| Spring 2012 | |
| Alphanomics Final Project
Denis Teplyakov, Pratik Budhdev, Juan Carlos Toro, Mike Kelley, Mark Williams, Alec Mazo |
| [Noble Corporation] |
| Valuation Report |
Final Group Project – Detailed Analysis of Noble Corporation (Oil Driller)
Recent Statistics
| Recent Price | $29 | |||
| PE Ratio | 27.23 | |||
| Div Yield | 1.7% | |||
| EPS 2011 | $1.46 | |||
| EPS 2012 est | $2.76 | |||
| EPS 2013 est | $4.33 | |||
| Price/Book | 1.00 | |||
RECOMMENDATION: BUY
Noble intrinsic value is $49.60 (41% margin of safety to recent price)
As a result of the new-build/repositioning program, Noble’s management projects peak revenues when all units are online at $7.4B by 2015 in contrast to $3B in 2011.[1] With a 5 year 35% net profit margin average, Noble will make $2.59 billion net (compared to $370m in 2011). Even if the net profit margins are lowered and the peak revenues aren’t realized, a substantial margin of safety is present in this investment. We will elaborate on our valuation approaches after macro, industry and company analyses.
Macroeconomic Analysis
Our interest in the energy sector stems from the belief that the growth in the developing countries will drive long-term fundamentals representing increased demand for energy related products. We feel that the economic downturn has negatively affected the energy industry and that the industry has not yet recovered. Consequently, our thesis dictates that the energy sector holds promising upside from an investment (long) perspective.
Noble Corp. (Noble) falls in the Oil & Gas Drilling and Exploration industry sub-sector of the Energy sector. The contract drilling rig industry is estimated to have a total of 117,000 jobs in 2012 and anticipate over 11,000 new jobs will be created due to growth in offshore driller demand. Jackups host up to 161 workers per rig and floaters host up to 228 workers per rig. Combined average direct employment is 189 workers per rig. [2]
This portion of the energy sector tracks closely with the very cyclical (as well as seasonal) crude oil price. Hence, we examined numerous macroeconomic influences on the prices of crude oil. The various factors affecting the oil prices (and therefore subsequent oil and gas drilling and exploration industry) can be categorized as the following: health of the world financial markets, geopolitical externalities, supply-side shocks, and Acts of God.
Financial Markets
Very few industries escaped the grip of the Great Recession – the energy sector was no exception. Oil prices have seen dramatic shifts over the past five years [Exhibit 1]. Since the sub segments of the energy industry track oil prices, it has been a difficult time for this capital-intensive industry. Although the prices have continued to be erratic, the general trend has been upward. Consequently, Noble and its peers have been investing in preparation for the anticipated demand [Exhibit 2].
Geopolitical Externalities
World-wide conflicts and civil unrest continue have provided idiosyncratic shocks to the energy market for decades resulting in wide swings in pricing [Exhibit 3][3]. The oil exploration and drilling industry is particularly sensitive to the middle band of crude oil pricing. As oil prices decline in this very cyclic industry, investment in exploration follow suit. Likewise, as oil prices exceed perceptive limits, investment is again squelched due to externalities imposed by governments such as tariffs and subsidies for alternative energy sources.
Supply-Side Shocks
The BP oil disaster in the Gulf of Mexico (and the subsequent moratorium on drilling in the gulf) is a stark reminder of the risk associated with this industry. Noble filed the first lawsuit (breach of contract against Marathon Oil) after the BP disaster. This lawsuit was settled out of court one week ago – terms of the settlement have not been disclosed.
In contrast, discoveries of new oil and gas fields[4] and mechanisms for extracting oil and gas from previously unknown sources provide positive (and negative) shocks to the economics of Noble’s business – sub salt fields and fracking, respectively.
Acts of God
Despite the worldwide inclination to move away from fossil fuels, events such as the earthquake, tsunami and subsequent nuclear disaster in Japan have redirected worldwide emphasis back to traditional fossil fuel energy sources.
Industry Analysis
“The first part of any oil and gas field operations is a lease sale by the controlling government.”[5] Once a lease sale has been negotiated, a survey operator is brought in to find the best drilling prospect areas. After that, floating rigs, jackups, drillships, or semi-submersibles are brought in to start drilling test wells. These units require servicing due to their constant use and support vessels often arrive on location before positioning of the rigs. Since macroeconomic factors and oil prices influence the amount of exploratory drilling and rig contracting, this industry is very cyclical. The decision process and physical activity of rig positioning to start/stop develops over a few months with a pipeline of contract visibility of a few years. Oil companies are reluctant to renege on contractual commitments because they are often tied to stiff penalty payments. Therefore, a good way to analyze the industry direction includes questions around stability of oil prices, rig utilization trends, and capacity expansion. Offshore rigs in use are projected to grow by 10% from 2011. All other factors being equal, as long as capacity doesn’t expand by more than 10%, day rates should increase as a result of supply and demand. There are 560 rigs under contract in 2012. Supporting reference material can be found in the Appendices.
