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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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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 1-31983
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TODCO
(Exact name of registrant as specified in its charter)
DELAWARE 76-0544217
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2000 W. SAM HOUSTON PARKWAY SOUTH, SUITE 800 (713) 278-6000
HOUSTON, TEXAS 77042-3615 (Registrant's telephone number, including area code)
(Address, of registrant's principal executive Offices)
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 12-b-2 of the Act). Yes [ ] No [X]
The number of outstanding shares of each class of the registrant's common
stock as of May 3, 2004, was 14,090,602 shares of Class A common stock and
46,200,000 of Class B common stock.
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TABLE OF CONTENTS
PAGE
NUMBER
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PART I - FINANCIAL INFORMATION
Item 1. Condensed Consolidated Balance Sheets at March 31, 2004 and December 31, 2003.............. 3
Condensed Consolidated Statements of Operations for the Three Months Ended March 4
31, 2004 and 2003...................................................................
Condensed Consolidated Statements of Comprehensive Loss for the Three Months
Ended March 31, 2004 and 2003....................................................... 5
Condensed Consolidated Statement of Equity for the Three Months ended March 31,
2004................................................................................ 6
Condensed Consolidated Statements of Cash Flows for the Three Months Ended March
31, 2004 and 2003................................................................... 7
Notes to Condensed Consolidated Financial Statements ...................................... 8
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ..... 23
Item 3. Quantitative and Qualitative Disclosures about Market Risk................................. 49
Item 4. Controls and Procedures ................................................................... 49
PART II - OTHER INFORMATION
Item 1. Legal Proceedings ......................................................................... 50
Item 6. Exhibits and Reports on Form 8-K........................................................... 50
1
PART I
ITEM 1. FINANCIAL STATEMENTS UNAUDITED
The condensed consolidated financial statements of TODCO and its
consolidated subsidiaries (the "Company") included herein have been prepared,
without audit, pursuant to the rules and regulations of the Securities and
Exchange Commission. Certain information and notes normally included in
financial statements prepared in accordance with accounting principles generally
accepted in the United States have been condensed or omitted pursuant to such
rules and regulations. These financial statements should be read in conjunction
with the audited consolidated financial statements and the notes thereto
included in the Company's Annual Report on Form 10-K for the year ended December
31, 2003.
2
TODCO AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
MARCH 31, DECEMBER 31,
2004 2003
------------ -----------
(UNAUDITED)
(IN MILLIONS,
EXCEPT SHARE DATA)
ASSETS
Cash and cash equivalents ................................................ $ 21.1 $ 20.0
Accounts receivable, net
Trade ................................................................. 55.1 52.3
Related party ......................................................... 10.0 0.9
Other ................................................................. 2.8 4.6
Materials and supplies, net .............................................. 4.4 4.5
Deferred income taxes .................................................... 16.1 --
Other current assets ..................................................... 6.3 3.2
Current assets related to discontinued operations ........................ -- 0.1
------------ ------------
Total current assets ........................................ 115.8 85.6
------------ ------------
Property and equipment ................................................... 920.1 924.9
Less accumulated depreciation ............................................ 285.2 264.0
------------ ------------
Property and equipment, net ........................................... 634.9 660.9
------------ ------------
Other assets ............................................................. 25.3 31.7
------------ ------------
Total assets ................................................ $ 776.0 $ 778.2
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Trade accounts payable ................................................... $ 21.4 $ 24.7
Accrued income taxes ..................................................... 10.7 11.1
Debt due within one year ................................................. 1.7 1.2
Debt due within one year -- related party ................................ 3.0 3.0
Interest payable -- related party ........................................ 0.2 4.3
Other current liabilities ................................................ 39.3 43.4
Current liabilities related to discontinued operations ................... 0.4 0.5
------------ ------------
Total current liabilities ................................... 76.7 88.2
------------ ------------
Long-term debt ........................................................... 25.7 25.6
Long-term debt -- related party .......................................... -- 522.0
Deferred income taxes .................................................... 179.5 --
Other long-term liabilities .............................................. 3.6 4.7
------------ ------------
Total long-term liabilities ................................. 208.8 552.3
------------ ------------
Commitments and contingencies
Preferred stock, $0.01 par value, 50,000,000 shares authorized, none
outstanding at March 31, 2004 and December 31, 2003 ................... -- --
Common stock, Class A, $0.01 par value, 500,000,000 shares authorized,
14,090,602 shares and none issued and outstanding at March 31, 2004 and
December 31, 2003, respectively ....................................... 0.1 --
Common stock, Class B, $0.01 par value, 260,000,000 shares authorized,
46,200,000 and 12,144,751 shares issued and outstanding at March 31,
2004 and December 31, 2003, respectively .............................. 0.5 0.1
Additional paid-in capital ............................................... 6,514.8 6,136.3
Retained deficit ......................................................... (6,021.0) (5,998.7)
Unearned compensation .................................................... (3.9) --
------------ ------------
Total shareholders' equity .................................. 490.5 137.7
------------ ------------
Total liabilities and shareholders' equity .................. $ 776.0 $ 778.2
============ ============
See accompanying notes.
3
TODCO AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
THREE MONTHS ENDED
MARCH 31,
----------------------
2004 2003
--------- ---------
(IN MILLIONS, EXCEPT PER
SHARE DATA)
OPERATING REVENUES ................................ $ 73.8 $ 53.3
COSTS AND EXPENSES
Operating and maintenance ...................... 66.9 52.0
Operating and maintenance -- related party ..... -- 2.9
Depreciation ................................... 24.2 23.2
General and administrative ..................... 12.3 3.7
General and administrative -- related party .... 0.1 0.9
Gain on disposal of assets, net ................ (2.7) --
--------- ---------
100.8 82.7
--------- ---------
OPERATING LOSS .................................... (27.0) (29.4)
OTHER INCOME (EXPENSE), NET
Equity in loss of joint ventures ............... -- (1.5)
Interest income ................................ 0.1 0.3
Interest income -- related party ............... -- 1.6
Interest expense ............................... (1.0) (0.8)
Interest expense -- related party .............. (3.2) (15.2)
Loss on retirement of debt ..................... (1.9) (30.0)
Other, net ..................................... 0.5 (0.2)
--------- ---------
(5.5) (45.8)
--------- ---------
LOSS FROM CONTINUING OPERATIONS BEFORE INCOME TAXES (32.5) (75.2)
Income tax benefit ................................ (10.2) (18.2)
--------- ---------
LOSS FROM CONTINUING OPERATIONS ................... (22.3) (57.0)
DISCONTINUED OPERATIONS:
Income from operations of discontinued segment . -- 11.2
Income tax expense ............................. -- 40.9
Minority interest .............................. -- (1.2)
--------- ---------
Net loss from discontinued operations ...... -- (30.9)
--------- ---------
NET LOSS .......................................... $ (22.3) $ (87.9)
========= =========
NET LOSS PER COMMON SHARE BASIC AND DILUTED
Continuing operations .......................... $ (0.53) $ (4.70)
Discontinued operations ........................ -- (2.54)
--------- ---------
Net loss per common share basic and
diluted.................................... $ (0.53) $ (7.24)
========= =========
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING:
Basic and diluted .............................. 42.3 12.1
See accompanying notes.
4
TODCO AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(UNAUDITED)
THREE MONTHS ENDED
MARCH 31,
--------------------
2004 2003
-------- --------
(IN MILLIONS)
Net loss ........................................... $ (22.3) $ (87.9)
-------- --------
Other comprehensive loss
Change in share of unrealized loss
in unconsolidated joint venture's accumulated
other comprehensive loss, net of tax ........ -- (0.3)
-------- --------
Other comprehensive loss ........................ -- (0.3)
-------- --------
Total comprehensive loss ........................... $ (22.3) $ (88.2)
======== ========
See accompanying notes.
5
TODCO AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF EQUITY
COMMON STOCK
--------------------------------------------
CLASS A CLASS B ADDITIONAL
-------------------- -------------------- PAID-IN RETAINED UNEARNED TOTAL
SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT COMPENSATION EQUITY
-------- -------- -------- -------- ---------- --------- ------------ --------
(IN MILLIONS)
Balance at December 31, 2003 .. -- $ -- 12.1 $ 0.1 $6,136.3 $(5,998.7) $ -- $ 137.7
Net loss .................... (22.3) (22.3)
Debt for equity exchange .... 47.9 0.5 528.4 528.9
Conversion of common stock
from Class B to Class A 13.8 0.1 (13.8) (0.1) --
Distributions to parent ..... (173.7) (173.7)
Equity contributions from
parent ................. 13.5 13.5
Issuance of restricted stock,
net of forfeitures ..... 0.3 -- 4.2 (4.2) --
Stock options granted ....... 6.1 6.1
Amortization of unearned
compensation ........... 0.3 0.3
-------- -------- -------- -------- -------- --------- -------- --------
Balance at March 31, 2004 ..... 14.1 $ 0.1 46.2 $ 0.5 $6,514.8 $(6,021.0) $ (3.9) $ 490.5
======== ======== ======== ======== ======== ========= ======== ========
See accompanying notes.
6
TODCO AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
THREE MONTHS ENDED
MARCH 31,
--------------------
2004 2003
-------- --------
(IN MILLIONS)
CASH FLOWS FROM OPERATING ACTIVITIES -- CONTINUING
OPERATIONS AND DISCONTINUED OPERATIONS
Net loss ........................................................ $ (22.3) $ (87.9)
Adjustments to reconcile net loss to net cash provided by
operating activities:
Depreciation ................................................ 24.2 30.7
Deferred income taxes ....................................... (10.2) 21.8
Stock-based compensation expense ............................ 7.8 --
Equity in earnings of joint ventures ........................ -- (1.8)
Net (gain) loss on disposal of assets ....................... (2.7) 11.5
Amortization of debt issue costs ............................ (0.4) 0.7
Deferred income, net ........................................ (5.6) (0.5)
Deferred expenses, net ...................................... 4.2 (1.0)
Loss on retirement of debt .................................. 1.9 30.0
Changes in operating assets and liabilities, net of effect of
distributions to related parties
Accounts receivable, net .................................... (0.9) 29.5
Accounts payable and other current liabilities .............. (1.5) (17.8)
Accounts receivable/payable to related party, net ........... 6.4 47.7
Income taxes receivable/payable, net ........................ (0.4) (3.8)
Other, net .................................................. (4.1) (9.2)
-------- --------
Net cash (used in) provided by operating activities ................ (3.6) 49.9
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES -- CONTINUING OPERATIONS AND
DISCONTINUED OPERATIONS
Capital expenditures ............................................ (3.0) (3.0)
Proceeds from disposal of assets, net ........................... 7.0 0.2
-------- --------
Net cash provided by (used in) investing activities ................ 4.0 (2.8)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES -- CONTINUING
OPERATIONS AND DISCONTINUED OPERATIONS
Net repayments of debt with related party ....................... -- (34.3)
Repayments on other debt instruments ............................ -- (10.1)
Cash of subsidiaries at distribution to affiliates .............. -- (95.3)
Other, net ...................................................... 0.7 1.2
-------- --------
Net cash provided by (used in) financing activities ................ 0.7 (138.5)
-------- --------
Net increase (decrease) in cash and cash equivalents ............... 1.1 (91.4)
Cash and cash equivalents at beginning of period -- continuing
operations and discontinued operations .......................... 20.0 102.9
-------- --------
Cash and cash equivalents at end of period -- continuing
operations and discontinued operations .......................... $ 21.1 $ 11.5
======== ========
See accompanying notes.
7
TODCO AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1 -- NATURE OF BUSINESS AND PRINCIPLES OF CONSOLIDATION
TODCO (together with its subsidiaries and predecessors, unless the context
requires otherwise, the "Company," "we" or "our"), is a leading provider of
contract oil and gas drilling services, primarily in the United States ("U.S.")
Gulf of Mexico shallow water and inland marine region, an area referred to as
the U.S. Gulf Coast. At March 31, 2004, the Company owned, had partial ownership
interests in or operated 70 drilling rigs. As of this date, the Company's active
fleet of drilling rigs consisted of 24 jackup rigs, 30 barge rigs, three
submersible rigs and one platform rig, as well as nine land rigs and three lake
barge rigs in Venezuela. The Company contracts its drilling rigs, related
equipment and work crews primarily on a dayrate basis to drill oil and natural
gas wells.
Effective January 31, 2001, a merger transaction between the Company and
Transocean Inc. ("Transocean") was completed (the "Transocean Merger"). A change
of control occurred and the Company became an indirect wholly owned subsidiary
of Transocean.
In July 2002, Transocean announced plans to divest of its Gulf of Mexico
shallow and inland water ("Shallow Water") business through an initial public
offering of the Company. During 2003, the Company completed the transfer to
Transocean of all assets not related to its Shallow Water business ("Transocean
Assets"), including the transfer of all revenue-producing assets. Accordingly,
the Transocean Assets and related operations have been reflected as discontinued
operations in the Company's historical financial statements and notes thereto.
The Company's historical financial statements and the notes thereto have been
restated for the effect of discontinued operations for all periods presented,
except for the statement of cash flows and related Note 7 for which restatement
is not required. See Note 13.
In February 2004, the Company completed its initial public offering of
13,800,000 shares of its Class A common stock (the "IPO"). As of March 31, 2004,
Transocean owns 46,200,000 shares or 100 percent of the outstanding Class B
common stock of the Company, which represents 77 percent of the Company's
outstanding common stock. Transocean has 94 percent of the combined voting power
of the Company's outstanding common stock due to the five votes per share of
Class B common stock, as compared to the one vote per share of Class A common
stock. Transocean does not own any of the Company's outstanding Class A common
stock. See Note 3.
NOTE 2 -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Consolidation -- The accompanying condensed consolidated
financial statements of the Company have been prepared without audit in
accordance with accounting principles generally accepted in the United States
("GAAP") for interim financial information. Accordingly, pursuant to such rules
and regulations, these financial statements do not include all disclosures
required by GAAP for complete financial statements. Operating results for the
three months ended March 31, 2004 are not necessarily indicative of the results
that may be expected for the year ending December 31, 2004 or for any future
period. The accompanying condensed consolidated financial statements and notes
thereto should be read in conjunction with the audited consolidated financial
statements and notes thereto included in the Company's Annual Report on Form
10-K for the year ended December 31, 2003.
Intercompany transactions and accounts have been eliminated. For
investments in joint ventures that either do not meet the criteria of being a
variable interest entity or where the Company is not deemed to be the primary
beneficiary for accounting purposes, the equity method of accounting is used for
investments in joint ventures where the Company's ownership is between 20
percent and 50 percent and for investments in joint ventures owned more than 50
percent where the Company does not have control of the joint venture. The cost
method of accounting is used for investments in joint ventures where the
Company's ownership is less than 20 percent and the Company does not have
significant influence over the joint venture. For investments in joint ventures
that meet the criteria of a variable interest entity and where the Company is
deemed to be the primary beneficiary for accounting purposes, such entities are
consolidated (see New Accounting Pronouncements).
8
Accounting Estimates -- The preparation of consolidated financial
statements in conformity with GAAP requires management to make estimates and
assumptions that affect the reported amounts of assets, liabilities, revenues,
expenses and disclosure of contingent assets and liabilities. The Company
evaluates its estimates on an ongoing basis, including those related to bad
debts, materials and supplies obsolescence, investments, property and equipment
and other long-lived assets, income taxes, workers' insurance, employment
benefits and contingent liabilities. The Company bases its estimates on
historical experience and on various other assumptions that are believed to be
reasonable under the circumstances, the results of which form the basis for
making judgments about the carrying values of assets and liabilities that are
not readily apparent from other sources. Actual results could differ from such
estimates.
Segments -- The Company's operations have been aggregated into four
reportable business segments, which, for our contract drilling services,
correspond to the Company's principal geographic regions in which the Company
operates:
- U.S. Inland Barge Segment -- The Company's barge rig fleet currently
operating in this market segment consists of 12 conventional and 18
posted barge rigs. These units operate in marshes, rivers, lakes and
shallow bay or coastal waterways that are known as the "transition
zone". This area along the U.S. Gulf Coast, where jackup rigs are
unable to operate, is the world's largest market for this type of
equipment.
- U.S. Gulf of Mexico Segment -- The Company currently operates 19
jackup and three submersible rigs in the U.S. Gulf of Mexico shallow
water market segment which begins at the outer limit of the
transition zone and extends to water depths of about 350 feet. The
Company's jackup rigs in this market segment consist of independent
leg cantilever type units, mat-supported cantilever type rigs and
mat-supported slot type jackup rigs that can operate in water depths
up to 250 feet.
- Other International Segment -- The Company's other operations are
currently conducted in Mexico, Trinidad and Venezuela. In Mexico,
the Company operates two jackup rigs and is preparing a platform rig
to operate for PEMEX, the Mexican national oil company.
Additionally, the Company has two jackup rigs in Trinidad and one in
Venezuela, where the Company also has nine land rigs and three Lake
Maracaibo barges.
- Delta Towing Segment -- The Company has a partial interest in a
joint venture that operates a fleet of U.S. marine support vessels
consisting primarily of shallow water tugs, crewboats and utility
barges ("Delta Towing"). See Note 4.
Impairment of Other Long-Lived Assets -- The carrying value of long-lived
assets, principally property and equipment, is reviewed for potential impairment
when events or changes in circumstances indicate that the carrying amount of
such assets may not be recoverable. For property and equipment held for use, the
determination of recoverability is made based upon the estimated undiscounted
future net cash flows of the related asset or group of assets being evaluated.
Property and equipment held for sale are recorded at the lower of net book value
or net realizable value.
Operating Revenues and Expenses -- Operating revenues are recognized as
earned, based on contractual daily rates. In connection with drilling contracts,
the Company may receive revenues for preparation and mobilization of equipment
and personnel or for capital improvements to rigs. In connection with new
drilling contracts, revenues earned and incremental costs incurred directly
related to the preparation and mobilization of the rig are deferred and
recognized over the primary contract term of the drilling project for contracts
that have a primary contract term of two months or longer and where such amounts
are material. Costs of relocating drilling units without contracts to more
promising market areas are expensed as incurred. Revenues and expenses
associated with the demobilization of drilling units are recognized upon
completion of the related drilling contracts. Capital upgrade revenues received
are deferred and recognized over the primary contract term of the drilling
project. The actual cost incurred for the capital upgrade is depreciated over
the estimated remaining useful life of the asset.
At March 31, 2004 and December 31, 2003, $17.0 million and $21.2 million,
respectively, in deferred preparation and mobilization costs were included in
other assets in the Company's condensed consolidated balance sheets. During the
three months ended March 31, 2004, the Company amortized $5.2 million of these
costs to
9
expense, which is included in operating and maintenance expense in the Company's
condensed consolidated statement of operations. There were no similar costs
amortized to expense during the three months ended March 31, 2003.
Income Taxes -- Income taxes have been provided based upon the tax laws
and rates in the countries in which operations are conducted and income is
earned. Deferred tax assets and liabilities are recognized for the anticipated
future tax effects of temporary differences between the financial statement
basis and the tax basis of the Company's assets and liabilities using the
applicable tax rates in effect. A valuation allowance for deferred tax assets is
recorded when it is more likely than not that some or all of the benefit from
the deferred tax asset will not be realized. See Note 8.
Interim Financial Information -- The condensed consolidated financial
statements reflect all adjustments, which are, in the opinion of management,
necessary for a fair statement of results of operations for the interim periods.
Such adjustments are considered to be of a normal recurring nature unless
otherwise identified.
Comprehensive Income (Loss) -- The Company reports comprehensive income in
accordance with the Financial Accounting Standards Board's ("FASB") Statement of
Financial Accounting Standards ("SFAS") No. 130, Reporting Comprehensive Income.
Comprehensive income consists of net income (loss) and other gains and losses
affecting shareholder's equity that, under GAAP, are excluded from net income.
From time to time, the Company may recognize components of other comprehensive
income such as unrealized gains and losses on marketable equity investments and
foreign currency translation gains and losses. The Company had no accumulated
other comprehensive income as of March 31, 2004 and December 31, 2003.
