Transocean Ltd

NYSE:RIG

Earnings Call Transcript 2018-Q2

[Operator]

Good day, and welcome to the Second Quarter 2018 Transocean Earnings Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Brad Alexander. Sir, please go ahead.

[Bradley Alexander, Transocean Ltd.]

Thank you, Katie. Good morning, and welcome to Transocean's second quarter 2018 earnings conference call. A copy of the press release covering our financial results, along with supporting statements and schedules, including reconciliations and disclosures regarding non-GAAP financial measures, are posted on the company's website at deepwater.com.

Joining me on this morning's call are Jeremy Thigpen, President and Chief Executive Officer; Mark Mey, Executive Vice President and Chief Financial Officer; and Roddie Mackenzie, Vice President of Marketing and Contracts.

During the course of this call, management may make certain forward-looking statements regarding various matters related to our business and company that are not historical facts. Such statements are based upon the current expectations and certain assumptions of management and are therefore subject to certain risks and uncertainties.

Many factors could cause actual results to differ materially. Please refer to our SEC filings for more information regarding our forward-looking statements, including the risks and uncertainties that could impact our future results. Also, please note that the company undertakes no duty to update or revise forward-looking statements.

During the question-and-answer portion of the call, to give more participants an opportunity to speak on this call, please adhere to a limit of one initial question and one follow-up. Thank you very much.

I'll now turn the call over to Jeremy.

[Jeremy D. Thigpen, Transocean Ltd.]

Thank you, Brad; and a warm welcome to our employees, customers, investors, and analysts participating in today's call. As I begin our call, I would like to take a moment to recognize and thank John Stobart, our former Chief Operating Officer; and Terry Bonno, our long-time Senior Vice President of Marketing and Contracts, for their immeasurable contributions to Transocean over the years. John and Terry, we wish all the best in your well-earned and much-deserved retirement. Thank you.

In addition to playing large roles in leading Transocean through this recent downturn and positioning the company for market recovery, John and Terry also built a strong bench of talent, including Keelan Adamson, who assumed John's operational accountabilities; and Roddie Mackenzie, who now serves as our Vice President, Marketing and Contracts for over a year. Given their vast experience, history of performance and strong support teams, I have every confidence in our collective ability to build upon the great foundation that John and Terry helped to establish for Transocean.

Now, on to the second quarter earnings call. As reported in yesterday's earnings release, for the second quarter of 2018, the company generated adjusted normalized EBITDA of $311 million on $783 million in adjusted normalized revenue. This 21% sequential increase in revenue was driven by heightened activity, as the second quarter marked the first full quarter of operations for the Deepwater Poseidon, which began its 10-year contract with Shell in February and the four recently acquired Cat-D harsh environment semisubmersibles from Songa, which are on long term contracts with Equinor.

Our top line results were also buoyed by strong uptime performance across our global fleet, resulting in revenue efficiency in excess of 97%. Importantly, as a result of our continued focus on organizational and operational efficiency, we delivered strong second quarter adjusted normalized EBITDA margins of 40%. Those results could have been even stronger, but we absorbed charges during the quarter as part of an early retirement program that will further streamline our shore-based support team for the balance of 2018 and beyond.

In addition to delivering strong operating results in the quarter, we are pleased with the progress that we continue to make with the integration of Songa Offshore. As you might imagine, during the early stages of any combination, it is possible for the new organization to become distracted with internal issues and changes, which can, if not, properly managed, negatively impact the service delivered to the customer. Therefore, I'm proud to report that during our first full quarter of operations, we maintained a high standard of performance for our customer, Equinor, delivering 97% uptime across the four Cat-D rigs.

In addition to the significant revenue generated by these rigs, we are pleased with the cost synergies we are realizing as a result of the combination. Administratively, we expect to have completely integrated Songa by the fourth quarter, consolidating local offices, yards, warehouses, and IT systems. Operationally, legacy Songa personnel are being transitioned to Transocean's HSE and overall management systems. And we are continuing to identify and align around best practices for both organizations for managing maintenance and the supply chain, including extending the coverage of our OEM agreements to the four Cat-D rigs.

Overall, we are pleased with the progress to-date, as we are witnessing firsthand the value that can be created through consolidation. Importantly, we are on pace to deliver, if not exceed, our commitment to realize $40 million in annualized savings by the fourth quarter of 2018.

In addition, to the Songa Offshore assets, we recently added another new high-specification semisubmersible, the Transocean Norge, to our fleet for work in the strengthening harsh environment markets of Norway, Canada, and the U.K. We currently have a 33% ownership interest in the joint venture that owns the rig, which provides us the exclusive rights to market and operate the rig. The Norge represents the seventh high-specification harsh environment rig in our fleet, with the other six currently under contract, with a total backlog of $3.8 billion and an average day rate of approximately $400,000 per day.

The Norge is expected to be delivered in the first quarter of 2019, and given the quality of the asset, Transocean's unparalleled experience in harsh environment markets, and our visibility to strong future demand in Norway, we fully expect to place the rig shortly after delivery. In fact, we hope to have the Norge maiden contract signed before the rig is even delivered.