Oil prices fluctuated from $140 per barrel (WTI) in 2008 to $40 per barrel in the same year, and have moved between $70 and $115 per barrel in the last three and a half years, currently trading at $86. If the trend persists and oil prices stay around $100 per barrel, we can assume that offshore drilling utilization will be high. Global offshore rigs under contract have been growing steadily (graph above). Offshore oil has more plentiful reserves and is usually easier/cheaper to process and refine than on-shore product (though recent controversial developments in fracking show that oil in Bakken Shale can be produced at $10/bbl).[6]
Worldwide Offshore Rig Utilization is improving. Drillships and Semisubmersibles are enjoying around 88% utilization compared to Jackups 82%.[7]
| Month | Drillships | Jackups | Semisubs | ||||||
| May 2012 | 69 | 78 | 88.5% | 311 | 379 | 82.1% | 162 | 185 | 87.6% |
| April 2012 | 66 | 78 | 84.6% | 305 | 377 | 80.9% | 162 | 185 | 87.6% |
| March 2012 | 61 | 76 | 80.3% | 303 | 378 | 80.2% | 161 | 185 | 87.0% |
| February 2012 | 58 | 74 | 78.4% | 303 | 377 | 80.4% | 154 | 182 | 84.6% |
| January 2012 | 57 | 74 | 77.0% | 307 | 376 | 81.6% | 155 | 181 | 85.6% |
| December 2011 | 59 | 72 | 81.9% | 313 | 377 | 83.0% | 156 | 180 | 86.7% |
Offshore industry capacity is expanding and rig replacement rates do not compensate for additional units. Advanced shallow water drilling activity in addition to deep-water drilling is expected to rise. As a result, more sophisticated units are entering the market. There are approximately 93 offshore rigs (52 jackups and 41 floaters) under construction to be delivered between July 2012 and January 2018. There are also options on additional 50 rigs (40% floaters and 60% jackups). Total supply could increase by 150 rigs in the next 5 years. It looks like demand is closely correlated with supply where capacity expansion is expected to grow by 54 rigs in 2012, 26 rigs in 2013 and may even out at 25 per year until 2016.
There are three water depth drilling segments: Midwater (1,000 – 3,400 feet), Deepwater (4,600 – 7,500 feet) and Ultra-deepwater (above 7,500 feet).
Jackups
The Jackup drilling industry can be evaluated by marketed utilization and total supply of the rigs [Exhibit 4]. The industry identifies two age types of jackups, those built before year 2000 and those after 2000. Jackups operate in shallow water environments (under 500 feet). Unsurprisingly, utilization and day rates are higher for newer rigs in harsher environments; therefore the drilling contractors often find themselves building new units in addition to rebuilding old units. The drilling rig industry is capital intensive and depreciation is a substantial line item on the income statements. New jackups have 94% market utilization and supply grew from 40 units in 2008 to 130 in 2012. Old rigs total supply dropped from 370 in ’08 to 340 in ’12 with 89% utilization. This trend demonstrates drilling industry growth, new rig preference, and old unit replacement [Exhibit 5]. Old units are often cold-stacked at shipyards, transferred to independent operators who may convert them to sleeping or storage units, or sold as scrap metal.
Semisubmersibles
Semi-submersible rigs are rated by generation from 1 – 6, with 6 being the latest models that command premium day-rates above $500k. On average, a rig supports 184 jobs. Generation 2 rigs built in late 70’s are either cold-stacked or working at low day-rates (around $200k). Generation 4 rigs command day-rates between $270k and $410k depending on harshness of their environment. Generation and location of the rigs explain the day-rate discrepancies between many drillers. Seadrill commands the most modern fleet with Generation 6 rigs (and a few 5s). Noble rig generation average score is 4. In addition to geography and price, political environment also plays a role in what kind of equipment is deployed in the area. For example Gulf of Mexico operators prefer the highest spec, generation 6 rigs due to the political pressure arising from the 2010 accident.
Drillships
Costing around $600 million per unit, drillships are some of the most substantial investments in the offshore drilling market. However, these units command the highest day-rates and often work in ultra-deepwater, harsh environments. As recently as 2010, the overall order mix was 65 drillships and 17 semisubmersibles [Exhibit 6]. E&P companies display a preference toward these units even at a higher day-rate expense.
Company Analysis
Noble is a well-diversified contract driller with client demand ranging from Major Oil companies (19%) and NOCs (27%), to Independent companies (54%). Noble drills 89% exploration wells and 11% development wells. Noble has an immaculate safety record, which could be used to leverage client acquisition in the increasingly complex offshore well environment. The company elaborates on its core fleet strategy where premium, modern and versatile rigs are in demand. It plans to subtract any non-core assets.
Market Overview
Saudi Arabia & Qatar constitute Noble’s largest market – 15 Noble jackup rigs are working in that area. Mexico has 12 Noble rigs. The Gulf of Mexico has 6 semi subs, 3 drill ships and 2 submersibles in the area. The company is focused on the high-grade market with only the best equipment working in the field. Africa is a key market for Noble newbuilds and a great area for expansion once the barriers of entry are overcome. The costs of operation in Africa are high. Noble is also well-positioned for the North Sea exploration where it is the largest jackup player and price leader in the standard segment.
Management Thoughts & General Projections
Noble’s management team believes that the current fundamental backdrop allows for long-term visibility and opportunities for premium units including floaters and jackups. Therefore the company is going through a transformation by changing its capital structure and investing in new-build assets, looking to shed older ones.
