The Emporers New Clothes… Seadrill Redux…

As a quick update to my last post on Seadrill (in which I was making a semi-serious point). I had a quick flick through the Seadrill 6k so you don’t have to… But first a little background… this post I wrote in April last year “Seadrill restructuring… secular or cyclical industry change?” seems to have aged well. In particular I noted:

[According to their restructuring plan in] 2019 Seadrill needs to grow revenue 65% to lose $415m of cash after turning over $2bn. In 2020 Seadrill then needs to grow 40% again, and only then do they generate $25m after meeting all their obligations. A rounding error. A few thousand short on day rates or a few percentage points in utilisation adrift and they will lose some real money.

Have another look at their business plan they had released in April last year:

Seadrill forecast P&L 2018.png

How is that “forecast” on revenue going? Seadrill did $302m in Q1 2019, which if they keep at that level is a rounding error above 2018. But it is more than 30% less where they thought they would be only a year ago. It’s not that long ago to be like $600m (of only $1.9bn) out… just saying… it’s more than a minor forecasting error… (go back and look at my post they were already downgraded and had been based on numbers supplied by a reputable IB with an analyst who currently has a Buy rating on SDRL).

Now just be to clear Seadrill was also forecasting they would generate $721m in EBITDA (a proxy for cash flow and an ability to service their debt). We have now passed the Q1, where they generated $72m, and guided $60m for Q2. So if we annualise that (which is generous as they got an unexpected $12m in Q1) they are on target for (max) $250m; around 1/3 of what they thought.

The $7.2bn of debt remains of course and was the (only?) accurate part of the forecast. Immovable and a testament to the willingness of humans to believe something that cannot possibly be true.

The numbers are clearly a disaster. The business plan above is a fantasy and Seadrill is heading for Chapter 22. Relatively quickly.

If you’re interested here’s how bad it is:

Seadrill actually did less revenue last quarter than the one the year before:

Seadrill Revenues Q1 2019.png

But had the same number of rigs working:

SDRL rigs working Q1 2019.png

And therefore the obvious… day rates have dropped…

SDRL Day Rates Q1 2019.png

And that is your microcosm for the whole industry offshore and subsea. Excess capacity means that even if you can find new work it is at lower rates.

Also, and I keep banging on about this, what are they going to do when Petrobras starts handing back the PLSVs this year? DOF’s are in lay-up, and there is no spot market for PLSVs. The equity in that JV is likely zero. Even if Petrobras does start re-tendering for PLSVs (unlikely given the drop in the number of floaters working) all that beckons is a price war with DOF to get them working. Anything above running costs will be a victory if the vessel market is a guide.

It goes without saying that in a price deflationary environment it is only a question of how long the banks can pretend they will be made whole here. SDRL isn’t going to get to $1.9bn in revenue this year and it certainly isn’t getting to $2.6bn the year after unless they change their reporting figures to the Argentinian Peso.

When I have more time I will explain my point on this more… but in the meantime be reassured the 23% drop the other day was  not an anomoly. The real question is why it took so long (and yes I do have a theory:). The investment bankers dream of someone buying Seadrill almost as much as Seadrill’s lending banks, but I find it highly unlikely (but not impossible) someone will make good $7bn in debt, and putting to stones together doesn’t mean they will float.

But the core point is that this is part of a deep structural change in the oil production market where offshore is not the marginal producer of choice any more. Previously that meant short-term oil price effects had a large (extremely pro-cyclical) effects on an industry with a very long-run supply curve, and this was combined with a credit bubble between 2009-2014. If my theory is right, and it has held up well for the past few years, then the much predicted,  but never appearing, demand-side boom will remain the Unicorn it has been for the past few years: a chimera that only appears in investment bank and shipbroker slide-decks.

That marginal producer is the now that shale industry a point Spencer Dale made a very long time ago now:

An important consequence of these characteristics is that the short-run responsiveness of shale oil to price changes will be far greater than that for conventional oil. As prices fall, investment and drilling activity will decline and production will soon follow. But as prices recover, investment and production can be increased relatively quickly. The US shale revolution has, in effect, introduced a kink in the (short-run) oil supply curve, which should act to dampen price volatility. As prices fall, the supply of shale oil will decline, mitigating the fall in oil prices. Likewise, as prices recover, shale oil will increase, limiting any spike in oil prices. Shale oil acts as a form of shock absorber for the global oil market.

Ignoring this fact lets you produce a “Key Financials” slide that bears no obvious relationship to how the market is really going to evolve. There is a lot of pain to come for the offshore industry as the need for banks to make painful writeoffs starts to permeate through the system and finally even more painfully capacity will be permanently removed from the market. This is an industry that needs significantly less capital and capacity to generate economic profits. And as I say: this is the recovery.

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