Diamond Offshore Drilling Inc. - College of Business at Illinois

forestsaintregisOil and Offshore

Nov 8, 2013 (3 years and 9 months ago)

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Katsy Douangvichit

Tyson Banbury

Nate Evett

Matt Hawk

October 28, 2010

Diamond Offshore
Drilling Inc.

http://images.businessweek.com/ss/09/02/0224_safe_dividends/10.htm


Agenda





Company Overview



Industry Overview



Competitors



SWOT Analysis



Porter’s 5 Forces



Valuation



Recommendation


Company Overview

Summary


Gulf of Mexico (GOM)


Mexico


Europe/Africa/Mediterranean


Australasia/Asia/Middle East


South America

Global Presence


Provides contract drilling services to energy industry


Leader in deepwater drilling for oil and natural gas on a global scale


One of the world’s largest fleets of offshore drilling rigs

Basic Info


Ticker: DO


Employees: 5,500


Price: $67.80


Headquarters: Houston, TX

http://www.diamondoffshore.com/ourCompany/ourcompany_overview.php

February 2008


Purchased 100 shares @ $122.90 for a total cost of $12,290


Give portfolio exposure to oil and drilling sector

November 2008


Purchased 50 shares @ $72.96 for a total cost of $3,648

September 2009


Written call option exercised, sold 100 shares at adjusted price of $76.25
totaling $7,625


Strike price adjusted to $76.25 from original strike price of $80.00 due to
a special cash dividend of $1.875 paid twice over the holding period of the
option


Realized loss of $4,665


As of 10/27/2010


Diamond Offshore closed at $67.80


Currently have 50 shares with an unrealized loss of 7.07%


Represents 2.93% of the portfolio



Company Overview

Portfolio Performance

Company Overview

Recent Performance





DO stock down 36% since beginning of 2010



Recently passed 20
-
day Moving Avg., anticipate crossing 200
-
day Moving Avg.





http://finance.yahoo.com/echarts?s=DO+Interactive#chart1

Company Overview

History

Diamond Offshore Drilling is formed:


1980’s


Loews Corp. (diversified holding company) purchases



Diamond M Drilling.


1992


Diamond M Drilling Co., under Loews ownership, purchases



all outstanding stock of ODECO


1993


name changed to Diamond Offshore Drilling Inc.


1995


began trading on NYSE under symbol “DO”


1996


Diamond Offshore acquired Arethusa Ltd. and sold land



division Diamond M Onshore to DI Industries Inc.


Key Takeaway
: Diamond Offshore has a longstanding history in the
drilling industry, and all barge, platform, and land rigs acquired in
previous transactions have been been sold to focus on offshore drilling


http://www.diamondoffshore.com/ourCompany/ourcompany_history.php


Company Overview

Business Model


Oil Industry

Upstream


Exploration
and Production

Midstream


Transportation and
Refinement

Downstream


Distribution and Sales


http://www.nwofighters.org/wp
-
content/uploads/2010/05/oil
-
rig.jpg

http://safetyactconsultants.com/yahoo_site_admin/assets/images/Wast_Oil_Refinery.320175601.jpg

http://www.annualreports.com.my/uploads/news/small/9_shell
-
gas
-
station
-
bar
-
b
-
cutie.jpg

Company Overview

Business Model


Drilling Contracts


Exploratory Drilling


Drill wells in previously
unexplored areas as directed by
customer (operator)

Development Drilling & Well
Completion


Drill additional wells in areas of
successful exploration


Complete wells by preparing
them for continued hydrocarbon
extraction by operators

http://csdms.colorado.edu/wiki/Talk:Marine_Discussion

http://www.epmag.com/archives/features/761.htm

Company Overview

Different Categories of Rigs



High Specification Floaters


Drill in water depths greater than 4,000 ft.



Intermediate Submersibles


Drill in water depths less than 4,000 ft.



Jack
-
ups


Drill in water depths less than 350 ft.

