The last twelve months have been hard on oil companies, in general, and offshore drillers are no exception. The current oil market has caused companies across the board to reduce capital spending. We see the effect low oil prices have on profits and earnings, a trend that will only continue. There is, however, a wide discrepancy how drillers will be affected. Hercules Offshore went bankrupt, Noble (NYSE – NE) and Transocean (NYSE – RIG) lost hundreds of millions while Seadrill (NYSE – SDRL) had $1.1 billion in net income.
These variations beg the question, what makes these companies so different?
First of all, the depth of the water that drillers work in have an impact. Drilling rigs are put into one of two categories, jack-ups or floaters. Jack-ups are basically jacked up from the ocean floor and can only be operated in a couple of hundred feet of water. The contracts that they operate under are usually also shorter in length. Floaters, as the name implies, are floating rigs that can operate in a depth of up to two miles. Deepwater contacts can last for several years.
As a result, shallow water drillers most immediately feel the burden of low oil prices or the benefit from higher oil prices. This is why Hercules Offshore buckled under the pressure of low oil prices as their entire strategy focused on shallow water operations. When their short term contracts ended, there was little to no work left. Seadrill, Transocean, and Noble all focus on deepwater drilling and own large deepwater fleets. They have a backlog of years into the future because of this. For now, the benefit that longer term contracts offer is the lifeline for these companies. However, this is no guarantee for success in the future.
Another important factor is the age of a company’s fleet. Young fleets tend to have better capabilities and are favored by investors. A young fleet is also less at risk of being scrapped or stacked.
The chart above shows the increased pace at which older fleets have been scrapped. Older rigs aren’t finding any new contracts and maintaining them without work is not economical when considering their overall value. So investors end up favoring companies with a younger fleet because they can keep their rigs in operation.
The following chart clearly shows the effect this has on Seadrill, Transocean, and Noble. Both Noble and Transocean have far older fleets and have indeed been stacking and scrapping a lot of their drilling rigs, as the next chart (Avg. Jack-up Age) indicates.
A fleet’s age clearly matters a lot, companies with a young fleet find it easier to find work. The needs for stacking or scrapping is far less pressing.
It is clear that the age and type of a fleet are very important when considering these companies from an investing point of view. Lumping them all in the same category while they have different strategic positions is not a very sound idea. If you believe the price of oil will not remain below $50 per barrel, and that offshore reserves will continue a pivotal role in supplying the world’s demand for oil, it might be time to take a more discerning look at the big differences in the positions of offshore drillers. Seadrill looks like a good bet if oil prices spike again and has a solid backlog to weather the storm.