EBITDA margin improvement and cash flow upside for these drilling companies
- Transocean (RIG) has a strong liquidity buffer and an order backlog of $6.5 billion. This provides clear revenue visibility.
- Borr Drilling (BORR) has a robust EBITDA guidance for 2022 and the stock looks undervalued.
- Helmerich & Payne (HP) is among the top names to consider in the onshore drilling segment. Modern rigs and a strong balance sheet.
The escalation in geo-political tensions has significantly altered the outlook for the energy sector. Oil and gas stocks have surged higher with visibility for EBITDA margin expansion and cash flow upside. There are other attractive investment themes beyond the exploration companies. It’s also a good time to remain invested in drilling stocks.
With higher oil price, oil and gas companies will look at expanding exploration and drilling activities. This will translate into incremental demand for onshore and offshore drilling. In general, offshore assets have a higher break-even as compared to onshore oil and gas assets. Therefore, offshore drilling activity is likely to accelerate significantly in the coming quarters.
Drilling companies have gone through a rough phase after the pandemic. The current oil price scenario implies higher rig utilization as well as an upside in day-rates. It’s expected that between 2021 and 2025, onshore drilling expenditure is likely to be $34 billion.
Rystad Energy also believes that offshore drilling activity will continue to improve in 2022. However, these estimates are prior to the current surge in oil price. I would not be surprised if the capital allocation for onshore and offshore drilling activity increases meaningfully in 2022 and beyond.
In addition to higher rig utilization, day-rates for onshore and offshore drilling are also likely to increase. This will boost key margins and free cash flow outlook for drilling companies.
With this positive outlook, let’s discuss three drilling stocks that seem best positioned to benefit from positive tailwinds:
|HP||Helmerich & Payne||$44.79|
Among offshore drilling stocks, Transocean (NYSE:RIG) stock seems like a top-pick. With the surge in oil price, RIG stock has trended higher by 71% for year-to-date 2022. However, with visibility for revenue growth and cash flow upside, the rally is likely to sustain.
It’s worth noting that as of February 2022, Transocean reported an order backlog of $6.5 billion. Since the backlog is front-end loaded, there is clear revenue visibility for 2022 and 2023.
Another point from a growth perspective is that Transocean has a fleet of 39 rigs. However, the operating fleet as of February 2022 was 25. With the markets gaining traction, the cold stacked rigs are likely to be operational in the coming quarters. This will boost the revenue visibility.
At the same time, the idle rigs are likely to be contracted at a higher day-rate. This also hold true for any rig that’s going off-contract in the next few quarters. This will translate into EBITDA margin expansion.
From a financial perspective, Transocean has a robust liquidity backlog of $2.7 billion. The company seems to be fully financed for the next 18 months-24 months. The cash flow from operations will further help in improving the credit profile of the company.
Borr Drilling (BORR)
Borr Drilling (NYSE:BORR) is another offshore driller that looks attractive for exposure at current levels. In the last six-months, the stock has surged by 148%. However, with the rally from oversold results, the stock still looks attractive.
From a fleet perspective, Borr Drilling reported 18 operating rigs as of February 2022. Additionally, the company has five warm stacked rigs and another five rigs under construction.
While the new rigs will be delivered in 2025, the warm stacked rigs provide revenue upside visibility in the foreseeable future. Borr Drilling is expecting to have all rigs in operation by the end of 2022.
It’s worth noting that in 2021, Borr Drilling was awarded 34 new contracts with a backlog potential of $717 million. With higher oil price, it’s likely that order intake will accelerate through 2022. This will boost the company’s revenue visibility for 2023 and help in EBITDA margin expansion.
On the flip-side, further equity dilution might be a concern. However, if oil remains firm and day-rates continue to improve, any dilution factor will be more than offset by improvement in cash flows.
For 2022, Borr Drilling has guided for revenue of $375 million to $400 million. Further, the company has guided for adjusted EBITDA of $115 million to $140 million. At the market capitalization of around $500 million, these metrics indicate that the stock is attractive.
Helmerich & Payne (HP)
Among the onshore drilling stocks, Helmerich & Payne (NYSE:HP) stock is worth considering. Like most drilling stocks, HP stock has also surged in the recent past. However, the 2.33% dividend yield stock can be accumulated on intermediate corrections.
A big reason to like Helmerich is the company’s balance sheet. Even with an extended period of downturn, the company has maintained an investment grade balance sheet. As of December 2021, Helmerich reported $1.2 billion in liquidity and a debt-to-capitalization of 17%. As onshore drilling activity accelerates, the company is positioned for aggressive growth. Helmerich also has rig presence in Argentina, Bahrain and Columbia. International expansion is another potential growth catalyst for the company.
It’s also worth noting that the company has a fleet of 271 rigs. Of this, only 174 were contracted as of January 2022. The recent surge in oil price would imply that contracting activity accelerates in the next few quarters. This provides ample growth visibility. If industry recovery sustains, there is also visibility for dividend growth.
I am bullish on rig contracting activity for 2022 considering the company’s modern fleet. Since August 2020, Helmerich’s skidding FlexRig design has increased market share. Super specification rigs give the company a competitive advantage as compared to peers.
Overall, HP stock is among the quality drilling stocks to consider for the portfolio. The company is well positioned to benefit from a high oil price environment.
This article originally appeared at InvestorPlace.
On the date of publication, Faisal Humayun did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Faisal Humayun is a senior research analyst with 12 years of industry experience in the field of credit research, equity research and financial modeling. Faisal has authored over 1,500 stock specific articles with focus on the technology, energy and commodities sector.