Overview -- U.S.-based offshore drilling company Vantage Drilling Co. is issuing new senior secured debt to partly prefund a payment for a new drillship, thereby increasing the company's debt leverage. -- We are revising the outlook on Vantage to stable from positive. We are affirming the corporate credit rating. -- We are assigning a 'B-' issue-level rating and a '3' recovery rating to the proposed debt offering. -- The stable outlook reflects our expectation that Vantage will maintain adequate liquidity based on its good contract coverage. Rating Action On Oct. 3, 2012, Standard & Poor's Ratings Services revised its outlook on Houston-based offshore drilling company Vantage Drilling Co. (Vantage) to stable from positive. At the same time, we affirmed the 'B-' corporate credit rating on the company. We also assigned a 'B-' issue rating (the same as the corporate credit rating) to the proposed senior secured debt offering from Offshore Group Investment Ltd. (OGIL), which is a subsidiary of Vantage. We assigned a '3' recovery rating to this debt, indicating expectations of meaningful (50% to 70%) recovery in the event of a payment default. Rationale We revised the outlook to stable to reflect Vantage's increased leverage following the proposed debt offering, which the company plans to use to repay existing debt, fund a delivery payment due next year for its Tungsten Explorer drillship, for general corporate purposes, and for fees and other expenses. Pro forma for the offering and inclusive of adjustments for operating leases and accrued interest, we project that debt will total nearly $3 billion. As a result, the company's leverage measures will be very aggressive, averaging approximately 7.5x next year and between 6.5x and 7x in 2014. The ratings on Vantage reflect Standard & Poor's assessment of the company's business risk as "vulnerable" and its financial risk as "highly leveraged". The ratings primarily reflect the company's aggressive debt leverage, reliance on two of its drillships for a majority of its current cash flows and profitability, and participation in the highly cyclical and competitive offshore contract drilling industry. The ratings also reflect Vantage's relatively young and technologically sophisticated fleet and its decent backlog, especially from its drillships. We view Vantage's financial risk as highly leveraged. We expect the company to generate EBITDA of approximately $125 million for the remainder of 2012, $380 million next year, and $430 million in 2014, resulting in leverage of approximately 7.5x at year-end 2013 and 6.5x to 7x at year end 2014. We forecast that funds from operations (FFO) will be more than $30 million for the remainder of this year, $150 million in 2013, and $180 million in 2014. We project that free operating cash flow will be negligible for the remainder of 2012, that Vantage will outspend cash flows by $320 million next year (primarily due to its payment to take delivery of Tungsten Explorer), and that the company will be cash flow positive in 2014. Our forecast incorporates the following assumptions and expectations: -- We have assumed a $550,000 day rate for the Tungsten Explorer drillship (which is scheduled for delivery in mid-2013), and a $160,000 day rate for its jackups next year and $170,000 day rate thereafter. We have also assumed 90% utilization on the company's vessels, with operating and maintenance expense on its drillship and jack-ups averaging 40% and 50% of revenues, respectively. Our day rate assumptions compare to current bid rates for high specification drillships in the $600,000 per day range and for high specification jackups near $180,000. -- The Titanium Explorer (formerly called the Dragonquest) will operate for Petrobras in the fourth quarter, at a day rate near $600,000 (inclusive of bonuses) over the life of the contract. At this rate--and assuming at least 90% utilization and a 60% to 70% EBITDA margin--we project that the vessel could contribute between $150 million and $180 million to EBITDA annually. Vantage's vulnerable business risk profile incorporates the company's limited operating diversity. We base our assessment of Vantage's business risk profile on the small scale of its current fleet, which limits its asset and revenue diversity, and the risk that it could encounter unplanned downtime at any of its rigs. Currently, more than 50% of cash flows come from the company's Platinum Explorer, but going forward, we expect that the Titanium Explorer and Tungsten Explorer will reduce this concentration risk. In addition, we expect the company to continue