If Seadrill's (NYSE:SDRL) long-term future is in trouble someone should let president and chairman John Fredriksen know. The billionaire just bought another 1.3 million shares of Seadrill stock, raising his stake to 119 million shares.
Really, who should know Seadrill's future better than the man who founded the company and now oversees its operations? If Fredriksen is so bullish on Seadrill, should you be?
What Fredriksen likes about Seadrill
There's no doubt Seadrill will be a phenomenal stock if oil prices recover. But that's a big if right now on the market. Here are a few factors Fredriksen likes about how he's built his company.
Seadrill's greatest advantage, even if oil prices stay low, is the fact that it has one of the youngest fleets in the industry. Only 3% of Seadrill's rigs were built before 2000, meaning they're more reliable and capable than competitors' rigs. If drilling contracts are available in the next few years, explorers will value the younger fleet, meaning a greater chance of winning a contract even if it's at lower dayrates than Seadrill has today. In offshore drilling, the worst thing that can happen is to have a rig out of work. There's less likelihood Seadrill doesn't find work than many of its competitors' fleets.
Now that Seadrill has cut its dividend, it will have a far less risky business. Last quarter ended with $13.1 billion in long-term debt, and now that the dividend is eliminated, the company can save about $2 billion per year in cash to pay for debt or new rigs. Financial flexibility is key because Seadrill has about $4 billion in yard installments to pay on top of funding operations and debt. But to pay for all of this, Seadrill has $24 billion in backlog, so financial conditions may not be as dire as they appear.
What could go wrong with Fredriksen's plan
There are certainly reasons to be bullish about Seadrill stock and if oil recovers the stock could easily double or triple over the next year or two. But that's if oil recovers.
If we're actually entering a new paradigm where oil prices remain low in order to squeeze U.S. fracking, there could be fundamentally lower demand for offshore drilling rigs, particularly in ultra-deepwater where Seadrill has invested billions.
If oil prices stay low, Seadrill may find work for its rigs as I mentioned, but contracts could be at far lower margins than we see today. So, Seadrill's third-quarter EBITDA of $842 million could be cut significantly in the future if oil prices stay low.
Put Fredriksen's move into perspective
Keep in mind that $33.5 million, while a big bet for anyone, is a fraction of John Fredriksen's wealth. When Seadrill was paying a dividend of $1 per quarter, he was taking home over $110 million each quarter. So, putting a bit more of that back to work won't leave him broke anytime soon.
I think Seadrill is a great, albeit highly leveraged, way to play the recovery in oil prices and the company's backlog gives some time for oil prices to rise. But investors also need to understand the risks associated with betting on oil's recovery right now. OPEC holds all the cards and if they choose to keep production high for the next few years it would spread pain across the energy industry. Seadrill wouldn't be spared and with $13.1 billion in debt there's high risk to go along with the potential of high reward for the stock.
Travis Hoium owns shares of Seadrill. The Motley Fool recommends Seadrill. The Motley Fool owns shares of Seadrill. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.