Stock-Based Compensation -- Through December 31, 2002 and in accordance
with the provisions of SFAS 123, Accounting for Stock-based Compensation, the
Company elected to follow the Accounting Principles Board Opinion ("APB") 25,
Accounting for Stock Issued to Employees, and related interpretations in
accounting for awards under its employee stock-based compensation plans using
the intrinsic value method. Effective January 1, 2003, the Company adopted the
fair value method of accounting for stock-based compensation using the
prospective method of transition under SFAS 123. Under the prospective method
and in accordance with the provisions of SFAS 148, Accounting for Stock-Based
Compensation -- Transition and Disclosure, the recognition provisions are
applied to all employee awards granted, modified or settled after January 1,
2003. See Note 12.
The compensation expense related to stock-based employee compensation
included in the determination of net income for the three months ended March 31,
2004 and 2003 is less than that which would have been recognized if the fair
value method had been applied to all awards granted after the original effective
date of SFAS 123. If the Company had elected to adopt the fair value recognition
provisions of SFAS 123 as of its original effective date, pro forma net income
and diluted net income per share would have been as follows (in millions, except
per share amounts):
THREE MONTHS ENDED
MARCH 31,
--------------------
2004 2003
-------- --------
Net loss, as reported ............................................... $ (22.3) $ (87.9)
Add: stock-based employee compensation expense included in
reported net income, net of related tax effects ............ 5.1 --
Deduct: total stock-based employee compensation expense
determined under fair value based method for all awards, net
of related tax effects ..................................... 5.1 0.1
-------- --------
Pro forma net loss .................................................. $ (22.3) $ (88.0)
======== ========
Loss per share:
Basic and diluted-as reported ................................ $ (0.53) $ (7.24)
Basic and diluted-pro forma .................................. $ (0.53) $ (7.25)
New Accounting Pronouncements -- In January 2003, the FASB issued
Interpretation No. 46, Consolidation of Variable Interest Entities, an
Interpretation of Accounting Research Bulletin No. 51 ("FIN 46"). FIN 46
requires that an enterprise consolidate a variable interest entity ("VIE") if
the enterprise has a variable interest that will absorb a majority of the
entity's expected losses and/or receives a majority of the entity's expected
residual returns as a result of ownership, contractual or other financial
interests in the entity, if such loss or residual return occurs. If
10
one enterprise absorbs a majority of a VIE's expected losses and another
enterprise receives a majority of that entity's expected residual returns, the
enterprise absorbing a majority of the expected losses is required to
consolidate the VIE and will be deemed the primary beneficiary for accounting
purposes. FIN 46 is effective immediately for those VIEs created after January
31, 2003. The provisions, as amended, are effective for the first interim or
annual period ending after December 15, 2003 for those VIEs held prior to
February 1, 2003 that are considered to be special purpose entities. The
provisions, as amended, are to be applied no later than the end of the first
reporting period that ends after March 14, 2004 for all other VIEs held prior to
February 1, 2003. Early adoption is allowed. The Company adopted and applied the
provisions of FIN 46 effective December 31, 2003. See Note 4.
Reclassifications -- Certain reclassifications have been made to prior
period amounts to conform to the current period's presentation.
NOTE 3 -- CAPITAL STOCK AND RELATED TRANSACTIONS
Capital Structure -- In February 2004, the Company amended its articles of
incorporation to, among other things, create two classes of common stock, Class
A and Class B, increase its authorized capital stock and to convert any issued
and outstanding shares of the Company's common stock into Class B common stock.
As amended, the Company's authorized capital stock consists of (i) 500,000,000
shares of Class A common stock, par value $.01 per share, and 260,000,000 shares
of Class B common stock, par value $.01 per share, and (ii) 50,000,000 shares of
preferred stock, par value $.01 per share. The Class B common stock is
convertible at any time, at the sole option of Transocean, into shares of Class
A common stock on a share per share basis.
Capital Stock Transactions and Retirement of Related Party Debt -- In
February 2004, prior to the Company's IPO, the Company exchanged $45.8 million
in principal amount of its outstanding 7.375% Senior Notes held by Transocean
Holdings Inc. (a wholly owned subsidiary of Transocean, "Transocean Holdings"),
plus accrued interest thereon, for 359,638 shares of the Company's Class B
common stock (4,367,714 shares of Class B common stock after giving effect to
the stock dividend discussed below). Immediately following this exchange, the
Company exchanged $152.5 million and $289.8 million principal amount of its
outstanding 6.75% and 9.5% Senior Notes, respectively, held by Transocean, plus
accrued interest thereon, for 3,580,768 shares of the Company's Class B common
stock (43,487,535 shares of Class B common stock after giving effect to the
stock dividend). The determination of the number of shares issued in the
exchange transactions was based on a method that took into account the IPO price
of $12.00 per share. The net effect of these transactions was to decrease notes
payable -- related party and interest payable -- related party by $528.9 million
with an offsetting increase in common stock of $0.5 million and additional
paid-in capital of $528.4 million. See Note 5.
Immediately following the debt-for-equity exchanges, the Company declared
a dividend of 11.145 shares of its Class B common stock with respect to each
share of its Class B common stock outstanding immediately following the
debt-for-equity exchanges. The stock dividend of 11.145 shares of Class B common
stock for each outstanding share of Class B common stock was retroactively
applied to the 1,000,000 shares of common stock held by Transocean prior to the
debt-for-equity exchanges and has been reflected in the Company's historical
consolidated financial statements since December 31, 2003. The effect of this
retroactive application was to increase the authorized common shares of the
Company's Class B common stock to 260,000,000 shares and issued and outstanding
to 12,144,751 shares as of December 31, 2003 with a corresponding decrease to
additional paid-in capital.
As a result of the debt-for-equity exchanges and stock dividend,
Transocean held an aggregate of 60,000,000 shares of Class B common stock prior
to the closing of the IPO. A portion of these shares (13,800,000) of Class B
common stock was converted into shares of Class A common stock and sold in the
IPO.
Also in connection with the closing of the IPO, Transocean made additional
equity contributions totaling $2.8 million, including $1.0 million in
intercompany payable balances owed by the Company to Transocean as of the IPO
date.
Initial Public Offering -- In February 2004, the Company completed the IPO
of 13,800,000 shares of its Class A common stock at $12.00 per share. The
Company did not receive any proceeds from the initial sale of Class A
11
common stock. Transocean currently owns 46,200,000 shares or 100 percent of the
outstanding Class B common stock giving it 94 percent of the combined voting
power of the Company's outstanding common stock due to the five votes per share
of Class B common stock as compared to the one vote per share of Class A Common
stock. Transocean does not own any of the Company's outstanding Class A common
stock.
Upon completion of the IPO, the Company entered into various agreements to
complete the separation of the Shallow Water business from Transocean, including
an employee matters agreement, a master separation agreement and a tax sharing
agreement. The master separation agreement provides for, among other things, the
assumption by the Company of liabilities relating to the Shallow Water business
and the assumption by Transocean of liabilities unrelated to the Shallow Water
business, including the indemnification of losses that may occur as a result of
certain of the Company's ongoing legal proceedings.
In February 2004, the Company recorded an equity transaction related to
net liabilities related to Transocean's business of $0.4 million for which legal
title had not been transferred to Transocean as of the IPO date in accordance
with the business indemnity between the Company and Transocean. The
indemnification by Transocean was recorded as a credit to additional paid-in
capital with a corresponding offset to a related party receivable from
Transocean.
In conjunction with the IPO, the Company entered into a tax sharing
agreement with Transocean, whereby, Transocean will indemnify the Company
against substantially all pre-IPO income tax liabilities. However, the Company
must pay Transocean for substantially all pre-closing income tax benefits
utilized subsequent to the closing of the IPO. As of March 31, 2004, the Company
had approximately $485 million of estimated pre-closing income tax benefits
subject to this obligation to reimburse Transocean of which approximately $173
million of the tax benefits were reflected in the Company's December 31, 2003
historical financial statements. The additional estimated tax benefits resulted
from the closing of the IPO, specified ownership changes, statutory allocations
of tax benefits among Transocean's consolidated group members and other events.
Depending upon certain tax planning strategies executed by Transocean during
2004 and actual Transocean taxable income for the current year, this pre-closing
tax benefit amount could change.
As part of the tax sharing agreement, the Company recorded an equity
transaction in February 2004 to reflect the transfer to Transocean of
approximately $174 million of pre-closing income tax benefits which the Company
may utilize or be deemed to have utilized in the future; however, the Company
must pay Transocean for substantially all pre-closing income tax benefits
utilized or deemed to have been utilized subsequent to the closing of the IPO.
As these pre-closing income tax benefits cannot be legally transferred to
Transocean or another entity, the Company has reflected the transfer of
approximately $174 million of income tax benefits as a corresponding, and
offsetting, obligation to Transocean within the deferred income tax asset
accounts and a reduction in additional paid-in capital in the condensed
consolidated balance sheet at March 31, 2004. In addition, Transocean agreed to
indemnify TODCO for certain tax liabilities that existed as of the IPO date of
$10.3 million. The tax indemnification by Transocean was recorded as a credit to
additional paid-in capital with a corresponding offset to a related party
receivable from Transocean. See Note 8.
Additionally, the tax sharing agreement provides that if any person other
than Transocean or its subsidiaries becomes the beneficial owner of greater than
50% of the total voting power of the Company's outstanding voting stock, it will
be deemed to have utilized all of these pre-closing tax benefits, and the
Company will be required to pay Transocean an amount for the deemed utilization
of these tax benefits adjusted by a specified discount factor. If an acquisition
of beneficial ownership had occurred on March 31, 2004, the estimated amount
that the Company would have been required to pay to Transocean would have been
approximately $390 million. See Note 8.
NOTE 4 -- DELTA TOWING
The Company owns a 25 percent equity interest in Delta Towing, a joint
venture formed to own and operate the Company's U.S. marine support vessel
business, consisting primarily of shallow water tugs, crewboats and utility
barges. The Company previously contributed its support vessel business to the
joint venture in return for a 25 percent ownership interest and certain secured
notes receivable from Delta Towing with a face value of $144.0 million. The
Company valued these notes at $80.0 million immediately prior to the Transocean
Merger. No value was assigned to the ownership interest in Delta Towing. The
note agreement was subsequently amended to provide
12
for a $4.0 million, three-year revolving credit facility which has since been
cancelled. Delta Towing's property and equipment, with a net book value of $45.3
million at March 31, 2004, are collateral for the Company's notes receivable.
The remaining 75 percent ownership interest is held by Beta Marine LLC ("Beta
Marine"), which also loaned Delta Towing $3.0 million (see Note 5).
Under FIN 46, Delta Towing is considered a VIE because its equity is not
sufficient to absorb the joint venture's expected future losses. The Company is
deemed to be the primary beneficiary of Delta Towing for accounting purposes
because it has the largest percentage of investment at risk through the secured
notes held by the Company and would thereby absorb the majority of the expected
losses of Delta Towing. The Company adopted FIN 46 and, accordingly,
consolidated Delta Towing effective December 31, 2003.
As of March 31, 2004 and December 31, 2003 all intercompany accounts have
been eliminated in consolidation as a result of the adoption of FIN 46, as well
as all intercompany transactions during the three months ended March 31, 2004.
Prior to December 31, 2003, the Company accounted for its investment in
Delta Towing under the equity method. In the first quarter of 2003, the Company
recorded $1.5 million in equity losses related to Delta Towing, including the
Company's share of a $2.5 million non-cash impairment charge on the carrying
value of idle equipment recorded by the joint venture.
In addition, during the three months ended March 31, 2003, the Company
earned interest income of $1.6 million related to interest-bearing debt due from
Delta Towing. During the three months ended March 31, 2003, the Company incurred
charges totaling $2.9 million for services rendered by Delta Towing under a
charter agreement with the Company, which were reflected in operating and
maintenance -- related party expense.
The creditors of Delta Towing have no recourse to the general credit of
the Company.
NOTE 5 -- DEBT AND CAPITAL LEASE OBLIGATIONS
Debt and capital lease obligations, net of unamortized discounts,
premiums, and fair value adjustments, was comprised of the following (in
millions):
THIRD PARTY RELATED PARTY
----------------------- -----------------------
MARCH 31, DECEMBER 31, MARCH 31, DECEMBER 31,
2004 2003 2004 2003
--------- ------------ --------- ------------
6.75% Senior Notes, due April 2005 ..... $ 7.8 $ 7.8 $ -- $153.2
6.95% Senior Notes, due April 2008 ..... 2.2 2.2 -- --
7.375% Senior Notes, due April 2018 .... 3.5 3.5 -- 45.9
9.5% Senior Notes, due December 2008 ... 11.3 11.4 -- 322.9
Other Debt ............................. -- -- 3.0 3.0
Capital Lease Obligations .............. 2.6 1.9 -- --
------ ------ ------ ------
Total ............................... 27.4 26.8 3.0 525.0
Less debt due within one year ....... 1.7 1.2 3.0 3.0
------ ------ ------ ------
Total long-term debt ................ $ 25.7 $ 25.6 $ -- $522.0
====== ====== ====== ======
6.75%, 6.95%, 7.375% and 9.5% Senior Notes and Exchange Offer -- In March
2002, Transocean and the Company completed exchange offers and consent
solicitations for the Company's 6.5%, 6.75%, 6.95%, 7.375%, 9.125% and 9.5%
Senior Notes (the "Exchange Offer"). As a result of the Exchange Offer,
approximately $234.5 million, $342.3 million, $247.8 million, $246.5 million,
$76.9 million and $289.8 million principal amount of the Company's outstanding
6.75%, 6.95%, 7.375% and 9.5% senior notes, respectively, were exchanged by
Transocean (the "Exchanged Notes") for newly issued Transocean notes having the
same principal amount, interest rate, redemption terms and payment and maturity
dates. Both the Exchanged Notes and the notes not exchanged remained the
obligation of the Company as Transocean became the holder of the Exchanged
Notes.
In March 2003, the Company sold to Transocean its approximate 75 percent
ownership interest in Arcade Drilling AS. In consideration for the sale of this
stock, Transocean cancelled $233.3 million principal amount outstanding of 6.95%
Exchanged Notes payable to Transocean. Interest accrued on these notes was
settled in cash.
13
The market value attributed to the cancelled notes, 113.21 percent of the
principal amount, was based on an independent third party appraisal. The Company
recognized a net pre-tax loss on retirement of debt of $30.0 million in the
first quarter of 2003 relating to the early retirement of this debt.
Additionally, during the second quarter of 2003, the Company sold certain
other Transocean Assets to Transocean in exchange for the cancellation of $215.2
million in outstanding Exchanged Notes.
In February 2004, prior to the Company's IPO, the Company exchanged $45.8
million in principal amount of its then outstanding 7.375% Senior Notes held by
Transocean Holdings, plus accrued interest thereon, for 359,638 shares of the
Company's Class B common stock (4,367,714 shares of Class B common stock after
giving effect to the stock dividend, as described in Note 3). Immediately
following this exchange the Company exchanged $152.5 million and $289.8 million
principal amount of its then outstanding 6.75% and 9.5% Senior Notes,
respectively, held by Transocean, plus accrued interest thereon, for 3,580,768
shares of the Company's Class B common stock (43,487,535 shares of Class B
common stock after giving effect to the stock dividend). The determination of
the number of shares issued in the exchange transactions was based on a method
that took into account the IPO price of $12.00 per share. The net effect of
these transactions was to decrease notes payable -- related party and interest
payable -- related party by $528.9 million with an offsetting increase in common
stock of $0.5 million and additional paid-in capital of $528.4 million. There
were no Exchanged Notes payable to Transocean outstanding at March 31, 2004.
In connection with the Exchange Offer, the Company had made an aggregate
of $8.3 million in consent payments to holders of the notes that were exchanged.
The consent payments were amortized as an increase to interest expense over the
remaining terms of the exchanged notes using the interest method and amounted to
$0.2 million for the three months ended March 31, 2003. In connection with the
retirement of the Exchanged Notes prior to the completion of the IPO, the
Company expensed the remaining balance of these deferred consent fees of
approximately $1.9 million in February 2004, which has been reflected as a loss
on retirement of debt in the Company's condensed consolidated statement of
operations.
The Company recognized $0.4 million and $0.6 million in interest expense
during the three months ended March 31, 2004 and 2003 related to its senior
notes held by third parties. The Company also recognized $3.1 million and $14.4
million in interest expense--related party during the three months ended March
31, 2004 and 2003, respectively, related to the Exchanged Notes held by
Transocean.
At March 31, 2004, approximately $7.7 million, $2.2 million, $3.5 million,
and $10.2 million principal amount of the 6.75%, 6.95%, 7.375%, and 9.5% Senior
Notes, respectively, due to third parties were outstanding. The fair value of
these notes at March 31, 2004 was approximately $7.9 million, $2.3 million, $3.1
million, and $11.4 million, respectively, based on the estimated yield to
maturity which takes into account TODCO's credit worthiness as a separate
entity.
$75 Million Revolving Credit Facility -- In December 2003, the Company
entered into a two-year $75 million floating-rate secured revolving credit
facility that will decline to $60 million in December 2004. The facility is
secured by most of the Company's drilling rigs, receivables, and the stock of
most of its U.S. subsidiaries and is guaranteed by some of its subsidiaries.
Borrowings under the facility bear interest at our option at either (1) the
higher of (A) the prime rate and (B) the federal funds rate plus 0.5 percent,
plus a margin in either case of 2.50 percent or (2) the Eurodollar rate plus a
margin of 3.50 percent. Commitment fees on the unused portion of the facility
are 1.5 percent of the average daily balance and are payable quarterly.
Borrowings and letters of credit issued under the facility are limited by a
borrowing base equal to the lesser of (A) 20 percent of the orderly liquidated
value of the drilling rigs securing the facility, as determined from time to
time by a third party selected by the agent under the facility, and (B) the sum
of 10 percent of the orderly liquidated value of the drilling rigs securing the
facility plus 80 percent of the U.S. accounts receivable outstanding less than
90 days, net of any provision for bad debt associated with such U.S. accounts
receivable.
Financial covenants include maintenance of certain financial and other
ratios, including working capital, liquidity, and debt-to-total capitalization
ratios, and a minimum tangible net worth by the Company.
14
The revolving credit facility provides, among other things, for the
issuance of letters of credit that the Company may utilize to guarantee its
performance under some drilling contracts, as well as insurance, tax and other
obligations in various jurisdictions. The facility also provides for customary
fees and expense reimbursements and includes other covenants (including
limitations on the incurrence of debt, mergers and other fundamental changes,
asset sales and dividends) and events of default (including a change of control)
that are customary for similar secured non-investment grade facilities.
As of March 31, 2004 and December 31, 2003, the Company had no borrowings
outstanding under this facility.
During the three months ended March 31, 2004, the Company recognized $0.3
million in interest expense related to commitment fees on the unused portion of
the facility and amortized $0.3 million in deferred financing costs as a
component of interest expense.
Other Debt -- Related Party -- In connection with the acquisition of the
U.S. marine support vessel business, Delta Towing entered into a $3.0 million
note agreement with Beta Marine dated January 30, 2001. The note bears interest
at 8 percent per annum, payable quarterly. The $3.0 million note has been
classified as a current obligation in the Company's condensed consolidated
balance sheet at March 31, 2004 and December 31, 2003 as Delta Towing remains in
default on this note payable to a related party. In March 2004, Delta Towing
repaid a portion of accrued interest payable to Beta Marine from proceeds from
the sale of a vessel. The Company has no obligation to fund this debt on behalf
of Delta Towing.
Capital Lease Obligations -- The Company leases certain drilling equipment
under two-year capital lease agreements. In January 2004 and during 2003, the
Company entered into three capital lease agreements in the amounts of $1.1
million, $1.1 million and $1.0 million with final maturity dates of January
2006, October 2005 and September 2005, respectively. The lease agreements bear
interest at a rate of 10 percent per annum. Assets recorded under capital leases
are included in property and equipment in the condensed consolidated balance
sheet and had a net carrying value of $3.3 million and $2.1 million at March 31,
2004 and December 31, 2003, respectively. Accumulated depreciation of these
assets was not significant at March 31, 2004 and December 31, 2003 and is
included in accumulated depreciation combined with the Company's owned assets.
