TAKING STOCK: Deepwater drillers may be an exciting investment prospect

Dear Mr. Berko: My broker is very excited about a deepwater drilling company called Seadrill Limited, which pays a 10 percent dividend. I'm looking for a high yield and am willing to take some risks to get returns between 10 percent and 20 percent, so this stock looks pretty good to me. But before I buy 1,000 shares, I'd like your thoughts. I bought some of your high-yield recommendations, and they have done very well in the past few years. KL, Harrisburg, Pa. Dear KL: Today, everybody and their brothers, mothers, sisters and avatars are seeking high-yield investments. And there's lots of that stuff around, yielding between 7 and 70 percent - if you don't mind investing in a few bonds issued by the fine countries of Somalia, Niger, Congo, Ethiopia and Greece. The 18 percent Ethiopian oasis revenue bonds (to build 26 oases) could be highly rated by Moody's, trade at $337 per $1,000 face value, mature in 2022 and have a 54 percent current return. The Niger turnpike bonds, backed by George Soros and the United Nations, have a 16.5 percent coupon that matures in March of 2021, trade at $226 per $1,000 face value and have a current yield of 66 percent. And some of the Greek government's 7.1 percent bonds were once rated BBB+ and mature in 33 days, trade at $102 per $1,000 face value and have a 70 percent current yield. But I would be enormously more comfortable with Seadrill Limited (SDRL-$32), one of the world's largest deepwater drillers, with $4.2 billion in revenues and a $3 dividend that yields a miniscule 9.4 percent. SDRL has been drilling for oil and gas since 2005 and has poked some good holes, producing some sizeable offshore oil and gas discoveries in Africa, Brazil and Israel. SDRL has been a maverick company piloted by aggressive people who sit on a highly leveraged balance sheet. Management is placing big bets on a hugely growing demand for deepwater drilling. SDRL has grown from 10 rigs in 2005 to 48 rigs today and expects to own 52 rigs in 2013. SDRL's deepwater fleet is second in size to Switzerland's Transocean (RIG-$48), which is a classy deepwater driller with 18,000 employees, $9 billion in revenues and a $3.16 dividend that yields only 6.5 percent. SDRL's 9,800 employees are expected to grow 2012 revenues 9.8 percent to $4.6 billion and improve earnings by 16 percent to $3.29 a share, which might allow management to increase its dividend to $3.22. While a debt-to-equity ratio of 140 percent gives SDRL shaky legs, a small drilling success could magnify its returns exponentially. So with net profit margins of 46 percent, a couple of small successes could easily run the stock past Wall Street's median target projections of $40 a share. That's one of the reasons Market Edge and Reuters have a "buy" rating on the stock. Others on the Street also seem favorably disposed to SDRL. While I think the shares can run to the $40 level and while I think the dividend is safe, I'm not as enamored about the shares as your broker. I think the $3 dividend is much too high. Considering that SDRL Chairman and CEO John Fredriksen owns 32 percent of the stock in his family trust, I understand why the dividend is so high. I'm also uncomfortable with SDRL's five-member board of directors. John's daughter, Katherine "The Great" Fredrikson, is a well-compensated board member - even though her résumé is as barren as Mother Hubbard's cupboard. And three other board members are major cronies, each engaging in numerous related-party transactions with SDRL. However, a 1,000-share purchase may be a great speculation. ---------- Please address your financial questions to Malcolm Berko, P.O. Box 8303, Largo, FL 33775 or e-mail him at mjberko@yahoo.com. Visit Creators Syndicate website at www.creators.com. © 2011 Creators Syndicate Inc. Published: Fri, Nov 25, 2011