North America Equity Research
24 May 2010
Lowering Offshore Driller Numbers as DeepwaterCosts Likely Climb
OilserviceJ. David Anderson, PE, CFA
(1-212) 622-6684 firstname.lastname@example.org
Samantha Hoh, CFA
(1-212) email@example.comJ.P. Morgan Securities Inc.
Equity Ratings and Price Targets
Mkt CapRating Price TargetCompany Symbol($ mn)Price($)CurPrev Cur Prev
Diamond Offshore Drilling Inco DO9,808.3070.55UWn/c 79.0087.00Ensco plc ESV5,524.0738.76OWn/c 52.0060.00Noble Corporation NE8,294.3432.42Nn/c 42.0049.00Pride International Inc. PDE4,416.7525.15Nn/c 30.0033.00Transocean Ltd. RIG19,859.3459.24Nn/c 80.0087.00
Source: Company data, Bloomberg, J.P. Morgan estimates. n/c = no change. All prices as of 21 May 10.
See page 25 for analyst certification and important disclosures.
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With changes to deepwater drilling clearly on they way, we’ve made ourfirst pass at quantifying the impact to the Oilfield Service industry. Whilemany of the potential changes will likely be positive in the medium andlonger term, we see a number of negative implications for OffshoreDrillers over the next several years, causing us to reduce our estimates andprice targets for the group.
Looking toward the North Sea for guidance.
The stricterenvironmental safety standards employed in the North Sea could beadopted in the U.S. Gulf, potentially becoming best practice globally.Higher rated BOPs, acoustic sensors, more safety procedures, andgreater testing frequency would all contribute to higher costs for drillers.
Capital equipment increases of up to $20mm per rig.
We estimate theworldwide fleet could need an additional 233 ram and 206 annular BOPsin order for every rig to have at least two 15kpsi ram and one 10kpsiannular BOP. This corresponds to about $5.5bn in capital expenditures orapproximately $20mm/rig. The biggest question is the timing of spending as BOP manufacturers have limited capacity.
Diamond, Pride, and Noble would be most impacted.
Notsurprisingly, older fleets would require the most capital improvements,crimping free cash flow in future years. We estimate Diamond's free cashflow could be reduced by as much as 22% in 2011 and 27% in 2012,putting its special dividend further at risk.
Cutting estimates and price targets for the group.
Taking into accountlower utilization rates for down days, higher maintenance costs, andincreased insurance premiums, we have trimmed our 2011/12 EPSestimates by 7%/6%. We expect increased capex requirements tocollectively reduce return on capital by over 150bp over the same timeperiod.
Still cautious on Offshore Drillers, prefer HAL and SLB here.
Demand for deepwater rigs remains weak, and leading edge dayrates arepoised to move lower through the year. While shares of RIG areincreasingly attractive, we still see downside risk. Instead, we would usemarket weakness as an opportunity to own HAL and SLB.