Going forward, we will continue to explore opportunities to enhance our industry-leading fleet of harsh environment and ultra-deepwater floaters through the upgrade of existing assets, the acquisition of individual assets or corporate transactions. As always, we will continue to evaluate each opportunity through a very narrow lens, considering both the quality and long-term value of the assets and the impact of the potential transaction on near-term liquidity.

Fortunately for us, in recent months, Mark and his team continued to extend our liquidity runway through several successful transactions, which he will detail shortly. These transactions, when combined with our industry-leading and high-margin $11.7 billion backlog, provide us with the financial strength and the visibility to future cash flows we need to be opportunistic in the deployment of capital to upgrade assets, to consummate acquisitions, and/or to delever the balance sheet.

Still, while we are pleased with our liquidity position and believe that we are in the early stages of what ideally will be a sustained multi-year recovery, we will continue to be very mindful of our balance sheet in the evaluation of all potential transactions.

Transitioning from acquisition to our legacy fleet, we are pleased to have returned two of our previously stacked and recently upgraded rigs, the Deepwater India (sic) [Discoverer India] and the GSF Development Driller I to our active fleet during the quarter. As you may remember, we reactivated the DD1 and mobilized her to the Australian market for a relatively short term opportunity with Quadrant. At the time, we knew that the contract with Quadrant would not pay for the upgrade or reactivation, but we felt confident that the Australian market was strengthening. And we knew that the DD1 would be the highest-specification asset in that market.

As evidenced that our reactivation, upgrade, and rig placement strategy is working, since the Quadrant contract, we have secured work with PTTEP and now with Chevron, which awarded the DD1 with an 11-well contract that will keep her working into 2021.

And the DD1 is not the only example. Since their respective reactivations, we have secured additional opportunities for the DD3, the Transocean Barents, the Deepwater Asgard, and the Henry Goodrich. Needless to say, thus far, I've been very pleased with our collective decisions to reactivate assets. I'd like to thank Roddie, Keelan, and Mark for the healthy debate and consideration across marketing, operations, and finance.

I would also like to thank the entire Transocean team for reactivating assets on time and on budget, for safely and efficiently mobilizing those assets, and for operating those assets to the high standard that our customers have come to expect from Transocean. It's a true team effort; well done.

While retiring assets is not nearly as exciting as adding rigs through acquisition, or reactivating rigs for new contracts, it is nonetheless necessary in the current market. As such, during the quarter, as we have done every quarter for the past three years, we met as a management team to assess both the marketability of each rig in our fleet and the cost of returning each rig back to service.

As a direct result of that meeting, we recently announced the retirement of one midwater and three ultra-deepwater floaters. With these four rigs, we have now retired 43 floaters since the start of the downturn. As a result of these retirements, the divestiture of our jackup fleet and the addition of five newbuild ultra-deepwater drillships, six semisubmersibles from Songa and the Norge, we have completely transformed our fleet over the past three years.

Our current fleet now stands at 46, including the two ultra-deepwater drillships and one harsh environment semi currently under construction, with approximately 85% of that fleet categorized as either ultra-deepwater or harsh environment. In short, we now have a smaller but far more focused and competitive fleet than when we entered the downturn. And we are poised to expand our market leading position as the market recovers.

Turning now to the market. Since our first quarter call, we have added $405 million of backlog, bringing our total to approximately $1.1 billion over the past three quarterly calls.

Starting with the harsh environment market, we recently signed a six-month extension for the Transocean Barents with Suncor, adding an additional $51 million in backlog and providing us with the opportunity to earn additional revenue through performance incentives. We're extremely pleased to keep this rig working in Canada, where it has a very strong operational reputation and a great market position.

We've also added five wells in backlog to the Transocean Spitsbergen, with the exercise of another option and a new contract for three additional wells with Equinor, with an estimated total of $42 million. This should keep the Spitsbergen working into 2019, which she will begin her follow-on 22-well contract with Equinor. In the midwater market of the U.K. with 712 won a 13-well contract with Conoco, with an estimated $75 million.

Turning to the ultra-deepwater market, in addition to the contract I previously mentioned for the DD1, we are extremely happy to announce some additional fixtures we've recently signed. Adding to our position in West Africa, we have contacted the Development Driller III with ExxonMobil and Equatorial Guinea for a period of six months, with three follow-on six-month options.

This is one of two assets we have strategically kept warm to pursue near-term opportunities. Naturally, we are happy to be resuming our relationship with ExxonMobil. We are also happy to be mobilizing the rig to the Eastern Hemisphere, where we see follow-on opportunities for the DD3, both in the ultra-deepwater markets of West Africa and to the Asia-Pacific markets, where her sister rig, the DD1, is currently positioned as the best asset in the market. In the Gulf of Mexico, Murphy has exercised an option on the Deepwater Asgard. And we have clear visibility to multiple opportunities to place her as we enter 2019.

