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Oilfield services: Does size matter?

THE CREATION of a $50bn drilling company through the merger of Transocean and GlobalSantaFe has moved closer to completion after the deal received US regulatory clearance last month. But other players are likely to wait and see how the enlarged company performs before going down the merger route themselves.

Under the terms of the $18bn acquisition, announced in July, the assets of the companies will be combined under the Transocean name, significantly increasing the size of what was already the world's largest rig company. In late September, the deal received US anti-trust clearance and is now expected to close by the end of 2007, subject to approval by both firms' shareholders and other regulatory clearances.

The benefits of the merger lie in economies of scale at the administrative and corporate level rather than in terms of making the process of rig building significantly cheaper, because construction costs are largely fixed. The relatively small financial savings to be made from combining the businesses relative to the overall size of the deal contributed to the lack of a significant premium in the merger valuation compared with the market capitalisation of GlobalSantaFe. It is the reduction in corporate overheads that will be the biggest contributor to annual savings, which are projected to total around $150m.

The limited savings to be achieved at the construction level and the success of some of Transocean's competitors despite their smaller size mean that other drilling companies will not necessarily be rushing into mergers. However, they will be keeping a close eye on Transocean to see how big other benefits from the merger, such as possible protection from any downturn in what is a notoriously cyclical market, turn out to be.

"The others companies have all contemplated mergers and acquisitions, but they don't feel that they are at a disadvantage – not yet at least – by not being as large as Transocean. However, they are considering whether that might turn out to be the right approach," says Mark Urness, head of energy research at Calyon Securities in New York.

Companies with big order backlogs may be the most likely to consider mergers, given the potential to boost capital by carrying out a leveraged recapitalisation similar to that involved in the Transocean deal. Calyon analysts say that, with that in mind, the likes of Texas-based players Noble and Ensco could prove compatible, because their backlogs are among the largest. Other companies that sector analysts identify as possible merger candidates include Pride International, Diamond Offshore Drilling and Norway's Seadrill.

"The Enscos and Nobles are pretty viable on a stand-alone basis, but you have to ask yourself whether the scope and breadth of Transocean, in terms of serving customers in multiple markets with multiple rig types is going to be the successful model," says Urness.

There may also be targets further down the chain, especially among the small flock of speculative enterprises, including some Norwegian firms, building just two or three rigs, with no operations infrastructure of their own and hoping to turn a profit by finding a buyer on completion.

Analysts say the cost of rigs is unlikely to be affected by the Transocean merger, as the market still remains highly fragmented. The combined Transocean/GlobalSantaFe may now operate around 120 rigs, but this still represents less than 25% of the global market of some 700 rigs, so rig charges will continue to be determined largely by supply and demand in what remains a seller's market.

Where Transocean does control a sizeable chunk of the market is in rigs that can operate in the deepest water, where it has around half of the 30 or so active drillships. This is a lucrative area, given the high demand for deep-sea equipment. But the company's dominant position in that sector is not set to last; some 20 drillships, as well as different types of rigs capable of deep-sea drilling, are being built by other companies.

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