Drivers of revenue



Day Rates


The per day rate Diamond Offshore charges clients for use of rigs



Utilization rates


The percentage of fleet that is currently under contract to clients



Number of rigs


Number of rigs in Diamond Offshore’s fleet

http://www.diamondoffshore.com/ourCompany/ourcompany_offshorerigbasics.php



Company Overview

GOM/
Mexico

South
America

Europe/Africa/
Mediterranean

Australasia/Asia/
Middle East

High
-
Spec: 13

2

6

3

2

Intermediate: 20

1 (2)
2

9

4

3 (1)
2

Jack
-
Ups: 13

4 (4)
2

1

3

1


85% of revenue comes from Intermediate Semis and High
-
Spec Floaters


Total Rigs: 46 [6 cold stacked rigs GOM, 1 in Malaysia]

Number
of Rigs

Average
1

Utilization Rate

Average
1

Day Rate
($ thousands)

Avg % Total
Revenue

High
-
Spec
Floaters

13

83.4%

356.1

49.6%

Intermediate
Semis

20

83.4%

249.2

34.7%

Jack
-
Ups

13

77.7%

112.6

15.5%

1

Averages using 2005
-
2009

Business Model


Revenue Drivers


2

Denotes cold
-
stacked rigs

Company Overview

Business Model


Geographic Distribution

Total revenue per region $ in millions (% of total revenue)

Geographic Region

2006

2007

2008

2009

GOM

1,114.2

(56.1%)

1,226.5

(48.9%)

1,375.6

(39.6%)

1,138.2

(32.2%)

Mexico

96.5

(4.9%)

148.6

(5.9%)

325.8

(9.4%)

323.1

(9.1%)

Australia/Asia/
Middle East

323.0

(16.3%)

400.7

(16.0%)

557.1

(16.0%)

717.7

(20.3%)

Europe/Africa/
Mediterranean

250.1

(12.6%)

473.7

(18.9%)

634.0

(18.2%)

641.2

(18.1%)

South America

203.3

(10.2%)

256.2

(10.2%)

583.9

(16.8%)

716.4

(20.3%)


Reducing exposure to GOM prior to drilling moratorium


Strong 08
-
09 growth in South America and Australia/Asia/Middle East despite global
economic downturn


http://www.diamondoffshore.com/investors/investors_secfiling.php



Industry Overview

Macroeconomic Drivers


Global Recovery




Source: World Economic Outlook, 2010

http://www.imf.org/external/pubs/ft/weo/2010/01/c1/fig1_2.pdf


Global GDP growth expected to taper gradually after rebound from recession


Translates into gradual increase in demand for oil in near future with expected
higher growth in demand after 2015




Industry Overview

Macroeconomic Drivers


Key Players





China and India projected to
have over 5% GDP growth in
2010
-
2011

(1)


Along with the U.S., Brazil,
Russia and Japan, these two
countries make up the top six
oil
-
consuming nations


Brazilian government pledges to
keep oil supply ahead of
growing economy via Petrobras

Source: World Economic Outlook, 2010

http://www.imf.org/external/pubs/ft/

weo
/2010/01/c1/fig1_19.pdf

(1)

World Economic Outlook, 2010

http://www.imf.org/external/pubs/ft/

weo
/2010/01/c2/fig2_1.pdf

Industry Overview

Macroeconomic Drivers


Demand For Oil




1,537,000

1,669,000

1,809,000

1,875,000

2,078,000

2,151,000

2,216,000

2,430,000

2,437,000

2,460,000

2,850,000

2,980,000

4,363,000

8,200,000

18,690,000

0
10,000,000
20,000,000
15. Italy
14. United Kingdom
13. Iran
12. France
11. Mexico
10. Canada
9. Korea, South
8. Saudi Arabia
7. Germany
6. Brazil
5. Russia
4. India
3. Japan
2. China
1. United States
Source
: https://www.cia.gov/library/publications/

the
-
world
-
factbook/rankorder/2174rank.html,2009


Barrels of Oil Consumed Daily

http://graphics.thomsonreuters.com/10/04/GLB_
OILDMND0410.gif


Industry Overview

Macroeconomic Drivers


Price of Crude




Source: World Economic Outlook, 2010

http://www.imf.org/external/pubs/ft/weo/2010/01/c1/fig1_19.pdf


Oil prices expected to remain around $85 per barrel over near term


Stable price projected due to expectation of meeting increase in oil demand
with increased production


