I shall be talking to the vet about this ugly looking thing in the morning and hoping that Theoden hasn't got something desperately serious. It has been suggested that it is the site where a bot larvae has emerged.
........Cracked it! Page 93 of The Complete Equine Veterinary Manual by Tony and Marcy Pavord has a picture of exactly THIS and it says it is caused by the larvae of the rare bot fly G. Haemorrhoidalis entering (yuk!) the lip. Shall go and do some more research on Google and talk to the vet in the morning.
18.5.10: The vet has just confirmed that this is the site where a bot fly would have burrowed into Theoden's lip. There is apparently little risk to him providing his worming is up to date. He was Pramoxed eight weeks ago (new verb) and she says to worm him with Equest on the normal date but if there is any sign of great infestation they might recommend an intermediate Ivermectin based product but not now (Pramox and Equest have long residual effect). The site itself needs to be treated with warm salty water and sudocrem or Flamazine. I need to keep an eye on his mouth and just make sure there is nothing ugly going on inside in which case they need to come and have a look but they are fairly sure this won't happen. I need to check that he is eating and that he is comfortable with his bit. ..