Fitch Affirms 'B+' IDR on Transocean (RIG); Outlook Remains Negative
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Fitch Ratings has affirmed Transocean Inc.'s (Transocean; NYSE: RIG) Long-Term Issuer Default Rating (IDR) at 'B+'. In addition, Fitch rates Transocean Phoenix 2 Limited's Long-Term IDR 'B+' and senior secured notes 'BB-'/'RR3'. The Rating Outlook remains Negative. A full list of rating actions follows at the end of this release.
Approximately $8.7 billion of debt, excluding the outstanding Eksportfinans loans, is affected by today's rating actions.
The secured debt rating considers the structural seniority of the notes given the lien on the Deepwater Thalassa and certain other assets related to the rig, as well as guarantees by Transocean Ltd., Transocean Inc., and a wholly-owned indirect subsidiary that owns the Deepwater Thalassa, an ultra-deepwater (UDW) drillship operating under a 10-year Shell (rated
'AA-'/Negative Outlook) contract. Issuance of the senior secured notes will unfavorably impact recoveries at the unsecured level, but the existing unsecured recovery ratings have sufficient headroom. Fitch views the guarantee as an additional (secondary) payment support that is essentially a payment put to the extent the Deepwater Thalassa's contracted cash flows are insufficient to repay the secured notes. The supportive contract features, strong operating history, favorable contract performance history between Transocean and Shell, and the six month debt service reserve provide a level of confidence in the Deepwater Thalassa's ability to independently meet its annual debt service. However, contract performance and renegotiation, as well as refinance, risks remain.
Fitch recognizes that the company may continue to issue secured debt in the future that further subordinates existing unsecured debt classes, which could result in additional rating actions. The company, as defined in its indenture, has a lien limitation equal to 10% of consolidated net tangible assets. Fitch estimates the secured lien capacity to be approximately $2.3 billion as of June 30, 2016. The lien limitation provides a carve-out for drilling rig or drillship secured debt. The rig secured debt must be incurred prior to or within 12 months of certain events, including the commencement of a drillship or drilling rig's commercial operations, with the aggregate principal, under the terms of the unsecured guaranteed debt indenture, not to exceed 85% of the cost or price paid (vs. 100% under the unsecured nonguaranteed debt indentures).
The Negative Outlook considers the heightened offshore rig re-contracting risk and the potential for a deeper and longer offshore drilling downcycle than currently forecasted by Fitch. Fitch continues to estimate the recovery inflection point to be the second half of 2018, but understands this may change given the evolving hydrocarbon pricing environment, rig oversupply cycle, and offshore E&P spending trends. Fitch anticipates an uptick in rig tendering activity will lag supportive oil & gas price levels (currently estimated at $65 - $70/barrel for deepwater) by at least six to 12 months. Customer preference towards larger, established drillers could lead to somewhat higher utilization rates for Transocean relative to peers. Day rates, however, are anticipated to remain challenged and range-bound reflecting the market imbalance and economics required to reactivate stacked rigs.
Transocean has undertaken numerous actions to manage its credit profile to date, including the early retirement of debt, elimination of its dividend, deferral of uncontracted newbuild deliveries, proactive rationalization of uneconomic rigs (announced 28 scrapped or held for sale, about 50% of industry total), reduction of operating costs, improvement in rig uptime, and mitigation of Macondo-related credit risks. Fitch expects the company to exhibit a near neutral free cash flow (FCF) profile in 2016 and 2017, as well as continue to retire debt and maintain adequate liquidity over the next couple of years. This should help the company improve its near-term capital structure; however, the declining cash flow and evolving asset profiles in the context of the current offshore rebalancing remain credit concerns.
