Headwinds to tailwinds: are deepwater rig companies ready for a modernised upstream industry?

How can deepwater rig companies turn current weaknesses and threats into strengths and opportunities?

5 minute read

Leslie Cook

Principal Analyst, Upstream Supply Chain

Leslie is a principal analyst and project manager for Wood Mackenzie's portfolio of drilling and rig products.

View Leslie Cook's full profile

The energy transition, rig efficiency, automation and labour offer interesting challenges and opportunities for the future of deepwater rig companies in a modernised upstream industry.

The median age of sector workers is rising and attracting new talent is difficult. Advances in automation, artificial intelligence (AI) and big data have had a significant impact on offshore drilling and will address labour issues to some level.

Drawing on analysis from our Deepwater Drilling and Rigs Service and Supply Chain Service, we reviewed a SWOT analysis of the sector.

Balancing risk and reward

Recovery is a double-edged sword. Despite the healthier offshore rig market there are headwinds. Cost inflation continues to challenge the industry. Materials, logistics and labour are pressure points throughout the supply chain. Rig efficiency challenges the day rate model and poses the question of whether risk and reward are adequately shared.

Operators are intent on maintaining strategies that favour short-cycle barrels while maintaining capital discipline. This is a very different set of spending habits to the mid-2010s mega-project era. Rig companies, despite robust economics, are reluctant to add capacity, primarily due to contract utilisation risks. Achieving organic growth will be difficult as we expect very few/any newbuilds unless emissions/decarbonisation and or a significant technological advantage is demonstrated. Reactivations will provide limited growth opportunities. Similarly, we believe that growth outside of the drilling sector is limited with the window of opportunity for offshore wind closing.

A SWOT analysis of the deepwater rig sector

The most significant sector highlights include: 

Commercial challenges persist 

Despite marked improvements in utilisation and day rates, rig companies still face considerable headwinds. The day rate model has become a disincentive for those seeking to maximise the revenue from every contract. Greater efficiency is paramount to operators economic and emission targets. This efficiency means wells are drilled faster, reducing the number of days required for the rig. New models that include partnerships and shared wins will be necessary in the new upstream economy. Inflation remains a challenge. We expect costs will continue to climb albeit at a much lower rate. The supply chain remains shallow and faces many of the same issues highlighted here. Capital discipline is also a strong driver to carefully control capacity. 

Energy transition impact 

The longer-term outlook in the market means significant changes to the size and structure of the offshore rig business. Changes in consumer preferences, client strategies, and Government regulations are forcing rig companies to consider a future with less demand, fewer customers, and higher scrutiny regarding ESG practices. The solutions to reduce green-house gas emissions require new investments and wider collaboration, which up to now has been limited. We have yet to see rig companies formulate real strategies or create new business units focused on transition opportunities. 

There are no newbuilds on the horizon, and reactivations are providing only limited supply-side relief. While we see several supportive factors including favourable day rates and a strong demand outlook, there are also several inhibitors: reactivation costs: the longer the rig has been stacked, the higher the risk and uncertainty around costs. Our analysis indicates demand for oil will peak in 2032. If we consider fleet age and the need for incremental rigs to meet our supply forecast through 2032, we expect a relatively low number of rig additions of less than 20 and we believe that reactivations will be sufficient. Reactivation times: these are likely to be extended with rigs being stacked longer. There is a question of yard availability. Previous downturns have cut capacity for physical assets and skilled labour and reactivation levels are not at a point where yard owners will look to expand. Supply chains supporting reactivations, including yards that support newbuilds, have also been reduced. 

Unlike vessel contractors, rig companies have missed the window on offshore wind. While there is more demand for wind installation services to come, it will not be easy or inexpensive for rig companies to carve out market share organically. It could still provide an opportunity for some stacked rigs, but a major move into offshore wind will likely require acquisitions. 

Labour remains a key challenge 

The workforce has gone through substantial reductions over the last five years and many of those who lost their jobs will not return. Gen X and older millennials make up most of the workforce in oil and gas extraction. Younger workers are less interested in being part of the future of offshore drilling.  

The industry is highly cyclical and traditionally places higher value on what older, more experienced workers bring to the table. A new mentality among senior leadership is required to attract and retain the next generation.

Essential considerations include: 

  • Holistic competency development to move people up more quickly  
  • Visible and meaningful environmental, social, and governance (ESG) goals  
  • Earlier recruitment from outside the traditional academic programs  
  • Emphasis on technology – AI, robotics, automation – to make the work “cooler” 

The role of automation, robotics, and AI in rigs 

But technology alone is not where the value lies. The next big step for rig companies and their stakeholders involves integrating the technology into the broader system. This includes new processes, workflows and, most importantly, new skill sets among the humans who will interact with the technologies. This leads us to ask the question of whether the current rig fleet can assimilate these technological advances, or will we need new rigs to take us to the next level? Will this be enough to drive a newbuild cycle?  

A more holistic view of investment is required 

Decarbonisation is now firmly at the top of the agenda for the industry and regulators. Many of the newer generation rigs are equipped with emission monitoring which, until very recently, wasn’t used. Decarbonisation technology is costly and the return on investment is not obvious. A more holistic and longer-term view of these investments can go a long way to advancing green technology that lowers emissions on rigs. 

Deepwater rig companies are slowly coming to terms with the structural shifts taking place in the upstream industry. It is evident that many of the strengths and opportunities result from the close alignment between operator and rig companies. And the weakness and threats could be converted into opportunities by astute adjustments to rig company investment strategies, contracting models and talent acquisition. Real change will require more investment, wider collaboration, and a new mindset for recruitment and retention.  

The broader challenges of decarbonisation and green technologies also need shrewd adaptations, but true change needs an industry-wide focus. Now that rig companies are making money again it would behove them to focus on initiatives that can turn their headwinds into tailwinds.    

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