Scrap, Baby, Scrap
Also underwriting Noble's ~8.1% dividend yield
SpareBank 1 Markets held a conference in Norway this week. While the offshore drillers have had a difficult start to 2025, Odfjell Drilling has been the industry’s best performer (by far) and its CEO gave his views on what the industry needs to do to navigate a soft demand outlook in 2025. Odfjell’s CEO, Kjetil Gjersdal, specifically noted (i) maintaining price discipline, (ii) consolidation (though not needed) and (iii) “Scrap, Baby, Scrap”
CEO’s in the rig industry love to see competitors scrapping their capacity so this is a biased view but Norwegians know the offshore drilling industry as well as anyone. The global rig market has some lower tier rig capacity that can be reduced while saving drillers meaningful funds on warm stacking costs without materially impacting Net Asset Value calculations. I don’t think the industry needs a lot of scrapping, but there’s maybe ~10% of global floating rig supply that can be reduced given the efficiency of 7G drillships.
SpareBank 1 Markets Offshore Drilling Panel (March 2025): Panel discussion begins at 32:30
(High level takeaways for those that don’t have time to listen)
Norway Harsh Environment Semisubs: This is the exclusive country club of offshore drilling. Dues are expensive but it is a high barrier to entry market due to strict Norwegian standards on drilling rigs. Norway E&P capex looks good through the end of the decade. This is a high utilization market with good dayrates for years to come. Odfjell is a 100% pure-play on these semisubs. Transocean has an underappreciated fleet of seven (7) Norway capable semisubs, although three are international. Northern Ocean is also a pure-play UDW HE Semisub driller with Bollsta and Mira although is still working on improving its balance sheet (progress has been made lately).
Drillships: Waiting on multi-year development projects with commencements in 2026 and beyond leading to 2025 idle time. Waiting on FPSO deliveries and subsea equipment. While Norway E&P’s are in reserve replacement mode, some larger IOC’s are also focused on shareholder returns at this stage. Unfortunately, 2025 will be soft for new project commencements but 7G drillships are key ingredients to FID’s and do not need Brent prices above $75/bbl to support IOC capex.
Jackups: These shallow water rigs are more sensitive to high oil prices than most realize because of how meaningful Saudi Aramco demand has become to jackups. More to come on Borr and Shelf high yield credit analysis as their debt has traded poorly in recent weeks.
Offshore Supply Vessels: Not discussed on the panel but a key to watch for OSV’s will be rig scrapping activity in 2025. OSV’s do a lot of things but servicing offshore drilling rigs is meaningful business for them, particularly PSV’s. If there are fewer active rigs in 2026 and beyond, it may pressure OSV rates and utilization. Stay tuned.
Underwriting Noble’s ~8.1% Dividend Yield
Noble’s equity dividend yield of ~8.1% now exceeds the YTM on its 8% coupon high yield bonds due 2030 (~7.8%) trading modestly above par. I have no financial interest in Noble although as a bond investor, Noble’s dividend gets my attention because it is fundamental cash flow that can be underwritten like debt service on a bond. Investors naturally question the sustainability of dividend yields this high, although Noble’s existing contract book appears capable of sustaining these dividends. DYODD.
The strength of Noble’s fleet includes fourteen (14) 7G drillships, a nice portfolio of jackup rigs and few semisubmersibles. That’s where the majority of its Net Asset Value is attributed. Their fleet also has two (arguably obsolete) Globetrotter drillships, as well as two older generation semisubs uncontracted after Aug ‘25 they acquired as “throw-ins” via the Diamond acquisition in 2024. Noble also maybe has another spare semisub (none are eligible for Norway) and a jackup rig or two they’d prefer to keep long-term, but are possible scrapping candidates if no long-term contracts are attainable. Analysts modeling earnings at the rig-level hate the idle time because its warm stacking costs are meaningful, arguably ~$30mm of annual negative cash flow per warm rig. I believe Noble can save ~$100mm/year of warm stacking cash costs scrapping some of its lower tier fleet while having minimal impact on its Net Asset Value.
Due Your Own Due Diligence: The EBITDA bridge below is my Downside case for Noble and assumes minimal new contracting. Importantly, Noble’s high yield debt does not require principal amortization which provides meaningful cash flow support for the dividend. Absent working capital fluctuations, Noble appears capable of covering its dividend with minimal new contracting although cash savings via scrapping warm, idle rigs may be needed in 2026 considering ~$878mm of projected cash uses via capex, interest and dividends.
