Noble: A New Lease Of Life Does Not Mean It Is No Longer Cyclical

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Noble, post-2022 merger and restructuring, has low debt and good capital returns. It has sound fundamentals going forward.Historical over-expansion and debt-fueled growth led to significant asset ...

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It has sound fundamentals going forward.Historical over-expansion and debt-fueled growth led to significant asset ...</p>\n\n<a href=\"https://seekingalpha.com/article/4735760-noble-a-new-lease-of-life-does-not-mean-it-is-no-longer-cyclical\">Source Link</a>\n\n</div>\n","source":"seekingalpha","html":"<!DOCTYPE html>\n<html>\n<head>\n<meta http-equiv=\"Content-Type\" content=\"text/html; charset=utf-8\" />\n<meta name=\"viewport\" content=\"width=device-width,initial-scale=1.0,minimum-scale=1.0,maximum-scale=1.0,user-scalable=no\"/>\n<meta name=\"format-detection\" content=\"telephone=no,email=no,address=no\" />\n<title>Noble: A New Lease Of Life Does Not Mean It Is No Longer Cyclical</title>\n<style type=\"text/css\">\na,abbr,acronym,address,applet,article,aside,audio,b,big,blockquote,body,canvas,caption,center,cite,code,dd,del,details,dfn,div,dl,dt,\nem,embed,fieldset,figcaption,figure,footer,form,h1,h2,h3,h4,h5,h6,header,hgroup,html,i,iframe,img,ins,kbd,label,legend,li,mark,menu,nav,\nobject,ol,output,p,pre,q,ruby,s,samp,section,small,span,strike,strong,sub,summary,sup,table,tbody,td,tfoot,th,thead,time,tr,tt,u,ul,var,video{ font:inherit;margin:0;padding:0;vertical-align:baseline;border:0 }\nbody{ font-size:16px; line-height:1.5; color:#999; background:transparent; }\n.wrapper{ overflow:hidden;word-break:break-all;padding:10px; }\nh1,h2{ font-weight:normal; line-height:1.35; margin-bottom:.6em; }\nh3,h4,h5,h6{ line-height:1.35; margin-bottom:1em; }\nh1{ font-size:24px; }\nh2{ font-size:20px; }\nh3{ font-size:18px; }\nh4{ font-size:16px; }\nh5{ font-size:14px; }\nh6{ font-size:12px; }\np,ul,ol,blockquote,dl,table{ margin:1.2em 0; }\nul,ol{ margin-left:2em; }\nul{ list-style:disc; }\nol{ list-style:decimal; }\nli,li p{ margin:10px 0;}\nimg{ max-width:100%;display:block;margin:0 auto 1em; }\nblockquote{ color:#B5B2B1; border-left:3px solid #aaa; padding:1em; }\nstrong,b{font-weight:bold;}\nem,i{font-style:italic;}\ntable{ width:100%;border-collapse:collapse;border-spacing:1px;margin:1em 0;font-size:.9em; }\nth,td{ padding:5px;text-align:left;border:1px solid #aaa; }\nth{ font-weight:bold;background:#5d5d5d; }\n.symbol-link{font-weight:bold;}\n/* header{ border-bottom:1px solid #494756; } */\n.title{ margin:0 0 8px;line-height:1.3;color:#ddd; }\n.meta {color:#5e5c6d;font-size:13px;margin:0 0 .5em; }\na{text-decoration:none; color:#2a4b87;}\n.meta .head { display: inline-block; overflow: hidden}\n.head .h-thumb { width: 30px; height: 30px; margin: 0; padding: 0; border-radius: 50%; float: left;}\n.head .h-content { margin: 0; padding: 0 0 0 9px; float: left;}\n.head .h-name {font-size: 13px; color: #eee; margin: 0;}\n.head .h-time {font-size: 11px; color: #7E829C; margin: 0;line-height: 11px;}\n.small {font-size: 12.5px; display: inline-block; transform: scale(0.9); -webkit-transform: scale(0.9); transform-origin: left; -webkit-transform-origin: left;}\n.smaller {font-size: 12.5px; display: inline-block; transform: scale(0.8); -webkit-transform: scale(0.8); transform-origin: left; -webkit-transform-origin: left;}\n.bt-text {font-size: 12px;margin: 1.5em 0 0 0}\n.bt-text p {margin: 0}\n</style>\n</head>\n<body>\n<div class=\"wrapper\">\n<header>\n<h2 class=\"title\">\nNoble: A New Lease Of Life Does Not Mean It Is No Longer Cyclical\n</h2>\n\n<h4 class=\"meta\">\n\n\n2024-11-10 14:08 GMT+8&nbsp;&nbsp;&nbsp;<a href=https://seekingalpha.com/article/4735760-noble-a-new-lease-of-life-does-not-mean-it-is-no-longer-cyclical><strong>seekingalpha</strong></a>\n\n\n</h4>\n\n</header>\n<article>\n<div>\n<p>Noble, post-2022 merger and restructuring, has low debt and good capital returns. It has sound fundamentals going forward.Historical over-expansion and debt-fueled growth led to significant asset ...