Expect Transocean’s 3Q Earnings To Drop Sharply Despite Its Cost Reduction Efforts
As crude oil prices continued to remain depressed in the September quarter, we expect to see a notable drop in Transocean’s (NYSE:RIG) earnings for the quarter, which is set to be released on 4th November 2015 [1]. Based on the monthly fleet status reports, it is apparent that the company has not been able to win new contracts due to the service cost deflation, which is likely to result in a sharp decline in the offshore drilling giant’s contract backlog for the quarter. In addition, the company announced the suspension of its quarterly dividends during the quarter, which further reflects on the challenging outlook ahead. Considering all these factors, we foresee a decline in Transocean’s earnings over the next couple of quarters, despite its efforts to improve its revenue efficiency and reducing its operating costs. Let’s take a quick look at the events of the third quarter which are likely to impact the Swiss company’s profitability.
Our current price estimate for Transocean stands at $15 per share, 11% lower than its current market price. We will be updating our model and valuation for the company shortly after the earnings release.
Source: Google Finance
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Lower Fleet Utilizations And Day Rates To Pull Down Revenues
After recovering to over $60 per barrel in the second quarter, crude oil prices plunged to multi-year lows in the third quarter due to fears of a potential slowdown in the Chinese economy. Thus, oil and gas companies continued to restrict their upstream capital spending during the September quarter, which further accentuated the declining demand for exploration and drilling services. Consequently, Transocean witnessed a sharp drop in its contract backlog during the last three months. According to the fleet status reports for the quarter, the company added only $44 million worth of new contracts during the quarter, which is significantly lower compared to a year ago. This was primarily due to the fact that the company could not win new contracts due to the pricing pressure from the customers due to weak commodity prices. Besides, the company had to renegotiate its existing contracts at much lower day rates. Thus, we expect Transocean’s top line to experience a meaningful decline in the latest quarter.
Source: Barclays CEO Energy-Power Conference, 8th September 2015
Cost Reduction Initiatives To Soften The Blow On The Earnings
According to the October Fleet Status Report [2], the Switzerland-based company holds 14 stacked rigs and 8 idle rigs in its current fleet, which led to the reduction in its Operating and Maintenance (O&M) expenses. Further, during the second quarter conference call, the company had highlighted its plans to consider scrapping and/or selling of some more rigs before the end of this year. Hence, we expect the company’s fleet right sizing plans to reduce O&M costs and ease out the pressure on the company’s bottom line for the third quarter. However, the company is expected to recognize a non-cash impairment charge of $2 billion in the light of rapid deterioration in offshore drilling demand. This is likely to create a dent in the company’s earnings for the September quarter.
Source: Transocean’s Fleet Status Report For October, 26th October 2015
Suspension Of Dividends
Transocean, being the largest offshore drilling contractor, has been worst hit by the oil slump over the last 15 months. Since the outlook for oil markets is highly uncertain, the demand for offshore drilling is likely to remain stagnant. Thus, in order to weather the commodity down cycle, the company had reduced its quarterly dividend from $0.75 per share in 2014 to $0.15 per share in May this year, when the prospects of the deepwater drilling market became challenging. However, in August, the offshore driller decided to completely eliminate its quarterly dividends going forward and preserve the excess cash for other purposes. While the suspension of dividends is seen as a negative by most investors, we see this as a calculated risk by the company in order to conserve its cash flows in case the present conditions worsen.
See Our Complete Analysis For Transocean Here
In a nutshell, we believe that Transocean will see a meaningful decline in its revenue as well as earnings for the September quarter due to the sluggish demand for drilling services in the industry, although the company is taking all necessary measures to survive the current downturn.
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Notes:- Transocean To Announce 3Q Results, 15th October 2015, www.deepwater.com [↩]
- Transocean’s Fleet Status Report For October, 26th October 2015, www.deepwater.com [↩]