Michael Connellan

Michael Connellan
Contributor since: 2011
SDRL's total debt is now 6x EBITDA. Their cash flow from operations - the most important single number in the financial statements - is completely inadequate to cover maintenance cap ex and the dividend. The company has been borrowing to make up the difference but at 6x they're reaching their limits. SELL NOW - unless the industry turns around very soon the result is inevitable: the dividend has to be reduced.
At 11 pct the market is telling us this is a very high risk holding. The key support for the dividend will come from Jon Fredericksen whose family trust owns 24 pct, and counts on the income.
I like VNR and own it, but the strategy shift to development and higher cap ex really concerns me since even just recently the management was telling a different story. This is a higher risk approach, and changes the beta.
SDRL now has about $13.2 billion in total debt, vs $2.5 EBITDA - a high 5.3x ratio. Unless they can sharply increase EBITDA or sell assets to reduce debt, either their bankers or the capital markets are going to start rationing their access to debt. Keep in mind that this company is controlled by John Fredriksen, as is Golar. Because his family trust lives off this dividend he'll keep the dividend as long as possible but ultimately markets will prevail. Sell SDRL now - they're quickly getting into a checkmate situation which is going to result in a dividend cut.
I have liked VNR's straightforward business plan of acquiring mature producing properties requiring only modest cap ex. It always concerns me when a company makes a big investment that's inconsistent with it's historically successful bus plan. Therefore I'm concerned about VNR taking on 970 to-be-drilled sites requiring large cap ex dollars. Anadarko is no dumb seller, too. If the theory proves correct it'll be a winner; if not, the dividend - or at least future dividend increases - will be at risk.
Very nicely presented article. However, through the years and some discouraging experiences, I long ago concluded that when a stock yields 10 pct or more, just sell it. That's an abnormally high yield and it's highly likely there are forces at play we don't yet understand. I've liked this stock in the past but at this point - Sell!
Hivoltage - That's a very good point, plus rip2451's comment. I own VNR, and buy more when it dips down at times, and expect to hold it for many years.
I'm beginning to be concerned about VNR's debt level. Right now it's a very manageable 3.3X EBITDA but after this acquisition total debt will be approximately $1.5 Billion, 5.0X EBITDA. If rates rise significantly it will create additional pressure. I'd like to see VNR sell stock and reduce debt levels.
Thanks for the FMV clarification. On revenue of $31.6 billion Yahoo stats is showing EBITDA of $4.17 billion and a TEV of $15.03 billion for a multiple of 3.61x.
Looking at the Balance Sheet values of the real estate is particularly important with JM, partly because I believe HK Land has held significant parts of Central HK for over 100 years. While not a Chartered Accountant, I suspect the current value of the real estate may be much higher than NAV which makes JMHLY JSHLY even better values!
At just 3.6x EBITDA and with strong exposure to growing Indonesia, JSHLY is a solid long term buy!
Zorro - being dependent on the capital markets is markedly different from a ponzi scheme. Many, many companies operate this way. REITs, for example, have to pay out 90 pct of net income so they generally cannot fund themselves out of cash flow and must go to the markets. While most cap ex lines in the Statement don't differentiate between maint and growth cap ex, if you instead study the MD&A section of the 10-K - the absolute best way to know what's really going on - you can generally make the differentiation.
I don't think a DCF analysis is useful for VNR; the result is totally dependent on your product pricing assumptions and the discount rate, and each is highly susceptible to errors. Companies like VNR are actually a lot simpler, I think. The investment IRR, if you hold the stock indefinitely, is simply equal to the current dividend yield plus the growth rate of the dividend.
Good point about the 'tax shield'! In 2012 VNR reported a loss which indicates, I think, that the entire dividend was tax-deferred for the year.
I like VNR and in fact I too own it. But it's very important to realize that there is not enough cash to pay the dividend after subtracting maintenance cap ex (differentiated from acquisitions). VNR depends on its ability to either sell stock or borrow money to get the cash to pay the dividend. This clearly shows in the most important financial statement, the Statement of Cash Flows. Net Income means little compared to cash flow.
Good names! You may also want to take a look at Zurich Insurance "ZURVY", and W P Carey "WPC".
LINE's basic problem seems very straightforward: the company is not earning enough cash to support the dividend. Valuation is of little relevance; cash is the determinant. The company is selling stock and/or borrowing money to pay the dividends. The Statement of Cash Flows clearly tells the tale. 60 pct of the capitalization is debt so they're reaching a limit there. The more the stock drops the harder it is to sell stock to pay the dividend. The end game is clear unless operations improve markedly - LINE will be forced to reduce or eliminate the dividend. Avoid the stock.
I believe the facts as stated, plus the circumstances of ownership, support the conclusion. Investment bank M&A teams are constantly analyzing potential deals like this one, which they then take to possible acquirers in an effort to get a deal going and put the target 'in play'. By coincidence, to illustrate, Jim Cramer happened to state this same exact view about BBBY on his show last night.