Noble will soon add $1B in revenues with the current slate of newbuilds – 6 new jackups and 5 new drillships (fully realized starting 2014) [Exhibit 7]. Jackups will command $230k day rates that will add $60m per year at 72% utilization (from 2011), $67m at 80% (from 2010/2009) utilization, and $75.5m at 90% utilization.[8] That’s $402m annual added revenues if we take 6 jackups operating at $230k day-rates and 80% utilization. Drillships currently command $410 day-rates and therefore can bring in $108m, $119m, or $135m at utilizations of 72%, 80%, or 90%. Taking the average 80% utilization we assume that Noble will receive another $539m annual revenue stream from 5 new drillships. To summarize: a new drillship can add from $108m-$135m per year + 15% performance bonus. A new Jackup (JU-3000N type, 6 ordered) can contribute $60m-$75.5m per year + 15% performance bonus.[9]
| Drillship | |
| Time to build | 36 Months |
| Cost | $650,000,000 |
| Assumed day-rate | $550,000 |
| Cost per day | $175,000 |
| EBITDA per day | $375,000 |
| Annual EBITDA | $130,031,250 |
| Assume utilization | 95% (new units) |
Noble management is more optimistic than our team on some revenue projections. They believe that utilization for newbuilds will be 95% and that day-rates will be between $500k and $600k for 3 new drillships, and between $180 and $250k for 5 new jackups. Of course this assumption is taken into account on un-contracted units and is additive to the current $837m revenue stream from 5 recently built and operating ships and 1 jackup.[10] The management also projects a peak day-rate revenue case when all units are online – $7.4B in total annual revenues, as opposed to $3B in 2011.
Noble spends an average of $3m per rig every year for maintenance.[11] Some concerns arise from increased COGS over the years (from 32% to 55% 2008-2012). This may be a result of increased safety procedures and regulatory oversight. The submersible rigs could control premium rates of above $300k per day (over $100m each in revenues per year but are currently not working). These units should go back to work sometime in the future.
The company is open to selling older jack-ups (built in 1980’s). These jackups, when retrofitted, can command rates of about $80-90k per day and can bring in $20-$35m per year. That said, most oil companies prefer to lease newer builds and many drilling contractors are expanding their capacity with newbuilds in the pipeline. Noble has 5 drill-ships and 6 jackups in the build pipeline to be delivered from 2012-2014. Therefore the older jack-ups may be difficult to sell.
Actions Noble has taken so far:
– Strategy evaluation with fleet divestiture options
– Alliance with Shell
Noble has 10 units with Shell. That’s 15% out of 68 operating units.
Debt Strategy
Noble is an asset-based company that is dependent on the quality/age of its operating units. It changed the capital structure strategy after BP’s & Transocean’s Gulf of Mexico disaster when the prices for newbuilds and distressed drilling contractors dropped substantially. The management saw an opportunity to build new rigs and upgrade its current fleet by acquiring “Frontier” drilling rigs at a deep discount to intrinsic value. The company didn’t carry more than $750m in debt prior to 2010[12], and therefore was in prime position to take advantage of the downturn resulting from the spill. It increased its borrowing capacity under the revolving debt facility. The average borrowing cost is 5.06% for the total debt of $4.3B and the senior note maturities are evenly spread across time.[13]
The company expects to allocate substantial capital expenditures to new rigs before 2014, after which it is aiming to reduce its debt/total capital ratio to 33%. The current ratio is 35%, off the 10% low in 2009. While Noble has mostly operated with minimal leverage, 35% debt/total capital is within industry norms. Since 2011, Noble increased its debt to $4.3B but for comparison sake we show 2011 numbers for 5 competitors. As demonstrated below, Noble’s debt/market cap ratio is normal in the industry.
| as of mar/2011 | NE | DO | RIG | SDRL | ESV |
| Gross debt | 3168 | 1496 | 11241 | 9591 | 4577 |
| net debt/mkt cap | 27% | 5% | 34% | 57% | 31% |
Noble Corporation SWOT Analysis[14]
Strengths:
Large Fleet:
Noble Corp. has the world’s third-largest offshore drilling fleet, with 79 offshore rigs, including 11 newbuilds located across the world. The company drilling fleet is composed of the following types of units: semisubmersibles, drillships, jackups and submersibles. Such strong fleet enables the company to renew its existing contracts and also obtain new contracts. Several of Noble’s peers have better fleets based on average age, water depth and hook-load, but Noble new build program and planned divestitures should slowly improve its overall fleet profile through 2014 (in 2014 over 40% of the company’s floating fleet will be less than 10 years old and will provide its customers with some of the most modern and capable units in the industry).
Diversified Presence
The Company operates mainly in the US Gulf Coast, the Middle East and the North Sea regions as well as Brazil, Mexico, Gulf of Mexico, West Africa and India. Noble has approximately 87% of its fleet deployed in international markets, and a majority of revenue generated from its international operations. Also, in 2011, the Company successfully moved into several new offshore regions as a way to diversify its operations geographically. For example, recently Noble opened an office in Anchorage, Alaska to support its client with their planned Arctic drilling program. Thus, the diversified presence of the company offers it a competitive advantage over the non-diversified peers.
Weaknesses:
Major Dependence on Key Customers
The company substantially depends on key customers. Noble derives significant amount of revenue from several customers, which include Shell, Petrobras, and Pemex. Those companies represented approximately 63%, 20% and 5% respectively, of Noble’s backlog at the end of 2011 and revenues from Shell, Petrobras and Pemex accounted for approximately 24%, 18% and 15% of total operating revenue for 2011. This concentration of customers’ increases the risks associated with any possible termination or nonperformance of contracts. If any of these customers were to terminate or fail to perform their obligations under their contracts and the company was not able to find other customers for the affected drilling units promptly, financial condition and results of operations could be materially adversely affected. One of the ways Noble mitigated this weakness in creating a joint venture with Shell on some of the new builds – aligning incentives for both parties.
