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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____________ to ___________
Commission file number 1-13926
DIAMOND OFFSHORE DRILLING, INC.
(Exact name of registrant as specified in its charter)
Delaware 76-0321760
(State or other jurisdiction of incorporation (I.R.S. Employer
or organization) Identification No.)
15415 Katy Freeway
Houston, Texas
77094
(Address of principal executive offices)
(Zip Code)
(281) 492-5300
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Exchange Act). Yes [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
As of April 29, 2004 Common stock, $0.01 par value per share
129,322,455 shares
DIAMOND OFFSHORE DRILLING, INC.
TABLE OF CONTENTS FOR FORM 10-Q
QUARTER ENDED MARCH 31, 2004
PAGE NO.
COVER PAGE........................................................................................................ 1
TABLE OF CONTENTS................................................................................................. 2
PART I. FINANCIAL INFORMATION.................................................................................... 3
ITEM 1. FINANCIAL STATEMENTS
Consolidated Balance Sheets................................................................. 3
Consolidated Statements of Operations....................................................... 4
Consolidated Statements of Cash Flows....................................................... 5
Notes to Unaudited Consolidated Financial Statements........................................ 6
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS..................................................................... 18
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK ................................... 30
ITEM 4. CONTROLS AND PROCEDURES ...................................................................... 31
PART II. OTHER INFORMATION....................................................................................... 32
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.............................................................. 32
SIGNATURES........................................................................................................ 33
EXHIBIT INDEX..................................................................................................... 34
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
DIAMOND OFFSHORE DRILLING, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
MARCH 31, DECEMBER 31,
-------------------------------------
2004 2003
----------------- -----------------
(UNAUDITED)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents................................................... $ 115,969 $ 106,345
Marketable securities....................................................... 628,509 503,995
Accounts receivable......................................................... 149,447 154,124
Rig inventory and supplies.................................................. 48,520 48,035
Prepaid expenses and other.................................................. 19,890 22,764
--------------- ---------------
Total current assets................................................ 962,335 835,263
DRILLING AND OTHER PROPERTY AND EQUIPMENT, NET OF
ACCUMULATED DEPRECIATION.................................................... 2,236,575 2,257,876
GOODWILL, NET OF ACCUMULATED AMORTIZATION OF $30,684.......................... 7,695 11,099
OTHER ASSETS.................................................................. 30,162 30,781
--------------- ---------------
Total assets........................................................ $ 3,236,767 $ 3,135,019
=============== ===============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current portion of long-term debt........................................... $ 11,969 $ 11,969
Accounts payable............................................................ 19,632 15,653
Payable for marketable securities purchased................................. 124,908 --
Accrued liabilities......................................................... 64,957 65,617
Taxes payable............................................................... 3,542 6,761
--------------- ---------------
Total current liabilities........................................... 225,008 100,000
LONG-TERM DEBT................................................................ 932,002 928,030
DEFERRED TAX LIABILITY........................................................ 379,352 384,505
OTHER LIABILITIES............................................................. 38,262 42,004
--------------- ---------------
Total liabilities................................................... 1,574,624 1,454,539
--------------- ---------------
COMMITMENTS AND CONTINGENCIES (NOTE 9) -- --
STOCKHOLDERS' EQUITY:
Preferred stock (par value $0.01, 25,000,000 shares authorized, none -- --
issued and outstanding).................................................
Common stock (par value $0.01, 500,000,000 shares authorized, 133,457,055
shares issued and 129,322,455 shares outstanding at March 31,
2004 and December 31, 2003)............................................... 1,335 1,335
Additional paid-in capital.................................................. 1,263,692 1,263,692
Retained earnings........................................................... 496,851 515,906
Accumulated other comprehensive losses...................................... (3,399) (4,117)
Treasury stock, at cost (4,134,600 shares at March 31, 2004 and December
31, 2003)................................................................. (96,336) (96,336)
--------------- ---------------
Total stockholders' equity.......................................... 1,662,143 1,680,480
--------------- ---------------
Total liabilities and stockholders' equity.......................... $ 3,236,767 $ 3,135,019
=============== ===============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE CONSOLIDATED
FINANCIAL STATEMENTS.
3
DIAMOND OFFSHORE DRILLING, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(In thousands, except per share data)
THREE MONTHS ENDED
MARCH 31,
--------------------------
2004 2003
---------- ----------
REVENUES:
Contract drilling.............................................. $ 177,240 $ 139,859
Revenues related to reimbursable expenses...................... 6,958 6,290
---------- ----------
Total revenues........................................... 184,198 146,149
OPERATING EXPENSES:
Contract drilling.............................................. 134,678 113,670
Reimbursable expenses.......................................... 6,234 5,738
Depreciation................................................... 44,520 47,277
General and administrative..................................... 8,789 7,200
Gain on sale of assets......................................... (325) (1)
---------- ----------
Total operating expenses................................. 193,896 173,884
---------- ----------
OPERATING LOSS......................................................... (9,698) (27,735)
OTHER INCOME (EXPENSE):
Interest income................................................ 1,568 4,156
Interest expense............................................... (6,354) (5,575)
Loss on sale of marketable securities.......................... (25) (61)
Other, net..................................................... (154) 1,742
---------- ----------
LOSS BEFORE INCOME TAX BENEFIT......................................... (14,663) (27,473)
INCOME TAX BENEFIT..................................................... 3,691 5,907
---------- ----------
NET LOSS............................................................... $ (10,972) $ (21,566)
========== ==========
LOSS PER SHARE:
BASIC.......................................................... $ (0.08) $ (0.17)
========== ==========
DILUTED........................................................ $ (0.08) $ (0.17)
========== ==========
WEIGHTED AVERAGE SHARES OUTSTANDING:
Shares of common stock......................................... 129,322 130,336
Dilutive potential shares of common stock...................... -- --
---------- ----------
Total weighted average shares outstanding................ 129,322 130,336
========== ==========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE CONSOLIDATED
FINANCIAL STATEMENTS.
4
DIAMOND OFFSHORE DRILLING, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(In thousands)
THREE MONTHS ENDED
MARCH 31,
--------------------------------------
2004 2003
----------------- -----------------
OPERATING ACTIVITIES:
Net loss................................................................ $ (10,972) $ (21,566)
Adjustments to reconcile net loss to net cash provided by operating
activities:
Depreciation.......................................................... 44,520 47,277
Gain on sale of assets................................................ (325) (1)
Loss on sale of marketable securities, net............................ 25 61
Deferred tax provision................................................ (1,731) (9,974)
Accretion of discounts on marketable securities....................... (1,022) (856)
Amortization of debt issuance costs................................... 267 297
Amortization of discount on zero coupon convertible debentures........ 3,972 3,838
Changes in operating assets and liabilities:
Accounts receivable................................................... 4,677 8,660
Rig inventory and supplies and other current assets................... 2,389 388
Other assets, non-current............................................. 352 (72)
Accounts payable and accrued liabilities.............................. 3,319 (1,496)
Taxes payable......................................................... (3,219) 2,990
Other liabilities, non-current........................................ (3,742) 336
Other items, net...................................................... 37 (810)
---------------- ----------------
Net cash provided by operating activities......................... 38,547 29,072
---------------- ----------------
INVESTING ACTIVITIES:
Capital expenditures (excluding rig acquisitions)....................... (23,470) (70,226)
Rig acquisitions........................................................ -- (63,500)
Proceeds from sale of assets............................................ 576 78
Proceeds from sale and maturities of marketable securities.............. 625,515 877,961
Purchases of marketable securities...................................... (623,461) (748,664)
Proceeds from settlement of forward contracts........................... -- 677
---------------- ----------------
Net cash used in investing activities............................. (20,840) (3,674)
---------------- ----------------
FINANCING ACTIVITIES:
Payment of dividends.................................................... (8,083) (16,292)
---------------- ----------------
Net cash used in financing activities............................. (8,083) (16,292)
---------------- ----------------
NET CHANGE IN CASH AND CASH EQUIVALENTS....................................... 9,624 9,106
Cash and cash equivalents, beginning of period.......................... 106,345 182,453
---------------- ----------------
Cash and cash equivalents, end of period................................ $ 115,969 $ 191,559
================ ================
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE CONSOLIDATED
FINANCIAL STATEMENTS.
5
DIAMOND OFFSHORE DRILLING, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
1. GENERAL INFORMATION
The consolidated financial statements of Diamond Offshore Drilling,
Inc. and subsidiaries (the "Company") should be read in conjunction with the
Annual Report on Form 10-K for the year ended December 31, 2003 (File No.
1-13926).
As of April 29, 2004, Loews Corporation ("Loews") owned 54.2% of the
outstanding shares of common stock of Diamond Offshore Drilling, Inc., which was
a wholly owned subsidiary of Loews prior to its initial public offering in
October 1995.
Interim Financial Information
The accompanying consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United States of
America for interim financial information and with the instructions to Form 10-Q
and Article 10 of Regulation S-X. Accordingly, they do not include all
disclosures required by generally accepted accounting principles for complete
financial statements. The consolidated financial information has not been
audited but, in the opinion of management, includes all adjustments (consisting
only of normal recurring accruals) necessary for a fair presentation of the
consolidated balance sheets, statements of operations, and statements of cash
flows at the dates and for the periods indicated. Results of operations for
interim periods are not necessarily indicative of results of operations for the
respective full years.
Cash and Cash Equivalents and Marketable Securities
Short-term, highly liquid investments that have an original maturity of
three months or less and deposits in money market mutual funds that are readily
convertible into cash are considered cash equivalents.
The Company's investments are classified as available for sale and stated
at fair value. Accordingly, any unrealized gains and losses, net of taxes, are
reported in the Consolidated Balance Sheets in "Accumulated other comprehensive
losses" until realized. The cost of debt securities is adjusted for amortization
of premiums and accretion of discounts to maturity and such adjustments are
included in the Consolidated Statements of Operations in "Interest income." The
sale and purchase of securities are recorded on the date of the trade. The cost
of debt securities sold is based on the specific identification method. Realized
gains or losses and declines in value judged to be other than temporary, if any,
are reported in the Consolidated Statements of Operations in "Other income
(expense)."
