Ahead of the fourth quarter and year-end 2011 results, we have upgraded offshore drilling giant Transocean Ltd. (RIG) shares to Neutral from Underperform.
Switzerland-based Transocean is the world’s largest offshore drilling contractor and the leading provider of drilling management services worldwide. The company owns, has partial ownership interests in, or operates 137 mobile offshore drilling rigs. Transocean’s drilling fleet consists of 47 high-specification deepwater floaters, 25 mid-water floaters, 9 high specification jackups, 53 standard jackups, and 3 other rigs utilized to support offshore drilling activities worldwide. Additionally, the company had one ultra-deepwater drillship and 3 high-specification jackups under construction.
Transocean – scheduled to release its financial results on February 28, 2012 – recently won a favorable court verdict in the Deepwater Horizon rig disaster. The company, whose ultra-deepwater Horizon drilling platform contracted to British major BP Plc (BP) sank following a fire and explosion in the U.S. Gulf of Mexico in 2010, had been struggling with the ensuing uncertainty regarding its potential liability exposure. However, a federal judge in Louisiana ruled in January that the company is not liable for some of the cleanup expense that could have run into tens of billions of dollars. We believe this removes at least some overhang from Transocean’s future.
We acknowledge that operational issues – such as the decline in utilization rates and high operating costs – have held the company back. We also remain worried about the offshore driller’s high debt and the announced dividend cut. However, with its technologically-advanced and versatile offshore drilling fleet, strong backlog and considerable pricing power, the company offers an unmatched level of earnings and cash flow visibility. Nevertheless, we expect Transocean shares to remain soft until it fully works its way through claims related to the BP oil spill.
As such, we expect the company’s growth potential to be restrained with little room for meaningful upside from current levels. Our new long-term Neutral recommendation is supported by a Zacks #3 Rank (short-term Hold rating).
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