We upgrade our recommendation on DryShips Inc. (DRYS) to Neutral following our view that the upcoming initial public offering of Ocean Rig deepwater drilling unit will unlock the value of its huge potential. We believe ultra deepwater drilling business will drive the stock price in the near future. DryShips is steadily transforming itself as a drillship company from a drybulk cargo operator. As a result, both the top line and bottom line are expected to benefit from lucrative ultra deep-water oil drilling industry.
DryShips’ first-quarter 2011 financial results fell below the Zacks Consensus Estimates, mainly due to poor performance of the drybilk shipping. Nevertheless, we believe the drybulk shipping rates will increase in the second half of 2011 attributable to a surge in demand for coal in Japan. In the meantime, the stock price has plummeted by more than 38% in last year, which may act as a cushion for further downslide.
DryShips recently exercised the third newbuilding option to construct a 7th Generation Ultra Deepwater Drillship at Samsung Heavy Industries. The company still has one more option to exercise for newbuilding. Ocean Rig currently has an order backlog of more than $2 billion. We believe the demand for deep water drilling services will boost up in near future attributable to recent discovery of several big new deep water oil reservoirs. Furthermore, the U.S. government has resumed the deep water drilling in the Gulf of Mexico. Ocean Rig has high quality drillship fleets, which will enable oil explorers to operate even under harsh environment.
Nevertheless, the drybulk shipping industry is going through a very difficult situation. Despite improving global macroeconomic scenario, the financial condition of this industry is worse than what it was a year or two ago. This is solely attributable to non-economic decision taken by the shipping companies in 2008 just before the starting of worldwide recession. Due to lack of near-term foresight, most of the vessel operators had ordered large number of newbuild ships in several docks. Glut of ships resulted in severe cut-throat price competition. DryShips fiercely competes with other drybulk carriers, such as Diana Shipping Inc. (DSX) and Excel Maritime Carriers Ltd. (EXM).
