AWLCF - Awilco Drilling

[Mephistopheles]

Hey all!

 

I was just thinking today about risk on Awilco.  Specifically, the risk of them only have two rigs.  Yes, it is a risk, no doubt.

 

HOWEVER, just how big a risk is it? 

 

Could it possibly be that it is LOWER risk?

 

As an example, after the BP & RIG explosion the Gulf of Mexico, RIG's stock went down by approximately 2/3.  RIG has a much larger fleet of rigs than Awilco.  Thus, you could make an argument that RIG is a bigger risk than Awilco.  They numerically have more rigs, and thus more chances of catastrophe.

 

Any thoughts about this?

 

The stock went down 2/3 due to the negative headlines; it was panic selling. Having more rigs reduces the impact that any one single rig problem will have on the entire company. If the Macondo explosion happened to AWLCF instead of Transocean, the impact would have been far more devastating for shareholders.

[17thstcapital]

Hey all!

 

I was just thinking today about risk on Awilco.  Specifically, the risk of them only have two rigs.  Yes, it is a risk, no doubt.

 

HOWEVER, just how big a risk is it? 

 

Could it possibly be that it is LOWER risk?

 

As an example, after the BP & RIG explosion the Gulf of Mexico, RIG's stock went down by approximately 2/3.  RIG has a much larger fleet of rigs than Awilco.  Thus, you could make an argument that RIG is a bigger risk than Awilco.  They numerically have more rigs, and thus more chances of catastrophe.

 

Any thoughts about this?

 

No reason to overthink this.  The stock would be toast if there was such an incident.  Let's hope it doesn't happen.

[DTEJD1997]

No, I don't think I'm over thinking this.  I am trying to point out that people are mistaken thinking a fleet of 10,15, 20+ rigs will protect them if there is a catastrophe.  RIG has a huge fleet, and the sinking of their one ship sent the stock down approximately 65% in less than a week.

 

If that happens here, it will be terrible.  God forbid that this ever happens TO ANY COMPANY. 

 

However, I think the risk is similar if you have 2 rigs or 20 rigs.

 

That is my point.

[Hielko]

I think you are partly right. If there is a catastrophe the stock can't go below zero even if it would be a billion dollar disaster. But it only works for disasters bigger than the current intrinsic value. Don't think those are very probable at all, and this property does not impact the value of the company in any significant way.

 

I actually think the focus of investors no the possibility of disasters with drilling rigs is a nice example of recency and availability bias. Just because deepwater horizon exploded a few years ago, and everybody can still remember that, doesn't mean that the probability of drilling rigs exploding is particularly high.

[HJ]

If you read the 10-K's of the larger drillers, they pretty much all mention that in GOM, they have all become self insured with regard to physical damages caused by a named windstorm, even before Macondo post Katrina and Ike, some of them were able to recover something from the insurers for damaged or lost rigs back then.  While I don't know for sure, but the lack of such mention with regard to the North Sea market leads me to believe that physical damage insurance can still be sourced at a reasonable cost within that market.  However those are just for the value of the rig, not earnings, and they may be insured just for the book value of the rigs, which could be lower than replacement value or market value.  Within this context, I have to imagine that diversification probably leads to marginally lower premiums.  Operational risk is an entirely different discussion.  One can argue pros and cons on both sides.  But the bigger issue with a 2 rig company is that the cash flow would be perceived as highly volatile.  One rig go into regulatory inspection, or is out of commission for a month or two in between jobs, cash flow could drop dramatically.  The good news is that they are not that levered, so the cash flow volatility can be reasonably managed.  But you really ought to pay a lower multiple for what is arguably peak cash flows.

 

 

[Olmsted]

Hey all!

 

I was just thinking today about risk on Awilco.  Specifically, the risk of them only have two rigs.  Yes, it is a risk, no doubt.

 

HOWEVER, just how big a risk is it? 

 

Could it possibly be that it is LOWER risk?

 

As an example, after the BP & RIG explosion the Gulf of Mexico, RIG's stock went down by approximately 2/3.  RIG has a much larger fleet of rigs than Awilco.  Thus, you could make an argument that RIG is a bigger risk than Awilco.  They numerically have more rigs, and thus more chances of catastrophe.

 

Any thoughts about this?

 

This is a really great point.  There are a couple layers here: 1) if investors panic if one rig explodes and sell the stock down 2/3 regardless of the company's size, then there is definitely lower risk of such a drawdown in Awilco. The difference would be that BP would eventually claw back, whereas Awilco wouldn't.  2) Regulators/lawsuits/etc. would go after the whole company if there were a large disaster. Smaller company = less assets to go after.  In that sense it would be way better to hold 100 separate Awilcos than one BP.

