One of the few times investors get to hear directly from management about a company's operations and direction for the future is the conference call that follows quarterly earnings reports.
For investors following the offshore drilling market this is the time for management to give insights into what the future looks like. That's important this year because 2014 has seen lower demand than many investors anticipated, and offshore drilling stocks have suffered as a result.
Here are five of the biggest takeaways from ultra-deepwater driller Seadrill (SDRL).
Oil drilling isn't what it used to be
"Even [among high oil prices and] strong macro fundamentals oil companies seem to be unable to generate free cash flow to grow the businesses and have entered into a period of selectivity of projects and cost escalated across the entire portfolio of projects." -- Per Wullf, CEO
Weakness in the offshore drilling market has been due to oil explorers cutting back on spending this year. Rising costs and risks for oil and gas projects have led to lower returns, and companies are essentially regrouping until they see returns increase again.
For Seadrill and other rig owners that has led to fewer long-term contracts being signed and increased competition for older rigs that don't have the capabilities of newer rigs. But for oil companies to keep production up they'll have to begin drilling again soon, and that's when the floodgates should open.
Demand is coming eventually
"The majority of low cost project has been produced, we know that and oil companies are entering into a new phase in which recently discovered oil must be developed in order to grow production. These reserves are in the deep and ultra-deep water and are far more complex than reserves discovered in prior periods." -- Per Wullf, CEO
Over half of the new oil discovered last year was found in ultra-deepwater, so eventually oil companies are going to have to drill in these fields. They may hold back in the short term to maintain profits, but if we see any scarcity of oil and prices rise, demand for offshore rigs should return once again.
Long-term, the dynamics for the oil industry look to favor Seadrill, but it may take some time for that promise to hit financial statements.
Seadrill's young fleet will still do well short-term
"As far our short-term outlook, the market continues to be challenging. However, Seadrill is well-positioned with few rig exposed to the near term pricing weakness. You can see it on the slide, day rates are falling faster on all the units and it is important to be focused on the high end assets as you will see Seadrill combines both of these elements." -- Per Wullf, CEO
We may be seeing demand for offshore rigs fall overall but new rigs with more capabilities and better safety features are still winning contracts. Seadrill will receive four new ultra-deepwater rigs this fall, and three have a contract waiting for them. These aren't the 10-year contracts we saw Transocean sign a few years go, but they're still highly lucrative and show demand at the top end of the market.
In short, drilling companies will contract with Seadrill for a new rig before they'll contract a rig that's 20 or 30 years old. The young fleet Seadrill has built will cushion the short-term volatility in the industry while providing significant upside for operations long-term.
The balance sheet is fine... for now
"We are fully funded in 2014 and well into 2015, and have roughly half of our funding requirements in 2015 represented by contracted assets, for example the West Rigel and West Mira. So I'm very confident that we will be able to also fund the outstanding newbuildings." -- Per Willf, CEO
Seadrill has 11 floaters and five jack-up rigs that will be delivered by the end of 2015, and with $12 billion in debt it's a worry Seadrill won't be able to pay all of its bills and continue to pay a dividend. But monetization of $300 million in SapuraKencana and pushing assets down to Seadrill Partners (SDLP) has given some financing flexibility.
By the end of 2015 it's likely Seadrill will have to go back to debt markets, but as long as contract momentum remains strong in its main markets by then, it should have the funding needed to complete newbuilds and pay its dividend, which management also addressed.
Dividends are safe long-term
"We also have strongest financial position in our history and have decided to maintain the dividend of $1 per share. We expect to be able to support this dividend level for foreseeable future." -- Per Wullf, CEO
If you own shares of Seadrill one of the reasons is likely the eye-popping 11.1% dividend yield. That's a great payout if it lasts, but it also concerns investors because it's currently being paid for by selling assets.
Over the next few years, Seadrill's debt as well as obligations to pay for the new rigs I outlined above will take up a significant amount of cash. If cash flow isn't significant enough to pay for those obligations, management will either have to increase debt (and thereby risk) or lower the dividend.
But for the foreseeable future management thinks it has enough cash flow to pay for the dividend. Only time will tell if that narrative changes long-term.