Depreciation expense on these assets was not significant during the three months
ended March 31, 2004 or the year ended December 31, 2003 and is included in
depreciation expense.
Future minimum lease payments under scheduled capital leases that have
initial or remaining non-cancelable terms in excess of one year are as follows
(in millions):
TWELVE MONTHS
ENDING
MARCH 31,
-------------
2005.......................................... $ 1.9
2006.......................................... 0.9
------
Total minimum lease payments.................. 2.8
Amount representing interest.................. 0.2
------
Capital lease obligations..................... 2.6
Less: amounts due within one year............ 1.7
------
Long-term capital lease obligations........... $ 0.9
======
Transocean Revolver -- The Company was revolving credit agreement (the
"Transocean Revolver") with Transocean, dated April 6, 2001. Amounts outstanding
under the Transocean Revolver bore interest quarterly at a rate of the London
Interbank Offered Rate ("LIBOR") plus 0.575 percent to 1.3 percent depending on
Transocean's non-credit enhanced senior unsecured public debt rating. On April
6, 2003 the approximately $81.2 million then outstanding under the Transocean
Revolver was converted into a 2.76 percent fixed rate promissory note issued by
the Company to Transocean which was scheduled to mature on April 6, 2005. This
note was cancelled in full in connection with the sales of the Company's
interest in a wholly-owned subsidiary and interests in two joint ventures in
June 2003. During the three months ended March 31, 2003, the Company recognized
interest expense of $0.8 million related to the Transocean Revolver.
15
NOTE 6 -- OTHER CURRENT LIABILITIES
Other current liabilities are comprised of the following (in millions):
MARCH 31, DECEMBER 31,
2004 2003
--------- ------------
Accrued self-insurance claims .......... $ 28.9 $ 28.0
Deferred income ........................ 1.9 7.3
Accrued payroll and employee benefits... 5.0 5.7
Accrued taxes, other than income ....... 2.0 1.6
Accrued interest ....................... 1.0 0.2
Other .................................. 0.5 0.6
------- ------------
Total other current liabilities ..... $ 39.3 $ 43.4
======= ============
NOTE 7 -- SUPPLEMENTARY CASH FLOW INFORMATION
Supplementary cash flow information relating to both continuing and
discontinued operations is as follows (in millions):
THREE MONTHS ENDED
MARCH 31,
2004 2003
-------- --------
Interest paid, to third parties ............................ $ 2.0 $ 6.5
Interest paid to related party ............................. 0.1 10.4
Income taxes paid, net ..................................... 0.2 9.6
Non-cash financing activities:
Net distribution of assets to parent(a) ................. -- 248.0
Debt-for-equity exchange (b) ............................ (528.9) --
Equity contributions from parent, net of distributions(c) 162.0 --
----------
(a) In the first quarter of 2003, a wholly owned subsidiary, ownership
interests in two majority-owned subsidiaries, and certain other assets
were sold or distributed to affiliated companies (see Note 13). The $95.3
million in cash held by subsidiaries at the time of the sales or
distributions was reflected in financing activities in the consolidated
statement of cash flows. The non-cash effect on the consolidated balance
sheet was reflected as a decrease in accounts receivable-trade and other
receivables of $4.6 million, a decrease in accounts receivable-related
party of $208.1 million, a $2.5 million decrease in other current assets,
a $334.8 million decrease in non-current assets related to discontinued
operations, a $6.0 million decrease in other assets, a decrease in
accounts payable trade and other current liabilities of $6.4 million, a
decrease in accounts payable-related party of $2.1 million, a $21.5
million decrease in deferred taxes, a decrease in other long-term
liabilities of $11.0 million, a $264.1 million decrease in long-term
debt-related party, a $98.2 million decrease in minority interest and a
decrease in additional paid-in capital of $248.0 million.
(b) Prior to the closing of the Company's IPO in February 2004, the Company
completed a non-cash exchange of $528.9 million in long-term related party
notes payable to Transocean and related accrued interest payable for
shares of the Company's Class B common stock, see Notes 3 and 5.
(c) In connection with the closing of the IPO, the Company completed certain
equity transactions related to the Company's separation from Transocean.
In February 2004, the Company recorded business and tax indemnities of the
Company by Transocean of $10.7 million as an increase in accounts
receivable-related party and an increase in additional paid-in capital and
transferred to Transocean $1.0 million of intercompany payable balances as
of the IPO date as an increase in additional paid-in capital (see Note 3).
Additionally, the Company recorded the book transfer of substantially all
pre-closing income tax benefits to Transocean of $173.7 million as a
decrease in deferred income tax assets and a decrease in additional
paid-in capital.
NOTE 8 -- INCOME TAXES
In conjunction with the IPO, the Company entered into a tax sharing
agreement with Transocean whereby Transocean will indemnify the Company against
substantially all pre-IPO income tax liabilities. However, the Company must pay
Transocean for substantially all pre-closing income tax benefits utilized
subsequent to the closing of the IPO. As of March 31, 2004, the Company had
approximately $485 million of estimated pre-closing income tax benefits subject
to this obligation to reimburse Transocean of which approximately $173 million
of the tax benefits were reflected in the Company's December 31, 2003 historical
financial statements. The additional estimated tax benefits resulted from the
closing of the IPO, specified ownership changes, statutory allocations of tax
benefits among Transocean's consolidated group members and other events.
Depending upon certain tax planning strategies executed by Transocean and actual
Transocean taxable income for 2004, this pre-closing tax benefit amount could
change.
16
As a result of the IPO and the recording of the tax sharing agreement, the
Company recognized a payable to Transocean within deferred income taxes of
approximately $174 million, representing the amount of the pre-closing income
tax benefits recorded by the Company and a reduction in additional paid-in
capital.
Additionally, the tax sharing agreement provides that if any person other
than Transocean or its subsidiaries becomes the beneficial owner of greater than
50% of the total voting power of the Company's outstanding voting stock, it will
be deemed to have utilized all of these pre-closing tax benefits, and the
Company will be required to pay Transocean an amount for the deemed utilization
of these tax benefits adjusted by a specified discount factor. If an acquisition
of beneficial ownership had occurred on March 31, 2004, the estimated amount
that the Company would have been required to pay to Transocean would have been
approximately $390 million.
The tax sharing agreement with Transocean provides that the Company must
pay Transocean for most pre-closing tax benefits that are utilized on a tax
return with respect to a period after the closing of the IPO. If the utilization
of a pre-closing tax benefit defers or precludes the Company's utilization of
any post-closing tax benefit, its payment obligation with respect to the
pre-closing tax benefit generally will be deferred until the Company actually
utilizes that post-closing tax benefit. This payment deferral will not apply
with respect to, and the Company will have to pay currently for the utilization
of pre-closing tax benefits to the extent of:
- up to 20% of any deferred or precluded post-closing tax benefit
arising out of the Company's payment of foreign income taxes, and
- 100% of any deferred or precluded post-closing tax benefit arising
out of a carryback from a subsequent year.
Therefore, the Company may not realize the full economic value of tax
deductions, credits and other tax benefits that arise post-closing until it has
utilized all of the pre-closing tax benefits, if ever.
Until February 2004, the Company was a member of an affiliated group that
includes its parent company, Transocean Holdings. Current and deferred taxes are
allocated based upon what the Company's tax provision (benefit) would have been
had the Company filed a separate tax return.
Income taxes have been provided based upon the tax laws and rates in the
countries in which operations are conducted and income is earned. Deferred tax
assets and liabilities are recognized for the anticipated future tax effects of
temporary differences between the financial statement basis and the tax basis of
the Company's assets and liabilities using the applicable tax rates in effect. A
valuation allowance for deferred tax assets is recorded when it is more likely
than not that some or all of the benefit from the deferred tax assets will not
be realized.
The amount of tax benefit recognized is primarily dependent on the loss
realized and the valuation of operating loss carryforwards during the period.
For the three months ended March 31, 2003, the Company provided additional taxes
of $5.8 million for a portion of losses of RBF Rig Corporation for which a
deferred tax benefit had been previously provided.
NOTE 9 -- COMMITMENTS AND CONTINGENCIES
Litigation -- In March 1997, an action was filed by Mobil Exploration and
Producing U.S. Inc. and affiliates, St. Mary Land & Exploration Company and
affiliates and Samuel Geary and Associates, Inc. against a subsidiary of the
Company, Cliffs Drilling, its underwriters at Lloyd's (the "Underwriters") and
an insurance broker in the 16th Judicial District Court of St. Mary Parish,
Louisiana. The plaintiffs alleged damages amounting to in excess of $50 million
in connection with the drilling of a turnkey well in 1995 and 1996. The case was
tried before a jury in January and February 2000, and the jury returned a
verdict of approximately $30 million in favor of the plaintiffs for excess
drilling costs, loss of insurance proceeds, loss of hydrocarbons, expenses and
interest. The Company and the Underwriters appealed such judgment, and the
Louisiana Court of Appeals has reduced the amount for which the Company may be
responsible to less than $10 million. The plaintiffs requested that the Supreme
Court of Louisiana consider the matter and reinstate the original verdict. The
Company and the Underwriters also appealed to the Supreme Court of Louisiana
requesting that the Court reduce the verdict or, in the case of the
Underwriters, eliminate any liability for the verdict. Prior to the Supreme
Court of Louisiana ruling on these petitions, the
17
Company settled with the St. Mary group of plaintiffs and the State of
Louisiana. Subsequently, the Supreme Court of Louisiana denied the applications
of all remaining parties. The Company has settled with all remaining plaintiffs.
The Company believes that any amounts, apart from a small deductible, paid in
settlement are covered by relevant primary and excess liability insurance
policies. However, the insurers and Underwriters have denied all coverage. The
Company has instituted litigation against those insurers and Underwriters to
enforce its rights under the relevant policies. One group of insurers has
asserted a counterclaim against the Company claiming that they issued the policy
as a result of a misrepresentation. The settlements did not have a material
adverse effect on the Company's business or consolidated financial position, and
the Company does not expect the ultimate outcome of the case involving the
insurers and Underwriters will have a material adverse effect on its business or
consolidated financial position. In connection with the Company's separation
from Transocean, Transocean has agreed to indemnify the Company of any losses it
incurs as a result of this legal proceeding. See Note 3.
In October 2001, the Company was notified by the U.S. Environmental
Protection Agency ("EPA") that the EPA had identified a subsidiary of the
Company as a potentially responsible party in connection with the Palmer Barge
Line superfund site located in Port Arthur, Jefferson County, Texas. Based upon
the information provided by the EPA and the Company's review of its internal
records to date, the Company disputes its designation as a potentially
responsible party and does not expect that the ultimate outcome of this case
will have a material adverse effect on its business or consolidated financial
position. The Company continues to investigate the matter.
In December 2002, the Company received an assessment for corporate income
taxes in Venezuela of approximately $16.0 million (based on current exchange
rates) relating to calendar years 1998 through 2000. In March 2003 the Company
paid approximately $2.6 million of the assessment, and the Company is contesting
the remainder of the assessment. The resolution of this assessment is not
expected to impact the Company as Transocean has agreed to indemnify the Company
against any payments as long as it cooperates and provides assistance to
Transocean in resolution of the assessment.
In 1984, in connection with the financing of the corporate headquarters,
at that time, for R&B, a predecessor to one of our subsidiaries, in Tulsa,
Oklahoma, the Greater Southwestern Funding Corporation ("Southwestern") issued
and sold, among other instruments, Zero Coupon Series B Bonds due 1999 through
2009 with an aggregate $189 million value at maturity. Paine Webber Incorporated
purchased all of the Series B Bonds for resale and in 1985 acted as underwriter
in the public offering of most of these bonds. The proceeds from the sale of the
bonds were used to finance the acquisition and construction of the headquarters.
R&B's rental obligation was the primary source for repayment of the bonds. In
connection with the offering, R&B entered into an indemnification agreement to
indemnify Southwestern and Paine Webber from loss caused by any untrue statement
or alleged untrue statement of a material fact or the omission or alleged
omission of a material fact contained or required to be contained in the
prospectus or registration statement relating to that offering. Several years
after the offering, R&B defaulted on its lease obligations, which led to a
default by Southwestern. Several holders of Series B bonds filed an action in
Tulsa, Oklahoma in 1997 against several parties, including Paine Webber,
alleging fraud and misrepresentation in connection with the sale of the bonds.
In response to a demand from Paine Webber in connection with that lawsuit and a
related lawsuit, R&B agreed in 1997 to retain counsel for Paine Webber with
respect to only that part of the referenced cases relating to any alleged
material misstatement or omission relating to R&B made in certain sections of
the prospectus or registration Statement. The agreement to retain counsel did
not amend any rights and obligations under the indemnification agreement. There
has been only limited progress on the substantive allegations in the case. The
trial court has denied class certification, and the plaintiffs have appealed
this denial to a higher court. The Company disputes that there are any matters
requiring the Company to indemnify Paine Webber. In any event, the Company does
not expect that the ultimate outcome of this matter will have a material adverse
effect on its business or consolidated financial position. In addition,
Transocean has agreed to indemnify the Company for any losses that may be
incurred as a result of this litigation. See Note 3.
In April 2003, Gryphon Exploration Company ("Gryphon") filed suit against
some of our subsidiaries, Transocean and other third parties in the United
States District Court in Galveston, Texas claiming damages in excess of $6
million. In its complaint, Gryphon alleges the defendants were responsible for
well problems experienced by Gryphon with respect to a well in the Gulf of
Mexico drilled by our subsidiaries in 2001. We dispute the allegations of
Gryphon and intend to vigorously defend this claim. While we continue to
investigate this matter, we do not currently expect the ultimate outcome of this
matter to have a material adverse effect on our business or
18
consolidated financial position. In addition, Transocean has agreed to indemnify
the Company for any losses that may be incurred as a result of this litigation.
See Note 3.
The Company and its subsidiaries are involved in a number of other
lawsuits, all of which have arisen in the ordinary course of the Company's
business. The Company does not believe that ultimate liability, if any,
resulting from any such other pending litigation will have a material adverse
effect on its business or consolidated financial position.
The Company cannot predict with certainty the outcome or effect of any of
the litigation matters specifically described above or of any such other pending
litigation. There can be no assurance that the Company's belief or expectations
as to the outcome or effect of any lawsuit or other litigation matter will prove
correct and the eventual outcome of these matters could materially differ from
management's current estimates.
Surety Bonds -- As is customary in the contract drilling business, the
Company also has various surety bonds totaling $13.4 million in place as of
March 31, 2004 that secure customs obligations and certain performance and other
obligations.
NOTE 10 -- OTHER RELATED PARTY TRANSACTIONS
Prior to June 30, 2003 and the transfer of the Transocean Assets to
Transocean, general and administrative expense included an allocation from
Transocean for certain administrative support based on estimates of the
percentage of work the individual Transocean departments performed for the
Company. In the opinion of management, Transocean has charged the Company for
all costs incurred on its behalf under a comprehensive and reasonable cost
allocation method. After June 30, 2003, general and administrative expenses
include costs for services provided to us under a transition services agreement
with Transocean. The amount of expense allocated or charged to the Company was
$0.1 million and $0.9 million for the three months ended March 31, 2004 and
2003, respectively, which was classified as general and administrative --
related party expense.
NOTE 11 -- EARNINGS PER SHARE
The Company's basic earnings (loss) per share, which is based upon the
weighted average common shares outstanding, without the dilutive effects of
common stock equivalents (options, warrants, etc.), for the three months ended
March 31, 2004 and 2003 was $(0.53) and $(7.24), respectively. For the three
months ended March 31, 2004, there were 1,633,617 options outstanding to
purchase Class A common stock of the Company, which were not included in the
computation of diluted earnings per share because the effect of including the
incremental shares was anti-dilutive for the period. There were no common stock
equivalents outstanding during the three months ended March 31, 2003. No
adjustments to net income were made in calculating diluted earnings per share
for the three-month periods ended March 31, 2004 and 2003.
NOTE 12 -- STOCK-BASED COMPENSATION PLANS
TODCO Long-Term Incentive Plan -- In February 2004, the Company adopted a
long-term incentive plan for certain employees and non-employee directors of the
Company in order to provide additional incentives through the grant of awards
and to increase the personal stake of participants in the continued success of
the Company (the "Plan"). The Plan provides for the grant of options to purchase
shares of the Company's Class A common stock, restricted stock, deferred stock
units, share appreciation rights, cash awards, supplemental payments to cover
tax liabilities associated with the aforementioned types of awards, and
performance awards. Most awards under the Plan vest over a three-year period. A
maximum of 3,000,000 shares of the Company's Class A common stock has been
reserved for issuance under the Plan.
In conjunction with the closing of the IPO, the Company granted options to
purchase 1,633,617 shares of the Company's Class A common stock at an exercise
price of $12.00 per share of which options to purchase 705,000 shares of common
stock vested immediately on the IPO date. The remainder of the options has a
weighted average vesting period of approximately 2.24 years and a contractual
life of 10 years.
19
The fair value of the options granted under the Plan was estimated using
the Black-Scholes options pricing model with the following assumptions:
Dividend yield............................................. 0.00%
Expected price volatility.................................. 55.2%
Risk-free interest rate.................................... 3.18%
Expected life of options (in years)........................ 5.0
Weighted-average fair value of options granted............. $ 7.96
Based upon the IPO price of $12.00 per share, the value of these awards
that the Company will recognize as compensation expense is approximately $13.0
million, of which $6.0 million was recognized in the three months ended March
31, 2004.
Also in conjunction with the IPO, the Company granted 294,175 shares of
restricted stock to certain employees and non-employee directors of the Company
with a weighted average vesting period of 2.39 years. The awards of restricted
stock were valued at $14.39 per share and were recorded as unearned
compensation. The value of these awards will be amortized as compensation
expense over the vesting period of the stock awards. During the first quarter of
2004, 3,573 shares of restricted stock were forfeited and are available for
re-issuance under the Plan. Unearned compensation relating to the Company's
restricted stock awards of $3.9 million at March 31, 2004 is shown as a
reduction of stockholders' equity. Compensation expense recognized for the three
months ended March 31, 2004 related to stock awards totaled $0.3 million.
Transocean Stock Options -- Certain of the Company's employees hold
options to acquire Transocean ordinary shares, which were granted prior to the
IPO under the Transocean Incentive Plan. The employees holding these options
were treated as terminated for the convenience of Transocean on the IPO date. As
a result, the 242,157 options outstanding on February 10, 2004 became fully
vested and were modified to remain exercisable over the original contractual
life. In connection with the modification of these options, the Company
recognized $1.5 million of additional compensation expense in the three months
ended March 31, 2004. No further compensation expense will be recorded in the
future related to the Transocean options.
NOTE 13 -- DISCONTINUED OPERATIONS
There were no revenues related to discontinued operations for the three
months ended March 31, 2004. Operating revenues related to discontinued
operations were $37.1 million for the three months ended March 31, 2003.
At March 31, 2004, liabilities related to discontinued operations
consisted primarily of accounts payable and other current liabilities of $0.4
million. At December 31, 2003, net liabilities related to discontinued
operations of $0.4 million consisted of other current receivables of $0.1
million and accounts payable and other current liabilities of $0.5 million.
During the first quarter of 2003, the Company transferred to Transocean
certain of the Transocean Assets, including distributions in-kind of certain
accounts receivable balances from related parties, a 12.5 percent undivided
interest in an aircraft, the stock of two subsidiaries of the Company, R&B
Falcon (A) Pty. Ltd. and Cliffs Drilling de Brasil Servicos de Petroleo S/C
Ltda., and other miscellaneous Transocean Assets with aggregate net book value
of $247.9 million. These transactions were recorded as decreases to additional
paid-in capital. In March 2003, the Company also assigned the drilling contract
for the Deepwater Frontier to Transocean for no consideration.