Poor Financial Performance
Noble exhibited weak financial performance during the fiscal year ended 2011. In 2011, the company reported revenues $2.616 B., as compared to $2.730 B. in 2010 (decrease 4.2%) and $3.542 B in 2009 (decrease 26%). The company’s compound annual growth rate for revenue was 7.52% during 2006-2010. This was below the Energy Equipment & Services sector average of 23.24%. The company’s underperformance could be attributed to a weak competitive position, inferior products and services offering, or lack of innovative products and services. In addition, its net profit also declined to $364 million during the fiscal year 2011, a decrease of 53% from 2010. The company’s return on equity, assets and capital employed reduced significantly to 4.7% (11%-2010), 2.4% (5.8%-2010), and 2.6% (6.5%-2010) respectively. This indicates that the company is generating low returns for its shareholders. Additionally, the company’s free cash flow is at risk given that Noble currently has eight newbuilds under construction.
Opportunities
Enhancing of the Fleet
In 2011, Noble continued its strategy to add rigs with the latest technology, equipment, and capabilities. The company-completed construction on the Noble Dave Beard and the Noble Jim Day, dynamically positioned ultra-deepwater semisubmersibles. Also Noble announced that it would construct two high-specification heavy-duty, harsh environment jack-up rigs, both of which are scheduled to be delivered during 2013. Also, in January 2011 the company signed a contract for the construction of two additional new-build drillships at Hyundai Heavy Industry (HHI), increasing the number of floating drilling units in its fleet to 26. This fleet enhancement enables the company to increase its customer base and provides growth opportunities.
Strategic Acquisition of Frontier Holdings Limited
In 2010, Noble, completed the acquisition of FDR Holdings Limited (Frontier). Frontier is an independent drilling company and the acquisition enabled Noble to increase its fleet size from 62 to 69 units, with the addition of three dynamically positioned drillships), two conventionally moored drillships, including one which is Arctic-class, and a conventionally moored deepwater semisubmersible drilling rig. Besides, this acquisition enables the company to own and operate a dynamically positioned floating production, storage, offloading vessel (FPSO). Thus, the acquisition of the Frontier strategically expanded and enhanced Noble’s global fleet. Frontier’s acquisition strengthened the company’s capabilities and broadened its global footprint, doubled backlog, and positioned the company to deliver even greater value both to shareholders and customers.
Improving E&P Investments
Noble stands to benefit from the growth in E&P expenditure as it is engaged in providing oilfield services to the upstream energy companies. Investment in upstream oil and gas sector is expected to go up in 2012-2013. In addition, new oil and gas developments will focus on new well sources in the near future. Capital expenditures by oil and gas companies grew by 15% in 2011.
Threats
Stricter Regulation for Deep Offshore Drilling
The US Gulf of Mexico oil spill is expected to have a major impact on the future oil and gas policy of the US. In May 2010, the US government unveiled new legislation to the federal government to collect significant damages from the companies responsible for oil spills. The bill includes raising the tax that companies pay for producing oil in the US by 1%. The legislation would change the cap on damages the government can collect from the oil companies from its current level of $75m to about $10 billion. The spill is expected to lead to stricter environmental rules and standards for deep water offshore drilling. In addition to hurting the future prospects for drilling in Alaska, the spill has also caused some worries for a large number of planned projects in the GOM. The leak will make regulations stricter for the other projects in the GOM and may ultimately lead to an increase in the overall cost of the projects.
Foreign Currency Risks
Noble has operations in approximately 16 countries, which make its vulnerable to risks associated with foreign exchange. Its functional currency is principally the US Dollar. The company incurs a portion of expenses in local currencies, outside the US. Thus the asset values, earnings and cash flow are influenced by the fluctuating foreign exchange rates in relation to the US dollar. Fluctuations in currency would negatively impact the overall financial health of the company. For example, North Sea and Brazil operations have a significant amount of their cash operating expenses payable in local currencies. To limit the potential risk of currency fluctuations, the company typically maintains short-term forward contracts settling monthly. The forward contract settlements in 2012 represent approximately 23 percent of these forecasted local currency requirements.
US Energy Policy
The US energy policy highlights a considerable shift from the fossil fuel driven economy to an economy fuelled by renewable energy. The key measures include elimination of tax breaks such as the intangible drilling and development costs, percentage depletion and manufacturing deduction. By 2019, these measures will increase the expenses of US oil and gas companies to approximately $31 billion, according to some analysts.
Oversupply of Rigs
During periods of inflated commodity prices, the offshore drilling industry increased the rig supply by ordering new units. This could result in a future supply/demand imbalance, particularly for jackups.
Demand fluctuation
Demand for the company’s drilling services generally depends on a variety of economic and political factors, including worldwide demand for oil and gas, oil and gas production levels, commodity prices, and the policies of various governments regarding exploration and development of their oil and gas reserves. Demand for the company’s services is also a function of the worldwide supply of mobile offshore drilling units.