Marketable securities and current liabilities at March 31, 2004 reflect
an additional $124.9 million due to an accrual for the purchase of a treasury
bill on March 30, 2004 which was settled on April 1, 2004 and replaced a
treasury bill that matured on April 1, 2004.
Derivative Financial Instruments
Derivative financial instruments of the Company include forward exchange
contracts and a contingent interest provision that is embedded in the 1.5%
convertible senior debentures due 2031 (the "1.5% Debentures") issued on April
11, 2001. See Note 4.
Supplementary Cash Flow Information
There were no cash payments made for interest on long-term debt during
the quarters ended March 31, 2004 and 2003. Cash payments made for foreign
income taxes, net of foreign tax refunds, were $0.6 million and $1.4 million
during the three months ended March 31, 2004 and 2003, respectively. A $0.4
million refund of U.S. income tax was received in the first quarter of 2004.
There were no payments or refunds of U.S. income taxes during the first quarter
of 2003.
6
Capitalized Interest
Interest cost for construction and upgrade of qualifying assets is
capitalized. A reconciliation of the Company's total interest cost to "Interest
expense" as reported in the Consolidated Statements of Operations is as follows:
THREE MONTHS ENDED
MARCH 31,
------------------------------
2004 2003
---------- ---------
(IN THOUSANDS)
Total interest cost including amortization of debt
issuance costs...................................... $ 6,354 $ 6,499
Capitalized interest................................... -- (924)
---------- ---------
Total interest expense as reported................. $ 6,354 $ 5,575
========== =========
Interest on the upgrade cost of the Ocean Rover was capitalized through
July 10, 2003 when its upgrade was complete. Currently, there are no capital
projects for which interest is being capitalized.
Debt Issuance Costs
Debt issuance costs are included in the Consolidated Balance Sheets in
"Other assets" and are amortized over the respective terms of the related debt.
Treasury Stock
Depending on market conditions, the Company may, from time to time,
purchase shares of its common stock in the open market or otherwise. The
purchase of treasury stock is accounted for using the cost method which reports
the cost of the shares acquired in "Treasury stock" as a deduction from
stockholders' equity in the Consolidated Balance Sheets. There were no treasury
stock purchases during the three months ended March 31, 2004 or 2003.
Comprehensive Loss
A reconciliation of net loss to comprehensive loss is as follows:
THREE MONTHS ENDED
MARCH 31,
---------------------------
2004 2003
----------- ---------
(IN THOUSANDS)
Net loss $ (10,972) $ (21,566)
Other comprehensive gains (losses), net of tax:
Foreign currency translation gain (loss)........................ 286 (87)
Unrealized holding gain (loss) on investments................... 460 (2,293)
Reclassification adjustment for realized loss on sale of
available-for-sale securities included in net loss........... (28) (13)
----------- ---------
Comprehensive loss................................................. $ (10,254) $ (23,959)
=========== =========
Currency Translation
The Company's primary functional currency is the U.S. dollar. Certain of
the Company's subsidiaries use the local currency in the country where they
conduct operations as their functional currency. These subsidiaries translate
assets and liabilities at period-end exchange rates while income and expense
accounts are translated at average exchange rates. Translation adjustments are
reflected in the Consolidated Balance Sheets in "Accumulated other comprehensive
losses." Currency transaction gains and losses are included in the Consolidated
Statements of Operations in "Other income (expense)." Re-measurement translation
gains and losses of subsidiaries operating in hyperinflationary economies, when
applicable, are included in operating results.
7
Stock-Based Compensation
The Company accounts for its 2000 Stock Option Plan in accordance with
Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued
to Employees." Accordingly, no compensation expense has been recognized for the
options granted to employees under the plan. Had compensation expense for the
Company's stock options been recognized based on the fair value of the options
at the grant dates, valued using the Binomial Option pricing model, the
Company's net loss and loss per share would have been as follows:
THREE MONTHS ENDED
MARCH 31,
-------------------------------------
2004 2003
------------- --------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Net loss as reported....................................... $ (10,972) $ (21,566)
Add: Stock-based employee compensation expense included -- --
in reported net loss, net of related tax effects........
Deduct: Total stock-based employee compensation
expense determined under fair value based method,
net of related tax effects.............................. (311) (265)
--------- ---------
Pro forma net loss......................................... $ (11,283) $ (21,831)
========= =========
Loss per share of common stock:
As reported............................................. $ (0.08) $ (0.17)
Pro forma............................................... $ (0.09) $ (0.17)
Loss per share of common stock - assuming dilution:
As reported............................................. $ (0.08) $ (0.17)
Pro forma............................................... $ (0.09) $ (0.17)
Revenue Recognition
Income from dayrate drilling contracts is recognized currently. In
connection with such drilling contracts, the Company may receive lump-sum fees
for the mobilization of equipment and personnel. Any excess in these lump-sum
mobilization fees received over the related costs incurred to mobilize an
offshore rig from one market to another is recognized in income over the primary
term of the related drilling contract. Absent a contract, mobilization costs are
recognized currently. Other lump-sum payments received from customers relating
to specific contracts are deferred and amortized to income over the primary term
of the related drilling contract.
Income from offshore turnkey drilling contracts is recognized on the
completed contract method, with revenues accrued to the extent of costs until
the specified turnkey depth and other contract requirements are met. Provisions
for future losses on turnkey drilling contracts are recognized when it becomes
apparent that expenses to be incurred on a specific contract will exceed the
revenue from that contract. It is the Company's intent not to pursue contracts
for integrated services, which includes turnkey contracts, except in very
limited circumstances.
Income from reimbursements received for the purchase of supplies,
equipment, personnel services and other services provided at the request of the
Company's customers in accordance with a contract or agreement is recorded, for
the gross amount billed to the customer, as "Revenues related to reimbursable
expenses" in the Consolidated Statements of Operations.
Changes in Accounting Estimates
In April 2003 the Company commissioned a study to evaluate the economic
lives of its drilling rigs. As a result of this study, effective April 1, 2003,
the Company recorded changes in accounting estimates by increasing the estimated
service lives to 25 years for jack-ups and 30 years for semisubmersibles and the
Company's drillship and by increasing salvage values to 5% for most of the
Company's drilling rigs. The change in estimate was made to better reflect the
remaining economic lives and salvage values of the Company's fleet. The effect
of this change in accounting estimates resulted in a reduction to net loss
(after-tax) for the quarter ended March 31, 2004 of $4.0 million, or $0.03 per
share.
8
Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amount of revenues and
expenses during the reporting period. Actual results could differ from those
estimated.
Reclassifications
Certain amounts applicable to prior periods have been reclassified to
conform to the classifications currently followed. Such reclassifications do not
affect earnings.
9
2. LOSS PER SHARE
A reconciliation of the numerators and the denominators of the basic and
diluted per-share computations follows:
THREE MONTHS ENDED
MARCH 31,
-------------------------------------
2004 2003
------------------- -----------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Net loss - basic (numerator): $ (10,972) $ (21,566)
Effect of dilutive potential shares
1.5% Debentures................................. -- --
Zero Coupon Debentures.......................... -- --
----------- -----------
Net loss including conversions - diluted (numerator) $ (10,972) $ (21,566)
=========== ===========
Weighted average shares - basic (denominator): 129,322 130,336
Effect of dilutive potential shares
1.5% Debentures................................. -- --
Zero Coupon Debentures.......................... -- --
Stock options .................................. -- --
----------- -----------
Weighted average shares including conversions -
diluted (denominator) 129,322 130,336
=========== ===========
Loss per share:
Basic ........................................... $ (0.08) $ (0.17)
=========== ===========
Diluted ......................................... $ (0.08) $ (0.17)
=========== ===========
The computation of diluted earnings per share ("EPS") for both quarters
ended March 31, 2004 and 2003 excludes approximately 6.9 million potentially
dilutive shares issuable upon conversion of the Company's zero coupon
convertible debentures due 2020 ("Zero Coupon Debentures") because the inclusion
of such shares would be antidilutive. The computation of diluted EPS for both
quarters ended March 31, 2004 and 2003 also excludes approximately 9.4 million
potentially dilutive shares issuable upon conversion of the Company's 1.5%
Debentures because the inclusion of such shares would be antidilutive.
Certain stock options were excluded from the computation of diluted EPS
because the options' exercise prices were more than the average market price per
share of the common stock. Stock options representing 338,150 shares and 380,025
shares of common stock were excluded from the computation of diluted EPS for the
quarters ended March 31, 2004 and 2003, respectively.
Other stock options with average market prices that exceeded their
exercise prices during the period (in-the-money options) were excluded from the
computation of diluted EPS because potential shares of common stock are not
included when a loss from continuing operations exists. Stock options
representing 256,250 shares and 41,875 shares of common stock were excluded from
the computation of diluted EPS for the quarters ended March 31, 2004 and 2003,
respectively.
10
3. MARKETABLE SECURITIES
Investments classified as available for sale are summarized as follows:
MARCH 31, 2004
-------------------------------------------------------------------------------
GROSS UNREALIZED LOSSES
GROSS -----------------------------------
UNREALIZED LESS THAN 12 GREATER THAN 12 MARKET
AMORTIZED COST GAINS MONTHS MONTHS VALUE
-------------------------------------------------------------------------------
(in thousands)
-------------------------------------------------------------------------------
Debt securities issued by the U.S. Treasury and
other U.S. government agencies:
Due within one year........................ $ 624,179 $ -- $ (5) $ -- $624,174
Mortgage-backed securities...................... 4,269 66 -- -- 4,335
--------- ------------ ------- -------- --------
Total...................................... $ 628,448 $ 66 $ (5) $ -- $628,509
========= ============ ======= ======== ========
DECEMBER 31, 2003
-------------------------------------------------------------------------------
GROSS UNREALIZED LOSSES
GROSS -----------------------------------
UNREALIZED LESS THAN 12 GREATER THAN 12 MARKET
AMORTIZED COST GAINS MONTHS MONTHS VALUE
-------------------------------------------------------------------------------
(in thousands)
-------------------------------------------------------------------------------
Debt securities issued by the U.S. Treasury and
other U.S. government agencies:
Due within one year........................ $ 499,784 $ 44 $ -- $ -- $499,828
Mortgage-backed securities....................... 4,812 -- -- (645) 4,167
--------- ------------ -------- ------- --------
Total...................................... $ 504,596 $ 44 $ -- $ (645) $503,995
========= ============ ======== ======= ========
All of the Company's investments are included as current assets in the
Consolidated Balance Sheets in "Marketable securities," representing the
investment of cash available for current operations.