In addition, certain assets were sold to Transocean during the first
quarter of 2003. In March 2003, the Company sold the stock of Arcade Drilling AS
for net proceeds of $264.1 million and recorded a net pre-tax loss of $11.0
million, which is included in the results of discontinued operations. The sale
transaction was at fair value determined based on an independent third party
appraisal. In consideration for the sale of the subsidiary, Transocean cancelled
$233.3 million principal amount of the Company's 6.95% notes due April 2008. The
market value attributable to the notes, 113.21 percent of the principal amount,
was based on an independent third party appraisal. The Company recorded a net
pre-tax loss of approximately $30.0 million in 2003 related to the retirement of
these notes. (See Note 5.)
20
The remainder of the Transocean Assets were sold or distributed to
Transocean in the second quarter of 2003 in separate transactions.
NOTE 14 -- SEGMENTS, GEOGRAPHICAL ANALYSIS AND MAJOR CUSTOMERS
The Company's drilling assets consist of jackup and submersible drilling
rigs, inland drilling barges and a platform rig located in the U.S. Gulf of
Mexico and Trinidad, two jackup drilling rigs in Mexico, as well as land and
lake barge drilling units located in Venezuela. The Company provides contract
oil and gas drilling services and reports the results of those operations in
three of the Company's business segments which correspond to the principal
geographic regions in which the Company operates: U.S. Gulf of Mexico, U.S.
Inland Barge Segment and Other International Segment. The Company also has a
partial interest in a joint venture that operates a fleet of U.S. marine support
vessels, which is reported in the Delta Towing Segment. The accounting policies
of the reportable segments are the same as those described in Note 2.
Revenue, depreciation, operating income (loss) and identifiable assets by
reportable business segment was as follows (in millions):
U.S. GULF OF U.S. INLAND OTHER DELTA
MEXICO BARGE INTERNATIONAL TOWING CORPORATE
SEGMENT SEGMENT SEGMENT SEGMENT & OTHER(a) TOTAL
------------ ----------- ------------- ------- ---------- -----
THREE MONTHS ENDED MARCH 31, 2004
Revenues ................... $26.2 $22.1 $18.7 $ 6.8 $ -- $73.8
Depreciation ............... 12.4 5.6 4.9 1.3 -- 24.2
Operating income (loss) .... (8.7) (4.6) (2.2) 0.1 (11.6) (27.0)
THREE MONTHS ENDED MARCH 31, 2003
Revenues ................... $19.1 $25.0 $ 9.2 $ -- $ -- $53.3
Depreciation ............... 14.3 5.9 3.0 -- -- 23.2
Operating loss ............. (20.8) (2.9) (1.1) -- (4.6) (29.4)
----------
(a) Represents general and administrative expenses which were not allocated to
a reportable segment.
Total assets by segment were as follows (in millions):
MARCH 31, DECEMBER 31,
2004 2003
--------- ------------
U.S. Gulf of Mexico Segment.. $ 331.4 $ 334.6
U.S. Inland Barge Segment ... 167.2 170.4
Other International Segment... 163.2 171.3
Delta Towing Segment ......... 56.9 63.5
Corporate and Other .......... 57.3 38.4
--------- ------------
Total Assets ........... $ 776.0 $ 778.2
========= ============
21
The Company provides contract oil and gas drilling services with different
types of drilling equipment in several countries, as well as other marine
support services in the U.S. coastal and inland water regions through the
Company's interest in Delta Towing. Geographic information about the Company's
operations was as follows (in millions):
THREE MONTHS ENDED
MARCH 31,
-------------------
2004 2003
-------- --------
OPERATING REVENUES
United States ............ $ 55.1 $ 44.1
Other countries .......... 18.7 9.2
-------- --------
Total operating revenues $ 73.8 $ 53.3
======== ========
MARCH 31, DECEMBER 31,
2004 2003
--------- ------------
LONG-LIVED ASSETS
United States ....... $ 523.5 $ 542.5
Other countries ..... 136.7 150.1
A substantial portion of the Company's assets are mobile. Asset locations
at the end of the period are not necessarily indicative of the geographic
distribution of the earnings generated by such assets during the periods.
The Company's international operations are subject to certain political
and other uncertainties, including risks of war and civil disturbances (or other
events that disrupt markets), expropriation of equipment, repatriation of income
or capital, taxation policies, and the general hazards associated with certain
areas in which operations are conducted.
The Company provides drilling rigs, related equipment and work crews
primarily on a dayrate basis to customers who are drilling oil and gas wells.
The Company provides these services mostly to independent oil and gas companies,
but it also services major international and government-controlled oil and gas
companies.
22
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion should be read in conjunction with our condensed
consolidated financial statements and the related notes included in Item 1 of
this report. Except for the historical financial information contained herein,
the matters discussed below may be considered "forward-looking" statements.
Please see " -- Cautionary Statement About Forward-Looking Statements," for a
discussion of the uncertainties, risks and assumptions associated with these
statements.
OVERVIEW OF OUR BUSINESS
We are a leading provider of contract oil and natural gas drilling
services, primarily in the United States ("U.S. Gulf of Mexico") shallow water
and inland marine region, an area that we refer to as the U.S. Gulf Coast. We
provide these services primarily to independent oil and natural gas companies,
but we also service major international and government-controlled oil and
natural gas companies. Our customers in the U.S. Gulf Coast typically focus on
drilling for natural gas.
We provide contract oil and gas drilling and other support services and
report the results of those operations in four business segments which, for our
contract drilling services, correspond to the principal geographic regions in
which we operate:
- U.S. Inland Barge Segment -- Our barge rig fleet currently operating
in this market segment consists of 12 conventional and 18 posted
barge rigs. These units operate in marshes, rivers, lakes and
shallow bay or costal waterways that are known as "transition zone".
This area along the U.S. Gulf Coast, where jackup rigs are unable to
operate, is the world's largest market for this type of equipment.
- U.S. Gulf of Mexico Segment -- We currently operate 19 jackup and
three submersible rigs in the U.S. Gulf of Mexico shallow water
market segment which begins at the outer limit of the transition
zone and extends to water depths of about 350 feet. Our jackup rigs
in this market segment consist of independent leg cantilever type
units, mat-supported cantilever type rigs and mat-supported slot
type jackup rigs that can operate in water depths up to 250 feet.
- Other International Segment -- Our other operations are currently
conducted in Mexico, Trinidad and Venezuela. In Mexico, we operate
two jackup rigs and are preparing our platform rig to operate for
PEMEX, the Mexican national oil company. Additionally, we have two
jackup rigs in Trinidad and one in Venezuela, where we also have
nine land rigs and three Lake Maracaibo barges.
- Delta Towing Segment -- The Company has a partial interest in a
joint venture that operates a fleet of U.S. marine support vessels
consisting primarily of shallow water tugs, crewboats and utility
barges ("Delta Towing").
Our operating revenues for our drilling segments are based on dayrates
received for our drilling services and the number of operating days during the
relevant periods. The level of our operating revenues depends on dayrates, which
in turn are primarily a function of industry supply and demand for drilling
units in the market segments in which we operate. Supply and demand for drilling
units in the U.S. Gulf Coast, which is our primary operating region, has
historically been volatile. During periods of high demand, our rigs typically
achieve higher utilization and dayrates than during periods of low demand.
Our operating and maintenance costs for our drilling segments represent
all direct and indirect costs associated with the operation and maintenance of
our drilling rigs. The principal elements of these costs are direct and indirect
labor and benefits, freight costs, repair and maintenance, insurance, general
taxes and licenses, boat and helicopter rentals, communications, tool rentals
and services. Labor, repair and maintenance and insurance costs represent the
most significant components of our operating and maintenance costs.
23
We do not expect operating and maintenance expenses to necessarily
fluctuate in proportion to changes in operating revenues because we seek to
preserve crew continuity and maintain equipment when our rigs are idle. In
general, labor costs increase primarily due to higher salary levels, rig
staffing requirements and inflation. Equipment maintenance expenses fluctuate
depending upon the type of activity the unit is performing and the age and
condition of the equipment.
INDUSTRY BACKGROUND, TRENDS AND OUTLOOK
The drilling industry in the U.S. Gulf Coast is highly cyclical and is
typically driven by general economic activity and changes in actual or
anticipated oil and gas prices. We believe that both our earnings and demand for
our rigs will typically be correlated to our customers' expectations of energy
prices, particularly natural gas prices, and that sustained energy price
increases will generally have a positive impact on our earnings.
We believe that the drilling industry is emerging from a cyclical low
point and that there are several trends that should benefit our operations,
including:
- Increasing Natural Gas Prices. While U.S. natural gas prices are
volatile, the rolling twelve-month average price of natural gas has
generally trended upward from January 1994 to March 2004. We believe
the sustained higher natural gas pricing in the United States should
result in more exploration and development drilling activity and
higher utilization and dayrates for drilling companies like us.
- Need for Increased Natural Gas Drilling Activity. From 1994 to 2002,
U.S. demand for natural gas grew at an annual rate of 1.1% while its
supply grew at an annual rate of 0.2%. We believe that this supply
and demand imbalance will continue if demand for natural gas
continues to increase and production decline rates continue to
accelerate. Even though the number of U.S. gas wells drilled has
increased overall in recent years, a corresponding increase in
production has not been realized. We believe that an increase in
U.S. drilling activity will be required for the natural gas industry
to meet the expected increased demand for, and compensate for the
slowing production of, natural gas in the United States.
- Trend Towards Drilling Deeper Shallow Water Gas Wells. A current
trend by oil and gas companies is to drill deep gas wells along the
U.S. Gulf Coast in search of new and potentially prolific untapped
natural gas reserves. We believe that this trend towards deeper
drilling will benefit premium jackup rigs as well as barge rigs and
submersible rigs that are capable of drilling deep gas wells. In
addition, the trend will indirectly benefit conventional jackup
fleets as the use of premium rigs in the U.S. Gulf Coast to drill
deep wells should reduce the supply of rigs available to drill
conventional wells.
- Redeployment of Jackup Rigs. Greater demand for jackup rigs in
international areas over the last two years has reduced the overall
supply of jackups in the U.S. Gulf of Mexico. This has created a
more favorable supply environment for the remaining jackups,
including ours.
Market conditions for our U.S. Gulf Coast jackup fleet improved during
2003 as a result of declining rig supply in the region. As of May 3, 2004, our
nine jackup rigs working in the U.S. Gulf Coast were contracted at dayrates
ranging from $25,000 to $30,000. We anticipate that the declining jackup rig
supply in the U.S. Gulf Coast will continue to result in increased utilization
and ultimately higher dayrates. We have experienced reduced utilization and
dayrates in our U.S. Gulf Coast barge market since early 2003 as a result of
reduced demand for these rigs. Although we have seen a slight improvement in
this market beginning in the fourth quarter of 2003, utilization of our inland
barge fleet has not risen to previous levels. With respect to our Venezuelan
operations, we experienced some increase in utilization during the first half of
2003, but political unrest and exchange controls continue to negatively impact
our results of operations there. As a result, we have experienced some decrease
in utilization in Venezuela during the second half of 2003 and the first quarter
of 2004.
24
The following table shows our average rig revenue per day and utilization
for the quarterly periods ending on or prior to March 31, 2004 with respect to
each of our three drilling segments. Average revenue per day is defined as
operating revenue earned per revenue earning day in the period. Utilization in
the table below is defined as the total actual number of revenue earning days in
the period as a percentage of the total number of calendar days in the period
for all drilling rigs in our fleet, as adjusted to include calendar days
available for rigs that were held for sale during the periods ended on or prior
to December 31, 2002.
THREE MONTHS ENDED
---------------------------------------------------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31, MARCH 31,
2002 2002 2002 2002 2003
--------- --------- ------------- ------------ ---------
AVERAGE
REVENUE PER DAY:
U.S. Gulf Coast
Jackups and
Submersibles ..... $ 21,900 $ 19,900 $ 22,400 $ 21,000 $ 22,600
Inland Barges ...... 19,200 20,200 20,700 19,600 19,100
Mexico,
Trinidad and
Venezuela
Rigs ............. 21,000 24,100 23,500 19,400 19,700
UTILIZATION:
U.S. Gulf Coast
Jackups and
Submersibles ..... 21% 29% 32% 34% 31%
Inland Barges .... 41% 24% 47% 44% 47%
Mexico,
Trinidad and
Venezuela
Rigs ............. 39% 27% 23% 27% 35%
THREE MONTHS ENDED
---------------------------------------------------
JUNE 30, SEPTEMBER 30, DECEMBER 31, MARCH 31,
2003 2003 2003 2004
--------- ------------- ------------ ---------
AVERAGE
REVENUE PER DAY:
U.S. Gulf Coast
Jackups and
Submersibles ..... $ 20,200 $ 22,900 $ 26,700 $ 30,600
Inland Barges ...... 17,600 18,300 18,700 20,300
Mexico,
Trinidad and
Venezuela
Rigs ............. 19,100 21,000 25,600 40,000
UTILIZATION:
U.S. Gulf Coast
Jackups and
Submersibles ..... 44% 54% 50% 43%
Inland Barges .... 39% 38% 40% 40%
Mexico,
Trinidad and
Venezuela
Rigs ............. 44% 38% 28% 29%
In the third quarter of 2003, we were awarded contracts with PEMEX, the
Mexican national oil company, for two of our jackup rigs and a platform rig.
After upgrades to comply with contract specifications, one rig began operating
on a 720-day contract in early November 2003 at a contract dayrate of
approximately $42,000. The other jackup rig began operating in early December
2003 on a 1,081-day contract at a contract dayrate of approximately $39,000. The
cost to prepare the two jackup rigs to work in Mexico, including mobilization
costs, which are deferred and will be recognized over the primary contract term,
was approximately $22 million in the aggregate. The platform rig contract is
1,289 days in duration and is anticipated to begin operations in August 2004 at
a contract dayrate of approximately $29,000. We are upgrading the platform rig
to comply with PEMEX contract specifications and anticipate the upgrade cost
will be approximately $8 million to $9 million. Each of the contracts can be
terminated by PEMEX on five days' notice, subject to certain conditions.
Another of our jackup rigs began operating in Venezuela in mid-December
2003 under a 120-day contract with ConocoPhillips at a contract dayrate of
$48,000. We currently anticipate that this rig will complete operations in
Venezuela during June 2004 and return to the U.S. Gulf of Mexico. The cost of
the upgrades to the rig to comply with contract specifications and the cost of
mobilization to Venezuela was approximately $5 million in the aggregate.
In January 2003, we renewed our principal insurance coverages for property
damage, liability, and occupational injury and illness. Premiums for such
coverages would have increased substantially were it not for us taking
significantly higher deductibles. The increased premiums were a result of
increased rates demanded by the insurance markets for most insurance coverages
as a result of losses the insurance industry has sustained in the past several
years and perceived increased risks following the terrorist attacks on September
11, 2001. In addition, such increased deductibles have become common within the
industry. The renewal of these coverages was for the period January 1, 2003
through March 1, 2004.
We renewed these insurance coverages as of March 1, 2004 for a 14 month
period ending May 1, 2005. Although premiums for these coverages were somewhat
lower, we again chose to increase deductibles to reduce premiums further. If our
occupational claim experience in 2004 is comparable to 2003, we would not expect
a significant increase in our insurance and claims related expense. Because of
the increase in our deductible exposure
25
for 2004, an increase in our loss experience would result in higher insurance
and claims related expense for the period.
IPO AND SEPARATION FROM TRANSOCEAN
We were incorporated in Delaware on July 7, 1997 as R&B Falcon
Corporation. On January 31, 2001, we became an indirect wholly owned subsidiary
of Transocean Inc. ("Transocean") as a result of the merger transaction between
us and Transocean (the "Transocean Merger"). On December 13, 2002, we changed
our name from R & B Falcon Corporation to TODCO.
In July 2002, Transocean announced plans to divest its Gulf of Mexico
shallow and inland water ("Shallow Water") business through an initial public
offering of TODCO. During 2003, we completed the transfer to Transocean of all
assets not related to our Shallow Water business ("Transocean Assets"),
including the transfer of all revenue-producing Transocean Assets. Accordingly,
the Transocean Assets and related operations have been reflected as discontinued
operations in our historical financial statements. See "Related Party
Transactions -- Asset Transfers to Transocean" and "Relationship between Us and
Transocean -- Master Separation Agreement -- TODCO Business" and " -- Transfer
of Assets and Assignment of Liabilities" for a description of the separation of
our respective businesses.
In February 2004, we completed the initial public offering of 13,800,000
shares of our Class A common stock (the "IPO") as part of our separation from
Transocean. We did not receive any proceeds from the initial sale of our Class A
common stock.
Transocean currently owns 100% of our outstanding Class B common stock
giving it 94% of the combined voting power of our outstanding common stock due
to the five votes per share of Class B common stock, as compared to the one vote
per share of Class A common stock. Transocean does not own any of our
outstanding Class A common stock. Transocean has advised us that its current
long term intent is to dispose of our Class B common stock owned by it.
CHANGES IN FINANCIAL REPORTING OF FUTURE RESULTS OF OPERATIONS
As a result of our separation from Transocean, including the transfer of
the Transocean Assets to Transocean in 2003 and the completion of our IPO in
February 2004, our reporting of certain aspects of our future results of
operations will differ from our historical reporting of results of operations.
The following discussion describes these and other differences.
General and administrative expense includes costs related to our corporate
executives, corporate accounting and reporting, engineering, health, safety and
environment, information technology, marketing, operations management, legal,
tax, treasury, risk management and human resource functions. Prior to June 30,
2003 and the transfer of the Transocean Assets to Transocean, general and
administrative expense also included an allocation from Transocean for certain
administrative support. After June 30, 2003, general and administrative expense
includes costs for services provided to us under our transition services
agreement with Transocean. In 2004, we expect to incur approximately $3 million
of additional general and administrative expense annually as a result of
additional costs associated with being a separate public company. In addition,
we expect to incur additional general and administrative expense associated with
the vesting of stock options and restricted stock granted in conjunction with
the IPO.
In conjunction with the closing of the IPO, we granted restricted stock
and stock options to certain employees and non-employee directors. Based upon
the IPO price of $12.00 per share, the value of these awards that we will
recognize as compensation expense is approximately $17.2 million. We recognized
$6.3 million of compensation expense related to these awards and grants in the
first quarter of 2004. We will amortize to compensation expense the remaining
$10.9 million over the vesting period of the awards and options with $4.4
million recognized during the second quarter through the fourth quarter of 2004,
$4.8 million in 2005 and $1.7 million in 2006 and thereafter. In addition,
certain of our employees held options to acquire Transocean ordinary shares that
were granted prior to the IPO. In accordance with the employee matters
agreement, the employees holding such options were treated as terminated for the
convenience of Transocean on the IPO date. As a result, these options became
fully vested and
26
were modified to remain exercisable over the original contractual life. In
connection with the modification of the options, we recognized $1.5 million in
additional compensation expense in the first quarter of 2004.
Interest income consists of interest earned on our cash balances and, for
periods before December 31, 2003, on notes receivable from Delta Towing. Because
of the adoption of the Financial Accounting Standards Board's ("FASB")
Interpretation No. 46, Consolidation of Variable Interest Entities, an
Interpretation of Accounting Research Bulletin No. 51 ("FIN 46") (see " --
Relationships with Variable Interest Entities"), and the resulting consolidation
of Delta Towing in our consolidated balance sheet effective December 31, 2003,
in the future we expect interest income to consist of interest earned on our
cash balances. For periods before the IPO, interest expense consisted of
financing cost amortization and interest associated with our senior notes, other
debt and other related party debt as described in the notes to our condensed
consolidated financial statements. We expect our debt levels and,
correspondingly, our interest expense to be substantially lower in 2004 than
historical debt levels and interest expense reflected in our historical
operating results as a result of the retirement of notes payable to Transocean
prior to the IPO. After the closing of the IPO, interest expense primarily
includes interest on the approximately $24 million face value of our senior
notes payable to third parties and any borrowings under our credit facility,
commitment fees on the unused portion of our line of credit and the amortization
of financing costs.