Noble Corporation Porter’s Five Forces Analysis[15]
Threat of new entrants (Low)
The presence of powerful players in the industry acts as a significant barrier to entry and the need for substantial initial investment to set up facilities such as drilling rigs also reduces the threat of new entrants. The industry players are also subject to various regulations, covering taxation, energy and the environment; compliance with these is restrictive to entry into the sector. Regulations increase the costs attributable to sector players and act as a further barrier to entry. The oil drilling industry requires highly specialized workers to operate the machinery. Since the equipment is so expensive and the labor is costly, any newcomers to the industry would have to be well capitalized. Overall, there is low threat posed by new entrants to market.
Threat of substitute products or services (Low)
At present, there are no direct substitutes for drilling especially where substantial depths must be reached. To access natural gas and oil resources located under the ocean, use of drilling rigs is necessary. When demand for oil is high, oil companies may find it economical to exploit oil shales, which require strip-mining techniques rather than conventional drilling. Currently, the majority of the world’s energy production takes place with the use of non-renewable sources (oil, gas and coal). However, in order to fight climate change, it is widely accepted that it will be necessary to shift to renewable energy sources, and oil companies may begin to diversify into these areas, reducing their demand for drilling services. The threat from substitutes in this market is considered to be low.
Bargaining power of buyers (Moderate)
The balance of power is shifting toward buyers. The Buyers in this industry include global energy firms, national petroleum companies and independent operators. In general, such corporations are large, and this affords them greater bargaining power within the market.
Since oil is a commodity, the buyers can go with the company that will drill for the lowest contracted day rate. However, there are only a limited number of drillers with the capability to drill at extreme depths, so the buyers have to go with one of them. Also, while there are a significant number of oil companies looking for contract drillers, most contract-drilling firms attempt to maintain long-term relationships with their customers in order keep contract backlog high and avoid costly downtime. This gives the customers a moderate degree of bargaining power when setting day rates. Brand loyalty is not of significant meaning within this sector and buyers are prone to switch to providers with the better offer. However, to assure timely supplies, contracts may be held, boosting the switching costs for buyers. Overall buyer power is moderate; it ebbs and flows, getting stronger when a large number of drill rigs are available and weaker when the supply of rigs is constrained.
Bargaining power of suppliers (Weak)
Suppliers to the offshore drilling industry include oil field services companies. These companies provide participants with supplies and expertise during drilling operations. Also, suppliers to the market are quite varied and depend on the specific structure of the equipment. Where offshore units are considered, food and general supplies are also necessary to facilitate staff operations on such rigs. The rig builders have more bargaining power when the price of oil is high and there is increased drilling activity, and thus increased demand for drilling platforms. When the price of oil is low, there is not a lot of demand for rigs, so the builders have little power. Overall, supplier power is considered to be weak.
Intensity of competitive rivalry (High)
Although the contract offshore drilling offers some variation in the services and equipment on offer, there is essentially little to distinguish between the overall services offered by players. Substantial fixed costs and the high exit barriers, created by the need for sector-specific equipment. Therefore, companies want to stay in the industry. Rivalry is further increased by the current steep decline in the sector. Overall, there is a strong degree of rivalry among players.
Competitors
Diamond Offshore
According to Morningstar, DO has one of the least competitive fleets because of the current asset manager like business management structure. The company didn’t look too far ahead and refused to spend money on expensive newbuilds in 2010. It has since acquired a few rigs from distressed sellers and ordered three more new builds. DO has 41 rigs and has been slow to upgrade the older fleet due to fear of low capital returns.[16] The company uses debt to build rigs, and may be limited by its balance sheet strength when considering new purchases. Diamond has been paying out special dividends when wiser use of those funds could have been on capital expenditures in the current offshore market uptick.
Management is squeezing every last drop of value from the ancient fleet and was able to lock in long-term contracts for most of its rigs (until 2016). However, beyond 2016, newer rigs will likely out compete DO for new high value contracts and Diamond will face severe problems with profitability. DO is selling at 1.8 P/tan B. Perhaps the lack of future investor wealth creation is the reason that DO is valued at 5.2 EV/EBITDA ratio (the lowest of its peers).
Transocean
Transocean is the dominant player in the offshore contract drilling industry, controlling 18% of existing global fleet and 26% of the deepwater rigs. It has 54 deepwater rigs and 33 jackups under contract. Transocean’s industry reputation has not been good: In 2008 and 2009, surveys ranked Transocean as last among deep-water drillers for “job quality” and as next to last in “overall satisfaction.”[17] In addition to the 2010 Macondo disaster, Transocean suffered another setback in late 2011 with a large spill in Brazil. Brazil is suing Chevron and Transocean for $11 billion. The company wrote off goodwill by almost $5.23 billion in 4th quarter of 2011 reducing its intangible asset ratio from 22% to 9% (it still has $3.1b in goodwill on the balance sheet). This write-down is probably admission that the company overpaid for GlobalSantaFe in 2007, buying it for $18 billion. Transocean also had a 9%+ stock equity dilution in Dec, 2011, offering 29.9 million shares at $40.50/share.
Ensco
ESV bought out Pride International for $7.2 billion in cash and shares. This move allowed Ensco to diversify from exposure to US Gulf of Mexico and it now becomes a deep-water focused company. ESV has 49 jackups, 27 floaters, 3 managed rigs and 1 barge, totaling 76 units. Like Noble, Ensco’s strategy is geared toward the ultra-deepwater and premium jackups segments. The company divested non-core assets over the last several years. In 2012, the company is expected to spend $1.83 billion in Capex with $1.2 billion attributed to newbuilds.[18] ESV is selling at 1.3 P/ tan Book and may be an interesting investment opportunity along with Noble.
