For the tier 2 contractors summer isn’t coming… a long hard grind beckons…

Back in the dark ages of November 2016 a consensus was forming amongst the more optimistic of the subsea and investment community: things had got so bad there must be an upturn in 2017? M2 raised money from Alchemy, the Nor DSV bondholders did a liquidity issue, SolstadFarstad started their merger discussions, York began acquiring a position  in the Bibby bonds, Standard Drilling went back to the market to buy more PSVs (could they be worth less?), and early in 2017 on the same wave Reach also raised money… what could possibly go wrong? A quick rise in the price of oil and the purchase orders would flow robustly again… risk capital would have covered essentially a short-term timing issue and as the summer of 2017 came things would revert, if not back to 2014, at least some degree of normalcy and cash profitability. Everyone would be positioned for the next big upturn… This wasn’t a solvency issue for the companies involved figured the investors, this was merely a liquidity issue that they could profit from by supplying the needed funds…

Things haven’t quite worked out the way they planned. Summer, in terms of high day rates and utilisation didn’t come last year, and it hasn’t come this year with sufficient force to change much this year, but next year the true believers tell you it will be massive. Bigger than ever. You just need enough money to cover another loss-making winter to get there…

No one can know the future, although I think many of the signs were there, and a lack of any due diligence was a common theme of many of the above transactions; but the real question now is when the industry accepts the scale of the change required and the necessary exit of some capital to reflect new demand levels? Or not maybe? There is so much excess liquidity (that’s the technical term for dumb money) floating around, and the capital value of the assets in  subsea is perceived as so high, maybe another cycle of working capital to burn beckons… but certainly not for everyone. And there will be some mean reversion here but it is looking on the downside not the up.

Alchemy Partners appear to have realised this and seem committed to a quick exit from M2, the sale process appears to be highly geared to an asset only deal. Such a transaction would save them from the timing and cost of issuing a full IM, due diligence, and the time spent negotiating an SPA for a loss-making business that a self professed special situations investor cannot bring itself to commit more to. The first question anyone would ask them would be “why is one of the once great names in UK retsructuring unable to make this work?”.  Reputational risk alone for them argues for a quick process here… With XLXs going for $1.5m used Alchemy may feel they get just as much from a clean asset sale as from any possible going concern basis, when matched with the profits made from being in the Volstad Topaz bond they may not come out too badly here.

Reach Subsea have decided the numbers are so bad that their Q1 2018 results won’t appear on the website. (Reach aren’t the only people playing this strategy; for all their entrenched bureaucracy Maersk Supply can’t seem to find their numbers to put up after Q3 last year either). As a general rule in this market if you aren’t putting up numbers it’s because they are even worse than people feared.

For Reach Subsea one is treated to  the newshub with a few bullet points of “financial highlights”. It is hard to comment without seeing the full financial statements but Subsea World News appear to have seen the full numbers and say that turnover was NOK 114m and operating costs were NOK 101m ROV days sold were up 89% and EBITDA was up to NOK 13.2m. However, losses before tax were up 50% on the same period last year. This could just be an accounting convention as part of the change to a new accounting standard for leases, but with M2 unprofitable, along with a host of other ROV companies, the chances of Reach making money with exactly the same business model and service offering have to be regarded as remote.

The spot market nature of the Reach business is highlighted by the fact that their order book is at NOK 147m (mostly for 2018) which is 10%< of the amount of work they are bidding for in the pipeline. Everyone goes on about tendering but it’s a real cash cost and if you aren’t winning 30% of the work you are tendering for then you are tendering too much and just wasting time and resources. Tendering NOK 1.7bn in work implies Reach Subsea should turnover about NOK 600m this year, with their firm pipeline at NOK 147m in Q1 that has seem a long way off.

All these companies are doing is providing capacity at below economic rates of return and burning OpEx in a way thay ensures the industry as a whole cannot make a profit. Eventually investors, not usually management because these are lifestyle businesses, tire of this. ROV rates are such at the moment that even though most are purchased with only a 20% deposit operators are not making enough to cover the deposit on a new one when they wear out. Eventually the small players get ground out because even if they can survive in operational terms hopes of replacing equipment becomes a fantasy. This is how the industry appears to be reducing capital intensity.