In conjunction with the IPO, we entered into a tax sharing agreement with
Transocean, whereby, Transocean will indemnify TODCO against substantially all
pre-IPO income tax liabilities. However, we must pay Transocean for
substantially all pre-closing income tax benefits utilized subsequent to the
closing of the IPO. As of March 31, 2004, we had approximately $485 million of
estimated pre-closing income tax benefits subject to this obligation to
reimburse Transocean of which approximately $173 million of the tax benefits
were reflected in our historical financial statements at December 31, 2003. The
additional estimated tax benefits resulted from the closing of the IPO,
specified ownership changes, statutory allocations of tax benefits among
Transocean's consolidated group members and other events. Depending upon certain
tax planning strategies executed by Transocean during 2004 and actual Transocean
taxable income for the current year, this pre-closing tax benefit amount could
change.
As a result of the IPO and the recording of the tax sharing agreement, we
recognized a payable to Transocean within deferred income taxes of approximately
$174 million, representing the amount of the pre-closing income tax benefits
recorded by us and a reduction in additional paid-in capital.
Additionally, the tax sharing agreement provides that if any person other
than Transocean or its subsidiaries becomes the beneficial owner of greater than
50% of the total voting power of TODCO's outstanding voting stock, we will be
deemed to have utilized all of these pre-closing tax benefits, and we will be
required to pay Transocean an amount for the deemed utilization of these tax
benefits adjusted by a specified discount factor. If an acquisition of
beneficial ownership had occurred on March 31, 2004, the estimated amount that
we would have been required to pay to Transocean would have been approximately
$390 million. See " -- Relationship Between Us and Transocean -- Tax Sharing
Agreement".
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Our discussion and analysis of our financial condition and results of
operations is based on our consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States. The preparation of these financial statements requires us to make
estimates and judgments that affect the reported amounts of assets, liabilities,
operating revenues, expenses and related disclosure of contingent assets and
liabilities. On an ongoing basis, we evaluate our estimates, including those
related to bad debts, materials and supplies obsolescence, investments,
property, equipment and other long-lived assets, income taxes, workers' injury
claims, employment benefits and contingent liabilities. We base our estimates on
historical experience and on various other assumptions we believe are reasonable
under the circumstances. The results of these estimates form the basis for
making judgments about the carrying values of assets and liabilities that are
not readily apparent from other sources. Actual results may differ from these
estimates.
We believe the following are our most critical accounting policies. These
policies require significant judgments and estimates used in the preparation of
our consolidated financial statements.
27
Property and Equipment. Our property and equipment represent approximately
82% of our total assets as of March 31, 2004. We determine the carrying value of
these assets based on our property and equipment accounting policies, which
incorporate our estimates, assumptions and judgments relative to capitalized
costs, useful lives and salvage values of our rigs. We review our property and
equipment for impairment when events or changes in circumstances indicate that
the carrying value of these assets or asset groups may be impaired or when
reclassifications are made between property and equipment and assets held for
sale as prescribed by the FASB's Statement of Financial Accounting Standards
("SFAS") 144, Accounting for Impairment or Disposal of Long-Lived Assets. Asset
impairment evaluations are based on estimated undiscounted cash flows for the
assets being evaluated. Our estimates, assumptions and judgments used in the
application of our property and equipment accounting policies reflect both
historical experience and expectations regarding future industry conditions and
operations. Using different estimates, assumptions and judgments, especially
those involving the useful lives of our rigs and expectations regarding future
industry conditions and operations, would result in different carrying values of
assets and results of operations. For example, a prolonged downturn in the
drilling industry in which utilization and dayrates were significantly reduced
could result in an impairment of the carrying value of our drilling rigs.
Allowance for Doubtful Accounts. We establish reserves for doubtful
accounts on a case-by-case basis when we believe the collection of specific
amounts owed to us is unlikely to occur. Our operating revenues are principally
derived from services to U.S. independent oil and natural gas companies and
international and government-controlled oil companies and our receivables are
concentrated in the United States. We generally do not require collateral or
other security to support customer receivables. If the financial condition of
our customers deteriorates, we may be required to establish additional reserves.
Provision for Income Taxes. Our tax provision is based on expected taxable
income, statutory rates and tax planning opportunities available to us in the
various jurisdictions in which we operate. Determination of taxable income in
any jurisdiction requires the interpretation of the related tax laws. Our
effective tax rate is expected to fluctuate from year to year as our operations
are conducted in different taxing jurisdictions and the amount of pre-tax income
fluctuates. Currently payable income tax expense represents either nonresident
withholding taxes or the liabilities expected to be reflected on our income tax
returns for the current year while the net deferred tax expense or benefit
represents the change in the balance of deferred tax assets or liabilities as
reported on the balance sheet.
Valuation allowances are established to reduce deferred tax assets when it
is more likely than not that some portion or all of the deferred tax assets will
not be realized in the future. While we have considered estimated future taxable
income and ongoing prudent and feasible tax planning strategies in assessing the
need for the valuation allowances, changes in these estimates and assumptions,
as well as changes in tax laws could require us to adjust the valuation
allowances for our deferred tax assets. These adjustments to the valuation
allowance would impact our income tax provision in the period in which such
adjustments are identified and recorded.
Contingent Liabilities. We establish reserves for estimated loss
contingencies when we believe a loss is probable and we can reasonably estimate
the amount of the loss. Revisions to contingent liabilities are reflected in
income in the period in which different facts or information become known or
circumstances change that affect our previous assumptions with respect to the
likelihood or amount of loss. Reserves for contingent liabilities are based upon
our assumptions and estimates regarding the probable outcome of the matter.
Should the outcome differ from our assumptions and estimates, we would make
revisions to the estimated reserves for contingent liabilities, and such
revisions could be material.
28
RESULTS OF CONTINUING OPERATIONS
The following table sets forth our operating days, average rig utilization
rates, average rig revenue per day, revenues and operating expenses by operating
segment for the periods indicated:
FOR THE THREE MONTHS ENDED
MARCH 31,
---------------------------------
2004 2003
-------------- ---------------
(IN MILLIONS EXCEPT PER DAY DATA)
U.S. GULF OF MEXICO SEGMENT:
Operating days .......................... 857 843
Available days(a) ....................... 2,002 2,700
Utilization(b) .......................... 43% 31%
Average revenue per day(c) .............. $ 30,600 $ 22,600
Operating revenues ...................... $ 26.2 $ 19.1
Operating and maintenance expenses(d).... 24.0 25.6
Depreciation ............................ 12.4 14.3
Gain on disposal of assets, net ......... (1.5) --
Operating loss .......................... (8.7) (20.8)
U.S. INLAND BARGE SEGMENT:
Operating days .......................... 1,090 1,312
Available days(a) ....................... 2,730 2,790
Utilization(b) .......................... 40% 47%
Average revenue per day(c) .............. $ 20,300 $ 19,100
Operating revenues ...................... $ 22.1 $ 25.0
Operating and maintenance expenses(d).... 21.3 22.0
Depreciation ............................ 5.6 5.9
Gain on disposal of assets, net ......... (0.2) --
Operating loss .......................... (4.6) (2.9)
OTHER INTERNATIONAL SEGMENT:
Operating days .......................... 467 467
Available days(a) ....................... 1,638 1,350
Utilization(b) .......................... 29% 35%
Average revenue per day(c) .............. $ 40,000 $ 19,700
Operating revenues ...................... $ 18.7 $ 9.2
Operating and maintenance expenses(d).... 16.0 7.3
Depreciation ............................ 4.9 3.0
Operating loss .......................... (2.2) (1.1)
DELTA TOWING SEGMENT:
Operating revenues ...................... $ 6.8 $ --
Operating and maintenance expenses(d).... 5.6 --
Depreciation ............................ 1.3 --
General and administrative expenses ..... 0.8 --
Gain on disposal of assets .............. (1.0) --
Operating income ........................ 0.1 --
TOTAL COMPANY:
Rig operating days ...................... 2,414 2,622
Rig available days(a) ................... 6,370 6,840
Rig utilization(b) ...................... 38% 38%
Average rig revenue per day(c) .......... $ 27,800 $ 20,800
Operating revenues ...................... $ 73.8 $ 53.3
Operating and maintenance expenses(d).... 66.9 54.9
Depreciation ............................ 24.2 23.2
General and administrative expenses ..... 12.4 4.6
Gain on disposal of assets, net ......... (2.7) --
Operating loss .......................... (27.0) (29.4)
----------
(a) Available days are the total number of calendar days in the period for all
drilling rigs in our fleet.
(b) Utilization is the total number of revenue earning days in the period as a
percentage of the total number of calendar days in the period for all
drilling rigs in our fleet.
(c) Average rig revenue per day is defined as operating revenue earned per
revenue earning day in the period for all drilling rigs and for "Total
Company" excludes revenues related to our Delta Towing segment.
(d) Excludes depreciation, amortization and general and administrative
expenses.
29
THREE MONTHS ENDED MARCH 31, 2004 AND 2003
Our consolidated results of operations for the first three months of 2004
reflect the consolidation of our 25% ownership interest in Delta Towing
effective January 1, 2004 in accordance with FIN 46. Accordingly, our results
for 2004 include revenues and expenses for Delta Towing. Prior to the adoption
of FIN 46, we recorded our 25% interest in the results of Delta Towing as equity
in income (loss) of joint ventures in our consolidated statements of operations
and also recognized interest income -- related party related to Delta Towing's
notes payable to us. See " -- Relationships with Variable Interest Entities" for
a discussion of the effects of FIN 46 on our investment in Delta Towing.
Revenues. Total revenues increased $20.5 million or 38% during the first
quarter of 2004 as compared to the comparable period in 2003. Overall average
rig revenue per day increased from $20,800 in the first quarter of 2003 to
$27,800 in 2004. However average rig utilization for our overall drilling rig
fleet remained constant at 38% due to a decrease in total available rig
operating days in the 2004 period as a result of the removal of five jackup rigs
from our actively marketed fleet in the second quarter of 2003. The increase in
average rig revenue per day and rig utilization reflects improving market
conditions in the U.S. Gulf of Mexico, as well as the addition of two of our
jackup rigs which began operating offshore Mexico in late 2003 and a jackup rig
that is currently working offshore Venezuela.
Revenues for our U.S. Gulf of Mexico segment increased $7.1 million or 37%
in the first quarter of 2004, as compared to the first quarter of 2003. In 2004,
we were able to achieve higher average rig revenue per day for our jackup and
submersible drilling fleet, as compared to the first quarter of 2003, which
resulted in an additional $6.8 million of operating revenues. The increase in
average rig revenue per day is the result of our success in obtaining new or
renegotiating existing contracts with our customers at higher day rates in
response to market demand and increased operating costs. Results for the first
quarter of 2004 also reflect higher utilization for our current rig fleet in
this market segment, after giving effect to the transfers of the jackup drilling
units THE 156, THE 205 and THE 206 to our Other International segment in the
fourth quarter of 2003. This increase in utilization resulted in $4.9 million of
additional rig revenues in the first quarter of 2004, as compared to the
comparable period in 2003. The drilling units transferred to our Other
International segment generated revenues of $4.6 million in the first quarter of
2003.
Revenues for our U.S. Inland Barge segment decreased $2.9 million in the
first quarter of 2004, as compared to the same period in 2003, primarily due to
lower average utilization for our inland barge drilling fleet. The 17% decrease
in rig operating days in 2004, as compared to the first quarter of 2003 reflects
the continued softening in this market segment throughout 2003, which resulted
in a $4.2 million decrease in rig revenues. Although there has been a slight
improvement in this market segment, utilization of our inland barge fleet has
not yet risen to the levels witnessed in early 2003. The decrease in rig
revenues was partly offset by a slight increase in average rig revenue per day,
which resulted in a $1.3 million increase in rig revenues in 2004, as compared
to the comparable period in 2003.
The $9.5 million increase in revenues in the first quarter of 2004, as
compared to the first quarter of 2003, for our Other International segment
includes $13.9 million of revenues related to our two jackup rigs (THE 205 and
THE 206) which began working offshore Mexico in late 2003 under long-term
contracts and the operation of our THE 156 which began operating under a 120-day
contract with ConocoPhillips in late December 2003. The favorable contribution
to revenues by these rigs in 2004 was offset by lower utilization for our land
rigs in Venezuela ($2.2 million) and a platform rig in Trinidad ($2.2 million)
that completed their contracts after the first quarter of 2003.
Our revenues for the first quarter of 2004 included $6.8 million related
to the operation of Delta Towing's fleet of U.S. marine support vessels.
Operating and Maintenance Expenses. Operating and maintenance expenses
increased $12.0 million or 22% in the first quarter of 2004, as compared to the
same period in 2003. First quarter 2004 operating expenses increased
approximately $6.7 million related to our three jackup drilling rigs which began
working in International locations in late 2003, as compared to operating
domestically in the first quarter of 2003 for only a portion of the period. Our
operating costs for 2004 also included $5.6 million related to Delta Towing and
reflected a $4.9 million increase in
30
overall operating costs over the prior year period. These higher operating costs
were primarily due to higher maintenance and health benefit costs during the
first quarter of 2004, as compared to the same period in 2003. Our first quarter
2003 operating and maintenance expenses included $1.5 million related to the
operation of our platform rig in Trinidad and $1.2 million related to two of our
land rigs in Venezuela that were not working in the first quarter of 2004 and a
$2.5 million insurance provision for damages sustained to the mat finger on THE
207.
General and Administrative Expense. The $7.8 million increase in general
and administrative expense for the first quarter of 2004, as compared to the
first quarter of 2003, was primarily related to $6.3 million in stock
compensation expense associated with the grant of stock options and restricted
stock awards to our employees and non-employee directors in connection with our
IPO in February 2004. In addition, we recognized $1.5 million in stock
compensation expense related to the modification of Transocean stock options
held by some of our employees. We did not recognize any stock compensation
expense in 2003. Delta Towing general and administrative expense was $0.8
million in 2004, which was offset by lower administrative charges ($0.8 million)
under our transition services agreement with Transocean which became effective
in the third quarter of 2003. See " -- Related Party Transactions -- Allocation
of Administrative Costs").
Gain on Disposal of Assets, Net. During the first three months of 2004, we
realized net gains on disposal of assets of $2.7 million primarily related to
the settlement of an October 2000 insurance claim for one of our jackup rigs
($1.5 million) and the sale of a support vessel by Delta Towing ($1.0 million).
Net gains (losses) on disposal of assets were not significant in the first three
months of 2003.
Interest Expense. The $11.8 million decrease in third party interest
expense and interest expense-related party in the first three months of 2004, as
compared to the same period in 2003, is attributable to lower debt balances owed
to third parties and Transocean. In 2003, we repaid $15.2 million of third party
debt and, in conjunction with the transfer of the Transocean Assets, we retired
$529.7 million in related party debt payable to Transocean during 2003.
Additionally, prior to the closing of our IPO, we completed a debt-for-equity
exchange of all our remaining outstanding related party debt payable to
Transocean.
Loss on Retirement of Debt. In conjunction with the retirement of debt
held by Transocean in the first quarter of 2003, we recorded a $30.0 million
loss on retirement of related party debt. During 2004, we wrote off the
remaining balance of unamortized fees of approximately $1.9 million associated
with the exchange of Transocean debt for our outstanding senior notes in March
2002 due to the retirement of the debt in conjunction with the IPO (see " --
Related Party Transactions -- Long-Term Debt -- Transocean").
Income Tax Benefit. The income tax benefit of $10.2 million for the first
quarter of 2004 reflects an estimated annual effective tax rate ("ETR") of
31.4%, as compared to $18.2 million for the first quarter of 2003 based on an
ETR of 24.2% as the result of not providing a valuation allowance on net
operating losses generated in the first quarter of 2004.
DISCONTINUED OPERATIONS
In July 2002, Transocean announced plans to divest its Shallow Water
business through an initial public offering of TODCO. During 2003, we completed
the transfer to Transocean of the Transocean Assets, including all
revenue-producing Transocean Assets. Accordingly, the Transocean Assets and
related operations have been reflected as discontinued operations in our
historical financial statements. See Note 13 to our condensed consolidated
financial statements, for a discussion of discontinued operations. See "Related
Party Transactions -- Asset Transfers to Transocean" for a description of the
separation of our respective businesses.
FINANCIAL CONDITION
At March 31, 2004 and December 31, 2003, we had total assets of $776.0
million and $778.2 million, respectively. The $2.2 million decrease in assets
during the first three months of 2004, is primarily attributable to normal
depreciation of $24.2 million, $4.2 million in net amortization of deferred
preparation and mobilization costs and the write-off of $1.9 million in
unamortized consent fees associated with the Transocean senior note exchange.
These decreases in assets were partly offset by $16.1 million in deferred income
tax assets recognized in the first
31
quarter of 2004, a $9.1 million increase in amounts receivable from Transocean
in recognition of the post-IPO business and tax indemnities and a $3.2 million
increase in prepaid insurance due to policy renewals.
LIQUIDITY AND CAPITAL RESOURCES
SOURCES AND USE OF CASH
The following discussion relates to our historical sources and uses of
cash, which includes components from both continuing operations and discontinued
operations during 2003.
Three Months Ended March 31, 2004 Compared to Three Months Ended March 31,
2003. Net cash used in operating activities was $3.6 million for the three
months ended March 31, 2004 compared to net cash provided by operating
activities of $49.9 million for the same period in 2003. The $53.5 million
decrease in net cash provided by operating activities is primarily attributable
to lower adjustments to reconcile net loss as reported to net cash used in
operating activities and less cash provided by changes in operating assets and
liabilities, partly offset by a lower reported net loss in the first three
months of 2004 as compared to the same period of 2003. We reported a $65.6
million lower net loss in the first quarter of 2004, as compared to the first
quarter of 2003, primarily due to the absence of net losses attributable to the
Transocean Assets ($31.0 million) which were transferred to Transocean during
2003, lower net interest expense ($10.0 million) and lower other non-cash
charges in the first quarter of 2004. Non-cash adjustments decreased $72.2
million for the three months ended March 31, 2004, as compared to the first
three months of 2003, primarily related to depreciation, deferred income taxes,
(gain) loss on disposal of assets and loss on retirement of debt. Non-cash
adjustments for the first quarter of 2004 also included a $7.8 million favorable
adjustment related to stock-based compensation expense associated with our
post-IPO stock option grants and restricted stock awards, as well as the
modification of the Transocean stock options held by TODCO employees. Cash used
by changes in operating assets and liabilities, net of effect of distributions
to affiliates, was $0.5 million for the first three months of 2004 as compared
to $46.4 million in cash provided by changes in operating assets and liabilities
for the same period in 2003. The $46.9 million decrease in cash provided by
changes in operating assets and liabilities is the result of the transfer of the
Transocean Assets to Transocean and the related settlement of outstanding
balances with Transocean.
Net cash provided by investing activities amounted to $4.0 million for the
first three months of 2004 compared to a usage of $2.8 million for the same
period in 2003. The $6.8 million increase in net cash provided by investing
activities relates primarily to the sale of a marine support vessel and other
equipment in the first quarter of 2004.
Net cash provided by financing activities amounted to $0.7 million for the
first three months of 2004, as compared to a usage of $138.5 million for the
same period in 2003. Financing activities for the 2004 period included the
execution of an additional two-year capital lease for drilling equipment, net of
payments on existing capital lease obligations. Cash used in financing
activities in the first quarter of 2003 included $95.3 million in cash balances
transferred to Transocean in connection with the sale and distribution of
subsidiaries to Transocean, the net repayment of long-term advances from
Transocean of $34.3 million and $10.1 million in repayments of other debt. See "
-- Related Party Transactions".
SOURCES OF LIQUIDITY AND CAPITAL EXPENDITURES
Asset sales and our existing cash balances were our primary sources of
liquidity for the three months ended March 31, 2004. Our primary sources of
liquidity for the three months ended March 31, 2003 were our cash flows from
operations. For the three months ended March 31, 2004, our primary uses of cash
were operating costs and capital expenditures of $3.0 million related to
upgrades and replacements of equipment. Primary uses of cash for the first
quarter of 2003 were debt repayments, including amounts due to Transocean, the
transfer of cash balances in conjunction with the sale or distribution of
Transocean Assets to Transocean and capital expenditures of $3.0 million for
upgrades and replacements of equipment. At March 31, 2004, we had $21.1 million
in cash and cash equivalents.
