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Last year deep sea oil drillers took a nose dive on the catastrophic Gulf of Mexico oil spill. Transcocean Inc. (NYSE:RIG) fell from $92 to $46 (early June 2010). At the close Friday, Feb. 25, 2011, RIG sold for $82.75. There is no question it will still experience some near term earnings hangovers from the Gulf spill. However, new fields are opening up. As the price of oil goes up, there is greater impetus to drill big new fields. Many of these are in deep water (for example along the Brazilian coast). When oil hit $60-$70/barrel again (after a 2009 drop to $33/barrel), oil companies began to get very serious about developing the deep sea fields. The recent $20 pop to over $100/barrel (at times) in West Texas Intermediate (WTI) and $120+ in Brent (NYSEARCA:BNO) have lit a fire under deep sea development efforts.

The price of oil may fall if the trouble in the Middle East / Africa subsides. It could fall if the world economy slips back into recession (or goes into stagflation è recession). However, for the near term it seems likely the average price of oil has gained semi-permanently at least one half of the recent pop ($20). Any market follower should see this. Just look at the "cloud" stocks. Few deserve the multiples they currently sell at, yet they remain stubbornly high. They have become sentimental "growth" stocks. They grow on momentum. Oil demand is set to rise worldwide over the next few years as China, India, and others consume more. The oil producers will have a hard time trying to keep up. In fact the US military has said oil demand is set to exceed supply in 2012. We will have to wait to see exactly what happens, but the writing is on the wall.

All this should mean that the future is bright for the best deep sea oil drillers. Those with the most, the best, and newest deep sea equipment should all do well. A few of the companies that fit this description include RIG, Atwood Oceanics (NYSE:ATW), Seadrill Limited (NYSE:SDRL) (new equipment), and as a wildcard pick DryShips Inc. (NASDAQ:DRYS). DRYS is primarily a bulk shipping carrier, but it also owns a deep sea drilling subsidiary. The subsidiary has new, state of the art deep sea drilling equipment with more due to be delivered soon. It should be in high demand for some time to come. A few of the fundamentals of the companies are below. The fundamentals say that these stocks are all reasonable values. However, these stocks should continue to go up on sentiment as oil rises. This could be one of those times that the sentiment is right. Still a smart strategy would be to average in for a long term position.

Many think we are in for an overall market retracement. It would be a waste of money to buy all of your shares near the top of the market. Keep in mind that the U.S. GDP was a miss by -.5% on Friday (+2.8% GDP in Q4 vs. an expected +3.3%). The UK had a similar miss recently. Most of the EU missed. China has been continually tightening. The recent spike in oil to $100/barrel is supposed to cause the U.S. -1% in GDP if it persists. If and when the market decides to recognize such factors, the evaluation of the S&P500 et al will be much lower. This could trigger a big sell off. Former S&P500 year end 2011 targets are already being revised from 1400+ to 1300. Kass says the S&P500 should end the year approximately where it began. Some say the fair value is actually closer to 900 right now. This last may be an extreme view. Still, it is smart to be aware that the big bull market callers like Kass (the Mar. 2009 bull call) and Tepper (the QE2 bull call) have reversed their course. These guys haven’t been perma-bears. Rather, they are elite market gurus calling it as they see it. In a situation like this it pays to go with stocks that are both sentimental and fundamental favorites. Other typically mentioned deep sea drillers and deep sea equipment providers are Diamond Offshore Drilling (NYSE:DO), Noble (NYSE:NE), Oceaneering International (NYSE:OII), Hess (NYSE:HES), National Oilwell Varco (NYSE:NOV), etc. You might want to examine any or all of these.

Fundamentals Table (data from Yahoo Finance and TDameritrade):

Stock

RIG

ATW

SDRL

DRYS

PE

27.89

12.22

6.69

23.22

FPE

11.65

11.23

11.91

5.00

Avg. Analyst Rating

2.3

2.9

2.5

2.7

Avg. 1 yr. Target Price

$83.52

$41.00

$35.58

$6.55

Price/Book (MRQ)

1.20

2.00

1.69

0.51

Price/Cash Flow

10.11

12.23

8.79

7.26

Annual Dividend

--

--

$2.70

--

Market Capitalization

$26.42B

$2.9B

$14.5B

$1.8B

Short Interest as a % of Float

3.50%

11.40%

1.70%

4.89%

Total Cash per Share

$10.64

$3.10

$5.80

$1.18

Current Ratio

1.62

3.23

0.82

0.51

Current Price

$82.80

$45.59

$37.92

$4.90

Total Debt/Total Capital (MRQ)

34.40%

17.38%

61.77%

46.78%

Interest Coverage (MRQ)

--

214.65

5.13

1.61

Return on Equity

4.54%

18.69%

23.33%

--

EPS Growth (MRQ)

-212.17%

-21.30%

-34.14%

54.80%

Revenue Growth (MRQ)

-20.97%

-10.93%

33.04%

1.47%

Operating Profit Margin (TTM)

19.12%

48.04%

40.33%

38.26%

Net Profit Margin (TTM)

10.32%

38.39%

29.07%

7.86%

A few items in the above table jump out at one. ATW has 11.40% short interest. This means a lot of people think this stock is too highly valued currently. It also means it is likely to be manipulated by HFT traders. This could mean that it may rise faster than others (a momentum play). However, it also means it is more likely to drop dramatically. A conservative investor might want to keep this one his/her watch list until the short interest goes below 5%. Many of ATW’s other fundamental data are enticing.

ATW, RIG, and SDRL all have significant negative growth recently. Some of this may be attributed to the Gulf oil spill crisis and the Obama administration’s moratorium on drilling in the Gulf. Brazil et al’s ramp up on drilling off its coast and the resumption of drilling in the Gulf of Mexico should remedy much of this. Some problems such as RIG’s relatively high level of Jackup platforms (shallow water), which are not currently in high demand, are not likely to be quickly remedied. Still, RIG is a large capitalization stock. As such it is deemed more stable. It is held by more funds, etc. It is thought to be less risky. It carries a "buy" average analyst recommendation.

DRYS is largely in another business (dry bulk shipping), which has been troubled by low shipping prices and high competition. This is not likely to change quickly. However, it’s deep sea drilling business should be exemplary, especially as it receives new building ultra deep sea drilling submersibles. Plus its price/book is very attractive. The bulk shipping business is not likely to take off quickly, but it should slowly recover -- barring a return to recession soon. This means DRYS has good upside for the next 1-2 years on a book value basis alone. Still, it has had trouble paying its debts recently. It is a risk. Any appreciable fall back in economic recovery could put this company in financial jeopardy. It’s deep sea drilling business is set to take off with the delivery of the new building vessels. Given the right circumstance, this could turn out to be the best performer of those listed.

Of the five other stocks I mentioned (with no fundamental data above), I have heard the best things about HES and NOV. Sometimes scuttlebutt can prove to be the best indicator of what to buy. You might want to look closely at these. I have included the 1 yr. chart of RIG to give readers a good idea of RIG’s recent performance and strength. The other drillers have similar charts, although the quasi-driller’s chart is noticeably weaker.

The 1 year Chart of RIG.


(Click to enlarge)

Source: Deep Sea Drillers Just Got a Big Boost