Why You Shouldn't Be Worried About Transocean's Ugly Report

Transocean's (NYSE: RIG  ) fleet status report for the month of July, released on July 16, did not make for good reading.

The company revealed that two of its new ultra-deepwater drillships were experiencing delayed contract commencements. The two ships in question are the Deepwater Asgard and Deepwater Invictus, both of which are contracted out, but will now not see their contracts start until the third quarter.

The Deepwater Asgard is contracted out at a rate of $600,000 per day and the Invictus is contracted out at a rate of $595,000 per day to BHP Billiton.

This was not the only bad news Transocean revealed within its fleet update. The company also revealed that the Transocean Amirante would be out of action for 168 days, in anticipation of a potential future contract.

Unfortunately, these are two big blows for Transocean. The two new drillships are part of the company's new build program and their delay will crimp earnings for the year. Indeed, a day rate of $600,000, or around $1.2 million for both units, is a big loss for Transocean. Further, the additional down time for Amirante will increase costs while reducing income, although if the unit gets a better contract as a result of the overhaul conducted during the down time, the extra spending could be worth it. 

Still, while this is a setback for Transocean, it is only likely to be a short-term setback. Over the longer term Transocean's market leading position should filter through.

Well positioned for the long term
Transocean has the world's largest rig fleet of the offshore drillers, with 92 units in operation and under construction. Where the company really leads is the ultra-deepwater floater market.

At present, Transocean owns 29 ultra-deepwater floaters, nearly 50% more than closest peer Seadrill's (NYSE: SDRL  ) 21.

Why is this exposure to the ultra-deepwater floater market important? Well, as oil becomes increasingly hard to find, companies are being driven to ever more hostile environments in order to find the black gold.

Ultra-deepwater units possess the ability to drill down more than 5,000 feet, a need that has risen during the past ten years. This quote from the EIA regarding drilling in the Gulf of Mexico, published back during 2010, really sums up the situation:

GOM oil production began from shallow water fields (water depth of under 1,000 feet) but shallow water production began to fall in 1998. Steadily increasing volumes from deepwater fields (water depths between 1,000 and 4,999 feet) offset these declines until 2004, after which deepwater production also began to decline. But, ultra-deepwater production (water depths more than 5,000 feet) has risen dramatically since 2004 (and more than tripled since 2005), stemming the overall decline in GOM Fed production...

So, ultra-deep has become the new shallow.

In total, Transocean has just over 35 ultra-deepwater water units, Seadrill has 32. That being said, Seadrill does have one large advantage over Transocean, age.

New tech
In any industry, there is always the need for the most technologically advanced equipment. This could be anything from more fuel efficient engines, to diamond tipped drill bits. It is exactly the same in the offshore drilling industry. New technology is always hitting the market and only the newest drilling units have the newest tech installed.

The latest technology to hit the market is dual-gradient drilling, or DGD which is changing the drilling market for the better. DGD enables better drilling navigation and control, allowing for greater depths and the simplification of well construction. As of yet, only a few rigs have this technology, but it's a great example of how technology is shifting across the industry.

With this being the case, the newest drilling units are the most in demand. Unfortunately, Transocean's fleet is aging, with the company's average drilling unit age being over ten years. Seadrill's average age is around five years. So, while Transocean may have the bigger fleet, Seadrill's services are likely to be in greater demand.

Still, Transocean's newbuild program should help reduce the average age and the company is looking to shed some older assets. So, as these changes work through the fleet will become more relevant.

Foolish summary
So all in all, Transocean's recent revelation that two of its newbuilds are delayed is worrying and will set the company back for the year. However, over the longer term, with its large fleet of ultra-deepwater drilling units, Transocean's services will be in demand and the company is set to profit.  

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