We anticipate that we will rely primarily on internally generated cash
flows to maintain liquidity. From time to time, we may also make use of our
revolving line of credit for cash liquidity. In December 2003, we entered into a
32
two-year $75 million floating-rate secured revolving credit facility that will
decline to $60 million in December 2004.
The facility is secured by most of our drilling rigs, our receivables, and
the stock of most of our U.S. subsidiaries and is guaranteed by some of our
subsidiaries. Borrowings under the facility bear interest at our option at
either (1) the higher of (A) the prime rate and (B) the federal funds rate plus
0.5%, plus a margin in either case of 2.50% or (2) the Eurodollar rate plus a
margin of 3.50%. Commitment fees on the unused portion of the facility are 1.50%
of the average daily balance and are payable quarterly. Borrowings and letters
of credit issued under the facility are limited by a borrowing base equal to the
lesser of (A) 20% of the orderly liquidated value of the drilling rigs securing
the facility, as determined from time to time by a third party selected by the
agent under the facility, and (B) the sum of 10% of the orderly liquidated value
of the drilling rigs securing the facility plus 80% of the U.S. accounts
receivable outstanding less than 90 days, net of any provision for bad debt
associated with such U.S. accounts receivable.
Financial covenants include maintenance of certain financial and other
ratios, including working capital, liquidity, and debt-to-total capitalization
ratios, and a minimum tangible net worth.
The revolving credit facility provides, among other things, for the
issuance of letters of credit that we may utilize to guarantee our performance
under some drilling contracts, as well as insurance, tax and other obligations
in various jurisdictions. The facility also provides for customary fees and
expense reimbursements and includes other covenants (including limitations on
the incurrence of debt, mergers and other fundamental changes, asset sales and
dividends) and events of default (including a change of control) that are
customary for similar secured non-investment grade facilities.
We expect capital expenditures to be approximately $8 million in 2004,
primarily for rig refurbishments and the purchase of capital equipment. The
timing and amounts we actually spend in connection with our plans to upgrade and
refurbish other selected rigs, including rigs requiring substantial
refurbishment, is subject to our discretion and will depend on our view of
market conditions and our cash flows. We would expect capital expenditures to
increase as market conditions improve. Our ability to fund capital expenditures
would be adversely affected if conditions deteriorate in our business, we
experience poor results in our operations or we fail to meet covenants under the
revolving credit facility described in the previous paragraph.
We anticipate that our available funds, together with our cash generated
from operations and amounts that we may borrow, will be sufficient to fund our
required capital expenditures, working capital and debt service requirements for
the foreseeable future. Future cash flows and the availability of outside
funding sources, however, are subject to a number of uncertainties, especially
the condition of the oil and natural gas industry. Accordingly, these resources
may not be available or sufficient to fund our cash requirements.
As of March 31, 2004, our scheduled debt maturities and other contractual
obligations are presented in the table below with debt obligations presented at
face value:
FOR THE TWELVE MONTH PERIODS ENDING MARCH 31,
----------------------------------------------
2006 2008
TO TO
TOTAL 2005 2007 2009 THEREAFTER
------ ------ ------ ------ ----------
(IN MILLIONS)
CONTRACTUAL OBLIGATIONS
Debt ........................... $ 23.6 $ -- $ 7.7 $ 12.4 $ 3.5
Debt -- Related Party .......... 3.0 3.0 -- -- --
Capital Leases ................. 2.6 1.7 0.9 -- --
Operating Leases ............... 4.9 1.6 1.8 0.9 0.6
------ ------ ------ ------ ----------
Total Contractual Obligations $ 34.1 $ 6.3 $ 10.4 $ 13.3 $ 4.1
====== ====== ====== ====== ==========
33
At March 31, 2004, we had other commitments that we are contractually
obligated to fulfill with cash should the obligations be called. These
obligations represent surety bonds that guarantee our performance as it relates
to our drilling contracts, insurance, tax and other obligations in various
jurisdictions. These obligations could be called at any time prior to their
expiration dates. The obligations that are the subject of these surety bonds are
geographically concentrated in the United States and Mexico.
FOR THE TWELVE MONTH PERIODS ENDING MARCH 31,
----------------------------------------------
2006 2008
TO TO
TOTAL 2005 2007 2009 THEREAFTER
------ ------ ------ ------ ----------
(IN MILLIONS)
OTHER COMMERCIAL COMMITMENTS
Surety Bonds............... $ 13.4 $ 1.5 $ 3.3 $ 4.5 $ 4.1
DERIVATIVE INSTRUMENTS
We have established policies and procedures for derivative instruments
that have been approved by our board of directors. These policies and procedures
provide for the prior approval of derivative instruments by our board of
directors. From time to time, we may enter into a variety of derivative
financial instruments in connection with the management of our exposure to
fluctuations in foreign exchange rates and interest rates. We do not plan to
enter into derivative transactions for speculative purposes; however, for
accounting purposes, certain transactions may not meet the criteria for hedge
accounting.
Gains and losses on foreign exchange derivative instruments that qualify
as accounting hedges are deferred as accumulated other comprehensive income and
recognized when the underlying foreign exchange exposure is realized. Gains and
losses on foreign exchange derivative instruments that do not qualify as hedges
for accounting purposes are recognized currently based on the change in market
value of the derivative instruments. At March 31, 2004, we did not have any
outstanding foreign exchange derivative instruments.
From time to time, we may use interest rate swaps to manage the effect of
interest rate changes on future income. Interest rate swaps would be designated
as a hedge of underlying future interest payments and would not be used for
speculative purposes. The interest rate differential to be received or paid
under the swaps is recognized over the lives of the swaps as an adjustment to
interest expense. If an interest rate swap is terminated, the gain or loss is
amortized over the life of the underlying debt. At March 31, 2004, we did not
have any outstanding interest rate swaps.
RELATIONSHIPS WITH VARIABLE INTEREST ENTITIES
We own a 25% equity interest in Delta Towing, which was formed to own and
operate our U.S. marine support vessel business consisting primarily of shallow
water tugs, crewboats and utility barges. We contributed this business to Delta
Towing in return for a 25% ownership interest and secured notes issued by Delta
Towing with a face value of $144.0 million. No value was assigned to the
ownership interest in Delta Towing. The note agreement was subsequently amended
to provide for a $4.0 million, three-year revolving credit facility which has
since been cancelled. Delta Towing's property and equipment, with a net book
value of $45.3 million at March 31, 2004, are collateral for the Company's notes
receivable. The remaining 75% ownership interest is held by Beta Marine
Services, L.L.C. ("Beta Marine"), which also loaned Delta Towing $3.0 million
(see "-- Related Party Transactions -- Long-Term Debt -- Beta Marine").
As a result of restrictions on the ownership or operation of vessels
involved in the coastwise trade by non-U.S. citizens, our ability to take
ownership of the assets owned by Delta Towing in connection with its default
under its notes issued to us would be restricted. These restrictions apply to us
because Transocean, a company organized under the laws of the Cayman Islands,
currently owns the majority of our common stock, and our chief executive officer
is not a U.S. citizen.
In January 2003, the FASB issued FIN 46 which requires that an enterprise
consolidate a variable interest entity ("VIE") if the enterprise has a variable
interest that will absorb a majority of the entity's expected losses and/or
receives a majority of the entity's expected residual returns as a result of
ownership, contractual or other financial interests in the entity, if such loss
or residual return occurs. If one enterprise absorbs a majority of a VIE's
expected
34
losses and another enterprise receives a majority of that entity's expected
residual returns, the enterprise absorbing a majority of the expected losses is
required to consolidate the VIE and will be deemed the primary beneficiary for
accounting purposes.
Under FIN 46, Delta Towing is considered a VIE because its equity is not
sufficient to absorb the joint venture's expected future losses. TODCO is deemed
to be the primary beneficiary of Delta Towing for accounting purposes because we
have the largest percentage of investment at risk through the secured notes held
by us and would thereby absorb the majority of the expected losses of Delta
Towing. We have consolidated Delta Towing as of December 31, 2003.
As of March 31, 2004 and December 31, 2003, we have eliminated in
consolidation all intercompany account balances with Delta Towing as a result of
the adoption of FIN 46, as well as the elimination of all intercompany
transactions during the three months ended March 31, 2004.
Prior to December 31, 2003, we accounted for our investment in Delta
Towing under the equity method and recorded $1.5 million in equity losses as a
reduction in the carrying value of Delta Towing's notes receivable held by us.
In addition, during the three months ended March 31, 2003, we earned interest
income of $1.6 million on interest-bearing debt due from Delta Towing.
As part of the formation of the joint venture on January 31, 2001, we
entered into a charter arrangement with Delta Towing under which we committed to
charter for a period of 2.5 years from date of delivery 10 crewboats then under
construction, all of which were in service as of March 31, 2004. We also entered
into an alliance agreement with Delta Towing under which we agreed to treat
Delta Towing as a preferred supplier for the provision of marine support
services. During the three months ended March 31, 2003, we incurred charges
totaling $2.9 million from Delta Towing for services rendered which were
reflected in operating and maintenance -- related party expense.
The creditors of Delta Towing have no recourse to the general credit of
the Company.
RELATED PARTY TRANSACTIONS
LONG-TERM DEBT -- BETA MARINE
In connection with the acquisition of the marine business, Delta Towing
entered into a $3.0 million note agreement with Beta Marine dated January 30,
2001. The note bears interest at 8%, payable quarterly. In January 2004, Delta
Towing failed to make its scheduled principal payment to Beta Marine. The $3.0
million principal amount of the note payable has been classified as a current
obligation in our consolidated balance sheet. In March 2004, Delta Towing repaid
a portion of accrued interest payable to Beta Marine from proceeds from the sale
of a vessel.
ALLOCATION OF ADMINISTRATIVE COSTS
Transocean has historically provided specified administrative support to
us. Transocean has charged us a proportional share of its administrative costs
based on estimates of the percentage of work each Transocean department performs
for us. The amount of expense allocated to us was $0.9 million for the three
months ended March 31, 2003, and was classified as general and administrative --
related party expense. Following the IPO, some of these functions are provided
to us under the transition services agreement with Transocean. Charges under the
transition services agreement amounted to $0.1 million for the three months
ended March 31, 2004 and are reported as general and administrative -- related
party expense.
LONG-TERM DEBT -- TRANSOCEAN
We were party to a $1.8 billion two-year revolving credit agreement (the
"Transocean Revolver") with Transocean, dated April 6, 2001. During the three
months ended March 31, 2003, we recognized $0.8 million in interest expense
related to the Transocean Revolver. On April 6, 2003, the approximately $81.2
million then outstanding under the Transocean Revolver was converted to a 2.76%
fixed rate promissory note issued by us to
35
Transocean which was scheduled to mature on April 6, 2005. This note was
cancelled in 2003 in connection with a series of transactions.
In March 2002, together with Transocean, we completed exchange offers and
consent solicitations for our 6.5%, 6.75%, 6.95%, 7.375%, 9.125% and 9.5% Senior
Notes (the "Exchange Offer"). As a result of the Exchange Offer, Transocean
exchanged approximately $234.5 million, $342.3 million, $247.8 million, $246.5
million, $76.9 million and $289.8 million principal amount of our outstanding
6.5%, 6.75%, 6.95%, 7.375%, 9.125% and 9.5% Senior Notes, respectively, (the
"Exchanged Notes") for newly issued Transocean notes having the same principal
amount, interest rate, redemption terms and payment and maturity dates.
During 2003, we sold to Transocean, in separate transactions, our
investment in Arcade Drilling AS, Cliffs Platform Rig 1, our 50% interest in
Deepwater Drilling LLC, our 60% interest in Deepwater Drilling II LLC and our
membership interests in R&B Falcon Drilling (International & Deepwater) Inc.
LLC. As consideration for the sale of these assets, Transocean cancelled $529.7
principal amount outstanding of our senior notes held by Transocean. See " --
Asset Transfers to Transocean" for a further description of these transactions.
In February 2004, prior to the closing of our IPO, we exchanged $45.8
million in principal amount of our outstanding 7.375% Exchanged Notes held by
Transocean Holdings Inc. (a wholly owned subsidiary of Transocean), plus accrued
interest thereon, for 359,638 shares of our Class B common stock (4,367,714
shares of Class B common stock after giving effect to the stock dividend, see "
-- Other Transactions Between Us and Transocean"). Immediately following this
exchange, we exchanged $152.5 million and $289.8 million principal amount of our
outstanding 6.75% and 9.5% Exchanged Notes, respectively, held by Transocean,
plus accrued interest thereon, for 3,580,768 shares of our Class B common stock
(43,487,535 shares of Class B common stock after giving effect to the stock
dividend). The determination of the number of shares issued in the exchange
transactions was based on a method that took into account the IPO price of
$12.00 per share. The net effect of these transactions was to decrease notes
payable -- related party and interest payable -- related party by $528.9 million
with an offsetting increase in common stock of $0.5 million and additional
paid-in capital of $528.4 million. There were no Exchanged Notes payable to
Transocean outstanding at March 31, 2004. We recognized $3.1 million in interest
expense - related party associated with these notes prior to their cancellation
in February 2004. For the three months ended March 31, 2003, we recognized $14.4
million in interest expense - related party with respect to the Exchanged Notes.
ASSET TRANSFERS TO TRANSOCEAN
We transferred the Transocean Assets to Transocean primarily as in-kind
dividends and transfers in exchange for the cancellation of debt to Transocean
and, in some instances, for cash. Specified contracts were assigned to
Transocean for no consideration. These transactions had no effect on our results
of continuing operations except to the extent that debt was retired and any gain
or loss was recognized.
The following describes transfers of certain of our assets to Transocean
during the first quarter of 2003. None of the drilling rigs transferred to
Transocean were currently involved in the business activities that fall within
the TODCO business as defined in the master separation agreement with
Transocean.
In January 2003, we assigned to Transocean for no consideration a 12.5%
undivided interest in an aircraft at net book value of $1.0 million. The
transaction was recorded as a decrease to additional paid-in capital.
Also in January 2003, we distributed to Transocean as an in-kind dividend
for no consideration some accounts receivable balances from related parties in
the amount of $200.9 million. The transaction was recorded as a decrease to
additional paid-in capital.
In February 2003, we distributed to Transocean for no consideration the
stock of our subsidiaries R&B Falcon (A) Pty. Ltd., which owns the drilling unit
Ron Tappmeyer and Cliffs Drilling do Brazil Servicios de Petroleo S/C Ltda. a
dormant Brazilian entity. The aggregate net book value of $44.6 million for
these transfers was recorded as a decrease to additional paid-in capital.
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In March 2003, we sold to Transocean the stock of Arcade Drilling AS, a
subsidiary that owns and operates the Paul B. Loyd, Jr. and owns the Henry
Goodrich, for net proceeds of $264.1 million and recorded a net pre-tax loss of
$11.0 million. The sales price was determined based on an appraisal by Professor
Terje Hansen of the Norwegian School of Economics and Business Administration,
taking into account the values of the drilling units provided by R.S. Platou
(U.S.A.) Inc. In consideration for the sale of the subsidiary, Transocean
cancelled $233.3 million principal amount of our 6.95% notes due April 2008. The
market value attributed to the notes, 113.21% of the principal amount, was
determined by Transocean based on available market information.
In March 2003, we assigned the drilling contract for the Deepwater
Frontier to Transocean for no consideration. Additionally, in March 2003, we
distributed to Transocean miscellaneous deepwater assets with a value of $1.4
million for no consideration. The transactions were recorded as a decrease to
additional paid-in capital.
The remainder of the Transocean Assets were sold or distributed to
Transocean in the second quarter of 2003 in separate transactions.
At the time of the transactions, some of the drilling units discussed
above were being utilized in connection with drilling contracts between our
subsidiaries and customers. These contracts were not transferred and we secured
the use of the drilling units for the purpose of performing these contracts
through charters or other arrangements. The costs of these charters or other
arrangements were included in discontinued operations and totaled $0.8 million
for the three months ended March 31, 2003.
OTHER TRANSACTIONS BETWEEN US AND TRANSOCEAN
In February 2004, Transocean made equity contributions to us totaling $2.8
million, including $1.0 million in intercompany payable balances that we owed to
Transocean as of the IPO date.
In February 2004, prior to the IPO, the Company exchanged $45,784,000,
$152,463,000 and $289,793,000 in principal amount of its outstanding 7.375%,
6.750% and 9.500% notes, respectively, held by Transocean for 3,940,406 shares
of the Company's Class B common stock. Immediately following this exchange, the
Company declared a dividend of 11.145 shares of its Class B common stock with
respect to each share of its Class B common stock outstanding immediately
following the exchange. As a result, 60,000,000 shares of the Company's Class B
common stock were issued and outstanding immediately prior to the IPO.
Transocean currently hold 46,200,000 shares of the Company's Class B common
stock. The Class B common stock is convertible at any time into shares of the
Company's Class A common stock on a share per share basis at the sole option of
Transocean. The stock for debt exchange was exempt from registration pursuant to
Section 4(2) of the Securities Act of 1933.
In February 2004, we recorded an equity transaction related to net
liabilities related to Transocean's business of $0.4 million for which legal
title had not been transferred to Transocean as of the IPO date in accordance
with the business indemnity between us and Transocean (see " -- Relationship
Between Us and Transocean -- Indemnification and Release"). The indemnification
by Transocean was recorded as a credit to additional paid-in capital with a
corresponding offset to a related party receivable from Transocean.
As part of the tax sharing agreement with Transocean, we recorded an
equity transaction in February 2004 to reflect the transfer to Transocean of
approximately $174 million of pre-closing income tax benefits which TODCO may
utilize or be deemed to have utilized in the future; however, we must pay
Transocean for substantially all pre-closing income tax benefits utilized or
deemed to have been utilized subsequent to the closing of the IPO. As we cannot
legally transfer these pre-closing income tax benefits to Transocean or another
entity, we recorded the approximately $174 million of income tax benefits as an
offsetting obligation to Transocean within the deferred income tax asset
accounts and a reduction in additional paid-in capital in our condensed
consolidated balance sheet at March 31, 2004. In addition, Transocean agreed to
indemnify us for certain tax liabilities that existed as of the IPO date of
$10.3 million. We recorded the tax indemnification by Transocean as a credit to
additional paid-in capital with a corresponding offset to a related party
receivable from Transocean. See " -- Relationship Between Us and Transocean --
Tax Sharing Agreement".
37
At the closing of the IPO, we completed the following transactions:
- We assigned to Transocean for no consideration any other
agreements relating to drilling units and other assets not
owned by us or our subsidiaries upon the closing of the IPO.
- We assigned to Transocean the rights to any receivables
outstanding upon the closing of the IPO which were not related
to the "TODCO business" as that term is used in the master
separation agreement. We will remit the proceeds from those
receivables as they are collected.
- We transferred to Transocean any remaining miscellaneous
equipment and other assets that did not relate to our business
following the closing of the IPO.
To the extent the transfer of legal title to any of the above assets could
not be completed prior to the closing of the IPO, beneficial ownership of such
assets was transferred to Transocean, and we or our applicable subsidiary will
hold such asset as agent for the other party until such time as legal title can
be transferred.
RELATIONSHIP BETWEEN US AND TRANSOCEAN
We have provided below a summary description of the material terms and
conditions of a master separation agreement and several other important related
agreements between Transocean and us.
MASTER SEPARATION AGREEMENT
The master separation agreement between Transocean and us provided for the
completion of the separation of our assets and businesses from those of
Transocean. In addition, it contains several agreements governing the
relationship between us and Transocean following the IPO and specifies the
ancillary agreements that we and Transocean signed.
