Transocean Stock Is Less Risky Than BP's

BP and Transocean shares have been pummeled since the Gulf oil spill, but Transocean's stock offers a better value play.
Publish date:

BOSTON (TheStreet) -- BP (BP) - Get Report, the poster boy for environmental incompetence, has seen its shares tumble 14% during the past five days. Last month's spill in the Gulf of Mexico, which involved a BP-leased rig, has damaged investor confidence and the company's reputation.

But yesterday, as the

S&P 500

tumbled 2.4% on European debt woes, opportunistic investors migrated into BP, bidding its shares up 2.1%. As BP struggles to stop the leak and contain millions of gallons of oil in the Gulf, the financial fallout for the company remains uncertain. Yesterday's rally could be short-lived.

Shares of


(RIG) - Get Report

, which owns the rig that exploded on April 20 before the spill, have declined 18% since the incident. Unlike BP stock, Transocean's declined 0.2% yesterday. It is scheduled to report quarterly results today at the close. The extent to which the companies will share the cleanup and repair costs has not been addressed. BP's market cap of $160 billion dwarfs Transocean's $24 billion, making Transocean more vulnerable to financial disruption.

Fitch Ratings

recently revised Transocean's outlook from "positive" to "stable," with a rating of BBB. Although the cut hurts sentiment, Transocean debt is still considered investment grade. Fitch says "standard industry practice dictates that Transocean's customers generally assume and indemnify risks associated with blowouts" and assumes that this "would extend to any environmental liabilities that result." If Fitch is correct, then BP is liable for cleanup costs.

However, if gross negligence is found on Transocean's part, indemnity is waived. The U.S. Minerals Management Service inspected the Deepwater Horizon rig in February, March and April. Transocean passed all three inspections. The loss on the rig depends upon whether insurance adjusters deem it a "constructive total loss." In that scenario, Transocean would be covered by existing insurance. Because the rig sank, that judgement seems likely.

Still, the opportunity cost of stalled operations on the destroyed rig and in the region remains a headwind to earnings. Nine Transocean workers are presumed dead after the blowout and wrongful death suits have been filed against the company. A suit brought forth by the family of crane operator Aaron Burkeen alleges the rig failed to meet federal safety standards.

Transocean and BP shares are trading at attractive prices compared to oil-and-gas peers. It's a dangerous time to invest in either company. While Transocean shares are being pummeled, they're less risky than one might expect. Its stock trades at a price-to-projected-earnings ratio of 6.9, a price-to-book ratio of 1.1 and a price-to-cash-flow ratio of 4.2 -- discounts of more than 60% to drilling peers. It's also cheap based on trailing earnings and sales.

Sell-side analysts remain bullish on Transocean, with 25, or 61%, rating its stock "buy" and 16 rating it "hold." In the bull camp is

Morgan Stanley

(MS) - Get Report

, which expects the stock to nearly double to $140, as well as research juggernauts

Sanford Bernstein


Goldman Sachs

(GS) - Get Report

. Risks are plentiful, but Transocean deserves consideration for speculative capital. The company's long-term prospects are attractive and its balance sheet is durable, with $1.2 billion of cash and $12 billion of debt, translating to a quick ratio of 1 and a debt-to-equity ratio of 0.6.

-- Reported by Jake Lynch in Boston.