I have expressed my scepticism consistently on the ROV industry on many occassions based on one simply premise: Oceaneering. Oceaneering is the market leader, widely regarded as a well run company and has signficant economies of scale and scope, and even they can’t make money off ROVs. Neither could Subsea 7 in  the i-Tech division… so how on earth are all these small companies going to make money? All they can sell on is price, and there is sufficient overcapacity to ensure the E&P companies play all the tier 2 contractors off against each other. To my mind this is one of the drivers of increased tendering that all the tier 2 contractors claim while their numbers become even worse.

Oceaneering is by an order of magnitude the largest ROV company in the world:

Oceaneering market position.png

And yet with all that scale cash flow is getting worse:

Oceaneering FCF.png

That’s not a reflection of Oceaneering management that is a reflection of market conditions. And if the largest company in the industry can’t get any uplift then the small companies, with no pricing power, are also operating at a significant loss without the resources of the larger companies. Talk of other companies doing a buy-and-build strategy in the ROV market is just laughable given the sheer scale of the top 5 companies controlling more than 50% of the market. Someone got there first 10 years ago, and executed well, this isn’t the market for an imitator it is  the market for large industrial players to grind out market share.

What is happening, and will continue to happen, is that those companies with scale and resources will continue to grind out market share and volume by pricing at whatever they can get (in economics terms below marginal cost) and they can keep this game up longer as they have more resources. It is just that simple.

DOF Subsea, DeepOcean, and Reach Subsea, have within days of each other announced they have framework commitments from Equinor. Such “contracts” (in the loosest sense of the word only) guarantee no work just a pricing and standards level from the contractors. The only obvious economic implication from this contracting method is that Equinor believes it doesn’t need to cap it’s costs going forward as overcapacity will keep rates down. Equinor is keeping it’s options open and help keep some small Norwegian contractors alive to prevent SS7 from Technip from strangling them, but it’s generosity appears limited. (It should also be noted Saipem/Aker appear to be making real moves now to bid the Constellation and Maximus in Norway so even tier 1 rates there look set to suffer.)

DeepOcean is the one company that appears to really be on the point of being regarded as a tier 1 contractor in terms of IRM and renewables scale. Acquisitions at the bottom of the market in Africa and the US, a smart charter of the Rieber vessel, and a large European business with a strong renewables business have probably given it enough scale to be regarded as in a different league now from the smaller companies. But it shows the size of commitment a buy-and-build strategy would require and the industry simply doesn’t have enough inherent profitability to make it worthwhile. A point Alchemy have now implicitly acknowledged and their commitment to the socialist idealogy of helping E&P companies lower maintenance costs by supporting them with investors funds seems to have ended. DeepOcean should probably be regarded as the minimum efficient scale a company in this market needs to be to survive, a vast mountain to climb for any investor coming in this late no matter how cheaply they buy some kit.

For all the tier 2 contractors there is no respite. Pricing pressure will remain extreme, they have identical business models and assets, there is no scope for differentiation, and capacity far outstrips any reasonable expectations of demand inceases. Make no mistake Alchemy won’t be the first to throw in the towel and other investors need to think what they know that Alchemy Partners doesn’t? For as long as the industry can find investors willing to believe the downturn is a normal cyclical part of the oil industry, rather than a secular change where the relationship between the oil price and offshore expenditure has fundamentally changed (a regime shift in econometrics) then this seems to be the only likely outcome.

The MDR and CB& I merger and industry consolidation…

Okay so I clearly got this wrong originally… Congratulations McDermott… to the victor goes the spoils.

McDermott is now takeover proof for at least the next 5-7 years and maybe forever if they can pull the turnaround off. They are on a roll as a company where the low cost execution skills they honed in the Middle East seem more applicable than ever.

In my defence I have seen more hostile takeovers when one of the nuns at a convent tried to take an extra biscuit at morning tea having been told no…What were Subsea 7 thinking? McDermott hired Goldman Sachs to make them impregnable to a takeover… I thought Subsea 7 had a better plan than simply a few days before a merger that people had been working on for months, specifically designed to avoid an eventuality such as this,  firing off a letter saying “Hey if you guys feel like losing your jobs and working for us, why don’t you just drop your whole other idea where you run a bigger company with the upside of looking like heroes if your plan works?”. Unsurprisingly it went down like a future Kanye appearence at an NAACP convention.

