The worst is yet to come for rig-builders
The odds are stacking up against rigs finding near-term
employment, which increases the exposure of Singapore-listed yards to further
deferments in deliveries or cancellations of rig projects on their backlogs.
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Tan Hwee Hwee
25 February 2016
The odds are stacking up against rigs finding near-term employment, which increases the exposure of Singapore-listed yards to further deferments in deliveries or cancellations of rig projects on their backlogs.
Some have harboured hopes of oil prices bottoming out late this year. Even if they do so, the general market consensus is that offshore drilling activity will take two years thereafter to recover, taking into consideration the project-planning cycle in the upstream oil-and-gas sector.
Historically, listed yard groups in Singapore have extended provisions primarily for contracts from clients undergoing financial distress. This was a prevalent practice at the height of the 2008 financial crisis and has been undertaken for the current outstanding rig-building order books of listed yard groups.
The first provisions to be called out by Keppel Offshore & Marine and Sembcorp Marine were for the semi-submersible rigs and drillships on order from Sete Brasil, which was on the brink of declaring bankruptcy earlier this year.
Just last week, Sete Brasil reportedly received a US$1 billion lifeline, but it remains uncertain how far this can tide it over its outstanding financial commitments towards the contracts with Keppel O&M and SembMarine.
But against the uncertainty of oil prices going into sustained recovery, demand for rigs has plummeted; the signs point to harsher times ahead for all rig owner-operators, especially new start-ups which have struggled to finance the outstanding commitments from their new-building projects as contracting opportunities dried up.
David Palmer, chief executive of Pareto Securities, noted that 100 out of a fleet of 302 floaters and 168 out of 498 jack-ups have been stacked out.
Ian Craven of Icarus Consultants suggested that utilisation of jack-up rigs will fall to 20 per cent towards the end of this year; more units will come off charters by then if oil prices remain depressed and contracting activity does not pick up.
In unveiling its full-year results last week, SembMarine took the lead over Keppel O&M by declaring a provision of S$280 million towards risks tied to ongoing rig-building contracts outside the Sete Brasil drillship deal.
The market will have to wait till the next results season to find out whether Keppel O&M will hold on to its stance against provisioning for contracts on what has been regarded as a "good-quality" order book, that is, one backed by reputable names in the offshore drilling industry.
Chances are, however, that if the downturn persists, even large-cap offshore drilling contractors such as Transocean, would come under pressure to trim capacity; already, their stock values have taken a severe beating.
SembMarine on the other hand, will not be spared scrutiny, given the lack of clarity on the elements included in its combined S$609 million provision for the Sete Brasil drillships and other rig-building contracts.
Aside from the Sete Brasil vessels, SembMarine has not identified the rig-building contracts covered under the S$280 million, although OCBC Research projects this will likely be for the five jack-ups on its order book; SembMarine also has a standstill agreement with Seadrill's North Atlantic Drilling Limited for the US$568 million West Rigel semi-submersible drilling unit.
RHB Bank's Lee Yue Jer deems the S$609 million provision sufficient, "considering that the book value is possibly lower than the net realisable value", although this is conditional on "(rig) deliveries going according to plan and payments are received without discounts".
Keppel O&M, in its FY15 results, had made S$230 million in provision for Sete Brasil based on "the progress of the construction, payment status and amounts due to the vendors, among other areas".
Mr Palmer argued that, for rig builders - including SembMarine and Keppel O&M - to deliver and realise the contracted values of their outstanding order book, particularly those outside the Sete Brasil units, they may have to resort to taking ownership of the deferred new-builds. His argument is not least based on a build-up in over-capacity within the rig market, with contracting activity having trickled to all-time lows.
Not helping matters is the lack of a pick-up in the retirement of older rigs to make way for new-builds, said Mr Craven. Valuation of new-build rigs will come under pressure, suggesting that yards may have to next look at expanding provisions for asset impairments if the market continues failing to digest the excess capacity.
A senior banker told The Business Times that listed yard groups may stand a better chance at surviving a protracted downturn if they take the opportunity to recognise impairment charges when they are still cash-rich. Such write-downs can be reversed in the event the market surprises with an earlier-than-expected upswing in the offshore drilling market.