A Look At Transocean’s Business With Macondo Behind It

Transocean (NYSE:RIG) is the world’s largest offshore drilling contractor. The Swiss-based firm contracts drilling rigs, related equipment and the manpower required to operate these rigs on a day rate basis to customers that include national oil companies, oil majors and independent oil companies. The firm also offers drilling management services.

Over the last few years, Transocean has been in the headlines for the wrong reasons due to the massive oil spill from BP‘s (NYSE: BP) Macondo well that involved one of  the firm’s deepwater rigs. Following the incident and its repercussions, the demand for offshore drilling was subdued, sending the firm’s stock price down from around $90 in 2010 to the current levels of around $45. This week Transocean reached a settlement on all outstanding claims for this case which will clear a major overhang.

Here we provide a brief overview of the firm’s fleet, financial position and the key drivers of its business.

Overview of The Fleet And Competitors

Offshore rigs are typically classified by the water depths and the environment conditions that they can drill in. Ultra-deepwater drilling is carried out at water depths of over 7,500 feet while deepwater drilling is done at between 4,500 and 7,500 feet. The firm presently operates a fleet of 82 offshore rigs which includes 27 ultra-deepwater, 14 deepwater and 7 harsh environment floaters. (Transocean Fleet Status Update)

The factors that influence a customer’s decision in choosing a deepwater contractor include  pricing, technical capabilities and the availability of the desired rigs in a particular region. The firm competes with offshore drilling contractors such as Sea Drill and Hercules offshore. Transocean distinguishes itself from the competition through its expansive geographic footprint and its focus on the technically challenging  segments of the offshore market like deepwater, ultra-deepwater and harsh environment drilling. These segments face less competition from smaller offshore drilling firms and also provide better day rates and margins.

Key Metrics And Drivers Of The Firm’s Business

The key metrics that drive the firm’s ability to generate cash flows are the day rates and the utilization rates for rigs. Utilization rates are a ratio of the number of active revenue earning rigs to the firm’s total fleet size, including stacked rigs. Revenue efficiency is another key operational metric which compares the actual revenue earned by an active rig during a period to the highest amount of revenue that could have been earned.

The firm’s business is relatively cyclical as it depends on the exploration and production (E&P ) spending of oil and gas companies. When the outlook for oil prices is positive, oil firms increase their spending on upstream activities, thereby driving up the demand for offshore rigs that Transocean provides. Higher demand for rigs translates to better utilization levels for the firm’s fleet and higher dayrates.

Utilization rates and day rates also vary by the type of rig. For instance, ultra-deepwater rigs are presently witnessing strong demand and command average dayrates of over $500,000 and utilization rates of over 90% . On the other hand, shallow water rigs like high-specification jackups garner average dayrates of around $160,000 and witness slightly lower utilization rates.

Snapshot Of The Firm’s Financial Performance And Position

In 2011, the firm posted a net loss of around $5.7 billion on revenues of around $9 billion due to certain impairment charges. EBITDA margins too declined sharply to around 24% from 46% in 2010, as the fleet required greater maintenance time to meet regulatory requirements following the Macondo well oil spill which in turn impacted utilization rates.

The firm’s business is very capital intensive, and is often funded by debt. As of Q3 2012, the firm’s debt load stood at around $14 billion while its cash position was around $6 billion. The firm’s contract backlog (a measure of revenues to be earned from remaining contracts) is strong at around $31 billion. (3Q 2012 Form 10-Q)

Key Markets And Opportunities For The Firm

The U.S. Gulf of Mexico is presently Transocean’s single most important geographical market. This year, the region has witnessed the highest number of deepwater drilling permits issued since 2007, and the rig count too has risen by nearly 25% year-over-year. Transocean has 16 rigs in operation in the region, most of which are ultra-deepwater drill ships which have day rates of  between $400,000 to around $650,000. The firm’s contracts in the region are also relatively long term (mostly between 2 to 3 years), effectively allowing the firm to reduce its mobilization and idle time. However, the firm’s heavy exposure to the region could prove to be risky given the regulatory issues involved following the 2010 oil spill.

As the world’s largest offshore driller, the firm has a wide geographic presence and looks well positioned to gain from growing offshore activity in Brazil and Africa. Brazil has emerged as one of the most sought after regions for offshore exploration, following large discoveries in offshore sub-salt areas. Transocean enjoys a good relationship with Petrobras, a large government backed oil firm that holds the largest reserves in the subsalt region. The firm has eight rigs under contract to Petrobras and could leverage this relationship to expand its presence in the country.

Africa is another promising region for Transocean with the overall number of offshore rigs in the region having doubled in last four years.  The firm has around 15 rigs under contract in West African nations of Nigeria and Angola, and could see demand for deepwater exploration grow in East Africa as well, following the discovery of massive gas fields in the offshore area 1 of Mozambique.

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