Seadrill Part 2: New Jackup Contracts Promise Revenue Growth And Improve Forward Earnings Visibility

| About: Seadrill Limited (SDRL)


Seadrill recently announced that it has secured contracts for four of its existing jack-up drilling rigs.

Three of these four contracts carry higher dayrates than the rigs' existing contracts.

The higher dayrates will result in forward revenue growth.

These new contracts also increase Seadrill's forward earnings and cash flow visibility.

The improved forward cash flow visibility provides confidence that Seadrill can maintain its high dividend.

(If you missed it, this link is Part 1 on this discussion of Seadrill)

West Ariel

Like most of Seadrill's (NYSE:SDRL) jack-up rigs, the West Ariel is a modern and technically-capable drilling rig. The unit is a 2008-built high-specification jack-up rig using the venerable Keppel FELS B-Class design. West Ariel is capable of drilling wells up to 30,000 ft. deep in up to 400 ft. of water, making it easily the equal of any of the other rigs discussed here. The West Ariel was previously contracted to Vietsovpetro at a dayrate of $170,000 performing drilling operations off of the coast of Vietnam. This contract was scheduled to end in March. The wording that Seadrill used in its official announcement seems to imply that this contract ran a little bit long but that the rig will be on its way to its new work assignment in short order if it is not already on the way.

Like the West Tucana, the West Ariel also secured a fairly lengthy contract. The contract for this rig is for twelve months of operations off of the shore of the Congo for a subsidiary of Italian oil giant Eni (NYSE:E). In addition to this initial twelve month term, Eni will have the option to extend the contract for an additional twelve months.

The contract with Eni promises total potential revenue of $89 million over its initial twelve-month period. Fortunately, Seadrill did provide the mobilization fee for this contract. The mobilization fee is $8.5 million so that brings the total amount of money that this contract will generate through dayrates and performance bonuses down to $80.5 million. That would equate to approximately $220,500 per day. Seadrill did not say anything about a performance bonus with regards to this contract and so the assumption is that it does not have one. Thus, this would all be dayrate and clearly this is a much larger dayrate than what the rig had under its old contract. As with the other contracts discussed here then, this new contract will also stimulate revenue growth once the West Ariel begins working on it.

West Prospero

Seadrill's high-specification jack-up rig West Prospero also secured a new contract that was mentioned in the announcement. The West Prospero is a 2007-built jack-up rig using the Keppel FELS B-Class design. The rig has similar capabilities to the other rigs that were discussed here, such as being able to drill wells that are up to 30,000 ft. deep in up to 400 ft. of water. The West Prospero is either in the process of finishing up or just finished its current assignment with Vietsovpetro in Vietnam. This contract was scheduled to end in March 2014 and carried a dayrate of $170,000.

Unlike the other rigs, West Prospero will have a relatively short move to its new contractual drilling location as it is also in Vietnam. The rig has been contracted by JVPC to drill one well which is expected to take forty days. This gives the West Prospero by far the shortest contract out of any of the rigs in this group. The West Prospero will be paid a total of $6.5 million for drilling this well.

Seadrill did not provide any mobilization fee for this contract. This is excusable though, because the rig is remaining in Vietnamese waters and so the costs of mobilizing it are minimal. Therefore, there may not even be a mobilization fee associated with this contract. As mentioned a few moments ago, Seadrill stated that the rig would receive $6.5 million over an expected forty day contract term. This gives the rig a dayrate of $162,500 which is clearly the lowest dayrate out of any of the four rigs that the company secured contracts for and were discussed here. The West Prospero was also the only rig out of this group that saw its dayrate decline. Thus, Seadrill will see its top-line revenue negatively affected by this rig contract but the increased revenues from the other three rigs discussed here will more than make up for this decline. With that said, the slight revenue decline that Seadrill will see under this contract is much less than what the company would have seen in the absence of a contract. In that case, the company would have earned no revenue from the West Prospero and would have incurred some costs due to the need to idle it while looking for another contract.

Unfortunately, the short term of this contract also means that Seadrill still needs to find another contract for West Prospero to carry it through the remainder of the year. The new contract for the rig will only last until early June at the latest, but more likely this contract will terminate at the end of May and then Seadrill will be right back in the same position that it was with this rig prior to securing this contract. Hopefully, Seadrill is already in negotiations with somebody for the use of this rig after the contract with JVPC expires or Seadrill will see its revenue from this rig drop to zero and the company will start incurring costs to idle the rig while it searches for a new contract. Fortunately, the large number of jack-up contracts that Seadrill has secured recently, which I discussed both here and in another article, gives me confidence that Seadrill will be able to secure another contract for West Prospero following the end of this one.

Overall, this is a very positive development for Seadrill. As all but one of these rig contracts boasts a significant dayrate increase over the rigs' previous contracts, Seadrill should see positive revenue development as the rigs begin work on their respective new contracts. These new contracts also go a long way towards reducing Seadrill's rig availability in 2014 and 2015. Following these contract awards, Seadrill's jack-up fleet has 92% contract coverage in 2014 and 64% coverage in 2015. This means that the company is close to its maximum capacity this year and that it is doing an excellent job of maximizing shareholder value. In addition, the company's low availability allows its management to predict the firm's revenue and cash flow with a high degree of accuracy and this should provide comfort that Seadrill can indeed maintain its high dividend.

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.