Monday, February 21, 2011

Transocean (NYSE: RIG): Expect to See Price Drop Around Earnings Release on February 23, 2011

Many of you that have traded stock and options on Transocean, since the Gulf of Mexico oil spill/rig blowout disaster, have done well... that is, if you managed to stay on the right side of the trade while the stock almost doubled from a low of $44 in June 2010.

However, with the stock trading at close to $84, the big question is where we go from here. Now that the options play before FEB expiration is over; and billionaire investor Paulson & Company have taken position in the last quarter of 2010, we should get ready to see some reality to set-in the PPS of RIG.

All those factor that could effect the PPS are aligned against Transocean stock...
  • Lower earnings this quarter compared to the same quarter last year (98 cent expected vs the $2,29).
  • We are seeing declining revenues and earnings every quarter for the last six quarters since the quarter ending September 2009. Seems like “bloom is off the this rose”.
  • We are seeing declining day rates with increasing number of rigs going on standby rates after the accident in the Gulf of Mexico... and most recently, the political turmoil in the Middle East.
  • Recently, the company announced over a billion dollar charge resulting from the impairment of the Standard Jackup fleet.
  • There is still the specter of criminal and civil liabilities from the GOM accident.
  • Cost of doing business has increased dramatically for the off-shore drillers.
  • Legal expenses are escalating after the GOM accident.
  • Oil at around $85 and staying flat. However, political turmoil in the Middle East may increase the short term price of oil but that does not effect the rig engagement prospects in the short term.
  • More and more majors are demanding lower day rates in the politically troubled Middle East and some majors are even forcing “ Force Majeure” clause in their contracts.
  • Increasing number of deep water rigs are being built on spec and coming on-line in search of contracts. 
  • Dividend payment at Transocean is still in limbo and the decision is currently tied-up in Swedish courts. 

    Offshore Drilling May Not Be as Strong as Expected... and that includes RIG
Here's a recent Wall Street article on the subject...

All the above scenarios point to flat to lower PPS for Transocean in the days ahead. 

Despite higher oil futures due in part to intensifying protests in the Middle East and a federal judge ordering the Obama Administration to make a decision on five offshore drilling permit requests in the next 30 days, the Offshore Drilling Stocks Index is Flat.

While the Obama Administration has lifted a moratorium on deepwater offshore drilling in the Gulf of Mexico that was put in place following the April 2010 accident, it has yet to approve permits for new drilling operations. Ensco (ESV) is trying to get five permits, some submitted as far back as April 2010, approved and Judge Martin Feldman on Thursday ordered the Interior Department to approve those applications within 30 days, the Wall Street Journal has reported.

The Obama Administration says there is no specific timeframe mandated by federal law to render decisions on offshore drilling projects, according to the Journal.

Now, let's talk about Paulson & Company taking a stake in Transocean...

Arguably the most successful investor in the world, Paulson & Co. reported its end-of-year holdings to the SEC recently. I'm little surprised at his stake in Transocean during the fourth quarter of 2010. Paulson is a bit late to the party with this new position... because, there were much better opportunities to buy the shares of Transocean in the third quarter without taking appreciably more risk; when the Gulf oil spill was front-page news every day. Indeed, another value investor, Bill Miller, made a very profitable case for Transocean last June... when the stock was still trading in the mid 40's.

The most recent run-up in Transocean PPS to $83.40 can be attributed, in my opinion, to the FEB options expiration and Paulson & Co taking stake in the RIG stock during the fourth quarter of 2010.

With these two events behind us, the reality of Transocean business must play out its due course with flat to lower stock prices in the short term. There are some very profitable options strategies that you can use to take advantage of this flat to somewhat declining stock price in the short term.

Anant Goel