Latam Energy Advisors: U.S. land rig count declines
U.S. land rig count declines by power type (OIH $34) Oil Service Research Team
· Lots of rigs sitting on sidelines – Rig count getting hacked in half in a matter of 22 weeks inevitably leads to a plethora of capable rigs sitting on the sidelines. High-tier AC rigs held up well for the first half of the downcycle but since have fallen materially, down -34% overall (-276 rigs). Meanwhile, mid-tier SCR rigs have fallen -54% (-284 rigs), with the lowest-tier mechanical rig class bringing up the rear at -66% (-523 rigs). Consequently, AC rigs have continued to gain market share, moving from ~38% of the total U.S. land drilling market to ~50% today. Why are these statistics important? Because when rig count does trough, we think AC and SCR rigs will be the first rigs to come back, so it could take time for pricing to recover meaningfully with 560 recently working rigs in those asset classes idled.
· Pricing recovery could take time – With every industry downturn, it’s clear that spot pricing for land rigs falls with rig count. What’s less clear is when (and by how much) pricing will recover. Before the oil price collapse and subsequent rig count thrashing, spot pricing for high-end land rigs generally shook out in the $24-28k/d range. Since then, it initially drifted lower into the $20-22k/d range, and ultimately we think pricing will flatten out in the $18-20k/d range (though there doesn’t really seem to be a spot market / clearing price right now). In order to incentivize a meaningful recovery in spot dayrates, some degree of scarcity of higher quality rigs need to return to the market. Assuming AC and then SCR rigs (with fast moving / pad-capable rigs in each of these categories preferred) are the first rigs to be re-activated when activity does rebound, there’s healthy headroom of idle rigs that have to be worked through before we see pricing power being able to return. If our spot market rate assumptions are correct, there’s still healthy cash margin left at the trough for the higher quality rigs (on a value basis have pushed lower quality rigs towards cash breakeven) and thus asset overhang likely matters / serves as a cap on rates until much of the overhang is worked through. Long story short: the sheer magnitude of idle high quality rigs (276 AC rigs idled and some portion of the 284 idled SCR rigs) likely keeps a lid on pricing during activity recovery in 2016 (staying within that ~$18-20k/d range).
· Rig cuts have been indiscriminate in nature – As mentioned above, no rig class is immune to activity declines at this stage of the downcycle. Decisions by operators to cut rigs have seemed indiscriminate in nature, often a function of whichever rig rolls off its contract next. As such, more and more highly capable rigs are being shelved. The indifference shown choosing which rigs to cut is highlighted by the fact that roughly ~1/3 of HP’s rigs that been let go thus far are less than 5 years old. Actions like these are what are ultimately pushing out a meaningful pricing recovery, as more of the best rigs in the business now have to go back to work first.
Source: Tudor, Pickering & Holt.
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