Long-term North Sea subsea demand…

One of the reasons I don’t believe smaller contractors can survive in the North Sea is the change in rig demand. You can argue, although I wouldn’t, that there is going to be a boom in rig demand that might happen quickly. But for subsea to grow there has to be a CapEx boom, and unless someone can explain to me how that happens without a surge in rigs working then clearly that isn’t happening anytime soon. Funding will run out for marginal contractors long before the rigs generate enough work at this rate given the lag time between rig and subsea projects.

I made the above graph from the Baker Hugher Rig Count. The data is stark and shows that based on current rig levels the UK subsea industry must face a large contraction in construction and tie-in work in the upcoming months. The UK rig count peaked in Jan 2013 at 22 working rigs, that has dropped to 7 in Sep 18. In Norway, as can be seen from the dark blue area, the rig count peaked in Dec 12 at 25, reached that again in Sep 13, and apart from an aberration of 9 in Oct 16 has never really dropped below the upper teens, although there are currently 13 working.

The UK sector has seen peak-to-trough declines far in excess of Norwegian levels where demand has been more constant. There are a host of reasons for this including tax and industrial policy that I don’t want to get into: but the net result is clear that in Norway offshore activity is far less volatile in demand terms. Exposure as a pure UK subsea business means accepting a large decrease in the size of the opportunity.

As a follow-up to my thoughts yesterday clearly this puts Bibby under pressure. Bibby’s core competency of diving is useless in Norway (as the company has no NORSOK compliant dive vessel) and it has been unable to crack the ROV led market against DeepOcean, Reach and Ocean Installer, all of whom have strong Equinor connections and have made substantial local investments. In the UKCS a large amount of the recent rig work has been concentrated on West-of-Shetland work where there is little, if any, diving involved in the projects.

Boskalis recently won the contract for the Tyra redevelopment subsea (including diving) scope. Bibby did the original work on Tyra and it was surely a high profile priority for them to win? IRM diving has never been that profitable but the project work was. Bibby may have a large hedge fund as a shareholder (and debt owner) but that doesn’t help them. Putting that you have your shareholders’ support on the accounts only highlights it is needed to be regarded as a going concern by your auditors (necessary if you aren’t going to write the debt off). As Vard found to their dismay having a large hedge fund back a diving venture is no guarantee of getting paid when they decide to exit the industry. Customers signing large value orders over a multi-year period with Bibby may rightly be nervous that the company has the financial strength to finish their contract. Work-in-progress is merely an unsecured creditor in insolvency event.

It’s not good for Ocean Installer either. Whereas Bibby is a specialist in one area of the market OI is a generalist contractor that relied on a booming market. It has no rigid-pipelay spread or differentiating competitive advantage. Anyone can hire a vessel with a big crane and some shore based engineers and provide exactly what they do. Because of this they are a price taker in a competitive market, and the price at the moment is low. Providing day-rate engineers in China is a fully low-rent activity. Equinor has Reach and DeepOcean and whether they want to support OI as a charity project remains to be seen.

My thesis isn’t complicated (or original): when the market boomed it drew in new entrants as demand expanded rapidly and money flowed through the industry. But now the demand isn’t there and given the scale of the pullback it is the marginal contractors, the ones who entered the industry because of the booming conditions, who will be the first to go. The market adjustment from the supply side of subsea has a lot of adjustment to go before it catches up with the amount of project work that can be generated based on current rig working levels.

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