After the retreat in its stock price, it is now an excellent opportunity for a long-term investment in Seadrill Limited (NYSE:SDRL) stock at a cheap price. SDRL's stock price has declined 25.6% from its September 2013 peak value of $47.78, and since the beginning of the year SDRL's stock has already declined 13.5%, while the S&P 500 index has risen 2.0%, and the Nasdaq Composite Index has declined 1.2%. Seadrill has compelling valuation metrics and strong earnings growth prospects. Furthermore, SDRL's forward annual dividend yield is extremely high at 11.03%, and the annual rate of dividend growth over the past five years was also exceptionally high at 25.4%. In this article, I will explain why, in my opinion, Seadrill stock is a smart investment right now.
Seadrill is a leading offshore deepwater drilling company. The company operates a versatile fleet of 69 units for operations in shallow to ultra-deepwater areas in harsh and benign environments. The company is headquartered in Hamilton, Bermuda.
The table below presents the valuation metrics of SDRL, the data were taken from Yahoo Finance and finviz.com.
Seadrill's valuation metrics are extremely advantageous; the trailing P/E is very low at 6.50 and the enterprise value-to-EBITDA ratio is also low at 11.69. According to Yahoo Finance, SDRL's next financial year forward P/E is very low at 9.37 and the average annual earnings growth estimates for the next five years is very high at 20.36%. These give a very low PEG ratio of 0.46, the lowest among all high-yielding Russell 1000 companies. The PEG Ratio - price/earnings to growth ratio is a widely used indicator of a stock's potential value. It is favored by many investors over the P/E ratio because it also accounts for growth. A lower PEG means that the stock is more undervalued.
Next Quarter Results
Seadrill will report its first-quarter 2014 financial results on May 28. SDRL is expected to post a profit of $0.68 a share, a 5.6% decline from the company's actual earnings for the same quarter a year ago.
Seadrill has been paying uninterrupted dividends since 2008. The forward annual dividend yield is extremely high at 11.03% and the payout ratio is at 65.8%. The annual rate of dividend growth over the past three years was high at 13.6%, and over the past five years was very high at 25.4%. I consider that besides dividend yield, the consistency and the rate of raising dividend payments are the most crucial factors for dividend-seeking investors, and SDRL's performance has been very good in this respect.
Source: Charles Schwab
Competitors and Group Comparison
The offshore contract drilling industry is highly competitive. Drilling contracts are, for the most part, awarded on a competitive bid basis. Price competition is often the primary factor in determining which contractor is awarded a contract, although quality of service, operational and safety performance, equipment suitability and availability, location of equipment, reputation and technical expertise also are factors.
A comparison of key fundamental data between Seadrill and its main competitors is shown in the table below.
Source: Yahoo Finance, finviz.com
Seadrill has the highest dividend yield and the lowest trailing P/E and the lowest PEG ratio among the stocks in the group.
Seadrill's Growth Rates, Margins and Return on Capital parameters have been much better than its industry median, its sector median and the S&P 500 median, as shown in the tables below.
According to Portfolio123's "All-Stars: Lynch" powerful ranking system Seadrill stock is ranked the first among all Russell 1000 stocks. The "All-Stars: Lynch" ranking system is based on investing principles of the well-known investor Peter Lynch. This ranking system is quite complex, and it is taking into account many factors like; P/E ratio, PEG ratio, institutional ownership, number of analysts covering the stock, liabilities to assets, and company's parameters relative to industry. 15-years back-test has proved that this ranking system is extremely useful.
Personally I am using only fundamental analysis for my investment decisions. After many years of experience, and after having tried all kinds of decision making including technical analysis, I have reached the conclusion that relying on fundamental information is giving me the highest return. Nevertheless, some investors are successfully using technical analysis to find the proper moment to start an investment (I am not talking about traders; my analysis is only for investors). The charts below give some technical analysis information.
The SDRL stock price is 2.21% above its 20-day simple moving average, 3.11% above its 50-day simple moving average and 9.23% below its 200-day simple moving average. That indicates a short-term and a mid-term uptrend, and a long-term downtrend.
Chart: TradeStation Group, Inc.
The weekly MACD histogram, a particularly valuable indicator by technicians, is at 0.28 and ascending, which is a strong bullish signal (a rising MACD histogram and crossing the zero line from below is considered an extremely bullish signal). The RSI oscillator is at 43.97 which do not indicate oversold or overbought conditions.
Analysts opinion is extremely divided. Among the sixteen analysts covering the stock, one analyst rates it as a strong buy, five rate it as a buy, seven rate it as a hold, two analysts rate it as an underperform, and one analyst rates it as a sell.
Oil and natural gas prices have been rising from the beginning of the year which should promote an increase in the demand for new explorations. WTI crude price has risen 12.9% from its low of January 09, 2014, to $102.07 per barrel on May 20, while Henry Hub natural gas price has risen 10.3% since the beginning of the year to $4.538 per Million Btu. Since a greater percentage of oil is being discovered in extremely deep waters, where Seadrill thrives, this will cause an increase in the demand for Seadrill's ultra-deepwater rigs where the rental price is the highest (Seadrill's current contracts; $435,000 - $640,000 daily rate).
WTI crude July 2014 leading contract
Henry Hub natural gas June 2014 leading contract
Charts: TradeStation Group, Inc.
According to Seadrill, global rig supply & demand imbalance favors contractors, and about 165 new builds is required to bridge the expected demand gap until year 2020.
Since Seadrill has $20.2 billion of contracted revenue backlog, and net cash from operating activities for the twelve month period ended December 31, 2013 was $1,696 million, there is a good possibility that the company will be able to sustain its high dividend payment.
According to Seadrill, its business in the offshore drilling sector depends on the level of activity in the offshore oil and gas industry, which is significantly affected by, among other things, volatile oil and gas prices, and may be materially and adversely affected by a decline in the offshore oil and gas industry. An over-supply of offshore drilling units may lead to a reduction in day rates and therefore may materially impact the company's revenues and profitability. The market value of Seadrill's current drilling units and those it acquires in the future may decrease, which could cause it to incur losses if the company decides to sell them following a decline in their market values.
Seadrill has the most modern fleet of all the major offshore drillers with exposure to premium segments. The company has compelling valuation metrics and strong earnings growth prospects, its PEG ratio is extremely low at 0.46, the lowest among all high-yielding Russell 1000 companies. Furthermore, it has the highest dividend yield, the lowest trailing P/E, and the strongest earnings growth prospects among its peers. All these factors lead me to the conclusion that SDRL stock is a smart investment right now. Furthermore, the very rich growing dividend represents a gratifying income.
Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in SDRL over the next 72 hours. 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.