Despite higher day rates, new rig orders not on the cards soon, says Westwood

The ongoing upcycle in the offshore drilling market, which is expected to be a multi-year one, has resulted in higher day rates and fleet utilisation across the floater and jack-up rig fleets. This has led to speculation about the possibility of higher day rates enticing rig owners to dip their toes into placing new rig orders. While any orders of this sort are likely to be for jack-ups rather than floaters, Westwood Global Energy, an energy market research and consultancy firm, believes that a newbuilding cycle for new rig additions will not happen anytime soon.

As the offshore drilling market’s recovery intensifies, rig scrapping is at its lowest level in years. As a result, cold-stacked rigs are being increasingly reactivated for new assignments amid growing demand and elevated day rates while the harsh environment semi-sub market is all sold out. With key segments of the rig fleet at 95 per cent utilisation or higher, day rates for non-harsh environment jack-up fixtures have surpassed $150,000, while floating rigs have been secured for contracts at or above $475,000.

As Westwood believes new rig construction is not likely in the foreseeable future, Terry Childs, Head of RigLogix, lists several reasons to justify the firm’s stance on this topic. Assuming a rig owner can obtain financing, the first reason states that there are fewer shipyards that would entertain building a new rig, as many have exited the business or undergone yard consolidation.

“As one drilling contractor put it, the yards are busy ‘building vessels they can actually get paid for,’ referring to floating production storage and offloading (FPSO) and other non-drilling units. In addition, down payment terms, which had been as little as 2 per cent in the last cycle, would be significantly higher now,” added Childs.

The second reason points out that there are still undelivered rigs in yards that were ordered in the last newbuilding period. Even though these rigs are mostly completed, they still require a substantial amount of capital and shipyard time.

Another reason not to build right now would be the available units in the inventory. In line with this, several cold-stacked units could undergo reactivation, providing rig owners with a cheaper and faster source of additional rigs.

Last but not least, Westwood highlights that there are more merger and acquisition deals that can be done, which will be structured in such a way that they do not require a lot of cash, making it far cheaper and faster to acquire a company and its assets versus building a new rig.

Furthermore, Westwood is adamant that the prospect of building a new drillship or semi-submersible is less likely than building a new jack-up, despite drillship day rates inching closer to the $500,000 mark, as rig owner estimates show that the all-in cost to build a new drillship would be over $1 billion.

Therefore, assuming 90-95 per cent utilisation, the day rate needed for a standard 12-15 per cent return on investment (ROI) would be $650-700,000 for the useful life of the rig, which is around 25 years. The build time, which would be around three years, also needs to be taken into consideration.

Aside from the economic factors, Childs lists other reasons not to build, such as the fact that there are still 15 drillships and seven semi-subs, many from the last newbuild cycle, waiting in various yards to be delivered, although three of the 22 units have contracts in place. Westwood believes as many as eight units may never be delivered, which leaves 11 newbuilds, seven drillships and four semi-subs, available for rig owners to absorb into their fleets.

While the investment needed to acquire these units will vary, the base cost is thought to be a minimum of $100-110 million, plus $250-300 million to buy the rig if necessary. With most of these units in Southeast Asia, a mobilisation fee would be as much as $35-50 million plus other upgrades necessary for a specific operator and/or region, adding another $30 million to the cost.

Bearing all this in mind, Childs calculates that an all-in cost of around $200 million – excluding purchase price – would be expected. It is estimated to take 12-14 months of yard time to get one of these rigs out. Additionally, there are also 30 cold-stacked floating rigs: 13 drillships and 17 semi-subs.

“We believe as many as ten are being marketed for drilling programmes while a few will likely be scrapped. Between the stranded newbuilds and cold-stacked units, rig owners have access to 30-35 units. The cost to reactivate one of these rigs will vary depending on the scope of work done. For example, to reactivate a cold-stacked drillship in Las Palmas, the base cost is believed to be $85-90 million alone, plus mobilisation fees and additional upgrades. Shipyard time is believed to be around one year for reactivation,” emphasised Childs.

