JP Morgan has upgraded Transocean (RIG) from Neutral to Overweight. JPM thinks that a number of recently-signed contracts are indicative of growing demand for deepwater exploration and that pricing trends are working in RIG’s favour:
RIG’s Pathfinder rate ($652k/d) illustrates not only the premium for early availability (1Q10 start) but also the strength inherent in this cycle given the five-year term. RIG has significant exposure to an extended deepwater cycle as every $50k/d increase in deepwater rates adds $1.58 to EPS ($3.21 including all floaters).
JPM also expects RIG to generate a lot of free cash flow, which it will eventually return to shareholders through a variable dividend:
Even with 10 deepwater newbuilds under construction, we estimate FCF for 09, 10, and 11 at 9.7%, 13.5%, and 16.2%, respectively. While short-term debt of $3.4b may consume cash in the near term, it pales next to the $21b in FCF we estimate through 2011. We expect RIG will ultimately return cash to shareholders at a meaningful rate through a variable dividend.
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