</p>\n\n<a href=\"https://seekingalpha.com/article/4735760-noble-a-new-lease-of-life-does-not-mean-it-is-no-longer-cyclical\">Source Link</a>\n\n</div>\n\n\n</article>\n</div>\n</body>\n</html>\n","isBrief":false,"type":0,"news_type":1,"symbol":"NE","symbol_name":"Noble Corp","start_time":0,"source_url":"https://seekingalpha.com/article/4735760-noble-a-new-lease-of-life-does-not-mean-it-is-no-longer-cyclical","article_id":"2482541239","we_media_id":null,"thumbnails":["https://static.seekingalpha.com/cdn/s3/uploads/getty_images/1192307006/image_1192307006.jpg"],"rights":null,"url":"https://stock-news.laohu8.com/highlight/detail?id=2482541239","pubTimestamp":1731218881,"sourceInfo":{"source_id":"seekingalpha","name":"Seeking Alpha"},"weMediaInfo":null,"summary":"Noble, post-2022 merger and restructuring, has low debt and good capital returns. 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It has sound fundamentals going forward.Historical over-expansion and debt-fueled growth led to significant asset write-downs and financial struggles, highlighting the risks of ignoring sector cyclicality.Despite current strong metrics, Noble's valuation suggests the market already priced in expected performance, making it unsuitable for long-term buy-and-hold investment.   Alexey Zakirov/iStock via Getty Images  Investment thesis Following its 2022 merger and bankruptcy restructuring, Noble Corporation plc (NYSE:NE) has a low debt level and delivered a good return on capital in 2023. The company achieved double-digit revenue growth between 2022 and 2023 with good operating and capital efficiencies. But this is a cyclical company, and my estimate of its intrinsic value based on its performance over the crude oil price cycle showed that there is not enough margin of safety. Thrust of my analysis Noble is an offshore drilling contractor serving the oil and gas sector. The present corporate form of Noble is the result of the merger between Maersk Drilling and Noble Cayman in 2022.  Maersk Drilling was formed in 2019 as part of the demerger of A.P. Moller–Maersk, a global leader in shipping and logistics. Noble Cayman emerged in 2021 following the USD 3.4 billion bankruptcy restructuring of the Noble group involved in offshore drilling for the oil and gas sector.  The past few years have been very challenging for the oil and gas drilling companies with several bankruptcy restructurings such as those for:   Diamond Offshore Drilling, Inc. in 2021 which among others resulted in a reduction of over USD 2.1 billion of funded indebtedness.  Ocyan S.A., a Brazilian offshore oil and gas industry services provider in 2023. This resulted in reducing the drilling business’s debt by approximately USD 2.4 billion and the emergence of Foresea, a new Brazilian drilling contractor.  Seadrill in 2021 converted about USD 4.9 billion of secured bank debt into equity.  While restructuring “saved” a company, it is never good news for shareholders and creditors as it invariably involves “haircuts” for them. In this context, I wanted to see whether current Noble is an investment opportunity, given that it is in a cyclical sector. The current company is of course different from that in the past in the context of its capital structure and Board composition. But it is still in the drilling business serving the cyclical oil and gas sector. An understanding of what drove the business and where it went wrong can provide red flags. In this context, when I referred to Noble in my historical analysis, I am talking about the pre-2023 form of the company. Cyclical sector The oil and gas sector is cyclical as illustrated in the left part of Chart 1. According to Damodaran, the value of such cyclical companies: “…is often more dependent on the movement of a macro variable e.g., the commodity price…than it is on firm-specific characteristics…the biggest problem we face in valuing companies… is that the…cash flows reported in the most recent year are a function of where we are in the cycle, and extrapolating those numbers into the future can result in serious mis-valuations.” To overcome this, he suggests that we should consider the normalized performance over the cycle. In the context of valuing Noble, as can be seen from the left part of Chart 1, 2023 