The offshore oil drilling industry suffered a major blow in recent years as oil prices fell and demand for crude decreased. However, now may be the time for investors to consider purchasing stocks in these companies. The need for oil remains significant, and offshore drillers are poised to thrive as major energy companies increase their offshore spending.
During the pandemic lockdowns, oil prices plummeted as driving nearly ceased and big oil companies reduced their drilling spending. The result was historic downturns for offshore drillers, with rigs taken out of commission due to profitability concerns and many companies ultimately filing for bankruptcy.
However, the industry has shown resilience, and companies like Noble, Valaris, and Seadrill have emerged from bankruptcy in strong financial positions. Oil prices have fallen recently, but this isn’t expected to dampen offshore investment plans. Offshore drillers are seeing higher leasing rates for their rigs, indicating better earnings in the coming years.
Most of these companies have little or no net debt after restructuring in bankruptcy, further reducing risk for investors. While none of the companies currently offer dividends, some are initiating or expanding buyback programs—a sign that payouts could be reinstated in the future as cash flow grows.
All things considered, offshore oil drilling stocks may be a smart buy as the industry continues to recover and thrive in the coming years.
Offshore Drillers Bracing for Minimum Five-Year Investment Growth Cycle
Barclays analyst, David Anderson, has identified offshore drillers as the most attractive area within the energy service sector amidst projections of a minimum of a five-year investment growth cycle. The concentrated niche is headed by major players Noble, Transocean (RIG), Valaris, Seadrill, and Diamond Offshore Drilling (DO) and demand for their rigs is increasingly on the rise.
Global oil production, currently running at about 100 million barrels per day, is not expected to change much over the coming decade. Offshore fields will play a critical role in maintaining this pace. Offshore fields such as one off the coast of Guyana in South America can hold billions of crude and offshore wells can produce up to 20,000 barrels of oil a day, Evercore ISI analyst James West said. Annual rate of production declines for offshore wells are typically single digits, versus 50% or more for the first year for fracked wells in the U.S.
Despite criticism from climate activists, European majors like Shell and BP increased investments in oil after de-emphasizing investments in renewable energy. There appears to be a realization that the oil age will last longer than predicted by some experts.
Oil-service industry leader SLB (SLB), previously known as Schlumberger, has highlighted opportunities offshore noting that major oil companies are projected to commit up to $500 billion in new projects from 2022 through 2025. SLB analysts noted that 85% of offshore fields are profitable even if oil prices drop to $50 per barrel.
The Lucrative World of Offshore Rigs
Offshore rigs are an essential part of the global oil and gas sector, operating in shallow and deep waters to extract valuable resources. The two primary types of rigs are jackups and deepwater rigs, with the latter commanding the highest rates and owned by publicly traded offshore drillers.
Currently, there are 100 to 150 deepwater rigs deployed worldwide, including in the Gulf of Mexico, the North Sea, and Guyana. Despite the Covid crisis, day rates have increased from $125,000 a day to nearly $500,000 a day and are expected to continue their growth trajectory.
Although operating costs hover around $150,000 a day, profits have been negatively affected by older contracts that carry lower leasing rates. However, experts predict that earnings will significantly increase between 2024 and 2026 due to higher rates on more recent contracts.
Market dynamics resulting from bankruptcies, consolidation, and limited rig construction have facilitated pricing discipline. With rigs costing upwards of $1 billion each, the most desirable rigs remain in short supply, preventing overspending by offshore drillers.
These conditions bode well for companies like Noble, whose earnings are expected to more than double from $2.45 a share this year to approximately $6 a share by 2024.
Offshore Drillers to Watch in 2023
Offshore drillers have had a rough time during the pandemic, but with vaccinations rolling out and oil prices on the rise, there are reasons to be optimistic about the sector. Here are three offshore drillers that could be poised for gains in the coming years.
Noble Corporation plc
Noble Corporation plc is set to benefit from an “enormous recontracting opportunity” over the next two years, according to Barclays analyst Anderson. The company also has a clean balance sheet and a buyback program underway. In May, Noble signed a 2.5-year contract with Petrobras for a floating rig at a rate of $490,000 per day, a new high for the current cycle. Anderson has a $56 price target on Noble, up more than 50% from Friday’s close of $35.62.
Valaris plc has struggled to keep pace with its peers due to leasing rigs at below-market rates over the past year. However, the company has an attractive rig joint venture with Saudi Aramco that could be taken public in the coming years. Valaris also has a high-quality deepwater fleet that includes rigs being reactivated, making it a potential turnaround story. West, an analyst at Piper Sandler, has an Outperform rating and $86 price target on Valaris stock, which closed on Friday at $56.56.
Note: Valaris has net cash of $280 million.
Diamond Offshore Drilling
Diamond Offshore Drilling has the smallest market value among the main offshore drillers and fewer high-quality assets, but four “seventh-generation drillships” – the latest models – make the company a compelling pick for some analysts. Diamond also trades at nine times projected 2024 earnings and its small size could make it a consolidation target. Anderson has a $20 price target on the stock, up more than 60% from its current price of $12.37.
Sources: Bloomberg; company reports.
The Future of Drillers: Seadrill and Transocean
As the world continues to rely on oil as a key energy source, drillers are likely to play a significant role in the industry’s longevity. Two companies that investors should consider are Seadrill and Transocean.
Seadrill has been consolidating the market and recently completed a $1 billion merger with Aquadrill, resulting in a “best in class” fleet of seven seventh-generation drillships. As low-priced legacy contracts expire, Seadrill’s earnings could increase, and it trades at a reasonable eight times projected 2024 earnings.
Transocean, on the other hand, is the riskiest option but could also have the highest rewards. As the industry leader in deepwater rigs that have been mothballed, Transocean has the potential to return to the market. Although the company has $7 billion in debt, paying it down could push equity prices higher and result in potential annual free cash flow of $1 billion in 2024 through 2026.
Investors should note that there are risks involved, such as the finite life of the rigs and the companies’ linkage with oil prices. However, with oil projected to be a crucial energy source for decades, a consolidated and financially disciplined rig industry could be one of the best ways to play that longevity.
Overall, considering both Seadrill and Transocean as potential investments could prove to be a wise choice for those looking to benefit from the oil industry’s future.