Another win in battle with Petrobras over Ocean Valor A Brazilian appellate court today unanimously sided with Diamond Offshore Drilling Inc (NYSE:DO) in the court case over the fate of the Ocean Valor, which Petrobras (PBR) tried to terminate early with no compensation on August 30. The drilling contract had been set to conclude in October 2018, and Wednesday’s panel of three judges’ decision overrides Petrobras’ appeal of a judge’s Sept 13 injunction keeping the rig on contract. PBR can still appeal this ruling to the Superior Court of Justice, but it was unclear if it would do so. The Valor has remained on the original contracted rate of $455K/day, well above spot rates.
Bank of America Merrill Lynch thinks the positive ruling removes an overhang on DO shares from when the legal battles began. In the best case scenario, assuming the rig runs at full rate the duration of the contract, BAML assumes $94M EBITDA benefit over 2017/18E relative to the worst case scenario of a successful appeal and contract termination within three months. As it stands, the firm split the difference between a potential future negative ruling and the rig working through its original contract duration through Oct. 2018, and assume the rig is on rate through the end of 2017E. As such, the firm's 2017E EPS moves up to $0.80 from $0.70. BAML's 2018-19E is unchanged. In a bull case, where the rig remains on its full rate through the entire contract, the firm's 18E would move from LPS of $0.30 to LPS of $0.10. In a bear case where the rig is terminated in three months, BAML's 17E would move to $0.45.
BAML reiterated its Buy rating and $22 PO, which is based on a 10.5x EV/EBITDA multiple on 2019E, at the higher end of its historical 6-14x, as the firm expects 2019E will remain challenging for offshore drillers. While Petrobras has driven some of the largest cuts in offshore expenditures, it still remains one of the biggest players in the offshore drilling space, and BAML maintains a good working relationship with DO despite the ongoing court battle over the Valor. OFS companies on recent conference calls touted an improving market in Brazil from depressed levels. Once Petrobras is able to grow its offshore capex, the firm expects DO will be a competitive option for eventual rig additions.
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