Our services are reported in four segments, Domestic Contract Drilling Services, International Contract Drilling Services, Domestic Marine Services and International Marine Services. Our Domestic Contract Drilling Services and Domestic Marine Services are conducted in the U.S. Gulf of Mexico, our International Contract Drilling Services are conducted offshore Qatar and India, and our International Marine Services are conducted in West Africa.
Our Fleet
Jackup Rigs
As of February 5, 2007, eight of our jackup rigs were operating under contracts ranging in duration from well-to-well to two years, at an average contract dayrate of approximately $93,757. The following table contains information regarding our jackup rig fleet as of February 5, 2007:
| Rig Name |
Type |
Year Built |
Maximum/Minimum Rating (feet) |
Rated Drilling Depth (feet) (1) |
Location |
Status | ||||||
| 11 |
Mat-supported, cantilever | 1980 | 200/21 | 20,000(2) | U.S. Gulf of Mexico | Contracted | ||||||
| 15 |
Independent leg, slot | 1982 | 85/9 | 20,000 | U.S. Gulf of Mexico | Contracted | ||||||
| 16 |
Independent leg, cantilever | 1981 | 170/16 | 16,000 | Middle East | Contracted | ||||||
| 20 |
Mat-supported, cantilever | 1980 | 100/20 | 25,000 | U.S. Gulf of Mexico | Contracted | ||||||
| 21 |
Mat-supported, cantilever | 1980 | 120/22 | 20,000 | U.S. Gulf of Mexico | Contracted | ||||||
| 22 |
Mat-supported, cantilever | 1971 | 173/22 | 15,000 | U.S. Gulf of Mexico | Contracted | ||||||
| 26 |
Independent leg, cantilever | 1979 | 250/12 | 20,000 | U.S. Gulf of Mexico | Shipyard | ||||||
| 30 |
Mat-supported, slot | 1979 | 250/25 | 20,000 | U.S. Gulf of Mexico | Contracted | ||||||
| 31 |
Mat-supported, slot | 1979 | 250/25 | 20,000 | Asia | Contracted |
Jackup rigs are mobile, self-elevating drilling platforms equipped with legs that can be lowered to the ocean floor until a foundation is established to support the drilling platform. Once a foundation is established, the drilling platform is jacked further up the legs so that the platform is above the highest expected waves. The rig
hull includes the drilling rig, jackup system, crew quarters, loading and unloading facilities, storage areas for bulk and liquid materials, helicopter landing deck and other related equipment.
Jackup rig legs may operate independently or have a lower hull referred to as a “mat” attached to the lower portion of the legs in order to provide a more stable foundation in soft bottom areas, similar to those encountered in certain of the shallow-water areas of the U.S. Gulf of Mexico. Mat rigs generally are able to more quickly position themselves on the worksite and more easily move on and off location than independent leg rigs.
Our rigs are used primarily for exploration and development drilling in shallow waters. Six of our jackup rigs are mat-supported. Six have a cantilever design that permits the drilling platform to be extended out from the hull to perform drilling or workover operations over some types of preexisting platforms or structures. Three have a slot-type design, which requires drilling operations to take place through a slot in the hull. Slot-type rigs are usually used for exploratory drilling rather than development drilling, in that their configuration makes them difficult to position over existing platforms or structures. Historically, jackup rigs with a cantilever design have maintained higher levels of utilization than rigs with a slot-type design. However, one of our slot-type rigs has a competitive advantage in very shallow water as it is one of the few jackup rigs in the world that can drill in water depths as shallow as nine feet.
Liftboats
As of February 5, 2007, we owned 47 liftboats operating in the U.S. Gulf of Mexico and 12 liftboats operating in West Africa. In addition, we operated five liftboats in West Africa. The following table contains information regarding our liftboats as of February 5, 2007:
| Liftboat Name(1) |
Year Built |
Leg Length (feet) |
Deck Area |
Maximum Deck Load (pounds) |
Location |
Gross Tonnage | ||||||
| Whale Shark | 2005 | 260 | 8,170 | 729,000 | U.S. Gulf of Mexico | 99 | ||||||
| Tigershark | 2001 | 230 | 5,300 | 1,000,000 | U.S. Gulf of Mexico | 469 | ||||||
| Kingfish | 1996 | 229 | 5,000 | 500,000 | U.S. Gulf of Mexico | 188 | ||||||
