COLUMN | Falling knives and walking away: drilling contractors, Chinese yards, Korean cast-offs, Northern Drilling, SinoOcean and the Tiger rigs – Part One [Offshore Accounts]

Sometimes it is not only easier to walk away, but actually better

The deepwater drilling industry is in crisis, as you know. In 2020, four major owners of deepwater rigs went into Chapter Eleven bankruptcy protection: pureplay drillship owner Pacific Drilling (for the second time), Noble Corporation, Diamond Offshore Drilling, and Valaris. Seadrill Partners also moved into a restructuring of its US$3 billion of debt and bankruptcy protection in Houston, and its parent Seadrill is expected to follow suit this year (for the second time in Chapter Eleven).

On December 31, 2020, Pacific Drilling announced (here) its swap of US$1 billion of debt for equity had been approved by the courts, but its former shareholders were wiped out. In November, Noble announced (here) that it, too, had swapped US$3 billion of debt for new shares in the company, and that its old shareholders would get also nothing, as usual.

That sinking feeling

Deepwater drilling is a business, like the offshore supply vessel sector, where shareholders have been hammered over the last six years of downturn. Even for those few companies that haven’t sought to restructure, many investors have lost money.

Transocean shares traded at over US$40 in mid-2014, by January 2017 they had fallen to US$14, and today they trade just above US$3. Alix Partners warned (here) in November that most of the US$45 billion cumulatively lent to offshore drilling companies would probably have to be written off and converted into equity, since the industry players simply cannot support the debt load.

Recent fixtures at less than US$160,000 per day

Whilst the bankruptcies have shed debt for those companies involved, the industry remains in crisis, burdened by low day rates, and low utilisation. Rystad Energy estimated that fleet utilisation for the worldwide deepwater drilling fleet was only around 50 per cent for 2020. It has hovered between 45 per cent and 55 per cent for the last five years, with multiple rigs stacked, often for years at a time.

Day rates remain in the doldrums, with Transocean’s latest fleet status report (here) showing high specification units like the seventh-generation beauty Deepwater Invictus, which was built in 2014, being fixed to BHP Billiton for just US$155,000 per day. Peanuts!

That scrapping feeling

First, companies pruned back and scrapped their older tonnage. But now, we have seen even modern drillships of less than ten years old sent to the breakers – a trend that began when Transocean announced that it would scrap the eight-year old drillship Ocean Paros in 2019. Then, last summer, Valaris announced it was sending a trio of DP drillships (the 2010-built Valaris DS-3, the 2011-built Valaris DS-5 and the 2012-built Valaris DS-6) for scrapping at a Turkish yard.

Units that had cost over US$700 million apiece in Korea were being sent for environmentally friendly recycling for around US$264 per ton of steel. Other nearly new units were sold in distress for conversion to deepwater mining vessels for the Pacific (Vitoria 10000 – see here), or to the state oil company of Turkey TPAO for just US$37.5 million at admiralty auction, after a year of lay up in South Wales (Sertão – see here).

Retirement involves dismemberment by blowtorch

Based on lay-up times and estimated reactivation costs, Rystad Energy calculated in October that up to 59 of the 213 rigs in the global floating drilling fleet could be potential candidates for scrapping, which the Rystad analysts gently described as “retirement”. If your retirement involves a team of Turkish men attacking you with oxy-acetylene cutting torches, you probably need to rethink your plans. This would equate to one-quarter of the entire segment, up to 22 drillships and 37 semisubmersibles.

Seadrill’s warning

Seadrill CEO Stuart Jackson warned in November that the company will, “continue to address the industry issue of too many rigs and too much debt. Managing our rig count is the necessary balance to bringing down our debt burden and we are progressing plans to safely recycle some of our rigs, subject to the approval of our lenders.”

So, there is still more pain to come, and a lot of it.

Cancel culture, Gangnam style

In their efforts to conserve cash and reduce their exposure to the market, drilling contractors did everything they could to walk away from their shipbuilding contracts for new units. Why pay US$600 million for a new drillship that nobody wants, and that may end up being scrapped for a few hundred dollars a lightship ton anyway?

As a result, the yards in Korea have faced acrimonious contract disputes over late delivery, cancellation, and default. As a result of losing many of these contractual arguments with their customers, Korean yards now own a large number of nearly finished units that are almost delivered.

We reported here how Transocean subsidiaries decided to, “relinquish their respective interests in two drillships under construction at Samsung Heavy Industries,” and throw back the keys of the drillships Ocean Rig Santorini and Ocean Rig Crete, saving Transocean an estimated cash outlay of US$1.1 billion.

Zonda and Draco look for new owners

Samsung has been attempting to sell the abandoned drillships Pacific Zonda (cancelled by Pacific Drilling, which lost a US$320 million arbitration over the termination in 2020, as we reported here), West Dorado, and West Draco (cancelled by Seadrill in 2018). Meanwhile, Daewoo has been trying to sell the drillship Cobalt Explorer (cancelled by Vantage Drilling, then bought by Northern Drilling in 2018 for US$350 million, but then cancelled a second time in 2019).

Also out there, nearly finished, is the Keppel Corporation drillship Can Do along with the two Awilco harsh environment semi-subs, Nordic Spring and Nordic Winter, which are now subject to a recent new pair of termination arbitrations between Keppel and the owners (press release here).

That deferring feeling

Even those who didn’t cancel did defer. John Fredriksen’s Northern Drilling picked up two unfinished Seadrill drillships at Daewoo in Seadrill’s first restructuring. With uncharacteristically bad timing, Northern agreed to purchase West Aquila and West Libra for US$296 million each in 2018, of which Northern paid US$90 million for each rig at contract signing, with the remainder to be paid upon delivery.