Increased production puts upward pressure on rig utilization and day rates,
driving up DO’s revenues




April 20, 2010, Deepwater Horizon rig, owned by Transocean Ltd., experiences



blowout leading to explosion and largest offshore oil spill in U.S. history.


May 28
th
, government imposes ban on drilling new wells over 500 ft


June 21
st
, Judge Martin Feldman halts moratorium


July 12
th
, second moratorium implemented and scheduled to end November 30
th


October 12
th
, drilling ban lifted




Industry Overview

Industry Outlook


GOM Moratorium






Industry faces increased operating costs due to increased regulation


New standards for Blowout Preventers (BOPs) and cementing wells


Lengthened process to acquire drilling permits


Relocation of 2 DO rigs to international contracts


Slow return to GOM due to new regulations and increased auditing cost


Impact:




Competitors

Noble Corporation


Business strategy is to actively expand international and
deepwater drilling through acquisitions, modifications, and
upgrades


Fleet has 15 deepwater rigs, 50 Jackups, 4 Drillships


Completed purchase of Frontier Drilling in July 2010


This increased fleet by 7 rigs to 69 total platforms


5 more rigs currently under construction


Noble has mobilized 9 rigs from GOM to international
markets in the past 5 years


Stock currently trading on NYSE at $34.32 (10/28/2010)



Feb. 26, 2010 10
-
k


Item 7: Management’s Discussion

Noble Webpage RigFleet Section: http://www.noblecorp.com/Fleet/FleetOverview.asp

Noble Corporation Fleet Status updated 29 September 2010

http://finance.yahoo.com/q?s=ne



Competitors

Ensco


Business is divided into four units


Ulta
-
deepwater


Asia/Pacific Rim


Europe/Africa


North and South America


Fleet includes 8 deepwater and 40 Jackups


Leverage ratio is lowest among DO, Noble, and Transocean


Rate #1 in safety and reliability by EnergyPoint Research Inc.


Stock currently trading on NYSE at $46.40 (10/28/2010)


http://finance.yahoo.com/q?s=ESV

ENSCO web page Global Operations Section http://www.enscous.com/Global

Operations/Capabilities/default.aspx

ENSCO fleet status report Oct. 13, 2010

http://seekingalpha.com/article/224240
-
the
-
oil
-
and
-
gas
-
industry
-
s
-
answers
-
lie
-
within






Competitors

Transocean


World’s largest offshore driller with 114 rigs


Only 23 deepwater rigs, 65 Jackups


Less emphasis on deepwater specialization


Implicated in the April 2010 Deepwater Horizon oil rig
explosion in GOM


Reputation has suffered as a result


Ranked last among drillers in 2008 and 2009 for job quality


Merged with GlobalSantaFe in 2007


Stock currently trading on NYSE at $64.16 (10/28/2010)



http://finance.yahoo.com/q?s=rig

Transocean 2010 Fleet Directory Brochure

www.reuters.com/article/idUSN03223262
2010
0603

http://seekingalpha.com/article/224240
-
the
-
oil
-
and
-
gas
-
industry
-
s
-
answers
-
lie
-
within

www.deepwater.com/fw/main/
Merger
-
307.html

Competitors

Recent Performance


Strong divergence at outset of GOM disaster


Ensco and Noble have less exposure to deepwater drilling


Anticipate DO recovery in future despite increased U.S. drilling
regulations due to continued further global diversification

Source: Yahoo! Finance http://finance.yahoo.com/echarts?s=DO+Interactive#chart4:symbol=do;range=20081028,