Marketable securities and current liabilities at March 31, 2004 reflect
an additional $124.9 million due to an accrual for the purchase of a treasury
bill on March 30, 2004 which was settled on April 1, 2004 and replaced a
treasury bill that matured on April 1, 2004.
Proceeds from sales and maturities of marketable securities and gross
realized gains and losses are summarized as follows:
THREE MONTHS ENDED
MARCH 31,
------------------------
2004 2003
------- ----------
(IN THOUSANDS)
Proceeds from sales........................... $ 515 $ 152,961
Proceeds from maturities...................... 625,000 725,000
Gross realized gains.......................... -- 108
Gross realized losses......................... (25) (169)
11
4. DERIVATIVE FINANCIAL INSTRUMENTS
Forward Exchange Contracts
The Company operates internationally, resulting in exposure to foreign
exchange risk. This risk is primarily associated with costs payable in foreign
currencies for employee compensation and for purchases from foreign suppliers. A
technique the Company uses for minimizing its foreign exchange risk involves
structuring customer contracts to provide for payment in both the U.S. dollar
and the foreign currency when possible. The payment portion denominated in the
foreign currency is based on anticipated foreign currency requirements over the
contract term. In some instances, when customer contracts cannot be structured
to generate a sufficient amount of foreign currency for operating purposes, a
foreign exchange forward contract may be used to minimize the forward exchange
risk. A forward exchange contract obligates the Company to exchange
predetermined amounts of specified foreign currencies at specified foreign
exchange rates on specified dates.
In June 2002 the Company entered into forward contracts to purchase
approximately 50.0 million Australian dollars, 4.2 million Australian dollars to
be purchased monthly from August 29, 2002 through June 26, 2003 and 3.8 million
to be purchased on July 31, 2003. These forward contracts were derivatives as
defined by Statement of Financial Accounting Standards ("SFAS") No. 133. SFAS
No. 133 requires that each derivative be stated in the balance sheet at its fair
value with gains and losses reflected in the income statement except that, to
the extent the derivative qualifies for hedge accounting, the gains and losses
are reflected in income in the same period as offsetting losses and gains on the
qualifying hedged positions. SFAS No. 133 further provides specific criteria
necessary for a derivative to qualify for hedge accounting. The forward
contracts purchased by the Company in 2002 did not qualify for hedge accounting.
At March 31, 2003, an asset of $0.8 million, reflecting the fair value of the
forward contracts, was included with "Prepaid expenses and other" in the
Consolidated Balance Sheet. A pre-tax gain of $1.4 million was recorded in the
Consolidated Statements of Operations for the quarter ended March 31, 2003 in
"Other income (expense)." The Company had satisfied all obligations under these
contracts as of September 30, 2003 and no new forward exchange contracts have
been entered into since that time.
Contingent Interest
The Company's $460.0 million principal amount of 1.5% Debentures, which
were issued on April 11, 2001 and are due on April 15, 2031, contain a
contingent interest provision. The contingent interest component is an embedded
derivative as defined by SFAS No. 133 and accordingly must be split from the
host instrument and recorded at fair value on the balance sheet. The contingent
interest component had no value at issuance, at December 31, 2003, or at March
31, 2004.
5. DRILLING AND OTHER PROPERTY AND EQUIPMENT
Cost and accumulated depreciation drilling and other property and
equipment are summarized as follows:
MARCH 31, DECEMBER 31,
----------- ------------
2004 2003
----------- ------------
(IN THOUSANDS)
Drilling rigs and equipment................................ $ 3,497,564 $ 3,453,219
Construction work-in-progress.............................. -- 21,274
Land and buildings......................................... 15,284 15,220
Office equipment and other................................. 22,164 22,080
----------- -----------
Cost............................................. 3,535,012 3,511,793
Less: accumulated depreciation............................. (1,298,437) (1,253,917)
----------- -----------
Drilling and other property and equipment, net... $ 2,236,575 $ 2,257,876
=========== ===========
Construction work-in-progress at December 31, 2003 consisted of costs
related to the Ocean Titan cantilever conversion project which was completed in
January 2004.
In December 2003 the Company sold two of its early second generation
semisubmersible drilling rigs, the Ocean Century and Ocean Prospector, for a
total of $750,000. These rigs had been cold stacked in the Gulf of Mexico since
July 1998 and October 1998, respectively. In September 2003 they were written
down by $1.6 million to their fair market values of $375,000 each and
subsequently retired from service as offshore drilling units.
12
In July 2003 approximately $175.7 million was reclassified from
construction work-in-progress to drilling rigs and equipment upon completion of
the significant upgrade of the Ocean Rover to high specification capabilities.
The upgrade was completed on time and under budget in July 2003 at which time
the rig began a drilling program offshore Malaysia.
In April 2003 the Company commissioned a study to evaluate the economic
lives of its drilling rigs. As a result of this study the Company recorded
changes in accounting estimates by increasing the estimated service lives to 25
years for jack-ups and 30 years for semisubmersibles and the Company's drillship
and by increasing salvage values to 5% for most of the Company's drilling rigs.
The change in estimate was made to better reflect the remaining economic lives
and salvage values of the Company's fleet. The effect of this change in
accounting estimates resulted in a reduction to net loss (after-tax) for the
quarter ended March 31, 2004 of $4.0 million, or $0.03 per share.
In March 2003 Diamond Offshore Drilling Limited, a subsidiary of the
Company, completed the acquisition of the third-generation semisubmersible
drilling rig, Omega, renamed Ocean Patriot, for $65.0 million. The Company
capitalized $63.5 million to drilling rigs and equipment and recorded $1.5
million to rig inventory.
6. GOODWILL
Goodwill from the merger with Arethusa (Off-Shore) Limited ("Arethusa")
in 1996 was generated from an excess of the purchase price over the net assets
acquired. The Company performed the annual goodwill impairment test on December
31, 2003 and determined that the fair value of the reporting unit exceeded its
carrying value, and accordingly, no further steps were required for testing
goodwill impairment at that time. Annual goodwill impairment testing is
performed at each year-end.
There were no recognized intangible assets other than goodwill associated
with the Arethusa merger.
During each of the three-month periods ended March 31, 2004 and 2003, an
adjustment of $3.4 million was recorded to reduce goodwill. The adjustments
represent the tax benefits not previously recognized for the excess of tax
deductible goodwill over book goodwill. The Company will continue to reduce
goodwill in future periods as the tax benefits of excess tax goodwill over book
goodwill are recognized. Goodwill is expected to be reduced to zero in the
fourth quarter of 2004.
7. ACCRUED LIABILITIES
Accrued liabilities consist of the following:
MARCH 31, DECEMBER 31,
----------- ------------
2004 2003
----------- ------------
(IN THOUSANDS)
Payroll and benefits....................................... $ 31,304 $ 31,058
Personal injury and other claims........................... 8,093 7,455
Interest payable........................................... 3,652 1,537
Deferred revenue........................................... 3,670 3,068
Other...................................................... 18,238 22,499
----------- -----------
Total............................................ $ 64,957 $ 65,617
=========== ===========
13
\
8. LONG-TERM DEBT
Long-term debt consists of the following:
MARCH 31, DECEMBER 31,
----------- ------------
2004 2003
----------- ------------
(IN THOUSANDS)
Zero Coupon Debentures..................................... $ 459,184 $ 455,212
1.5% Debentures............................................ 460,000 460,000
Ocean Alliance Lease-leaseback Agreement................... 24,787 24,787
---------- ----------
943,971 939,999
Less: Current maturities................................... (11,969) (11,969)
---------- ----------
Total............................................ $ 932,002 $ 928,030
========== ==========
The aggregate maturities of long-term debt for each of the five years
subsequent to December 31, 2003 are as follows (see discussions following table
for description of the rights that holders of the debentures have to put the
securities to the Company):
(IN THOUSANDS)
- -----------------------------------------------
2004 ......................... $ 11,969
2005 ......................... 12,818
2006 ......................... --
2007.......................... --
2008.......................... --
Thereafter ................... 919,184
- ------------------------------ ---------
943,971
Less: Current maturities...... (11,969)
- ------------------------------ ---------
Total $ 932,002
============================== ==========
Convertible Senior Debentures
The Company's $460.0 million principal amount of 1.5% Debentures that
were issued on April 11, 2001 are due April 15, 2031. The 1.5% Debentures are
convertible into shares of the Company's common stock at an initial conversion
rate of 20.3978 shares per $1,000 principal amount of the 1.5% Debentures,
subject to adjustment in certain circumstances. Upon conversion, the Company has
the right to deliver cash in lieu of shares of the Company's common stock.
Interest of 1.5% per year on the outstanding principal amount is payable
semiannually in arrears on April 15 and October 15 of each year. The 1.5%
Debentures are unsecured obligations of the Company and rank equally with all of
the Company's other unsecured senior indebtedness.
The Company will pay contingent interest to holders of the 1.5%
Debentures during any six-month period commencing after April 15, 2008, if the
average market price of a 1.5% Debenture for a measurement period preceding such
six-month period equals 120% or more of the principal amount of such 1.5%
Debenture and the Company pays a regular cash dividend during such six-month
period. The contingent interest payable per $1,000 principal amount of 1.5%
Debentures, in respect of any quarterly period, will equal 50% of regular cash
dividends paid by the Company per share on its common stock during that
quarterly period multiplied by the conversion rate. This contingent interest
component is an embedded derivative, which had no fair value at issuance or on
December 31, 2003 or March 31, 2004.
Holders may require the Company to purchase all or a portion of their
1.5% Debentures on April 15, 2008, at a price equal to 100% of the principal
amount of the 1.5% Debentures to be purchased plus accrued and unpaid interest.
The Company may choose to pay the purchase price in cash or shares of the
Company's common stock or a combination of cash and common stock. In addition,
holders may require the Company to purchase, for cash, all or a portion of their
1.5% Debentures upon a change in control (as defined).
