Offshore Drillers: Potential Yield Gusher for your Portfolio

Offshore Drillerscash+flow

Dear PGM Capital Blog readers,

In this weekend’s blog edition, we want to discuss with you, why investing in Offshore Drillers at current valuation has the potential of adding yield to your portfolio.

With the global capital markets approaching all-time highs again, it’s difficult to identify stocks that are undervalued with growth potential.

So as the markets are peaking, we are looking for areas to enter that have downside protection, pay a healthy dividend and have solid growth potential. Offshore drillers meet all these criteria.

Based on speculation of possible decreasing day-rates for rigs and a weakening market as oil-companies limit capital expenditure, offshore drilling stocks have taken a beating over the past few months.

However, this weakness has created a buying opportunity as fundamentals and long-term business remain strong.

Based on the fact that their stock prices are near 52-week lows, with strong dividend, low Price to Earnings ratios we particularly like Noble Corp. (NYSE: NE), Ensco (NYSE: ESV), Transocean (NYSE:RIG) and Seadrill (NYSE: SDRL) at current prices.

Company Market Cap [USD] P/E Ratio P/B Ratio Dividend Yield
SeaDril 16.53B 6.44 2.18 11.20%
TransOcean 15.02B 10.74 0.89 5.40%
Ensco 11.9B 8.42 0.93 5.70%
Noble Corporation 7.96B 10.27 0.96 4.60%

SEADRILL:
At the closing price of Friday April 4th 2014, of US$ 35.30. the company offers an incredible 11.2% dividend, which is hard to ignore and investors looking to add yield to their portfolio may want to consider Seadrill.

As can be seen from below chart the company which has P/E ratio of just 6.3 is trading near its 52-week low, which is a good entry point for investors wanting to limit downside exposure.

Seadrill 2 year chart

In the current market where finding value is extremely difficult, Seadrill offers too many positives to not be considered undervalued here. While the company is highly leveraged and only 3 of its 20 rigs under construction have long-term contracts, its US$20.2 billion backlog is more than enough to sustain its quarterly dividend of US$0.98 per quarter per share in the short-term.

On top of this it is worth mentioning, that SeaDrill Ltd, is registered in the island-nation of Bermuda, for which the company as well as its share holders are tax exempt in Bermuda.

TRANSOCEAN:
Transocean had a horrible start in 2014, as can be seen from below chart. Year to date, the stock lost around 15.52% and although its stock price is showing signs of recovering, it is currently trading at its 2-year low.

Transocean 2-year chart

Above 2-year chart shows that the stock of the company has a strong support level of US$ 40.00 a share, which should continue to provide resistance to any further declines.

With a Price to earning and price to book ratio of respectively 10.74 and 0.89, we can consider the stock cheap.

Another floor for the stock-price of the company, is its large dividend yield of 5.4%, which is twice the yield of the 10-year Treasury bond. The payout is less than half of this year’s expected earnings so the company should be in no danger of cutting the dividend anytime soon.

NOBLE CORPORATION:
With a current P/E of 10.27 the company looks historically cheap considering its strong growth. This creates a great opportunity for dividend investors as short-term weakness has created an impressive 4.6% dividend yield with very little downside from current levels as can be seen from below 2-year chart.

 Nobel Drilling 2-year chart

In 2013, Noble Corp. announced they would spin-off part of its standard jack-up fleet by the end of 2014. Paragon Offshore will be the new company created and will take on 34 jack-ups, 8 floaters, and 4 other rigs to be announced. This spin-off will leave Noble Corp. with a young and specialized fleet of ultra-deepwater rigs and high-spec jack-ups.

ENSCO:
Ensco, which is the second largest offshore driller with 71 active rigs and 6 more under construction, offers an impressive 5.7% yield and has seen strong support at a price level of US$48 as can be seen from below chart.

Ensco 2 year chart

At current prices around US$51-US$52 a share, there is very little downside to this investment which offers both strong upside potential and pays a healthy dividend.

As can be seen from below 5-year chart, the company doubled its dividend in 2013 to US$3.00 a share and has shown its commitment to returning value to shareholders through strong dividends.

What’s even more impressive is that the company has the lowest payout ratio of any major offshore driller with a dividend yield over 3% as can be seen from below chart.

PGM CAPITAL COMMENTS:

Offshore oil drillers such as Transocean, Seadrill, Noble and Ensco look like ideal picks for income investors. After all, they each sport huge dividend yields of at least 5%, with Seadrill’s 10% yield leading the pack. This towers above the dividend yield of the overall stock market.

And yet, none of these oil drillers have received much love from investors over the past year. In fact, their share prices barely budged while the S&P 500 Index rallied. This has to do with the questionable outlooks facing oil drillers, primarily the potential of a tighter supply and demand balance for oil rigs. As oil majors see less compelling returns on new projects, they’re cutting capital expenditures that are likely to lead to lower day rates and utilization for oil drillers.

On the other hand, for investors with a long term horizon, these drillers at current price and dividend yield offer a great buy and hold opportunity.

Since the end of March of this year we have a STRONG BUY rating on the stock of SeaDrill, a BUY rating on the stock of Ensco and a MODERATE BUY on the shares of TransOcean and have start adding these stocks in several clients’ portfolio.

Last but not least. before following any investing advice, always consider your investment horizon and risk tolerance and financial situation and be aware that stock prices don’t move in a straight line and that sharp corrections may happen in the short term.

Yours Sincerely,

Eric Panneflek

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