The Largest Shipping Conglomerate Weighs In on the State of the Drilling Industry

The Maersk Group believes that the offshore drilling industry is heading for trouble: bad news for Transocean, Seadrill, and Ensco.

May 30, 2014 at 10:24AM

Echoes abound on Wall Street concerning the state of the offshore drilling industry. The bulls and bears have been at loggerheads for months now. However, the world's largest shipping conglomerate has recently weighed in, and the company agrees with the bears.

Incoming storm
Since the end of last year, Wall Street analysts have been issuing negative outlooks for the offshore drilling sector, with some stating that earnings of industry leaders, such as Transocean (NYSE:RIG), Seadrill (NYSE:SDRL), Diamond Offshore (NYSE:DO), and Ensco (NYSE:ESV), could fall by as much as 30% during the next few years.

So far, this slowdown has failed to materialize as Transocean, Ensco, and Diamond have all reported first-quarter results that came in ahead of forecasts.

Now, one of the largest players in the world of shipping has entered the debate, and it believes that things are about to get a lot worse.

Market forces
The Maersk Group is one of the world's largest shipping conglomerates, so it should know a thing or two about the market.

Claus Hemmingsen, the CEO of Maersk Drilling, believes that a slowdown in the rig market is imminent and could last much longer than 12 to 18 months Wall Street predicts. He feels that the slowdown could last until 2018, which would be bad news for many operators.

The problem is that new rigs are coming to market with no projects for them to work on. According to Hemmingsen, "With every quarter that goes by with next to no new projects sanctioned and next to no new deepwater rigs contracted, the recovery is pushed out a little bit."

According to analysts at Barclays, 13 new rigs, which are all due to enter the market this year, are still without contracts. That's bad news for their owners, who will have to pay to keep the units in operational condition, as well as covering interest payments on the debt used to fund the acquisition of the units.

What's more, Hemmingsen has commented that rig day rates are likely to fall to about $500,000, from a high of $650,000 reported at the highest point last year. This forecast is only slightly out from the figures Barclays was putting out at the beginning of this year, forecasting a 30% decline in day rates this year from last year's peak.

Still, it wasn't all doom and gloom from Maersk Drilling. The company estimates that by 2018 much of the drilling market will have recovered. In Hemmingsen's words, "The projects are there and the economy is gradually picking up."

The company believes that day rates will recover to the levels seen during 2013, by 2017 or 2018.

Good and bad news
A recovery is always good news, but 2018 is still four years away, and that's a long time for investors to be grappling with falling returns.

What's more, as drilling contracts tend to last for a period of several years, it's likely that many companies will be left with low-earning contracts signed during the next few years, when rates are low. Of course, this is a double-edged sword, and any contracts signed last year will help keep earnings higher during the slowdown.

Still, looking at Maersk's forecasts, it could be the end of the decade before the overhang in the rig market is cleared and earnings start to rise again. 

Foolish summary
The bulls and the bears have been arguing about the state of the offshore drilling industry for some time now, but these comments from the world's largest shipping conglomerate should be taken into account. 

Unlike analysts on Wall Street, Maersk knows how the industry operates and is able to sense industry trends. With this being the case, and given the company's negative outlook on the industry, it would be reasonable to assume that the offshore drillers are entering a period of uncertainty.

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Rupert Hargreaves has no position in any stocks mentioned. The Motley Fool recommends Seadrill and owns shares of Seadrill and Transocean. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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