TODCO BUSINESS
The master separation agreement defines the TODCO business to mean the
following businesses and activities:
- contract drilling, workover, production and similar services
for oil and gas wells using jackup, submersible, barge
(including workover) and platform drilling rigs in the U.S.
Gulf of Mexico and U.S. inland waters, including maintenance
and mobilization activities to the extent related to rigs
providing these services,
- contract drilling, workover, production and similar services
for oil and gas wells in and offshore Mexico, Trinidad,
Colombia and Venezuela (including the turnkey drilling
services formerly provided by our subsidiaries in Venezuela),
including maintenance and mobilization activities to the
extent related to rigs providing these services,
- construction activities (including construction activities
involving an upgrade to, or modification of, a rig) in
connection with rigs owned by us or our subsidiaries after the
closing of the IPO,
- office or yard facilities owned or used by us and our
subsidiaries to the extent related to the services and
activities described in this definition,
- our joint venture interest in Delta Towing Holdings, LLC, the
operation of the business transferred to Delta Towing prior to
that transfer and the notes issued in connection with that
transfer,
- our investment in Energy Virtual Partners, Inc. and Energy
Virtual Partners, LP,
- activities that were related primarily to the above activities
at the time those activities ceased, and
38
- any business conducted by TODCO or any of its subsidiaries
after the closing of the IPO.
The following businesses and activities are excluded from the definition
of the TODCO business to the extent they were conducted prior to the closing of
the IPO:
- contract drilling, workover, production or similar services
for oil and gas wells using semisubmersibles and drillships in
the U.S. Gulf of Mexico, including maintenance and
mobilization activities to the extent related to rigs
providing these services,
- contract drilling, workover, production or similar services
for oil and gas wells in geographic regions outside of the
U.S. Gulf of Mexico, U.S. inland waters, Mexico, Colombia,
Trinidad and Venezuela, including maintenance and mobilization
activities to the extent related to rigs providing these
services and such services using land rigs,
- construction activities (including construction activities
involving an upgrade to, or modification of, a rig) in
connection with rigs or other assets owned by (1) Transocean
or its subsidiaries (excluding us) after the closing of the
IPO or (2) neither Transocean nor us after the closing of the
IPO,
- oil and gas exploration and production activities (but not
including our ownership interest in Energy Virtual Partners),
- coal production activities, and
- the turnkey drilling business that we formerly operated in the
U.S. Gulf of Mexico and offshore Mexico, except that contract
drilling services provided to that business which otherwise
fall within the definition of TODCO business are not excluded.
TRANSFER OF ASSETS AND ASSIGNMENT OF LIABILITIES
We have transferred the stock of various subsidiaries and other assets to
Transocean and Transocean has assumed liabilities associated with the
transferred assets and businesses. See " -- Asset Transfers to Transocean." The
master separation agreement provides for any additional transfers of assets and
assumptions of liabilities necessary to effect the separation of the TODCO
business from the business of Transocean. The master separation agreement
provides that assets or liabilities that could not legally be transferred or
assumed prior to the closing of the IPO would be transferred or assumed as soon
as practicable following receipt of all necessary consents of third parties and
regulatory approvals. In any such case, the master separation agreement provides
that the party retaining the assets or liabilities will hold the assets in trust
for the use and benefit of, or retain the liabilities for the account of, the
party entitled to the assets or liabilities (at the expense of that party),
until the transfer or assumption can be completed. The party retaining these
assets or liabilities will also take any action reasonably requested by the
other party in order to place the other party in the same position as would have
existed if the transfer or assumption had been completed. We refer to all of
these transfers of assets and assumptions of liabilities together as the
"separation."
Except as set forth in the master separation agreement, no party is making
any representation or warranty as to the assets or liabilities transferred or
assumed as a part of the separation and all assets were and will be transferred
on an "as is, where is" basis. As a result, we and Transocean each have agreed
to bear the economic and legal risks that any conveyances of assets are
insufficient to vest good and marketable title to such assets in the party who
should have title under the master separation agreement.
The parties also agreed that for a period of one year following the IPO,
if Transocean determines in its good faith judgment that:
- any assets owned by us or our subsidiaries were used primarily
during the prior 12 months in Transocean's business, we will
transfer those assets to Transocean without additional
consideration, or
39
- any assets owned by Transocean were used primarily during the
prior 12 months in our business, Transocean will transfer
those assets to us without additional consideration.
WORKING CAPITAL
The master separation agreement contains an acknowledgement that our cash
and cash equivalents as of June 30, 2003 were $25.0 million after giving effect
to a subsequent payment by Transocean to us of $11.4 million. The amount paid to
us by Transocean equaled the difference between $25.0 million and the amount of
our cash and cash equivalents as of June 30, 2003 prior to giving effect to the
payment by Transocean. The master separation agreement provided that we retain
all cash and cash equivalents generated by our business following June 30, 2003.
Transocean will not be required to make any additional payments to us for our
working capital needs under the master separation agreement.
LETTERS OF CREDIT AND GUARANTEES
The master separation agreement requires that we and Transocean use our
reasonable best efforts to terminate (or have us or one of our subsidiaries
substituted for Transocean, or Transocean or one of its subsidiaries substituted
for us, as applicable) all existing guarantees by one party of obligations
relating to the business of the other party, including financial, performance
and other guarantee obligations. We have also agreed with Transocean that each
party will use its reasonable best efforts to have the other party substituted
under letters of credit or other surety instruments issued by third parties for
the account of either party or any of its subsidiaries issued on behalf of the
other party's business.
INDEMNIFICATION AND RELEASE
The master separation agreement provides for cross-indemnities that will
generally place financial responsibility on us and our subsidiaries for all
liabilities associated with the businesses and operations falling within the
definition of TODCO business, and that will generally place financial
responsibility for liabilities associated with all of Transocean's businesses
and operations with Transocean and its subsidiaries, regardless of the time
those liabilities arise. The master separation agreement also contains
indemnification provisions under which we and Transocean each indemnify the
other with respect to breaches of the master separation agreement or any
ancillary agreements.
In connection with our separation from Transocean, the allocation of
liabilities related to taxes and employment matters will be governed separately
in a tax sharing agreement and an employee matters agreement. See " -- Tax
Sharing Agreement" and " -- Employee Matters Agreement."
Under the master separation agreement, we generally released Transocean
and its affiliates, agents, successors and assigns, and Transocean generally
released us and our affiliates, agents, successors and assigns, from any
liabilities between us or our subsidiaries on the one hand, and Transocean or
its subsidiaries on the other hand, arising from acts or events occurring on or
before the closing of the IPO, including acts or events occurring in connection
with the separation or the IPO. The general release does not apply to
obligations under the master separation agreement or any ancillary agreement or
to specified debt and other ongoing contractual arrangements.
Under the master separation agreement, we will be strictly liable to
Transocean for any misstatements or omissions in information supplied to
Transocean in connection with SEC filings and other public disclosures.
NONCOMPETITION AND OTHER COVENANTS
The master separation agreement includes provisions that restrict us from
competing with Transocean in specified business activities. These provisions do
not restrict us from engaging in any contract drilling, workover, production or
similar services for oil and gas wells using jackup, barge, platform or land
rigs in the following geographic locations: U.S. onshore, U.S. inland water,
U.S. Gulf of Mexico and offshore or onshore Mexico, Trinidad, Venezuela or
Colombia. However, except for the activities described in the foregoing
sentence, we are restricted from engaging in any contract drilling, workover,
production or similar services for oil and gas wells using any type of drilling
unit in the following geographic locations: offshore North America, offshore
South America, offshore Europe, offshore Africa, offshore Middle East, offshore
India, offshore Southeast Asia, offshore Asia,
40
offshore Australia, the Gulf of Mexico, the North Sea, the Mediterranean Sea,
the Red Sea, the Persian Gulf and the Caspian Sea. These provisions remain in
effect so long as Transocean beneficially owns at least a majority of the voting
power of our outstanding voting stock.
The master separation agreement required us to use reasonable commercial
efforts to satisfy the conditions precedent for the closing of the IPO. The
master separation agreement also includes provisions relating to a tax-free
distribution by Transocean of the remainder of our common stock it owns, but
does not obligate Transocean to effect such a distribution. If Transocean
chooses to conduct a tax-free distribution, we have agreed to take all action
reasonably requested by Transocean to facilitate that transaction at our own
expense.
The master separation agreement also contains provisions relating to the
exchange of information, provision of information for financial reporting
purposes, the preservation of legal privileges, dispute resolution, and
provision of corporate records.
Some of the rights granted to Transocean in the master separation
agreement would apply to and be binding upon any entity that acquires control of
us.
INSURANCE
The master separation agreement provides that we will continue to be
covered under substantially all current insurance policies of Transocean (other
than employee welfare or benefit plan policies, which are addressed in the
employee matters agreement) and future insurance policies determined jointly by
us and Transocean. We have agreed to reimburse Transocean for premium expenses
related to those insurance policies. Transocean has agreed not to terminate our
coverage under the insurance policies unless it provides us prior notice.
However, we will cease to have coverage under Transocean's insurance policies
when Transocean ceases to own at least a majority of the voting power of our
outstanding voting stock, and no prior notice will be required in that case. In
no event will Transocean be liable to us in the event of the termination of any
insurance policy (unless in the case of termination by Transocean, Transocean
failed to provide us the notice required by the master separation agreement),
the failure of insurance policies to cover our liabilities or the non-renewal of
insurance policies beyond their expiration dates as of the date of the master
separation agreement.
CORPORATE GOVERNANCE
The master separation agreement also contains several provisions regarding
our corporate governance that apply as long as Transocean owns specified
percentages of our common stock. As long as Transocean owns shares representing
a majority of the voting power of our outstanding voting stock, Transocean will
have the right to:
- nominate for designation by our board of directors, or a
nominating committee of the board, a majority of the members
of the board, as well as the chairman of the board, and
- designate at least a majority of the members of any committee
of our board of directors.
If Transocean's beneficial ownership of our common stock is reduced to a
level of at least 10% but less than a majority of the voting power of our
outstanding voting stock, Transocean will have the right to:
- designate for nomination a number of directors proportionate
to its voting power, and
- designate one member of any committee of our board of
directors.
In the master separation agreement, we have also agreed to use our best
efforts to cause Transocean's nominees to be elected.
The master separation agreement specified the form of our amended and
restated certificate of incorporation and bylaws to be in effect at the time of
the IPO. It also provides that for so long as Transocean beneficially owns
shares representing at least 15% of the voting power of our outstanding voting
stock, we will not, without the prior consent of Transocean, adopt any
amendments to our amended and restated certificate of incorporation or bylaws or
take any action to recommend to our stockholders certain actions which would,
among other things, limit the legal rights of
41
Transocean, or deny any benefit to Transocean or any of its subsidiaries as our
stockholders in a manner not applicable to our stockholders generally.
We have also agreed that for so long as Transocean and its subsidiaries
own 50% or more of the voting power of our outstanding voting stock, we will
maintain the same accounting principles and practices as Transocean, and we will
not select a different accounting firm than Transocean's, which is currently
Ernst & Young LLP, to serve as our independent certified public accountants.
We have also agreed that for so long as Transocean owns at least a
majority of the voting power of all the outstanding shares of voting stock, we
will not take any action or enter into any commitment or agreement that could
result in a contravention or default by us or any of our affiliates, of or under
any provisions of applicable law, any provision of Transocean's memorandum of
association or articles of association or any credit agreement or other material
agreement by which Transocean is bound. Also, for so long as Transocean owns at
least a majority of the voting power of our outstanding voting stock, we will
not enter into any commitment or agreement that contains provisions triggering a
default or material payment when Transocean exercises its right to convert its
shares of our Class B common stock into shares of our Class A common stock or
otherwise disposes of its shares of our Class B common stock.
We have agreed to grant to Transocean a continuing right to purchase from
us, at the times set forth in the master separation agreement,
- such number of shares of our voting stock as is necessary to
allow Transocean to maintain its then-current percentage
following the IPO, and
- 80% of the shares of each other class of capital stock that we
issue.
These rights terminate if at any time Transocean owns less than 80% of the
voting power of our outstanding voting stock.
TAX SHARING AGREEMENT
Until the closing of our IPO, we were included in Transocean Holdings'
consolidated group for U.S. federal income tax purposes. As of the closing of
the IPO, we are not included in Transocean Holdings' U.S. federal consolidated
group because no U.S. subsidiary of Transocean owns at least 80% of the
aggregate voting power and value of our outstanding stock.
We have entered into a tax sharing agreement with Transocean Holdings
which governs Transocean Holdings' and our respective rights, responsibilities
and obligations with respect to taxes and tax benefits. References in this
summary description of the tax sharing agreement to the terms "tax" or "taxes"
mean taxes and any interest, penalties, additions to tax or additional amounts
in respect of such taxes. The general principles of the tax sharing agreement
include the following:
- Except for special tax items discussed in the bullet below,
all U.S. federal, state, local and foreign income taxes and
income tax benefits (including income taxes and income tax
benefits attributable to the TODCO business) that accrued on
or before the closing of the IPO generally will be for the
account of Transocean Holdings. Accordingly, we generally will
not be liable for any income taxes accruing on or before the
closing of the IPO, but we generally must pay Transocean
Holdings for the amount of any income tax benefits, calculated
as described below, created on or before the closing of the
IPO ("pre-closing tax benefits") that we use or absorb on a
return with respect to a period after the closing of the IPO.
We will have no obligation to pay Transocean Holdings for any
pre-closing tax benefits arising out of or relating to the
alternative minimum tax provisions of Sections 55 through 59
of the U.S. Internal Revenue Code, but we will be required to
pay Transocean Holdings for any pre-closing tax benefits we
use that are alternative minimum tax credits described in
Section 53 of the Internal Revenue Code. Our obligation to pay
Transocean Holdings for the use of pre-closing tax benefits
and our potential obligation to pay alternative minimum tax to
the Internal Revenue Service may result in our paying more, in
the aggregate, to the Internal Revenue Service and to
Transocean Holdings than we would otherwise have
42
paid if we had utilized no pre-closing tax benefits. For
purposes of the tax sharing agreement, deferred tax
liabilities reflected in our financial statements, which
represent future tax effects of temporary differences between
the financial statement basis and the tax basis of our assets
and liabilities, are not considered to constitute income tax
liabilities accrued on or before the closing of the IPO. As of
March 31, 2004, we had approximately $485 million of income
tax benefits subject to our obligation to reimburse Transocean
Holdings. See Note 8 to our condensed consolidated financial
statements. The amount of these tax benefits will be
calculated as follows:
(1) in the case of a deduction used or absorbed, by
multiplying the deduction by the highest
applicable statutory tax rate in effect, and
(2) in the case of a credit used or absorbed, by
allowing 100% of the credit.
However, if the use or absorption of a pre-closing tax benefit
defers or precludes our use or absorption of any income tax
benefit created after the closing of the IPO ("post-closing
tax benefit"), our payment obligation with respect to the
pre-closing tax benefit generally will be deferred until we
actually use or absorb such post-closing tax benefit. This
payment deferral will not apply with respect to, and we will
have to pay currently for the use or absorption of pre-closing
tax benefits to the extent of:
(1) up to 20% of any deferred or precluded
post-closing tax benefit arising out of our
payment of foreign income taxes, and
(2) 100% of any deferred or precluded post-closing tax
benefit arising out of a carryback from a
subsequent year.
If any person other than Transocean or its subsidiaries
becomes the beneficial owner of greater than 50% of the
aggregate voting power of our outstanding voting stock, we
will be deemed to have used or absorbed all pre-closing tax
benefits, and we generally will be required to pay Transocean
Holdings an amount for the deemed use or absorption of these
pre-closing tax benefits. The amount paid for the deemed use
of these tax benefits will be calculated by:
(1) in the case of a deduction (including, for these
purposes, all pre-closing income taxes, whether
claimed as a deduction or credit), multiplying the
deduction by the highest applicable statutory tax
rate in effect,
(2) in the case of a credit other than a pre-closing
foreign tax credit, allowing 100% of such credit,
and
(3) multiplying the amounts by a specified discount
factor.
The specified discount factor will vary depending on the year
in which another person becomes the beneficial owner of
greater than 50% of the voting power of our stock: if in 2003,
2004, 2007 or 2008, then the factor is 0.80; if in 2005 or
2006, then the factor is 0.70; if in 2009, then the factor is
0.85; if in 2010, then the factor is 0.90; if in 2011 or 2012,
then the factor is 0.95; and if in 2013 or a later year, then
the factor is 1.00). Moreover, if any of our subsidiaries that
join with us in the filing of consolidated returns ceases to
join in the filing of such returns, we will be deemed to have
used that portion of the pre-closing tax benefits attributable
to that subsidiary following the cessation, and we generally
will be required to pay Transocean Holdings the amount of this
deemed tax benefit, calculated as described above with regard
to an acquisition of beneficial ownership, at the time such
subsidiary ceases to join in the filing of such returns. In
the case of any of our payments to Transocean resulting from
another person becoming the owner of greater than 50% of our
voting stock or a subsidiary ceasing to join in the filing of
a consolidated return with us, the payment will in no case be
deferred, regardless of whether the existence of the related
pre-closing tax benefit would or could defer or preclude our
use or absorption of any post-closing tax benefit. Moreover,
the payment will not be subsequently adjusted for any
difference between the tax benefits that we are deemed to use
or absorb in such case and the tax benefits that we actually
use or absorb, and the difference between those amounts
43
could be substantial. Among other considerations, applicable
tax laws may, as a result of another person becoming the owner
of greater than 50% of our voting power significantly limit
our use of such tax benefits, and these limitations are not
taken into account in determining the amount of the payment to
Transocean. A substantial portion of the pre-closing tax
benefits are net operating losses, most or all of which should
be eligible to be carried forward at least fourteen more
years.
- We are responsible for all special tax items accruing on or
after the date on which we issued shares of our common stock
to Transocean in repayment of our notes, as described in " --
Debt Retirement and Debt Exchange Offers." For this purpose,
special tax items means taxes with respect to items specified
in U.S. Treasury regulation section 1.1502-76(b)(2)(ii)(C)
(generally referring to transactions outside the ordinary
course of our business). However, special tax items do not
include taxes with respect to transactions to effect the
separation of the TODCO business from the business of
Transocean. See " -- Master Separation Agreement." Moreover,
there were no special tax items that accrued during the period
beginning on the date of issuance of such shares to Transocean
and ending on the date of the closing of the IPO.
- If we and Transocean Holdings (or any affiliate of Transocean
Holdings other than us) are members of a U.S. federal
consolidated group or state, local or foreign combined group
for any period after the closing of the IPO, we will be
responsible for all income taxes attributable to us for that
period, determined as if we had filed separate U.S. federal,
state, local or foreign income tax returns. We will be
entitled to reimbursement by Transocean Holdings for any
income tax benefits realized by Transocean Holdings or any of
its affiliates as a result of our being a member of any such
consolidated or combined group. As indicated, however, we do
not expect that Transocean Holdings and we will be members of
a U.S. federal consolidated group or any state, local or
combined group after the closing of the IPO.
- We must pay Transocean Holdings for any tax benefits
attributable to us resulting from (1) the payment by
Transocean Holdings, after the closing of the IPO, of any
additional taxes of the TODCO business that are not U.S.
federal income taxes or (2) the delivery by Transocean or its
subsidiaries, after the closing of the IPO, of stock of
Transocean to an employee of ours in connection with the
exercise of an employee stock option. We will generally be
required to pay the deemed value of these tax benefits within
30 days of the payment of such additional taxes or the
delivery of Transocean stock, whether or not we ever actually
use or absorb such tax benefits. Payments may be deferred with
respect to any item in excess of $1.0 million.
- Apart from (1) income taxes and income tax benefits that
accrued on or before the closing of the IPO and (2) tax
benefits resulting from Transocean's payment of our taxes that
are not U.S. federal income taxes or delivery of stock to our
employees, described above, Transocean Holdings will be
responsible for all income taxes, and will be entitled to all
income tax benefits, attributable to Transocean Holdings or
its affiliates (other than us), and we will be responsible for
all income taxes, and will be entitled to all income tax
benefits, attributable to us.