KEY RATING DRIVERS
Transocean's ratings are supported by its market position as one of the largest global offshore drillers with a strong backlog ($13.7 billion as of July 21, 2016) and floater-focused rig fleet largely contracted with financially stronger international oil companies. The company's high-grading and margin improvement efforts and adequate near-term financial flexibility, including that afforded by the deferral of approximately $1.2 billion in uncontracted newbuild capex payments until 2020, also support the rating. These considerations are offset by the company's continued need to generate and conserve liquidity given the weak offshore rig market outlook, unfavorable capital market conditions, heightened maturities profile, and contracted newbuild capex commitments.
Fitch views management's proactive financial management as favorable. While the recent secured and unsecured guaranteed issuances structurally subordinate the existing unsecured notes, the proceeds have been and are anticipated to be used to help improve the company's maturity and liquidity profiles during a challenged offshore drilling cycle. Further, debt maturity management actions should also help alleviate bank concerns heading into credit facility negotiations over the next couple of years.
Fitch believes the company's current (Fitch calculated year-ended 2015 and June 2016 LTM debt/EBITDA of 1.9x and 2.3x, respectively) and near-term leverage profiles are consistent with a higher rating. However, Fitch forecasts leverage metrics could exceed through-the-cycle levels over the rating horizon as current contract coverage declines meaningfully in 2017 with re-contracting risk elevated in this very weak market environment.
NEAR NEUTRAL FCF PROFILE; LEVERAGE METRICS RISING
Fitch's base case projects that Transocean, excluding cash flows to non-controlling interests, will have a near neutral FCF profile in 2016 and 2017. Fitch's base case results in consolidated debt/EBITDA, excluding cash-collateralized Eksportfinans loans, of 4.4x and 5.9x in 2016 and 2017, respectively. Fitch recognizes that the secured notes, as well as any potential future secured note issuances, structurally subordinate contracted cash flows to service corporate debt and believes that adjusted corporate leverage metrics, excluding rig secured debt and associated cash flows, could rise above the consolidated metrics.
Fitch's key assumptions within the rating case for Transocean include:
--Brent oil price that trends up from $42/barrel in 2016 to a longer-term price of $65/barrel;
--Current contracted backlog is forecast to remain intact with no renegotiations contemplated;
--Market day rates assumed to be $275,000 for higher-specification UDW rigs with other rig classes seeing similarly steep price discounts;
--Fleet composition considers announced rig retirements and attempts to adjust for uncompetitive rigs due to their technological obsolescence, undifferentiated market position, or cost-prohibitive through-the-cycle economics;
--Capital expenditures consistent with company guidance of approximately $1.4 billion and $600 million in 2016 and 2017, respectively, with spending levels thereafter largely based on maintenance capital levels and the current newbuild delivery schedule;
--Equity-funded acquisition of Transocean Partners LLC (NYSE: RIGP) assumed to be completed in Q4 2016;
--Assumes the potential issuance of an additional $600 million note secured by the Deepwater Proteus.
Positive: No positive rating actions are currently contemplated over the near term given the weak offshore oilfield services outlook. However, future developments that may, individually or collectively, lead to a positive rating action include:
For an upgrade to 'BB-':
--Demonstrated commitment by management to lower gross debt levels;
--Mid-cycle debt/EBITDA of below 5.0x on a sustained basis;
--Further progress in implementing the company's asset strategy to focus on the high-specification and UDW markets.
To resolve the Negative Outlook at 'B+':
--Demonstrated ability to secure tenders that constructively contribute to the backlog and cash flows signalling the company's ability to manage the industry's re-contracting risk and bridge its financial profile through-the-cycle;
--Illustrated progress towards management's 2018 liquidity target of $3 billion - $3.5 billion, while repaying scheduled maturities;
--Mid-cycle debt/EBITDA of 5.0x - 5.5x on a sustained basis.
Negative: Future developments that may, individually or collectively, lead to a negative rating action include:
--Failure to manage FCF, repay near-term maturities, and retain adequate liquidity over the next few years;
--Issuance of secured debt that structurally subordinates contracted newbuild cash flows resulting in materially lower corporate cash flows;
--Material, sustained declines in rig utilization and day rates signalling a heightened level of re-contracting and recovery risk;
--Mid-cycle debt/EBITDA around 6.0x on a sustained basis.