Seadrill
Seadrill has an unusual tendency to pay out a large portion of its earnings to shareholders, maybe because the founder, John Fredriksen, holds 1/3 of the company’s stock. The management is very aggressive and the company is leveraged more than its peers, which may cause problems in a cyclical industry downturn. It has interests in associated companies that often drive quarterly results (like in 4Q11 – 482M loss). Additionally, Seadrill is involved in derivative contracts (3Q11 330m loss). Seadrill holds interest in 4 smaller companies (oil & drilling) and operates tender rigs which are not part of other companies’ portfolios. The company has newest rigs in the industry and the market places extra value on these assets with a 3 p/b ratio, compared to Noble’s 1.3. 3 time book value is probably overvalued for capital-intensive, low-moat companies that don’t have the benefit of brands and trademarks (like Pepsi).
Financial Analysis & Valuation
Noble Corp Projections:
Financial Ratios Valuation – Current Year
Gross income % – NE has the 3rd lowest gross margin (7.1% below average of comparables) in the comparables group. This could be a result of the age of the fleet; older equipment has lower day-rates than newer equipment. NE’s current effort to renew the fleet should have a positive impact on the gross margin.
Net income % – NE’s net income margin is 7.1% above industry average. The industry NI% is negatively affected by large negative NI% for Transocean and Hercules Offshore. NE’s net income margin is ranked 7/12 among all companies in the comparables.
ROTC/ROE/ROA – NE is approximately at the mean based on profitability measures compared to industry comps.
DSO/DPO – NE’s collection of receivables is 2.3 days faster than comparables’ average and settlement of payables is 5.0 days longer than comparables’ average. This indicates that NE is managing working capital effectively.
Trading Multiples Valuation Method
The trading multiples indicate a range from $21.10 to $33.70. Nobles P/E Multiple indicates a share price approximately aligned with current share values. EV/SALES ratio of 4.52x appears slightly high compared to the peer average of 3.57x. Similarly, EV/EBITDA of 10.81x is also slightly high compared to peer average of 8.52. Obviously, this valuation method is highly influenced by the performance of the overall sector. In comparison to previous cycles, the majority of the exploration and drilling industry companies appear to be undervalued at this time.
Graham Formula Valuation
The company lends itself to an asset based Benjamin Graham valuation. Graham model yields a $69.69 intrinsic value. Current margin of safety is 56% if the company can grow its EPS at 10%. We would prefer a 66% MOS where Noble would need to drop to $23.69 for a safe buy, but at current price $30.59 it is a compelling case as well.
–
DCF of Owner’s Earnings and Free Cash Flow
According to a discounted cash flow model with a discount rate of 9.5%, we believe Noble Corporation can be valued at $13.31 billion. This is equivalent to $52.73 per share, 71% higher than the current price.
RIM Valuation
Rim valuation points to an intrinsic value of $55.45 (current price is $30.59) with an 12.6% long term growth rate projected by analysts on Yahoo finance. Discount rate used is 9.50% and is consistent with the industry. ROE projection is 13%, much lower than the actual 5 year average of 19.2%.
Revenue Projections
Revenues by unit type:
Globally, players are building capacity even without contracts and so is Noble. This would create a glut in the market putting a downward pressure on the day rates going forward if worldwide demand softens.
- Semi-Submersibles: We expect the utilization levels to improve and reach 95% levels in these three years with the potential increase in Shell and Petrobras’s off take. We expect day rates to improve in 2012, 2013 and 2014 driven the by strong backlog to be filled by Noble and subsequent pricing power with increased utilization levels. We expect the semis to fetch over $ 600k per day rates at the higher end in these 3 years.
- Drill Ships: With the increasing demand across the globe and improving oil price scenario, we expect drill ships to command higher day rates for new builds (over $500K) leading to increase in average day rates. We also believe that new builds will be put to work quickly given the contracts in place and expect average utilization to increase to 92% in 2015.
- Jack Ups: Substantially all jack ups are internationally located in places such as West Africa, Korea, Mexico, UK, Saudi Arabia, and India. The international commodity jackup market is improving modestly after a sustained period of malaise. However, dayrate upside will likely be challenged by an onslaught of coming newbuilds (84 deliveries over the coming three years, 3/4th of which are un-contracted). These premium and high-spec jackup deliveries coupled with contract roll- offs may force some standard jackups to work down-market. In turn, the premium and high-specification jackup market continues to tighten and new dayrates are being set. We have assumed that utilization will increase (penetrate) from 79% to 95% in 4 years (2015) with a gradual increase in day rates driven by world demand.
Operating Costs / COGS
The addition of 5 drill ships and 6 jackups to the fleet will result in an increase of operating costs. As observed in previous cycle upswings, we expect the drilling industry to experience higher demand and shortage of high quality personnel for the next three years. This environment will probably drive operating costs higher since there will be a need for hiring, retaining and training personnel. We expect the increase on costs to peak at 62% of revenues in 2013 from a current 58.9%, scaling down again until reaching current levels in 2015. From 2015 onwards Capital Expenditures should drop considerably since there are no planned additions to the fleet. The forecast of operating costs is consistent with the construction and delivery schedule of new drill ships and jackups already in the pipeline.
