Drillers Downgraded, Seadrill Down 5% In 3 Mondays

Aug. 5.14 | About: Seadrill Limited (SDRL)

Summary

Deutsche Bank downgrades drillers, sees 13% further downside.

Drumbeat of downgrades not anticipated; Seadrill's rating reaffirmed.

Continue to be long-term bullish; dividends ease the short-term pain.

On August 4, Deutsche Bank analyst Mike Urban added to the price woes of Seadrill (NYSE:SDRL) and most of the major offshore drillers with an analyst report slamming the sector. While SDRL's rating was not changed, Diamond Offshore (NYSE:DO), Ensco International (NYSE:ESV), Nobel Corp. (NYSE:NE) and Transocean (NYSE:RIG) were all downgraded. SDRL and the other drillers have all experienced drops of 4%-9% since July 21. Deutsche projects another 13% drop. Urban's rationale is, in the absence of a material demand increase, the large number of new rigs coming on-line over the next few years will create a combination of pricing pressure, as well as render an increased number of rigs unprofitable. SDRL (NYSE:SDLP), RIG (NYSE:RIGP) and NE (PGN) have all recently created new or modified existing entities to better separate the less desirable older rigs from the newer rigs coming on-line, as well as to ease financing in this heavily leveraged industry.

Source: Yahoo

It is increasingly apparent that short-term supply and demand changes are causing the analyst community distress, as evidenced by recent negative macro reports by Raymond James and now Deutsche Bank. As I am long the sector, I obviously did not forecast the recent downdraft in stock prices. Noting that forward PEs are reasonable and supported by very healthy dividends, all else being equal (ceteris paribus), it is hard to see much downside in the group in general and SDRL in particular. That being said, ceteris paribus is rarely the case; 2015 earnings have been slashed in recent weeks, and valuation may change if projections are slashed.

I have been positive on the sector based on the anticipation of increasing demand due to geo-political concerns shifting producer activities. The Wall Street Journal recently highlighted this very transition. While the stock declines give me pause, I continue to believe there should be a healthy recovery in SDRL and the sector prior to June 2015. That is an extended period, and may create some discomfort. However, I cannot predict with any certainty when this demand will begin to manifest itself in contracts and day rates. In other words, there may be more short-term pain prior to long-term reward.

This article reflects the author's thoughts and is not to be used by investors in making buy or sell decisions. All investors should conduct their own due diligence and make decisions solely on their research.

Disclosure: The author is long SDRL, NE, RIG. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.

Editor's Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.