I’m genuinely surprised. It never occurred to me they would try and gatecrash a party that late without having a better plan.

The failed Subsea 7 acquisition highlights a big problem in the offshore industry: excess capacity where everybody wants to be the consolidator (naturally) and not the acquired entity. In all markets now there are at least five companies who can deliver any project and in some cases more, and as the larger assets are all global in nature the bigger projects will attract 3-5 serious bids. That is too many for bidding not to be excessively competitive to the point that anything other than breakeven economic profits can be achieved. 30-40% market share is normally considered to be of sufficient scale to have some pricing power yet even at the high-end the industry remains extremely fragmented. The Heerema exit from pipe-lay was the start of the marginal players exiting the market to reduce capacity, but more exits are required with asset utilisation in the 50-60% range.

Consolidation is the answer everyone agrees to excess capacity, but getting there is clearly going to be a very complicated journey. Without it all the scale companies are building on their onshore operations will end up cross-subsidising the offshore installation assets.

 

McDermott and Subsea 7…

Okay so I was too hasty in this post on Monday… When you’re wrong, you’re wrong…

MDR’s rejection of Subsea 7, and some good Q1 numbers,  seems to have sent the stock price down below the Subsea 7 offer and another ~35m shares traded yesterday (25/04). MDR only has 286m shares on offer and over 140m have changed hands in 3 days (up from a daily (30 day average) on Monday of 10m).

You need to be a holder of record on April 4 to vote in the CB&I merger, so anyone buying now I don’t think can vote? Being the US they can definitely sue for review but that looks harder for an offer subject to due diligence. And they can definitely press management to enter discussions, but the share price drop seems to reflect that maybe this is a train that cannot be stopped no matter how good the underlying logic of the counter bid?

Subsea 7 surely know what they are doing here? I have to think deep down they are backing shareholders to vote against the combination next week and enter talks with them. Subsea 7 must surely have sounded out the larger shareholders (Norges Bank and the Government Pension Fund of Norway being two of the top 20)? Subsea 7 are a deal machine and have enough experience to know all these things and my working assumption is that they simply didn’t just float this proposal out there hoping MDR would change their mind as late as 2 weeks before the final vote. The McDermott CB&I deal was so obviously an acquisition to stay independent and they must have picked up on this? This bid from Subsea 7 is must be part of a plan where they must be confident they have the numbers, or a good chance of getting them, or would not waste their time… ?

There is a certain logic in leaving it late to launch a bid as MDR management clearly didn’t want one and Subsea 7 could have faced months of useless negotiations or it was spend driving the price up of a trophy asset and other companies coming in… I spoke to a Saipem shareholder today who told me they have been sounded out about backing a bid should it turn into a sale process…

Was I suffering from a confirmation bias due to my dislike of vertical mergers?

But maybe Occam’s Razor applies here and I am over thinking this…? Maybe this was just a last minute attempt to be invited to a party where the invitation never arrived? In which case disregard my post of yesterday as well. This bid from Subsea 7 appears destined to be the start of a move of tactical genius or a total damp squib…

Blackrock as the 12% shareholder is worth watching here… they have a history of selling shares in offshore contractors at the perfect time (and being cleared of any wrong doing for the sake of good order).

This will be fascinating to watch for a few days to see how this pans out.

Vikings at the Gate…

F Ross Johnson: Well, that LBO stuff is way over my head. I just can’t follow it, Henry.

Henry Kravis: You don’t have to. Bankers and lawyers work it all out.

F Ross Johnson: All I want from bankers is a new calendar every year and all I care about lawyers is they’re back in their coffins before the sun comes up

Barbarians at the Gate

 

“Through all the machismo, through all the greed, through all the discussion of shareholder values, it all came down to this: John Gutfreund and Tom Strauss were prepared to scrap the largest takeover of all time because their firm’s name would go on the right side, not the left side, of a tombstone advertisement buried among the stock tables at the back of The Wall Street Journal and The New York Times.”
Bryan Burrough, Barbarians at the Gate: The Fall of RJR Nabisco

For Chicago Bridge and Iron I am reminded of Danny DeVito (Other People’s Money):

Because have a look at the McDermott share price:

MDR 230418.png

McDermott shares closed on Friday night at 6.05 and then Subsea 7 announced their bid and they have closed tonight at the price Subsea are bidding at… which means “the market” thinks it is going to happen, and maybe at a higher price. Only the details and human factors need to be filled in now.