And as near-term ultra-deepwater fixers continue to increase throughout the world, we're even more encouraged about the possibilities we think are likely to emerge in the coming months for other assets available in our fleet. This increase in contracting activity is not surprising, as average oil prices have remained above the important $60 per barrel level for the entirety of the year and where recently have been at or above the $70 level.

These relatively high and sustained prices have meaningfully and positively impacted the cash flows and balance sheets of our customers, resulting in increased discussions around offshore development and exploration projects. We are therefore working hard to find the appropriate balance between securing fixtures and maintaining flexibility with our available rigs to provide upside leverage to this recovery.

In addition to the boost that near-term oil prices are providing to our customers, from a longer-term perspective, we have witnessed the back end of the five-year oil price forward strips narrowed by approximately $5 per barrel when compared to last quarter. This narrowing is partially attributable to near-term supply constraints related to takeaway capacity in North America.

However, there are some longer-term supply trends emerging that create the backdrop for a more robust recovery. These include OPEC's continued adherence to agreed upon supply cuts, sanctions recently enacted against Iran, and declining production from, most notably, Venezuela and Libya, but additionally other basins throughout the world driven by years of underinvestment. All of these factors have contributed to reserve replacement being at a 20-year low. With this supply backdrop, combined with current offshore breakeven economics for most projects at levels ranging from the 40s to as low as the low 20s, it's not surprising to see increasing optimism from our customers regarding offshore development.

Focusing on the specific markets. In the harsh environment, opportunities in Norway, the U.K., and Canada remained strong. We continued to see day rates strengthening for high-specification assets, with customers more frequently seeking to sign multi-year fixtures with base day rates now approaching, if not exceeding, $300,000 per day, plus additional upside linked to performance incentives.

In ultra-deepwater, there continues to be an increasing level of interest throughout the Golden Triangle. In Mexico, we expect to have two ultra-deepwater rigs working by early next year, with additional opportunities continuing to emerge. In Brazil, we expect any near-term debt to be short-lived as Petrobras appears determined to keep their long-term rig count in the mid-20s or above and the IOCs continue preparing to drill their prospects in the not too distant future.

As a result, over the next couple of years, we continue to believe that deepwater rig activity in Brazil could again exceed to 40 floaters. In West Africa, the recent award with ExxonMobil, was one that, what we think could be a handful of awards throughout the region. And in the Asia-Pacific market, we continue to see demand, particularly in Australia.

Beyond the more traditional ultra-deepwater fields, we continue to see multiple customers looking at projects in frontier areas with water depths beyond 12,000 feet and in higher-pressure fields requiring 20k-compliant equipment. It was this customer's sentiment that led us to upgrade the hook-load capacities of our two ultra-deepwater drillships currently under construction to 3 million pounds, with a potential plan to convert them to the industry's first 20k ultra-deepwater drillships.

In short, in an environment in which our customers are experiencing relatively high and stable oil prices, relatively low and declining project cost, and some very real reserve replacement challenges, one can reasonably expect to see additional investments in the offshore market. And as evidenced by the recent contract awards and the conversations that we're having with customers around the globe, we are starting to see just that.

So, as we continue to prepare ourselves for that eventual recovery, you can count on us to remain steadfast in our commitment to drive continuous improvement in safety, equipment reliability, drilling efficiency, and our cost structure, while simultaneously evaluating specific opportunities to continue enhancing our fleet.

I'll now turn the call over to Mark.

[Mark-Anthony Lovell Mey, Transocean Ltd.]

Thank you, Jeremy; and good day to all. During today's call, I will recap our second quarter results, then provide updates to our 2018 guidance, and discuss our liquidity expectations through 2020. For the second quarter of 2018, we reported a net loss attributable to controlling interest of $1.1 billion or $2.46 per diluted share.

After adjusting for the unfavorable items associated with impairment charges related to the previously announced floater retirements and a write-off of goodwill, we reported an adjusted net loss of $18 million or $0.04 per diluted share. Further details are included in our press release.

Highlights for second quarter include: A full quarter of operations on the four Cat-D harsh environment semisubmersibles; a full quarter of operations of newbuild drillship Deepwater Poseidon, which commenced operations in the Gulf of Mexico in February; revenue efficiency of almost 100% on our ultra-deepwater fleet; and an increase of 271 operating days in the ultra-deepwater fleet relative to the prior quarter due to several new contracts commencing in the second quarter on the Discoverer India, GSF Development Driller I, KG2, and a full quarter of operations from the Deepwater Asgard.

Operating and maintenance expense was slightly lower than expected, primarily due to timing of certain maintenance activities. General and administrative expense was higher than anticipated relatively due to unforecasted changes related to the earlier retirement program for certain personnel and uncapitalized technology and innovation expenses.

