Old equity research report on Aban

1. Oil & Gas
22 October 2009
INR 2159
ABAN OFFSHORE
Renewed contracts re-infuse interest
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Recommendation
BUY ABAN Reuters: ABAN.BO , Bloomberg :ABAN IN
Recommended Price : 2159
ANALYSTS: Current Price : 1576
Polka Mishra
Vasanth Ramesan Shares Outstanding : 37.80 M
Prashant Krishnan Market Capitalization : INR 59.6 B

2. ABAN OFFSHORE
COMPANY DESCRIPTION
Established in 1986,Aban Offshore is a Chennai-based, leading private
drilling contractor offering world-class drilling and oil field services for
offshore exploration and production to Oil Majors in India and
abroad.Through a series of acquisitions they have built up their fleet to 21
rigs of diverse capabilities and capacities including nine newly built jack-
up rigs, with which they serve marquee clients including ONGC , Cairn
Energy , and Reliance. They also have a windpower business which
currently contributes less than 1% of its revenues.
SECTOR OUTLOOK
Long term demand intact. Concerns over Short term Capex
Capital Expenditure by
Exploration & Production
(E&P) companies is the key
driver for the sector. Lowered
oil prices meant that projects
were returning negative NPV,
stiffling exploration spends.
The rebound in oil prices has
slowly reinduced spending ,
and eased the pressure on day
rates somewhat, while still far
from 2008 levels. For 2009 oil
companies have so far committed to more than 33 bn.USD for rigs
compared to 8.7 USD bn. in 2004 indicating that spends are still quite
high. Most predictions of oil prices indicate that we will be back to 2008
levels. This prediction is linked to the economic recovery, and we don’t
know when this is will happen. Forecasts show that offshore exploration
will play an increasingly important role, with deep water drilling services
being the main growth segment.
AUGUST 2009 4

3. ABAN OFFSHORE
Softening in new build prices indicate easing of day rates
Lower commodity prices and flagging demand for new vessels , led to a
fall in “new build” construction, reflected in reduced delivery time from
shipyards and a nearly 15-20% drop in the prices of new builds. In the
second hand market, while there have been few transactions , there is a
nearly 50% drop in prices from 2006 levels, well below what was
considered to be ‘market rate’ for those rigs. These significantly lowered
capital costs indicate that offshore services contractors have room to drop
prices , without affecting their hurdle rates.
Margins to continue to be under pressure
The prevailing sector EBITDA margins based on
contracts signed over the past few years indicate
that margins still remain significantly above
average, and don’t reflect the economic
downturn. EBITDA margins are closely related
to fleet utilization. While global margins of near
50% for jack-ups have been maintained largely
due to the bidding disciple by contractors - we
expect these to weaken going forward
Utilization rates to drop as availability of international jack-ups is at all
time high
The large number of idle rigs in the market makes it difficult to foresee
any upward pressure on rates and will adversely affect utilization rate. In
the international jack-up market, utilization is currently just below 80%
and may fall to 65% over the next 6 months. However current day Rates
still give a 50+% EBITDA margin for older rigs and the current
circumstances may put downward at current utilization level.
Stacking and pricing discipline to keep rates stable in short term.
Transocean as the largest rig company has aggressively taken to stacking
rigs that go idle, unless there is a contracting opportunity , signaling to
other global players to keep prices high. While other players in the market
have been less aggressive in stacking rigs, emphasizing utilization over
AUGUST 2009 5

4. ABAN OFFSHORE
day-rates, a strong pricing discipline has been observed across segments
despite a large number of idle rigs. The reason is believed to be the high-
backlogs and forward contracts that continue to allow industry margins to
remain high. We foresee a drop in rates if the downturn remains, as the
heavily levered firms bid more aggressively for contracts to service debt.
AUGUST 2009 6

5. ABAN OFFSHORE
KEY INVESTMENT ARGUMENTS
Economic recovery in Key Economic Recovery to prop up oil prices,encourage E&P capex
markets to strengthen oil
prices and improve The company has a fleet of 21 rigs comprising 16 Jack-Ups, 3 Drill Ships,
prospects for Offshore a Semisubmersible and a Floating Production Unit (FPU) held between the
Drilling Contractors parent holding company and its Subsidiary, Aban Singapore. The revenue
drivers are the number of rigs it owns, their utilization rates and the day
New contracts bode well for rate that the company secures on these assets. The company’s ability to
earnings and improve debt secure attractive day rates in both the spot market and contract markets is
serviceability influenced by oil prices which drive demand for the rigs.
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Oil and Economic Growth–Demand Side Forecast
The OPEC advisory for oil demand is in tune with the IMF predictions of a
weak recovery in late 2009 and 2010, with the major drivers for growth
being the emerging economies of China, India, Latin America and Africa.
Oil demand growth from Non-OECD countries is expected to be around
800,000 b/d which counters the 300,000 b/d demand contraction expected
from the OECD countries. In India, the partial removal of price subsidies
is expected to temper the demand from the agriculture and transportation
segments of the economy. Reduced prices also are expected to contribute
to strong middle east oil demand from the chemical, transportation
segments. China is expected to contribute to 300,000 b/d year on year
growth, fuelled by a robust expected growth in GDP of 7.5%. The move to
smaller fuel efficient vehicles, especially in North America and Europe is
expected to reduce gasoline demand and result in 100,000 b/d reduction in
oil demand.
AUGUST 2009 7

