As oil and gas prices have remained low, offshore drillers have continued to struggle. One of the problems with offshore drillers has been leverage, and a lower expected day rate in 2016 is another challenge. Amidst the challenges, Atwood Oceanics (ATW, Financial) can be a good long-term investment option.
I believe that this is a good time to discuss Atwood Oceanics as the company made a high of $35.35 in May 2015 and has declined to $24.29 currently. This deep correction is a good opportunity for long-term value investors to consider exposure to Atwood Oceanics.
In the offshore drilling space, Atwood Oceanics is among the players that have a modern set of rigs. As of March 2015, the company had six ultra-deepwater floaters and three high specification jack-up rigs. When industry conditions are challenging, modern rigs find preference over old rigs and Atwood Oceanics is well positioned from that point of view.
Atwood Oceanics has 95% days contracted for the remainder of 2015 and 55% days contracted for 2016. Therefore, revenue and EBITDA for 2015 is not a concern, and 55% contract coverage for 2016 means that the company’s revenue and EBITDA outlook for 2016 is $1.1 billion and $648 million, respectively. On June 6, the company announced contract extension for Atwood Beacon from December 2015 to June 2016.
As further contract extensions flow, I expect the company’s contract coverage to improve further for 2016. A strong revenue backlog for the remainder of 2015 and a decent revenue backlog for 2016 will help Atwood Oceanics stock remain steady after the recent correction.
Atwood Oceanics has an edge over peers due to another factor – the company’s financial position. Seadrill (SDRL, Financial) still has a significant number of new rig deliveries in 2016 and 2017. However, Atwood Oceanics is expecting delivery of just two ultra-deepwater rigs. For Atwood Admiral, the company has exercised the option to delay delivery of rig until March 2016 or September 2016. For Atwood Archer, the rig delivery can be delayed to June 2017. Therefore, I expect delivery of these rigs once industry conditions are better.
Atwood Oceanics also has an edge over peers considering the fact that for the new rigs to be delivered, the company needs no financing. Atwood Oceanics has a capital expenditure of $648 million for 2016 and $182 million for 2017. The company expects to fund this capital expenditure through an available revolving credit facility of $500 million and internal cash flows. This means that the company’s leverage will remain well under control and Atwood does not have any debt maturity until 2019. A strong balance sheet therefore makes Atwood Oceanics attractive as compared to peers.
According to Atwood Oceanics' latest investor presentation, the company’s net income margin for trailing eight quarters as of March 2015 is 32% with Ensco (ESV) and Seadrill having a net income margin of 28%. The overall industry average net income margin is just 17% and this is another factor that sets Atwood Oceanics apart from peers. The company’s modern fleet command a strong day rate, and relatively low debt service cost also boosts the company’s net income margin.
The company’s strong credit profile is evident from the fact that its rated BB by S&P and the company’s senior unsecured debt is rated BB and Ba3 by S&P and Moody’s, respectively. Since Atwood Oceanics expects debt to capitalization to average 38% through 2018, the company’s credit rating will remain strong.
Looking at the valuation, Atwood Oceanics is trading at a trailing twelve month EV/EBITDA of just 4.5 and a price to book value of 0.6. It is certain that the valuations are attractive and a fundamentally strong company like Atwood Oceanics deserves better valuations. However, the industry conditions are not favourable and this presents a good opportunity for long-term investors to slowly accumulate this quality stock.
The risk to the thesis is the fact that oil prices can stay low for longer than expected. The nuclear deal with Iran is close to being signed and supply of oil from Iran can put some pressure on oil prices. My advice to investors is to consider small exposure to Atwood Oceanics and wait for Iran’s entry into the oil market. It will be clear in the next 3-6 months how much oil Iran can supply to global markets. However, every decline will be an opportunity to accumulate this quality company and I don’t expect another big decline from current trading levels.