Turning to the balance sheet and cash flow. Cash flow from operations totaled $3 million compared with $103 million in the prior quarter. The sequential decrease was primarily due to the timing of our interest payments; prepaid expenses, including insurance and income tax payments. The income tax payments included the first installment of the recently enacted U.S. transition taxes. Capital expenditures were $39 million, mainly related to fleet enhancements. This compares to $53 million in the prior quarter.

Additionally in May, we took another step to improve the overall quality of our fleet by acquiring a 33% interest in a joint venture that purchased a high-specification newbuild harsh environment semisubmersible, Transocean Norge. Including certain rig preparation costs, our initial investment was $91 million, with $50 million of the balance due in early 2019 and the remaining portion due one year later. During the second quarter, we opportunistically repurchased debt in the open market, totaling $76 million.

Following these two transactions, we ended the quarter with a cash and short-term investments balance of $2.5 billion. In late June, we further extended our liquidity runway with a new $1 billion of secured revolving credit facility, which replaces the prior revolver. This new RCF, which extends into 2023 has an accordion feature that permits an increase in capacity to $1.5 billion. Additionally, we completed two senior secured note offerings totaling $1.35 billion, further enhancing our balance sheet and liquidity position.

In late June, we issued $750 million of senior secured notes with a 2024 maturity receiving net proceeds of $733 million. The net proceeds together with cash on hand was used to refinance existing debt secured by the Songa Encourage and Songa Enabler. In mid-July, we issued $600 million of senior notes with a 2025 maturity, utilizing the newbuild drillship, the Deepwater Pontus as security. We received net proceeds of $586 million.

We will continue to evaluate opportunities to enhance our liquidity and strategically address our near and midterm debt maturities. We believe, we currently have access to and will continue to enjoy broad access to the capital markets with a wide variety of financing options available to us.

Let me now provide an update in our 2018 financial expectations. For the third quarter of 2018, assuming revenue efficiency of 95%, we expect our total contract drilling revenues to be largely in line with those in the second quarter. This forecast is inclusive of impact of short-lived labor strike in Norway, early termination revenue on Discoverer Clear Leader, and $29 million amortization of the Songa contract intangible revenues.

We expect third quarter O&M expense to be approximately $435 million. This sequential increase is partly associated with the previously discussed timing of certain maintenance activities and includes a portion of the maintenance and contract preparation related to our previously announced reactivation of the ultra-deepwater floater, the DD3. Most of the project's remaining costs however will be incurred in the fourth quarter. The rig is expected to commence operations in Equatorial Guinea in the first quarter of next year.

We expect G&A expense for the third quarter to be approximately $36 million. Net interest expense for the third quarter is expected to be approximately $150 million. This includes capitalized interest of approximately $9 million and interest income of $12 million. Capital expenditures, including capitalized interest for the third quarter, anticipated to be approximately $40 million.

Turning now to our full-year 2018 expectations. Contract drilling revenues for 2018 are expected to include approximately $124 million of revenue associated with the early termination of the Discoverer Clear Leader. With the reactivation of the DD3, an increase in expenses associated with customer reimbursables, and additional cost to recycle the recently announced four floaters, full-year operating and maintenance expenses are forecasted to be approximately $1.72 billion. This excludes any costs for speculative rig reactivations.

Including the aforementioned charges associated with the voluntary early retirement program incurred in the second quarter, we now expect full-year G&A expense to be approximately $175 million. Full-year 2018 depreciation expense is expected to be approximately $825 million; and full-year net interest expense is expected to be approximately $560 million. This estimate also includes capitalized interest of approximately $40 million and interest income of $50 million.

Our full-year 2018 cash taxes are now expected to be approximately $105 million. The increase relates to the transition taxes associated with the 2017 U.S. Tax Reform and Jobs Act. Capital expenditures in 2018 are expected to total approximately $160 million. This includes $77 million in newbuild CapEx, with the remainder primarily related to maintenance CapEx. Regarding the Transocean Norge we do not consolidate the entity, and our investment in the rig will be reflected as an investment in unconsolidated affiliates.

Turning now to our projected liquidity as of December 31, 2020. Including our new $1 billion revolving credit facility, which matures in June of 2023, our end-of-year 2020 liquidity is estimated to be between $1.5 billion and $1.7 billion. In addition, we have three rigs with long-term drilling contracts that could be used as security, should we need to access the debt capital markets in the future.

We estimate that we could raise up to $1.4 billion, utilizing the Deepwater Poseidon, the Endurance, and the Equinox and certain other associated assets as collateral. This liquidity forecast includes an estimated 2019 CapEx of $184 million, $94 million of which is related to the two newbuild drillships at Jurong. 2019 maintenance CapEx, expected to be approximately $90 million.

Additionally, we currently forecast 2020 CapEx to be approximately $1.14 billion. This includes the funnel payments of approximately $965 million on the remaining two newbuild drillships at Jurong and $170 million for maintenance CapEx. Please note that our CapEx guidance excludes any rig reactivations.

In conclusion, we continue to generate solid cash flow through monetizing our fleet's $11.7 billion contract backlog, strong revenue efficiency, and prudent management of our cost structure. We're also very comfortable with our balance sheet and liquidity position and flexibility it provides us, as the offshore market continues to recover.