Moreover, a rig owner would need a minimum five-year initial term to even consider building a new unit. Childs claims that there are only a handful of regions at the moment where operators have programmes that could offer that with Brazil and Africa being among the potential landing spots.

Recently, TotalEnergies issued a tender for two drillships to work under ten-year contracts with rumours of two existing newbuilds competing for that work. The U.S. Gulf of Mexico has taken on two newbuild drillships over the past two years, but Westwood thinks it is unlikely that the region will take on another.

“The bottom line is that while it is conceivable that some new floating rig orders could eventually take place, a sustained period of significantly higher day rates would be needed, and that, if it happens, is still a few years away,” underlined Childs.

Westwood is of the opinion that if any new rig orders are placed those will be for jack-ups, which – just like floaters – have had their share of multi-year contract awards recently, with some in the Middle East as long as 15 years. While day rates have nearly doubled in the past year alone and reached as high as $160,000 in some areas, two of the largest jack-up owners, Borr Drilling and Shelf Drilling, say there is not enough equipment to fulfil future demand.

The cost to build a new jack-up is estimated to be in the $250-300 million range for a 400ft-rated rig, depending on yard location and the delivery time is currently thought to be 2-2.5 years. Jack-up owners say that an acceptable 15 per cent ROI for a newbuild with 90-95 per cent utilisation would require a day rate of $200-230,000 over the rig’s useful life, which is about 25 years.

Westwood states that the current newbuild inventory contains 20 undelivered jack-ups – three of which have contracts and one has a pending sale – while the remaining 16 units, ordered as early as 2013, have been mostly completed but would need shipyard time to finish construction and undergo acceptance testing.

The jack-up fleet increased by a net of 45 rigs from 2010 to July 2023, with 245 deliveries and 200 units removed, which is an average of three rigs per year over the 14-year period. With the current cold-stacked numbers versus the number of rigs still under construction, Childs determines that the fleet size will decline on its current path.

While 56 units appear to be available in the cold-stacked fleet, Westwood explains that closer inspection shows the number available for reactivation is much lower, as six of the units have been stacked for over ten years, making it highly unlikely they would ever work again. After removing units that due to design, water depth rating, age, etc., would not likely be brought back into service, Childs estimates there are fewer than 15-20 units as candidates to return to the active rig fleet.

As the cost to reactivate a stranded newbuild or cold-stacked jack-up varies depending on rig condition, age, time idle and level of preservation done prior to the rig going idle, some recent reactivations have been completed for just under $20 million. Nevertheless, Westwood explains that estimates for other rigs pending reactivation are reported to be as much as $40 million while the required reactivation time is six to nine months depending on yard availability.

Regardless of the high price tag, Childs notes that it is possible some jack-ups will eventually be ordered, as 100 of the current 438 marketed jack-ups in the global fleet are 40 years of age or more, which is 23 per cent of the fleet. While fewer than ten of the 100 are idle, Westwood finds it doubtful that this kind of usage can be sustained for many more years.

“Rumours afoot indicate operator interest in newbuilds. A few super majors, citing current climbing rig costs, could reportedly offer initial contract terms that might entice rig owners to dip their toes in new construction. In addition, at least three jack-ups that previously retired with the intent of converting to wind farm installation vessels, will reportedly re-enter the fleet as drilling units,” revealed Childs.

Westwood also mentions ARO Drilling, a 50/50 joint venture between Valaris and Saudi Aramco, which agreed in 2018 to supply Aramco with 20 new jack-ups over a ten-year period. While the first two were ordered in 2020, no other orders have been placed since. The delivery of these two, which was scheduled for 2022, slipped to 2023 after the delay in the completion of a new shipyard in Saudi Arabia to build the rigs. If the remaining 18 rigs are ordered, this raises the question of whether there would be a need for additional newbuilds in Westwood’s view.

“Westwood believes the reasons not to build a new rig outweigh the reasons to build at present. Although rig owners have historically not been known for their discipline, this time is different, or at least it appears to be. No speculative rig reactivations have been carried out and there does not seem to be any appetite to repeat the overbuilding mistakes of the past,” concluded Childs.