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Results from the 3 energy stocks in my portfolio March 3, 2014

Posted by shaferfinancial in Uncategorized.
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I will start with a thought on stock investment from Warren Buffett: He believes you invest in a small [for me] piece of a company and therefore should not invest in any company you don’t have confidence in the management. That sums my thinking on these three investments. I mention this because 1 of the stocks has had a dramatic last month due to a couple of analyst assertions that the dividend was in trouble. But I am getting ahead of myself. I will talk about these stocks in order of the size they represent in my portfolio.

SFL [Ship Finance International] is a owner of various ships including drill ships, which it leases out. They have added several ships over 2013 and will continue to add over 2014. They have a relatively large store of cash for which to increase their asset base [$216M]. Their debt maturity is staggered with very little coming due until 2018-2019 because they were able to refinance much last year under good terms.

Net income for 4th quarter compared to 3rd quarter increased 36%. Their backlog is $4.8B. Recently, they sold 2 underperforming ships for a profit. They have 4 ships scheduled for delivery Q4 2014/Q1 2015 that are already chartered out. They have 2 ships that the shipyard is behind schedule on and might be canceled.

Finally, the one area of concern in the past, their charters to troubled Frontline, have been managed well and those 15 ships will start sending much cash to SFL in 2014 under the new agreement. Meanwhile any remaining loans on those ships are below scrap value. So, if that counter-party would fail their would be no negative repercussions to the cash flow or dividend. They also just put a drill ship into lease and will start getting cash flow from it at good rates. Finally, they note an improving oil tanker environment that could increase cash flow even more.

They increased the dividend to $.40 per share an increase of 3% over last year. But my analysis points to a significant rise in dividend toward the end of this year. My yield on cost is now 11%. Bottom line is a safe dividend currently compounding at 11%.

SDRL [SeaDrill]

Seadrill owns and leases out drilling ships to the biggest energy companies in the world. About 1 month ago some analyst woke up and discovered that it is highly leveraged at the current time in order to purchase the latest rendition of deep water drill ships know for its increase safety and efficiency. In fact it brought on 13 drilling ships in 2013 and has 20 more rigs under construction. It has a total of $20.3B order back log including long term contracts on 3 of the rigs still under construction. It has contracts on almost all of it’s rigs for 2014 and over 72% of its rigs in 2015. In short, the next few years are covered with good contracts for the majority of its fleet.

It has plenty of financing in place to complete its purchases. For the time being, it will take a break from ordering more ships until it has a clearer picture of the demand post 2015. Now here is what the analyst have gotten all upset about. It has sold old assets to a sister company to have the cash flow to pay out its generous dividends [10.7% yield]. This is the model, purchase the newest and best drill ships that will command the highest day rates and attract the strongest counter-parties using debt and cash from sales of older drill ships. Maintain an exceptionally high dividend as a reward to its owners. I knew this when I bought in last fall. Yet, suddenly some analyst find this troubling and downgraded the company. Over the last few months these analyst have driven down the price around 10%. Good for them and me. I bought about 20% more at substantially lower prices than my earlier purchase.

Buffett March 1, 2014:
“It should be an enormous advantage for investors in stocks to have those wildly fluctuating valuations placed on their holdings – and for some investors, it is. After all, if a moody fellow with a farm bordering my property yelled out a price every day to me at which he would either buy my farm or sell me his – and those prices varied widely over short periods of time depending on his mental state – how in the world could I be other than benefited by his erratic behavior? If his daily shout-out was ridiculously low, and I had some spare cash, I would buy his farm. If the number he yelled was absurdly high, I could either sell to him or just go on farming.”

Now on to last quarter:
Net cash from operating activities went up 7% year on year. Cash available doubled.
During the last quarter of 2013 SDRL had 23 floaters, 22 jack up rigs and 3 tender rigs available. They expect to take delivery of 7 new drill ships in 2014, 11 in 2015 and 3 in 2016. Well over 90% of their fleet is last generation meaning they are the highest demanded version in the market. All current rigs were leased. The jack up rig had a utilization rate of 97% while the tender rig utilization rate was 95% and floater were 94%.

One oil driller with an old group of drill ships had issues getting a couple of its ships leased and took a cut in day rate in order to accomplish it. This was another issue that sent he market into a tail spin. However, the company has stated that it doesn’t see issues with getting its modern drill ships leased at good rates. There is some downward pressure as energy companies face increasing cost of exploration and recovery. Expenses on land based wells in the shale oil regions of North America have gone up as well as the cost of exploration. Movement to the Arctic, off of Africa and Brazil have increased expenses. However, Mexico has now decided to be more aggressive with its off shore drilling programs and SDRL has entered into a partnership with a Mexican private equity group to own and drill off of Mexico using 5 SDRL ships. This is the first time a non-Mexican company has been allowed to do this. By getting an established relationship, SDRL should be able to leverage more leases in the GOM off of Mexico. Despite all this teeth knashing the future looks very bright for SDRL and its asset positioning.

They raised the dividend another 3% and plan on keeping it there for a few quarters. Meanwhile they are creating a special dividend account and placing 20% of the profits from sales of old rigs in it. My current yield to cost is 9%. So, while we wait for the new ships to come on line and start producing cash flow, I will take the 9% dividend. And by re-investing the dividends that dividend should compound. Hopefully, the price remains attractive during this process!

Awilco Drilling [AWLCF]

This is the simplest to deal with and the riskiest. AWLCF own and operate two drill ships in the North Atlantic. There is currently a wide moat around drilling in this area so it is unlikely to see much increased competition. It all comes down to performance, or more specifically how many days it keeps its drill ships working and what its expense are.

It has a current back-log of $724M. Current leases go through to February of 2016 with one 3 month window that could be picked up by the current leasee but hasn’t. They had 99% operational up-time in the last quarter, but weather caused significant “waiting on weather” which are lower rates bringing the revenue efficiency down to 95%.

Operational cost were $88K per rig per day in-line with expectations. Day rates remain solid because of tough UK rules on adding drillers in the North Sea. As long as oil remains in the same value range, AWLCF will continue to make outsize profits.

The dividend declared for $1.10. My yield on cost is 21% before the current dividend is paid in 2 weeks.
Currently, the dividend looks solid going forward, but if there were some performance issues and the dividend needed to be cut obviously there is much to work with.

I intend on increasing my position by about 50% after I receive my dividend as long as the price remains attractive.

Now here is the part that is most important. I believe in the management of all 3 companies.
I believe that all 3 are well managed and capable of dealing with issues as they come up.

Short term 2 out of the 3 are down since I bought them.

AWILCO -6%
SDRL -11%
SFL +21%

For the total of the 3 I am up around 8%. But that is really irrelevant to me because I have no intention of selling the three anytime soon. Combined, my dividend yield on cost is 12%. Compounding 12% plus any dividend increases is not bad. And over time the price of the stock has to connect with the dividend.

I am long on all three.

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