Now, I'll turn the call back over to Brad.

[Bradley Alexander, Transocean Ltd.]

Thanks, Mark. Katie, we're now ready to take questions. And as a reminder to all participants, please limit yourself to one question and one follow-up question.

[Operator]

Thank you, sir. Our first question will come from Ian Macpherson with Simmons.

[Ian Macpherson, Simmons & Company International]

Jeremy, I wanted to ask about your appetite for additional reactivations, given you've had some success here with prior ones and now with the DD3. How would you compare your high-spec drillships that are stacked, like the Luanda, and the Americas, and the Clear Leader in terms of their readiness to be reactivated; the market's readiness for more drillships, given that, that segment still seems a bit more oversupplied over near term; and how their cost, to bring back to market, might compare to the $50 million that we're contemplating for the DD3?

[Jeremy D. Thigpen, Transocean Ltd.]

Yeah. Ian, to answer that – I mean, at this point in time, we're not considering any speculative reactivations in the ultra-deepwater front. I mean, you heard me thank, Roddie, Keelan, and Mark for the intense debate and consideration, as we consider each reactivation. And it really does – we discuss the asset itself, the target geographic market for that asset, the customer, and then of course that specific contract. And so, it's a good healthy debate, but I think is one that we will continue. So, short answer is, we don't anticipate any speculative reactivations at this time. We don't think the market supports that right now.

[Ian Macpherson, Simmons & Company International]

Okay. The Asgard seems like it's in sort of a position as the bellwether rig, being front of queue, with very high-spec drillship capabilities. We get the sense from, I guess, you and your peers that the pricing inflection for that category is still a little ways out, but not too far out. And we had, yesterday, saw one of your competitors announcing some contracts with the customer subscribing to higher rates and into the future. What is your perspective on the timing of day rate recovery, especially now that we've seen a couple of those large customers printing day rates into, sort of, a contango structure?

[Roddie Mackenzie, Transocean Ltd.]

Yeah. I don't think that would – so what we're seeing is, this increase in activity is obviously what's going to drive utilization, which is going to drive pricing. In terms of what we're looking at, we expect to see the demand side estimate continually be revised upwards, as we go through the second half of 2018. And that's boding really well for activity increase in 2019.

So, we think that the pricing begins to follow in 2019 and 2020. But I mean, just to illustrate on the activity side, we take a snapshot of all of the floater activity that's out there in tenders, we do it each quarter. So, this time last year, we were looking at something in the region of, ultra-deepwater, there was only about 12 years' worth of rig programs. And today, one year later that snapshot looks like 41 years.

So, that's a 240% increase, more than doubling of the floater demand. So, we really think that, that activity is going to start to sell out for the higher-spec assets in 2019, which will start to push pricing towards the end of 2019 and into 2020.

[Jeremy D. Thigpen, Transocean Ltd.]

And specifically as we talk about the Deepwater Asgard, she is one of the best assets in the world, and there's a lot of demand surfacing for it out there. And we're just trying to be very thoughtful and maintaining the optionality during the recovery, and so continuing to look for short-term opportunities as we wait for the full recovery and can command a higher day rate.

[Ian Macpherson, Simmons & Company International]

Okay, thanks. Just one more quick one. With the two rig opportunities in Mexico early 2019 that you mentioned, are those shorter term, or medium, or longer term in nature?

[Roddie Mackenzie, Transocean Ltd.]

Yeah. So, we've got a couple of opportunities that are like single wells or one well plus an option, but we've got also got some interest from our existing customers who plan to go down there and drill a few more wells. So, we think activity in Mexico in 2019 for us is going to be probably a couple of wells. And some of those rigs could be down there for a good six-month period.

So, it's boding well, especially as you've probably seen that – there's a lot of permitting that's been submitted recently for the likes of BHP, and Total, and Murphy. And what I see, in the midst of the second wave of permitting going in, so the likes of Equinor, Petronas, Repsol are all making a play to get activity down there. So, hopefully, Mexico's going to see quite a sharp increase as one of the greatest spots in ultra-deepwater at the moment.

[Operator]

Thank you. Our next question comes from Jim Wicklund from Credit Suisse.

[James Wicklund, Credit Suisse Securities (USA) LLC]

Good morning, guys.

[Jeremy D. Thigpen, Transocean Ltd.]

Hey, Jim.

[James Wicklund, Credit Suisse Securities (USA) LLC]

You've done the second to the last shale secured deal with only one left, and you've reworked the Songa maturities. What's next for the balance sheet, whether it's refinancing maturities, buying back stock, or do you expect to leverage most of the balance sheet for some strategic purposes going forward?

[Mark-Anthony Lovell Mey, Transocean Ltd.]

