Last week we looked here at how the higher oil price, the growth of offshore wind energy, and abundant funds have driven deal-making in offshore in the usually quiet summer season. But wait…there's more!
Now, further deals have been announced in Brazil, as investor interest in the offshore sector surges to levels not seen since the heady days of 2014.
The saga of foreign investment in the offshore market in Brazil over the last forty years has been characterised by recurring cycles of hope and big investment, tempered by massive losses and despair.
Brazil is an expensive market in which to operate, with taxes layered on taxes and social charges. The largest customer is the state oil company, Petrobras, which famous/notorious for its abusive charter contracts that penalise vessel and rig owners for the smallest infractions of its arbitrary rules.
Petrobras has been incredibly successful at developing Brazil's ultra-deepwater oil fields in the pre-salt geology with daily production of around two million barrels of oil a day. It has also been incredibly successful at encouraging its marine contractors to underbid and lose money on long-term contracts, impacted by Petrobras' expensive penalty regime.
Local content requirements and customs legislation encourage vessels to be flagged to the Brazilian register and built locally. Brazilian crew receive salaries and terms that rival those for North Sea crews, depending on the notoriously volatile exchange rate of the Brazilian currency, the real (BRL) (here). As the BRL falls, Brazil typically experiences inflation, and this has been a major problem as the currency has fallen from just over BRL3 to the US dollar in 2016 to more than five this year.
A recent collective bargaining agreement between Sindmar, the Brazilian National Union of Merchant Marine Officers, in July 2021, covering officers and electricians on offshore vessels, granted seafarers a pay adjustment based on the full inflation adjustment according to the Brazilian National Consumer Price Index change between February 2016 and January 2021. This totalled 36.28 per cent, retroactive to February, with a second increase in line with inflation due next year.
This has hammered shipowners.
Foreign shipyards were hard hit by the lava jato ("car wash") corruption scandal in the state oil company Petrobras from 2014. This led to the collapse of rig owner Sete Brasil, leaving unfinished rigs, fines for bribery, and huge losses for Singapore's Keppel O&M and SembMarine (here).
Since 2015 barely any new orders for offshore vessels have been reported. Vard has effectively mothballed what was once a prime cash cow, the Aker Promar yard in Rio de Janeiro, and it now performs only maintenance there. Other yards have closed completely.
The changing fortunes of UP Offshore illustrate some key trends.
In 2012, flush with optimism over the massive investment Petrobras was making in pre-salt drilling offshore Brazil, private equity company Southern Cross paid US$220 million to take 78 per cent of Ultrapetrol from the Menendes-Ross family, including its UP Offshore subsidiary and its fleet of nine PSVs.
The collapse in the oil price in 2015 led to the predictable cancellation of contracts by Petrobras, and efforts to drive down charter rates. Along the way, there were casualties, as the active offshore fleet in Brazil fell from 500 vessels at its peak in 2016 to 373 working ships at the end of 2020.
Many ships in the UP Offshore fleet were out of work, as charters dried up. The company was quick to cold stack UP Agate in the North Sea in 2015, and other units soon followed. UP Offshore could not service the debt on the offshore fleet and Southern Cross would not put in any more capital. Like so many investors in offshore, Southern Cross saw its investment wiped out.
In December 2018, the banks sold UP Offshore to Seacor Marine and its Mexican partner for a nominal sum, in return for refinancing some US$95 million of the company's bloated debt.
At the time, John Gellert, CEO of Seacor Marine, issued a statement with his Mexican co-investor.
"We are pleased to expand our partnership and are excited to create a unique offshore services group with local presence in the major markets of Latin America…," the statement read. "Through our new joint venture, we will now have a meaningful presence in Brazil. In acquiring UP Offshore, we were able to use our joint venture capital efficiently and plan to integrate a strong platform in Latin America into Seacor Marine's global network. The UP Offshore transaction demonstrates the benefit of lenders and operators working together."
By early 2021, Seacor was reporting US$9.7 million in losses for 2020 (here), being "mostly non-cash and non-recurring charges in our joint ventures in Latin America as a result of the recognition of losses originating in our investment in UP Offshore in Brazil."
Mr Gellert wasted no time in ditching UP Offshore, when it was clear that the "meaningful presence" of the joint venture in Brazil was only generating red ink for its parents. In May 2021, Seacor and its Mexican partner announced they were selling UP Offshore to local player Oceanpact for just over US$30 million, along with attached debt.
Flush with cash from a stock market listing, Oceanpact has shown itself to be a company in a hurry to grow.
Through the UP offshore purchase, Oceanpact gained the converted DP2 ROV support vessels UP Coral, UP Pearl and UP Opal on term charters with Petrobras at rates of over US$26,000 per day per vessel, and five laid-up UP Offshore PSVs, long cold-stacked.
But this was just one deal this year from a company that has moved to transform the Brazilian offshore support vessel sector.