14
The Company may redeem all or a portion of the 1.5% Debentures at any
time on or after April 15, 2008, at a price equal to 100% of the principal
amount plus accrued and unpaid interest.
Zero Coupon Convertible Debentures
The Company's Zero Coupon Debentures issued on June 6, 2000 at a price of
$499.60 per $1,000 debenture are due June 6, 2020, which represents a yield to
maturity of 3.50% per year. The Company will not pay interest prior to maturity
unless it elects to convert the Zero Coupon Debentures to interest-bearing
debentures upon the occurrence of certain tax events. The Zero Coupon Debentures
are convertible at the option of the holder at any time prior to maturity,
unless previously redeemed, into the Company's common stock at a fixed
conversion rate of 8.6075 shares of common stock per Zero Coupon Debenture,
subject to adjustments in certain events. The Zero Coupon Debentures are senior
unsecured obligations of the Company.
The Company has the right to redeem the Zero Coupon Debentures, in whole
or in part, after June 6, 2005, for a price equal to the issuance price plus
accrued original issue discount through the date of redemption. Holders have the
right to require the Company to repurchase the Zero Coupon Debentures on June 6,
2005, June 6, 2010 and June 6, 2015 at the accreted value through the date of
repurchase. The Company may pay such repurchase price with either cash or shares
of the Company's common stock or a combination of cash and shares of common
stock.
The aggregate principal amount at maturity will be $805.0 million
assuming no conversions or redemptions occur prior to the maturity date.
Ocean Alliance Lease-Leaseback
The Company entered into a lease-leaseback agreement with a European bank
in December 2000. The lease-leaseback agreement provides for the Company to
lease the Ocean Alliance, one of the Company's high specification
semisubmersible drilling rigs, to the bank for a lump-sum payment of $55.0
million plus an origination fee of $1.1 million and for the bank to then
sub-lease the rig back to the Company. Under the agreement, which has a
five-year term, the Company is to make five annual payments of $13.7 million.
Three of the five annual payments have been made as of March 31, 2004. This
financing arrangement has an effective interest rate of 7.13% and is an
unsecured subordinated obligation of the Company.
9. COMMITMENTS AND CONTINGENCIES
Various claims have been filed against the Company in the ordinary course
of business, including claims by offshore workers alleging personal injuries.
Management believes that the Company has established adequate reserves for any
liabilities that may reasonably be expected to result from these claims. In the
opinion of management, no pending or threatened claims, actions or proceedings
against the Company are expected to have a material adverse effect on the
Company's consolidated financial position, results of operations, or cash flows.
10. SEGMENTS AND GEOGRAPHIC AREA ANALYSIS
The Company reports its operations as one reportable segment, contract
drilling of offshore oil and gas wells. Although the Company provides contract
drilling services from different types of offshore drilling rigs and provides
such services in many geographic locations, these operations have been
aggregated into one reportable segment based on the similarity of economic
characteristics among all divisions and locations, including the nature of
services provided and the type of customers of such services.
15
Similar Services
Revenues from external customers for contract drilling and similar
services by equipment-type are listed below (eliminations offset dayrate
revenues earned when the Company's rigs are utilized in its integrated
services):
THREE MONTHS ENDED
MARCH 31,
---------------------------
2004 2003
--------- ------------
(IN THOUSANDS)
High Specification Floaters............. $ 64,752 $ 63,634
Other Semisubmersibles.................. 71,135 51,703
Jack-ups................................ 40,819 23,566
Integrated Services..................... -- 1,189
Other................................... 534 --
Eliminations............................ -- (233)
--------- ------------
Total Contract Drilling Revenues..... 177,240 139,859
Revenues Related to Reimbursable
Expenses........................... 6,958 6,290
--------- ------------
Total revenues.................. $ 184,198 $ 146,149
========= ============
Geographic Areas
At March 31, 2004, the Company had drilling rigs located offshore eleven
countries other than the United States. As a result, the Company is exposed to
the risk of changes in social, political, economic and other conditions inherent
in foreign operations and the Company's results of operations and the value of
its foreign assets are affected by fluctuations in foreign currency exchange
rates. Revenues by geographic area are presented by attributing revenues to the
individual country or areas where the services were performed.
THREE MONTHS ENDED
MARCH 31,
---------------------------
2004 2003
--------- ---------
(IN THOUSANDS)
Revenues from unaffiliated customers:
United States................................. $ 77,710 $ 79,760
Foreign:
South America.............................. 31,480 5,861
Europe/Africa.............................. 13,899 20,053
Australia/Southeast Asia................... 39,736 40,475
Mexico..................................... 21,373 --
--------- ---------
Total revenues..................... $ 184,198 $ 146,149
========= =========
16
11. INCOME TAXES
Certain of the Company's rigs that operate internationally are owned and
operated, directly or indirectly, by Diamond Offshore International Limited, a
Cayman Islands corporation and wholly-owned subsidiary of the Company. Effective
January 1, 2003 the Company began to postpone remittance of the earnings from
Diamond Offshore International Limited and indefinitely reinvest these earnings
internationally. Consequently, no U.S. taxes were provided on these earnings and
no U.S. tax benefits were recognized on losses during the quarters ended March
31, 2004 and 2003. The estimated total Company annual effective tax rate was
25.2% as of March 31, 2004 and 21.5% as of March 31, 2003.
12. PENSION PLAN
The defined benefit pension plan established by Arethusa effective
October 1, 1992 was frozen on April 30, 1996. At that date all participants were
deemed fully vested in the plan, which covered substantially all U.S. citizens
and U.S. permanent residents who were employed by Arethusa.
As a result of freezing the plan, no service cost has been accrued for
the years presented.
Components of net periodic benefit costs were as follows:
MARCH 31
-----------------------
2004 2003
-----------------------
(IN THOUSANDS)
Interest cost........................................... $ 255 $ 249
Expected return on plan assets.......................... (297) (316)
Amortization of unrecognized loss....................... 77 68
------ ------
Net periodic pension expense............................ $ 35 $ 1
====== ======
During 2003 the Company made a voluntary contribution to the plan of $0.5
million. The Company does not expect to make a contribution to its pension plan
in 2004.
17
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The following discussion should be read in conjunction with the Company's
Consolidated Financial Statements (including the Notes thereto) included
elsewhere herein. References to the "Company" mean Diamond Offshore Drilling,
Inc., a Delaware corporation, and its subsidiaries.
The Company is a leader in deep water drilling with a fleet of 45
offshore drilling rigs. The fleet consists of 30 semisubmersibles, 14 jack-ups
and one drillship.
OVERVIEW
RESULTS OF OPERATIONS AND INDUSTRY CONDITIONS
Overall demand for offshore contract drilling services remained volatile
during the first quarter of 2004, and the Company reported an $0.08 per share
loss on a diluted basis for the period. The loss was chiefly attributable to
downtime associated with scheduled special surveys on the Ocean Alliance and the
Ocean Winner and upgrade and maintenance work performed on the Ocean America and
the Ocean Concord. The period was also impacted by greater than anticipated idle
time on several of the Company's mid-water and deepwater units.
Gulf of Mexico. In the U.S. Gulf of Mexico ("US GOM"), our jack-up fleet
experienced high utilization and increased dayrates during the first quarter of
2004 compared with the previous quarter. The jack-up market in the US GOM is
currently balanced, with stable dayrates and rig supply equal to rig demand. The
Company believes that the market for this class of equipment could improve
further in the near term.
Well-to-well contracts remained the norm for both the deepwater and
mid-water semisubmersible markets in the US GOM during the first quarter of
2004. The Ocean Star, one of the Company's fourth generation conversions that
operated throughout 2003, went off contract in early January 2004 and remains
stacked, as are a number of other deepwater units operated by other contractors.
The deepwater market is currently over-supplied, and the Company does not
believe this sector will improve in the near term.
Two of the Company's three mid-water semisubmersibles currently marketed
in the US GOM were fully utilized during the quarter, although the Ocean Concord
was idle for 60 days before returning to work. The mid-water market remains
over-supplied with decreasing demand.
In the Mexican GOM, the Company's four semisubmersible rigs that
mobilized to that market in the latter half of 2003 operated throughout the
first quarter of 2004 under long term contracts. The Company believes that
future work for other of its semisubmersibles in this market is limited in the
near term, although jack-up work may be possible. The market for the Mexican GOM
is in balance and expected to remain so this year.
Brazil. In Brazil, both the Ocean Alliance and the Ocean Winner were in a
shipyard for five-year regulatory surveys during the quarter and have returned
to work. The Ocean Yatzy, is undergoing its five-year regulatory survey during
the second quarter of 2004 and is scheduled to return to work in May. The
Brazilian semisubmersible market is contracting; however, all four of the
Company's Brazilian rigs are operating under long-term contracts, three of which
have been recently renewed.
North Sea. In the UK sector of the North Sea, the Company kept two of its
semisubmersibles operating throughout the first quarter. A third rig, the Ocean
Vanguard, was idle but has a contract for two wells plus an optional well and is
expected to begin operating in the second quarter of 2004. Although the Company
has prospectively employed all of its North Sea rigs, market conditions for
semisubmersible rigs remain weak, particularly in the oversupplied UK sector of
the North Sea. Supply has been tightening in Norway with indications of
increasing demand.
Africa. The Ocean Nomad mobilized from the North Sea to Guinea Bissau
(offshore West Africa) in the quarter for a one well contract that will be
followed by a three-well contract in Gabon. Additionally, the semisubmersible
Ocean Patriot, a mid-water rig offshore South Africa, was off contract for part
of the first quarter of 2004, but the rig is currently operating under a
one-well contract and is being actively marketed in Africa and other world
markets. The West African floater market remains mixed, with firm demand and
tightening supply in the mid-water sector and current oversupply but building
demand expected in the deepwater sector.
18
Southeast Asia. During the first quarter of 2004, the Company mobilized
one of its jack-up rigs, the Ocean Heritage, from the Southeast Asian market to
Ecuador, where the rig is operating under a three well contract with options.