Over 70m MDR shares changed hands today when the daily average is 10.8m. The share price up 15% in a day. MDR only has 286m shares on issue so well over 25% of the company changed hands today. You can be sure that the institutions buying these shares didn’t buy them as a long term investment strategy to back a company that run boats-and-barges to buy a bridge-building company (not that CB&I really builds bridges I just liked the alliteration). These shareholders are hedge funds, many of whom run merger arbitrage funds, and they want their $7 in cash, and hopefully more if Saipem can man up and launch a counter bid,

The only people selling shares didn’t believe in the merger and are getting out without taking the deal execution risk, and the people holding on want Subsea 7 shares as well as cash so they can keep some of the upside. This is a very hard dynamic for MDR management and advisers to reverse.

Right now some of the best minds at Goldman Sachs, McDermott’s lead financial adviser, are trying to work out how to fend off the Norwegians… and it is not easy because tomorrow the largest of these new investors (and some of the old) will start calling the Chairman, and probably Phillppe Barrill (a Director from SBM and seen as independent), and demand McDermott start talks immediately with Subsea 7 and ditch CB&I. Some of these funds are relatively aggressive. I have no idea about the legal situation here, and tonight some very expensive lawyers will do an all-nighter documenting it, but the fact remains the size of the shareholding change means Subsea 7 is already in the lead in this race.

The MDR/CBI merger always had a weak strategic logic and rationale. Whereas the Subsea 7 one is excellent from both a cost saving and growth perspective. Drop the pipelay spread on the Amazon for example, and assume higher utilisation on the new Subsea 7 newbuild, and you have saved $75m in CapEx and maybe $10m in cost/revenue synergies alone. Subsea 7 can afford to pay more here and Goldman will come under pressure from some shareholders to get them a higher price, which will split them from the management team who hired them. Expect the Board to have to hire another financial adviser tomorrow (a CYA move) who will be paid a success fee on a transaction occurring not just the CB&I one. Think of the cost savings from one organisational structure? Combine the Middle East and Africa powerhouse of MDR with the Subsea 7 SURF and deepwater business? This will be the deal of the downturn and I struggle to see how such an irrefutable commercial logic can be ignored. Hardly an original thought as the MDR share price shows.

Or MDR shareholders could take a chance management can turnaround CB&I? For the fund managers whose Christmas bonus depends on a valuation in 8 months time they will take the $7 a share today rather than risk a declining price in a few months.

Expect some real fireworks this week if MDR push on without opening talks with Subsea 7.

CB&I can look to Gregory Peck:

I’d love to know if this was the plan all along? Years ago P&O Cruises wanted to merge its cruise business with Carnival but wasn’t sure how to get them to pay the price they wanted? So P&O opened merger talks with Royal Carribean, and agreed a $63m break fee, then Carnival came running and Royal Carribean were ditched (the break fee was worthwhile in the greater deal economics). And it was always the plan from the bankers that this would happen.

I don’t think this is the case here. I am not close to it but I get the feeling that MDR really want to be independent and the CB&I deal was about ensuring that not getting the best price for shareholders. But they have achieved the same thing regardless.

Game on… Subsea 7 seeks to gatecrash the McDermott and CB&I merger…

Subsea 7 is seeking to gatecrash the McDermott and CB&I takeover

I said at the time this was a purely defensive merger for MDR, who just didn’t want to get swallowed by GE. So this is effectively a hostile bid by Subsea 7 who must know MDR management well enough to know that they want to be in control not an acquired entity. The publicity around this means they have effectively gone directly to the MDR shareholders having been given the cold shoulder by the MDR Board.

A Subsea 7/MDR industrial combination makes a lot more financial and strategic sense than putting MDR management in charge of a turnaround job in a sector they have no experience in (despite their obvious competence in offshore). Subsea 7 are also unlikely to have done this without engaging an investment bank to sound out some of the key US shareholders and see how receptive they are to this.

