THE VALSPAR CORP Management's Discussion and Analysis of Financial Condition and Results of
Operations should be read in conjunction with the accompanying unaudited
condensed consolidated financial statements as of
EXECUTIVE SUMMARY
Our Business
We are a leading provider of offshore contract drilling services to the international oil and gas industry. Exclusive of two rigs under construction and three rigs marked for retirement and classified as held-for-sale, we currently own and operate an offshore drilling rig fleet of 65 rigs, with drilling operations in almost every major offshore market across six continents. Inclusive of rigs under construction, our fleet includes 13 drillships, five dynamically positioned semisubmersible rigs, one moored semisubmersible rig and 48 jackup rigs, nine of which are leased to our 50/50 joint venture with Saudi Aramco. We operate the world's largest fleet amongst competitive rigs, including one of the newest ultra-deepwater fleets in the industry and a leading premium jackup fleet.
As of
Our Industry
Operating results in the offshore contract drilling industry are highly cyclical and are directly related to the demand for drilling rigs and the available supply of drilling rigs. Low demand and excess supply can independently affect day rates and utilization of drilling rigs. Therefore, adverse changes in either of these factors can result in adverse changes in our industry. While the cost of moving a rig may cause the balance of supply and demand to vary somewhat between regions, significant variations between regions are generally of a short-term nature due to rig mobility.
During the first half of 2020, the COVID-19 global pandemic and the response
thereto have negatively impacted the macro-economic environment and global
economy. Global oil demand has fallen sharply at the same time global oil supply
has increased as a result of certain oil producers competing for market share,
leading to a supply glut. As a consequence, the price of Brent crude oil fell
from around
55
--------------------------------------------------------------------------------
Additionally, the full impact that the pandemic and the decline in oil prices will have on our results of operations, financial condition, liquidity and cash flows is uncertain due to numerous factors, including the duration and severity of the outbreak, the duration of the price and demand decline, and the extent of disruptions to our operations. To date, the COVID-19 pandemic has resulted in only limited operational downtime where outbreaks have been experienced on rigs requiring a shutdown of operations while crews are tested and incremental sanitation protocols are implemented. While we have not experienced downtime due to quarantines or an inability to staff our rigs due to travel restrictions or stay-at-home orders, we are incurring additional personnel, housing and logistics costs in order to mitigate these potential impacts to our operations. In limited instances, we have been reimbursed for these costs by our customers. Our operations and business may be subject to further economic disruptions as a result of the spread of COVID-19 among our workforce, the extension or imposition of further public health measures affecting supply chain and logistics, and the impact of the pandemic on key customers, suppliers, and other counterparties.
We expect that the remainder of 2020 will be a challenging year for drilling contractors as customers wait to gain additional clarity on commodity pricing and seek to reduce costs in the near-term by attempting to renegotiate existing contract terms. We believe the current market and macro-economic conditions will create a challenging contracting environment through at least 2021.
The combined effects of the global COVID-19 pandemic, the significant decline in
the demand for oil and the substantial surplus in the supply of oil have
resulted in significantly reduced demand and day rates for offshore drilling
provided by the Company and increased uncertainty regarding long-term market
conditions. These recent events have had a significant adverse impact on our
current and expected liquidity position and financial runway. The Company did
not make interest payments due in June and
Based on our evaluation of the circumstances described above, coupled with
significant asset impairments (See " Note 6 - Property and Equipment") and
substantial borrowings on our revolving credit facility, we determined that
there was a significant level of uncertainty as to whether we will be in
compliance with covenants to maintain specified financial and guarantee coverage
ratios, including a total debt to total capitalization ratio that is less than
or equal to 60%, within the next twelve months. If we exceed the total debt to
total capitalization covenant in our revolving credit facility, further
borrowings under the revolving credit facility would not be permitted, absent a
waiver in respect of the resulting event of default from the breach of the total
debt to total capitalization covenant, and all outstanding borrowings could
become immediately due and payable by actions of lenders holding a majority of
the commitments under the revolving credit facility. Any such acceleration would
trigger a cross-acceleration event of default with respect to approximately
56
--------------------------------------------------------------------------------
We are actively pursuing a variety of transactions and cost-cutting measures,
including, but not limited to, further reductions in corporate overhead and
discretionary expenditures, another potential waiver from lenders under, or
amendment to, our revolving credit facility, another potential forbearance from
holders of our senior notes, further reductions in capital expenditures and
increased focus on operational efficiencies. We are also actively negotiating
with certain holders of our senior notes and certain lenders under our revolving
credit facility regarding a comprehensive restructuring of our indebtedness.