[Olmsted]

So is anyone else just really puzzled that the share price has not reacted more to this dividend?  I mean, it's very publicly yielding 25% - that's not supposed to happen.  Are we all missing something, or is the explanation as simple as, it's just really under-the-radar and unknown?

[DTEJD1997]

Olmstead:

 

Yes, I am rather puzzled by the dividend too!

 

My borker called up and suggested that if I want nice dividends, I should get into the liquidating Iron Ore Trusts! (haha).

 

But seriously, so many of my stocks act goofy, I guess I'm not that surprised.

 

I think there are several things happening:

 

A). Small cap, hardly nobody is paying attention

B). People may think the $1/share dividend is YEARLY

C). The stock's dividend is NOT showing up on hardly any screens.  Yahoo! shows no dividend yield.  My broker shows a yield of about 6%, which I guess is accurate, as the dividend is decided on a quarterly basis.

D). I suspect after the next dividend, the stock might show up as a 12% yield.

E). After a year, it should show up as correctly on all screens as a 24% yield.

 

I don't doubt that Awilco should trade at a discount.  but trade at 24% yield, a P/E of 4?  solid bookings for about the next 20 months? 

 

It is trading "too low".  In time it should trade "correctly".  I believe markets only weakly efficient.  There is  window of opportunity now, but for how much longer?

 

We will see...

[Myth465]

I think you have to ask yourself what the useful life is for the rigs, and how long rates hold up.

 

As of now you get your money back in 4 years. If rates cant cover operational costs in 4 years, you havent made any real money, but instead have lost.

If they break even then you havent made any real money, if they are where you are now then you start to make money.

 

Right now its a liquidating play, though 25% each year is nice. Without some sort of growth plan you only have a return of capital situation.

If the yield trading down to 10%, would you really expect to get a 10% yield for 10 years, and still have a similar asset value left.

 

It probably hasnt moved due to it being a a small undiscovered name, but you have to ask yourself whats the long term play here.

[oddballstocks]

I think you have to ask yourself what the useful life is for the rigs, and how long rates hold up.

 

As of now you get your money back in 4 years. If rates cant cover operational costs in 4 years, you havent made any real money, but instead have lost.

If they break even then you havent made any real money, if they are where you are now then you start to make money.

 

Right now its a liquidating play, though 25% each year is nice. Without some sort of growth plan you only have a return of capital situation.

If the yield trading down to 10%, would you really expect to get a 10% yield for 10 years, and still have a similar asset value left.

 

It probably hasnt moved due to it being a a small undiscovered name, but you have to ask yourself whats the long term play here.

 

Useful life is 18 more years per rig according to the company.  I'm still looking at this, someone sent me their thoughts today on it, very compelling.

 

Here's how I'm thinking about it right now.  The contracts are guaranteed through 2014, although there is a very strong chance they're renewed.  So 1.5 years of dividend payments, about $6 p/s.  The calculation then is are the two rigs worth more than $10 p/s on a stand alone basis?

 

Granted if both rigs renew then none of this matters, but the renewal is the key pivotal point.

[Myth465]

Useful life is one thing, but if there is overbuilding in off shore assets I am guessing these rigs will be scrapped / cold stacked before the newer assets will.

Especially considering the day rates they are getting.

 

I would guess its probably undervalued due to the company being small, but alot can happen in 4 years.

[BG2008]

Seems like there's been a lot of discussion on what's the true CapEx and useful life of these assets.  I actually had a convo with the CFO and he told me that these rigs were built in the 80s before manufacturers start to "optimize designs (make the hulls thinner)".  Hence, he fully expect these rigs to last 20 years from the date when they refurbish them.  Maintenance CapEx is expected to be about $15mm per year, with an additional $20mm needed in 2016.  In terms of private market value, the CFO told me that Transocean was marketing these rigs at $750mm at one point.  The company got them for $200mm and added an additional $100mm in cap ex to get them ready.  Another point that distinguishes Awilco from other rig owner/operators is that they elect to pay out all FCF as dividend.  Munger once said something along the line that the worst business is one where at the end of the year you ask where's my profit and all you can point to is the construction equipment in the yard.  Rigs, Telco, etc are in this line of business and tend to trade perpetually at a 5x EBITDA multiple because we all know that cashflow will simply be plowed back into more rigs.  When I spoke with the CFO and I asked him about his willingness to buy rigs at today's price, he mentioned that these two rigs were acquired under opportunistic conditions and he's not inclined to buy more rigs at today's price because it will inevitably lead to low rate of return.  The company's decision to return capital to shareholders via dividends makes rig ownership a lot more attractive than owning Ensco, Transocean, Noble Corp, or Diamond offshore.  This should be taken into consideration. 