ADEQUATE NEAR-TERM LIQUIDITY POSITION
Transocean had proforma cash and equivalents of approximately $2.5 billion, including the senior unsecured guaranteed issuance and debt tender, as of June 30, 2016. The company also had approximately $360 million in restricted cash investments associated with the required cash collateralization of the outstanding Eksportfinans loans and other contingent obligations. Supplemental liquidity is provided by the company's $3 billion senior unsecured revolving credit facility due June 2019, including a $1 billion sublimit for letters of credit. The company had $3 billion in available borrowing capacity on this facility as of June 30, 2016 with the ability to request a $500 million upsizing of the facility, subject to current, as well as any additional prospective banks' willingness to participate. Fitch recognizes that the company has several secured debt options that can be pursued to further improve liquidity.
HEIGHTENED MATURITIES PROFILE
Transocean has annual senior notes maturities equal to approximately $938 million, $532 million, and $980 million between 2016 and 2018. These represent the company's 5.05% senior notes due December 2016, 2.5% senior notes due October 2017, 6% senior notes due March 2018, and 7.375% senior notes due April 2018. This excludes Eksportfinans principal amortization that is cash-collateralized.
Management has been repurchasing debt in the open market over the past four quarters with cash on hand in an effort to incrementally improve the near-term liquidity and maturity profiles by reducing interest payments and capturing a par discount. Over the last four quarters, the company has opportunistically repurchased debt in the open market with a principal amount of $731 million for $679 million, saving approximately $139 million in interest expense through the maturity of this debt. Fitch continues to forecast that the company can largely retire the scheduled near-term maturities with cash-on-hand and FCF.
Additionally, management applied approximately $886 million of the recently issued $1.25 billion senior unsecured guaranteed notes due 2023 to purchase a portion of the 6.5% senior notes due 2020, 6.375% senior notes due 2021 and 3.8% senior notes due 2022. This incrementally improves the longer-term maturity profile, which Fitch believes should help alleviate some bank concerns heading into credit facility renegotiations over the next couple of years.
Transocean, as provided in its bank credit agreement, is subject to a maximum debt-to-tangible capitalization ratio of 0.6x (0.35x as of June 30, 2016), excluding intangible asset impairments and certain other items. Other customary covenants consist of lien limitations and transaction restrictions.
MANAGEABLE OTHER LIABILITIES
Transocean maintains several defined benefit pension plans, both funded and unfunded, in the U.S. and abroad. As of Dec. 31, 2015, the company's funded status was negative $388 million. Fitch considers the level of pension obligations to be manageable, on a mid-cycle basis, and the U.S. benefits freeze helps to alleviate any future pension-related credit risks.
Other contingent obligations primarily comprise purchase commitments totalling approximately $3 billion on a multi-year, undiscounted basis as of Dec. 31, 2015. Purchase obligations are principally related to the company's newbuild program with the majority of obligations over next few years associated with the five contracted UDW drillships. Fitch believes the company may pursue additional secured debt financing, generally consistent with the Deepwater Thalassa secured debt, to help partially fund these obligations.
FULL LIST OF RATING ACTIONS
Fitch has taken the following rating actions:
--Long-Term IDR affirmed at 'B+';
--Senior unsecured guaranteed notes affirmed at 'BB'/RR2;
--Senior unsecured notes/debentures affirmed at 'B'/RR5;
--Senior unsecured bank facility affirmed at 'B'/RR5.
Global Santa Fe Inc.
--Long-Term IDR affirmed at 'B+';
--Senior unsecured notes affirmed at 'B'/RR5.
Transocean Phoenix 2 Limited
--Long-Term IDR rated 'B+';
--Senior secured notes rated 'BB-'/RR3.
The Rating Outlook remains Negative.
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