Seadrill Reports Record Operating Results, But Growth Story Not Finished

Jun. 4.13 | About: Seadrill Limited (SDRL)

Bermuda-based offshore drilling giant Seadrill (NYSE:SDRL) announced its first-quarter 2013 results on May 28, 2013. The company's results were quite impressive and clearly show the expected recovery from the latter half of 2012. The company achieved its highest EBITDA ever during the quarter but it still has significant growth potential ahead of it, which will be discussed later in this article.

Here are the highlights from the first quarter:

  • Seadrill reported its best quarterly operating results ever and achieved a first-quarter 2013 EBITDA of $713 million.
  • The company had a first-quarter net income of $440 million. This works out to $0.87 per share.
  • Seadrill increased its quarterly dividend to $0.88 per share. This represents an increase of $0.03 per share over the previous dividend that was established in the fourth quarter of 2012.
  • The company saw significantly improved economic utilization across its fleet with the floaters achieving 92% utilization and the jackups achieving 99% utilization.
  • Seadrill acquired a new ultra-deepwater rig, the Songa Eclipse, for $590 million.

Seadrill saw its revenues increase to $1.265 billion in the first quarter of 2013 compared to $1.215 billion in the previous quarter. One of the biggest reasons for this can be found by looking at the utilization rate of the company's floater fleet. In the third and fourth quarters of last year, Seadrill suffered from downtime among its ultra-deepwater rigs. The company suffered 90 days of downtime in the third quarter and about 100 days in the fourth. I predicted that Seadrill would see its revenues improve once it got this downtime under control and improved its utilization in my analysis of the company's fourth-quarter results. I was not expecting this recovery to occur in the first quarter, however. Seadrill made the following statement in its fourth-quarter earnings report:

In February, 2013, BSEE (Bureau of Safety and Environmental Enforcement) issued a statement that Vetco H4 connectors on BOPs [blowout preventers] have issues with bolts and that those bolts needed to be replaced. Seadrill has taken action and have replaced the bolts on the rigs that have this connector. Partly due to the need to replace the bolts, we have so far in the first quarter experienced 117 days of downtime for our floater fleet, including one idle month for West Hercules, there is furthermore 21 days of planned downtime occurring in the first quarter due to five-year classing and planned maintenance and repair work.

At the time, it appeared as though this quarter would be worse in terms of downtime and therefore economic utilization than the previous two. Since offshore drilling companies are not paid for downtime, this would serve as a drag on revenues. Seadrill made only a passing reference to this in its first quarter report (linked above). The company stated that the issue with the bolts has been resolved and that its floater rigs delivered solid performance in March. If the company continues through the second quarter with similar utilization to what it achieved in March then we could see even higher revenues in the second quarter. Another factor that could work in the company's favor during the second quarter is the West Hercules ultra-deepwater rig. The second quarter will be this rig's first full quarter of operation. The rig was only generating revenues for two months during the first quarter. It will be generating revenues for three months in the second. These positive influences on revenues will, however, be offset by the sale of the tender rig fleet, which became effective on April 30. The implications of this will be discussed later.

Seadrill's management has stated that it wants the floater fleet to maintain a long-term economic utilization rate of at least 95%. The company failed to achieve that goal in the first quarter, likely due to the aforementioned bolt issue and West Hercules being idle for the month of January. Barring any further equipment issues, the company appears to be on track to achieve that in the second quarter. This should further boost revenues in the second and later quarters.

Seadrill saw lower operating cash flow in the first quarter than in the year-ago quarter, dropping to $423 million from $440 million. This is despite the higher EBITDA and operating profit that the company generated in the first quarter of this year.

Click to enlarge

Source: Seadrill Ltd.

This drop appears due to normal business variations. There is nothing particularly worrying here. Seadrill's earnings were positively impacted from the sale of the West Janus rig. This rig was sold for $73 million. However, the book value of the rig at the time of the sale was only $12 million. Thus, the company recorded a gain of $61 million on its income statement, which increased both its EBITDA and net operating income. However, this gain was not included in the company's operating cash flow.

Seadrill will begin to see the impact from the sale of its tender rig division in the second quarter. This sale, which was effective April 30, will see Seadrill's EBITDA decreased by approximately $100 million per quarter beginning in the third quarter. The company will also see its EBITDA decreased in the second quarter as well but this decrease will only be approximately $66 million since the company will still recognize the EBITDA generated by these rigs through the end of April. Seadrill is not benefiting from the EBITDA produced by these rigs though, even though the company is still recognizing the EBITDA. This is because Seadrill paid $75 million to SapuraKencana Petroleum, the buyer of this division, in February, according to an announcement found on Seadrill's web page. Seadrill paid this money so that SapuraKencana would effectively get the cash generated by the tender rig division after February 8. So, SapuraKencana is getting the money even though Seadrill is still recognizing the EBITDA generated by the rigs.

In a recent article, I stated that Seadrill's newbuild rigs should be more than capable of replacing the lost cash flow from the tender rig division. That still appears to be the case. From Seadrill's first-quarter report:

Our Q2 results will recognize EBITDA from the tender rig segment up until the closing date of the transaction, and our Q2 results will be positively impacted by a sales gain from this transaction. Seadrill will lose approximately US$100 million of EBITDA per quarter from the transaction, however as our newbuilds enter operation this year the EBITDA will be regained.

Here, Seadrill's management is referring to regaining the aforementioned $100 million per quarter of EBITDA that will be lost due to this transaction. This is also true of cash flow. The company's newbuild rigs should be able to replace the cash flow that the tender fleet would have generated by the end of the year.

Not only should Seadrill's newbuilds replace the cash flow lost from the sale of the tender rigs, but they should also be able to increase it. Seadrill's Board of Directors reiterated its expectation that the company generate $4 billion in EBITDA annually by 2015. This would represent an increase of 28.7% over this quarter's impressive levels in less than two years. Seadrill's growth story has not finished yet.

Disclosure: I am long SDRL. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.