 

I think that tail risk comes from explosions/storms etc.  But a repeat of the great recession will hurt the value as well.  Dayrates will drop and utilization rates will drop as well.  However, at 25% dividend rate (I think sustainable dividend rate is probably 22-24%), the cash inflow helps to de-risk the investment.  With 45% of the capital returned (pre-tax) in the next two years and still another 16-17 of useful life left, I'm confident that we can at least recover our upfront investment. 

 

One can check rigzone.com for rig dayrates etc.  Another data point that could be helpful is that in 2008/2009, the dayrates for similar assets were charging $250/day. Of course utilization won't be 90%. 

 

Per my convo with the CFO, one can expect:

 

90% utilization of the assets at the day rates per the corp presentation 

$85k/day of operating expense (365 days/year)

 

The cashflow and EBITDA figures are actually fairly easy to figure out

 

[Myth465]

BG2008 - You really are selling it, very encouraged by what the CFO said. Makes one think they will buy when its worth buying which is what you want.

[Olmsted]

BG2008, thanks for sharing your conversation with us!

 

We tend to think about downside risk, but uncertainty can be positive too.  What I mean is, once current contracts run out, what is the midpoint of a probability distribution of dayrates for the next contract?  A naive estimator would be, just use today's prevailing dayrate as the median.  This is your best guess barring some mental model that incorporates other info (like newbuild pipeline, macro conditions, etc.).  Using today's rate as your median implies equal weight both above and below.  We worry about the next contract coming in below today's, but with our naive estimate it is equally likely that it comes in higher - i.e. upside "risk."

[ItsAValueTrap]

I think that the naive estimator could get you into a lot of trouble (um... look at the history of drybulk shipping stocks).

 

It seems to me that there should be a relationship between the cost of a newbuild and future day rates.  You could buy a newbuild and it will come in 1-2 years.  (Anybody know how long it takes to build these ships and what the backlog at shipbuilders is?)  Of course you have to wait 1-2 years, and a newbuild will have cashflows that last for ~20 years (maybe much longer than that, and maybe less).

 

2- The pricing of ships versus current dayrates suggests that market participants think that rates will drop in the future.  If rates were to stay flat, then it definitely makes sense to buy Awilco (or to buy drillships on the private market).

 

3- Historically, the way to make money in commodity markets has been to buy at the bottom (e.g. when ships are being scrapped) or to buy when there is extreme fear.  You need to be careful and/or to stay away from these markets when the industry is crazy profitable and overbuilding is imminent.

[Myth465]

New builds have a 2 year lead time, and you cant get any ships built until 2014 (maybe 15) and this relates to the UDW assets. I think the market is a bit frothy right now which is why I am concerned, I also think these rigs will be the first ones cold stacked when things get dicey and there are too many ships / rigs. BG2008 has bought in some good points though from the CFO and I like the way he is looking at things.

[Hielko]

Seems like there's been a lot of discussion on what's the true CapEx and useful life of these assets.  I actually had a convo with the CFO and he told me that these rigs were built in the 80s before manufacturers start to "optimize designs (make the hulls thinner)".

 

It seems this is the case for most mid-water rigs. Almost all rigs that are in use today were build in the same period as the two rigs that Awilco owns:

 

http://tweakers.net/ext/f/FfwPgku7U7VCJy5vowqiv6Eh/full.png

[Gamecock-YT]

Hence, he fully expect these rigs to last 20 years from the date when they refurbish them.  Maintenance CapEx is expected to be about $15mm per year, with an additional $20mm needed in 2016.

 

Is the additional $20mm for the rigs being sent to the 'yard'? I wonder how they are going to manage their dividend when one of the rigs are offline?

[ItsAValueTrap]

They have to make repairs to the ship and to do a survey on it to make sure that the ship is safe.

 

Regulations in some countries may be stricter than others.

 

Countries may not want drillships sinking due to corrosion, age-related problems, etc. leading to an environmental disaster.  They might also impose regulations to make sure that they are up to date in terms of safety.  So every once in a while I might expect Awilco to have to spend some capital to upgrade/maintain its ships.

