Tidewater: Great Risk-Reward For 2023 (NYSE:TDW)

Yesterday I wrote an article on Transocean (RIG), a speculation in the offshore energy sector that I bought near the end of October. I have learned a lot about the sector in the last couple months, and I would have bought more if I knew what I know now, I would have bought more Transocean and I probably would have bought shares of Tidewater (NYSE:TDW) as well. Tidewater was below $30 at the time while Transocean was at $3.50. Both stocks are up big since then, but I still think both stocks have room to run.

Investment Thesis

Energy, despite a good run over the last couple years, is still one of the most attractive sectors available to stock market investors. I think the offshore segment in particular is very attractive right now. Tidewater is the biggest player in offshore support vehicles (basically a fancy name for boats designed to service offshore drillers), and despite a massive run since the beginning of 2022, shares still look attractive to me today. I think the valuation on Transocean is more attractive, but Tidewater clearly has a better balance sheet. I will be keeping an eye on both companies, but I think Tidewater is well positioned to outperform the market in 2023.

Business Overview

Tidewater is in a unique position in the offshore segment as the largest player focused on offshore service vehicles (OSVs). It also has the best balance sheet of the group, where the other companies have much higher debt levels. They also grew significantly in 2022, primarily due to the acquisition of Swire Pacific Offshore Holdings, which in my opinion, is going to look like a steal in a couple years. The acquisition, which cost $215M ($42M in cash) and closed in April, allowed Tidewater to add 50 OSVs.

Tidewater’s fleet is impressive and if you think day rates are headed higher, it will translate into massive cash flows. The cost to operate in offshore is relatively fixed and that increase in revenue flows straight through to the bottom line. With day rates set to continue their recent increase, Tidewater looks very attractive even after a strong share price performance in 2022.

Valuation

One of the things that has convinced me that the next three to five years is going to be good for the offshore sector is the replacement cost for OSVs and rigs. While the bust that happened in 2014 was in part due to new supply of OSVs and rigs coming online, there isn’t any new supply coming online now, and the sector hasn’t seen much in the way of new investment for years. To encourage investment in new builds, day rates have to go much higher from here (day rates are still below $20k), and when that happens, Tidewater will benefit greatly. If we do eventually see a cycle of investment in new capacity, it will likely come after a couple years of a fantastic operating environment for companies like Tidewater and Transocean.

Like I said yesterday in my article on Transocean, I’m not going to try to make some exact calculation on Tidewater’s valuation. What I will say is that with Tidewater’s assets, improving operating environment, and solid balance sheet, the stock is a steal with a market cap just over $2B. I don’t think it is quite as undervalued as Transocean, but they also don’t have a debt load that creates additional risk. While it’s hard to buy a stock that has run the way Tidewater has, I still think the rally has legs. For investors looking for a favorable risk/reward in the offshore sector that doesn’t have a debt load like Transocean, Tidewater could be a good choice.

Conclusion

One thing that is worth mentioning is the volatility of both stocks. Shares routinely have large daily and weekly moves, which have been to the upside in recent weeks. If shares drop, I plan start a position in Tidewater and potentially add some Transocean. Shares of Tidewater are up almost 24% YTD, and I think patient investors might get a better entry point in coming weeks. Some might think that the outperformance for Tidewater won’t continue since shares have more than tripled since the start of 2022. I think if you look at the fundamentals of the business and the expected operating environment over the next couple years, I think we could see Tidewater trading at much higher levels a year from now.

Tidewater is the best (and largest) option in the OSV sector for investors. The company has impressive assets and the acquisition of SHO in 2022 is going to look good a couple years from now in my opinion. Day rates will likely head higher in coming years, and with a market cap just over $2B, I think the risk/reward for Tidewater is very skewed to the upside. It might not have the same upside as Transocean and its levered balance sheet, but I think Tidewater will outperform the market again in 2023.