6. ABAN OFFSHORE
The world GDP growth driven by the emerging economies is expected to
increase the demand for oil in 2010 to around 85 m b/d. However, a sharp
economic rebound is not expected and oil demand in 2010 will be below
the pre-recession highs in the near term.
Oil– Supply Side forecast
Global oil supply in June 2009 had averaged 83.1 m b/d according to an
estimate drawn by OPEC, whose share of world oil supply had decreased
by 2.3 percent in June. However, supply from Non-OPEC countries
registered a 20,000 b/d increase over the last month. This increase was
attributed to supply growth in India, US, the United Kingdom, Brazil,
Columbia and some of the Latin American countries.
In India, the addition of the Mangala Oil Fields in Rajasthan is expected to
add a peak capacity of 130,000 b/d. One of the largest contributors to oil
supply growth is Brazil. It is expected to add 220,000 b/d over 2008.
Average supply is expected to be 2.79M b/d in 2010. The contribution
from Non-OPEC nations is expected to grow to 51 m b/d in 2010.
However, in spite of the incremental additions to world supply by some
countries, overall world supply has declined.
Source: IEA
AUGUST 2009 8

7. ABAN OFFSHORE
Crude oil prices in the month prior to writing this report have ranged from
64$ to 73$. We believe that the worst of the recession is behind us.
Recently, Japan followed France and Germany by exiting from the
recession by announcing positive growth for the April-June quarter. The
return of economic growth in 2010 bodes well for Aban as strong demand
for oil spurs investment in Exploration and Production, a key driver for
day rates and utilization rates for offshore rigs.
Jackup Day Rates
New contracts bode well for earnings and improve debt serviceability
Rigs that can operate at deeper water depths command a premium. More
250’ WD : 3 @ $130,351 than 50% of Aban’s fleet of 16 Jackups can operate at water depths in
300’ WD: 4 @ $145,749 excess of 300 feet.
300+WD : 9 @ $174,530
The company recently signed on a major long term contract for four of its
Source:Rigzone
new assets. This includes three rigs from the Norwegian Subsidiary
Sinvest, that were contracted at 185,000 USD for three years and another
to be deployed in Latin America for a little over 2 years at 125,000 USD.
With these contracts, the average utilization of Aban’s assets now stands at
75%. These contracts are expected to provide stability to the cash flows in
future quarters and also help alleviate the high interest burden that the
company faced.
Aban’s core fleet held by Aban Offshore has an average age in excess of
30 years. However, most of the assets held by the subsidiary, Aban
Singapore is just under 3 years. The operating life of most rigs is around
35 years. The young fleet that Aban Singapore uses allows its to command
premium day rates. A newer fleet also provides the advantage of reduced
maintenance and operating expenditures.
In our opinion, Aban stands to gain from higher day rates in the later part
of this year, as two contracts on the Deep Driller 8 and Tahara assets also
come up for renewal. The demand for deep water drilling assets has
typically been strong and the company is poised to capture higher day rates
arising from a favorable macroeconomic environment
AUGUST 2009 9

8. ABAN OFFSHORE
KEY INVESTMENT CONCERNS
Uncertain capital spending by E&P Operators
Lower Oil prices, and a weak economy, would stifle Capex spends by
E&P operators, reducing the demand for offshore services. While risk of
default on existing contracts is unlikely, there is the real risk that they will
not be renewed or renewed at significantly lower rates. Jack-up rigs are the
most sensitive to oil price movements and a majority of ABAN’s revenues
comes from this segment.
Falling Day rates and Utilization
The new supply in jack-ups and semi’s will put significant downward
pressure on day rates and utilization. A prolonged downturn may break
the pricing discipline prevalent in industry, with contractors reducing
stacking in an effort to increase utilization thus adversely affecting day
rates. The risk of contracts being renewed at a lower price, and the
inability to deploy rigs when contracts expire are significant concerns.
Debt on Books
Concerns exist on ABAN’s ability to service to significant amount of debt
on its books. While the Debt: Equity ratio has fallen from nearly 20 in
2007, to about 7.5, it still remains substantially leverage. A large portion of
the debt is denominated in foreign currency and remains exposed to
currency fluctuations and movements in LIBOR.
AUGUST 2009 10

9. ABAN OFFSHORE
VALUATION METHODOLOGY USED
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12. ABAN OFFSHORE
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13. ABAN OFFSHORE
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