We should all keep in mind that when the dividend exceeds operating cash flow less maintenance cap ex, the company becomes dependent upon the ability to borrow more at reasonable rates, and to sell equity at fair prices. Should access to the capital markets be closed off or prices unreasonable - as in 2008-2009 - there is a high likelihood that the dividend will have to be cut in time. In the short run the most likely scenario would be a sharp cut in all except mandatory cap ex.
Toasty - IMHO this is a very aggressive holding. They're already stretching to maintain the dividend. Their newbuild focus may not work out. I own it, but under 1 percent of my portfolio (my max for any security is 2.5 percent; you never know...remember BP?). You can get a solid 5-7 percent yield from some solid pipeline companies. For a goal as important and date-certain as your child's college education, I would not rely on SDRL.
I own it and have for some time, but I'm keeping a careful watch on it.
Taking DD just as an example, it's at $45 and the one month $45 put is at $1.00. So if I sell it and receive $1.00 - ignore commissions and cash held - and it closes at $44 or above, I break even or make money. All good. But if it goes down to $43 then the Put is at $2 - right? And I lose $1. Below $43 my losses mount fast. Am I missing something?
I've often sold puts on stocks I want to own at a lower price, but this naked put strategy seems highly leveraged and speculative. If one runs out of cash you may simply not have enough capital to realize those long term expected returns.
What am I missing?
Yes, it is. With 10 yr T's below 3 percent, a yield over 10 percent is itself a danger signal. No lifeguard on duty; swim at your own risk.
Steve - Fine article. For me, though, the 8.2 percent yield comes with too high a cost in volatility due to the 30 percent leverage used. Look at Nuveen's highly similar JCL loan fund in the 2008-2009 period when it dropped about 60 percent,I believe. An unleveraged loan fund would be good as an inflation hedge, and should pay 3.5-4 percent (middle market private companies typically borrow at LIBOR plus about 3.5 percent).
David - Fine article, but when a yield gets into double digits, Mr. Market is telling you to stay away. Either you're in effect getting some of your own money back, or there's something going on and the real riskis much higher than it appears.
I like VNR but one thing an investor should always recognize about these companies,and REITs too, and that is that they are always dependent on the capital markets for their survival. This is different than Intel, for example, which throws off free cash flow in excess of (cash from operations - cap ex - dividends). VNR's cap ex plus dividend amounts exceed cash generated from operations so they constantly have to go back to the markets for debt or equity.
Most of the analysts and pundits are naive and have never run a business so they fail to understand that the single most important number in the financial statements is cash flow from operations!
I've known HCN since the mid 1980s and Bruce Thompson in Toledo, and now George Chapman, and these are quality folks who know what they're doing. Buy and hold HCN indfinitely,as I have, and you'll be happy you did!
Todd - Very interesting. I share your general enthusiasm. However,regarding QRE, thesingle most important number in the financial statements (I've been a CFO, CEO and Chairman so I speak from experience) is Cash Flow from Operations. Cash is what pays vendors, meets payroll, and pays shareholder distributions. In 2011 QRE generated $60 million in cash but paid out $88 million in distributions. Therefore they are dependent on the external capital markets. I would be VERY careful about investing much mobey in a company that is essentially paying distributions by borrowing money and continually selling more stock.
Understanding a company's business, and management's experience, is vital to an understanding of the numbers, assumptions, and outlook. Personally I think the most important thing about TGP is the outlook for LNG and the need for specialized tankers globally.
Note too that TGP, Seadrill, and certain other Teekay companies also share offices in Hamilton, Bermuda. This is not a coincidence; the common thread is John Fredericksen, Chairman.
1. Lots of interesting data. A key change, however, would be the weighted average cost of capital. TGP's cost of equity is about 9.8 percent (div yield plus div growth rate) but their cost of debt is far less. Look at the BS fortotal debt, and IS for interest expense. Overall TGP is about 2/3 debt and 1/3 equity, so TGP's weighted average cost of capital is much less than the 9.8 percent used, which will materially change a number of the calculations.
2. MLPs are far different structures, and applying corporate analyses to an MLP can at times be misleading.
On a very long term basis, the 8.5% current yield plus a 4.0% rate of dividend increases will produce a very attractive return of 12.5%. That's fine with me, even if the stock price never increases! [though it would, eventually, if the dividend kept increasing]
BP is not listed among the 20 largest owners of BPT, meaning they own less than 0.30% of the outstanding shares. The distributions vary quite a lot from quarter to quarter, and could easily be 10% less.
Oil field technology is constantly evolving. Typically recovery is only 60-70% of possible amounts, but better recovery techniques are enabling higher recoveries and finding additional supplies. Go back 10 years and look at the BPT data. The reserves have gone up very substantially.
But BPT does face potential issues with the pipeline due to maintenance, and flow issues if pumped oil fell below certain thresholds.
Nothing is without risk, and in effect the distributions are partially your own money back, but BPT is good for at least a few more years of good income.
BP has no ability to do any such thing. If you check the list of major owners of BPT, BP isn't even among the 20 largest which means they own less than 0.30% of the outstanding shares.