Sleuthifying Cabot’s August “Stock of the Month”

Unveiling the pick they tease as the "the best stock in the market across all sectors"

By Travis Johnson, Stock Gumshoe, August 16, 2012

Cabot’s Stock of the Month service is not unlike the entry-level “sampler” newsletters offered by a lot of publishers — in this service they pick their favorite stock from among all of the stocks recommended by their stable of newsletters for that particular month … and in Cabot’s case, they tend to promise that the stock will double, and every single month they compare the potential to one of their better past picks (we’re told), the 300%+ gain they made on First Solar (FSLR).

So what’s their “Stock of the Month” for August? Well, we do get a few clues, and some extra enticement …

“As I write this, China is slowing, the Eurozone is imploding, and political gridlock is about to trigger another volatile week on Wall Street.
Yet behind the scenes, our August Stock of the Month continues to power forward and richly reward investors with incredible profits.

“How can this be?

“Because it’s riding the wave of unprecedented growth that even the world’s financial troubles can’t knock down—generating $4 billion in new sales over the past 12 months while delivering gains of 363% over the past three years.”

And it turns out, the “unprecedented growth” they’re talking about is in deepwater drilling, the search for oil and gas a few miles underneath the ocean’s surface. Some more clues?

“Just Look at our August Stock of the Month and You’ll See Why I Can Make You this Money Doubling Guarantee

“Like First Solar, this company is not only riding the wave of profit growth—but its in the highly profitable deep water oil drilling sector where the future of oil production lies and where the company’s fast growth already made investors 363% richer since 2009.

“Once you see my full write-up on this, you’ll see why I’m convinced beyond a doubt this company will hand investors another 50% profits in the next six months and another double soon after that.

“And it’s all because the future of oil production lies at the bottom of the sea, where over half of all new oil and gas discoveries have been made since 2008.

“By 2020, experts believe that deep water drilling is expected to double from 5 million barrels a day to 10 million—10% of the world’s oil supply—all as shallow water drilling is expected to decline.”

Nice, sure, but not all that specific about exactly which deepwater driller they’re talking about. How about a couple more details?

“… the advantage our top-rated drilling company has over others in the field—the most advanced drilling equipment in the world—capable of deeper drilling than its rivals where rates are higher and potential payoffs for explorers are bigger.

“This is why the company’s stock price has surged in the aftermath of the BP oil spill—all because it has a younger fleet and is more technologically sophisticated than Transocean or its competitors.

“When you consider that it takes three to five years and hundreds of millions of dollars to build an oilrig, you can see why we think this company will maintain its leadership position for years.

“… one top analyst—next to us—has advised investors to overweight their holdings in this company ….

“The company just won a $4 billion contract for three new ultra-deep-water drill ships to be used in the Gulf of Mexico.

“When you add to that the fact that the stock surged another 8% in the past 30 days—even as the Eurozone crisis continued to slow the broader markets down—you can see why I’ve named this our August Stock of the month—all because its advanced drilling technology puts it right smack dab in the crossroads of the deep water drilling boom.”

So who is it? Well, longtime Gumshoe readers will no doubt be delighted to hear that the Thinkolator’s spitting out a very familiar answer to this teaser: This is Seadrill (SDRL), a stock I own and one that I’ve written about many times … it was, in fact, our (poorly timed, unfortunately) the subject of the very first “Idea of the Month” for the Irregulars a little over four years ago.

Seadrill is one of the largest operators of deepwater offshore rigs, and it is the most aggressive offshore drilling company and the one with the youngest fleet — the founder of Seadrill, John Fredriksen, has a history of building market-dominating maritime companies and investing very aggressively in fleet expansion when other operators are cautious (he did the same thing with oil tanker company Frontline, which did stupendously for years before the soft, oversupplied tanker market did finally catch up with them) … and he also has a history of generating as much cash as possible from his assets and returning that cash to shareholders in the form of dividends. With Seadrill and with several of his other companies he has been very aggressive with using debt for expansion, which is why the stock has returned 363% since 2009 — it’s not so much that they have generated a lot of cash for investors since then, though they have, it’s that the stock was beaten down in the credit crunch because they had a huge amount of debt on the books and there was, for a little while, some fear about their ability to refinance as they were then in a period just before their revenue and income really kicked up growth with new rigs hitting the water and there was worry about future demand when oil collapsed back down to the $30s.

