The stock prices of offshore drilling companies have fallen precipitously over the past year, dropping at a steeper decline than the oil price itself. Yet the offshore rig market as a whole hardly seems to notice, propelled by the increased sanctioning of greenfield projects coupled with a substantial amount of brownfield work aimed at maintaining legacy production. Some E&P companies are even increasing exploration efforts in a quest to replace declining reserves, resulting in a “trickle down” effect that is driving up rig counts and day rates.
In terms of stock prices, Noble, Diamond, Valaris and Borr are at the bottom of the peer group, a cohort which has much higher debt exposure than its peers. This Wall Street slide could be a reaction to high debt levels, or perhaps a disconnect from fundamental market drivers. In contrast, Awilco and Odfjell stocks have proven more robust. This could reflect their high exposure to the harsh environment markets that have remained relatively healthy amidst recent market uncertainty, especially compared to players focused on more benign markets.
Drillship utilization saw a material uptick earlier this year, climbing 14 percentage points over a nine-month period to reach a “spot-utilization” of 71% in July 2019. Alongside this development, rig rates have climbed by 40%. While this may sound material, the development has underwhelmed market observers and we continue to note a fiercely competitive drillship market. Rystad Energy argues that the current situation is worse than July’s 71% spot utilization would suggest given the very sharp downwards trending “forward utilization curve” – essentially, there is a lack of long-term work embedded in the current contract portfolio.
This reflects the harsh reality that the stock market has priced in for offshore drillers, as the healthy utilization growth seen in the first half of the year is poised to fall off a cliff within this environment of short duration contracts, where term contracts do not appear prevalent in the near future. Indeed, drillship utilization dropped steeply over the past two months, hitting 60% in September.
Current vintages show a record steep forward utilization curve compared to previous vintages, losing 40 percentage points within 12 months. This stands in stark contrast to the vintages of the heydays, which saw a 0% loss over the same period. In 2008, available drillships simply could not be found when looking 12 months down the road. Today, the process of selecting a drillship 12 months in the future will enable E&Ps to pick and choose from about half of the global fleet – a fleet which nearly tripled in size from around 40 to around 110 units in 2018.
Depending on the rig owner, it makes sense in today’s environment to prioritize term contracts over higher rig rates. This may have the effect of tightening the market and allowing higher rates to come in on the back of higher utilization levels. Term contracts will also help to increase forward utilization by building solid backlogs, which in turn will have a positive effect on rig companies’ stock prices.