Transocean: Is The Glass Half Full Or Half Empty?

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About: Transocean Ltd. (RIG)
by: Fun Trading
Summary

Transocean has bagged two new contracts with Petrobras for the Ocean Rig Mykonos and Ocean Rig Corcovado.

It is a significant backlog addition of $241 million. With this new addition, the backlog stays constant at $12.2 billion, with about $2.4 billion remaining in 2019.

Transocean is more a trading vehicle than a long-term investment.

(Image: Transocean's drillship Ocean Rig Mykonos. Source: R. Stolk Marine Traffic)

Investment Thesis

Transocean (RIG) is my first choice when it comes to offshore drillers, with financial stability provided by a whopping $12.2 billion in firm contract backlog - even if we can always worry about the debt level, assuming a no-recovery scenario, which is still unlikely.

We can always discuss whether the offshore drilling recovery is U-shaping or V-shaping, but we cannot deny that an improvement has been set in motion, particularly for the jack-up's segment, and is increasingly noticeable in the floaters' division as well. This improvement is supported by oil prices trading well above $60 a barrel.

The fundamental question is what is the real recovery strength and its nature (permanent or temporary), which is profoundly affecting the financial health of the sector.

I own the company stock as a long term, and it represents my most substantial investment in this offshore drilling sector. However, during the past two and half years, my trading/investing strategy has been focusing on the short term, due to a particular contracting situation that has weakened the offshore drilling industry and darkens its general business outlook fundamentally.

Thus, I have allocated about 40-50% of my long-term position to take advantage of short-term fluctuations, and it has been very lucrative.

Transocean bags two important contracts with Petrobras

On March 11, 2019, according to OffshoreEnergyToday:

The Ocean Rig Corcovado has been awarded a 629-day contract, while Mykonos has secured 550-day contract. The estimated firm contract backlog, excluding mobilization, is approximately $123 million for the Ocean Rig Corcovado and $118 million for the Ocean Rig Mykonos, meaning that the dayrate for the Mykonos is higher (around $214.500) compared to the Ocean Rig Corcovado’s ($195.500). The two Samsung-built rigs are expected to start work in Brazil in November 2019 and the contracts include priced options for 680 days and 815 days, respectively.

The Ultra-deepwater drillships Ocean Rig Corcovado and Ocean Rig Mykonos have been contracted previously by Petrobras and have been warm-stacked in Las Palmas since April 2018 and June 2018 respectively. It is undeniably a piece of good news, because it places Transocean at the center of the Brazilian offshore exploration, which is an active offshore sector.

It is a significant backlog addition of $241 million. However, it is barely sufficient to keep the backlog from going down by the way. With this new addition, the backlog stays constant at $12.2 billion, with about $2.4 billion remaining in 2019.

The issue is that the daily rates are meager and reveal how fragile and painfully slow the floaters' recovery is. The problem is that the new paradigm explained in my investment thesis which favors investments in US shale will keep offshore drilling half-starving with fewer contracts at lower daily rates.

The offshore drillers will have to change their business model financial structure fundamentally to survive this new equilibrium. However, it is a long and challenging process clouded by a lot of uncertainties starting with the future oil prices.

Fleet status and backlog snapshot as of March 12, 2019

I suggest reading my preceding article about the February fleet status published on Seeking Alpha.

The contract backlog is now $12.2 billion as of March 12, 2019, including Songa Offshore and Ocean Rig UDW. With the two new contracts extension totaling $241 million, the total backlog remained the same compared to last month.

Below is a representation of the backlog repartition between drillships and semi-submersibles.

One critical element that differentiates the company from all the other offshore drillers is that Transocean has a backlog of $5.4 billion with Shell (RDS.A, RDS.B) stretching until 2028.

Rig fleet per category (minus recently scrapped rigs or held for sale) - the company doesn't own any jack-ups.

Total UDW

Deepwater

semi-subs

HE Deepwater Semi-subs. Midwaters
Number of rigs operating 29 15 2 12 0
Cold-stacked/idle 15 9 1 0 5
Newbuild rigs - with no contract 3 3 0 0 0
Newbuild rigs with a firm deal 2 1 0 1 (33%) 0
Total 49 28 3 11 5

Conclusion and Technical Analysis

It is a fact that the industrial world needs oil to survive and always needs more of it. But the balance between onshore and offshore exploration has shifted since the rapid expansion of the US shale, which is now producing at a record high.

Worse, US shale consumes a very high sustaining CapEx due to its specificity (depletion, etc.), which reduces the offshore exploration CapEx that oil operators use to allocate traditionally to offshore.

The reduction is significant and has created a permanent change in the way oil operators are investing globally. We see it with Chevron (CVX), Exxon Mobil (XOM) and other smaller E&P players such as Apache Corp. (APA) and ConocoPhillips (COP).

US shale is favored in part because the cost per barrel is equivalent to what the offshore drilling can offer, but also because an investment in US shale translates almost immediately to cash flow, while offshore drilling needs many years of substantial cash investment to finally provide cash flow. An example is the Stabroek prospect in Guyana operated by Exxon Mobil.

Therefore, it is imperative to use these sharp swings by trading a significant portion - minimum 40% - of your RIG position based primarily on future oil prices.

Technical Analysis

My TA interpretation is that RIG is forming a new rising channel pattern with line support at $8.10 (I recommend buying from this level and below with confidence, unless oil prices start to weaken significantly) and line resistance at $9.80-10 (which is parallel to the chart blue line above with a starting point in January at ~$8.60).

Rising channel patterns are considered as short-term bullish patterns, which could translate to a possible retest of the long-term resistance at $10.50-11, at which point it is essential to take some profit off the table again.

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Disclosure: I am/we are long RIG. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I am trading short term RIG now.