Seadrill (NYSE:SDRL) has just reported its fourth-quarter results. In case actual numbers are of any interest to you, Seadrill reported revenue of $667 million and unadjusted earnings of $0.26 per share. Now that we are quickly done with the obligatory part, let's go straight to the most important part of the report - the restructuring update.
First and foremost, the postponement of the earnings report was really due to the restatement of shareholders' equity. As is often the case, conspiracy theories were wrong. Seadrill had nothing special to report and its negotiations with lenders continue.
Compared to the previous proposals which were made public a month ago, the company changed its stance and stated that material additional amendments to the terms of the proposed bank amendments were necessary to raise new capital.
This is not surprising. The banks' initial position was to kick the can down the road and even increase the leverage of the company, while any sustainable solution starts with deleveraging of Seadrill.
In addition, Seadrill indicated that certain stakeholders and potential money providers believe that bonds should be converted to equity. It is certainly a step in the right direction - the direction of deleveraging. The problem that I see here is that all parties in the restructuring including John Fredriksen himself showed no enthusiasm towards holding equity as if it was a hot potato.
Seadrill also stated that it will likely fail to achieve a comprehensive agreement with lenders before the deadline on April 30, 2017. Should it happen, the company will need to deal with the maturity of the West Eminence facility and a milestone under the bank facility amendments entered into in April 2016. In short, this means that banks will determine the future of Seadrill. They will have the option to continue negotiations or force the company into Chapter 11.
Here's what it means for Seadrill stock. First, I expect pressure due to explicit announcement that lenders will need to make additional concessions. Once again, this is absolutely not a surprise given the fact that the initial Seadrill proposal to bondholders was absolutely out of touch with reality. The bondholders' proposal was a bit better (and included a wipeout of current shareholders), but still left the company highly leveraged.
Despite increased talks that the offshore drilling market might have reached the bottom, there is no tangible evidence of such statements. Therefore, Seadrill should prepare its capital structure for a prolonged downturn.
Assumptions regarding dayrate improvements and utilization improvements in the company's proposal to bondholders were unrealistic. I believe that drillers' reports, comments and fleet status reports during this earnings season fully confirm that we should not expect a fast recovery in contracting activities and that any recovery in dayrates is far away.
Fundamentally, debt-to-equity conversion means huge dilution for common shareholders. However, dilution will be a real gift to common equity holders as the wipeout is certainly on cards now. The recent report of Ocean Rig (NASDAQ:ORIG) with its massive impairment showed what the real book value of rigs is - 60% less than the company carried on the balance sheet, and that's for new rigs! Should Seadrill follow the Chapter 11 path, the judge will have an easy case wiping out common equity holders completely due to heavy debt load and newbuild financing obligations.
In this light, the only real chance is an amicable agreement between lenders that will leave a small piece of the company for common shareholders. The stock market still assigns $1 billion of value to Seadrill equity, so there is room to fall. Trading in upcoming two months will be highly volatile as there will be speculators willing to bet on the good outcome of the restructuring for common shareholders despite facts presented to them.
Due to the low cost and volatility, Seadrill stock will remain a playground for daytraders and swing traders, while investors will be better off watching the show from the sidelines and trying to evaluate the impact of the restructuring for the healthier players like Transocean (NYSE:RIG), Ensco (NYSE:ESV), Noble Corp. (NYSE:NE), Diamond Offshore Drilling (NYSE:DO) and Rowan (NYSE:RDC). Should Seadrill restructuring result in a significant deleveraging, a powerful competitor for the survivor group will emerge and put additional pressure on the market.
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