Seadrill Reports Best Quarter Ever But Is Just Getting Warmed Up

| About: Seadrill Limited (SDRL)

Seadrill Ltd. (NYSE:SDRL) announced its second-quarter 2013 results on Wednesday, August 28. These results were, to put it mildly, the company's best results ever and truly show the company's growth story playing out. As good as these results were though, the company's coming quarters are likely to be even better as Seadrill reaps the benefits of its aggressive growth strategy and the continued strength in the market for offshore drilling rigs.

Here are the highlights from the company's second-quarter report:

  • Seadrill reported consolidated revenues of $1,268 million in the second quarter. This represents a slight uptick from the $1,265 million in consolidated revenues that the company reported in the first quarter.
  • Seadrill reported second-quarter EBITDA of $665 million. This represents a 6.73% decline from the previous quarter's EBITDA of $713 million.
  • The company reported an operating profit of $507 million in the second quarter, representing an 8.15% decline over the previous quarter's level of $552 million.
  • Seadrill realized a one-time gain of $1,256 million from the sale of its tender rig division to SapuraKencana Petroleum.
  • The company reported second-quarter net income of $1,750 million. This is not directly comparable to the previous quarter's net income of $440 million.
  • Seadrill raised its quarterly dividend by three cents to $0.91 per quarter. This represents a 3.41% increase over the previous level.

Seadrill achieved its quarter-over-quarter revenue growth despite the sale of its tender rig division. The sale of this division reduced the company's revenues by $100 million on a quarter-over-quarter basis. The company will likely see an even larger impact in the third quarter because the tender rig fleet still operated under Seadrill's ownership (and thus produced revenue for Seadrill) for 30 days in the second quarter. The company will not have this 30 days of revenue in the third quarter. Additionally, one of Seadrill's majority-owned subsidiaries, Seadrill Partners (NYSE:SDLP), saw lower revenues than in the first quarter. This was more than offset by significantly higher revenues at another of Seadrill's majority owned subsidiaries, North Atlantic Drilling (OTCPK:NATDF). Seadrill owns a 75.65% stake in Seadrill Partners and a 73.18% stake in North Atlantic Drilling. Both of these companies are consolidated in Seadrill's quarterly results and so have an effect on the company's reported revenues.

Seadrill stated in its results announcement that the company had its best operating results ever but the company had both a lower EBITDA and a lower operating profit than in the first quarter. There is, in fact, no contradiction here. Seadrill's operating profit was boosted in the first quarter by the sale of an old jack-up rig, West Janus, to Harrington. Seadrill reported a gain of $61 million from this sale, which was included in the company's operating profit. Seadrill's EBITDA is calculated by taking operating profit plus depreciation and amortization. Therefore, the company's recorded gain from the sale of this rig also increased Seadrill's EBITDA for the quarter. Excluding this one-time transaction, Seadrill would have had an operating profit of $491 million and an EBITDA of $652 million. Both of these figures are lower than the second-quarter numbers. This shows that the company's recurring operations actually did have their best quarter ever.

The future of the company continues to look bright due to the overall fundamentals of the industry, particularly in the ultra-deepwater environment. Throughout the first half of the year, customers of the industry (primarily large oil and gas companies) were contracting ultra-deepwater rigs at a vigorous pace as they seek to develop the large and numerous offshore resource deposits that have been discovered over the past decade. The aggressive pace of this contracting has resulted in every ultra-deepwater rig that will be delivered in 2013 having already secured a contract. Furthermore, there were a total of 20 ultra-deepwater rigs currently under construction that will be delivered in 2014 that had not yet secured contracts by the start of the first quarter. This large number of newbuild rigs has led some analysts to predict that the industry will face a supply glut going forward, similar to the one that the shipping industry is suffering from. However, 10 of these 20 rigs secured contracts during the first half of the year and the industry's customers still want more rigs. The owners of the remaining 10 rigs have bid on several other tenders and are awaiting letters of award from the various oil and gas companies. For this reason, Seadrill's management expects all of the remaining 10 rigs to secure contracts prior to leaving the shipyard. There do not appear to be any signs of a rig glut in the short-term horizon, quite the opposite.

In previous articles posted on this site, I have discussed how a bifurcation has arisen between old and new jack-up rigs due to the preferences of oil and gas companies. Basically, these companies have been demanding modern high-specification jack-up rigs for their shallow water drilling needs and have been willing to pay a premium to obtain these rigs. The resultant competition for the limited supply of such rigs has driven up the price (dayrate) for modern high-specification rigs while older lower-performance rig prices have remained comparatively steady. This trend continued in the second quarter. Seadrill stated in its second-quarter report that oil and gas companies are now demanding more high specification jack-up rigs than actually exist, as evidenced by tendering activity. Therefore, demand is currently exceeding supply and this is applying even stronger upward pressure on dayrates than what was seen in the first quarter. Seadrill stands to benefit from this trend as the company operates one of the largest fleets of high-specification jack-ups in the world. As Seadrill's current jack-up contracts mature, the current rising dayrate environment should allow the company to re-contract its rigs at higher dayrates. This would increase the company's revenue and operating cash flow in future quarters.

Seadrill is moving to take advantage of the strength in the ultra-deepwater and jack-up markets through its aggressive newbuild program. Seadrill currently has 12 ultra-deepwater and 14 high-specification jackups (one of which is a heavy-duty harsh environment unit) under construction. While some of these rigs will ultimately be owned by Seadrill subsidiaries North Atlantic Drilling and Seadrill Partners, all will serve to drive the company's growth going forward.

Disclosure: I am long SDRL, OTCPK:NATDF. 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.