While there can be no assurances as to ultimate timing, we expect our
restructuring is likely to be implemented imminently through cases under Chapter
11 of the
In light of the foregoing, the unaudited condensed consolidated financial statements included herein were prepared on a going concern basis of accounting, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. The consolidated financial statements do not reflect any adjustments that might be necessary should we be unable to continue as a going concern. We will continue to evaluate our going concern assessment in connection with future periodic reports.
Backlog
Our backlog was
As we finalize negotiations of contract concessions with our customers,
above-market rate contracts expire and revenues are realized, we may experience
further declines in backlog, which would result in a decline in revenues and
operating cash flows over the near-term. Contract backlog was adjusted for
drilling contracts signed, terminated or concessions granted after each
respective balance sheet date but prior to filing each annual and quarterly
report on
BUSINESS ENVIRONMENT
Floaters
The floater contracting environment remains challenging due to limited demand,
excess newbuild supply and the fall in oil prices earlier in the year. Floater
demand declined materially in March and
During 2020, we have received notices of termination, requests for concessions, cancellation and/or deferral of drilling programs by operators and we may receive additional requests for concessions, termination and/or deferral notices during the pendency of the current market environment.
57
--------------------------------------------------------------------------------
During the second quarter, the VALARIS DS-7 contract for operations offshore
During the first quarter of 2020, VALARIS DS-12 was awarded a one-well contract
that commenced in
The
There are approximately 25 newbuild drillships and semisubmersible rigs reported to be under construction, of which four are scheduled to be delivered before the end of 2020. Most newbuild floaters are uncontracted. Several newbuild deliveries have been delayed into future years, and we expect that more uncontracted newbuilds will be delayed or cancelled.
Drilling contractors have retired approximately 150 floaters since the beginning of 2014. Approximately 15 floaters older than 30 years of age are currently idle, approximately 10 additional floaters older than 30 years have contracts that will expire by end of 2020 without follow-on work. Additional rigs are expected to become idle as a result of recent market events. Operating costs associated with keeping these rigs idle as well as expenditures required to re-certify these aging rigs may prove cost prohibitive. Drilling contractors will likely elect to scrap or cold-stack some or all of these rigs. Improvements in demand and/or reductions in supply will be necessary before meaningful increases in utilization and day rates are realized.
Jackups
Despite recent gains in the jackup market, demand for jackups has declined in light of increased market uncertainty. To date, the COVID-19 pandemic has resulted in only limited operational downtime where outbreaks have been experienced on rigs requiring a shutdown of operations while crews are tested and incremental sanitation protocols are implemented. While we have not experienced downtime due to quarantines or an inability to staff our rigs due to travel restrictions or stay-at-home orders, we are incurring additional personnel, housing and logistics costs in order to mitigate these potential impacts to our operations. In limited instances, we have been reimbursed for these costs by our customers. Our operations and business may be subject to further economic disruptions as a result of the
58
--------------------------------------------------------------------------------
spread of COVID-19 among our workforce, the extension or imposition of further public health measures affecting supply chain and logistics, and the impact of the pandemic on key customers, suppliers, and other counterparties. There can be no assurance, however, that these, or other issues caused by the COVID-19 pandemic, will not materially affect our ability to operate our rigs in the future. During 2020, we have received notices of termination, requests for concessions, cancellation and/or deferral of drilling programs by operators, and we may receive additional requests for concessions, termination and/or deferral notices during the pendency of the current market environment. During the second quarter, the VALARIS JU-84 contract was terminated and we negotiated a day rate reduction for VALARIS JU-290 to operate at a standby rate fromSeptember 2020 toMarch 2021 . During the first quarter of 2020, the VALARIS JU-109 contract was terminated. InApril 2020 , there were various negotiated customer contract concessions, including day rate reductions: VALARIS JU-120 is operating on a reduced day rate fromlate-April 2020 tolate-September 2020 . VALARIS JU-92 was previously expected to operate on a reduced day rate frommid-May 2020 tolate-September 2020 , but has continued to operate at full dayrate and VALARIS JU-72 operated on a reduced day rate fromApril 2020 toJuly 2020 . Additionally, VALARIS JU-249 ended its contract inApril 2020 and VALARIS JU-100 ended its contract inlate-April 2020 , in both cases, earlier than expected. During the second quarter of 2020, we executed short-term contracts forVALARIS JU-102 and VALARIS JU-87 that commenced inJune 2020 andMay 2020 , respectively. We were also awarded a two-well extension for VALARIS JU-291 with an expected duration of approximately 180 days fromJanuary 2021 toJune 2021 . We executed a four year contract for VALARIS JU-104 expected to commence inSeptember 2020 and we extended the VALARIS JU-67 contract 210 days fromMay 2020 toDecember 2020 .