Jim, thanks for the recap. As far as anything that we have to do for the balance sheet right now, there isn't anything. We will repay the Songa Cat-D one and two rigs in August, as you're well aware. But beyond that, everything we do will be opportunistic and based upon strategic initiatives. So, if there is something out there, we've been looking at a rig, or we're looking at a transaction that we need to leverage the balance sheet for that, the balance sheet's very well-positioned for at the moment.

[James Wicklund, Credit Suisse Securities (USA) LLC]

Okay. I won't ask you what you might consider strategic going forward. We'll do that for a different time. My follow-up is your peers have mentioned an increase in direct negotiating conversations for floaters, rather than customers using tenders as much as they have in the past. Can you discuss any trends you're seeing on these conversations? And is that regional, is that by rig class, or is this something that's a flash in the pan?

[Roddie Mackenzie, Transocean Ltd.]

No I don't think it's a flash in the pan. I think obviously there is direct negotiations that tend to illustrate that, in our opinion, that utilization's heading upwards, right. So, if you have all the rigs available to you, then you go out to tender, or you get the lowest possible price. But I think, now, for some of the more specialized assets, we're seeing a bit more of the direct negotiations stuff. So, that I think that bodes well in terms of the high-spec units, but I wouldn't say it's a dramatic shift, but certainly, it's a trend.

[Jeremy D. Thigpen, Transocean Ltd.]

And we have seen in terms of the regionally, we've seen it specifically in the harsh environment sector in Norway and in Canada.

[Roddie Mackenzie, Transocean Ltd.]

Yeah, absolutely. And in the ultra-deepwater sector, there's not as much, but there are a few out there. And I think as competitive as the market is today, if you can play your cards close to your chest, then that bodes well.

[Operator]

Thank you. Our next question comes from Jud Bailey from Wells Fargo.

[Judson E. Bailey, Wells Fargo Securities LLC]

Thanks. I think that's me. Question for you guys on – maybe a little more color on Brazil. You talked about maybe getting back to 40 floaters at some point. Just wanted to kind of get your thoughts on the near to intermediate term and what the path is for Petrobras and also for the non-Petrobras operators down in Brazil? Thanks.

[Roddie Mackenzie, Transocean Ltd.]

Okay. Yes, so you're going to see a couple of awards come out shortly: Gato do Mato, which is Shell's program; and then, La Porte of Total will come out shortly. So, basically, the customers are all really positive about Brazil. There's a lot of excitement around the next pre-sell bidding round, which is coming up later in 2018. So, we think that's going to lead to some real solid incremental work from the IOCs. And that activity will translate in early 2019, and then, into 2020. And then, as the Sete situation progresses, that's kind of going to clear the way for Petrobras to become more active in rig fixtures.

So, as Jeremy mentioned, I think we're seeing the bottoming of the rig count in Brazil, as the IOCs add to the capacity that Petrobras loses. But Petrobras is very serious about moving forward on that. And the IOCs are as active as they have ever been in Brazil. So, that's leading to our optimism about getting back to 40 rigs at some point.

[Judson E. Bailey, Wells Fargo Securities LLC]

Okay. Thank you for that. And my follow-up is a little bit of a follow up to Ian's question on just that kind of the day rate structure for ultra-deepwater next couple of years. The contracts announced yesterday, as Ian suggested, shows a little more of a kind of a contango on the forward curve.

I just wanted to get your perspective. Are you having similar conversations with customers in terms of – in looking at availability that you're discussing higher rates in 2020 versus 2019, or is that coming on your radar at all? Or maybe just any color you can provide on how you see kind of the forward rate structure, and to the extent, the contracts announced yesterday are somewhat indicative or reflective of conversations you may be having as well.

[Roddie Mackenzie, Transocean Ltd.]

Yeah, I think the contracts you saw announced yesterday, I think, are solid, but there's plenty more room to run. In terms of utilization, what you see just now is ultra-deepwater effective utilization, of course, that's the marketing supply, right, that's taking out a lot of the cold stacked rigs, so they'll have money to reactivate them. But you're looking at something around 70% to 75%. Most projections have that moving up to about 85% beyond within the next two, three years.

And really just a couple of sources that we always look at, so Wood Mac, for example, they're projecting that the leading edge ultra-deepwater day rates are going to more than double in the next couple of years. And we believe it could be even stronger than that.

And again, that's just driven by the discipline we're seeing in terms of attrition of existing fleet, retiring of assets. We're beginning to see that there's a good likelihood that others will follow our lead and continue to do that. That is pushing up the utilization numbers which is good. And all it will take is a relatively small uptick in activity to start pushing that position where we get some pricing power again.

And certainly, in terms of activity, as we mentioned previously, the number of tenders out there has really, really increased; and we expect that to continue on. And in fact, we were just discussing this that for the fifth quarter in a row, we have seen more than 25 fixtures made in the floater sector, which is really a remarkable recovery story when you compare it to being 10 and less in 2016. So, it's a little positive trend.

[Operator]

Thank you. Our next question comes from Colin Davies from Bernstein.

