The global offshore rig market is poised for growth, with Westwood Global Energy Group forecasting a demand increase of up to 36 rigs year-on-year and a 3% rise in global marketed utilization in 2024. This boom is fueled by the world's ever-increasing energy needs and a renewed interest in deepwater exploration.
As operators increasingly favor longer-term contracts, with some extending up to a decade, investors are eyeing companies that are well-poised to take advantage, especially those with strong cash flow and strategic market advantages. Key regions such as India, Southeast Asia, South America, and West Africa are expected to drive this expansion.
One company that looks well-positioned is Seadrill Limited (SDRL). Citi recently upgraded Seadrill from “Neutral” to “Buy," highlighting its potential for a sector-leading free cash flow yield of over 20% by 2026. Seadrill also has a solid footprint in Brazil, where analysts anticipate favorable rig renewal rates - and as a bonus, the firm suggests that SDRL could also be an attractive takeover target for a rival like Transocean (RIG).
So, is Seadrill a smart investment for those looking to add exposure to the energy sector? Let's dive into Seadrill's strategic positioning and evaluate its potential for delivering solid returns.
Seadrill's Impressive Cash Flow
Valued at $3 billion by market cap, Bermuda-based Seadrill (SDRL) is a smaller-cap player in the offshore drilling industry that has been garnering attention with its robust financial performance and impressive cash flow generation. Known for providing top-notch drilling services to oil and gas companies globally, Seadrill operates a fleet of advanced rigs that keep it at the forefront of the industry.
SDRL stock has underperformed the broader energy sector lately, suggesting the shares have some room for catch-up gains. SDRL is down 10.4% on a year to date basis, compared to a 5.6% gain for the S&P 500 Energy Sector SDPR (XLE).
From a valuation standpoint, Seadrill trades at approximately 9x forward earnings, and 6.91x enterprise value/EBITDA - suggesting the energy stock is reasonably valued at current levels.
Looking at Seadrill's second quarter of 2024, the financial results beat Wall Street's estimates. The company reported $375 million in operating revenues, a slight uptick from the previous quarter. More notably, it achieved an operating profit of $288 million and an adjusted EBITDA of $133 million, boasting a robust 35.5% EBITDA margin. This success is largely due to Seadrill's focus on operational efficiency and cost management.
Seadrill's cash flow generation is particularly impressive. In Q2 2024, the company generated $79 million in cash flow from operations, even after allocating $60 million for long-term maintenance. After accounting for capital upgrades, the free cash flow was a healthy $36 million. This strong cash flow has enabled Seadrill to maintain a solid balance sheet and return value to shareholders through share buybacks.
Key Drivers Behind Seadrill's Success
Seadrill's recent strategic moves are propelling the company towards a more focused and profitable future. The company's decision to divest its Qatar jack-up fleet and exit the joint venture with Gulf Drilling International for $338 million is a significant step in streamlining its operations. This move allows Seadrill to concentrate on its core business of operating deepwater rigs in prime locations, potentially boosting its efficiency and profitability.
Furthermore, Seadrill's recent contract wins for its drillships demonstrate the company's strong market position. The West Capella secured a $32 million contract in South Korea, while the West Neptune landed a six-month extension worth $86 million in the Gulf of Mexico. These contracts not only add to Seadrill's backlog, but also showcase the ongoing demand for its high-specification rigs.
The upgrade of the West Neptune with managed pressure drilling capabilities highlights Seadrill's commitment to technological advancement, making it the tenth rig in its fleet with this advanced technology. This investment in cutting-edge equipment could give Seadrill a competitive edge in securing future contracts.
These developments paint a picture of a company strategically positioning itself for growth in the deepwater drilling market, which could translate into improved financial performance and potentially drive the stock price higher.
The Forecast for Seadrill's Future
The company’s forecast calls for full-year 2024 revenues between $1.355 million and $1.405 million, with adjusted EBITDA projected between $315 million and $365 million. This reflects the delay of some contract start dates, as CEO Simon Johnson explained.
“Though a combination of supply chain, weather, and scope have shifted West Auriga and West Polaris start dates, both rigs will soon set sail for Brazil and should begin their contracts by year-end, contributing meaningfully to Seadrill earnings and cash flow in 2025," said Johnson. "Any additional work the Sevan Louisiana secures this year would represent upside opportunities to the mid-point of our guidance."
Regardless of energy market volatility, Wall Street analysts are now unanimously bullish on Seadrill's prospects after Citi's upgrade. Out of seven analysts covering the stock, six rate it a "Strong Buy," while one suggests a "Moderate Buy," with not a single “Hold” or “Sell” rating.
The average price target set by analysts stands at $63.86, with estimates ranging from a low of $52 to an ambitious high of $80. Given Seadrill's current trading price, the mean target implies a substantial upside potential of 51.8%.
Conclusion
As the dust settles on Seadrill's recent strategic maneuvers, the company emerges as a compelling prospect in the energy sector. With a robust free cash flow outlook, strategic fleet optimization, and overwhelming analyst support, Seadrill seems poised to capitalize on the latest upcycle in offshore drilling. While the stock faces some headwinds, the potential for significant upside remains evident. For investors willing to weather the inherent volatility of the energy market, Seadrill offers a unique blend of value and growth potential that's hard to ignore.
On the date of publication, Ebube Jones did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
