Despite the optimism of spinoff investors, not every spin is a success story…at least when measured by stock price appreciation. In late August of 2009, offshore rig contractor Pride International (PDE) spun off its shallow water operations into the newly formed Seahawk Drilling (HAWK). The great ticker could not overcome the poor industry fundamentals and the stock has dropped over 60% since the date of record.
According to their website, Seahawk operates an offshore drilling business that provides contract drilling services to the oil and natural gas exploration and production industry in the Gulf of Mexico. They are actually the second largest offshore drilling contractor in the Gulf (Hercules Offshore is #1) with little to no international exposure. Not surprisingly, the business has struggled as result of the well-publicized oil spills and the accompanying rule changes. The Interior Department placed a moratorium on offshore drilling and although Seahawk was technically exempt (they drill at less than 500 ft) they suffered nonetheless. The company claims that regulators have slowed down the permit approval process, forcing them to idle many of their rigs and burn cash. Additionally, with new rules in place (and coming), the process of getting new permits approved has become even more difficult. As of their last reporting date, only six of the company’s 20 rigs were actively leased which means inactive rigs are costing them a lot of money every single day. As a result, the company laid off or furloughed around 300 employees or approximately 35% of its workforce. Stubbornly low natural gas prices and a perpetually weak economy have not helped either.
While their rigs may not be working, management isn’t content sitting still and in a bid to unlock shareholder value, the board of directors recently announced that it is both considering and willing to pursue strategic options including a sale or a merger. While the company’s “core strategy is sound” according to President and CEO Randall Stilley, there is also a “difference between Seahawk’s internal valuation of its assets and equity value and the current market value of Seahawk as indicated by our stock price.” Short and long term liquidity needs were also mentioned as potential drivers which isn’t surprising considering the amount of cash spent on idle rigs. Mr. Stilley has since indicated that most of their suitors are financial investors and not competitors. While the stock has picked up a bit since the announcement (well, so has the entire market), I cannot imagine a worse time to unload the company. The company’s relatively small size (market cap of just $120m) and discount to book value (P/B of 0.28) could make it an attractive pickup, especially for investors with a more longer term horizon. The liquidity situation could be dire though and we should get a better picture when the company reports Q3 earnings on November 9th.
In an odd coincidence, Pride International ALSO announced that they are considering strategic options including a sale or a merger on the same day. Pride’s largest segment is their deep-water drilling which has suffered as a result of the drilling moratorium and declining day rates. Additionally, a piece of income was not recognized ($30m) due to a dispute with a client. Here is a look at their Q3 earnings announcement. The company does have a significant amount of international exposure including places such as Brazil and its fleet is relatively new, which would be a positive if new regulations arise. Adding weight to the speculation is the flurry of activity on the corporate side by the company including asset sales and the aforementioned spinoff of Seahawk. The WSJ mentioned Norway’s Seadrill (SDRL) – which owns 10% of the company – and Ensco (ESV) as potential acquirers. Many analysts also believe the industry is rife for deals as smaller players will be unable to compete in a more regulated marketplace.
Despite the seemingly non-stop bad news, there are things to like about the offshore drilling industry including rising commodity prices and a steady supply of offshore finds. Although this spinoff is over a year old, it is still a situation that bears watching.
Disclosure: Author currently holds no position in any stock mentioned
- Pride International Evaluates Options (online.wsj.com)
- UPDATE 1-Spill-hit Seahawk Drilling explores possible sale (reuters.com)
- Offshore Drillers Feeling the Urge to Merge (fool.com)