The problems at Seadrill continue — with the share price, not, at the moment, with the business. Shares are down more than 10% this morning in Oslo, and have been falling hard throughout the recent weeks of credit panic.
The leverage that Seadrill uses to ramp up capacity and pay high dividends is coming back to bite them at the moment, thanks to the spikes in Libor rates (which most of their debt is priced on). They recently borrowed another $550 million from Pareto at nibor+2.5%, which is currently a bit over 10% given the crazy interest rate spikes lately (nibor is the Norwegian equivalent of libor, though it’s a bit higher lately). Add to that a cut in price targets for the whole sector by Merrill Lynch, and fear is ruling the day.
This is another opportunity for me to mention that yes, I am stubborn. I have no intention of selling my shares unless the fundamental prospects for the long term performance of the company become a concern, and I invest my own money so I have no need to mark to market, but certainly everyone has to make their own risk management decisions.
The downside potential for Seadrill remains what it was when I wrote about them, they rely on leverage, they need to manage the delivery of their newbuilds, and they have to manage operating costs for the rigs. The higher cost of debt may be helped by a recovery of the credit markets if government action succeeds in restarting those markets, but it is actually not bad that in this environment Seadrill was able to borrow at close to 10% — remember, GE and Goldman Sachs are paying Warren Buffett 10% plus in-the-money warrants, so even the best companies are having trouble borrowing at the moment.
Seadrill’s contracts and backlog should be fine in my opinion, and while they are leveraged and will continue to be so, they have real assets that have increased significantly in value over the last several years. The oil companies have no shortage of funds to invest in expanding and extracting their reserves, so it seems unilkely that the contracted backlog should suffer, and I have seen no indication that day rates are dropping significantly for new contracts and extensions for deepwater rigs and drillships.
Oil is dropping, but my expectation is that we ...