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Slew of M&As Instill Hope: Is the Drilling Space Recovering?

Zacks Equity Research
Within a span of less than a week, two major deals have been announced in the drilling industry, validating the fact that consolidation is gathering more steam.

With the energy sector emerging from the crude slump and debt-driven overhaul, renewed interest in merger and acquisition (M&A) activities in the drilling space is finally raising hopes for the industry’s recovery.

Within a span of less than a week, two major deals have been announced in the drilling industry, validating the fact that consolidation is gathering more steam. The latest announcement of offshore drillers, Ensco plc ESV and Rowan Companies plc RDC, merging in a $2.38-billion deal, along with Precision Drilling Corporation’s PDS C$1.03-billion buyout of Trinidad Drilling Limited are the recent indications that the fog over the drilling industry, which has long been in the doldrums, is finally beginning to lift. All the three stocks, namely Ensco, Rowan Companies and Precision Drilling, carry a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Oil Downturn Hits Drilling Industry Hard

Being one of the worst sufferers from the crude slump, the drilling space (especially the offshore industry) has been struggling over the past four years. Various major operators including Seadrill Limited and Ocean Rig, among others, filed for bankruptcy protection last year. Low utilization rates, weak financials and stiff competition had hit the industry hard.

With old contracts rolling off, the companies either had to get the rigs stacked or bear high reactivation costs and accept much-reduced dayrates. As a result, overall revenues of the company were impacted. In these trying circumstances, merger and acquisition deals have helped service providers to clip their average costs and benefit from mutual technical expertise exchange.

Drillers Sit Out Initial Oilfield Services M&A Wave

The world’s largest oilfield service provider, Schlumberger Limited SLB acquired Cameron in a $14.8-billion deal in 2015. Since then, M&As have been transforming oil services industry. The deal triggered a fresh wave of consolidation as the service providers sought for a less-fragmented sector, offering synergy and scale benefits. This was followed by another big merger between General Electric and Baker Hughes in a $32-billion deal in 2016, forming Baker Hughes, a GE company BHGE. Of late, General Electric has been contemplating to spin off Baker Hughes as part of its strategic strides and shareholders’ value creation.

The merger madness continued with FMC Technologies and Technip SA inking a pact to combine in an all-stock deal worth $7 billion to form TechnipFMC plc in January 2017. In the same year, Wood Group completed its merger with Amec Foster Wheeler for $4 billion.

Despite crude recovery from historic lows, the improving landscape did not filter down to the drilling industry. Structural oversupply and pricing pressure weighed on the sector components’ operating margins.  In this regard, M&A activities in the drilling industry seemed to be need of the hour.

Drilling Alliances Picking Up Since 2017

In 2017, Transocean Limited’s RIG $3.4-billion acquisition of Norway-based drilling contractor Songa Offshore, along with Ensco’s and Atwood Oceanics, Inc.’s $839-million merger raised optimism within the industry, which had been affected by the oil price slump. The deals were widely seen as the biggest game changers for the oversupplied energy drilling industry.

Ensco completed merger with Atwood Oceanics in October 2017, when it became the largest jack-up operator in the world. In 2018, Transocean also completed the acquisition of the floater specialist, Songa Offshore. In February 2018, Borr Drilling also announced to buy Paragon offshore Limited. In fact, last month, Transocean entered into an agreement to snap up smaller rival Ocean Rig UDW, Inc. for $2.7 billion. Even Diamond Offshore Drilling Inc. DO, during its last earnings announcement, stated that it was assessing opportunities to acquire rigs and companies.

Final Thoughts

Importantly, the Zacks Oil and Gas - Drilling industry currently carries a Zacks Industry Rank #159, which places it at the bottom 38% of more than 250 Zacks industries. However, the industry is likely to gain momentum in the coming years on the back of rising crude strength. Moreover, sector consolidation, adoption of superior technologies, new operational systems’ optimization of the fleet by strategic sell-offs and acquisition, seeking profitable collaborations, among other strategic strides, will certainly help boost future prospects of the drilling companies. While one does not expect the sunny days of the drilling industry to return immediately, signs of recovery can definitely be seen.

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