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Summary

  • RIG beat estimates with $1.61/share; lower operating costs offset lower revenues.
  • Extent of cost take-out was a positive surprise.
  • Retain long-term buy; short-term may be rocky.

Transocean (NYSE:RIG) announced earnings of $1.61/share on August 6, which beat analysts' expectations of $1.02/share. Company revenue of $2.33 billion was 1.5% lower than Q2 2013 and 0.5% lower than last quarter. The "beat" was due to RIG, continuing a positive trend, reducing operating and maintenance costs to 52.1% of revenue, compared to 57.4% in Q2 2013 and 54.3% in Q1 2014. Looking forward, reflecting short-term moderation of activity combined with new equipment coming on-line, utilization trends were generally negative and day rate trends were negative for all categories except midwater floaters (charts shown below). Not in the quarterly filing, but relevant was the company's successful spin-off of contracted rigs into a new unit, Transocean Partners (NYSE:RIGP), of which RIG retains a 49% stake (following underwriters exercise of overallotment provisions); the spin-off will reduce RIG's revenues from 100% utilized rigs on a go-forward basis.

Utilization

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Average Daily Revenue

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Source: Transocean 10Q

The beat itself, was reflective of good short-term results and the very positive "surprise" that lower operating costs are likely here to stay. As RIG has 14 rigs under construction, the successful RIGP spin-off, while detrimental from a revenue perspective, provides a financing vehicle likely more attractive than RIG itself. The positive market reaction to RIGP since market launch, contrasted to the price movement of RIG and other drillers during the same period, appears to validate that perspective.

I am maintaining my long-term buy on RIG, more due to positive medium-to-long term geo-politically driven trends than the Q2 performance. Per RIG's latest fleet status report, the Company has 77 active rigs, of which 40% are lower-value, mid-water floaters (21) and high specification jackups (10). A significant number of these rigs have contracts expiring in 2014 and 2015. Given the current weak market, it is not unreasonable to expect the continuation of the trend of lower utilization and/or lower day rates. I do expect producers to incrementally shift exploration to underwater production, which drives my long-term optimism. As highlighted in my article, "Drillers Downgraded . . .", on a valuation basis, other drillers offer a lower 2015 PE and a higher dividend. Investors looking to exploit the current weak stock prices in the sector may want to consider other underwater drillers as well as RIG.

Source: Update: Transocean Earnings - Big Q2 Beat; Negative Forward Trends