Kill My Thesis: RDC

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Please help my analysis by arguing the bear case in the comments section.

Thesis

  • Trading at P/TBV of 0.61 (bottom 2% of its valuation range in past 15 years).
  • Current backlog of $5.4 billlion (including all 4 deepwater Drillships contracted until April 2017); 2015 median EPS = 3.77 for a forward P/E of 5.8.
  • Young, high specification rig fleet relative to competitors.

Industry Profile:

  • Offshore drilling industry is facing near term headwinds with recent retreat in oil prices.
  • ~829 mobile rigs available worldwide.
  • 513 jack-ups operating worldwide (11% are high-spec) + 135 to be delivered by 2017 (38 of which will be high spec).
  • 98 drillships operating worldwide (66% capable of drilling in 10,000 ft of water) + 74 to be delivered by 2020 (72 of which can drill in 10,000 ft).

Company Profile:

  • Company was founded in 1923.
  • The business makes money by charging day rates for drilling services (equipment & personnel) to oil and gas exploration companies.
  • Business drivers are supply and demand for drilling rigs, both of which are driven by oil prices.
  • Key profitability drivers are day rates and utilzationrates.
  • Operates 30 jack-up rigs (18 high spec, 9 premium, 3 conventional)
  • Operates 2 Drillships (+2 to being built Q1 and Q2 2015).

Key risks

  • Prolonged slump in oil prices (low to medium risk as there are currently no viable alternatives to long-term energy demand).
  • Accident leading to environmental disaster and subsequent regulatory ban (low risk due to the company's 90+ year track record).

Competitors

  • RIG, NE, ESV, SDRL, DO, ATW, ORIG.
  • Trading at P/B of 0.5 to 0.9; historical medians are 2.0.
  • Historical profitability (15 year median ROCE) of 8.2% to 15.7%.

Growth prospects

  • Industry is facing near term head winds with oil prices slumping.
  • Long-term trend is towards offshore deepwater drillships and high-specification jack-up rigs.

Company details

  • Debt-to-Equity is 0.55; Working Capital Ratio is 4.9.
  • 15 year median ROCE is 8.5% (on low end vs. competitors).
  • Weak competitive advantage; signs of a moat include high startup costs, regulatory approvals to operate, good safety record and a young rig fleet relative to competitors.
  • The company must continually reinvest capital in upgrading and maintaining its fleet to stay competitive.

Management

  • Return on retained earnings of only 7% over past 15 years.
  • Share buybacks at good prices (P/B of 0.8 to 0.9 in Q3 & Q4 2011 vs. historical mean of 1.8).
  • Some share dilution.
  • Management compensation is mid-pack relative to peers.
  • Management has the company focused on growing its deepwater drillship & high-spec jack-up fleet which seems prudent.

Valuation

  • Price / Tangible Book Value near all-time low offering great downside protection.
  • All 4 drillships are on contract through April 2017 securing earnings.
  • Analysts median forward P/E of 5.8 is attractive.
  • At least 3x more upside than downside.

Primary information sources

  • Latest RDC Annual Report
  • Latest RDC Earnings Call

Disclosure

  • The author has no positions in any stocks mentioned, but may initiate a long position in RDC over the next 72 hours.