Outside of the Middle East this takeover will be paid for with synergies that will see Susbea 7 takeover everything and massive cuts in staff numbers to McDermott. McDermott have won market share lately though because their DNA is to be more cost focused than some other companies, they have a vast technical and operational heritage, Subsea 7 will need to ensure they don’t try and make the company more like them in the Middle East for this to work. But I believe they are backing themselves for a full hostile takeover here and on a purely economic basis they should prevail.

McDermott buys Chicago Bridge and Iron…

“Chicago Bridge and Iron is not based in Chicago, doesn’t make bridges, and uses no iron”.

Anonymous

 

We argue that mergers and merger waves can occur when managers prefer that their firms remain independent rather than be acquired. We assume that managers can reduce their chance of being acquired by acquiring another firm and hence increasing the size of their own firm. We show that if managers value private benefits of control sufficiently, they may engage in unprofitable defensive acquisitions.

Gorton, Kahl, and Rosen, 2005

 

If you want to have a look at what signals the insiders in offshore SURF are sending, and that major shareholders are supporting, look no further than McDermott (“MDR”) acquiring Chicago Bridge and Iron (“CBI”). MDR, which had $435m cash on hand at Q3, generated $155m EBITDA in the quarter, and is widely regarded as a very well run company, brought a declining onshore construction and fabrication house (with a small technology arm). No wonder the shares dropped 9% in aftermarket trading while CBI rose.

What it means is that a well informed group of rational senior executives in the offshore industry, in a company with ample liquidity and investment capability, decided the best option for growth and shareholder returns were for them to diversify onshore in the US. I don’t think that rings of confidence for an offshore recovery. At the moment anyone with enough financial capacity to charter ships (at below economic cost) and hire engineers can win market share. It is obvious what that will do to financial returns and why therefore companies are looking at different sources of growth and not recycling cash flow generated from the industry back into it. Over the long term this is part of the story of how the offshore industry will lose the capital it needs to in order restore the market to equilibrium.

This is a defensive merger. MDR was simply too small not to be acquired as part of a major acquisition had it remained independent (part of the reason the shares have dropped is the loss of the “acquisition premium” in their value), but it also needed to pay in shares only to keep its operating flexibility in this market. MDR was just big enough to raise the needle signficantly for someone else, but not large enough to buy an industry leader or number two. MDR had the choice of going on a shopping spree of SURF companies, maybe Aker Solutions or someone, and then trying to compete with Susbea 7 or FTI, and slowly over time getting materially bigger, risk being acquired as the industry consolidates, or buying something big and leveraging up so as to make it to big and risky to be acquired. The short-term risk was someone like GEBH, having failed to acquire an installation capability with SS7, deciding MDR was large enough to swallow. I’d love to know if the Board instructed one of the banks to sound out other bidders instead of this? I suspect instead that Goldman Sachs, lead adviser to MDR, was brought in with a specific mandate to keep MDR independent and CBI was the company they settled on.

Clearly, and having sounded out the shareholders as well, MDR management have decided that the least risky option, or at least the deal that could be done, was onshore US, a business about which MDR management have limited exposure. Whether consciously or  not, the fact is MDR management couldn’t find enough value, on a risk weighted basis, to carry on investing in offshore.

MDR management decided to diversify, a so called “vertical merger“. Financial markets generally dislike verticals, which have a limited range of situations when they are likely to be profitable, preferring to believe shareholders are better at diversifying individually than company management. However, financial economists have spent a huge amount of time studying M&A, and from what I can ascertain all they really agree on is that returns are hugely dispersed around the mean i.e. sometimes it works and sometimes it doesn’t:

[o]n balance, one should conclude that M&A does pay. But the broad dispersion of findings around a zero return to buyers suggests that executives should approach this activity with caution.