The following is our operating cost forecast (in $ millions)
| Dec 31, 2012 | Dec 31, 2013 | Dec 31, 2014 | Dec 31, 2015 | |
| Operating expenses | 2,045 | 2,532 | 2,845 | 3,280 |
Selling, general and administrative expenses
Overall selling, general and administrative expenses have been stable and consistent throughout the years and we do not expect them to change significantly as percentage of revenues, staying at 3% of revenues for at least the next four years. The following is the forecasted SG&A (in $ million):
| Dec 31, 2012 | Dec 31, 2013 | Dec 31, 2014 | Dec 31, 2015 | |
| SG & A expenses | 115 | 135 | 160 | 184 |
Valuation
We have used the following approaches to arrive at price per share for the company and assigned weights to the value per share arrived in each of these methods
- 5 year Residual Income Method: 25% weight
- Discounted Cash Flow Valuation Method: 50% weight
- Comparable companies Valuation Method: 15% weight
- Average Analyst 1 year target: 10% weight (given the lowest weight as we believe sell side analysts are biased in their view to some extent)
Recommended Share Price: $49.60 (Upside of 62% from current price)
Premium / Discount to current price:
Further Discussion
Beneish Model demonstrates that Noble is a safe company except for an alarming 2011 (based on manipulators having a score greater than -2.22).
The table below demonstrates that there is not much short pressure on Noble and that institutional investors comprise over 90% of the holding. Perhaps the short ratio of 2.40 tells us that not many people believe the stock is overpriced.
| Share Statistics | |
| Average Volume (3 month)3: | 3,572,550 |
| Average Volume (10 day)3: | 5,232,100 |
| Shares Outstanding5: | 252.39M |
| Float: | 250.91M |
| % Held by Insiders1: | 0.54% |
| % Held by Institutions1: | 91.90% |
| Shares Short (as of May 15, 2012)3: | 8.32M |
| Short Ratio (as of May 15, 2012)3: | 2.40 |
| Shares Short (prior month)3: | 8.28M |
Exhibits
Exhibit 1 – 30 years – WTI Crude oil spot price (blue) vs. Noble Corp stock price (yellow)
Exhibit: 2 – Comparison of Oil Exploration and Drilling Peers to Light Sweet Crude Index
Exhibit 3: Externalities Affecting World Oil Pricing
Exhibit 4: Worldwide Supply and Marketed Utilization
Rig Supply and utilization for various types by age.
Exhibit 5 – Jackup Construction in the Market
Exhibit 6 – Ultra Deep Fixture Rate Trends (Noble presentation)
Significant growth rate trends for Ultra Deep Water units.
Exhibit 7 – Affect of New fleet to Noble’s Revenues and New Revenue Stream From New Builds.
Appendices
Appendix A: Rigs
A few examples of offshore rigs, drilling and production platforms. Left to right: onshore platform; fixed platform; jackup rig; semi-submersible; drill ship; tension leg platform.[19]
Noble Drillship and Noble Semi-Submersible
Noble Jackup
Appendix B: Relevant Descriptions (http://rigzone.com/data/rig_statusdescriptions.asp)
Offshore Rig Status Descriptions
Drilling
Drilling status simply means that a rig is performing drilling operations at an offshore site. These units are either under contract by an operator or owner operated.
Workover
Workover status means that a rig is performing workover or well servicing operations at an offshore site. These units are either under contract by an operator or owner operated.
Accommodation
A rig working in accommodation mode is essentially acting as an offshore hotel. A rig can be deployed in a variety of situations at offshore sites to house personnel or supplies.
Older or marginal rigs engage in accommodation services more frequently than higher spec units as this type of work generates lower day-rates than drilling and workover activities. In periods characterized by reduced levels of drilling demand, some higher spec units may operate in this capacity in order to remain active.
Production
Production status means that a rig is performing production operations at an offshore site. These units are either under contract by an operator or owner operated.
Cold Stacked
In short, to cold stack a rig is similar to “shuttering” an industrial plant – workers are let go, the hatches are battened down and the rig is completely shut down. Cold stacking a rig involves reducing the crew to either zero or just a few key individuals and “storing” the rig in a harbor, shipyard or designated area offshore. Typically, steps are taken to protect the rig including installing dehumidifiers and applying protective coatings to fight corrosion, installing monitoring systems that communicate rig status information to locations onshore and filling engines with protective fluids. Although the duration of cold stacking can vary depending on many factors, rigs that are cold stacked are typically out of service for a significant period of time and are generally not considered to be part of marketable supply.
Costs are generally reduced to minimum levels, although rig owners likely will still have to pay harbor fees, insurance premiums and other miscellaneous expenses. Before returning a cold stacked rig to service, drilling contractors must hire a crew and some level of investment is usually required. The investment may come in the form of a survey, completing deferred maintenance or refurbishment.
Drilling contractors typically cold stack a rig in a cost cutting effort when they do not believe they will find work for the unit at a day-rate above cash breakeven for an extended period of time. Often, this activity is a result of a cyclical downturn in demand for a given rig type. Unit specific issues, like a significant investment requirement for a marginal rig to continue operations, can also drive the decision to cold stack a rig.