During the first quarter of 2020, we executed a three-well contract for VALARIS
JU-118 that commenced in
The VALARIS JU-68 was sold in
There are approximately 45 newbuild jackup rigs reported to be under construction, of which 15 are scheduled to be delivered before the end of 2020. Most newbuild jackups are uncontracted. Over the past year, some jackup orders have been cancelled, and many newbuild jackups have been delayed. We expect that scheduled jackup deliveries will continue to be delayed until more rigs are contracted.
Drilling contractors have retired approximately 110 jackups since the beginning of the downturn. Approximately 90 jackups older than 30 years are idle and 40 jackups that are 30 years or older have contracts expiring by the end of 2020 without follow-on work. Expenditures required to re-certify these aging rigs may prove cost prohibitive and drilling contractors may instead elect to scrap or cold-stack these rigs. We expect jackup scrapping and cold-stacking to continue for the remainder of 2020. Improvements in demand and/or reductions in supply will be necessary before meaningful increases in utilization and day rates are realized.
59
--------------------------------------------------------------------------------
Divestitures
Our business strategy has been to focus on ultra-deepwater floater and premium
jackup operations and de-emphasize other assets and operations that are not part
of our long-term strategic plan or that no longer meet our standards for
economic returns. In the fourth quarter of 2019, we began marketing the
We continue to focus on our fleet management strategy in light of the composition of our rig fleet. As part of this strategy, we may act opportunistically from time to time to monetize assets to enhance shareholder value and improve our liquidity profile, in addition to reducing holding costs by selling or disposing of older, lower-specification or non-core rigs.
RESULTS OF OPERATIONS
The following table summarizes our condensed consolidated results of operations
for the three and six months ended
Three Months Ended Six Months Ended
June 30, June 30,
2020 2019(1) 2020 2019(1)
Revenues $ 388.8 $ 583.9 $ 845.4 $ 989.8
Operating expenses
Contract drilling (exclusive of
depreciation) 370.7 500.3 846.7 832.9
Loss on impairment 838.0 2.5 3,646.2 2.5
Depreciation 131.5 157.9 296.0 282.9
General and administrative 62.6 81.2 116.0 110.8
Total operating expenses 1,402.8 741.9 4,904.9 1,229.1
Equity in earnings of ARO (5.2 ) .6 (11.5 ) .6
Operating loss (1,019.2 ) (157.4 ) (4,071.0 ) (238.7 )
Other income (expense), net (105.4 ) 597.3 (213.3 ) 522.1
Provision (benefit) for income taxes (15.8 ) 32.6 (167.8 ) 64.1 Net income (loss)
(1,108.8 ) 407.3 (4,116.5 ) 219.3
Net (income) loss attributable to
noncontrolling interests 1.4 (1.8 ) 2.8 (4.2 )
Net income (loss) attributable to
Valaris $ (1,107.4 ) $ 405.5 $ (4,113.7 ) $ 215.1
(1) The three months and six months ended June 30, 2019 include results of the
Rowan transaction from April 11, 2019 through June 30, 2019 .
