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Seadrill's Earnings Don't Matter Unless This 1 Key Issue Is Resolved Quickly

By Tyler Crowe - Updated Mar 1, 2017 at 8:07AM

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If the company can't come to an agreement on how to fund the credit for a newbuild rig without compromising its debt covenants, this quarter's earnings are a moot point.

If Seadrill's (SDRL) earnings were the only things that investors needed to think about this quarter, then chances are the company's stock wouldn't have cratered the day earnings were released. For Seadrill investors, though, there were some other issues in the company's most recent earnings report that made investors run scared. 

Here's a brief look at Seadrill's most recent results and the events set to happen in the next couple of months that could decide its fate.

Offshore rig sitting idle

Image source: Getty Images.

By the numbers

Results*Q4 2016Q3 2016Q4 2015
Revenue $667 $743 $959
EBITDA $354 $441 $513
Net income $127 ($656) $343
Earnings per share $0.26 ($1.29) $0.56

*in millions, except per-share data. Data source: Seadrill earnings release.

If we were to look purely at the revenue and operations numbers for Seadrill, things wouldn't seem that bad. Sure, we saw a further decline in revenue and earnings ,but that isn't out of line with what has been happening at so many other rig companies lately. The ability to cut costs has allowed the company to preserve what little earnings can be had. Even at today's revenue, which is far from attractive, it has been able to hold onto an EBITDA margin of more than 50%.

Over on the operations front, it was a lot of the same for Seadrill and others over the past several quarters: rigs rolling off contract or receiving early termination notices coupled with some spot market or short contract work. So far, these short contracts for one well or a few months work is the only thing that producers want to commit to right now as they dip their toes back into the capital spending water. Oil prices are rising thanks to OPEC cuts and strong demand, but U.S. shale production is picking up that market slack at a rapid pace, which is making producers nervous about committing to long-term offshore oil and gas projects. 

Even Seadrill CEO Per Wulf had some very reserved optimism about the outlook for the industry in 2017. He said that there has been some increased bidding on offshore blocks as well as calls for tenders on rigs, but that hasn't translated to new contracts and favorable rates yet because there is so much idle equipment and other equipment coming on line. 

All for naught?

Right now, the company's current operations aren't exactly the issue, but rather the remnants of Seadrill's incredibly ambitious newbuild construction plan that was laid out years ago. Today, the company still has eight jack-up rigs and six floating rigs under construction. It has been trying to delay the completion and delivery of those rigs for some time now, but they remain current liabilities that are getting harder and harder to fund. 

In April, its West Eminence rig is expected to be completed, and the credit facility under which Seadrill paid for this rig is set to expire, which will require the company to find a longer-term loan for the rig. Herein lies the big issue facing the company today: It is struggling to find adequate financing for this rig without violating some of its debt covenants. 

As a result, management announced that it is in the middle of discussions with various creditors and boldholders to find a solution for this current issue. Seadrill's management has said it has until the end of April until the credit facility on that particular rig is due. If a reasonable solution cannot be achieved by then, Seadrill has already said that Chapter 11 bankruptcy proceedings are very much in the cards. 

What a Fool believes

A couple of years ago, it was clear that Seadrill's fate would come down to some tense moments like this. When the offshore rig market started to dry up, its debt load was very high and it still had several billion in commitments to new rigs under construction. The question that we all had heading into the downturn was how long it would last. The longer it went on, the less likely Seadrill would be able to get out from under the mess. Well, it's been 32 months since oil declined from that $100-a-barrel range and has been below $60 a barrel for more than two years. This was basically the worst-case scenario for Seadrill.

For investors in Seadrill, it's all about these next couple months. If the company can find some way to get funding for the next 12 months or so, there is a chance it will be able to start picking up some contracts and get back on track. If it can't, though, it could be game over.

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