The Company's other rigs in the Southeast Asian market all operated throughout
most of the first quarter. The Company believes that its rigs in Southeast Asia
will stay busy through most of 2004. The Ocean Heritage could return to this
geographic area later in the year, and if so, the cost of the demobilization
will be reimbursed by the customer. The market in Southeast Asia is currently
balanced between supply and demand.
GENERAL
Revenues. The Company's revenues vary based upon demand, which affects
the number of days the fleet is utilized and the dayrates earned. When a rig is
idle, no dayrate is earned and revenues will decrease as a result. Revenues can
also increase or decrease as a result of the acquisition or disposal of rigs,
required surveys and shipyard upgrades. In order to improve utilization or
realize higher dayrates, the Company may mobilize its rigs from one market to
another. However, during periods of mobilization, revenues may be adversely
affected. As a response to changes in demand, the Company may withdraw a rig
from the market by stacking it or may reactivate a rig stacked previously, which
may decrease or increase revenues, respectively.
Revenues from dayrate drilling contracts are recognized currently. The
Company may receive lump-sum payments in connection with specific contracts.
Such payments are recognized as revenues over the term of the related drilling
contract. Mobilization revenues, less costs incurred to mobilize an offshore rig
from one market to another, are recognized over the primary term of the related
drilling contract.
Revenues from reimbursements received for the purchase of supplies,
equipment, personnel services and other services provided at the request of the
Company's customers in accordance with a contract or agreement are recorded for
the gross amount billed to the customer, as "Revenues related to reimbursable
expenses" in the Consolidated Statements of Operations.
Revenues from offshore turnkey drilling contracts are accrued to the
extent of costs until the specified turnkey depth and other contract
requirements are met. Income is recognized on the completed contract method.
Provisions for future losses on turnkey contracts are recognized when it becomes
apparent that expenses to be incurred on a specific contract will exceed the
revenue from that contract. The Company has elected not to pursue contracts for
integrated services, which includes turnkey contracts, except in very limited
circumstances.
Operating Income. Operating income is primarily affected by revenue
factors, but is also a function of varying levels of operating expenses.
Operating expenses generally are not affected by changes in dayrates and may not
be significantly affected by fluctuations in utilization. For instance, if a rig
is to be idle for a short period of time, few decreases in operating expenses
may actually occur since the rig is typically maintained in a prepared or "ready
stacked" state with a full crew. In addition, when a rig is idle, the Company is
responsible for certain operating expenses such as rig fuel and supply boat
costs, which are typically costs of the operator when a rig is under contract.
However, if the rig is to be idle for an extended period of time, the Company
may reduce the size of a rig's crew and take steps to "cold stack" the rig,
which lowers expenses and partially offsets the impact on operating income. Five
of the Company's rigs were cold stacked at March 31, 2004. The Company
recognizes as operating expenses activities such as inspections, painting
projects and routine overhauls, meeting certain criteria, which maintain rather
than upgrade its rigs. These expenses vary from period to period. Costs of rig
enhancements are capitalized and depreciated over the expected useful lives of
the enhancements. Higher depreciation expense decreases operating income in
periods subsequent to capital upgrades.
Operating income is negatively impacted when the Company performs certain
regulatory inspections that are due every five years ("5-year survey") for all
of the Company's rigs. Operating revenue decreases because these surveys are
performed during scheduled down-time in a shipyard. Operating expenses increase
as a result of these surveys due to the cost to mobilize the rigs to a shipyard,
inspection costs incurred and repair and maintenance costs. Repair and
maintenance costs may be required resulting from the survey or may have been
previously planned to take place during this mandatory down-time. The number of
rigs undergoing a 5-year survey will vary from year to year.
19
CRITICAL ACCOUNTING ESTIMATES
The Company's significant accounting policies are included in Note 1 of
its Notes to Consolidated Financial Statements in Item 1 Part I of this report.
Management's judgments, assumptions and estimates are inherent in the
preparation of the Company's financial statements and the application of its
significant accounting policies. The Company believes that its most critical
accounting estimates are as follows:
Property, Plant and Equipment. Drilling and other property and equipment
is carried at cost. Maintenance and routine repairs are charged to income
currently while replacements and betterments, which meet certain criteria, are
capitalized. Depreciation is amortized up to applicable salvage values by
applying the straight-line method over the remaining estimated useful lives.
In April 2003 the Company commissioned a study to evaluate the economic
lives of its drilling rigs. As a result of this study, effective April 1, 2003,
the Company recorded changes in accounting estimates by increasing the estimated
service lives to 25 years for jack-ups and 30 years for semisubmersibles and the
Company's drillship and by increasing salvage values to 5% for most of the
Company's drilling rigs. The change in estimate was made to better reflect the
remaining economic lives and salvage values of the Company's fleet. The effect
of this change in accounting estimates resulted in a reduction to net loss
(after-tax) for the quarter ended March 31, 2004 of $4.0 million, or $0.03 per
share. Management makes judgments, assumptions and estimates regarding
capitalization, useful lives and salvage values. Changes in these assumptions
could produce results that differ from those reported.
The Company evaluates its property and equipment for impairment whenever
changes in circumstances indicate that the carrying amount of an asset may not
be recoverable. In September 2003 the Company wrote down two of its second
generation semisubmersible drilling rigs, the Ocean Century and the Ocean
Prospector, by $1.6 million to their fair market values subsequent to a decision
to offer the rigs for sale. These rigs were sold in December 2003 for $375,000
each. Management's assumptions are an inherent part of an asset impairment
evaluation and the use of different assumptions could produce results that
differ from those reported.
Personal Injury Claims. The Company's retention of liability for personal
injury claims, which primarily result from Jones Act liability in the Gulf of
Mexico, is $0.5 million per claim with an additional aggregate annual deductible
of $1.5 million. The Company estimates its liability for personal injury claims
based on the existing facts and circumstances in conjunction with historical
experience regarding past personal injury claims. Eventual settlement or
adjudication of these claims could differ significantly from the estimated
amounts.
Income Taxes. The Company accounts for income taxes in accordance with
Statement of Financial Accounting Standards ("SFAS") No. 109, "Accounting for
Income Taxes," which requires the recognition of the amount of taxes payable or
refundable for the current year; and an asset and liability approach in
recognizing the amount of deferred tax liabilities and assets for the future tax
consequences of events that have been currently recognized in its financial
statements or tax returns. The application of this accounting standard requires
that management make judgments regarding future events and related estimations
especially as they pertain to forecasting of the Company's effective tax rate,
the potential realization of deferred tax assets such as utilization of foreign
tax credits, and exposure to the disallowance of items deducted on tax returns
upon audit.
In December 2003 a valuation allowance of $10.2 million, which resulted
in a charge against earnings, was established for certain of the Company's
foreign tax credit carryforwards which will begin to expire in 2006. Although
the Company intends to make use of all available tax planning strategies in
order to be able to utilize these carryforwards, under the "more likely than
not" approach of evaluating the associated deferred tax asset the Company deemed
that a valuation allowance was necessary.
20
THREE MONTHS ENDED MARCH 31, 2004 AND 2003
Comparative data relating to the Company's revenues and operating
expenses by equipment type are listed below (eliminations offset (i) dayrate
revenues earned when the Company's rigs are utilized in its integrated services
and (ii) intercompany expenses charged to rig operations). Certain amounts
applicable to the prior periods have been reclassified to conform to the
classifications currently followed. Such reclassifications do not affect
earnings.
THREE MONTHS ENDED
MARCH 31,
--------------------------- FAVORABLE/
2004 2003 (UNFAVORABLE)
------------------------------------------------
(in thousands)
CONTRACT DRILLING REVENUE
High Specification Floaters................... $ 64,752 $ 63,634 $ 1,118
Other Semisubmersibles........................ 71,135 51,703 19,432
Jack-ups...................................... 40,819 23,566 17,253
Integrated Services........................... -- 1,189 (1,189)
Other......................................... 534 -- 534
Eliminations.................................. -- (233) 233
--------- --------- ---------
TOTAL CONTRACT DRILLING REVENUE............... $ 177,240 $ 139,859 $ 37,381
========= ========= =========
REVENUES RELATED TO REIMBURSABLE EXPENSES..... $ 6,958 $ 6,290 $ 668
CONTRACT DRILLING EXPENSE
High Specification Floaters................... $ 42,470 $ 38,276 $ (4,194)
Other Semisubmersibles........................ 62,992 49,717 (13,275)
Jack-ups...................................... 27,937 24,251 (3,686)
Integrated Services........................... -- 1,249 1,249
Other......................................... 1,279 410 (869)
Eliminations.................................. -- (233) (233)
--------- --------- ---------
TOTAL CONTRACT DRILLING EXPENSE............... $ 134,678 $ 113,670 $ (21,008)
========= ========= =========
REIMBURSABLE EXPENSES......................... $ 6,234 $ 5,738 $ (496)
OPERATING LOSS
High Specification Floaters................... $ 22,282 $ 25,358 $ (3,076)
Other Semisubmersibles........................ 8,143 1,986 6,157
Jack-ups...................................... 12,882 (685) 13,567
Integrated Services........................... -- (60) 60
Other......................................... (745) (410) (335)
Reimbursable expenses, net.................... 724 552 172
Depreciation.................................. (44,520) (47,277) 2,757
General and administrative expense............ (8,789) (7,200) (1,589)
Gain on sale and disposition of assets........ 325 1 324
--------- --------- ---------
TOTAL OPERATING LOSS.......................... $ (9,698) $ (27,735) $ 18,037
========= ========= =========
High Specification Floaters.
Revenues. Revenues from high specification floaters increased $1.1
million during the quarter ended March 31, 2004 compared to the same period in
2003.
The Ocean Rover contributed $10.6 million to revenue during the first
quarter of 2004 as it continued its drilling program offshore Malaysia. During
the first quarter of 2003 this rig was undergoing an upgrade to high
specification capabilities which was completed in July 2003.
Revenue was negatively impacted by $16.4 million as utilization
(excluding the Ocean Rover) fell from 83% during the first quarter of 2003 to
74% during the first quarter of 2004 largely as a result of soft market
conditions for deepwater semisubmersibles in the U.S. GOM.