Northern’s latest results report here showed that it was simply paying preservation costs for the two units, and was, “actively engaged with the shipyard to find solutions as contractual delivery dates approach in the first half of 2021,” which I took as code to mean, “was seeking to delay delivery as long as possible or wiggle out of the contract if it could.”

Valaris also chose to kick the can down the road at Daewoo, and delay the delivery of Valaris DS-13 (formerly known as Atwood Admiral) until September 30, 2021, and Valaris DS-14 (formerly known as Atwood Archer) until June 30, 2022. Valaris has stated that the estimated final delivery payment for both rigs is approximately US$313 million in aggregate.

How could things get worse?

The deepwater drilling sector is a hellscape. So, what could possibly make it worse, short of oil falling back to negative pricing, an even worse pandemic than Covid-19, or an operational catastrophe of the magnitude of Deepwater Horizon? God forbid!

What could make it worse is government support for shipyards in China and Brazil.

Chinese yards and SinoOcean

Even harder hit than the Korean yards by the downturn was China, where state shipyards were flooded with cancellations for over sixty jackups and deepwater floaters. To sort out the mess, in 2019 the Chinese government created SinoOcean Offshore Assets Management, a kind of state-owned dumpster for half-finished rigs, cancelled PSVs and other offshore assets left incomplete in state-run shipyards.

SinoOcean has a remit to, “consolidate, optimise, re-modify and manage,” these units. It has instead decided to prioritise jobs in China, and pour some kerosene on the industry fire.

Tiger King?

Amongst the casualties were four drillships known as the Tiger series, which a speculative investment company called Opus Offshore ordered in 2011 at Shanghai Shipyard Company. Opus Tiger-1 was officially named on November 8, 2014, but, Opus, owned by Dr Chanchai Ruayrungruang’s investment group, Reignwood Group, declined to take delivery of the rig in early 2015. Work on the three sister units was halted before construction was completed.

The parties are now in arbitration in London, which you can read about here. A liquidator was appointed for Opus Offshore in January 2017. Philippines-based industry veteran Ian Craven wrote at length about the collapse of the company and the long list of creditors it left behind here.

Failed in Mexico, try Beijing

Tiger-1 has been stacked in China for the last six year, whilst the yard has done everything to complete Tiger-2, save for doing the sea trials and declaring the rig delivered. Tiger-1 was nearly awarded a contract by Pemex through the Mexican drilling contractor and general marketing agency company Marinsa in 2019, but this fell through.

In 2017, Ian Craven asked whether the moves by Chinese state-owned investors to take control of drilling units was, “the beginning of a Long March to world domination of the drilling market?” Based on the dismal failure to even fix a rig at bargain basement rates to Pemex, the answer to that question would have to be “no,” at least, so far. But that doesn’t stop the Chinese yards holding these legacy assets from poisoning the rest of the drilling industry by making decisions driven by national employment considerations, rather than economic logic.

Shanghai (unpleasant) surprise

Notwithstanding the failure to find work or a buyer for the two existing rigs over many years, China State Shipbuilding Corporation has now decided to go ahead and restart work on the zombie units Tiger-3 and Tiger-4. The yard claimed that it saw “potential demand” in the drillship market, which justified restarting work, even though rigs of eight years old are being scrapped and Rystad is forecasting another four dozen or more may need to be made into razor blades in the coming few years.

This lack of customer demand for newly built Chinese offshore deepwater rigs can be seen at CIMC Raffles, which has its wholly-owned, newly built deepwater semi-sub Bluewhale II laid up and stacked after delivery, according to the Wood Mackenzie database (here).

Quite who would charter the final two Tiger units if the first two cannot be contracted is not clear. They were built with a domestic drilling package from the Honghua Group, which will surely raise operational and reliability concerns amongst the international oil companies. Worse, Tiger-4 is apparently bereft of a drilling tower. But finishing the rigs will keep the yard workers busy and prevent any embarrassing write-offs for their government owners.

This is bad for Chinese shipbuilding and the wider drilling industry. Sometimes it is better to walk away rather than pour in good money after bad.

But wait, there’s more (zombie rigs)

Next week, in Part Two, we’ll see how Brazil has also tried to keep shipyard jobs by keeping alive some of the zombie rigs of long bankrupt and very corrupt drilling contractor Sete alive. This beautiful story features billions of dollars of contracts, millions of dollars of bribes, and a planned phoenix-like recovery from the ashes of Sete, brought to you by the same dream team that gave us the turkey that is Borr Drilling.

This unfortunately means that we don’t have time to mock Scorpio Bulkers, which has followed in the footsteps of Cadaver Cadeler (formerly Swire Blue Ocean) in choosing an exciting new name to herald its transformation as a wind farm turbine installation player. Scorpio Bulkers is now Emetic Eneti.

Background reading

For our past coverage of the “complete catastrophe” that has befallen offshore drilling, see here and here.

For our December coverage of Borr Drilling and Pemex see here. The latest development reported in the Norwegian press on January 13 (here) is that Norwegian Bank DNB has been working with British private equity fund Hayfin on plans to acquire, split up or sell Borr Drilling, unless the management can work out a credible rescue plan. Good luck with that. One could argue SinoOcean had a narrow escape by not winning that contract in Mexico for Tiger-1.

Historic coverage by Vladimir Zernov on the collapse in deepwater rig prices, and the dealings between the Korean yard, Seadrill and John Fredriksen, which led to Northern’s ill-fated effort to buy Cobalt Explorer in 2018 is here.