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As drillers continued to struggle in Q3, hope rests on mergers, rig demand

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As drillers continued to struggle in Q3, hope rests on mergers, rig demand

Strong demand for technologically advanced rigs in the third quarter likely mitigated the impact to land drillers from pipeline bottlenecks in the Permian basin while a series of recent mergers likely helped companies in the still-struggling offshore drilling segment, analysts said.

Tight pipeline capacity is expected to have hurt oilfield service sector companies in the third quarter, but strong demand for high-caliber land rigs could limit the impact on land drillers.

Drillers with technologically advanced "super-spec" alternating current rigs will benefit from spot day-rates that reached $23,000 to $25,000 in September, Moody's analysts said in a Sept. 25 note.

Helmerich & Payne Inc., Patterson-UTI Energy Inc., Nabors Industries Ltd. and Precision Drilling Corp. are among the land drillers expected to have capitalized on this trend, significantly increasing their margins and utilization in 2017 through 2018, the analysts said.

An industry leader, Helmerich & Payne, thus far reportedly has seen no slowdown in the Permian, having sold out upgrade capacity through the middle of the first quarter 2019, Bernstein analysts said in a Sept. 28 note. However, around two thirds of recent super-spec rig upgrades went to plays outside of the Permian, indicating some exploration and production companies are swinging activity where they can, the analysts said.

Nabors Industries also continues to sign contracts for incremental super-spec rigs in the Lower 48, including in the Permian, with leading edge day-rates for such rigs now in the mid-$20,000 range, Jefferies analysts said Oct. 4.

In addition, a recovery in the international offshore market provides another potential tranche of earnings before interest, tax, depreciation and amortization for the drillers, the Bernstein analysts said.

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For Helmerich & Payne, interest in commercial prospects related to automation will also provide a cushion, the Jefferies analyst said in a Sept. 28 note. "Helmerich & Payne believes it has a significant head start in direction drilling services and we sense there are emerging solutions for other automation tasks," the analysts said.

Bernstein held its rating on Helmerich & Payne at Market Perform, and Jefferies analysts said the company remains a top pick, anchored by free cash flow prospects and solid supply/demand fundamentals.

Riley FBR analysts rated the company a "Buy," anticipating an industry super-spec demand trajectory that will enable it to upgrade all of its remaining eligible rigs while pushing day rates higher, and with upside potential in the commercial launch of its directional drilling automation system, and a sustained, robust dividend yield.

S&P Global Market Intelligence sees 18 cents normalized earnings per share for Helmerich & Payne in the third quarter, up from a loss of 1 cent per share in the previous quarter. S&P Global Market Intelligence expects a loss of 18 cents per share for Nabors in the third quarter, an improvement over the loss of 39 cents per share in the previous quarter.

While earnings prospects are generally positive for land drillers, the beleaguered offshore drilling segment will continue to struggle, while hopes of an offshore recovery and an increase in consolidation provides positive momentum into 2019.

On the cusp of a market recovery, much needed consolidation by offshore drilling companies should help boost earnings across the sector into 2019, analysts said.

The most recent merger came on Oct. 8, as offshore driller Ensco PLC said it would buy out rival Rowan Cos. PLC in an all-stock acquisition worth about $2.4 billion.

As part of the merger agreement, Rowan shareholders will receive 2.215 Ensco shares for each Rowan share, or about 281 million Ensco shares, to own roughly 39.5% of the combined company. Ensco shareholders are expected to hold a roughly 60.5% stake.

Once combined, Ensco-Rowan will have the second-largest floating rig fleet, with nearly 90% consisting of generation VI and VII assets, the most desirable rig by global operators, according to Leslie Cook, principal analyst at Wood Mackenzie. The combined company will also become the largest player in the jack-up sector. Nearly 40% of the combined portfolio will consist of ultra-harsh and modern harsh-environment assets.

Cook said that while an excellent value for shareholders of both companies, "What makes a company like Rowan particularly interesting for Ensco is the opportunity to further high-grade their growing portfolio with premium assets and expand their footprint in key markets such as Middle East, Latin America, Europe and US Gulf of Mexico."

Consolidation among drillers is paramount to a recovery, Cook said. This latest merger follows the combination of Ensco with Atwood Oceanics in October 2017, Transocean's purchase of Songa in January and its subsequent planned purchase of Ocean Rig UDW Inc. announced Sept. 4.

Transocean Ltd. reported a second-quarter loss of 4 cents per share and S&P Global Market Intelligence expects a loss of 10 cents per share in the third quarter.

For Ensco, S&P Global Market Intelligence sees a loss of 35 cents per share when the company reports its third-quarter earnings, which would compare with a loss of 30 cents per share in the second quarter.