21
Utilization declined for:
- the Ocean Star, which was stacked a majority of the first
quarter of 2004;
- the Ocean Alliance, which was in a shipyard for approximately
one month during the first quarter of 2004 for a 5-year
survey;
- the Ocean Confidence, which had approximately three weeks of
unpaid downtime for repairs during the first quarter of 2004;
- the Ocean America, which entered a shipyard in March 2004 to
begin a 5-year survey and upgrade which are scheduled to be
completed in the second quarter of 2004; and
- the Ocean Quest, which was stacked approximately one month
during the first quarter of 2004.
All of these rigs operated during all or most of the first quarter of 2003.
Partially offsetting the overall decline in utilization were
utilization improvements for:
- the Ocean Valiant, which worked all of the first quarter of
2004 but was stacked for most of the first quarter of 2003 for
a 5-year survey and waiting for a contract; and
- the Ocean Baroness, which worked a majority of the first
quarter of 2004 but spent approximately one month during the
first quarter of 2003 in a shipyard preparing for work
offshore Indonesia.
The overall average operating dayrate during the first quarter of 2004
(excluding the Ocean Rover) was $89,000 per day compared to $94,300 per day
during the same period in 2003. The lower average dayrates were primarily a
consequence of soft market conditions in the U.S. GOM as several of these high
specification floaters accepted jobs in the mid-water depth market.
An improvement in the average operating dayrate for the Ocean Baroness
contributed $5.4 million to revenues. This rig earned a reduced rate during the
first quarter of 2003 while it prepared for work offshore Indonesia.
Contract Drilling Expense. Contract drilling expense for high
specification floaters was higher by $4.2 million for the quarter ended March
31, 2004 compared to the same period in 2003 primarily due to operating costs
for the Ocean Rover, which worked all of the first quarter of 2004 but was
undergoing a major upgrade during the first quarter of 2003.
In addition, contract drilling expense was higher during the first
quarter of 2004 due to costs related to 5-year surveys for the Ocean Alliance
and Ocean America. However, operating costs were higher during the first quarter
of 2003 for the Ocean Valiant, which was in a shipyard for a 5-year survey, and
the Ocean Baroness, which was mobilizing to Indonesia.
Other Semisubmersibles.
Revenues. Revenues from other semisubmersibles for the quarter ended
March 31, 2004 were $19.4 million higher compared to the same period in 2003.
Utilization improvements contributed $27.7 million to the higher
revenues. Utilization rose to 66% during the first quarter of 2004 from 48%
during the same period of 2003 (excluding the Ocean Century and Ocean
Prospector, which were sold in December 2003). Utilization improved for:
- four international rigs which worked a majority of the first
quarter of 2004 but were stacked most of the same period in
2003 (the Ocean Whittington, Ocean Epoch and Ocean Princess
were ready-stacked and the Ocean Guardian was undergoing its
5-year survey and repairs); and
- two U.S. GOM rigs (the Ocean Lexington and Ocean Saratoga)
which worked the entire first quarter of 2004 but were
ready-stacked for approximately one-half of the first quarter
of 2003.
22
Partially offsetting these utilization improvements were declines in
utilization for the Ocean Concord and the Ocean Winner each of which spent part
of the first quarter of 2004 in a shipyard for a 5-year survey but worked during
most of the first quarter of 2003.
The average operating dayrate for other semisubmersibles fell from
$62,800 during the first quarter of 2003 to $56,500 during the first quarter of
2004 which reduced revenues by $2.6 million. The most significant drops in
average dayrates were to:
- the Ocean Yatzy (from $122,200 to $88,600) which renewed its
contract to operate offshore Brazil during the latter part of
2003 at a lower dayrate; and
- the Ocean Yorktown (from $75,500 to $49,800) which worked
offshore Brazil during the first quarter of 2003 but operated
in the Mexican GOM during the first quarter of 2004.
Partially offsetting the overall lower average operating dayrates were
improvements in dayrates for the Ocean Worker ($38,900 to $68,400) and Ocean
Ambassador ($40,100 to $56,900). Both rigs operated in the Mexican GOM during
the first quarter of 2004 and the U.S. GOM during the same period in 2003.
Contract Drilling Expense. Contract drilling expense for other
semisubmersibles increased $13.3 million during the first quarter of 2004
compared to the same period in 2003 primarily due to:
- the four rigs now working in the Mexican GOM, which incurred
higher labor, travel, and equipment rental expense, as well as
expenses associated with maintaining a Mexican shorebase;
- the Ocean Vanguard and Ocean Patriot, purchased in December
2002 and March 2003, respectively, which had normal operating
expenses during the first quarter of 2004 compared to minimal
costs during the same period in 2003;
- the Ocean Winner and Ocean Concord, which incurred costs to
mobilize to the shipyard and perform their 5-year surveys
during the first quarter of 2004 compared to normal operations
during the first quarter of 2003; and
- the Ocean Nomad, which incurred costs to mobilize from the
North Sea to Guinea Bissau during the first quarter of 2004.
Partially offsetting the increase in contract drilling expense were
lower costs for:
- the Ocean Guardian, which incurred normal operating costs
during the first quarter of 2004 compared to costs for
mobilization to a shipyard and a 5-year survey during the same
period in 2003; and
- the Ocean Saratoga, which incurred normal operating costs
during the first quarter of 2004 compared to operating costs
for the same period in 2003 which included engine and annular
overhaul costs and anchor handling crews required to move the
rig to a different location.
Jack-Ups.
Revenues. Revenues from jack-ups increased $17.3 million during the
first quarter of 2004 compared to the same quarter in 2003.
Utilization rose to 85% in the first quarter of 2004 from 68% in the
same period of 2003, resulting in a $9.0 million revenue improvement quarter
over quarter. Three of the Company's jack-ups, the Ocean Tower and Ocean Spartan
in the U.S. GOM, and the Ocean Sovereign in Southeast Asia, were in shipyards
undergoing major upgrades during all or part of the first quarter of 2003 but
were operating most of the same period in 2004.
A 32% improvement in average operating dayrates contributed $8.3
million to the favorable revenue variance from quarter to quarter. The average
operating dayrate for jack-ups rose to $36,400 per day in the first quarter of
2004 from $27,600 per day in the same quarter of 2003. These higher dayrates in
2004 have resulted primarily from a tighter market for this class of equipment
in the U.S. GOM.
23
Contract Drilling Expense. Contract drilling expense for jack-ups
during the first quarter of 2004 was higher by $3.7 million compared to the same
period in 2003 primarily due to:
- costs incurred during the first quarter 2004 to mobilize the
Ocean Heritage from Singapore to Ecuador; and
- operating costs for the Ocean Tower and Ocean Sovereign, which
capitalized a majority of their first quarter 2003
expenditures to their upgrades.
Partially offsetting were lower contract drilling expenses for the
Ocean Sovereign and Ocean Spur, which consisted of normal operating costs
compared to the first quarter of 2003, which included mobilization and repair
costs.
Reimbursable expenses, net.
Reimbursable expenses include items that the Company purchases, and/or
services it performs, at the request of its customers. Revenues related to
reimbursable items, offset by the related expenditures for these items, were
$0.7 million and $0.6 million for the quarters ended March 31, 2004 and 2003,
respectively.
Depreciation.
Depreciation expense decreased $2.8 million to $44.5 million in the
first quarter of 2004 compared to $47.3 million in the first quarter of 2003
primarily due to:
- A $5.3 million reduction in depreciation expense for the first
quarter of 2004 which resulted from increasing the estimated
service lives and salvage values for most of the Company's
drilling rigs, effective April 1, 2003, to better reflect
their remaining economic lives and salvage values.
This reduction was partially offset by additional depreciation for:
- the Ocean Rover, which completed its upgrade in July 2003;
- the Ocean Patriot, acquired in March 2003;
- two jack-up rigs which completed upgrades during the second
quarter of 2003;
- four rigs operating in Mexico due to an increase in capital
additions; and
- the Ocean Baroness due to the purchase of riser and rig
modifications.
General and Administrative Expense.
General and administrative expense for the quarter ended March 31, 2004
of $8.8 million increased $1.6 million over $7.2 million for the same period in
2003. This increase was primarily due to legal fees associated with litigation
in which the Company is a plaintiff.
Interest Income.
Interest income of $1.6 million earned during the quarter ended March
31, 2004 declined $2.6 million, from $4.2 million earned during the same period
in 2003, primarily due to the lower interest rates earned on cash and marketable
securities compared to the same period in 2003.
24
Income Tax Benefit.
An income tax benefit of $3.7 million was recognized on a pre-tax loss
of $14.7 million in the first quarter of 2004 compared to a tax benefit of $5.9
million which was recognized on a pre-tax loss of $27.5 million in the first
quarter of 2003.
Certain of the Company's rigs that operate internationally are owned
and operated, directly or indirectly, by Diamond Offshore International Limited,
a Cayman Islands corporation and wholly-owned subsidiary of the Company.
Effective January 1, 2003 the Company began to postpone remittance of the
earnings from Diamond Offshore International Limited and indefinitely reinvest
these earnings internationally. Consequently, no U.S. taxes were provided on
these earnings and no U.S. tax benefits were recognized on losses during the
quarters ended March 31, 2004 and 2003. The estimated total Company annual
effective tax rate was 25.2% as of March 31, 2004 and 21.5% as of March 31,
2003.
OPERATIONS OUTSIDE THE UNITED STATES
The Company's non-U.S. operations are subject to certain political,
economic and other uncertainties not normally encountered in U.S. operations,
including risks of war and civil disturbances (or other risks that may limit or
disrupt markets), expropriation and the general hazards associated with the
assertion of national sovereignty over certain areas in which operations are
conducted. No prediction can be made as to what governmental regulations may be
enacted in the future that could adversely affect the Company's non-U.S.
operations or the international offshore contract drilling industry. The
Company's operations outside the United States may also face the additional risk
of fluctuating currency values, hard currency shortages, controls of currency
exchange and repatriation of income or capital.
During 2003, the Company entered into contracts to operate four of its
semisubmersible rigs offshore Mexico for Pemex, the national oil company of
Mexico. The terms of these contracts expose the Company to greater risks than it
normally assumes, such as exposure to greater environmental liability. While the
Company believes that the financial terms of the contracts and the Company's
operating safeguards in place mitigate these risks, there can be no assurance
that the Company's increased risk exposure will not have a negative impact on
the Company's future operations or financial results.
