insurance on our view of volatility but it conflicts our view on direction. Additionally in the likely scenario that price increases at any rate above will generate income for our view.

Alternative Long Straddle: -25F+25C+25C The Long Straddle View: High Volatility, Neutral on Direction Maximum Income = Unlimited Maximum Loss = $195,500 Vs. Loss Limit = $100,000 In the case of no volatility, however, and if the position stays at the money or slightly OTM or ITM, we could nearly double or loss limit (undesirable). Based on our certainty in volatility this should not be a concern.

Alternative Long Strangle: -25F+25C+25C The Long Strangle View: Volatility in either direction; less certain than the Long Straddle. Maximum Income = Unlimited Maximum Loss = $110,250 Vs. Loss Limit= $100,000 This is a better option than the Straddle based on our view of volatility but closer to our loss limit. Furthermore we can adjust our in- the-moneyness of the options to meet our loss limit. As the call increases more OTM, we are safer within our loss limit. The contained risk of stability and its associated loss is outweighed by the possibility of great gains with average to above-average volatility.

Recommendation Consistent with our market view of Up/Volatile, we recommend Apollo Gold choose the Synthetic Long Call In analyzing the above five positions, the Long Call gives the appropriate combination of upside (unlimited) versus downside (within our loss limit) The Long Strangles and Straddles also have this unlimited upside but are outside our loss limit range Bull Spreads, while well within our loss limit range, limit our upside for a position on an underlying that is very likely to increase