Why Diamond Offshore Is Struggling to Keep Its Head Above Water

Significantly higher costs to upgrade its fleet and Statoil canceling a rig contract will likely weigh on Diamond Offshore this year.

Jun 9, 2014 at 4:07PM

The near-term outlook for deepwater oil drillers is challenged, to say the least. Despite supportive commodity prices, with crude oil trading near $100 per barrel in the United States, and a sound long-term outlook thanks to rising energy demand across the globe, oil drillers face some significant bumps in the road.

In particular, Diamond Offshore Drilling (NYSE:DO) can't seem to catch a break. Its investors have gotten nothing but bad news over the past month. First, in April the company reported a poor first-quarter earnings report in which several of its key metrics deteriorated.

The latest blow comes from one of its key customers cancelling a significant order. Oil and gas exploration and production giant Statoil (NYSE:STO) recently notified Diamond Offshore it would terminate its drilling contract for the mid-water semi-submersible Ocean Vanguard.

Add it all up, and it's clear that Diamond Offshore is in the middle of a rough patch.

Statoil cuts back
Oil and gas companies of all shapes and sizes are cutting back on capital expenditures, which is confusing for a number of reasons. The global economic recovery, while perhaps more sluggish than most would like, is proceeding at a slow and steady pace. In addition, oil prices are still supportive of growth and aren't having a negative impact. Last but not least, demand for energy continues to increase in the emerging markets, as it seems that developing nations across the world can't get enough oil and gas.

Nevertheless, large and extremely mature oil companies are having difficulty generating satisfactory returns from new projects. They struggle to find projects large and attractive enough to move the needle. And, since investors are clamoring for greater cash returns, companies are turning to harsh cost cuts to boost profitability.

Statoil is the latest example of a company trimming capital expenditures to keep its investors happy. According to Bloomberg, Statoil management is seeking to reduce spending to generate $5 billion per year in cost savings. This includes reducing capital expenditures by as much as 25%, and Diamond Offshore seems to be the first victim.

Statoil is terminating a contract that holds a dayrate of $454,000. Analysts estimate the impact of Statoil's decision to be fairly significant to Diamond Offshore's bottom line. Barron's reports the cancellation could shave approximately $0.33 per share off Diamond Offshore's earnings. That will be somewhat mitigated by an early termination payment the oil driller is likely to receive in accordance with the contract, but it's clear that this is a significant event.

Diamond Offshore was already hurting from the downturn in rig ordering activity. Revenue and net income dropped by 2% and 17%, respectively, last quarter. This is on top of a fairly poor performance last year in which the company's operating profit fell by 17%, driven primarily by higher drilling expenses.

Going forward, investors should be concerned about Diamond Offshore's costs. That's because it plans to double its capital expenditures in 2014 to upgrade its fleet. The company expects to spend $2.1 billion on new-builds and other upgrades.

Management under pressure
Diamond Offshore put up a disappointing performance last year, and things didn't get much better in the first quarter. It's seeing less demand for its rigs, and it's about to spend billions to upgrade its fleet. Now, Diamond Offshore will be under even greater stress since Norwegian oil exploration and production company Statoil has cancelled a significant contract.

The long-term economics of offshore drilling are sound, based on the fact that demand is set to rise, especially in the emerging markets. But not all drillers are created equal. Some will sail through better than others, and it appears that for the time being, Diamond Offshore is at a disadvantage.

Do you know this energy tax "loophole"?
You already know record oil and natural gas production is changing the lives of millions of Americans. But what you probably haven't heard is that the IRS is encouraging investors to support our growing energy renaissance, offering you a tax loophole to invest in some of America's greatest energy companies. Take advantage of this profitable opportunity by grabbing your brand-new special report, "The IRS Is Daring You to Make This Investment Now!," and you'll learn about the simple strategy to take advantage of a little-known IRS rule. Don't miss out on advice that could help you cut taxes for decades to come. Click here to learn more.

 

Bob Ciura has no position in any stocks mentioned. The Motley Fool recommends Statoil (ADR). Try any of our Foolish newsletter services free for 30 days. We Fools may not 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.

Money to your ears - A great FREE investing resource for you

The best way to get your regular dose of market and money insights is our suite of free podcasts ... what we like to think of as “binge-worthy finance.”

Feb 1, 2016 at 5:03PM

Whether we're in the midst of earnings season or riding out the market's lulls, you want to know the best strategies for your money.

And you'll want to go beyond the hype of screaming TV personalities, fear-mongering ads, and "analysis" from people who might have your email address ... but no track record of success.

In short, you want a voice of reason you can count on.

A 2015 Business Insider article titled, "11 websites to bookmark if you want to get rich," rated The Motley Fool as the #1 place online to get smarter about investing.

And one of the easiest, most enjoyable, most valuable ways to get your regular dose of market and money insights is our suite of free podcasts ... what we like to think of as "binge-worthy finance."

Whether you make it part of your daily commute or you save up and listen to a handful of episodes for your 50-mile bike rides or long soaks in a bubble bath (or both!), the podcasts make sense of your money.

And unlike so many who want to make the subjects of personal finance and investing complicated and scary, our podcasts are clear, insightful, and (yes, it's true) fun.

Our free suite of podcasts

Motley Fool Money features a team of our analysts discussing the week's top business and investing stories, interviews, and an inside look at the stocks on our radar. The show is also heard weekly on dozens of radio stations across the country.

The hosts of Motley Fool Answers challenge the conventional wisdom on life's biggest financial issues to reveal what you really need to know to make smart money moves.

David Gardner, co-founder of The Motley Fool, is among the most respected and trusted sources on investing. And he's the host of Rule Breaker Investing, in which he shares his insights into today's most innovative and disruptive companies ... and how to profit from them.

Market Foolery is our daily look at stocks in the news, as well as the top business and investing stories.

And Industry Focus offers a deeper dive into a specific industry and the stories making headlines. Healthcare, technology, energy, consumer goods, and other industries take turns in the spotlight.

They're all informative, entertaining, and eminently listenable. Rule Breaker Investing and Answers are timeless, so it's worth going back to and listening from the very start; the other three are focused more on today's events, so listen to the most recent first.

All are available for free at www.fool.com/podcasts.

If you're looking for a friendly voice ... with great advice on how to make the most of your money ... from a business with a lengthy track record of success ... in clear, compelling language ... I encourage you to give a listen to our free podcasts.

Head to www.fool.com/podcasts, give them a spin, and you can subscribe there (at iTunes, Stitcher, or our other partners) if you want to receive them regularly.

It's money to your ears.

 


Compare Brokers