
Jeremy Poland/E+ through Getty Photos
An funding in Transocean (NYSE:RIG) is a extremely levered guess on enlargement in offshore exercise. Rig pricing is closely depending on utilization, and this, mixed with Transocean’s debt-laden stability sheet, makes the enterprise extremely operationally and financially leveraged.
Whereas oil and gasoline costs have softened over the previous 18 months, offshore exercise continues to choose up and Transocean expects the present upcycle to be prolonged. A tighter market ought to result in larger day charges and supply Transocean with a chance to deploy a few of its eleven stacked rigs.
If deepwater offshore exercise will increase sufficiently and stays elevated, Transocean’s inventory might start to look cheap. The corporate’s stability sheet and the risky nature of the trade make this a dangerous proposition, although.
Market
Transocean operates a fleet of high-specification floating drilling rigs, particularly exposing it to deepwater and harsh setting drilling demand. There are giant reserves of hydrocarbons offshore in deep water and harsh environments, however these reserves require giant investments to develop and take a very long time to repay. These reserves subsequently want favorable economics and a steady outlook earlier than they’re developed. Transocean believes that offshore deepwater has low breakeven costs and presents compelling returns.
Determine 1: Benchmarking New Oil Provide (Transocean)
Because of their sturdy return potential, Transocean believes that deepwater basins will likely be an necessary contributor to hydrocarbon improvement within the coming years. Offshore CapEx is predicted to be in extra of USD200 billion in 2024, rising to USD234 billion by 2027. This could characterize a major deviation from latest years, the place there was a relative desire for short-cycle barrels.
Determine 2: Oil Demand and CapEx (Baker Hughes)
Transocean expects a substantial enhance in drilling exercise within the coming years, with demand more and more directed towards exploration and improvement.
Determine 3: International Floater Demand by Work Sort ( Transocean)
Gulf of Mexico
A good portion of Transocean’s income comes from the Gulf of Mexico, and exercise right here has been wholesome. There’s regular demand for short-term packages with impartial operators, and the provision of high-specification ultra-deepwater rigs is restricted. Transocean is presently in discussions with prospects concerning 20K packages starting as much as three years into the long run, indicating each market tightness and the potential for a multi-year interval of stable exercise.
Brazil
Brazil additionally continues to be a supply of sturdy demand, with Transocean believing that the energetic rig depend will broaden from 29 over the subsequent 12 months. There have been 27 awards in Brazil over the previous 12 months; 18 for rigs already within the nation and 9 for rigs new to the nation. Further awards are anticipated to deliver one other two rigs into the nation. The energetic rig depend is predicted to succeed in no less than 36 in 2024-2025, based mostly on presently recognized tenders. Utilization of rigs in Brazil is predicted to stay excessive, and exploration success might lead to further rigs.
Africa and the Mediterranean
Transocean believes that there are over 20 alternatives in Africa and the Mediterranean commencing within the subsequent 18 months. Exercise in Nigeria may very well be choosing up for the primary time in a decade, with Transocean anticipating 2-4 long-term packages to be tendered over the subsequent six months. That is an instance of exercise that might show resilient to financial weak spot. Angola, Namibia, and Mozambique additionally characterize alternatives.
Asia
ENI, PTTEP, and Petronas current alternatives in Indonesia and Malaysia, amongst different international locations.
North Sea
The marketplace for high-specification harsh setting rigs within the North Sea is predicted to stay tight, with the provision in Norway now totally utilized. Transocean believes that this tightness will persist as appropriate rigs are being actively utilized outdoors of the Norwegian market.
Determine 4: Floater Alternatives (Transocean)
Higher exercise will enable Transocean to deploy extra rigs, driving income larger. Extra importantly, it would enhance day charges, resulting in each larger income and better margins. Whereas prospects stay disciplined and are against larger day charges, Transocean believes that USD500,000 plus day charges are inevitable.
Determine 5: Drillship Utilization and Day Charges (Created by creator utilizing information from Transocean) Determine 6: Harsh Atmosphere Utilization and Day Charges (Created by creator utilizing information from Transocean)
The market is prone to develop into more and more tight in late 2024 and into 2025. This could see presently stacked rigs return to the market and in time, larger day charges.
Determine 7: sixth and seventh Gen Drillship Provide and Demand (Transocean)
With oil costs grinding decrease, and ongoing OPEC provide cuts wanted to help the market, there’s good motive to anticipate a correction. Significantly if financial weak spot in China and Europe gathers tempo.
This raises the query of how a lot offshore exercise there could be at decrease oil costs. Knowledge means that exercise ought to stay pretty sturdy, offered oil stays above USD40 per bbl. Whereas I’m skeptical of this, there are international locations that wish to enhance manufacturing impartial of costs and power safety is a priority for a lot of.
