Transocean Ltd. (NYSE: RIG) is not in a unique position at all in suffering from low oil prices. Unfortunately, that will not cloud the issue that Transocean just lost its “investment grade” rating at Fitch Ratings. It is now considered as at “junk bond” status at this ratings agency. While this is not an equity rating, and while there are still many positive issues here, Transocean’s shares fell sharply from Thursday’s opening bell.
In this downgrade, Fitch lowered Transocean and its affiliate’s long-term Issuer Default Rating and senior unsecured ratings to BB+ from BBB-, and the Rating Outlook has been revised to Stable from Negative. Note that it was back in February that Moody’s downgraded Transocean’s credit rating to junk status, and Standard & Poor’s did so back in March.
Approximately $8.8 billion of pro forma debt is affected by Fitch’s rating action, but that excludes outstanding Eksportfinans loans and considering the July 2015 early debt retirement.
Thursday’s credit rating downgrade was based on Fitch’s view that the combined effects of weak oil prices and an offshore rig oversupply cycle bringing higher revenue risk likely resulting in “leverage metrics exceeding Fitch’s through-the-cycle levels over the rating horizon.”
Fitch did note that it recognizes that Transocean has taken many actions to protect credit quality:
- Early retirement of debt
- Proposed cancellation of the third and fourth instalments of its dividend
- Deferral of uncontracted newbuild deliveries
- Rationalization of legacy rigs
- Mitigation of Macondo-related credit risks
Despite this latest rating action, Fitch expects the company to exhibit a positive free cash flow profile. It also sees Transocean continuing to retire debt and to maintain adequate liquidity in the near term.
One note that stands out here is that Fitch said it views Transocean as an eventual consolidator that will enhance the company’s long-term competitive position and credit prospects.
Thursday’s downgrade noted:
Fitch believes the company’s current and near-term leverage profile (Fitch calculated 2.8x latest 12 months [LTM] debt/EBITDA as of June 30, 2015; Fitch base case forecasts consolidated debt/EBITDA of 2.7x in 2015) are consistent with a ‘BBB-‘ rating. However, Fitch forecasts leverage metrics exceeding through-the-cycle levels over the rating horizon as higher contracted day rates begin to roll-off and lower market day rates become a larger revenue contributor beginning in 2017.
Offshore drillers continue to face depressed market conditions due to lower demand and a significant oversupply of rigs, including newbuilds. The over 50% drop in oil prices has compounded the effects of the oversupply cycle resulting in weaker market dayrates than previously expected. Fitch’s base case assumes market dayrates for high-specification ultra-deepwater rigs of $300,000/day over the near term. This is a downward revision from our previous base case estimate of $325,000/day due to the increasingly competitive contracting environment.
While Fitch has many assumptions, there is one that may be of concern to that “Stable” rating. Fitch’s commodity price assumption is that the Brent crude oil price trends up from $55 per barrel in 2015, up to $65 per barrel in 2016, $75 per barrel in 2017 and a longer-term price of $80 per barrel. What if that proves too aggressive?
Transocean shares were last seen down 4.6% at $15.60 in Thursday’s mid-morning trading session. Transocean has a consensus analyst price target of $11.76 and a 52-week range of $11.26 to $31.11.
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