Oil prices cratered earlier this year. Dual shockwaves -- plummeting demand due to COVID-19 and a short-lived price war between Saudi Arabia and Russia -- upended the oil market, causing a wave of destruction. Several oil companies filed for bankruptcy in the aftermath of that upheaval, with that initial wave driving many more filings over the year.

One of the segments hardest hit segments by this year's downturn was offshore drillers, as a bankruptcy wave engulfed nearly the entire group. Among the few survivors is Transocean (RIG 0.35%). However, given its massive debt level, it might be the next oil stock to file.

Silhouette of an offshore drilling rig at sunset.

Image source: Getty Images.

Drilling down into the problem

Transocean ended the third quarter with $7.8 billion of long-term debt and another $640 million of borrowings that mature within the next year. The company paid $145 million of interest on those borrowings during the third quarter alone. Because of that and other costs, it only generated $81 million in net cash provided by operating expenses during the period. That barely covered the $65 million it spent on capital projects, primarily the funding of newbuild drillships currently under construction.

On the one hand, debt improved by nearly $1 billion from the prior quarter, thanks to a series of moves like debt exchanges. Further, the company ended the period with about $1.6 billion in cash, including $200 million restricted for debt service and about $1.3 billion of available borrowing capacity on its credit facility, giving it roughly $2.9 billion of total liquidity.

However, it has a lot of debt left to address, which will be tough to do given the offshore-drilling sector's current challenges. That's why most of its peers filed for bankruptcy, which allowed them to undergo a court-supported restructuring.

A race against time

Transocean's moves during the third quarter bought it some more breathing room. However, things could get cramped again real soon, given the company's projected financial needs. The offshore driller currently has $1.5 billion of debt coming due through 2022 and another $1.7 billion of capital investments it needs to finance during that period. It will supplement that by generating between $900 million to $1.1 billion in operating cash flow, backed by its strong contract backlog. However, even with those incoming funds, its liquidity could fall to between $700 million to $900 million by the end of 2022.

The company does have some levers to pull that could help shore up its financial situation. For example, it's working to secure $400 million of financing on its Deepwater Titan drilling rig. It's also continuing to work on new debt-exchange offers to reduce its outstanding principal and extend its maturities. These actions would help preserve its liquidity so that it can remain afloat until market conditions improve.

However, Transocean still needs current creditors to accept its debt-exchange terms, which they might not do if they feel the company will end up filing for bankruptcy in the future. Some creditors tried to force the company's hand earlier this year by claiming its bond swaps were akin to a default.

Meanwhile, even if it completes more debt swaps, it won't fix the company's financial problems, as it will still have a significant amount of outstanding borrowings. It will be nearly impossible to get that debt to a more manageable level given the likely long-term downturn in the offshore-drilling sector, which could keep the pressure on rig rates, utilization, and valuations for years. Because of all that, it seems as if it's only a matter of time before the company files for bankruptcy.

The outcome seems inevitable

Transocean faces a daunting challenge. Its near-term maturities and capital-spending requirements have it on track to burn through the bulk of its liquidity over the next two years. Meanwhile, it will still have a significant amount of future debt to address.

Because of these factors, Transocean seems destined to follow its offshore-drilling peers into bankruptcy. Given that bleak future, investors should avoid this stock at all costs.