Determine 8: International Floater Demand by Oil Worth Sensitivity (Transocean)
Prospects are committing to longer-term contracts, which is supportive of an prolonged upcycle. It additionally signifies that the market is changing into tighter, even when this isn’t totally obvious from day charges but.
Determine 9: Common Contract Length (Transocean)
Transocean
Transocean has 38 floaters, all of that are suited to ultra-deepwater and harsh environments. Transocean’s fleet has modified considerably over the previous decade, shifting in the direction of a concentrate on the excessive finish of the market. The fleet’s age has additionally declined considerably, supporting progress with much less expense.
Determine 10: Transocean’s Fleet Transformation (Transocean)
Whereas Transocean’s fleet is considerably smaller than it has been previously, the corporate retains a dominant place on the excessive finish of the market.
Determine 11: Business Excessive Specification Fleet (Transocean)
Transocean can also be exploring offshore drilling adjoining applied sciences and providers for markets like:
- Carbon seize
- Deepwater minerals
- Offshore wind
Whereas that is much less related within the close to time period, given Transocean’s stability sheet issues, it demonstrates that Transocean’s enterprise might have worth long run.
Monetary Evaluation
Transocean’s income elevated 3.2% YoY within the third quarter to USD713 million. Progress is basically being pushed by elevated pricing. For the reason that fourth quarter of 2022, Transocean’s common ultra-deepwater fleet day fee has elevated by roughly 33% to USD416,000 per day and is predicted to extend to USD437,000 over the subsequent 12 months.
Fourth quarter income is predicted to be roughly USD760 million, which might characterize 25% YoY progress. Whereas that is sturdy, it’s largely because of a weak prior 12 months interval. Transocean is presently guiding to USD3.7-3.9 billion in income in 2024, which might be a 33% progress fee on the midpoint.
Determine 12: Transocean Income (Created by creator utilizing information from Transocean)
Transocean’s backlog is presently round USD9.4 billion and rising. Longer period contracts at larger day charges ought to help stable backlog progress going ahead. Shell, Petrobras, and Chevron characterize roughly 33%, 31%, and 14% of Transocean’s backlog.
Determine 13: Business Backlog Comparability (Transocean)
Transocean’s common contract period is rising, which is indicative of an prolonged upcycle and market tightness.
Desk 1: Transocean Contracted Rig Counts (Created by creator utilizing information from Transocean)
Transocean recorded adjusted EBITDA of USD162 million within the third quarter, leading to a 22.5% adjusted EBITDA margin. Whereas profitability is usually bettering, preparation prices for brand new contracts weighed on margins within the third quarter. Transocean’s profitability is carefully associated to fleet utilization and rig pricing, and as these enhance, so ought to the corporate’s margins. GAAP internet earnings breakeven is prone to happen at round USD4 billion in income. Suggesting Transocean may very well be worthwhile in late 2024 or early 2025.
Determine 14: Transocean Working Revenue Margins (Created by creator utilizing information from Transocean)
Transocean’s enterprise is supported by the truth that CapEx is nicely beneath depreciation and amortization bills. Whereas CapEx is choosing as much as help progress, Transocean has a comparatively younger fleet and a lot of stacked rigs, which limits funding necessities.
Working money flows within the third quarter had been detrimental USD44 million, primarily because of contract preparation and mobilization prices. CapEx was USD50 million, leading to a detrimental free money stream of USD94 million. With an working fleet of 25-30 rigs, Transocean believes its cashflow breakeven day fee is USD275-300 thousand. Past this, money can be utilized to pay down debt.
Transocean had roughly USD1.4 billion liquidity on the finish of Q3 2023 and is projecting USD1.5-1.7 billion liquidity on the finish of 2024. The corporate believes it’s able to sustainably supporting USD4-4.5 billion debt with a mid-BB credit standing, and plans on persevering with to delever its enterprise, presumably concentrating on a discount to no less than this degree. This is a crucial initiative as Transocean paid round USD230 million in curiosity within the third quarter, consuming roughly 32% of the corporate’s income.
Determine 15: Liquidity Enhancing Transactions (Transocean)
Conclusion
Shareholders actually need the present upcycle to persist for a lot of years. Transocean has a considerable amount of debt, which must be decreased over the subsequent few years whereas the market is wholesome. As soon as this course of is accomplished, Transocean can start returning money to shareholders.
Transocean’s fairness might show cheap if the deepwater offshore market tightens sufficiently. With a good degree of utilization and day charges round USD500,000 per day, Transocean may very well be buying and selling on a mid-single-digit P/E a number of.
There’s a danger that sturdy oil provide progress and weak demand causes the market to crash, although. Whereas some exercise is prone to show resilient within the face of decrease costs, this example represents a critical risk to Transocean as one other prolonged downturn would doubtless be tough to navigate with such a weak stability sheet. Whereas I can see the case for an funding in Transocean, I don’t consider it presents a compelling risk-reward tradeoff.
Determine 16: Transocean EV/S A number of (Searching for Alpha)