seems to be at the oil price peak. Chart 1: Brent crude oil price and correlation with Noble’s revenue (Author from Statista) The right part of Chart 1 overlays the index of Noble's revenue a year later onto the chart showing the Brent crude oil price index for the year. For example, I compared the 2014 crude oil price index with the 2015 revenue index. There is a 0.81 correlation between these 2 indices. If nothing else, it illustrates how the performance of Noble was linked to crude oil prices. It also supports Damodaran's contention that the performance of cyclical companies is linked to the performance of a “macro-variable”. I do not think that the new corporate structure of Noble makes it immune from this cyclical characteristic. This means that when the price of crude oil price declines and stays down for some time, we will expect Noble's performance to follow suit. What went wrong In the early part of the last decade, as oil prices began to go up, Noble began an aggressive expansion program. “We have actively expanded our offshore drilling and deepwater capabilities in recent years through the construction and acquisition of rigs.” 2011 Form 10k “During 2012, we continued our newbuild program with the following 14 projects.” 2012 Form 10k. You can get a sense of the scale of the expansion program by looking at the investment in gross property, plant, and equipment (PPE). In 2010, Noble had USD 12.6 billion in gross PPE. By 2013, it had increased to USD 19.2 billion. This is a 15% CAGR in gross PPE. These expansions were funded mostly by debt.  In 2010, it had USD 2.8 of total debt with a Debt Equity of 0.38. By 2013, its debt had doubled to USD 5.6 billion with a Debt Equity of 0.61.  Of course, crude oil prices collapsed in 2014 and 2015. Revenue then started to decline. This led to low utilization which led to asset write-downs. For example, the company wrote down USD 685 million in assets in 2014 which led to the company incurring a loss after tax of USD 77 million. You can see the positive feedback loop – prolonged low oil prices led to lower revenue. Lower revenue impacted not only the operating profits but there were asset write-downs due to lower asset utilization. The debt fuel expansion resulted in high-interest charges that became a bigger burden as revenue declined. Moral of the story? The company “forgot” that was in a cyclical sector. It thought that things would be rosy all the time. But it forgot that high crude oil prices would be followed by low crude oil prices. A sustained downtrend in crude oil prices will impact demand for drilling services and will have a multiplier impact on profits. There will be lower operating profits with asset write-downs coupled with the high-interest burden. If you were an investor who thought that good times would never end and bought the company during the peak periods, you would have gotten burned. Of course, the financial institutions were also caught by the “never-ending” story. In simple terms, Noble over-extended itself. Peer comparisons To get a sense of where Noble went wrong, I compared its performance with 2 other oilfield services companies that had some drilling operations but did not end up with any restructuring.  Schlumberger. In 2011, its drilling segment accounted for about 38% of the total revenue of USD 40 billion. Halliburton. In 2011, its drilling segment accounted for about half of its total revenue of USD 25 billion.  To be fair, Noble was fully focused on drilling with a revenue that is less than 1/10 of these 2 companies. But I think the comparative analysis points to some good practices. I considered 2 groups of metrics – those that looked at asset expansion and those that looked at funding. For the first group, I considered the Gross PPE/Revenue ratio and the Asset Turnover. Refer to Chart 2. You can see that Noble had a much higher Gross PPE/Revenue ratio and the worst Asset Turnover. Chart 2: Gross PPE/Revenue and Asset Turnover (Author) For the second group of metrics, I looked at the trends in the Debt Equity ratio and Free Cash Flow to the Firm (FCFF). Refer to Chart 3. I defined FCFF = Cash flow from operation – net CAPEX & acquisitions. It indicates how much fund is left after funding the expansion. You can see that Noble had the higher DE ratio and its FCFF was negative during its expansion years. Chart 3: DE ratio and Free Cash Flow to the Firm (FCFF) (Author) Impairments From 2012 to 2020,  Noble incurred a total of USD 8.1 billion for asset write-downs and restructuring charges, equivalent to 60% of its 2011 total assets. Schlumberger’s asset write-downs and restructuring charges were 56% of its 2011 total assets while it was 37% for Halliburton.  