Jefferies analysts said this week that the offshore drilling contractor, Noble Corp. (NE, Financial), is a buy secondary to its relative valuation basis among others while rating other drillers such as Rowan Companies (RDC, Financial), Transocean Ltd. (RIG, Financial) and Ensco PLC (ESV, Financial) as holds.
(Mark Wahlberg and the Dinosaur Tooth in Deepwater Horizon Movie, Miratech)
Transocean, the once $50 billion offshore drilling company, had a market capitalization of $5.4 billion post-financial crisis. According to GuruFocus data, Transocean had a trailing price-earnings (P/E) ratio of 4.4 times (industry median of 7), price-book (P/B) ratio of 0.35 times (industry median of 0.6) and price-sales (P/S) ratio of 1 (industry median of 1.1).
Transocean also has provided distributions to qualifying additional paid-in capital shareholders. Transocean provided aggregated amounts of $202 million, $272 million and $109 million in fiscal years 2013, 2014 and 2015. Transocean, however, discontinued the distributions effective October 2015.
Performance
Along with its peers in the oil and gas drilling industry, Transocean performed outstandingly in the past year with a 32.9% total return compared to Standard & Poor's 500 Index’s 20.2%. On a five-year basis, Transocean had -15.5% total return compared to the index’s 14.1%.
Earnings performance
Transocean is scheduled to report its fourth-quarter and full-year operations Feb. 22, according to Nasdaq. Meanwhile, the offshore driller reported its third-quarter figures in November.
Transocean delivered a 42.4% loss in overall sales to $3.19 billion in its recent nine months operations and an amazing 208% rise in profits to $555 million. Transocean shares rose 6.2% the following day while the broader market ended with a 0.4% drop.
Transocean delivered strong profit figures secondary to its 22.5% reduction in operating expenses and a $148 million gain related to Transocean early retirement of debt. In addition, Transocean also had not suffered from any massive impairment charge similar to a $1.84 billion charge the year prior but had a $34 million charge instead for the recent period (1).
"Due to our unwavering commitment to maximize uptime for our customers, and the outstanding performance of our crews and shore based personnel, we delivered revenue efficiency of 100%.
"Of note, we produced this exceptional result, while continuing to realize cost savings across the organization, which enabled us to improve our quarterly Adjusted Normalized EBITDA margin to 51%." – President and CEO Jeremy Thigpen (2)
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(10-Q, Transocean)
Transocean
Transocean is a 43-year-old Swiss company and a leading international provider of offshore contract drilling services for oil and gas wells servicing customers around the world.
Transocean’s primary business is to contract its own drilling rigs, related equipment and work crews predominantly on a day-rate basis to drill oil and gas wells. The company specializes in technically demanding regions of the global offshore drilling business with a particular focus on deepwater and harsh environment drilling services.
As a global offshore operator, Transocean derived 50%, or $3.7 billion, of its fiscal 2015 sales from other countries, 25.6% from the U.S., 15.4% from the United Kingdom and 8.8% from Norway. Also, Transocean derived 14%, or $1.03 billion, of its fiscal 2015 sales from Chevron (CVX, Financial) and 10% from Royal Dutch Shell (RDS.A, Financial).
Transocean provided two segments in its recent annual filing: contract drilling revenues – 92%, or $6.8 billion, of total sales in fiscal 2015 – and other revenues.
(10-K and 10-Q Filings, Transocean)
In fiscal 2015, Transocean’s contract drilling revenues suffered a 24% drop to $6.8 billion and lost another 46% in revenue nine months into fiscal 2016. The company’s other revenue, meanwhile, grew 46% to $275 million in the recent period.
More importantly, Transocean discussed several performances and key indicators that reflect the offshore driller’s ongoing business. These are operating days, average daily revenue, revenue efficiency, rig utilization and contract backlog.
Operating days
According to company filings, an operating day is defined as a day for which a rig is contracted to earn a day rate during the firm contract period after commencement of operations.
In fiscal 2015, Transocean’s operating days were 16,948 – a 23% decline from 2014. Nine months into fiscal 2016, company operating days were 8,042 – a 40% decline compared to the year prior.
Average daily revenue
Average daily revenue is defined as contract drilling revenues earned per operating day. This figure reported a 2% loss to $400,500 in fiscal 2015. Three-quarters into fiscal 2016, average daily revenue lost 9% to $360,700.
Revenue efficiency
In Transocean’s terms, revenue efficiency is defined as actual contract drilling revenues for the measurement period divided by the maximum revenue calculated for the measurement period, expressed as a percentage.
Further, maximum revenue is defined as the greatest amount of contract drilling revenues the drilling unit could earn for the measurement period, excluding amounts related to incentive provisions.
In 2015, revenue efficiency was at 96%, compared to 95% in 2014. Nine months into fiscal 2016, revenue efficiency was at 97% compared to 96% the year prior.
Rig utilization
Transocean’s rig utilization is defined as the total number of operating days divided by the total number of rig calendar days in the measurement period, expressed as a percentage. Transocean’s rig utilization rate declines as a result of idle and stacked rigs and during shipyard and mobilization periods to the extent these rigs are not earning revenues.