Ready Stacked
Ready stacked status means that a rig is idle but operational and is also referenced in the industry as warm stacked. A ready stacked rig typically retains most of its crew and can deploy quickly if an operator requires its services. In a ready stacked state, normal maintenance operations similar to those performed when the rig is active are continued by the crew so that the rig remains work ready.
Daily operating costs for a ready stacked unit remain close to the levels incurred when the rig is actively working. Thus, a rig is kept in a ready stacked state when its owner anticipates that the rig will be able to return to work shortly – either due to having a commitment in hand or the owner’s perception that work will be secured relatively quickly. Ready stacked rigs are actively marketed and considered part of marketable supply.
Under Construction
Rigs classified as under construction are in various stages of the rig building process. Referred to in the industry as “newbuilds”, these rigs have yet to be completed.
Newbuilds may be built on a speculative basis without a firm commitment for work or built to fulfill a specific requirement from an operator. If the rig is being constructed to fulfill a specific requirement from an operator, the owner may receive a firm commitment for the rig in advance of delivery or placement of the construction order.
Enroute
Enroute status means that a rig is in the process of mobilizing from one location to another. Either through their own means or with the assistance of oceangoing vessels, rigs travel between locations in a particular offshore field or between regions across the globe.
Although there is no clear rule, the operator may pay mobilization fees to the rig owner, particularly when rig availability is limited, to compensate the owner for the cost incurred to move the rig. Rigs may be enroute with or without a commitment from an operator.
Waiting on Location
Waiting on location status means that a rig is in standby mode. This status can result from a variety of factors including delays in operator plans; a problem at an offshore site; bad weather; or preparation to mobilize or drill.
Inspection
Inspection status means that a rig is either in the shipyard undergoing a survey or inspection or is undergoing an inspection in the field.
Out of service time can vary depending on the scale of the survey or inspection, and the rig may or may not be actively marketed or contracted during this time.
Modification
Modification status means that a rig is undergoing maintenance, repairs or upgrades which can be performed on location or in a shipyard.
Out of service time can vary widely depending on the work being done, and the rig may or may not be actively marketed or contracted during this time.
Appendix C: Rig Types
Floating Rigs
| Rig Type | Rigs Working | Total Rig Fleet | Average Day Rate |
| Drillship < 4000′ WD | 8 rigs | 8 rigs | $235,000 |
| Drillship 4000’+ WD | 59 rigs | 74 rigs | $459,000 |
| Semisub < 1500′ WD | 9 rigs | 15 rigs | $249,000 |
| Semisub 1500’+ WD | 61 rigs | 92 rigs | $296,000 |
| Semisub 4000’+ WD | 91 rigs | 109 rigs | $403,000 |
Jackup Rigs
| Rig Type | Rigs Working | Total Rig Fleet | Average Day Rate |
| Jackup | 1 rigs | 1 rigs | $125,000 |
| Jackup IC < 250′ WD | 35 rigs | 54 rigs | $74,000 |
| Jackup IC 250′ WD | 40 rigs | 62 rigs | $77,000 |
| Jackup IC 300′ WD | 88 rigs | 132 rigs | $86,000 |
| Jackup IC 300’+ WD | 131 rigs | 155 rigs | $149,000 |
| Jackup IS < 250′ WD | 6 rigs | 9 rigs | — |
| Jackup IS 250′ WD | 7 rigs | 9 rigs | $75,000 |
| Jackup IS 300′ WD | 3 rigs | 5 rigs | $60,000 |
| Jackup IS 300’+ WD | 1 rigs | 3 rigs | $70,000 |
| Jackup MC < 200′ WD | 4 rigs | 11 rigs | $36,000 |
| Jackup MC 200’+ WD | 12 rigs | 23 rigs | $67,000 |
| Jackup MS < 200′ WD | 2 rigs | 3 rigs | — |
| Jackup MS 200’+ WD | 7 rigs | 15 rigs | $48,000 |
Other Offshore Rigs
| Rig Type | Rigs Working | Total Rig Fleet | Average Day Rate |
| Drill Barge < 150′ WD | 20 rigs | 39 rigs | — |
| Drill Barge 150’+ WD | 6 rigs | 9 rigs | — |
| Inland Barge | 29 rigs | 76 rigs | $56,000 |
| Platform Rig | 141 rigs | 251 rigs | $43,000 |
| Submersible | 0 rigs | 5 rigs | — |
| Tender | 24 rigs | 33 rigs | $128,000 |
[1] 95% utilization is assumed (new-builds carry higher utilizations than older units > 72-84%)
[6] http://seekingalpha.com/article/620021-transocean-has-a-major-accounting-problem-and-many-others
[7] Rigzone market research
[8] Noble Fleet-Status report calculation
[9] DO & ENSCO Fleet-Status report analysis
[10] Noble 2012 analyst day presentation
[11] May 08,2012 Morningstar Report
[12] 2010 Noble Financials
[13] FactSet data on Noble
[14] Noble Corporation 2011 Annual Report, Noble Corporation Company Analysis and Buy Report November 2010, GlobalData Noble Corporation – Financial and Strategic Analysis Review December 2011
[15] Ensco PLC Campany Analysis and Sell Report December 2010, Noble Corporation Buy Report November 2010
[16] Morning Star report on DO, 5/23/2012
[18] S&P, June 2, 2012 report on ESV
[19] http://www.boemre.gov/tarprojectcategories/structur.htm (Bureau of ocean management, regulation & enforcement.
alecmazo 