[Colin Davies, Sanford C. Bernstein & Co. LLC]

Yes. So, just to continue the line of questioning around this potential uptick and tightening of utilization pricing in 2019 and 2020, can you talk a bit more around what you're seeing in terms of lens and term in the contracts? It seems like some of the 2019 and early 2020 opportunities, the majors are now starting to lock in a little bit of term. Can you talk through that, and the strategy and approach you have, given the fact that your market share seems to be nudging up, and whether you need to hold back from agreeing to lock in too much with those majors?

[Jeremy D. Thigpen, Transocean Ltd.]

It's a good question and you're exactly right. A lot of our customers are starting to look now at a little more term, as they sense that the recovery is imminent, and they want to make sure to take advantage of these lower day rates.

So, there are certainly requests out there, and we're trying to be very thoughtful with how we approach it. And obviously, it's good to sign fixtures and put rigs to work, but we want to be able to maintain some optionality for the recovery. And so, I don't know if you want to elaborate on that, Roddie?

[Roddie Mackenzie, Transocean Ltd.]

Yeah, absolutely. Jeremy is spot on there. So, we look closely at how close that opportunity might be and how long it runs for. So, you'll see some fairly competitive day rates for stuff that starts within the next year or so. But beyond that, there's actually – on the front lines, we're seeing some real frustration from some of the customers who have issued tenders.

And their replies to the tenders for work starting in 2020 and 2021 is not what they were looking for, markedly higher, sometimes double and triple the rates that you're seeing fixed today, because I think there is just a general sentiment amongst the contractors that the days of cash breakeven need to end, and we need to get back to making some solid returns when we get to later in 2019 and 2020.

[Jeremy D. Thigpen, Transocean Ltd.]

And as we've considered longer-term opportunities, we've looked to find agreement mechanisms with the customer to increase day rate in the outer years, just that we are able to capitalize on some of the upturn.

[Colin Davies, Sanford C. Bernstein & Co. LLC]

Yeah, that's very helpful, very encouraging for the early 2020 timeframe. And then just a practical follow on, noticed that Fleet Status report, the long-term contracts on the recent newbuild drillships took a step down and it's sort of demanning, but the step down was quite substantial. Can you talk us through what's going on there, and whether there's a potential in the longer term to move the other way?

[Roddie Mackenzie, Transocean Ltd.]

Yes, so this is really based around our drive to make offshore drilling as competitive, as we possibly can. So, we're taking as much waste out of the system as we can. So, we've done a lot of optimization offshore; we worked for the customers to see exactly where we can make savings. Those particular contracts, any such reductions that we make, we protect our margin on those contracts. So, what we're doing here is basically facilitating a lower cost overall and encouraging more investment in the space.

And really, what it's about is being more efficient but also looking at it from the total supply chain. So, for the operator, for example, personnel offshore is not just our cost, but it's also their cost, with the choppers, and insurance, and beds, and all those kind of stuff that to be provided. So, there's just been a general push in the industry to become far more efficient offshore, and this is one of the fruits of that labor.

So, it really bodes well for the future, because we're basically doing more with less. And as Jeremy pointed out, our uptime is extremely good at the moment. And of course, our performance is yielding several bonus opportunities for us. So, we're very optimistic about that, and we welcome that drive as a way to make offshore drilling very competitive indeed.

[Jeremy D. Thigpen, Transocean Ltd.]

And just to elaborate on that, the contracts were written such that if there was any escalation, which was what was anticipated when the contracts were written, that Transocean would be reimbursed for that escalation, then we entered the downturn. And so, between the de-escalation, if you will, and the demanning that we've proactively taken on, the customers do that savings.

[Operator]

Thank you. Our next question comes from Sean Meakim from JPMorgan.

[Sean C. Meakim, JPMorgan Securities LLC]

Thank you. Good morning.

[Jeremy D. Thigpen, Transocean Ltd.]

Good morning.

[Sean C. Meakim, JPMorgan Securities LLC]

So, maybe to follow up on the concept of taking on term at this point in the cycle, it sounds like maybe you're trying to maintain optionality in some of your best bet rigs, the Asgard being a good example, maybe where you think rates could move first. Is the strategy a bit bifurcated with maybe more willingness to lock up term in older assets, like the 712 or the DD2 might be in that camp? Just maybe it'd be great to highlight a bit of how – your approach taking long term is just contrasted by where these assets sit within your portfolio.

[Roddie Mackenzie, Transocean Ltd.]

Yes, certainly, that's exactly what you're looking at. So, 712's great example there. We're able to book a long-term contract, very positive margin for us, but obviously a fixed rate for a large period of time. On the other higher-spec rigs, we are making a very conscious effort to keep our optionality open. So, in all these cases, you will see, the longer-term contracts that we book on these assets, typically have adjustments later in the game, or they have performance upsides, or we've timed the end of those contracts to coincide with where we feel the recovery and pricing will be the strongest, allowing us to take full advantage.