Since then, things have tended to still be pretty volatile for the stock, but the company has performed extremely well and continued to gush out dividends — almost $7 a share in divvies since mid-2010 when they started the dividend up (and yes, they did book a $4 billion sale recently with an oil major — though that was for three rigs and a potential “19 rig years … there doesn’t seem to be any slowdown in rig rates, or in the urgency with which oil companies are booking these high-spec rigs far into the future). The dividend has also been increased almost every quarter, which has continued to inspire investors and helped the shares climb quite nicely — the stock has done far better over the last two years than have competitors like Transocean (RIG), Diamond Offshore (DO), or Ensco (ESV) … the only drilling stock that I know of that has kept pace with SDRL in the last couple years has been Atwood Oceanics, which was a big teaser pick from David Gardner at the Fool back in 2009. And that’s perhaps not a fair comparison, since Atwood doesn’t pay a dividend.

Dividends are clearly key for Seadrill shareholders, and it helps to set them apart from other big drillers — in fact, Transocean canceled their dividend this year in part because of their need to reinvest in getting their rigs up to the highest safety standards following the BP disaster (they also wanted to keep their credit rating high, and were probably concerned about keeping a legal warchest on hand since that BP disaster happened aboard a Transocean rig) … Seadrill has not been as concerned about keeping their credit rating high (though they’ve been able to borrow just fine), and they already have such a young fleet that their safety equipment gives them a leg up on getting new contracts without having to worry about refurbishing old rigs. Older rigs have been the focus of several of the US rig operators, like Atwood and Diamond Offshore, who have generally been more reluctant to take risk and invest heavily and have refurbed rigs from the 1980s instead of ordering new high-capability rigs, just another way that Seadrill stands out for having taken well-timed risk in ordering spec rigs five or six years ago, before they had customers booked for them.

The big risks for Seadrill all relate to the fact that they try to fly pretty close to the sun — they borrow a lot of money to order and build new rigs and order those rigs several years out without necessarily having a customer lined up yet, so if the customers don’t materialize or the debt markets seize up, they don’t have as much equity ballast to keep the shares perky as do some of the more risk-averse stocks with lighter balance sheets. But if you think demand will continue to rise for deepwater exploration and production equipment, then I still think Seadrill is better positioned than any of the other big companies. A rising ocean will lift all the semisubmersible rigs, but I think Seadrill will continue to be lifted higher and to pay out higher dividends. It’s also one of my top personal holdings still, a holding that has continued to expand pretty quickly in part because of the power of compounding dividends, so I’m certainly “talking my book.” Seadrill is a cash flowing machine, NOT an earnings machine — they focus on generating cash flow that they can return to shareholders, not on maximizing accounting earnings, so they routinely pay out more in dividends than they book in earnings, something they can do, in large part, because cheap debt supports their newbuilding program and because big non-cash charges like depreciation on their rigs impact earnings but not immediate cash flow.

Though to be honest, I’ve often suggested when I write about Seadrill that I think it’s most appealing when it carries an anticipated yield of at least 10%, as a way of helping to get paid pretty well for the risky they take on, and I last personally bought shares almost a year ago when it dipped below $30 for a while. The “normal” dividend is now $3.28 per share per year (they raised it to 82 cents per quarter in the first quarter this year, though they also paid an extra 15 cent per share dividend that quarter as effectively a pass-through of a cash gain on an investment they sold), so that means I continue to think SDRL is an easy buy in the mid-$30s, but it might take a little bit of a stronger stomach to open a position here at $40.

