Pride International (PDE) is one of the world’s largest offshore drilling contractors. With headquarters in Houston, PDE maintains a 45 rig fleet (including 4 newbuilds scheduled to come online over the next 2-4 years), consisting of 27 jackups and 18 floaters. Of the 18 floaters, 12 are deepwater.
Since the new management team led by Louis Raspino took over in 2005-6, the Company has shifted more of its focus (and correspondingly its assets) towards the deepwater market, while moving away from the jackup market. In that vein, the Company currently plans to do a tax-free spinoff of its Mat-jackup fleet sometime in the second quarter of 2009.
While the bear case is pretty straightforward and ultimately predicated on the price of oil (i.e., since oil prices have collapsed, a collapse in dayrates will naturally follow), it is our belief that at Pride’s current price, such a collapse is already factored into the stock price, and hence, Pride almost represents a free call option due to its locked in deepwater contracts.
Based on our calculations, Pride should earn (as a consolidated company; for purposes of this writeup, we are including the Mat-jackups in the company) north of $3.00 in 2009, and ultimately grow earnings to a level in excess of between $4.50 and $5.50 in 2012 under a “base case scenario”, which factors in an annual decline in spot/market dayrates of 10-20% per year over the next three years (for example, dayrates for deepwater declining from approximately $500,000 to $256,000 under the -20% scenario)
At $15, Pride has a current enterprise value of $2.9bn, or a little under 3.0x 2009 EBITDA and 4.9x 2009 EPS – put simply, very cheap. Of the $2.9bn, the company had a mere $300m of net debt at the end of Q3 ’08.
Looking out further, assuming a spot/market dayrate decline of 20%/year, the company should still earn approximately $4.60 in 2012, and will have accrued approximately $4.00 in net cash at that point, even after capex spend for its newbuild rigs. The earnings power increases even in such an environment due to the locked-in contracts that PDE already has. Ascribing a normalized multiple of 7.5x EPS would yield a stock price of around $38/share, when including the net cash.
Downside Protection/Margin of Safety
The main part of our thesis is predicated on the idea that at current prices, an investment in PDE is well-protected on the downside, almost regardless of oil prices. This is based on (1) its current backlog, and (2) its exposure to the deepwater market
Pride currently has a revenue backlog of $8.9bn, with bonus opportunities (most of which if achieved would flow directly to the bottom line) of around $700m. Ascribing a 45% EBITDA margin (which is arguably conservative, as Q3 ’08 was 47.5%, and that reflected lower margin contracts), would suggest “locked-in” EBITDA of $4.3bn – well in excess of the current enterprise value. From 2009-2011, the contracted rig-fleet is as follows:
2009 deepwater: 96%, midwater: 97%
2010 deepwater: 87%, midwater: 70%
2011 deepwater: 80%, midwater: 60%
Keep in mind however, that while the deepwater % contracted declines over the next 3 years, 3 of Pride’s 4 newbuilds come on-line during 2011, and have contract lengths of five years – hence, the locked-in cash flow post-2011 is pretty robust as well, at least for the deepwater market. These 3 also have contracted dayrates far in excess of their average current deepwater dayrate of $333,000 as of Q3:
PS1’s dayrate: $480,000
PS2’s dayrate: $539,000
PS3’s dayrate: $502,300
The company is currently in the process of negotiating a contract for PS4, which is scheduled to come on-line in 2012. There have been indications that the dayrate should be at or above $500,000/day.
Indeed, Pride’s concentration on the deepwater market should also provide a margin of safety as this market should be more insulated against precipitous declines in spot/market dayrates. The deepwater drilling market has much higher barriers to entry than the jackup market. Aside from the required access to capital due to major differences in cost to build (for example, it will cost Pride around $700m for each of the newbuilds), deepwater rigs are far more difficult operate, require a larger staff, and are outfitted with highly complex system. Another proxy would of course be water depth and drilling depth – the four new “PS” rigs (PS1-PS4) will have a water depth of 12,000 feet and drilling depth of 40,000 feet; by comparison most Pride’s jackup fleet have water depths of 2,500 feet and drilling depths of 20,000 feet. Due to all of these factors, the typical deepwater contract is far longer than a jackup engagement.
Pride is also somewhat protected by its geographic diversity and customer concentration. From a geographic perspective, in 2007, Pride recognized a relatively even split of revenues (between 15-25% per region) between Angola, Mexico, Brazil, US and “other” international regions. Of the $.9.6 billion in potential backlog, 40% is from IOCs (including Total and BP), 56% is from NOCs (including Petrobras and Pemex), and 4% is from independents.
While dayrates by drilling asset do not necessarily move together in a linear fashion, we stress test PDE’s earnings power by assuming dayrate declines across the board.
If dayrates were to continue at their current level – which admittedly in this environment is highly unlikely – Pride could conceivably earn in excess of $6.50 per share in 2012, with $7.00+ /sh of net cash sitting on its balance sheet.
In a more likely scenario of an annual dayrate decline of 10-20%/year over the next 3 years, Pride should earn between $4.50 and $5.50 per share in 2012, with $4.00 of cash on its balance sheet. By way of reference, in a 20% annual decline scenario, this would suggest that dayrates are cut almost in half relative to today.
Finally, in our disaster case scenario of an annual decline of 30%/ day (for example, deepwater rates would go from $500k in 2009 to $350k in 2010 to $245k in 2011 to $171k in 2012), the company would still earn around $4.00 in 2012. Admittedly, however, if dayrates were to stay at such a level, earnings would decline as contracts rolled off (assuming that the company didn’t sign any new contracts (aside from PS-4) between now and that time, which would be extremely conservative). Still, by 2015, using such a dayrate, the company would be earning around $2.00 per share with a net cash balance of around $12.00 and a fleet of high-spec rigs. In such a scenario, the stock is still worth far more than where it is trading today -- hence, our ultimate conclusion that Pride provides a compelling investment opportunity.
Announcement on new long-term contract for PS-4 or other long-term contracts
Flattening of dayrates (rather than anticipated decline)