20100927;compare=esv+ne+rig+^gspc;indicator=volume;charttype=line;crosshair=on;ohlcvalues=0;logscale=on;

source=undefined

Competitors

Diamond Offshore


How They Differentiate


DO has larger percent of floaters in fleet due to customers’ demand
for high
-
tech, efficient rigs


Floaters not limited to shallow drilling


Floaters can withstand harsher weather and sea conditions



Historically, DO has paid out significantly more in dividends than its
competitors


From 2006
-
2009, DO paid out $17.88 while the closest competitor
Transocean paid out only $1.58


Reason to believe DO will increase dividend in future since it remains
a key part of their long
-
term value creation

2009 Annual Report Item 1: Business


The Fleet

Diamond Offshore Web page Offshore Rig Basics

Seeking Alpha Diamond Offshore Drilling Q2 2010 Earnings Call Transcript

Competitors

Rig & Financials Comparison

Diamond Offshore

Noble Corp.

ENSCO

Transocean

Floaters

32

16

6

64

Jackups

13

45

38

63

Drillships

1

8

-

-

Other

-

-

1

5

Under Construction

-

5

4

-

Total

46

74

49

132

Market
Cap
(billion)

Trailing
P/E (ttm)

Forward
P/E

Revenue
(billion)
(ttm)

Net Income
(billion)
(ttm)

Cash on
Hand
(billion)

OCF
(billion)
(ttm)

Current
Ratio

Diamond
Offshore

$9.96

8.63

10.51

$3.48

$1.38

$1.50

$1.41

2.97

Noble

$9.19

6.38

8.25

$3.40

$1.45

$1.08

$2.15

3.86

Ensco

$6.80

10.05

11.13

$1.81

$0.60

$1.24

$1.05

4.05

Transocean

$21.39

7.67

8.63

$10.66

$2.81

$2.92

$5.02

1.27

http://www.diamondoffshore.com/ourFleet/rigStatus.php

SWOT Analysis

Strengths



One of the first drillers to
move away from Gulf of
Mexico (GOM)



Majority of rigs have deep
nominal drilling depth
(10,000+ ft.)



Most rigs committed short
term (80% of semis for 2010)



Conservative business
approach: invested in new rigs
in the downturn, got them for
discount

Weaknesses



Increasing dependence on
few customers (15 of their 33
floaters contracted by
two

Brazilian customers)



Gulf of Mexico rigs still
comprise 20% of projected
2011 revenue



Increased idle times for rigs
due to regulation

Firm Factors

SWOT Analysis

Industry Factors

Opportunities



Growth in some geographic
locations including Brazil and
Greenland



Increased demand for ultra
-
deepwater rigs

Threats



Compliance with new regulations
in GOM



Cyclical industry



Lack of increased oil demand
would result in oversupply of rigs
leading, lowering day rates

Porter’s 5 Forces

Threat of New Entrants (Low):

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.


Power of Suppliers (Medium):

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.


Power of Buyers (Medium):

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.


Threat of Substitutes (Low):

There are many alternatives to oil and natural gas including
coal, solar, and wind power. Coal is already well established in the market place while other
alternative technologies are still far too inefficient to compete over the next decade.


Industry Rivalry (High):

There are high exit barriers due to the costs of the rigs and the lack
of alternative uses for them. Therefore, companies want to stay in the industry, increasing
rivalry. Bids to get contracts is very competitive and lowest cost wins the bid.


