Earlier this week, I promised that I would be presenting several offshore drilling companies whose revenues are in no danger of serious declines due to any difficulties in the offshore drilling industry. The first company that I presented was one of my personal favorites, Seadrill (SDRL). In this article, I'll take a look at a related company, and this one may be the best investment of all to gain protection from industry weakness: Seadrill's LLC affiliate, Seadrill Partners (SDLP).
Seadrill Partners is likely to be resistant to any weakness in the offshore drilling industry due to both the mechanics of the industry and to the way that the company itself is set up. We will start by looking at the way the offshore drilling industry works.
How the offshore drilling industry works
Unlike companies in many other industries, offshore drilling contractors are not dependent on day-to-day sales. Instead, these companies contract out their rigs at a fixed daily price to large exploration and production companies for extended periods of time. These large exploration and production companies are usually giant, financially stable oil and gas companies like ExxonMobil, Chevron, or Statoil. Because of the financial strength of their customers, there is relatively little risk that the customer will be unable to fulfill its contractual obligations. Furthermore, because these contracts are for long periods of time, offshore drilling contractors are effectively guaranteed revenues over extended periods.
Seadrill Partners focuses exclusively on long-term contracts
This is where Seadrill Partners comes in. Seadrill Partners is relatively unique among offshore drillers in that it only operates rigs that have very long contracts. In fact, that is what the company was set up to do: Seadrill Partners acts as a tax-advantaged way for Seadrill to increase its liquidity by selling its rigs that secure long contracts to Seadrill Partners. As such, Seadrill Partners has the right to purchase any rig in Seadrill's fleet that obtains a contract of five years or longer.
These long-term contracts should allow Seadrill Partners to ride through the various industry cycles without having its revenues affected. For example, if the partnership acquires a rig with a five-year contract when the market was strong (2011-2013, for example) and then the industry weakens afterward, that rig's contract should continue to generate revenue until the industry recovers. The only problem with this strategy would be if the contract expires during a period of industry weakness. So, what are the odds of that happening here?
Fleet fully contracted
To answer that question, let's take a look at the company's fleet and current contracts.
Source: Seadrill Partners
As the table shows, every rig in Seadrill Partners' fleet is completely booked for 2014. This means that the partnership has absolutely no rigs with expiring contracts this year and is almost completely immune to any weakness in the industry this year.
What's more, Seadrill Partners only has one rig in its fleet that is coming off contract next year. This rig is the West Vencedor, and this is a semi-tender rig, not an ultra-deepwater rig. As most of the weakness in the industry is focused on the ultra-deepwater sector, there is a decent chance that Seadrill Partners can secure a replacement contract for this rig to start working on once its current contract expires. This confidence is further bolstered by parent company Seadrill's statements that it has already started receiving inquiries from customers that may be interested in contracting rigs beginning in 2015. This could indicate that the drilling market will be stronger by that time so Seadrill Partners may have a stronger market into which it can contract its rig.
Does the market get it?
The market does, unfortunately, appear to recognize that Seadrill Partners is much less susceptible to seeing its revenues decline in the face of a weakening market than some of its peers. We know this by the simple fact that the partnership's unit price has held up much better than the share prices of other offshore drillers.
As such, there doesn't appear to be as big of an opportunity here as what is present with some of its peers. However, Seadrill Partners is also less likely to be as much of a rollercoaster ride as some of its peers have been lately, and the company still has strong future growth prospects. It also boasts a high distribution yield of 6.20% so you are well paid to seek safety in it. All in all, not a bad deal if you want both peace of mind and exposure to the offshore drilling industry.
