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Summary

  • Analyst sentiment keeps getting worse for the offshore drilling industry.
  • 20-year tax holiday for the North Sea drillers is going to expire shortly.
  • 2015 earnings estimates from analysts keep declining for Transocean.

The last time I wrote about Transocean Ltd. (NYSE:RIG) I stated, "Due to the ambiguous technicals, earnings estimates getting cut dramatically, and uncertainty around the dividend I will not be pulling the trigger here right now." After writing the article, the stock gained 1.85%, versus the 0.05% gain the S&P 500 (NYSEARCA:SPY) posted. Transocean is an international provider of offshore contract drilling services for oil and gas wells by operating in the contract drilling service and drilling management services business segments.

On May 7, 2014, the company reported first-quarter earnings of $1.43 per share, which beat the consensus analysts' estimates by $0.41. In the past year, the stock is down 23.58% excluding dividends (down 18.99% including dividends), and is losing to the S&P 500, which has gained 12.32% in the same time frame. With all this in mind, I'd like to take a moment to evaluate the stock on a fundamental, financial and technical basis to see if it's worth buying more shares of the company right now for the basic materials sector of my dividend portfolio.

Fundamentals

The company currently trades at a trailing twelve-month P/E ratio of 9.67, which is inexpensively priced, but I mainly like to purchase a stock based on where the company is going in the future, as opposed to what it has done in the past. On that note, the 1-year forward-looking P/E ratio of 11.24 is currently inexpensively priced for the future in terms of the right here, right now. The forward P/E value that is higher than the trailing twelve-month P/E value tells us the story of earnings contraction in the next year. Next year's estimated earnings are $3.67 per share, while the trailing twelve-month earnings per share were $4.27. Next year's estimated earnings are $3.67 per share, and I'd consider the stock inexpensive until about $55. In addition, the company has great long-term future earnings growth potential, with a projected EPS growth rate of 18.72%. Below is a comparison table of the fundamental metrics for the company for when I wrote all articles pertaining to the company.

Article Date

Price ($)

TTM P/E

Fwd P/E

EPS Next YR ($)

Target Price ($)

PEG

EPS next YR (%)

20Aug13

46.53

10.16

8.19

5.68

85

0.27

37.51

25Nov13

51.00

11.14

9.05

5.64

85

0.32

34.85

26Dec13

48.48

10.46

8.59

5.61

84

0.31

34.06

19Feb14

42.79

9.30

8.21

5.21

78

0.36

26.00

20Mar14

40.12

10.37

8.01

5.01

75

2.57

4.03

21Apr14

40.54

10.48

9.19

4.41

66

N/A

-0.94

20May14

41.29

9.67

11.24

3.67

55

N/A

-18.50

Financials

On a financial basis, the things I look for are the dividend payouts, return on assets, equity and investment. The company pays a dividend of 5.43% with a payout ratio of 52% of trailing twelve-month earnings, while sporting return on assets, equity and investment values of 4.7%, 9.3%, and 7.2%, respectively, which are all respectable values. Because I believe the market may get a bit choppy here and would like a safety play, I believe the 5.43% yield of this company is good enough for me to take shelter in for the time being. Below is a comparison table of the financial metrics for when I wrote all articles pertaining to the company.

Article Date

Yield (%)

Payout TTM (%)

ROA (%)

ROE (%)

ROI (%)

20Aug13

4.81

49

2.1

4.4

5.4

25Nov13

4.39

49

2.1

4.4

5.4

26Dec13

4.66

49

4.9

10.2

5.4

19Feb14

5.23

49

4.9

10.2

5.4

20Mar14

5.58

58

4.3

8.6

7.2

21Apr14

5.53

58

4.3

8.6

7.2

20May14

5.43

52

4.7

9.3

7.2

Technicals

(click to enlarge)

Looking first at the relative strength index chart [RSI] at the top, I see the stock muddling in middle-ground territory with a current value of 44.33, with downward trajectory. I will look at the moving average convergence-divergence [MACD] chart next. I see that the black line is below the red line, with the divergence bars decreasing in height, indicating bearish momentum. As for the stock price itself ($41.29), I'm looking at $42.01 to act as resistance and $40.47 to act as support for a risk/reward ratio which plays out to be -1.99% to 1.74%.

Recent News

  1. Barclays recently called offshore drillers "value traps." Barclays actually sees a potential for 30% more downside to the stock, making the stock's "inexpensive" 11.24 P/E ratio a value trap at this price.
  2. There appear to be more rigs coming to the North Sea, coupled with slowing capex, which will cause some pain to the offshore drillers. This doesn't bode well for the company come 2015, says Credit Suisse, as evidenced by the decreasing earnings estimates in the table I have in the fundamentals section.
  3. The 20-year tax holiday the company was realizing for its North Sea output has now come to an end. Transocean was one of a handful of companies to basically pay no corporate tax for the past twenty years. The tax change should raise about 5% of total rig market revenues.

Conclusion

The whole offshore drilling industry is just not getting any love whatsoever from Wall Street, with every stock down in the past year. I thought this past earnings report was pretty good, with increased on the top and bottom lines, but the stock got hammered regardless. Fundamentally, this company is expensively valued on next year's earnings estimates and on earnings growth potential, but is exhibiting earnings contraction for 2015. Financially, the dividend is pretty high and only getting higher as the price of the stock decreases. It also helps that the financial efficiency ratios have increased from last month. Technically, the stock looks to have bearish technicals. Due to the deteriorating sentiment on the industry, expectations of earnings contraction for next year, and "value trap" characteristics, I will not be adding a position right here.

Because I swapped out ConocoPhillips (NYSE:COP) for Transocean in my dividend portfolio, it is only fair that I provide an update from the swap-out date. From 19th August, 2013, Transocean is down 11.06%, while Conoco is up 15.92% and the S&P 500 is up 13.82%. The trade has not worked well thus far. However, I still like the prospects of Transocean over Conoco in the long term, and will continue to provide updates.

Disclaimer: This article is meant to serve as a journal for myself as to the rationale of why I bought/sold this stock when I look back on it in the future. These are only my personal opinions and you should do your own homework. Only you are responsible for what you trade and happy investing!

Source: Can Transocean Drill For Its High Yield In These Murky Waters?