In 2015, total rig utilization was at 71% from 76% in 2014 and 79% in 2013. Nine months into fiscal 2016, rig utilization was 49% compared to 75% the year prior.
Contract backlog
Contract backlog is defined as the maximum contractual operating day rate multiplied by the number of days remaining in the firm contract period, excluding revenues for mobilization, demobilization and contract preparation or other incentive provisions, which are not expected to be significant to our contract drilling revenues.
In October 2016, the total back log was at $12.18 billion compared to $15.5 billion and $21.24 billion in February 2016 and February 2015.
Overall, Transocean had five-year sales and profit losses and operating margin averages of -5.06%, -3.82% and -2.74%,according to Morningstar data.
Recent acquisition
In December 2016, Transocean approved a merger of its limited liability company Transocean Partners where the former issued 23.8 million shares, or $350.6 million in value at the time of press release, to complete the acquisition. Transocean shares spiked 3.3% post-announcement.
According to company filings, Transocean Partners underwent an initial public offering in 2014, in which Transocean had 21.3 million common units or 50.1% stake. In review, Transocean Partners was formed as a growth-oriented limited liability company by Transocean Ltd. to own, operate and acquire modern, technologically advanced offshore drilling rigs.
Cash, debt and book value
As of September, Transocean had $2.53 billion in cash and cash equivalents and $8.26 billion debt on a debt-equity ratio of 0.54 times compared to 0.57 times in the year-earlier period; Transocean had $10.68 billion in additional paid-in capital in September compared to $5.74 billion in the year-earlier period, which had helped further lower the debt-equity ratio. Meanwhile, total diluted weighted-average shares outstanding were 365 million compared to 363 million in September 2015.
Transocean also had a solid balance sheet without goodwill and had a book value of $15.08 billion compared to $13.72 billion last year.
(10-Q, Transocean)
Transocean’s nine months of cash flow from operations ending in September fell by 49% to $1.28 billion compared to the year prior. The recent cash flow figure was similar to Transocean’s three-quarters operation in fiscal 2011 and 2013 when it recorded profits absent any impairment charge for the period. As observed, Transocean had a $1.84 billion cash inflow secondary to its impairment charge the year prior that elevated its cash flow for that period.
Capital expenditures were $1.07 billion leaving Transocean with $206 million in free cash flow compared to $1.15 billion last year. Prior to its distribution discontinuance in 2015, Transocean had paid an average of 566% of its free cash flow to qualifying shareholders and to its noncontrolling interests.
Transocean also paid down $106 million in debt, net of debt issuance and costs, for the period while allocating $23 million distributions to noncontrolling interest.
(10-K and 10-Q, Transocean)
Conclusion
Transocean demonstrated declining sales in recent years, which could be troubling to some prospective investors. Meanwhile, investors should not totally fear further implications Transocean would have to deal with secondary to the tragic Deepwater Horizon incident in 2010.
(Deepwater Horizon Rig in April 2010, Wall Street Journal)
The incident that killed 11 workers and spilled millions of barrels of crude oil in the Gulf of Mexico in 2010 resulted in massive fines involving Transocean and BP PLC (BP, Financial). Transocean paid a $1.4 billion fine in 2013, according to the Wall Street Journal, while BP was fined a record $20.8 billion to settle damages (3).
Going back to Transocean’s figures, the offshore driller was able to deliver profits and positive free cash flow figures net the turmoil in the oil industry. The company also demonstrated an attractive balance sheet and is trading at a low multiple absent any blue-sky figures, goodwill and intangibles.
Transocean received several upgrades since mid-2016 including an upgrade from Piper Jaffray in January to Neutral from Underweight and to equal weight from underweight from Morgan Stanley in October.
(Transocean share price at $13.82 per share with a trailing P/E ratio of 4.4 times, GuruFocus)
Meanwhile, there is a significant upside of 193% if Transocean were to trade at its book value of $41 per share. In review, Transocean last traded around this level in July 2014.
Considering that Transocean’s book value per share declined from $67 per share in 2010 to the current levels, applying this 39% decline as a margin of safety from its current value would indicate $25 per share.
In summary, Transocean shares are a speculative buy with a $15 to $20 per share price target.
Notes
(1) Transocean 10-Q: In the nine months ended Sept. 30, 2015, we recognized a loss on impairment related to the following: (a) a loss of $507 million associated with the impairment of our deepwater floater asset group, (b) a loss of $668 million associated with the impairment of our midwater floater asset group and (c) an aggregate loss of $664 million associated with the impairment of certain assets classified as held for sale.
Me: These figures equate to a $1.84 billion impairment charge.
(2) Transocean Press Release: Revenue efficiency is defined as actual contract drilling revenues for the measurement period divided by the maximum revenue calculated for the measurement period, expressed as a percentage. Maximum revenue is defined as the greatest amount of contract drilling revenues the drilling unit could earn for the measurement period, excluding amounts related to incentive provisions.
(3) Transocean 10-K:
(p. 87, 2015 Transocean 10-K)
Disclosure: I do not have shares of any of the companies mentioned.
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