 

I get why it was done I think: scale. Cynical theories abound in economic research:

What, then, is the motive for the widespread and persisting phenomenon of conglomerate mergers? In this study, a “managerial” motive for conglomerate merger is advanced and tested. Specifically, managers, as opposed to investors, are hypothesized to engage in conglomerate mergers to decrease their largely undiversifiable “employment risk” (i.e., risk oflosing job, professional reputation, etc.). Such risk-reduction activities are considered here as managerial perquisites in the context of the agency cost model. [Emphasis added]

In this case the argument is really that increased scale will help the offshore business as a standalone unit with lower unit costs being spread over a large company. If management can make it work, and they prove to have swooped on CBI in a moment of weakness, then everyone will be happy. That isn’t really my point with this: it is my agreement that offshore contracting/SURF still has excess capital at an industry level and I agree with MDR management that in the current environment deploying more, even at current price levels,  looks hard to justify.

So rather than hold out for an acquisition premium, or try and build up slowly, MDR management have made the company virtually impregnable to being acquired, for a few years anyway, and if they can turnaround CBI as they have done with MDR the risk will be worth it.  But I also think it sends a signal that management have far more confidence in the lighter CAPEX onshore market than they do about the offshore market, and even though they had the opportunity to buy a string of assets and companies at rock bottom prices MDR management (with the support of the Board and shareholders) decided it was less risky to buy an onshore construction business. That is consistent with the investment profile of many E&P companies who are cutting offshore investment in favour of onshore.

I think that this M&A decision tells you a lot about what those actually making the investment decisions in profitable offshore companies think about the market direction and the risk weighted returns available from it, for the forseeable future. MDR are backing themselves to apply the lessons learned in the downturn to another business rather than applying it to more businesses in the sector.

The Economics of Constraints and (Really) Deepsea Diving…

It’s a poor sort of memory that only works backwards.

Lewis Carroll, Alice in Wonderland

In historical events what is most obvious is the prohibition against eating the fruit from the tree of knowledge.

Leo Tolstoy, War and Peace

One of my frustrations with offshore/SURF is that despite the mathematics of engineering and economics being the same, both are really optimisation problems, there is precious little of the latter influencing the former in offshore. A classic case of this came in Frontrunner today where there was an attempt at a serious discussion about diving below 300m. Now I accept that this is technically possible, lots of things are technically possible, for a billion dollars you can probably get NASA to take you on holiday to the moon, but because not that many people want/are able to spend a billion dollars on such a holiday there are very few companies offering this as an economic choice. If money is not a constraint then you have few constraints, but in economics and business money is always a constraint.

Diving at up to 600m is definitely technically possible, but it would be economic lunacy. Don’t get me wrong if I was an equipment supplier I would want to believe it was possible as well, but that doesn’t make it viable. There are so many realistic economic and organisational constraints on this I can’t be bothered going into them all, but here are a few, all of which are complete showstoppers:

  1. There is no market: the list of marginal field developments that could be made viable between 300-600m of water if a DSV could be used is minimal, even on a global basis. Most shelves drop off completely below 300m and there simply no proof that there are suitable reserves that could be tapped by this technology
  2. In order to service this (non) market you would have to build a 600m capable DSV completely at risk (which is admittedly what UDS claims to be doing), budget $160-185m, then prove the technology and procedures, which will be months of testing and practice dives etc, and only then be ready to sell it, all the while burning vast amounts of risk capital. Then you would need to get a bunch of global oil companies to change their entire HSE approval process, which will take years, and get this to coincide with a project approval process. This strikes me as an enormous barrier because even if you could prove this worked there is no demonstrable evidence of the long-term health effects on the divers and you risk creating an abestos like residual legal claim on the oil companies (as the diving contractor may be bankrupt) for approving this. And then, and only then, years after building a 25 year asset and burning through working capital you might, just might, win a project competitively tendered against an ROV solution. That is without going into IMCA, class, various regulatory agencies etc. All this for a project whose financial upside must by definition be capped at what a comparable ROV service could deliver the project for. So a venture capital investor has no possible way of making a returns in the 100s of % to cover the risk. Literally nuts.
  3. ROVs are currently oversupplied and operating below their capital cost, and are likely to for an extended period, so not only would this harebrained plan have to compete for work against the above constraints it would have to with competitors who will be selling at below economic cost

If you speak to divers who go below 250m they will tell you the joints hurt and they really notice the pressure. It is not a popular depth to dive at. Subsea 7 and Technip now have special dive procedures in place for anything over 200m and there is enormous resistance to diving over this depth level even if you could prove what it costs. Changing this organisational inertia for marginal benefits only just don’t represent a viable economic time/cost trade-off.

