Why I'm Finally Buying Seadrill

I've had my eye on Seadrill (NYSE: SDRL  ) for some time now. The company pays a very tempting dividend, currently at just over 9%. However, as I drilled down deeper into the company and the industry, it became pretty clear to me that it offered a compelling long-term investment opportunity.

The opportunity
Last year marked the best year ever for deepwater and ultra-deepwater discoveries. Not only did the energy industry's 52 finds smash the old record by 40%, but those discoveries were spread across the globe off the coasts of 14 nations. As good as last year was, 2013 is shaping up to be a gusher as well.

Just last month ConocoPhillips (NYSE: COP  ) and its partners announced two discoveries in the Gulf of Mexico. ConocoPhillips is planning to drill five exploration and appraisal wells this year, but that plan could be expanded by three more wells. Given its success, it wouldn't be a surprise if the company devotes more capital to its deepwater projects.

That's what is so compelling about Seadrill's future. The more oil that's discovered, the more it will incentivize energy companies to drill. That, of course, creates higher day rates for Seadrill's rigs which equates to more profits. It's a cycle that's showing no signs of slowing down.

Why Seadrill?
While I really like Seadrill's outsized dividend, that's not the main reason why I'm choosing the company. The company is in the midst of a major newbuild program which has 22 units expected to be delivered over the next few years. This fleet build-out gives the company the most modern fleet of all the offshore drillers. That's important because it means less downtime, which is something exploration and production companies really like.

Further, Seadrill has a contract backlog of $21 billion which goes a long way to securing its hefty dividend. When you put it all together, the company is poised to grow its EBITDA by 50% by 2015. However, the company is not without its risks.

The risks
The biggest risk in my mind is Seadrill's use of debt to fund its growth. While the contract backlog provides security, it's still a risk as debt has been known to be the weight that's sunk many businesses. However, Seadrill does have a plan to keep its debt it check.

One of the levers it can pull is to drop down assets into Seadrill Partners (NYSE: SDLP  ) . The company has already identified several assets with contract lengths of more than five years that would be ideal candidates to sell into Seadrill Partners. This flexibility, when combined with the backlog, helps alleviate much of the pressure from the debt worries.

A final risk, and perhaps the company's greatest unknown, is that of disaster similar in size and scope to the one that hit BP (NYSE: BP  ) and Transocean (NYSE: RIG  ) in the Gulf of Mexico. Not only did the disaster have a devastating effect of the Gulf region but it also greatly affected the operations of both BP and Transocean. That's why the overall risk of a similar disaster for Seadrill or one of its competitors remains to something to watch, especially given the company's high debt load.

The Foolish bottom Line
Despite these risks, I'm convinced that deepwater drilling will continue to grow in importance. That means no shortage of opportunities for Seadrill to increase its contracted backlog, and its dividend in the future. One final note of full disclosure, I am writing puts to start my Seadrill position. While I have no problem buying shares at its current price, I wouldn't mind picking them up a little cheaper. 

That's why if you're an energy investor on the lookout for new opportunities, then you should consider one of the more exciting plays in the space: Seadrill. To help you size up this stock, one of The Motley Fool's top Stock Advisor analysts has authored a premium research report on the company, covering everything from its strengths and weaknesses to what to expect going forward. Simply click here now to claim your copy and determine whether Seadrill deserves a place in your portfolio.


Read/Post Comments (6) | Recommend This Article (10)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On April 05, 2013, at 2:10 PM, Domeyrock wrote:

    Hopefully it will get cheaper right around June, when that big boy dividend kicks in to reinvest.

  • Report this Comment On April 05, 2013, at 2:20 PM, Carioca58 wrote:

    Good thesis, but you could have said why not one of the other players in this industry.

    For example, did you consider NOV or ATW? What makes SDRL more interesting than their competitors? Any of these structural events would also help these stocks.

  • Report this Comment On April 05, 2013, at 2:29 PM, TMFmd19 wrote:

    @Carocca58

    You're right that I didn't mention the competitors and you're right that it would apply to them as well. Quite honestly, I think they all can win. I'd drilled down on some of the companies here: http://www.fool.com/investing/general/2013/02/27/buy-this-de...

    Specifically with SDRL, I think they debt and dividend will juice the return over time as evidenced by the 50% EBITDA growth. Further, the back log is huge (its comparable to RIG) and SDRL has newer rigs.

    I don't know a whole lot about ATW, but NOV an equipment and service company which is a different business model than SDRL. It's a very appealing company and some say its pretty much the only energy name you need in your portfolio.

    Hope that helps - Matt

  • Report this Comment On April 05, 2013, at 3:09 PM, Domeyrock wrote:

    ATW I like but it's much much smaller compared to SDRL, so more risk to volatility. NOV I also own but trades so close to the price of oil, I don't think it should, but it does.

  • Report this Comment On April 08, 2013, at 11:49 AM, artmuseum wrote:

    Spot on, foolish investors.

    We keep getting the mantra about "debt" when IN FACT it is credit granted to SDRL to at least double

    into profits. I aver, the more credit, the more profit!

    Worth mentioning SDRL credit cost is LOWER, much lower than its peers. That is due to the presence of Chairman John Fredriksen, the financial engineering genius at the helm. His wealth is believed to be higher than the entire market value of SDRL = translation = credit sources feel comfortable, even eager, to deal with him.

    Thus, SDRL investors are in a sweet spot I call "accelerated GROWTH".

  • Report this Comment On April 08, 2013, at 6:27 PM, artmuseum wrote:

    Re previous comment.

    I stand corrected.

    On reflection I believe JF's wealth exceeds USD10 billion but per chance not SDRL's market value.

    My apologies for any inconvenience.

Add your comment.

DocumentId: 2348643, ~/Articles/ArticleHandler.aspx, 4/20/2014 7:55:33 PM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...

TREND TRACKER: Get Rich When the Web Goes Dark

It's time to say "goodbye" to your Internet! One bleeding-edge technology is about to put the World Wide Web to bed. And if you act right away, it could make you wildly rich. Experts are calling it the single largest business opportunity in the history of capitalism… The Economist is calling it "transformative"... but you'll probably just call it "how I made my millions." Big money is already on the move. Don't be too late to the party – find out the 1 stock to own when the Web goes dark.


Advertisement