The Aban Offshore Ltd stock rocketed up 27% on Wednesday to close at Rs1,536. That’s still down 38% from its 52-week high, showing the carnage the drilling rig industry has suffered. But investors are at present focused on a turnaround in the industry, seen from the two new contracts that Aban announced for four of its drilling rigs, which led to the sharp spike in the stock.
The industry has seen a huge drop in demand after crude oil crashed to around $30 (Rs1,464) a barrel. The price no longer justified the frenzied search for oil. With crude oil back above $70 a barrel, companies are back to deep-sea exploration. That is bringing new business for drilling rig owners such as Aban that hire these rigs to the exploration firms. Sinvest AS, Aban’s Norwegian subsidiary, has got three-year contracts for three new jack-up drilling rigs to drill for oil in West Asia. This contract is valued at $603million, or $201 million in a year. Another contract is for a rig to be deployed in Latin America for a little more than two years months, for an estimated revenues of $92 million. Earlier this month, a joint venture in which Aban owns a 50% stake got an 18-month drilling contract at a day rate of $495,000. Rig rates in 2008-09 had fallen by about 30-40% from their levels in the previous year.
But there has also been some recovery in day rates from their lows. Aban has a large part of its fleet already deployed under contracts, some of which will come up for renewal or redeployment. Most of its new rigs were purchased during the boom, at a significant cost. And they are now being deployed at a time when rates are unlikely to reach the boom year levels. That means the firm will have to be content with a higher payback period on its new assets than was originally anticipated.
But these two new contracts will contribute to an improvement in its performance in the second half of FY10, as the rigs are expected to be deployed in the third quarter. In the June 2009 quarter, Aban’s revenue and operating profit grew but higher interest costs led to a decline in net profit. Its debt levels have risen due to its fleet expansion. In FY09, Aban’s gross assets increased by 39% and debt by 27%. It has a debt of Rs16,635 crore against net worth of Rs1,743 crore.
Though its debt to equity is very high, that’s not unusual for this industry. Also, its fleet is valued by the firm at Rs16,600 crore. But high interest costs are pinching during a period of subdued profitability. Meanwhile, the firm is seeking enabling approvals from shareholders to issue fresh equity. The funds could be used to pay down some of its debt. The timing of the new contracts is thus quite opportune. A higher share price translates to lower equity dilution, which in turn contributes to better investor sentiment. Otherwise, the equity overhang itself would have caused share prices to fall further.
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