 

I don't see it as being a big deal.  What I'd be most worried about is fluctuations in dayrates and in the private market value of these ships.

[HJ]

New builds have a 2 year lead time, and you cant get any ships built until 2014 (maybe 15) and this relates to the UDW assets. I think the market is a bit frothy right now which is why I am concerned, I also think these rigs will be the first ones cold stacked when things get dicey and there are too many ships / rigs. BG2008 has bought in some good points though from the CFO and I like the way he is looking at things.

 

But new builds are all for deep and ultradeep water assets.  Nobody is really building the rigs of the class that Awilco owns anymore.  There are plenty of those cold stacked elsewhere in the world already.  I don't have particular insights as to whether these 2 rigs will continue to get used after 2016, but the way people used to rationalize owning this class of assets is that there are still plenty of mid water shore lines in the world that hasn't been explored yet, and nobody is building this class of asset anymore.  Diamond Offshore is retrofitting one of their rigs to move into the North Sea for $120MM, and selling another one, because at a certain point, you might as well order a new build rather than retrofitting an old one.  But now you are competing for space in the shipyard with the ultradeep water stuff, which is certainly not not built to compete for $200k-$300k day rates.

 

 

 

[Gamecock-YT]

I was doing some due diligence on Awilco and stumbled upon this from Friday:

 

(TDN Finans) Awilco Drilling is close contract for the construction of up to three semis of CS50-design or similar. writes the Upstream Friday, referring to unnamed sources. This comes after the company for months has been working with new construction financing and available yard capacity, according to the newspaper. Also Seadrill, according to Upstream be interested in building a medium-deepwater semi. Upstream, the interest is generally on the rise, and writes that Stena Drilling should be close orders his first semi for several years. Upstream writes that this could be the start of a new cycle in the construction of this type rigs.

 

Awilco has came out and flatly denied the report. But it makes you wonder...

[DTEJD1997]

Hmmm:

 

I am rather unsure about this rumor...

 

Awilco has stated several times that they are not going to buy or build.

 

Awilco has specifically denied this rumor.

 

If the rumor was that they would build ONE, that would be totally plausible.  Building THREE?  They only have two rigs now.  Who would loan them the money to build THREE more?

 

They would presumably have to suspend or cut the dividend to fund these....how would it look that paid 1-2 quarters of dividends?

 

I am going to go with Awilco on this one.  They say NO, and it makes little sense that they would engage in this type of behavior.

[SharperDingaan]

We have no dog in this .... but it would be a very good time to begin progressive hedging.

 

2 opportunistic rigs spinning off a flood of cash, & a management with 'baggage' that wants to stay in the business? Now why wouldn't they use that cash to prime the pump via big dividends, get some nice appreciation, & then use a rosy forecast to do a few equity issues to all those happy shareholders? $120M in dividend payout discounted at maybe 15%? to raise $800M in equity?

 

Build, vs buy, new rigs & you are going to be offered very attractive terms by the yards. That $800M as a 15% DP will buy you $5.3B of new rigs; then cut the dividend to preserve CF, to clear out the yield hogs? Fortunately, you cant negotiate for new-builds without tipping off the market .... 

 

It is straightforward to coin it on the upside (Nortel, RIM, etc); but the real minting is done, & very quickly, on the down-side. The 18-30 month ramp up that crashes to the basement in under 3-6 months.

 

The dance is changing, the girls are being liquored up, & the stakes are rising. It's always entertaining if at least one of them has a Deringer in her handbag!

 

[Olmsted]

Now why wouldn't they use that cash to prime the pump via big dividends, get some nice appreciation, & then use a rosy forecast to do a few equity issues to all those happy shareholders?

 

Yes this is standard practice with many dividend stocks, but with Awilco the share price hasn't really responded yet.  So even if that is the game plan we're in the early phases.

[Gamecock-YT]

Might be old news but I hadn't seen it in this thread: Via Awilco's Q1 conference call they mentioned that two comparable rigs in the north sea were awarded extensions:

 

Transocean John Shaw - Awarded a one-year contract extension for work in the U.K. sector of the North Sea at a dayrate of $415,000 ($151 million estimated contract backlog).  The rig's prior dayrate was $360,000.

 

Shaw can drill down to 1,800 ft. versus the 1,500 ft. that the Awilco's can do but still shows the market is strong.

 

The other rig mentioned was Diamond Offshore's Ocean Princess (1,500 ft.) which received a six month extension, but I can't seem to find anything outlining the dayrate besides what Awilco's CEO mentioned.