LIQUIDITY
A discussion of the sources and uses of cash for the quarter ended
March 31, 2004 compared to the same period in 2003 follows.
THREE MONTHS ENDED
MARCH 31,
----------------------------
2004 2003 CHANGE
----------- ------------- --------
(IN THOUSANDS)
NET CASH PROVIDED BY OPERATING ACTIVITIES
Net loss............................................. $ (10,972) $ (21,566) $ 10,594
Depreciation......................................... 44,520 47,277 (2,757)
Deferred tax provision............................... (1,731) (9,974) 8,243
Other non-cash items, net............................ 2,917 3,339 (422)
Net changes in operating assets and liabilities...... 3,813 9,996 (6,183)
---------- ------------- --------
$ 38,547 $ 29,072 $ 9,475
========== ============= ========
Cash of $38.5 million was generated from operations during the quarter
ended March 31, 2004 compared to cash of $29.1 million generated during the same
period of 2003 primarily due to an improvement in results of operations in the
first quarter of 2004.
25
THREE MONTHS ENDED
MARCH 31,
----------------------------------
2004 2003 CHANGE
----------------------------------------------------
(IN THOUSANDS)
NET CASH USED IN INVESTING ACTIVITIES
Capital expenditures (excluding rig acquisition)...... $ (23,470) $ (70,226) $ 46,756
Rig acquisition....................................... -- (63,500) 63,500
Proceeds from sale of assets.......................... 576 78 498
Proceeds from sale and maturities of
marketable securities............................... 625,515 877,961 (252,446)
Purchases of marketable securities.................... (623,461) (748,664) 125,203
Proceeds from settlement of forward contracts......... -- 677 (677)
--------------- ------------- -----------
$ (20,840) $ (3,674) $ (17,166)
=============== ============= ===========
During the quarter ended March 31, 2004, the Company used $20.8 million
for investing activities compared to $3.7 million used during the comparable
period in 2003. In the first quarter of 2004, capital expenditures used $23.5
million of the Company's cash and more than offset cash proceeds of $2.1 million
provided by the net sale and maturity of certain of the Company's investments in
marketable securities and the $0.6 million of cash provided from the sale of
miscellaneous equipment. During the quarter ended March 31, 2003, the Company
spent $65.0 million ($1.5 million of which is included with inventory) for the
purchase of the semisubmersible rig, the Ocean Patriot, and used $70.2 million
for capital expenditures, primarily for the completion of the Ocean Rover
upgrade and the upgrade of three of the Company's jack-up rigs. Cash provided
from investing activities in the first quarter of 2003 included cash proceeds of
$129.3 million from the net sale and maturity of certain of the Company's
investments in marketable securities, $0.7 million provided from the settlement
of forward contracts at favorable exchange rates and $0.1 million provided from
the sale of miscellaneous equipment.
THREE MONTHS ENDED
MARCH 31,
------------------------------
2004 2003 CHANGE
-------------------------------------------
(IN THOUSANDS)
NET CASH USED IN FINANCING ACTIVITIES
Payment of dividends..................... $ (8,083) $ (16,292) $ 8,209
-------- --------- ----------
$ (8,083) $ (16,292) $ 8,209
======== ========= ==========
The Company paid cash dividends of $8.1 million to stockholders during the
quarter ended March 31, 2004 compared to $16.3 million in the same period of
2003. Cash dividends paid in the first quarter of 2004 were lower primarily due
to a lower dividend rate ($0.0625 per share of common stock) than the dividend
rate used for cash dividends paid in March 2003 ($0.125 per share of common
stock).
Credit Ratings.
As of the date of this report, the Company's current credit rating is
Baa2 for Moody's Investors Services ("Moody's") and A for Standard & Poor's
("S&P"). In 2003 Moody's lowered its ratings of the Company's long-term debt to
Baa1 from A3 and on April 27, 2004 lowered its rating from Baa1 to Baa2 and
changed the rating outlook to stable from negative. In addition, S&P placed
ratings of the Company's debt under review for a possible downgrade. Moody's
lowered the Company's ratings primarily due to financial performance that was
below Moody's expectations. Although the Company's long-term ratings continue at
investment grade levels, lower ratings could result in higher interest rates on
future debt issuances.
Letters of Credit and Other.
The Company is contingently liable as of March 31, 2004 in the amount of
$70.7 million under certain performance, bid, supersedeas, custom bonds, and
letters of credit. Agreements related to approximately $34.0 million of
multi-year performance bonds can require cash collateral for the full line at
any time for any reason. Holders of agreements related to another $23.2 million
currently have the option to require cash collateral due to Moody's lowering the
Company's credit rating on April 27, 2004. The remaining agreements cannot
require cash collateral except in events of default.
26
Off-Balance Sheet Arrangements.
At March 31, 2004 and December 31, 2003, the Company had no off-balance
sheet debt.
Other.
The Company has the ability to issue an aggregate of approximately $117.5
million in debt, equity and other securities under a shelf registration
statement. In addition, the Company may issue, from time to time, up to eight
million shares of common stock, which shares are registered under an acquisition
shelf registration statement, (upon effectiveness of an amendment thereto
reflecting the effect of the two-for-one stock split declared in July 1997) in
connection with one or more acquisitions by the Company of securities or assets
of other businesses.
The Company believes it has the financial resources needed to meet its
business requirements in the foreseeable future, including capital expenditures
for rig upgrades and continuing rig enhancements, and working capital
requirements.
CAPITAL RESOURCES
Cash required to meet the Company's capital commitments is determined
by evaluating the need to upgrade rigs to meet specific customer requirements
and by evaluating the Company's ongoing rig equipment replacement and
enhancement programs, including water depth and drilling capability upgrades. It
is management's opinion that operating cash flows and the Company's cash
reserves will be sufficient to meet these capital commitments; however, the
Company will continue to make periodic assessments based on industry conditions.
In addition, the Company may, from time to time, issue debt or equity
securities, or a combination thereof, to finance capital expenditures, the
acquisition of assets and businesses or for general corporate purposes. The
Company's ability to effect any such issuance will be dependent on the Company's
results of operations, its current financial condition, current market
conditions and other factors beyond its control.
The Company has budgeted approximately $15 million during 2004 to
upgrade one of the Company's high specification semisubmersible units, the Ocean
America, with capabilities making it more suitable for developmental drilling.
The upgrade began near the end of the first quarter of 2004 and is expected to
be completed during the latter part of the second quarter of 2004. As of March
31, 2004, the Company has spent $3.6 million on this project.
The Company's two-year program to expand the capabilities of its
jack-up fleet by significantly upgrading six of its 14 jack-up rigs is now
complete. Three of these upgrades were completed in 2002, two were completed in
2003 and one was completed early in 2004. The installation of a cantilever
package on the Ocean Titan began in May 2003 and was completed in January 2004
for approximately $22 million.
The Company expects to spend approximately $66 million in 2004 for
capital expenditures associated with its continuing rig enhancement program
(other than rig upgrades) and other corporate requirements. During the three
months ended March 31, 2004, the Company spent $19.0 million on its continuing
rig enhancement program and to meet other corporate capital expenditure
requirements.
INTEGRATED SERVICES
The Company from time to time selectively engages in drilling services
pursuant to turnkey or modified-turnkey contracts under which it agrees to drill
a well to a specified depth for a fixed price. The Company had no such activity
during the quarter ended March 31, 2004. During the quarter ended March 31,
2003, the Company had an operating loss of $0.1 million from one turnkey plug
and abandonment project in the Gulf of Mexico completed in the quarter. It is
the Company's intent not to pursue contracts for integrated services, which
includes turnkey contracts, except in very limited circumstances.
27
FORWARD-LOOKING STATEMENTS
Certain written and oral statements made or incorporated by reference
from time to time by the Company or its representatives are "forward-looking
statements" within the meaning of Section 27A of the Securities Act of 1933, as
amended (the "Securities Act"), and Section 21E of the Securities Exchange Act
of 1934, as amended (the "Exchange Act"). All statements other than statements
of historical fact are, or may be deemed to be, forward-looking statements.
Forward-looking statements include, without limitation, any statement that may
project, indicate or imply future results, events, performance or achievements,
and may contain or be identified by the words "expect," "intend," "plan,"
"predict," "anticipate," "estimate," "believe," "should," "could," "may,"
"might," "will be," "will continue," "will likely result," "project,"
"forecast," "budget" and similar expressions. Statements by the Company in this
report that contain forward-looking statements include, but are not limited to,
information concerning possible or assumed future results of operations of the
Company and statements about the following subjects:
- future market conditions and the effect of such conditions on
the Company's future results of operations (see "-
Overview-Results of Operations and Industry Conditions");
- future uses of and requirements for financial resources (see
"- Liquidity" and "- Capital Resources");
- interest rate and foreign exchange risk (see
"--Liquidity-Credit Ratings" and "Quantitative and Qualitative
Disclosures About Market Risk");
- future contractual obligations (see "--Overview-- Results of
Operations and Industry Conditions," "--Operations Outside the
United States" and "- Liquidity");
- future operations outside the United States including, without
limitation, the Company's operations in Mexico (see
"--Overview-- Results of Operations and Industry Conditions"
and "--Operations Outside the United States");
- business strategy;
- growth opportunities;
- competitive position;
- expected financial position;
- future cash flows;
- future dividends;
- financing plans;
- tax planning (See "--Critical Accounting Estimates--Income
Taxes");
- budgets for capital and other expenditures (see "--Capital
Resources");
- timing and cost of completion of rig upgrades and other
capital projects (see "--Capital Resources");
- delivery dates and drilling contracts related to rig
conversion and upgrade projects (see "Overview-- --Results of
Operations and Industry Conditions" and "--Capital
Resources");
- plans and objectives of management;
- performance of contracts (see "-- Overview-- Results of
Operations and Industry Conditions," "--Operations Outside the
United States" and "--Integrated Services");
- outcomes of legal proceedings;
- compliance with applicable laws; and
- adequacy of insurance or indemnification.