They were all sizeable amounts yet only Noble had to seek bankruptcy protection. I think it has to be seen in the context of the returns. From 2011 to 2020, the average return on capital were:  3% for Noble. 10% for Schlumberger. 13% for Halliburton.  The better return on capital for Schlumberger and Halliburton provided more “cushion” for the write-downs and restructuring charges. In this context, Noble had a return on capital of 13.5% in 2023. Lessons for the investor I will leave it up to you to what to think of the people running the drilling companies given that there were many restructurings. I will also not attempt to predict what the current Board of Noble will do in the context of expansion. But from a long-term investment perspective, I would also be wary of companies without the financial resources to withstand 2 to 3 years of low crude oil prices. I would monitor the 4 metrics mentioned in the earlier section. In this context in 2023, Noble delivered the following:  Gross PPE/Revenue = 1.9. This is very much lower than those in the early part of the last decade. Asset Turnover of 0.45. This is closer to the Halliburton values in 2010. Debt Equity of 0.2. This is much better than the 2 peer companies' 2010 DE Positive FCFF.  Given that Noble had just come out of a restructuring program, you should not be surprised by the good performance. I would watch these metrics moving forward for signs of over-extension. As will be shown in the next section, Noble also demonstrated good operating and capital efficiencies in 2023. Valuation I would value drilling companies based on their performance over the cycle. I adopted the following picture in valuing Noble. I took an optimistic view that while 2023 is at the high end of the crude oil prices, it will take 5 years to transition from this high oil price position to the “normalized” performance. In this context,  The base revenue would be the 2023 revenue. Revenue growth would decline proportionately from 7.5% per annum to the terminal rate of 4%. This 7.5% is the growth rate from 2023 to Q3 LTM 2024. Contribution margin will decline from the 2023 level to the normalized level in 5 years. The normalized margin is assumed to be 80% of the 2023 margin. This 80% was based on the 2012 to 2020 average margin compared to the 2012 to 2020 maximum margin. The Reinvestment rate will decline from the 2023 level to a level that would result in a normalized Reinvestment rate of 28%. This 28% is the average rate achieved by Schlumberger and Halliburton from 2012 to 2020. The base fixed cost would be the 2023 fixed cost. This is assumed to grow at 4% CAGR. I assumed that the long-term tax rate would be the 2022 and 2023 average tax rate.  On such a basis, I obtained an intrinsic value of USD 37.60 per share compared to its market price of USD 35.38 per share (6 Nov 2024). You can see that there is not enough margin of safety even with this optimistic picture. Valuation model I used a multi-stage Free Cash Flow to the Firm (FCFF) model where the FCFF and EBIT were determined based on the following: FCFF = EBIT(1 – t) – Reinvestment. EBIT = Revenue X contribution margin – Fixed cost. This was based on the operating model as shown in Chart 4.   Chart 4: Operating Profit (Author) Note to Op Profit Profile. I broke down the operating profits into fixed costs and variable costs.  Fixed cost = SGA, Depreciation & Amortization and Others. Variable cost = Cost of Sales – Depreciation & Amortization. Contribution = Revenue – Variable Cost. Contribution margin = Contribution/Revenue.  