This is just a classic case of someone trying or thinking of doing something because it is technically possible not because there is any economic rationale to it. The idea is so DOA from an economic perspective it doesn’t bear serious analysis.

SOR also make the following highly questionable claim:

Sources close to the scene, suggest BP’s huge west of Shetland Quad -204 redevelopment might have cost a third of the total bill if the project could have used divers. [Emphasis added].

Now the best estimate of the costs I have is £4.4bn ($5.7bn), but that includes drilling, fabrication, control modules, a FPSO etc. Traditionally the SURF installtion scope is 10-15% of the total project budget, so at best what I think SOR mean is they could have saved 1/3 of this… so maybe 5% of the total budget. But that is a pretty minimal saving in the scheme of things and exposes the installation to a lot more weather and other operational and contractual risks. For a 5% saving on the overall cost you would have exposed yourself to having a minimal choice of assets to complete the task and run the risk that all future OpEx operations would have to be done by divers (i.e. no ROV handles) and that needs to be factored in to the total economic cost.

[But if I am wrong I am happy for SOR to publish some more detailed information to correct my erroneous logic and I will happily publish a correction having been suitably educated].

But again the Quad 204 cost statement avoids the economics of this situation: if Quad 204 was going offshore in 2014, when every North Sea class DSV was operating at capacity the job would probably have cost more because DSV rates were at a premium. Re-bid the job now and you might get a different answer. Markets are dynamic not static. So there “might” have been a saving, but there is a much smaller North Sea class DSV fleet than ROV fleet that “might” have been busy, or it might not, and the saving would have been dependent on that. And surely the losing contractor would have gone back and offered to make such a substantial saving? But whatever the situation it would not have transformed the economics of a project the size of Quad 204 as suggested.

Interestingly the whole Frontrunner is relatively bullish on diving. Although, frankly any previous investors in vessels backing MEDS would be amazed if their ability to get hold of a vessel should be seen as a sign of confidence in  the market given the losses they have suffered on the Altus Invictus and Altus Extertus (disclosure of interest: I was a Director of one such company). I don’t think SAT diving is going to go away, that isn’t what I am arguing at all, but until significant CapEx projects involving DSVs return to the North Sea then the market on any reasonable basis remains over-supplied and day rates and utilisation levels will remain under huge pressure.

SOR has been at the forefront of reporting the creditors involved in the rescue of Bibby Offshore and I’d be interested to know if they have a consulting relationship with any of the bondholders who they have named? Either someone very close to the deal is speaking to them or they are working on this deal… And you would really have to believe in a degree of bullishness about diving that isn’t grounded in current market reality to buy into the Bibby deal at current value levels…. And frankly any financially rational actor would be more than a little nervous now Boskalis have the Nor vessels… contracts for small DSVs in Brazil won’t save the North Sea market…

I am wondering if a lack of clear economic thinking has permeated the deal for the investors, maybe they have been blinded by perceived benefits such as 600m diving, because when you have to get management to warrant that:

  • Within the next 7 days, Bibby Offshore will appoint an independent consultant on behalf of the noteholders to support management on the ongoing cash flow management and transition of the business to the new shareholders.

you clearly don’t have a great handle on the business or what you plan to do with it. This could well be a classic situation of the “Winners Curse” in M&A.

At the time I had worked with two seperate hedge funds who were also looking at the deal. We valued the business at ~.08 – .15 of the outstanding bonds (£14.0 – 26.5m) reflecting the new working capital required. Different people have different perceptions of value and therein will lie the answer to who makes money on this deal. A 2 x North Sea DSV operation, focused only on being a low cost operator, was the plan. In order to get to a bigger number you need to back a platform business to expand. No one outside of the large contractors has made diving work on a global basis as there are no economies of scale and procurement is all regional and follows different standards. So in order to recover £115m Enterprise Value York & Co., are backing a subscale, loss-making business, in an industry that is consolidating with large competitors, in a market with huge cost pressures. Traditionally that has been a poor route to value creation… but it is also true that counter cyclical investments generate huge returns. The hard part here is that because of the lead times for projects (which are well documentted), and Bibby’s own investment documents show, this is a market forecast to grow at CAGR c. 7%… roll the dice…