Founded in 2007 with a focus on oil spill response, Oceanpact grew to own four vessels in 2011 in a joint venture with American emergency response player Witt O'Brien. It then set up a joint venture with British survey company Gardline. Oceanpact ended up acquiring Gardline completely in 2019, making it the largest player in Brazil in environmental surveys, geology, geophysics, geochemistry, oceanography and marine geotechnics, the company claims.
In January 2021, Oceanpact listed on the Brazilian stock exchange. It raised US$171 million in fresh funds, and the existing shareholders took home US$56 million from selling their shares.
Flush with cash, Oceanpact has been on an acquisition binge, boasting to investors this month that it had grown its fleet from 13 ships in 2016 to 33 ships today. Obviously, organic growth wouldn't suffice, so in addition to the eight UP Offshore vessels, Oceanpact swiftly bought the DP2-equipped fast crewboat John G. McCall from Seacor for US$3.4 million, and this unit was soon awarded a contract to Petrobras as an oil spill response vessel. The contract was delayed by Petrobras to a December start, despite the ship already having been expensively converted for its new role.
Skandi Saigon ends up in Copacabana
The company then entered into a bareboat purchase agreement with the owners of the 196-tonne bollard pull, STX AH 08 design anchor handlers Skandi Saigon and Skandi Peregrino.
These had been built at what is now Vard's Vietnam yard as part of a series of six sister vessels delivered between 2010 and 2012 to a joint venture between the Akastor investment house and DOF called DOF Deepwater. One vessel was sold on delivery. When DOF fell into distress in 2020, Akastor bought it out of the DOF Deepwater joint venture (here) and renamed the company DDW Offshore.
DOF Deepwater's lenders agreed that 50 per cent of the current debt would be converted to equity and that the remaining half (around NOK520 million or US$59 million) would remain, including a parent company guarantee from Akastor but with no fixed installments being due until the maturity of the loan in 2023. This gave Akastor time to sort out the mess if the market improved, a classic exercise in kicking the can down the road (here).
It also gave Akastor and its lenders every incentive to sell the vessels, as owning anchor handlers is in no way part of Akastor's core business anymore, and several of the DDW ships were laid up, including Skandi Saigon.
Oceanpact duly delivered Akastor's expectations and agreed a bareboat hire purchase from DDW, having won a four-year Petrobras charter for each vessel at a day rate of US$31,400. This charter rate is less than half the rate that similar vessels were chartered to Petrobras in the heady days before 2015, and the long-term nature of the deal locks Oceanpact out of any market upside until 2025.
"DDW Offshore's lease agreements with OceanPact commenced in the quarter with two vessels now on bareboat contracts, contributing positively to this quarter's consolidated financials as well as securing a steady cash flow for Akastor over the lifetime of the contracts," Akastor announced in July (here).
Not content with taking the DOF anchor handling duo, on July 1, Oceanpact also acquired the ROV support vessel Parcel do Bandolim from Bourbon for US$5.28 million. The ship is currently under contract with Petrobras until mid-2024.
Then, on July 2, Oceanpact entered into a memorandum of understanding with Neptune Subsea to acquire another ROV support vessel, Larissa, for delivery in October.
When Oceanpact listed just seven months ago, its shares were priced at BRL11.15 (US$2.12) per share.
Today they stand at BRL4.18 (US$0.80) per share, even though the oil price has firmed and the company has announced these massive new contracts.
Investors who bought at the IPO have lost 60 per cent of their money in less than a year.
Unfortunately, Oceanpact's shareholders, and especially the new investors who bought into the optimistic IPO, have been taught a crash course that Edison Chouest, Bourbon, Tidewater, Solstad and Swire Pacific Offshore could already have told them through their painful experiences in Brazil: winning long-term, large contracts for state-of-the-art marine assets with Petrobras is not necessarily a path to riches.
What many foreign companies took years to learn, Oceanpact has achieved in just a few months. The company's guidance to investors, dated August 14, is a sorry tale.
"In spite of the deliveries completed," CEO Flavio Nogueira Pinheiro de Andrade wrote, "the progress of future deliveries, the investments in line with the planned scope, pace, size, and budget, along with the improvement in market conditions, we cannot fail to mention the disappointing results registered so far, and expected for the year.
"The delays in deliveries, the fines resulting from these delays, a delay in the allocation of non-contracted vessels, thus reducing the average occupancy rate of the fleet, the higher than expected readjustment in salaries for embarked officers, the increase in the costs of the structure required to ensure safe growth, and the adequate use of funds, and finally, a longer-than expected delay in signing some important agreements….
"Moreover, all these factors have been aggravated by increased costs directly related to Covid, such as pre-boarding quarantines in hotels (remunerated as overtime working hours), tests and exams, PPE, medical care and emotional support extensive to the families, have brought about a major impact."
So, basically, Oceanpact has experienced what every offshore company in Brazil has suffered before, with the added double whammy of budget blow-outs reactivating the laid-up DDW anchor handlers, as well as making provision for US$7.5 million of penalties to Petrobras for the late delivery, plus a pile of extra costs relating to Covid.
