Are You Paying a Fair Rate for a Jack-Up Rig?

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SCM Daleel - Admin

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Archived, originally published in January 2016

Sometimes it is very hard to understand why operating day rates for a drilling rig (jack-ups in the Middle East) in this case) can fluctuate so much and go from $120k to $ 75k or from $ 200k to $110k. There is no straight logic in how rig owners can reduce their day rates by almost half and still be profitable. Well, there is if you demystify it. 

 


Looking at this table with the average Net Profit margins (source: WikiInvest) of major jack-up rigs operators it is very clear - profits in this category are extremely healthy even during the last oil downturn in 2008 / 2009 and, as a matter of fact, the highest in the oil and gas industry (next biggest is Seismic category ~20%).  On this chart, you can see margins, average Brent price, day rates for standard and high-spec rigs.

 


Day rates are average and vary from country to country

Another interesting observation - profits were consistent in 30s for 2006-2009 and in 20s between 2010-2014. Given the day rates continued to climb, perhaps costs to operate increased significantly, which may be attributable to personnel and increased safety standards. 


Is there a fair equilibrium in the market place for drilling rigs, whereby supernormal profits should not be taking place OR it is totally acceptable to have excessive profits at times of high demand and financial losses when times are tough? Bear in mind, in those times of sustained losses, safety and reliability are at risk, as “cutting corners” is one of the things that come to mind when financial pressure is strong. 


How much does it actually cost to operate a jack-up drilling rig? Based on rig owners' financial statements, investor presentations and our estimations, average costs to run a jack-up rig in the Middle East are as follows:

  • Old standard jack-ups (~200ft) - up to $60,000 per day
  • New-build standard jack-ups (~300ft) - $90,000 to $115,000 per day
    • $40k- $50k operating cost
    • $30k (up to) finance charges
  • High-spec (cyber) jack-ups -  $100,000 to $135,000 per day
    • $45k-$60k operating cost
    • $50k (up to) finance charges


With operating costs of ~ $45k per day for old jack-ups (btw - more than 60% of rigs in the Middle East are old rigs) and ~$60 for high spec rigs, no wonder why the market here is so lucrative for rig contractors, when operating rates are much higher than the actual costs to operate a rig. Although rig operators might need a few years to build a cash cushion for “tough times” and rig idling time, such a big difference between cost-to-operate and operating rates is not justifiable; given the utilization rate in the Middle East is the highest in the world. The exception might be the rig range of standard newbuilds or young rigs that still require finance charges to be paid every month. Yet, those rigs can operate at ~$50k per day and earning ~$120k in high times. 

 

What that means is - operating rates for jack-up rigs in the Middle East have little correlation with the actual cost of running a rig, and rig owners adopt opportunistic approaches to pricing. During high demand, when everyone rushes to drill and drill, rig supply is limited, hence prices are shooting up and get-as-much-as-you-can is a norm because utilization and demand is high, but supply is low. Besides, to “save” the offshore rig industry during tough times when utilization is close to 50% (Jan 16), rig owners scrap excessive supply of rigs, to narrow the gap between supply and demand. In essence, operating in a cartel mode, although not explicitly.  


So, “know the numbers”, as it helps you to understand if you are getting a “fair” deal or when pushing the rig owner too much to reduce day rates, “cutting corners” becomes the only survival strategy for the rig owners. 

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