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Transocean: Long Thesis

The stock that I would pick right now is Transocean LTD (NYSE:RIG). The oil industry is struggling at the moment. An unprecedented drop in demand, combined with a price war amongst OPEC+ (the Organisation of Petroleum Exporting Countries plus Russia), has resulted in historic low prices and causing unprecedented negative prices for oil futures. The upshot of this situation is that share prices for oil companies and, more importantly in this respect, oil service companies have collapsed.

Prices for this stock have fallen precipitously in recent months as a result of the COVID-19 outbreak.  The 52-week average stock price for Transocean LTD was $4.80, a stark contrast to its closing price of $1.12 on the 29th April 2020(1), and if I had responded to this essay question only a week prior we would be looking at a price per share of only $0.76.  I am taking an extremely long-term stance with this pick.  Given the nature of oil as an essential product for modern day life, it is undeniable that once we return to whatever constitutes normality following the current COVID-19 epidemic, there will be a natural upsurge in its usage along with its associated price.  At present, given the indicated massively reduced nature of the price for this stock, there is huge potential for gain once the economy rebounds.

Dale Stagg/Shutterstock.com

The main reason in picking this stock lies behind an inherently beneficial timing issue.  Currently, there is far too much oil entering the market with nowhere near enough appetite for usage or capacity for storage.  This has created a contango regarding oil prices, where the spot or cash price of oil stock is lower than the forward price (2).

As a result of this, OPEC+ have come together with US leaders to establish a production reduction deal since the current conditions cannot satisfy anyone.  Production is thus being throttled, and capital expenditure budgets for exploration projects have been slashed.  These actions, coupled with the global relaxing of the Covid-19 safety measures, will ultimately lead to the gradual re-equilibration of the market.  Therefore, once life returns to a semblance of normality, there will be a sudden dramatic increase in demand for oil products, and subsequently an increase in stock prices.

A Time-Lag In Raming Up Production

There is, however, a time-lag involved in ramping up production.  This lag creates a bottleneck for supply and will ultimately lead to a supply shortage in the market for the increased demand and will result in an increase in oil prices.  Therefore, profits will also increase for the associated companies involved in its production and storage, of which Transocean LTD is one. Nick Cunningham writes for oilprice.com, saying that, “The Permian basin is driving U.S. shale growth, with expectations that the basin will add enormous volumes this year… but the… network is already filling up, forcing steep discounts for oil, and threatening to derail the aggressive growth projections for the region.” (3)

The viability of this strategy lies, once more, in the timing.  If the Covid-19 lockdowns continue for an extended duration, the balance sheets for the companies in the oil sector will come under pronounced stress.  As such, the sector will enter an attritionary waiting situation where the strongest, healthiest companies will survive.  This can be seen in the market where Chevron (CVX), for example, has weathered this current storm with a mere ~14% drop from pre pandemic conditions (4).

A Lucky Break From The Setbacks

Luckily for Transocean LTD, the current weakness in the market is the worst for operators working in the shale oil sector.  Shale oil is the most expensive type of oil to produce and because of this, these operators are the most at risk from bankruptcy (5).

Therefore, given that Transocean LTD works mostly in deep water, they have an increased ability to be insulated from the worst of the setbacks.  In an article published on Nasdaq in 2018, the writer says, ”it is clearly time for oil drillers to focus on the more lucrative deepwater drilling.” (6)

On the negative side, Transocean LTD carries an unhealthy debt burden on its balance sheet.  They do, however, have enough cash flow to continue to operate for the foreseeable future. “Ultimately the future profitability of the business will decide if Transocean can strengthen its balance sheet over time,” says Simply Wall Street (7).

Given that the share price is at such a low right now, buying shares in Transocean LTD is an irreplicable opportunity too good to miss. In order to take advantage of this unique opportunity, I would buy shares of this stock and wait a year or so in order to allow for it to increase back to its full capacity.

Disclosure: None


(1)https://www.macrotrends.net/stocks/charts/RIG/transocean/stock-price-history

(2)https://www.marketwatch.com/story/oil-market-in-super-contango-underlines-storage-fears-as-coronavirus-destroys-crude-demand-2020-04-17

(3)https://oilprice.com/Energy/Crude-Oil/Permian-Bottleneck-Could-Impact-Global-Oil-Markets.html

(4)https://www.marketwatch.com/investing/stock/cvx

(5)https://www.ft.com/content/76c15898-52a2-11ea-90ad-25e377c0ee1f

(6)https://www.nasdaq.com/articles/are-drillers-showing-more-interest-deepwater-shale-2018-08-17

(7)https://simplywall.st/stocks/us/energy/nyse-rig/transocean/news/does-transocean-nyserig-have-a-healthy-balance-sheet/

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