Transocean Is Well-Positioned To Grow

| About: Transocean Ltd. (RIG)


The shakeup in the assets mix will allow the company to exploit the high-margin ultra-deepwater segment of the sector.

Transocean's strong order backlog will ensure the short-term profitability as the company tries to move towards the high-growth area.

The decision to divest the low-margin assets have resulted in considerable costs savings for Transocean and enhanced the profitability of the company.

Formation of the master limited partnership will offer Transocean some financial flexibility to fund its newbuilds program.

Transocean (NYSE:RIG) is one of the biggest names in the offshore drilling industry - the company has suffered as a result of its status in the sector as the offshore drilling sector has come under pressure. Market participants have shown pessimism due to analysts warning about the future prospects of the sector. Transocean is down over 21% year-to-date.

These negative sentiments are based on worries including declining day rates, excess supply of rigs in the market and deteriorating drilling activities in the offshore industry. Our regular readers know that we are bullish on the sector and believe the fears are overblown - we also believe that the sector will not experience a slowdown as the offshore developments remain a key capital investment for major oil and gas companies.

Transocean is currently trying to revitalize its fleet with new and latest ultra-deepwater assets, which will enhance its profitability and cash flows because sixth-generation ultra-deepwater rigs continue to fetch attractive day rates. The whole sector has been losing value due to these fears - Ensco (NYSE:ESV) and Seadrill (NYSE:SDRL) are both down about 14% and 11%, respectively.

Transocean is Well-Positioned to Grow

Transocean has a premier position in ultra-deepwater market segment, which is the highest yielding segment in the offshore industry. Moreover, the company is making an impressive comeback by divesting a wide variety of its assets in order to construct more ultra-deepwater rigs to enhance its operating cash flows. The decision to invest in the new ultra-deepwater rigs should set the company up for long-term growth, as the demand for ultra-deepwater rigs remains strong. Currently, the company owns the largest worldwide rig fleet ensuring consistent revenue streams in the form of strong order backlog. The company currently has a total backlog of $26.1 billion from continuing operations, with major contribution from the ultra-deepwater asset base.

Source: Mitsubishi UFJ Securities Oil & Gas Conference, New York, July 24, 2014.

Transocean is highly focused towards spinning-off its non-core assets, which will substantially reduce its operating costs and enhance profitability in the long-run. However, the continuous renovation of assets base will require higher amount of capital, for which the company launched a new limited liability company, Transocean Partners (NYSE:RIGP). The company anticipates the average annual capital investment required to renew the fleet at about $1.5-2.0 billion, which will be funded by initial public offering of the new Master Limited Partnership. The company announced that it has commenced an initial public offering of 17.5 million common units representing limited liability interests at $22 per unit in the partnership. This new entity will also provide tax benefits to the shareholders along with increased cash flows to Transocean in the form of general partner interest payments. These companies are using different subsidiaries and partnerships in order to achieve financial flexibility as the capital requirements are massive - We have explained how Seadrill has used this to its advantage in this article.

Earnings Remain Strong

Transocean recently released its second quarter earnings which beat estimates for the period due to a significant fall in expenses as the company continues to spin-off its non-core assets. The company reported revenues of $2.3 billion and beat analysts' estimates of $2.26 billion. Moreover, earnings per share stood at around $1.61, beating estimates of $0.5 during the period. Transocean also managed to substantially reduce its operating and maintenance expenses to $1.2 billion, which is down 10% compared to the same period last year. The shipyard expenses and the maintenance charges of the company also contributed towards an increase of 87% in profits.

Source: SEC Filings

Moreover, during the second quarter, the fleet utilization of the company remained unchanged from the previous quarter at 78%. However, the year-over-year fleet utilization rate showed a decline. Nonetheless, the shakeup of the assets portfolio of the company should result in enhanced utilization rates over the next 2-3 years.

Source: SEC Filings

The company previously owned 21 Mid-water rigs, of which 2 were divested in the second quarter in order to reduce the costs. Transocean plans to divest six more of such rigs due to oversupply of offshore drilling activity in the North Sea. Further, the recent divestiture will enable the company to reduce its rig utilization during the second quarter, which leads towards reduced maintenance costs for the Mid-water Floater fleet. The addition of ultra-deepwater assets will allow the company to have higher average day rates, which should result in a substantial increase in the revenues as well as cash flows. Due to the better technical specifications, these rigs remain in demand and the oil and gas companies are willing to pay a premium to drill in the ultra-deepwater.


Transocean is well-positioned to grow as the shakeup in the assets mix will allow the company to enhance its revenues as well cash flows. Furthermore, the limited partnership will offer Transocean considerable financial flexibility, which will bridge the gap in the cash flows and the capital needs. We remain optimistic about the sector and we believe Transocean's new fleet will be better equipped to exploit the high-margin ultra-deepwater segment of the sector.

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