Mr Pinheiro de Andrade observed that he was "aware that the frustrations mentioned above may raise legitimate questions, and make the dialogue with our shareholders more difficult".
Basically, anyone who has worked in offshore in Brazil could have warned Oceanpact of these dangers.
The expansion of Oceanpact has shaken up the Brazilian industry, which has long been dominated by a mix of foreign players, led by Edison Chouest, and domestic players, headed by the Wilson Sons Ultratug Offshore joint venture, which owns 23 Brazilian-built mainly PSVs, and Grupo CBO.
With the backing of two of South America's long established diversified marine groups, Wilson Sons Ultratug Offshore has a strong balance sheet, supported by Wilson Sons' significant port, terminal and supply operations (here).
Grupo CBO is a different story. It was originally formed by the Fischer family, famed for their orange juice business and citrus plantations.
In 2013 CBO was acquired by two private equity funds – Vinci Partners and Pátria – in partnership with BNDESPar, the investment arm of Brazil's national development bank.
You will observe that rather like the exit of the Menendes-Ross family from UP Offshore, so did the Fischer family time their exit perfectly, just before the market crashed.
The "secret sauce" that the private equity investors in CBO intended to use to improve returns was an aggressive growth plan that expanded its fleet with the construction of ships at its own shipyards, when other Brazilian yards were capacity constrained.
They then planned to buy cheap foreign vessels since in Brazil, shipping companies are allowed to have up to half of their national fleet tonnage in foreign-flagged vessels and CBO had none at the time.
Already in early 2020, CBO's investors were eying an IPO in Brazil. Investors crave growth, and so CBO embarked on an expansion drive to differentiate itself.
It has now built itself up to 33 vessels, buying the DP2 PSV Standard Supporter from Standard Drilling in December 2019 for the steep price of US$15 million, its first acquisition. Renamed CBO Supporter, this is a 4,100DWT diesel-electric vessel built to the UT 776 CD design in 2009 with 1,000 square metres of clear deck. The vessel had previously operated in the North Sea.
Further seeking differentiation and the important mark of approval from green investors, in late 2020, CBO announced it had signed a contract with Wärtsilä to convert CBO Flamengo to operate with hybrid propulsion. CBO claimed that this would be the first vessel in Latin America to be fitted with a battery pack for hybrid propulsion.
As we highlighted here, this will improve the vessel's energy consumption and reduce its carbon footprint, and improve CBO's marketability to investors concerned about its environmental impact. The order with Wärtsilä was placed in October 2020.
Last month, CBO followed up by buying the DP2 CBO Energy, a 5,000DWT PSV that had remained undelivered for several years at Fujian Mawei Shipbuilding in China. I haven't seen a price for the unit. This was the company's third external purchase after buying the AHTS CBO Endeavour – the former Skandi Bergen, a 17,900kW anchor handler built in 2010 – in December 2020.
Then came the biggie. Last week, as we covered here, CBO announced it buying was Finarge Apoio Maritimo, the local subsidiary of Italian towage provider Rimorchiatori Riuniti. In a stroke, CBO got its hands on the Italian owner's fleet of five large AHTS, one of which is Brazilian-flagged, but four of which are Italian-registered vessels.
With the conclusion of the transaction, CBO will have 14 AHTS vessels operating in Brazil. Its fleet will be bigger than Oceanpact's and Wilson Sons Ultratug Offshore's.
I feel sorry for CBO's private equity owners, however. In 2020, just as they were primed for an IPO on the Brazilian stock exchange to exit the business, Covid struck and forced them to knuckle down and continue their ownership. A sale was impossible once oil prices fell below US$30 per barrel.
CBO then sought to build up its fleet and follow hot on the heels of Oceanpact to issue new stock in early 2021. But Oceanpact's appalling performance will surely have soured investor sentiment towards investing in CBO. CBO is a completely different creature to Oceanpact, with a solid track record, a high-quality fleet, and a strong management team.
But as we have seen in the wind sector, investors are herd animals. Whilst the Brazilian offshore sector is undoubtedly growing again, the botched acquisitions and poor contract performance of Oceanpact will certainly damage CBO's prospects of listing, and its price if it does succeed.
Yet the season for deals is on, investors are returning to offshore, and a well-run company like CBO won't have to wait long to find buyers if the current surge in interest continues.
Still, let's hope everyone can learn from Oceanpact's calamitous buying binge. Growth for growth's sake is destructive. Ill-advised expansion can bankrupt companies and ruin managers' reputations. Brazil is a hard market and Petrobras is an unforgiving customer.
Offshore is cyclical and I sense a new cycle beginning amid the ruins of the old.
Game on in Rio!
Background reading
Oceanpact's guidance forecast dated August 16 provide excellent background reading on the Brazilian OSV market and Oceanpact's dramatic fleet expansion here.
Oceanpact's January Initial Public Offering prospectus is here (in Portuguese).
There's a very informative interview with CBO's CEO Marcos Tinti and the top management team here.
CBO's most recent results announcement for second quarter of 2021 is here.
For our other coverage of private equity in offshore see here.