S&P Downgrades Seadrill Partners (SDLP) to 'B-'; Ratings Placed on CreditWatch Negative

Standard & Poor's Ratings Services said that it had lowered its long-term corporate credit rating on U.K.-domiciled offshore drilling company Seadrill Partners LLC (NYSE: SDLP) and its Marshall Islands-domiciled subsidiary Seadrill Capricorn Holdings LLC to 'B-' from 'B' and affirmed the 'B' short-term corporate credit rating on the two entities. We placed both the long- and short-term ratings on CreditWatch with negative implications.

We lowered and placed on CreditWatch negative the issue rating on the $100 million super senior revolving credit facility (RCF) due in 2019 to 'B' from 'B+', one notch higher than the corporate credit rating. This was co-issued by Seadrill Operating LP and Seadrill Capricorn Holdings LLC. The recovery rating on this instrument is '2', indicating substantial (70%-90%) recovery prospects in the event of a payment default, in the higher half of the range.

We also lowered and placed on CreditWatch the issue rating on the $2.9 billion term loan B due in 2021 to 'B-' from 'B'. This was issued by Seadrill Operating LP and guaranteed by Seadrill Capricorn Holdings. The recovery rating is '3', indicating our expectation of meaningful (50%-70%) recovery prospects in the event of a payment default, in the higher half of the range.

The sharply and potentially long-lasting deterioration of the industry outlook and consequent business risk impact has spurred our downgrade of Seadrill Partners. Because the company is closely linked with its main shareholder, Seadrill Ltd., which has announced funding plans, we are also placing Seadrill partners on CreditWatch with negative implications, reflecting our view of the potential contagion to Seadrill Partners.

We anticipate market conditions will continue to deteriorate at least through 2017, with high uncertainty on industry recovery timing as drastic cuts to capital spending at the level of oil companies could hit offshore drilling for several years, even if oil prices recover ahead of our assumptions. That is because caution at oil companies would likely persist for a certain time. The time magnitude of the downturn and the uncertainty around recovery weighs negatively on our business risk assessment, because competitive advantage is being negatively affected by shrinking backlog, and profitability will, in our view, weaken as contract coverage and unemployed rigs weigh negatively on operating cash flow capabilities and margins. Over time, this could also negatively affect leverage, as we foresee a material decrease in EBITDA, especially from 2018.

The CreditWatch placement reflects our understanding that Seadrill Ltd. will announce funding plans in the first half of 2016.

We believe, however, given the close links between the two entities, that any repercussions could have a material effect on Seadrill Partners and could lead to a further downgrade below our current 'B-' rating. Nevertheless, we note that a positive outcome from the funding plans at Seadrill Ltd. could ease the threat of exceptional negative intervention from Seadrill Ltd.

The CreditWatch also reflects the increased risks stemming from contract terminations in the industry and continued uncertainty around any potential recovery. If there is a continued rapid deterioration, including contract terminations or cancellations, leading us to view the capital structure as unsustainable in the long term, we could also further lower the rating.

The ratings on Seadrill Partners reflect our assessment of the company's weak business risk profile and its aggressive financial risk profile. Our business risk assessment recognizes Seadrill Partners' very modern, high-specification fleet of contracted vessels, but we believe the very weak market outlook will continue to reduce backlog and average remaining contract term. For example, Seadrill Partners' reduced by about 10% each between Sept. 30, 2015, and Feb. 29, 2016. However, we note that, with a backlog of $4.3 billion and an average remaining contract term of 2.5 years, the company still has decent visibility. The increasing risk of terminations and contract cancellations are clearly more likely than in the strong market environment we saw prior to the oil price drop, however. Nevertheless, the contract coverage is sufficient to maintain our financial risk profile assessment at aggressive, as key risks are concentrated in 2018 in terms of operating performance, given that, absent a recovery, EBITDA could fall to materially lower levels, in turn further pressuring Seadrill Partners' financial risk profile.

The CreditWatch placement reflects the possibility that we could lower the ratings on Seadrill Partners by one or more notches if we conclude that the company may be affected by the balance sheet difficulties at Seadrill Ltd.

We aim to resolve the CreditWatch as soon as possible within the next three months, when we have obtained more clarity about Seadrill Ltd.'s funding plans.

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