Such statements inherently are subject to a variety of risks and
uncertainties that could cause actual results to differ materially from those
expected, projected or expressed in forward-looking statements. Such risks and
uncertainties include, among others, the following:
- general economic and business conditions;
- worldwide demand for oil and natural gas;
- changes in foreign and domestic oil and gas exploration,
development and production activity;
- oil and natural gas price fluctuations and related market
expectations;
28
- the ability of the Organization of Petroleum Exporting
Countries, commonly called OPEC, to set and maintain
production levels and pricing, and the level of production in
non-OPEC countries;
- policies of the various governments regarding exploration and
development of oil and gas reserves;
- advances in exploration and development technology;
- the political environment of oil-producing regions;
- casualty losses;
- operating hazards inherent in drilling for oil and gas
offshore;
- industry fleet capacity;
- market conditions in the offshore contract drilling industry,
including dayrates and utilization levels;
- competition;
- changes in foreign, political, social and economic conditions;
- risks of international operations, compliance with foreign
laws and taxation policies and expropriation or
nationalization of equipment and assets;
- risks of potential contractual liabilities pursuant to the
Company's various drilling contracts in effect from time to
time;
- foreign exchange and currency fluctuations and regulations,
and the inability to repatriate income or capital;
- risks of war, military operations, other armed hostilities,
terrorist acts and embargoes;
- changes in offshore drilling technology, which could require
significant capital expenditures in order to maintain
competitiveness;
- regulatory initiatives and compliance with governmental
regulations;
- compliance with environmental laws and regulations;
- customer preferences;
- effects of litigation;
- cost, availability and adequacy of insurance;
- adequacy of the Company's sources of liquidity;
- risks inherent in turnkey operations, including the risk of
failure to complete a well and cost overruns;
- the availability of qualified personnel to operate and service
the Company's drilling rigs; and
- various other matters, many of which are beyond the Company's
control.
The risks included here are not exhaustive. Other sections of this
report and the Company's other filings with the Securities and Exchange
Commission include additional factors that could adversely affect the Company's
business, results of operations and financial performance. Given these risks and
uncertainties, investors should not place undue reliance on forward-looking
statements. Forward-looking statements included in this report speak only as of
the date of this report. The Company expressly disclaims any obligation or
undertaking to release publicly any updates or revisions to any forward-looking
statement to reflect any change in the Company's expectations with regard
thereto or any change in events, conditions or circumstances on which any
forward-looking statement is based.
29
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
The information included in this Item 3 is considered to constitute
"forward-looking statements" for purposes of the statutory safe harbor provided
in Section 27A of the Securities Act and Section 21E of the Exchange Act. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Forward-Looking Statements" in Item 2 of Part I of this report.
The Company's measure of market risk exposure represents an estimate of
the change in fair value of its financial instruments. Market risk exposure is
presented for each class of financial instrument held by the Company at March
31, 2004 and December 31, 2003 assuming immediate adverse market movements of
the magnitude described below. The Company believes that the various rates of
adverse market movements represent a measure of exposure to loss under
hypothetically assumed adverse conditions. The estimated market risk exposure
represents the hypothetical loss to future earnings and does not represent the
maximum possible loss or any expected actual loss, even under adverse
conditions, because actual adverse fluctuations would likely differ. In
addition, since the Company's investment portfolio is subject to change based on
its portfolio management strategy as well as in response to changes in the
market, these estimates are not necessarily indicative of the actual results
which may occur.
Exposure to market risk is managed and monitored by senior management.
Senior management approves the overall investment strategy employed by the
Company and has responsibility to ensure that the investment positions are
consistent with that strategy and the level of risk acceptable to it. The
Company may manage risk by buying or selling instruments or entering into
offsetting positions.
Interest Rate Risk
The Company has exposure to interest rate risk arising from changes in
the level or volatility of interest rates. The Company's investments in
marketable securities are primarily in fixed maturity securities. The Company
monitors its sensitivity to interest rate risk by evaluating the change in the
value of its financial assets and liabilities due to fluctuations in interest
rates. The evaluation is performed by applying an instantaneous change in
interest rates by varying magnitudes on a static balance sheet to determine the
effect such a change in rates would have on the recorded market value of the
Company's investments and the resulting effect on stockholders' equity. The
analysis presents the sensitivity of the market value of the Company's financial
instruments to selected changes in market rates and prices which the Company
believes are reasonably possible over a one-year period.
The sensitivity analysis estimates the change in the market value of
the Company's interest sensitive assets and liabilities that were held on March
31, 2004 and December 31, 2003 due to instantaneous parallel shifts in the yield
curve of 100 basis points, with all other variables held constant.
The interest rates on certain types of assets and liabilities may
fluctuate in advance of changes in market interest rates, while interest rates
on other types may lag behind changes in market rates. Accordingly the analysis
may not be indicative of, is not intended to provide, and does not provide a
precise forecast of the effect of changes of market interest rates on the
Company's earnings or stockholders' equity. Further, the computations do not
contemplate any actions the Company could undertake in response to changes in
interest rates.
The Company's long-term debt as of March 31, 2004 and December 31, 2003
is denominated in U.S. dollars. The Company's debt has been primarily issued at
fixed rates, and as such, interest expense would not be impacted by interest
rate shifts. The impact of a 100 basis point increase in interest rates on fixed
rate debt would result in a decrease in market value of $154.1 million and
$150.5 million, respectively. A 100 basis point decrease would result in an
increase in market value of $191.2 million and $186.8 million, respectively.
30
The following table presents the Company's market risk by category
(interest rates and foreign currency exchange rates):
FAIR VALUE ASSET (LIABILITY) MARKET RISK
------------------------------------- ---------------------------------
MARCH 31, DECEMBER 31, MARCH 31, DECEMBER 31,
CATEGORY OF RISK EXPOSURE: 2004 2003 2004 2003
- ------------------------------------------------------------------------------ ---------------------------------
(IN THOUSANDS)
Interest rate:
Marketable securities.......... $ 628,509 (a) $ 503,995 (a) $ 1,300 (c) $ 700 (c)
Long-term debt................ (933,691) (b) (909,100)(b) -- --
- ------------------------------------
(a) The fair market value of the Company's investment in marketable
securities is based on the quoted closing market prices on March 31, 2004 and
December 31, 2003.
(b) The fair values of the Company's 1.5% convertible senior debentures
due 2031 and zero coupon convertible debentures due 2020 are based on the quoted
closing market prices on March 31, 2004 and December 31, 2003. The fair value of
the Company's Ocean Alliance lease-leaseback agreement is based on the present
value of estimated future cash flows using a discount rate of 3.36% for March
31, 2004 and 2.08% for December 31, 2003.
(c) The calculation of estimated market risk exposure is based on assumed
adverse changes in the underlying reference price or index of an increase in
interest rates of 100 basis points at March 31, 2004 and December 31, 2003.
ITEM 4. CONTROLS AND PROCEDURES.
The Company's management formed a disclosure controls and procedures
committee (the "Disclosure Committee") in 2002. The purpose and responsibility
of the Disclosure Committee is to coordinate and review the process by which
information is recorded, processed, summarized and reported on a timely basis as
required to be disclosed by the Company in its reports filed, furnished or
submitted under the Exchange Act. In addition, the Disclosure Committee is
responsible for ensuring that this information is accumulated and communicated
to the Company's management, including its principal executive officer and
principal financial officer, as appropriate, to allow timely decisions regarding
required disclosure.
Evaluation of Disclosure Controls and Procedures
Based upon their evaluation, as of the end of the period covered by this
report, of the effectiveness of the Company's disclosure controls and procedures
(as defined in Exchange Act Rule 13a-15(e)), the Company's principal executive
officer and principal financial officer concluded that the Company's disclosure
controls and procedures are adequate to ensure that information the Company is
required to disclose in reports it files or submits under the Exchange Act is
recorded, processed, summarized and reported within the time periods specified
in the Securities and Exchange Commission's rules and forms.
Changes in Internal Controls
In connection with such evaluation, no change was identified in the
Company's internal control over financial reporting that occurred during the
Company's most recent fiscal quarter that has materially affected, or is
reasonably likely to materially affect, the Company's internal control over
financial reporting.
31
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
See the Exhibit Index for a list of those exhibits filed herewith.
(b) The Company made the following reports on Form 8-K during the first
quarter of 2004:
Date of Report Description of Report
-------------- ---------------------
January 6, 2004 Item 9 Regulation FD disclosure (Furnished, not filed)
January 20, 2004 Item 9 Regulation FD disclosure (Furnished, not filed)
January 29, 2004 Item 12 Results of Operations and Financial Condition
for the year ended December 31, 2003 (Furnished, not filed)
February 3, 2004 Item 9 Regulation FD disclosure (Furnished, not filed)
February 17, 2004 Item 9 Regulation FD disclosure (Furnished, not filed)
March 2, 2004 Item 9 Regulation FD disclosure (Furnished, not filed)
March 16, 2004 Item 9 Regulation FD disclosure (Furnished, not filed)
March 29, 2004 Item 9 Regulation FD disclosure (Furnished, not filed)
32
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
DIAMOND OFFSHORE DRILLING, INC.
(Registrant)
Date 03-May-2004 By: \s\ Gary T. Krenek
---------------------------
Gary T. Krenek
Vice President and Chief Financial Officer
Date 03-May-2004 \s\ Beth G. Gordon
---------------------------
Beth G. Gordon
Controller (Chief Accounting Officer)
33
EXHIBIT INDEX
Exhibit No Description
- ----------- -----------
3.1 Amended and Restated Certificate of Incorporation of the
Company (incorporated by reference to Exhibit 3.1 to the
Company's Quarterly Report on Form 10-Q for the quarterly
period ended June 30, 2003).
3.2 Amended and Restated By-laws of the Company (incorporated by
reference to Exhibit 3.2 to the Company's Quarterly Report on
Form 10-Q for the quarterly period ended March 31, 2001).
31.1* Rule 13a-14(a) Certification of the Chief Executive Officer.
31.2* Rule 13a-14(a) Certification of the Chief Financial Officer.
32.1* Section 1350 Certification of the Chief Executive Officer.
32.2* Section 1350 Certification of the Chief Financial Officer.
* Filed or furnished herewith.
34