- Our ability to obtain a refund from a carryback to a year in
which we and Transocean Holdings joined in a consolidated or
combined return will be at the discretion of Transocean
Holdings. Moreover, any refund that we may obtain will be net
of any increase in taxes resulting from the carryback that are
otherwise for the account of Transocean Holdings.
- We will have the right to be notified of tax matters for which
we are responsible under the terms of the tax sharing
agreement, although Transocean Holdings will have sole
authority to respond to and conduct all tax proceedings,
including tax audits, relating to any Transocean Holdings
consolidated, or Transocean combined, income tax returns in
which we are included.
- Transocean Holdings will have substantial control over our
filing of tax returns with respect to (1) any period in which
Transocean or Transocean Holdings possess greater than 50% of
the voting power of all of our outstanding stock or (2) any
period after the closing of the IPO so long as there remains a
present or potential obligation for us to pay Transocean
Holdings for pre-closing tax benefits.
44
- We will also be responsible for all taxes, other than income
taxes, attributable to the TODCO business, whether accruing
before, on or after the closing of the IPO.
- We generally will be required to pay Transocean Holdings for
the amount of pre-closing tax benefits that we use in
determining the amount of any installment of estimated taxes
we pay to Transocean Holdings or any tax authority within
thirty days after the installment of estimated taxes is or
would have been paid. If, after any installment payment of
estimated taxes or after the relevant return is due (with or
without any extensions), the estimated amount of pre-closing
tax benefits for which we have previously paid differs from
the most recent estimate or actual amount of pre-closing tax
benefits that we use or absorb on that return, we and
Transocean Holdings must make appropriate true-up payments
between us. However, under some circumstances, payments by us
for the use of pre-closing tax benefits, whether estimated or
actual, may be deferred (subject to an interest charge) under
a subordination agreement between us and Transocean in favor
of our third-party lenders.
The tax sharing agreement further provides for cooperation between
Transocean Holdings and us with respect to tax matters, the exchange of
information and the retention of records that may affect the income tax
liability of the parties to the agreement. However, if we fail to cooperate with
Transocean Holdings in any tax contest with respect to taxes that are otherwise
for the account of Transocean Holdings, any additional taxes resulting from such
tax contest will be for our account, notwithstanding any other provision in the
tax sharing agreement.
Notwithstanding the tax sharing agreement, under U.S. treasury
regulations, each member of a consolidated group is severally liable for the
U.S. federal income tax liability of each other member of the consolidated
group. Accordingly, with respect to periods in which we have been included in
Transocean Holdings' consolidated group, we could be liable to the U.S.
government for any U.S. federal income tax liability incurred, but not
discharged, by any other member of Transocean Holdings' consolidated group.
However, if any such liability were imposed, we would generally be entitled to
be indemnified by Transocean Holdings for tax liabilities allocated to
Transocean Holdings under the tax sharing agreement.
REGISTRATION RIGHTS AGREEMENT
Because our shares of common stock held by Transocean are deemed
"restricted securities" as defined in Rule 144, Transocean may only sell a
limited number of shares of our common stock into the public markets without
registration under the Securities Act. We entered into a registration rights
agreement with Transocean under which, at the request of Transocean, we would
use our best efforts to register shares of our common stock that were held by
Transocean after the closing of the IPO, or were subsequently acquired, for
public sale under the Securities Act. As long as Transocean owns a majority of
the voting power of our outstanding common stock, there is no limit to the
number of registrations that it may request. Once Transocean owns less than a
majority of the voting power of our outstanding common stock, it can request a
total of three additional registrations. If Transocean sells more than 10% of
our outstanding shares of common stock to a transferee, Transocean may transfer
all or a portion of its rights under the agreement, except that a transferee
that acquires a majority of our outstanding common stock can only request two
additional registrations after it owns less than a majority of our outstanding
common stock, and a transferee of less than a majority of our outstanding common
stock can only request either one or two registrations, depending on the
percentage of our outstanding common stock it acquires. The transfer of rights
under the agreement to a transferee does not limit the number of registrations
Transocean may request. We also provide Transocean and its permitted transferees
with "piggy-back" rights to include its shares in future registrations of our
common stock under the Securities Act. There is no limit on the number of these
"piggy-back" registrations in which Transocean may request its shares be
included. These rights will terminate once Transocean or a permitted transferee
is able to dispose of all of its shares of our common stock within a three-month
period pursuant to the exemption from registration provided under Rule 144 of
the Securities Act. We have agreed to cooperate in these registrations and
related offerings. We and Transocean have agreed to restrictions on the ability
of each party to sell securities following registrations requested by either
party.
TRANSITION SERVICES AGREEMENT
We entered into a transition services agreement with Transocean under
which Transocean provides specified administrative support during the
transitional period following the closing of the IPO. Transocean may provide
45
specified information technology and systems, financial reporting, accounting,
human resources, treasury and claims administration services to us in exchange
for agreed fees based on Transocean's actual costs. We are required to use
specified services so long as Transocean owns at least 50% of the voting power
of our outstanding shares of voting stock. Only in limited circumstances will
Transocean be liable to us with respect to the provision of services under the
transition services agreement.
EMPLOYEE MATTERS AGREEMENT
We entered into an agreement with Transocean and Transocean Holdings to
allocate specified assets, liabilities, and responsibilities relating to our
current and former employees and their participation in Transocean's benefit
plans.
Benefits under our U.S. pension plan ceased to accrue as of July 1, 1999.
As of August 1, 2001, our employees' existing accrued benefits under that plan
were fully vested. Sponsorship of that plan has been assumed by Transocean
Holdings effective August 1, 2002. Effective as of the date that we no longer
are a part of a controlled group of companies with Transocean for U.S. federal
income tax purposes, affected employees will be entitled to take a distribution
from that plan, subject to the provisions of the plan and to taxation and
possible early withdrawal penalties. We do not expect to establish a new pension
plan for our employees.
Our employees became eligible to participate in our U.S. savings plan
effective November 1, 2002. Our employees may make pre-tax contributions to that
plan. Employees who are not considered highly compensated for tax purposes may
also make post-tax contributions. We provide matching contributions of up to
3.0% of the compensation contributed to the plan by each employee as well as
additional discretionary matching of another 1.5% to a total 4.5% in matching
contributions. Additionally, the plan allows for a discretionary annual
contribution allocable to all eligible employees, subject to a two-year vesting
requirement. We have agreed that we will make discretionary matching
contributions of at least 0.5% of compensation for participating employees, and
an additional annual contribution of 1.5% of compensation for all eligible
employees (as defined in the plan) for so long as we are part of a controlled
group of companies with Transocean for U.S. federal income tax purposes. Prior
to November 1, 2002, our employees participated in the Transocean U.S. Savings
Plan, and we agreed to contribute 1.5% of compensation to that plan for our
eligible employees for the period beginning January 1, 2002 and ending October
31, 2002. On or about January 1, 2003, liabilities for our employees' accounts
under the Transocean U.S. Savings Plan, and assets associated with those
liabilities, were transferred to our U.S. savings plan. Our employees who have
invested in Transocean ordinary shares under the Transocean U.S. Savings Plan
may retain that investment, if they choose to do so, until December 31, 2005,
but will not be eligible to acquire additional Transocean ordinary shares under
our U.S. savings plan.
Under the terms of the Transocean stock option awards granted prior to the
closing of the IPO, our employees will continue to retain outstanding options to
acquire Transocean ordinary shares for the duration of their original term.
With some exceptions, we have agreed to indemnify Transocean for
employment liabilities arising from any acts of our employees or from claims by
our employees against Transocean and for liabilities relating to benefits for
our employees. Transocean has agreed to similarly indemnify us.
CAUTIONARY STATEMENT ABOUT FORWARD -- LOOKING STATEMENTS
This report contains both historical and forward-looking statements. All
statements other than statements of historical fact are, or may be deemed to be,
forward-looking statements. Forward-looking statements include information
concerning our possible or assumed future financial performance and results of
operations, including statements about the following subjects:
- our strategy,
- improvement in the fundamentals of the oil and gas industry,
- the supply and demand imbalance in the oil and gas industry,
- the correlation between demand for our rigs and our bonds,
earnings and customers' expectations of energy prices,
46
- our plans, expectations and any effects of focusing on
agreements and marine assets and drilling for natural gas
along the U.S. Gulf Coast, pursuing efficient, low-cost
operations and a disciplined approach to capital spending,
maintaining high operating standards and maintaining a
conservative capital structure,
- the emergence of the drilling industry from a low point in the
cycle,
- estimated tax benefits,
- expected capital expenditures,
- expected general and administrative expense,
- refurbishment costs,
- our ability to take advantage of opportunities for growth and
our ability to respond effectively to market matters
downturns,
- sufficiency of funds for required capital expenditures,
working capital and debt service,
- deep gas drilling opportunities,
- operating standards,
- payment of dividends,
- competition for drilling contracts,
- matters relating to derivatives,
- matters related to our letters of credit and surety bonds,
- future restructurings,
- matters relating to our future transactions, relationship with
Transocean,
- payments under agreements with Transocean,
- liabilities under laws and regulations protecting the
environment,
- results and effects of legal proceedings,
- future utilization rates,
- future dayrates, and
- expectations regarding improvements in offshore activity,
demand for our drilling rigs, our plan to operate primarily in
the U.S. Gulf Coast, operating revenues, operating and
maintenance expense, insurance expense and deductibles,
interest expense, debt levels and other with regard to
outlook.
Forward-looking statements in this Form 10-Q are identifiable by use of
the following words and other similar expressions:
- "anticipate,"
- "believe,"
- "budget,"
- "could,"
- "estimate,"
- "expect,"
- "forecast,"
- "intent,"
- "may,"
- "might,"
- "plan,"
- "predict,"
- "project," and
- "should."
47
The following factors could affect our future results of operations and
could cause those results to differ materially from those expressed in the
forward-looking statements included in this Form 10-Q:
- worldwide demand for oil and gas,
- exploration success by producers,
- demand for offshore and inland water rigs,
- our ability to enter into and the terms of future contracts,
- labor relations,
- political and other uncertainties inherent in non-U.S. operations
(including exchange controls and currency fluctuations),
- the impact of governmental laws and regulations,
- the adequacy of sources of liquidity,
- uncertainties relating to the level of activity in offshore oil and
gas exploration and development,
- oil and natural gas prices (including U.S. natural gas prices),
- competition and market conditions in the contract drilling
- work stoppages,
- the availability of qualified personnel,
- operating hazards,
- war, terrorism and cancellation or unavailability of insurance
coverage,
- compliance with or breach of environmental laws,
- the effect of litigation and contingencies,
- our inability to achieve our plans or carry out our strategy,
- the matters discussed in "Business -- Risk Factors," and
- other factors discussed in this Form 10-Q.
Should one or more of these risks or uncertainties materialize, or should
underlying assumptions prove incorrect, actual results may vary materially from
those indicated. Shareholders should not place undue reliance on forward-looking
statements. Each forward-looking statement speaks only as of the date of the
particular statement, and we undertake no obligation to publicly update or
revise any forward-looking statements.
48
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
INTEREST RATE RISK
The table below presents scheduled debt maturities and related
weighted-average interest rates for each of the twelve month periods ending
March 31, relating to debt obligations as of March 31, 2004:
SCHEDULED MATURITY DATE FAIR VALUE
-------------------------------------------------------------- MARCH 31,
2005 2006 2007 2008 2009 THEREAFTER TOTAL 2004
------ ------ ------ ------ ------ ---------- ------ ----------
(IN MILLIONS, EXCEPT INTEREST RATE PERCENTAGES)
TOTAL DEBT
Fixed Rate(a) ................ $ 3.0 $ 7.7 $ -- $ -- $ 12.4 $ 3.5 $ 26.6 $ 27.7
Average interest rate ..... 8.0% 6.8% -- -- 9.0% 7.4% 8.0%
----------
(a) Expected maturity amounts are based on the face value of debt and do not
reflect fair market value of debt.
FOREIGN EXCHANGE RISK
Our international operations in Mexico, Trinidad and Venezuela, expose us
to foreign exchange risk. We use a variety of techniques to minimize the
exposure to foreign exchange risk. Our primary foreign exchange risk management
strategy involves structuring customer contracts to provide for payment in both
U.S. dollars and local currency. The payment portion denominated in local
currency is based on anticipated local currency requirements over the contract
term. We may also use foreign exchange derivative instruments or spot purchases.
We do not enter into derivative transactions for speculative purposes. At March
31, 2004, we did not have any outstanding foreign exchange contracts.
In January 2003, Venezuela implemented foreign exchange controls that
limited our ability to convert local currency into U.S. dollars and transfer
excess funds out of Venezuela. Our drilling contracts in Venezuela typically
call for payments to be made in local currency, even when the dayrate is
denominated in U.S. dollars. In August 2003, we negotiated an agreement with our
principal customer in Venezuela to pay the majority of the U.S. dollar
denominated amounts in U.S. dollars to one of our banks in the United States.
The exchange controls could also result in an artificially high value being
placed on the local currency.
Due to the continuation of these foreign exchange controls as well as
continuing political instability in Venezuela, we established a currency
valuation allowance pertaining to cash receivables in Venezuela of $2.4 million
in the second quarter of 2003 to adjust our Venezuelan financial assets to net
realizable value. As of March 31, 2004, no additional currency valuation
allowance was deemed necessary, and we do not anticipate having to continue to
provide a currency valuation allowance related to our Venezuelan operations.
ITEM 4. CONTROLS AND PROCEDURES
As of March 31, 2004, we carried out an evaluation, under the supervision
and with the participation of management, including our Chief Executive Officer
and Chief Financial Officer, of the effectiveness of the design and operation of
our disclosure controls and procedures pursuant to Exchange Act Rule 13a-15.
Based upon that evaluation, our Chief Executive Officer and Chief Financial
Officer concluded that our disclosure controls and procedures are effective.
Disclosure controls and procedures are controls and procedures that are designed
to ensure that information required to be disclosed in our reports filed or
submitted 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.
There have been no significant changes in our internal control over
financial reporting that have materially affected, or are reasonably likely to
materially affect, our internal control over financial reporting.
49
PART II
ITEM 1. LEGAL PROCEEDINGS
The Company has certain actions or claims pending that have been
previously discussed and reported in the Company's Annual Report on Form 10-K
for the year ended December 31, 2003. There have been no material developments
in these previously reported matters. The Company and its subsidiaries are
involved in a number of other lawsuits, all of which have arisen in the ordinary
course of business. The Company does not believe that ultimate liability, if
any, resulting from any such other pending litigation will have a material
adverse effect on its business or consolidated financial position.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
EXHIBIT INDEX
EXHIBIT FILED HEREWITH OR INCORPORATED
NO. DESCRIPTION BY REFERENCE FROM:
------- ----------- ------------------
3.1 Third Amended and Restated Certificate of Incorporation. Exhibit 3.1 to Annual Report on Form 10-K of TODCO dated
as of March 17, 2004
3.2 Amended and Restated By-Laws Exhibit 3.2 to Annual Report on Form 10-K of TODCO dated
as of March 17, 2004
3.4 Form of Certificate of Designation of Series A Junior Exhibit A to Exhibit 3.3 to Amendment 1 of Form S-1,
Participating Preferred Stock (included as Exhibit A to Registration No. 333-101921, filed February 12, 2003
Exhibit 3.3)
4.1 Rights Agreement by and between TODCO and The Bank of New Exhibit 4.1 to Annual Report on Form 10-K of TODCO dated as of
York, dated as of February 4, 2004 March 17, 2004
10.1 Master Separation Agreement dated February 4, 2004 by and Exhibit 99.2 to Current Report of Transocean Inc. on Form 8-K
among Transocean, Inc., Transocean Holdings Inc., and dated as February 10, 2004
TODCO
10.2 Tax Sharing Agreement dated February 4, 2004 by and Exhibit 99.3 to Current Report of Transocean Inc. on Form 8-K
between Transocean Holdings Inc. and TODCO dated as February 10, 2004
10.3 Transition Services Agreement dated February 4, 2004 Exhibit 99.4 to Current Report of Transocean Inc. on
between Transocean Holdings Inc. and TODCO Form 8-K dated as of February 10, 2004
10.4 Employee Matters Agreement dated February 4, 2004 by and Exhibit 99.5 to Current Report of Transocean Inc. on Form 8-K
among Transocean, Inc., Transocean Holdings Inc., and dated as February 10, 2004
TODCO.
10.5 Registration Rights Agreement dated February 4, 2004 Exhibit 99.6 to Current Report of Transocean Inc. on Form 8-K
between Transocean Inc. and TODCO dated as February 10, 2004
10.14 TODCO Severance Policy Exhibit 10.14 to Amendment 8 of Form S-1, Registration No.
333-101921, filed February 3, 2004
50
EXHIBIT FILED HEREWITH OR INCORPORATED
NO. DESCRIPTION BY REFERENCE FROM:
------- ----------- ------------------
31.1 Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Filed herewith
Officer
31.2 Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Filed herewith
Officer
32.1 Section 1350 Certification of Chief Executive Officer and Filed herewith
Chief Financial Officer
----------
REPORTS ON FORM 8-K
The Company filed a Current Report on Form 8-K dated March 2, 2004
(information furnished not filed) announcing the issuance of the Company's
monthly rig status report as of March 2, 2004.
51
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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 in Houston, Texas, on
this 10th day of May, 2004.
TODCO
/s/ T. Scott O'Keefe
-------------------------------------------------------
T. Scott O'Keefe
Senior Vice President and Chief Financial Officer
(on behalf of TODCO and as Principal Financial Officer)
52
EXHIBIT INDEX
EXHIBIT FILED HEREWITH OR INCORPORATED
NO. DESCRIPTION BY REFERENCE FROM:
------- ----------- ------------------
3.1 Third Amended and Restated Certificate of Incorporation. Exhibit 3.1 to Annual Report on Form 10-K of TODCO dated
as of March 17, 2004
3.2 Amended and Restated By-Laws Exhibit 3.2 to Annual Report on Form 10-K of TODCO dated
as of March 17, 2004
3.4 Form of Certificate of Designation of Series A Junior Exhibit A to Exhibit 3.3 to Amendment 1 of Form S-1,
Participating Preferred Stock (included as Exhibit A to Registration No. 333-101921, filed February 12, 2003
Exhibit 3.3)
4.1 Rights Agreement by and between TODCO and The Bank of New Exhibit 4.1 to Annual Report on Form 10-K of TODCO dated as of
York, dated as of February 4, 2004 March 17, 2004
10.1 Master Separation Agreement dated February 4, 2004 by and Exhibit 99.2 to Current Report of Transocean Inc. on Form 8-K
among Transocean, Inc., Transocean Holdings Inc., and dated as February 10, 2004
TODCO
10.2 Tax Sharing Agreement dated February 4, 2004 by and Exhibit 99.3 to Current Report of Transocean Inc. on Form 8-K
between Transocean Holdings Inc. and TODCO dated as February 10, 2004
10.3 Transition Services Agreement dated February 4, 2004 Exhibit 99.4 to Current Report of Transocean Inc. on
between Transocean Holdings Inc. and TODCO Form 8-K dated as of February 10, 2004
10.4 Employee Matters Agreement dated February 4, 2004 by and Exhibit 99.5 to Current Report of Transocean Inc. on Form 8-K
among Transocean, Inc., Transocean Holdings Inc., and dated as February 10, 2004
TODCO.
10.5 Registration Rights Agreement dated February 4, 2004 Exhibit 99.6 to Current Report of Transocean Inc. on Form 8-K
between Transocean Inc. and TODCO dated as February 10, 2004
10.14 TODCO Severance Policy Exhibit 10.14 to Amendment 8 of Form S-1, Registration No.
333-101921, filed February 3, 2004
EXHIBIT FILED HEREWITH OR INCORPORATED
NO. DESCRIPTION BY REFERENCE FROM:
------- ----------- ------------------
31.1 Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Filed herewith
Officer
31.2 Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Filed herewith
Officer
32.1 Section 1350 Certification of Chief Executive Officer and Filed herewith
Chief Financial Officer