Shares of offshore drilling contractor Seadrill Ltd (NYSE:SDRL) are down 41.6% at 2:14 p.m. EDT on July 2, following the company's pre-market announcement that it had emerged from Chapter 11 bankruptcy. The plan, which has been in place for many months now, included converting a substantial amount of the company's existing debt into equity, altering the terms of the debt it continues to carry, and providing it with over $2 billion in cash on hand funded partly by new secured debt.
In many cases when a company announces it will emerge from Chapter 11, its existing common equity becomes worthless, with common shareholders getting wiped out when the company's assets are used to satisfy its financial obligations. In this case, Seadrill's existing common shareholders aren't being left with nothing, but will own 1.9% of the newly capitalized Seadrill effective July 3.
On that date, existing shares of Seadrill will be exchanged for 0.0037345 shares of the "new" Seadrill, while the share count will fall from 504.4 million shares outstanding to 100 million. Here's a breakdown of who will own the new Seadrill's common equity, from Seadrill's press release:
- 14.25% of the New Common Shares issued to holders of unsecured claims against the Company and certain of its Chapter 11 debtor affiliates;
- 23.75% of the New Common Shares issued to participants in the $200 million equity investment under the Plan;
- 54.625% of the New Common Shares issued to participants in the $880 million new secured notes investment under the Plan;
- 1.9% of the New Common Shares issued to holders of existing common equity interest in the Company as of the Effective Date, an effective exchange ratio of approximately 0.0037345 New Common Shares per each Existing Share, and
- 5.475% of the New Common Shares issued as a structuring fee to certain of the new money investors.
To summarize, the majority of Seadrill will be owned by investors contributing new investments in Seadrill, as well as holders of unsecured debt that will be converted to equity. Existing common investors are getting a very small stake, but it's more than the vast majority ever see following a Chapter 11 reorganization.
Frankly, today's big drop shouldn't be a surprise for anyone. The company told us many months ago that common equity investors would only retain 2% -- at most -- of the company when it completed its bankruptcy proceedings, yet investors continued to pay a price for its stock that, at one point, would have made Seadrill worth nearly as much as competitors Transocean (NYSE:RIG), Diamond Offshore (NYSE:DO), and Noble Corporation (NYSE:NE) combined. But a relatively steady decline in the share price, combined with today's big drop, seems to be finally putting Seadrill more in line with its peers.
Based on the current share price and market capitalization, and what it will actually be worth tomorrow when shares convert, the market is giving Seadrill a valuation of over $3.7 billion. Depending on what happens with its share price tomorrow, it looks like Mister Market thinks Seadrill is the second-most valuable of the major offshore drillers:
And that value probably makes sense. Seadrill will not only emerge very well-capitalized and with a debt load that's manageable, it also continues to own and operate one of the newest high-spec drillship and semi-submersible fleets in operation, and its reputation as a safe, skilled operator was never in question even at the worst of its financial woes.
I would still caution investors to not jump into Seadrill with both feet just yet. My plan is to review the company's updated financials and balance sheet when they are made public before even considering buying shares. It appears that Seadrill will trade for above 50% the tangible book value of its assets upon emergence from Chapter 11. That's a higher valuation than Transocean, Noble Corp, or Ensco PLC (NYSE:ESV):
But that's based on its balance sheet in April, not the one it will emerge from bankruptcy with, and investors would do well to verify the value of its assets going forward before making a determination on what Seadrill's common equity is really worth (hint: if it's still trading at a sharp discount to book value, it's probably a buy.)
Bottom line: I continue to like Seadrill's fleet and well-regarded operations, and will take a close look at buying shares in the very near future. But until the company releases its updated financials and balance sheet, I'm not comfortable making an investment just yet.