Rig owners and shipyards will maintain their holding pattern while outside investors seek asset play bargains in an oversupplied market.
By David Carter Shinn (email@example.com); Jan. 4th, 2017
Our offshore rig market outlook for the new year is based on 1) An oil price that remains range bound in the 50s to lower 60s and 2) Continued oversupply in the jackup and ultra deepwater rig fleets.
We believe that the market should improve marginally in 2017, but most improvements will be focused on certain asset classes and/or regions.
- Markets such as ME and India will remain stable in a new lower dayrate environment as the bottom in dayrates may have already been reached.
- Other markets like the US Gulf, Mexico, West Africa, and South East Asia – currently operating at historically low utilization rates – should show signs of more activity, but high oversupply will continue to suppress dayrates.
- In Brazil, Petrobras will maintain their policy of reducing costs (and rigs). This will keep pressure on the deepwater market.
- Iran may see increased jackup rig activity, but its effect on the global rig market will be muted.
- The North Sea and other harsh environment regions will be in focus as operators have cut costs so significantly that new drilling programs may be revived. Adding that to the fact that 40% of the midwater, harsh environment rig fleet is over 26 years of age gives a promising outlook for contractors in this region, but 2017 is still likely to be quiet.
Perseverance is the theme for 2017
As rig owners and shipyards (which hold newbuild assets their owners cannot or do not want to pay for) wait for the market to recover, they will continue to stretch their financial resources as far out as possible. For some owners, the market recovery may be out of reach and lead to a limited number of distressed asset sales. With respect to newbuilds under construction, our view is that the main yards in Singapore, Korea, and China will either extend delivery deferral agreements with owners or take control of distressed rigs with the intent to sell them only at non-distressed values as they wait until the market recovers.
Private equity is coming
Back in early December, Hercules Offshore announced that it had entered into an agreement with Magni Drilling (now Borr Drilling) for the sale of two KeppelFELS Super A Class jackups, the Triumph and Resilience. Both rigs were delivered in 2013 and secured contracts at dayrates of around USD 200k per day. The rigs were subsequently stacked in late 2014 and early 2015 as drilling demand continued to worsen.
As part of Hercules’ bankruptcy liquidation process, these new, high specification, and proven rigs had been marketed for sale since early 2016, but it took nearly a year for a sale to be completed. Eventually, they were sold to Borr Drilling for USD 65 million each, compared to their newbuild cost of over USD 230 million.
Although rig values have declined and oversupply is at record highs, there’s a growing interest from funds and other non-operational investors who are ready to purchase rigs without drilling contracts for asset plays. Borr Drilling raised USD 155 million in about five days, and since then, their share price has risen by over 50%. Investors are now more actively looking for opportunities to acquire assets at “never-to-be-seen-again” low values, but the number of deals at values like this will be limited in number.
Even if we don’t see many highly distressed rig sales, private equity will still be a contributor to the fleet restructuring process in 2017. While drilling contractors are less likely to be primary buyers in the market due to their need to maintain financial liquidity, it will be outside investors who will take full or partial positions in offshore rig assets in the near term. This may be via yards who are looking to reduce their exposure, but still want to stay long on assets, or via drilling contractors who want to expand (or maintain) their fleets without eating into their capital base.
The good and the bad of 2017
High spec and harsh environment rigs will be in demand while ultra deepwater drillships and old rigs in all asset classes remain undesirable. As such, we see values rising for newer, high spec, harsh environment assets during 2017. At the same time, the ultra deepwater drillship market will remain oversupplied, and rig values will stay at levels around 50% of newbuild cost. Values for old drilling rigs (pre-1990s built) will remain at scrap levels.
For shipyards, 2017 will be as slow as 2016 for newbuild projects. Although specialized assets will be in demand as oil companies look for lower cost brownfield investments to maintain production, it’s unlikely that any new rigs will be constructed until the market balances via a combination of scrapping and a significant increase in incremental demand. And in the jackup market, the joint venture between Saudi Aramco and Rowan which plans on building 10 new rigs for the Middle East will further prohibit the construction of rigs. In 2017, shipyards will be focused on trying to deliver (and limit losses on) the newbuilds they currently have.
The winners in 2017 will be well funded owners who already have a majority of newer, high spec rigs on their books and outside investors who are able to acquire assets at low prices. Nevertheless, we see this year as being a continuation of the survival mode that started in 2015. Whether a recovery in the rig market comes suddenly or gradually, it will likely not start until later this year at the earliest. For the rig owners and yards who can hold out until 2018, the future will be better than it is today.