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Executive summary:

  • Seadrill has 12% dividend yield, but Seadrill also has a negative free cash flow every year.
  • Short and long term debt is increasing to pay the dividend, but it is heading for problems with this strategy.

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Seadrill (SDRL) is a Norwegian oil services company which started operations in 2005. Seadrill is ambitious and wants to become the market leader in offshore deep water drilling. In contrast with competitors, it has doubled its revenue in recent years. Dividend yield is 12% now, but Seadrill's strategy is very risky, and Seadrill may collapse under the debt.

This article is part of the oil and gas industry comparison. Seadrill is the least investable company under research. Since the FY 2013 results will be announced on February 25th, this article is published first.

Fundamentals

All financial data used is retrieved from reports published by Seadrill or from Seadrill's website.

The amount of dividend is ambiguous in the reporting of Seadrill. On the website, $3.51 dividend is paid, while the 20-F states $4.31. The 20-F amount is used. All financial data is x1M with the exception of dividend and EPS.

Seadrill20122011201020092008
Revenue$4,478$4,192$4,041$3,254$2,106
Net income$1,205$1,482$1,172$1,353-$123
EBIT$1,791$1,774$1,625$1,372$649
EBIT%40.00%42.32%40.21%42.16%30.82%
FCF-$100-$874-$1,158-$20-$2,424
Short term debt$3,613$2,771$2,514$2,034$2,058
Long term debt$9,630$9,009$8,611$6,622$6,691
EPS$2.34$2.96$2.73$3.00-$0.41
Dividend$4.31$3.14$2.41$0.50$1.50
Dividend Yield12%
Dividend paid$1,925$1,669$1,210$1,349$344
Dividend % EBIT107%94%74%98%53%
PE (Price/Earnings)15
Stock price used$35.88

Peer Benchmark

Peers with similar oil rig services are Transocean (RIG), Noble Corporation (NE), Diamond Offshore (DO) and Ensco (ESV).

(Source: Chart by Confero)

(Source: Chart by Confero)

Seadrill has been able to double its revenue, while most of its competitors were not able to do this. The revenue of Ensco increased because of the acquisition of Pride International (PDE), not by organic growth.

After 2010, the growth rate of Seadrill's revenue has been decreasing and is more in line with its peers.

(Source: Chart by Confero)

Seadrill has not been able to generate a positive free cash flow in the last five years. Seadrill keeps investing in new modern offshore drilling units with a primary focus on deep water operations. Seadrill strives to get long-term contracts for its new units while still building them.

Dividend and debt

Seadrill has a staggering 12% dividend yield in 2012 and has almost tripled the dividend since 2008.

(Source: Chart by Confero)

When comparing the amount of dividend against the EBIT, the dividend is more than the EBIT in 2012. Peer dividend payout is between 20-50%, which is much more healthy to do. The only way to be able to pay dividends and do capital expenditures is by adding debt.

(Source: Chart by Confero)

Both long term and short term debt keeps rising. Debt repayment and interest is eating away the EBIT. Debt creation is likely to become a very serious issue for Seadrill.

Risk

Seadrill depends on continuous growth in order to be able to sustain current dividend and building new rigs with an already negative free cash flow. If the oil-price drops or something unexpected occurs, Seadrill may collapse under the debt burden. A lot of debt also uses common shares as underlying security, so the issuing of new shares may result in a dramatic fall of the stock price.

Noteworthy is also Seadrill Partners (SDLP), which originates from Seadrill Limited with its own separate listing. EBIT percentage of Seadrill Partners is higher and debt is lower. The relations with Seadrill and structure are still being researched.

Seadrill may also be too optimistic calculating the future. Seadrill has the primary focus on deep water drilling. For future prognosis, Seadrill uses a higher daily average rate that its competitors.

These may already be negotiated with clients because of the newer rigs, but the competition is also building new units. The market is competitive and may drive average rates down.

(Source: Chart by Confero)

The current dividends are not sustainable, and Seadrill may be forced to drop future dividend payments and cut investments in new rigs for a number of years to decrease the debt levels. Being long Seadrill is very risky at the moment. The 12% dividend yield is not worth the risk. At least wait until the FY 2013 results are published before deciding anything. If Seadrill continues the current path, it will have serious problems in the near future.

Source: Seadrill's Path To Problems