The reinvestment rate was derived from the historical Reinvestment margin. Value of firm = FCFF X (1+g) / (WACC – g). Value of equity = Value of firm + cash + Other investments – Debt – Minority interests + excess Total capital employed Table 1 illustrates the calculation. Table 1: Valuation calculation (Author) Notes to Table 1. a) Straight-line reduction. b) Pegged to growth rate. c) Assumed proportionately change. d) Assumed growth at a terminal rate. e) Revenue X Margin and after accounting for Fixed costs. f) Assumed proportionate change. g) b X f. h) FCFF for each year = e - g. j) Based on the first page of a Google search for “Noble WACC” Refer to Table 2. k) NPV for each year = (h X j). l) Terminal for the year discounted at terminal growth rate. m) 5 years NPV + terminal value. n) Inclusive of any excess TCE. Non-operating assets, MI and Debt o) Based on the number of shares.   Table 2: Estimating the cost of funds (Various) Risks and limitations There are several limitations with my valuation model covering the normalized performance, asset write-downs, and correlation between revenue and contribution margin. The challenge for Noble is that there is not enough operating history as the merged cum restructured entity to estimate the normalized parameters. As such I had to rely on the pre-merger/restructured data for normalized contribution margin. I relied on the peer Reinvestment rates to estimate the normalized rate. At the same time, I projected that it would take 5 years for the 2023 performance to reach the normalized or terminal stage. By the terminal stage, revenue had grown by 40% compared to that in 2023. If you look at the historical crude oil price trend as per the left part of Chart 1, you can hardly find any 5 years of price growth. I hope you can see why I consider my valuation an optimistic one. Next, over the past cycle, all the 3 companies incurred substantial asset write-down and restructuring charges. In my valuation, I assumed that there would not be any future write-down. I think it is unrealistic. Historically there was a 0.73 correlation between Noble’s revenue and its contribution margin. This meant that during the peak performance years, the contribution margin would be high and vice versa. However, in my valuation model, I assume that they were independent variables. As such while revenue grew from Year 1 to the terminal year, contribution margin declined. This reduced the intrinsic value somewhat. Given the above challenges, I would prefer to see at least a 30% margin of safety before considering Noble as a long-term investment. Alas, there is no such margin of safety. Conclusion The current Noble is a different entity compared to that 5 years ago due to its capital structure and the composition of the Board. Based on several performance metrics, it appeared to have a good return on capital, low debt level, operating and capital efficiencies. It is fundamentally sound and I assumed that the company would not over-extend itself moving forward.  Unfortunately, a valuation based on an optimistic picture showed that the market has already fully priced in the expected sound business performance. This is not an investment opportunity from a long-term buy-and-hold perspective.","kind":"highlight","is_publish_news":true,"is_publish_highlight":false,"is_publish_live":false,"is_publish_wemedia":null,"editions":null,"column":"","sentiment":"0","news_tag":"analysis","news_rank":0,"symbols":[],"gpt_button":1},"commentList":[],"isCommentEnd":true,"newsSizeData":{"likeSize":0,"commentSize":0,"repostSize":0,"favoriteSize":0,"likeStatus":false,"favoriteStatus":false},"APP":{"userAgent":"Mozilla/5.0 AppleWebKit/537.36 (KHTML, like Gecko; compatible; ClaudeBot/1.0; +claudebot@anthropic.com)","isDev":false,"isTTM":true,"deviceId":"web-server-community-laohu8-v3","version":"4.29.3","shortVersion":"4.29.3","platform":"web","vendor":"web","appName":"ttm","isIOS":false,"isAndroid":false,"isTiger":false,"isTHS":false,"isWeiXin":false,"isWeiXinMini":false,"isWeiBo":false,"isQQ":false,"isBaiduSwan":false,"isBaiduBox":false,"isDingTalk":false,"isToutiao":false,"isOnePlus":false,"isHuaWei":false,"isXiaomi":false,"isXiaomiWebView":false,"isOppo":false,"isVivo":false,"isSamsung":false,"isMobile":false},"href":"/m/news/2482541239"}