SeaDrill Financing Comes Through (SDRLF.PK, SDRL.OL, SFL)
I've written several times about my investment in Norwegian driller SeaDrill (SDRLF) over the past few months, but this is the first big of big news in quite a while.
SeaDrill has been plugging along, re-upping their contracts around the world to keep the rigs busy at higher and higher rates, which is great ... but today they secured the first part of what I hope will be a deep financing agreement with the closely related company Ship Finance Limited (SFL).
Back when I first purchased SeaDrill shares I wrote that I thought John Fredriksen and Tor Olav Troim would bring the same financing strategies into play in the rig business as they had done so successfully with Frontline in the tanker business. I speculated that they might involve the ship financing company that they created, Ship Finance Limited, in providing the liquidity that would allow them to continue growing quickly and build huge free cash flow capacity.
Well, it has begun to happen -- much earlier than I would have guessed. Here's an article that explains the financing deal that was struck, and here's the press release of the official announcement, but basically SeaDrill has sold the SeaDrill 3 to Ship Finance Limited and signed a fifteen year agreement to lease it back at steadily declining annual rates.
The SeaDrill 3 is a brand new Jack-up rig that will earn $166,000 a day starting this month in its initial contract in Nigeria (for about two years, with a market rate option following that). That means for at least the next two years, this rig will earn about $60 million a year and they'll be paying about $40 million a year for financing to SFL (the day rate SDRL pays to SFL will be about $112,000). That's $20 million in free cash flow ($44,000 ish a day), on top of the $210 million upfront that SFL paid for the rig. Not bad, considering that the purchase price of the rig itself, which was just delivered about two months ago, was estimated at only $114 million.
That's exactly the kind of leverage John Fredriksen likes to use for his companies, and it's a sign of the massive amounts of cash SeaDrill has the potential to spin off in the long run. I wrote when I mentioned UBS's upgrade of SeaDrill that UBS estimated they might be able to return up to $4 billion to shareholders over the next three years because of the potential for deals just like this -- that's more than half of SDRL's current market cap, which seems crazy but is modest compared to the cash that flowed to Frontline shareholders during the last few years.
So while I continue to expect SeaDrill to try to build their rig empire to compete with the TransOceans and Global Santa Fes of the world, and to use financing from SFL to pay for that expansion, I wouldn't be surprised to see them start issuing dividends within the next year as well.
There is, of course, a potential for downside here -- as with any leveraged situation. If day rates fall significantly below current rates when leased rigs are up for renewal (for example, if the SeaDrill 3 was up for renewal in 2008 and day rates were below the $112,ooo payments due to SFL), SeaDrill would have negative cash flow on those rigs. But if rates remain at least as strong as they are today for the next three years, or drop less than 20%, SeaDrill will be making lots of money. If rates climb dramatically, SeaDrill has the option to buy back the rig at an agreed upon price or, after three years, to just enjoy the much lower lease payments while they roll in the money.
And that's certainly the way the trend is moving -- SeaDrill also just announced that they've signed a contract extension for the SeaDrill 5, which is a 20+ year old jackup that's not as capable as the SeaDrill 3 (in terms of water or drilling depth), for a day rate of about $195,000 starting next year. It's a much shorter contract of just over four months, but still that shows the kinds of rates these rigs are getting -- this is twice the rate of the current contract for SeaDrill 5.
As a former Frontline shareholder who really enjoyed receiving 30% annual dividends for a little while as the SFL-enabled cash flow went through the roof, I'm hoping this is just the first building block in a long and successful relationship with Ship Finance Limited.
SeaDrill has been plugging along, re-upping their contracts around the world to keep the rigs busy at higher and higher rates, which is great ... but today they secured the first part of what I hope will be a deep financing agreement with the closely related company Ship Finance Limited (SFL).
Back when I first purchased SeaDrill shares I wrote that I thought John Fredriksen and Tor Olav Troim would bring the same financing strategies into play in the rig business as they had done so successfully with Frontline in the tanker business. I speculated that they might involve the ship financing company that they created, Ship Finance Limited, in providing the liquidity that would allow them to continue growing quickly and build huge free cash flow capacity.
Well, it has begun to happen -- much earlier than I would have guessed. Here's an article that explains the financing deal that was struck, and here's the press release of the official announcement, but basically SeaDrill has sold the SeaDrill 3 to Ship Finance Limited and signed a fifteen year agreement to lease it back at steadily declining annual rates.
The SeaDrill 3 is a brand new Jack-up rig that will earn $166,000 a day starting this month in its initial contract in Nigeria (for about two years, with a market rate option following that). That means for at least the next two years, this rig will earn about $60 million a year and they'll be paying about $40 million a year for financing to SFL (the day rate SDRL pays to SFL will be about $112,000). That's $20 million in free cash flow ($44,000 ish a day), on top of the $210 million upfront that SFL paid for the rig. Not bad, considering that the purchase price of the rig itself, which was just delivered about two months ago, was estimated at only $114 million.
That's exactly the kind of leverage John Fredriksen likes to use for his companies, and it's a sign of the massive amounts of cash SeaDrill has the potential to spin off in the long run. I wrote when I mentioned UBS's upgrade of SeaDrill that UBS estimated they might be able to return up to $4 billion to shareholders over the next three years because of the potential for deals just like this -- that's more than half of SDRL's current market cap, which seems crazy but is modest compared to the cash that flowed to Frontline shareholders during the last few years.
So while I continue to expect SeaDrill to try to build their rig empire to compete with the TransOceans and Global Santa Fes of the world, and to use financing from SFL to pay for that expansion, I wouldn't be surprised to see them start issuing dividends within the next year as well.
There is, of course, a potential for downside here -- as with any leveraged situation. If day rates fall significantly below current rates when leased rigs are up for renewal (for example, if the SeaDrill 3 was up for renewal in 2008 and day rates were below the $112,ooo payments due to SFL), SeaDrill would have negative cash flow on those rigs. But if rates remain at least as strong as they are today for the next three years, or drop less than 20%, SeaDrill will be making lots of money. If rates climb dramatically, SeaDrill has the option to buy back the rig at an agreed upon price or, after three years, to just enjoy the much lower lease payments while they roll in the money.
And that's certainly the way the trend is moving -- SeaDrill also just announced that they've signed a contract extension for the SeaDrill 5, which is a 20+ year old jackup that's not as capable as the SeaDrill 3 (in terms of water or drilling depth), for a day rate of about $195,000 starting next year. It's a much shorter contract of just over four months, but still that shows the kinds of rates these rigs are getting -- this is twice the rate of the current contract for SeaDrill 5.
As a former Frontline shareholder who really enjoyed receiving 30% annual dividends for a little while as the SFL-enabled cash flow went through the roof, I'm hoping this is just the first building block in a long and successful relationship with Ship Finance Limited.
This article posted by One Guy @ 7/03/2006 11:11:00 AM 0 comments
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