Overview
Revenues decreased
60
--------------------------------------------------------------------------------
to lower revenues earned from our rigs leased to ARO and under the Secondment
Agreement and Transition Services Agreement. This decrease was partially offset
by
Revenues decreased
Contract drilling expense decreased
Contract drilling expense increased
During the three and six months ended
Depreciation expense decreased
Depreciation expense increased
General and administrative expenses decreased by
General and administrative expenses increased by
Other expense, net, increased
61
--------------------------------------------------------------------------------
Rig Counts, Utilization and Average
The following table summarizes our and ARO's offshore drilling rigs as ofJune 30, 2020 and 2019: 2020 2019 Floaters(1) 17 26 Jackups(2) 39 44 Other 9 9 Under construction 2 2 Held-for-sale(1)(2) 7 - Total Valaris 74 81 ARO(3) 7 7
(1) During the fourth quarter of 2019, we sold
and second quarters of 2020, we sold VALARIS 6002 and VALARIS 5004,
respectively. During the second quarter of 2020, we classified VALARIS
8500, VALARIS 8501, VALARIS 8502, VALARIS DS-3, VALARIS DS-5 and VALARIS
DS-6 as held-for-sale.
(2) During the fourth quarter of 2019, we sold VALARIS JU-96 and in the first
quarter of 2020, we sold VALARIS JU-68. During the second quarter of 2020,
we classified VALARIS JU-105 as held-for-sale and sold VALARIS JU-70 and
VALARIS JU-71.
(3) This represents the seven rigs owned by ARO.
The following table summarizes our and ARO's rig utilization and average day
rates by reportable segment for the three and six months ended
Three Months Ended Six Months Ended
June 30, June 30,
2020 2019 2020 2019
Rig Utilization(1)
Floaters 32 % 53 % 35 % 48 %
Jackups 53 % 69 % 57 % 69 %
Other (2) 100 % 82 % 100 % 85 %
Total Valaris 53 % 65 % 56 % 63 %
ARO 97 % 97 % 93 % 97 %
Average Day Rates (3)
Floaters $ 152,968 $ 218,339 $ 176,338 $ 227,415
Jackups 83,698 78,229 82,515 75,608
Other (2) 37,368 50,347 39,856 56,618
Total Valaris $ 83,912 $ 110,063 $ 89,668 $ 113,510
ARO $ 104,346 $ 112,906 $ 106,518 $ 112,906
(1) Rig utilization is derived by dividing the number of days under contract
by the number of days in the period. Days under contract equals the total
number of days that rigs have earned and recognized day rate revenue,
including days associated with early contract terminations, compensated
downtime and mobilizations. When revenue is deferred and amortized over a
future period, for example, when we receive fees while mobilizing to
commence a new contract or while being upgraded in a shipyard, the related
days are excluded from days under contract.
62--------------------------------------------------------------------------------
For newly-constructed or acquired rigs, the number of days in the period begins upon commencement of drilling operations for rigs with a contract or when the rig becomes available for drilling operations for rigs without a contract.
(2) Includes our two management services contracts and our nine rigs leased to
ARO under bareboat charter contracts.
(3) Average day rates are derived by dividing contract drilling revenues,
adjusted to exclude certain types of non-recurring reimbursable
revenues, lump-sum revenues and revenues attributable to amortization of
drilling contract intangibles, by the aggregate number of contract days,
adjusted to exclude contract days associated with certain mobilizations,
demobilizations and shipyard contracts.
Detailed explanations of our operating results, including discussions of revenues, contract drilling expense and depreciation expense by segment, are provided below.
Operating Income by Segment
Our business consists of four operating segments: (1) Floaters, which includes our drillships and semisubmersible rigs, (2) Jackups, (3) ARO and (4) Other, which consists of management services on rigs owned by third-parties and the activities associated with our arrangements with ARO under the Transition Services Agreement, Rig Lease Agreements and Secondment Agreement. Floaters, Jackups and ARO are also reportable segments. General and administrative expense and depreciation expense incurred by our corporate office are not allocated to our operating segments for purposes of measuring segment operating income (loss) and are included in "Reconciling Items." Substantially all of the expenses incurred associated with our Transition Services Agreement are included in general and administrative under "Reconciling Items" in the table set forth below. We measure segment assets as property and equipment. The full operating results included below for ARO (representing only results of ARO from the Transaction Date) are not included within our consolidated results and thus deducted under "Reconciling Items" and replaced with our equity in earnings of ARO. See " Note 4 -Equity Method Investment in ARO" for additional information on ARO and related arrangements. Segment information for the three and six months endedJune 30, 2020 and 2019 is presented below (in millions):
© Edgar Online, source