operating in what we consider to be politically unstable regions (it currently operates in West Africa and Malaysia), and thus, it will remain vulnerable to geopolitical unrest. Vantage provides contract drilling services, primarily to international oil and natural gas companies. Its active fleet of six rigs consists of two high-margin, ultra-deepwater rigs (Platinum Explorer and Titanium Explorer) and four ultra-premium jackups (Emerald, Sapphire, Topaz, and Aquamarine). In general, Vantage's relatively new and technologically sophisticated fleet (which features high hookload capacity, deep drilling capabilities, and extended cantilever reach) is well-suited for drilling complex wells and operating in harsh environments. Vantage also has a construction and operating management business that contributes modestly to its profitability. The company's high-specification drillship, the Tungsten Explorer, is currently under construction and is scheduled to be delivered in mid-2013. (More than $400 million will be due at delivery.) Although the drillship is uncontracted, we expect that demand for deepwater drilling rigs will remain robust. As a result, we think the company will contract it at a favorable day rate prior to delivery. Vantage's four jackup rigs are contracted at least into the first quarter of 2013. The large number of uncontracted newbuild jackups scheduled to enter the market through 2013 could pressure day rates and utilization levels. However, the company has been successful in extending its contracts with existing customers and has been able to command higher day rates, as a result of the highly sophisticated nature of the fleet. The Platinum Explorer is contracted through 2015 at a favorable $590,000 day rate, and the Titanium Explorer is contracted to Petrobras for eight years at a day rate of $589,000, inclusive of bonuses. Liquidity We assess Vantage's liquidity as "adequate", incorporating the following expectations and assumptions: -- As of June 30, 2012, the company had a cash balance of $124 million and full availability on its $25 million revolver maturing in 2015. We expect that the proposed offering will leave liquidity in excess of $600 million. -- Fixed expenses are substantial, as the company will have approximately $200 million of cash interest expense annually pro forma for the proposed offering. We also expect the company to make a final payment of more than $400 million for the Tungsten Explorer in 2013. -- We think maintenance spending will average approximately $20 million annually. -- We expect Vantage's sources of liquidity to cover its anticipated uses by more than 1.2x over the next 12 months. -- The company has no near-term debt maturities. -- Our liquidity assessment incorporates our expectation that Vantage will continue to recontract its jackups at favorable day rates and that it will contract its Tungsten Explorer drillship before mid-2013. Recovery analysis For the complete recovery analysis, see Standard & Poor's recovery report on Vantage Drilling Co., to be published on RatingsDirect following this release. Outlook The outlook is stable. We expect that Vantage will continue to successfully recontract its jackup rigs at favorable market rates and that it will contract its Tungsten Explorer drillship prior to its delivery in mid-2013. We expect that Vantage will add additional rigs going forward, but the current outlook reflects our view that it will maintain adequate liquidity. We could downgrade the company if liquidity deteriorates, which could occur if its rigs encounter unexpected downtime or if day rates weaken significantly. An upgrade to 'B' will require run rate leverage below 6x. Given Vantage's very aggressive debt balance, we do not expect to raise the rating in the near future. Related Criteria And Research -- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011. -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008. Ratings List Ratings Affirmed; Outlook Revised To Stable To From Vantage Drilling Co. Corporate Credit Rating B-/Stable/-- B-/Positive/-- Offshore Group Investment Ltd. Senior Secured B- Recovery Rating 3 New Rating Offshore Group Investment Ltd. Senior Secured US$1.5 bil nts due 11/01/2019 B- Recovery Rating 3 US$800 mil nts due 11/01/2022 B- Recovery Rating 3 Complete ratings information is available to subscribers of RatingsDirect on the Global Credit Portal at www.globalcreditportal.com. All ratings affected by this rating action can be found on Standard & Poor's public Web site at www.standardandpoors.com. Use the Ratings search box located in the left column.