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Rating Action:

MOODY'S DOWNGRADES R&B FALCON'S Sr. UNSECURED RATING TO Ba3; ASSIGNS Ba3 TO RBF FINANCE CO.'S Sr. SECURED NOTES

17 Mar 1999
MOODY'S DOWNGRADES R&B FALCON'S Sr. UNSECURED RATING TO Ba3; ASSIGNS Ba3 TO RBF FINANCE CO.'S Sr. SECURED NOTES Moody's Investors Service assigned Ba3 ratings to RBF Finance Co.'s (RBFFC) proposed senior secured guaranteed notes, including $400 million due 2006 and $400 million due 2009. RBFFC is a nominally capitalized special purpose finance vehicle sponsored by R&B Falcon Corp. (RBF) which will also guarantee the notes. Moody's also downgraded RBF's ratings, which had been under review for downgrade since December 1998. The RBF downgrades include: senior unsecured notes, to Ba3 from Ba1; partially secured $350 million bank revolver, to Ba3 from Ba1; senior subordinated notes, to B2 from Ba3; and Cliffs Drilling's senior unsecured notes, to B1 from Ba2. In addition to comments herein, Moody's press releases of 12/10/98, 11/20/98, and 3/23/98 detailed the long-standing sector and RBF factors culminating in today's ratings actions. The senior implied rating is Ba3 and the ratings outlook is negative. Though Moody's recognizes incremental value in the RBFFC lien pool, the RBFFC rating is not currently notched, as discussed further below.

The effective source of RBFFC's debt service is the general funds of RBF. The ratings and outlook generally reflect: Moody's expectations of 1999 RBF cash flows far below capex requirements and minimal opportunity for debt reduction from cash flows until 2001; a continuing tight liquidity situation during a weak market and RBF's remaining 1999/2000 construction program; the fact that additional external funding will still be needed to complete the newbuilds during a period of weakened cash flows; exceedingly high leverage; the fact that a minority of RBFFC note proceeds will be available to fund newbuilds (most will repay revolver and Millenium bank debt); and the fact that RBF will, at least temporarily, not have a bank revolver following the offering and is negotiating in a weak market for a new revolver.

Lastly, the RBFFC and RBF notes are structurally subordinated to approximately $350 million of existing subsidiary debt and an additional $250 million of debt proposed to refinance the RB8SM newbuild which has been funded from cash flow. Once completed, the RB8SM will be delivered into a 5 year drilling contract with an oil major; the RB8SM contract is perhaps RBF's most durable drilling contract.

Still, RBF is large, widely diversified, and has strong operating leverage to an eventual sector recovery, generally, and to rising cash flow when/if completed newbuild rigs deliver into contracts during 1999 and 2000. The deepwater exploration market remains relatively stronger than drilling markets generally and RBF is building a large position in that market. In spite of the risk of contract cancellation or renegotiation due ultimately to weak oil prices and a looser deepwater rig market, RBF should see firming earnings in 1999 and thereafter. If the remaining newbuilds are completed within a time frame acceptable to RBF's upstream customers, if additional cost overruns are not sizable, if the new rigs/rig crews perform within contract terms, and if RBF does not experience further contract cancellations beyond the December 1998 Jack Bates and a likely Peregrine VII cancellation, RBF's cash flows may stabilize by mid-1999 and begin rising in 2H99 through 2001. With eventual oil price recovery, oil majors' cash flows and attraction to deepwater provinces would be placed on more certain near- and medium-term footing, lessening the risk of contract nullification or renegotiation.

Still, retention of the ratings assigned today hinges on reestablishment of an unquestioned, visible liquidity structure by mid-1999. Moody's believes an $800 million note issue does not accomplish that task. If a bank revolver of roughly $150 million is reinstated, if the proposed $250 million RBS8M private placement is completed, if the Deepwater Frontier synthetic lease is completed, and if at least $800 million of new notes are placed, RBF's liquidity position should stabilize and position RBF for sector recovery. However, failure to fortify the liquidity position could result in an additional downgrade of RBF's and RBFFC's debt.