Valuation


Base Case

Discount Value


CAPM Cost of Equity = 8.12%


Annualized ROI (1999
-
2001)= 35.40%
-

Used for 2010
-
2016 FCF’s


Annualized ROI (2005
-
2010)= 19.33%
-

Used for Terminal FCF


Cost of Debt = 5.4%


Discount rates = 19.31% (2010
-
2016)




12.37% (Terminal)











http://finance.yahoo.com/echarts?s=DO+Interactive#chart4:symbol=do;range=20081028,20100927;compare=

esv+ne+rig+^gspc;indicator=volume;charttype=line;crosshair=on;ohlcvalues=0;logscale=on;source


The estimated 2010
-
2016 future rate of return to investor was chosen based upon the
assumption of future moderate growth similar to that of growth of DO during 1999
-
2001


Valuation

DCF Valuation

($ in millions, except per share amounts)
FY Ending 12/31:
2010
2011
2012
2013
2014
2015
2016
Terminal Value
Net Income
$990.4
$1,009.2
$1,277.0
$1,577.9
$1,784.0
$1,997.5
$2,193.5
Add: D & A
373.0
423.6
447.1
503.6
578.5
604.6
633.7
Changes in Net Working Capital (NWC)
Plus: A/R
78.6
(133.1)
95.8
(242.5)
(174.0)
48.8
(198.6)
Plus: Assets Held for Sale
0.0
0.0
(50.0)
50.0
0.0
(50.0)
50.0
Plus: Prepaid Expenses
54.0
(30.3)
(31.1)
(17.2)
(25.5)
(13.4)
(22.4)
Less: A/P and Accrued Liabilities
58.5
16.0
98.9
51.2
138.3
48.2
49.8
Less: Taxes Payable
35.4
9.5
16.8
1.5
7.2
22.2
8.5
Less: Changes in NWC
226.5
(137.9)
130.4
(157.0)
(54.0)
55.8
(112.8)
Less: Capex
467.5
1,384.4
892.5
1,578.1
2,000.4
1,100.9
1,186.3
FCF
$1,122.4
($89.5)
$962.1
$346.4
$308.0
$1,557.1
$1,528.1
$17,822.3
% Growth
2426.95%
-107.97%
-1174.84%
-64.00%
-11.08%
405.55%
-1.86%
PV FCF
$1,122.4
($75.0)
$675.9
$204.0
$152.0
$644.1
$529.9
$8,850.4
FORECASTED
DCF Valuation
Present Value of FCF's
12,103.7
Less: Outstanding Debt
1,495.4
Plus: Cash and ST investments
777.4
Equity Value
11,385.7
Value per Share
$81.89
Equals Value +/- 10%
$73.70
$90.08
Valuation

Sensitivity Analysis

Sensitivity Table
$81.89
15.00%
16.00%
17.00%
18.00%
19.31%
20.00%
21.00%
22.00%
23.00%
2.00%
$74.47
$73.82
$73.21
$72.62
$71.90
$71.53
$71.03
$70.54
$70.08
2.50%
$77.46
$76.82
$76.20
$75.62
$74.89
$74.53
$74.02
$73.54
$73.08
3.00%
$80.78
$80.13
$79.52
$78.93
$78.21
$77.84
$77.33
$76.85
$76.39
3.50%
$84.46
$83.82
$83.20
$82.62
$81.89
$81.53
$81.02
$80.54
$80.08
4.00%
$88.59
$87.94
$87.33
$86.74
$86.02
$85.65
$85.15
$84.66
$84.20
4.50%
$93.24
$92.60
$91.98
$91.39
$90.67
$90.31
$89.80
$89.32
$88.85
5.00%
$98.52
$97.88
$97.26
$96.68
$95.95
$95.59
$95.08
$94.60
$94.14
5.50%
$104.57
$103.93
$103.31
$102.73
$102.00
$101.64
$101.13
$100.65
$100.19
Discount Rate
GROWTH
RATE
Ratio Valuation

Triangulation


Valuation Method
Weight
Price
Forward P/E
15.00%
$71.60
Price/Sales
15.00%
$68.90
TEV/EBITDA
20.00%
$82.51
DCF
50.00%
$81.89
Triangulated Value
$78.52
TRIANGULATION
Bad Scenario