That said, I think it’s extremely likely that they’ll continue to raise the dividend as often as they can, and in a world of low yields the current 8% yield is nothing to sneeze at … and they’ve also been “continuing to monitor” opportunities in the MLP space, which could either mean MLP conversion or a spinoff of some of their rigs to an MLP, either their “steady eddie” tender rigs that can get long term contracts, or perhaps even their crown jewel drillships that are locked in for five years at massive dayrates. That’s exactly the kind of financial engineering that Fredriksen companies have used in the past to maximize valuations and cash returns for shareholders, so it wouldn’t be surprising to see something happen along those lines later this year. They next report on August 27 (conference call is at Noon EST that day, it’s a Monday), and while I think it would take some sort of big restructuring announcement like an MLP spinoff to generate 50% returns in the next six months, I do think the company will continue churning out very nice dividends regardless of whether they show those kinds of short term capital gains. For what it’s worth, the value-focused Morningstar folks peg the “fair value” of Seadrill at forty bucks a share … though they also say that risk and uncertainty mean that they’d want to buy it at a 50% discount to that, around $20 (of the big drillers, the only one they seem to think is near a “consider buying” price is Transocean).

If you want more chatter about Seadrill, it was teased by Mark Skousen back in May, by Elliott Gue (not for the first time) in March, and I’ve shared plenty of thoughts on SDRL over the years that you can see listed here. Enjoy!


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10 Comments on "Sleuthifying Cabot’s August “Stock of the Month”"

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fireball
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fireball
August 16, 2012 5:11 pm

good ol’ gs was way ahead on this one.

Kim HURT
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Kim HURT
August 16, 2012 5:35 pm

Thanks am very impressed. It’s good someone comes right out saying who what when where instead of those teaser-videos that go on and on and on…! Not that I know much abiut investing or drilling or stock trading…but am learning to distinguish the essential from the flourish!

mikem00
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mikem00
August 16, 2012 6:48 pm
I wish I had invested in this one at your last review, as I am looking for higher dividend payors. I would have had to sell something else to get in so I decided not too…oh well. I have been getting Cabots SOTM, and have invested in some, but not all of their recommendations. A few months ago I thought I was going to finally take a loss on one (walgreens) that was just not looking all that well even though they said it was still a buy, so I kept it and it as now recovered. Their price is… Read more »
Fabian
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Fabian
August 16, 2012 7:45 pm

Cabot is a serious box and Seadrill is in their reco. list for a while now (Cabot Energy). Cabot Energy is very prudent and it doesn’t commit money easily. Their main letters (Market and China) focus on momentum stocks and I can’t buy into a stock after it took off 15%. The problem is that I never bought AAPL.

Perry Noblett
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Perry Noblett
August 16, 2012 10:50 pm

Bought this one right after DDD. Great stock, wish it would tank for a few weeks I would like to get more on the cheap.

Jill Krol
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August 17, 2012 6:49 am

I bought SDRL well over 2 years ago and have received dividend payments and special dividends from them very regularly. The stock did a bit of a slide and hit my stop loss point last May. Alas, I sold. Now I have to decide if I want back in!

Chuck
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August 17, 2012 9:27 am
I too have have benefited from my Seadrill holding — up about 20% (including re-investment of dividends) since November of 2011. “Being out there” and using large amounts of borrowed money is how Mr. Fredriksen does business. This great in the current era of low interest rates, but nothing lasts for ever. But I might suggest that returning large dividends to the shareholders is the way it appears that Mr. Fredriksen personally decided to take his big compensation as he is one of the company’s largest shareholders. Basically Seadrill is Mr. Fredriksen’s company and we little shareholder are merely along… Read more »
Allan Robinson
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Allan Robinson
August 17, 2012 11:00 am

As usual, Travis, an incisive analysis. Always enjoy reading your Gumshoe sleuthing and related comments. Have a great week-end. Allan

Fullyinformed
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August 26, 2012 4:00 pm
Seadrill stock is extremely overbought at these levels. If you really like this stock I would definitely consider selling puts or at least doing a credit spread. If you sold puts today at $40 for September you earn $1.00 and get into the stock at $39 if assigned shares. If you sell the $40.85 for Oct you earn $1.90 and still get in the stock at $39 if assigned. Personally, looking at the chart, I won’t be surprised to see the stock pull back affording an opportunity to buy it cheaper than the close on Friday August 24. Just my… Read more »
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