As detailed below, though Moody's recognizes incremental value on the RBFFC lien pool, the RBFFC ratings are not now notched above the senior implied rating due to the still inchoate nature of the RBFFC collateral package when combined with certain other issues discussed below. The RBF notes are not currently notched down from the senior implied rating due to (1) recognize the evolving nature of the proposed RBFFC lien package, (2) the RBF notes' negative pledge generally on fleet assets existing at the time of their launch, and (3) the limited proportion of RBF's current and completed 141 rig fleet book, market, and replacement values represented by the proposed $800 million of liens. The key five rigs, of the ten rigs in the collateral pool, while ultimately potentially of considerable value, remain under construction and represent 91% of the proposed lien value. The very small $68 million lien value permitted on the five rigs that are completed, and significant construction cost/delay, completion, and performance risk associated with the five rigs still under construction postpones notching recognition.

The five rigs still under construction have an ultimate maximum lien value of $732 million, yet, as of 12/31/98, $637 million had yet to be spent on those rigs. RBF estimates the completed replacement cost of the five rigs still under construction to be $1.3 billion, but the market value of rigs still under construction would suffer a significant discount from book value if monetized, especially during an industry trough.

The RBFFC rating is also not helped by the lack of cross collateralization between the ten rigs and the co-mingling of RBFFC rig cash flows with RBF cash flows. The RBFFC notes can move on individual rigs only on a default of an individual underlying loan, and timing delays and value erosion would result if RBF itself has defaulted, if monetization is delayed and carrying costs climb in bankruptcy, if rigs must be mobilized from great distances, and as maritime liens must first be satisfied.

Accordingly, at this time, there appears to be insufficient hard asset value in the lien pool to warrant notching the RBFFC notes above the RBF notes. As rigs are completed, the RBFFC ratings will be revisited. Delivery of those rigs into contracts would, of course, also be favorable to both the RBFFC and RBF ratings.

RBFFC will generate funds for debt service from its own debt service earned on ten individual loans made to RBF. Each loan is sized to the maximum lien permitted on a specific rig. All revenues from rigs assigned to the RBFFC collateral pool will be co-mingled with RBF's general funds and all of RBF's debt service due on the RBFFC notes would be paid from RBF general funds, regardless of whether an assigned rig is or is not working.

Leverage is exceedingly high and probably can not be materially reduced by cash flow until 2001. With management discipline, capex will fall sharply in 2000 and could be minor in 2001, again with management discipline. On-balance sheet debt will at least approach $2.8 billion in 1999. Coupled with RBF's share of the Deepwater Frontier and Deepwater Pathfinder construction period and take-out synthetic leases, total off-balance sheet and on-balance sheet debt will exceed $3 billion. Any accelerated deleveraging prior to 2001/2002 would require an equity offering or strategic activity funded with equity currency.

Moody's believes 1999 EBITDA will be in the range of $350 million to $400 million, and cash interest expense will approximate $230 million (excluding the Frontier and Pathfinder). EBITDA/Interest at the trough could easily be roughly 1.5x and 1999 Total Debt/EBITDA could approach 9x before possibly declining to 5x to 6x in 2000.

Senior unsecured ratings downgraded to Ba3 from Ba1 are: R&B Falcon's $100 million of 9.125% notes due 2003, $300 million of 9.5% notes due 2008, $250 million of 6.5% notes due 2003, $350 million of 6.75% notes due 2005, $250 million of 6.95% notes due 2008, and $250 million of 7.375% notes due 2018. Downgraded to B1 from Ba2 is Cliffs Drilling's $200 million of 10.25% senior unsecured notes due 2003, and, to B2 from Ba3, Falcon Drilling's remaining $17 million of senior subordinated notes.

RBF believes that its ability under its existing indentures assign the lien values proposed for the RBFFC notes resides in the permitted liens language for after-acquired assets.

R&B Falcon Corporation is headquartered in Houston, Texas.

No Related Data.
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