Recently, I discussed a few offshore drilling stocks with an objective of providing investors with the credit health of these stocks after second-quarter results.
Further, with offshore drilling industry conditions likely to remain challenging through 2017, a renewed analysis was needed to provide more visibility on names that can potentially maintain strong credit health even if industry conditions remain depressed for the next 12 to 15 months.
This article discusses another offshore drilling stock that has strong fundamentals and is worth considering for the medium-term. Rowan Companies (RDC, Financial) has seen a rough 2016 from a stock price perspective, with the stock having declined by 19% for the year to date. However, the stock currently trades at deep value levels and the article will present fundamental reasons for being bullish on the stock.
Rowan Companies reported revenue of $1.1 billion for 1H16 and EIBTDA of $646 million for the same period, translating into an EBITDA margin of 58%. For the remainder of 2016, Rowan Companies has a backlog of $689 million. This would further imply EBITDA of $400 million and would take the annual EBITDA to $1.0 billion. With interest expense for fiscal year 2016 likely to be around $160 million, Rowan Companies has a robust EBITDA interest coverage of 6.5. This is the first reason to be bullish on Rowan Companies, from a credit perspective.
Since I have mentioned above that industry conditions will remain depressed potentially through 2017, it is also important to check for the company’s credit health in 2017. Rowan Companies has an order backlog of $1.2 billion for 2017 and at 58% EBITDA margin, this would imply EBITDA of $680 million. While I expect interest cost to decline in fiscal year 2017, even if we consider cash interest expense of $160 million, the company’s EBITDA interest coverage would still be 4.3. Therefore, for the next 18 months, debt servicing is not a point of concern and the company’s broad credit metrics are likely to remain healthy.
I must mention here that Rowan Companies has no speculative new rigs for delivery and with just $750 million in debt maturity through 2021, I believe that excess cash flows in the next 12 to 24 months will be utilized for reducing debt.
From a liquidity perspective as well, Rowan Company is in a strong position with $761 million in cash as of June 30, coupled with $1.5 billion in undrawn credit facility. I expect the credit facility to remain undrawn through 2016 and 2017.
Depending on the level of offshore industry improvement in 2018, the credit facility can potentially be utilized for opportunistic acquisition. The company mentioned in its June 2016 presentation that it continues to evaluate opportunistic asset investments. However, the key factor for now is that the company has significant cash buffer that will keep the overall credit health robust.
Looking at some risk factors, Rowan Companies has an order backlog of $440 million for 2018. Therefore, the backlog will slim down significantly after 2017 and if market conditions remain challenging, the stock can face downside pressure. However, it is too early to talk about 2018 and I do expect industry improvement into 2018.
At the same time, I would like to mention that all offshore drilling companies will see EBITDA margin compression once the existing backlogs are due for renewal. However, from a fundamental perspective, the company’s health will remain robust at least in the next 4-6 quarters. Therefore, I see the current depression in the stock as a good medium-term investing opportunity.
In conclusion, Rowan Companies is among the better positioned offshore drilling stocks along with the likes of Diamond Offshore (DO, Financial) and Noble Corporation (NE, Financial). I see near-term to medium-term investing opportunities in these names. If the stock surges by 15% to 20% from current levels in the next 6-9 months, profit booking can be considered. However, I would again caution against a big position in any of the offshore drilling names.
Disclosure: No positions in the stocks discussed.
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