Will Noble achieve consensus EBITDA estimate of ~$1.3B in 2026? I believe scrapping a few lower tier assets would likely help although the big question is tied to the timing of demand. Noble may win some multi-year development drilling projects that commence in 2026, but the first full year of EBITDA contribution may be 2027. These projects may be awarded in 2H25 so visibility toward that $1.3B level maybe become available in coming quarters. Noble’s four 7G drillships working for Exxon in Guyana through at least August 2028 have a frame agreement subject to market-based repricing twice a year, making market level dayrates relevant to future EBITDA realization.
Noble’s unsecured HY debt due 2030 (~7.7% YTW) does not require principal amortization payments. While Noble would likely need better clarity on contracting before engaging in buybacks, the driller announced an additional $400mm buyback program in November 2024. Noble is arguably more incentivized to scrap idle rigs to save on warm stacking costs given its potential to buy back equity at low valuations, as opposed to some other drillers that would otherwise use the cash flow savings to pay back debt at par (no discount). Offshore drilling is a volatile industry and Noble does have ~$2B of debt which it can service, but buybacks are likely more prudent if/when contracting progress is made on rigs for 2026 and beyond.
Flattening Futures Curve: As the oil market has become concerned about 2025 supply with the likely addition of modest OPEC+ supply growth, the Brent futures curve has flattened with spot dropping materially more than futures prices. If supply overwhelms demand, the curve most likely shifts into Contango where futures prices exceed spot. In Contango, flexible, short-cycle shale barrels likely reduce with long cycle barrels from Deepwater less impacted from potentially oversupplied markets in 2025, although sensitivity to longer-term futures pricing remains.
In 2015-2016, short-cycle US Shale barrels could grow with IRR’s >10% with WTI in the mid-$50’s. USA’s Permian Basin began its growth trajectory in 2017 when WTI was in the $50-$60/bbl range and accelerated in 2018 when WTI was in the $60’s and low $70’s. These short cycle barrels crowded out demand for deepwater projects at the time. The days of Permian growth with WTI in the $60’s are most likely over although it’s not a stretch to envision Permian growth with WTI above the mid-$70’s. Also, deepwater project costs have reduced meaningfully over the last decade and are arguably barrels that will challenge shale production as the lower cost barrels in future years.
OPEC+ Supply Growth
OPEC+ stated this week its “gradual (production) increase may be paused or reversed subject to market conditions…to support oil market stability”. This is a materially different statement from the aggressive price war announced in November 2014 which caused excruciating pain in following years for the oilfield services industry in both shale and offshore. However, all else equal, the additional barrels from OPEC+ pressure crude oil prices in 2025 although many variables are at play in the volatile oil market. How USA handles Iran regarding sanction relief under a different administration will be a key to watch in global oil markets. Additionally, the Federal Reserve Bank of Atlanta’s GDPNow estimate for USA GDP in 1Q25 is -2.4% as of March 8, 2025. While inventory swings can lead to quarter-to-quarter GDP volatility, if the USA reduces the fiscal stimulus it provided via deficit spending to cushion the blow from monetary policy tightening in 2022-2023, it may pressure oil demand in the short-term. I remain positive on the long-term outlook for offshore energy production although oil price sentiment may be choppy in 1H25 depending on how global supply and demand markets play out.
"fundamental" analysis in the commodity space, whether it's oil, PMs, etc. always has the same vibe: very high conviction opinions by what seems to the outsider as very knowledgeable sources, such as CEOs, etc. that somehow never translates into actual profits in the bank for the hapless equity investor unwise enough to be using it as the basis for trade decisions. In the rear-view mirror, it almost always feels like some variation of three-card monty.
Offshore equity returns have been hideous this year, despite assurances of new cycles, new finds, new tech, etc. For me, the ONLY play that has any chance is their debt, which seems relatively investable (fingers crossed...), producing robust income, and at least a theoretical possibility of return of principal (we'll see...).
In spite of the above, I do appreciate these updates--they are definitely better than operating completely in the dark.
Tommy, thanks as always for your analysis! I'm definitely looking forward to the credit analysis, especially as it relates to BORR. On a related note, is there a general rule of thumb that can be applied for the per day or annual cost of warm stacking a JU rig? This will help me determine how many rigs in BORRs fleet need to be deployed at 150k/d to meet their interest & debt amortization payments. Thanks!