The current oil price plunge – with crude tumbling 50% since June – provide the latest threat to the drilling fraternity that is already facing a bleak industry outlook.
As the commodity enters into a bearish territory and flirts with the $50-a-barrel level, the top energy companies are expected to cut spending (particularly on the costly drilling projects) on the back of lower profit margins. This, in turn, means less work for the beleaguered drillers (both onshore and offshore) that are facing an uphill battle to turn around.
A Look back at 2014
Coming to the last day of 2014, shares of major companies have significantly underperformed the broader market year-to-date. In particular, stocks of Hercules Offshore Inc. (HERO), Transocean Ltd. (RIG), Diamond Offshore Drilling Inc. (DO) and Ensco plc (ESV) are down approximately 85%, 62%, 33% and 47%, respectively, while the broad-based S&P 500 index has gained 13% over the same period. Most are trading close to their 52-week lows. What’s more, according to some analysts, the worst is still to come for these drillers.
Issues Plaguing the Industry
The most pressing concern for the group, at least in the short-term, will be oversupply in the rig market. With large, multinational energy firms looking to reign in their skyrocketing capital expenses, the drilling space is likely to see intense competition, as multiple firms chase a single contract. This excess capacity, in turn, could lead to lower utilization or dayrates.
Secondly, the contract drilling industry (particularly the offshore one) is perceived to be a highly cyclical one and the current thought is that rates had already peaked for this cycle back in late 2013. As the sector looks set to enter a cyclical downturn, drillers will prefer to hold on to their higher technology specification rigs, thereby significantly denting the company's fleet utilization and profitability.
Last but not least, while most of the drillers boast billion-dollar revenue backlogs, they are struggling with idled rigs – ones without contracts – in a slack market. On an average, just about two-thirds of available deepwater rigs for 2015 have been able to find customers.
Fundamentals Don’t Back a Big Move in 2015
Investors do not see an immediate rebound in the sentiment and expect more punishing times ahead with crude prices in a freefall. With inventories brimming, the commodity is very well stocked. On top of that, OPEC members (like Saudi Arabia) have made it clear time and again that they are more intent on preserving market share rather than attempting to arrest the price decline through production cuts. Therefore, oil is likely to start its downward journey afresh in 2015, piling more misery on the hapless drillers.
In particular, companies with a Zacks Rank #4 (Sell) or Zacks Rank #5 (Strong Sell) like Helmerich & Payne Inc. (HP), Nabors Industries Ltd. (NBR) and Tesco Corp. (TESO) look to be in the most trouble. These drillers have negative returns year to date and has been witnessing downward earnings consensus estimate revisions for the current quarter and year.
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