Assumes DO experiences another stretch of suppressed
revenue streams


Dayrates and Utilizations rates decline


Increased regulatory costs decrease margins


Do not begin to pick up until 2014

($ in millions, except per share amounts)
FY Ending 12/31:
2010
2011
2012
2013
2014
2015
2016
Terminal Value
Net Income
$990.4
$584.4
$600.9
$604.9
$728.4
$813.1
$948.6
Add: D & A
373.0
413.6
420.4
456.7
510.9
516.7
525.0
Changes in Net Working Capital (NWC)
Plus: A/R
296.6
(94.7)
127.1
(44.7)
(84.0)
(46.8)
(79.2)
Plus: Assets Held for Sale
0.0
0.0
(50.0)
50.0
0.0
(50.0)
50.0
Plus: Prepaid Expenses
54.0
3.2
(2.2)
(0.1)
(15.0)
(9.5)
(13.8)
Less: A/P and Accrued Liabilities
58.5
(99.1)
2.9
(3.5)
79.8
34.2
32.0
Less: Taxes Payable
35.4
(10.2)
0.4
(4.6)
4.4
13.6
5.4
Less: Changes in NWC
444.5
(200.8)
78.2
(3.0)
(14.8)
(58.6)
(5.6)
Less: Capex
467.5
1,184.4
550.0
1,145.8
1,539.9
628.1
681.9
FCF
$1,340.4
($387.2)
$549.5
($87.1)
($315.4)
$643.1
$786.0
$9,167.6
% Growth
2917.55%
-128.89%
-241.93%
-115.85%
262.04%
-303.93%
22.22%
PV FCF
$1,340.4
($324.5)
$386.1
($51.3)
($155.7)
$266.1
$272.6
$4,552.5
FORECASTED
Valuation Method
Weight
Price
Forward P/E
15.00%
$71.60
Price/Sales
15.00%
$68.90
TEV/EBITDA
20.00%
$82.51
DCF
50.00%
$40.05
Triangulated Value
$57.60
TRIANGULATION
Good Scenario



Oil prices rise sharply



Dayrates and utilization rates rise rapidly



Emerging markets spur global demand for oil in deepwater



Moratorium has little lasting effect on GOM

Valuation Method
Weight
Price
Forward P/E
15.00%
$71.60
Price/Sales
15.00%
$68.90
TEV/EBITDA
20.00%
$82.51
DCF
50.00%
$97.51
Triangulated Value
$86.33
TRIANGULATION
($ in millions, except per share amounts)
FY Ending 12/31:
2010
2011
2012
2013
2014
2015
2016
Terminal Value
Net Income
$990.4
$1,155.7
$1,534.7
$2,010.3
$2,221.9
$2,424.3
$2,703.5
Add: D & A
373.0
427.9
458.3
525.3
609.7
644.4
683.4
Changes in Net Working Capital (NWC)
Plus: A/R
78.6
(225.4)
68.1
(345.8)
(188.8)
82.3
(259.7)
Plus: Assets Held for Sale
0.0
0.0
(50.0)
50.0
0.0
(50.0)
50.0
Plus: Prepaid Expenses
54.0
(44.6)
(42.7)
(31.7)
(27.0)
(11.6)
(31.0)
Less: A/P and Accrued Liabilities
58.5
65.2
137.7
98.5
153.9
41.4
74.6
Less: Taxes Payable
35.4
18.0
23.5
8.0
6.7
24.1
12.5
Less: Changes in NWC
226.5
(186.9)
136.5
(221.0)
(55.1)
86.4
(153.6)
Less: Capex
467.5
1,470.0
1,035.3
1,798.3
2,214.8
1,302.3
1,425.6
FCF
$1,122.4
($73.3)
$1,094.2
$516.4
$561.6
$1,852.7
$1,807.7
$21,083.6
PV FCF
$1,122.4
($61.4)
$768.7
$304.1
$277.2
$766.4
$626.8
$10,469.9
FORECASTED
Recommendation

Suggested Action:



Current Price: $67.80


DCF Value: $81.89


Triangulation: $78.52



We recommend that we purchase 100 shares of Diamond Offshore




Diamond Offshore Drilling Inc.

October 28, 2010

http://images.businessweek.com/ss/09/02/0224_safe_dividends/10.htm