Is Seadrill Trading At A Cheap Valuation?

| About: Seadrill Limited (SDRL)

The oil and gas industry has already exploited the easily available resources (onshore) as offshore oil and gas reserves are harder to reach because more technological and engineering skills are required to exploit those reserves. In anticipation of shifting industry trends I believe that offshore drillers in general and Seadrill Limited (NYSE:SDRL), in particular, will be able to capitalize on the changing industry trends. Let us examine the company's position in the industry and evaluate whether or not it provides a good investment opportunity.

Seadrill provides drilling and well services to the offshore industry. It has a fleet of drilling units that are outfitted to operate in shallow water, mid-water and deep water areas as well as in benign and harsh environments.

Future Cash Flows: Backed by Strong Backlog

The company's order backlog stands at an impressive $19.5 billion80 percent or $16 billion of which is contributed by floater fleet. The jack-up fleet's order backlog is $3 billion while the remaining $500 million is associated with the Tenders' unit. The backlog of floaters fleet with respect to the contract coverage can be seen in the chart below. The percentage of contracted backlog also shows the company's strong position.

Source: Conference Call 3Q 2013 results

Similarly, the percentage of contracted backlog of jack-up fleet can also be seen below. The contracted backlog provides a guarantee for future earnings and will also generate visibility for dividend capacity. And the backlog position of Seadrill shows strength that will ensure reliable future revenues.

Source: Conference Call 3Q 2013 results

It is worth mentioning here that the figure does not include the two deals already in place. One is with Pemex worth $1.8 billion and the second one is the extension at West Aquarius which is estimated to generate revenues of $337 million. Combining these deals would increase the backlog by almost $2 billion bringing the total to $21.5 billion.

The Competitive Edge: Operational Excellence

While the strong position of backlog ensures investors have reliable and stable cash inflows the operational excellence ensures long lasting profitability. The average age of Seadrill floaters is around five years which is the youngest and most advanced among the peers. It is also one of the attractions of Seadrill. Its younger fleet is better negotiated with all the major oil companies and ensures a long term cash flow further justifying the company's reliable dividend paying stock. A comparative analysis of the company that includes leading peers with regards to the ultra-deep water units, average floater age and percentage of ultra-deep water of total floaters is shown below.

Source: Investor Presentation

With a modern fleet and higher exposure to premium segments the company enjoys one of the best in class utilization rates in the industry. Seadrill has been able to translate its operational excellence into pricing power. Currently, the company is charging as much as $600,000 per day for rigs in ultra-deep water.


In the third quarter 2013 results, the company increased the quarterly dividends by 4 cents from the previous dividend of $0.91 to $0.95 per share. The increase in the dividends is a reflection of the improvement in the free cash flows of the company. Going forward, in anticipation of the growth supported by the factors mentioned above I believe that the free cash flows are most likely to grow in the future and will allow the company to consistently increase its dividends.

The recent drop in the stock price creates an opportunity for both value as well as growth seeking investors as the current dividend yield hit 9.48%.

Concluding Remarks

  1. Seadrill is currently trading on the price multiple of 8.46 while the industrial average is around 13.2.Given the growth prospects, I believe that the company does not deserve to be traded on a lower multiple and sooner or later the market will discount it.
  2. The company has an advanced and young fleet of vessels that can be used in the most extreme water depths today. Owing to advance technology and efficiency Seadrill is among the few offshore drillers who are charging as much as $0.6 million per day for rigs in ultra deep water.
  3. The fundamental outlook for the offshore drilling industry remains firm. Exploration companies continue to view deep and ultra deep water acreage as potential areas to invest capital. In such a scenario Seadrill emerges as the most promising company that can capitalize on the industrial growth. The strong position of its backlog reflects the good future prospects of the company.
  4. In addition, the company also believes in sharing success with its shareholders. The higher than 9% dividend yield is great for investors who want a stable income stream.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.