[Sean C. Meakim, JPMorgan Securities LLC]

Okay. Thank you for that. And then, there's been lot of optimism the last couple of years in Mexico. Intermediate term, maybe it seems a bit more murky after the election. But new government being formed, sounds like there's a rush on some of your customers to maybe lock in some of the licenses they've awarded. Hopefully, can you grandfather it in if anything changes in terms of the political environment? Just your thoughts near term, intermediate term on the Mexican side, the Gulf of Mexico and what you're hearing from your customers there?

[Roddie Mackenzie, Transocean Ltd.]

Yeah, absolutely. So, with the new administration, there's obviously nervousness whenever you have a change. But what we've understood is that the new administration is accepting the status quo. What they've kind of said is, look, we're happy to continue on that vein, but we're going to make sure that there is nothing untoward in the award of those blocks, and so far, that seems fine.

As I mentioned before, the activity now is all around permitting for the environmental permits and drilling permits. So, the first wave of submissions are already in. We're expecting to see those approved shortly in the next month or two. And then, the next wave is already on its way. So, I think amongst the operators, they're quite optimistic that things will not deteriorate, and we take our lead from them. So, we remain quite bullish in Mexico for that.

[Operator]

Thank you. Our next question comes from Sasha Sanwal from UBS.

[Sasha Sanwal, UBS Securities LLC]

...guys, and good morning.

[Jeremy D. Thigpen, Transocean Ltd.]

Good morning.

[Sasha Sanwal, UBS Securities LLC]

You're starting to see early signs of slight shift in the urgency of E&Ps, when looking at offshore projects for late 2019 and 2020. Can you talk about what brands you are seeing in terms of E&P mandating specific rig specifications for floaters and tenders, and how that varies by region?

[Roddie Mackenzie, Transocean Ltd.]

Yeah, sure, absolutely. So, in terms of specifications for rigs, if you're in the market with a lot of rigs available, you ask for the highest specification you can get, and you're going to receive it. So, that tends to be what's happened so far. But what we are seeing is more specialized needs around the world. So, Australia has been a good example, but also, so is Equatorial Guinea with the Exxon award that we just got. So, extremely pleased to get that, but that's a good example of very specific attributes that were required to drill those programs. So, we worked on that in earnest.

Other thing I would say is about – you mentioned the E&P stuff. So, we were looking at some of the statistics that are go-forward exploration wells per year. And we see that there's expected to be from the lows of 2018 approximately a 40%, 50% increase in the number of exploration wells over the next couple of years, which will lead to very positive development scenario for follow-on wells in 2021 and 2022. So, we're seeing this increase in activity and a shift towards exploration that will lay the foundation for a very solid couple of years coming up.

[Sasha Sanwal, UBS Securities LLC]

Okay. Great. That's very helpful. And a question on rig reactivation, we've heard that E&Ps are making an extra effort to evaluate eight cold-stacked rigs, when they've been bid into contract. So, I guess, how do you think your extraction procedures compare to peers? And are you taking any extra steps to order spare part for backup equipment?

[Jeremy D. Thigpen, Transocean Ltd.]

Well, I mean, I think, the best way to answer that is to just kind of look at the track record. We have reactivated far more assets than any of our competitors. So, the customers that we have taken out to see some of our stacked assets – we've taken great care to preserve the assets – they've been extremely impressed.

And as I stated in my prepared remarks, not only did we get the work to reactive the rigs, but that we've also secured follow-on work. So, the assets have come online as intended, and they've worked at a high level to the standard that our customers expect from us. So, I can't really speak to our competitors. All I can speak to is – so far, the reaction from our customers have been extremely positive.

[Operator]

Thank you. Our last question today comes from Ian Macpherson with Simmons.

[Ian Macpherson, Simmons & Company International]

Hey. Thanks for the follow-up. I wanted to circle back on the Norge and get a sense of what your strategy is for buying in the rest of that rig and the timing. I would assume that securing a contract would be the catalyst you're looking for to fully purchase the rig? Could you talk about the process for that, and timing expectations in financing?

[Mark-Anthony Lovell Mey, Transocean Ltd.]

Yeah. Thanks, Ian. This is Mark. As you're well aware we're a one third owner in the joint venture. So, the agreement we have with the private equity group provides for options on both sides to take the rig out at some point. We understand that their preference would be to take the rig out once you have secured a multi-year contract. So, yes, but that doesn't mean if we do secure one, that it will definitely happen. It's just one of the mechanisms by which they can approach us to take the rig out. At this stage, we've got no discussions along those lines. So, I wouldn't expect to see anything until – at the earliest, 2019.

[Ian Macpherson, Simmons & Company International]

Got it. Thanks, Mark.

[Operator]

Thank you. At this time, I show no further questions. I'd now like to turn it back over to Mr. Alexander for closing remarks.

[Bradley Alexander, Transocean Ltd.]

Thank you all for your participation on today's call. If you have any further questions please feel free to contact me. We look forward to talking with you again when we report our third quarter 2018 results. Have a good day.

[Operator]

Thank you, ladies and gentlemen. This concludes today's teleconference. You may now disconnect.