| Man-O-War | 1996 | 229 | 5,000 | 500,000 | U.S. Gulf of Mexico | 188 | ||||||
| Wahoo | 1981 | 215 | 4,525 | 500,000 | U.S. Gulf of Mexico | 491 | ||||||
| Blue Shark | 1982 | 215 | 3,800 | 400,000 | Cameroon | 484 | ||||||
| Amberjack | 1981 | 205 | 3,800 | 500,000 | U.S. Gulf of Mexico | 417 | ||||||
| Bullshark | 1998 | 200 | 7,000 | 1,000,000 | U.S. Gulf of Mexico | 859 | ||||||
| Creole Fish | 2001 | 200 | 5,000 | 798,000 | U.S. Gulf of Mexico | 192 | ||||||
| Cutlassfish | 2006 | 200 | 5,000 | 798,000 | U.S. Gulf of Mexico | 183 | ||||||
| Swordfish | 2000 | 190 | 4,000 | 700,000 | U.S. Gulf of Mexico | 189 | ||||||
| Mako | 2003 | 175 | 5,074 | 654,000 | U.S. Gulf of Mexico | 168 | ||||||
| Leatherjack | 1998 | 175 | 3,215 | 575,850 | U.S. Gulf of Mexico | 168 | ||||||
| Oilfish | 1996 | 170 | 3,200 | 590,000 | Nigeria | 194 | ||||||
| Manta Ray | 1981 | 150 | 2,400 | 200,000 | U.S. Gulf of Mexico | 194 | ||||||
| Seabass | 1983 | 150 | 2,600 | 200,000 | U.S. Gulf of Mexico | 186 | ||||||
| F.J. Leleux | 1982 | 150 | 2,600 | 200,000 | Nigeria | 407 | ||||||
| Black Marlin | 1983 | 150 | 2,600 | 200,000 | Nigeria | 407 | ||||||
| Hammerhead | 1980 | 145 | 1,648 | 150,000 | U.S. Gulf of Mexico | 178 | ||||||
| Pilotfish | 1990 | 145 | 2,400 | 175,000 | Nigeria | 190 | ||||||
| Rudderfish | 1991 | 145 | 3,000 | 200,000 | Nigeria | 183 | ||||||
| Blue Runner | 1980 | 140 | 3,400 | 300,000 | U.S. Gulf of Mexico | 174 | ||||||
| Starfish | 1978 | 140 | 2,266 | 150,000 | U.S. Gulf of Mexico | 99 | ||||||
| Rainbow Runner | 1981 | 140 | 3,400 | 300,000 | U.S. Gulf of Mexico | 174 | ||||||
| Pompano | 1981 | 130 | 1,864 | 100,000 | U.S. Gulf of Mexico | 196 | ||||||
| Sandshark |
1982 | 130 | 1,940 | 150,000 | U.S. Gulf of Mexico | 196 | ||||||
| Stingray |
1979 | 130 | 2,266 | 150,000 | U.S. Gulf of Mexico | 99 |
| Liftboat Name(1) |
Year Built |
Leg Length (feet) |
Deck Area |
Maximum Deck Load (pounds) |
Location |
Gross Tonnage | ||||||
| Albacore |
1985 | 130 | 1,764 | 150,000 | U.S. Gulf of Mexico | 171 | ||||||
| Moray |
1980 | 130 | 1,824 | 130,000 | U.S. Gulf of Mexico | 178 | ||||||
| Skipfish |
1985 | 130 | 1,116 | 110,000 | U.S. Gulf of Mexico | 91 | ||||||
| Sailfish |
1982 | 130 | 1,764 | 137,500 | U.S. Gulf of Mexico | 179 | ||||||
| Mahi Mahi |
1980 | 130 | 1,710 | 142,000 | U.S. Gulf of Mexico | 99 | ||||||
| Triggerfish |
2001 | 130 | 2,400 | 150,000 | U.S. Gulf of Mexico | 195 | ||||||
| Scamp |
1984 | 130 | 2,400 | 150,000 | Nigeria | 195 | ||||||
| Rockfish |
1981 | 125 | 1,728 | 150,000 | U.S. Gulf of Mexico | 192 | ||||||
| Gar |
1978 | 120 | 2,100 | 150,000 | U.S. Gulf of Mexico | 98 | ||||||
| Grouper |
1979 | 120 | 2,100 | 150,000 | U.S. Gulf of Mexico | 97 | ||||||
| Sea Robin |
1984 | 120 | 1,507 | 110,000 | U.S. Gulf of Mexico | 98 | ||||||
| Tilapia |
1976 | 120 | 1,280 | 110,000 | U.S. Gulf of Mexico | 97 | ||||||
| Charlie Cobb |
1980 | 120 | 2,000 | 100,000 | Nigeria | 210 | ||||||
| Durwood Speed |
1980 | 120 | 2,000 | 100,000 | Nigeria | 210 | ||||||
| James Choat |
1980 | 120 | 2,000 | 100,000 | Nigeria | 210 | ||||||
| Solefish |
1978 | 120 | 2,000 | 100,000 | Nigeria | 229 | ||||||
| Tigerfish |
1980 | 120 | 2,000 | 100,000 | Nigeria | 210 | ||||||
| Zoal Albrecht |
1982 | 120 | 2,000 | 100,000 | Nigeria | 213 | ||||||
| Barracuda |
1979 | 105 | 1,648 | 110,000 | U.S. Gulf of Mexico | 93 | ||||||
| Carp |
1978 | 105 | 1,648 | 110,000 | U.S. Gulf of Mexico | 98 | ||||||
| Cobia |
1978 | 105 | 1,648 | 110,000 | U.S. Gulf of Mexico | 94 | ||||||
| Dolphin |
1980 | 105 | 1,648 | 110,000 | U.S. Gulf of Mexico | 97 | ||||||
| Herring |
1979 | 105 | 1,648 | 110,000 | U.S. Gulf of Mexico | 97 | ||||||
| Marlin |
1979 | 105 | 1,648 | 110,000 | U.S. Gulf of Mexico | 97 | ||||||
| Corina |
1974 | 105 | 953 | 100,000 | U.S. Gulf of Mexico | 98 | ||||||
| Pike |
1980 | 105 | 1,360 | 130,000 | U.S. Gulf of Mexico | 92 | ||||||
| Remora |
1976 | 105 | 1,179 | 100,000 | U.S. Gulf of Mexico | 94 | ||||||
| Wolffish |
1977 | 105 | 1,044 | 100,000 | U.S. Gulf of Mexico | 99 | ||||||
| Seabream |
1980 | 105 | 1,140 | 100,000 | U.S. Gulf of Mexico | 92 | ||||||
| Sea Trout |
1978 | 105 | 1,500 | 100,000 | U.S. Gulf of Mexico | 97 | ||||||
| Tarpon |
1979 | 105 | 1,648 | 110,000 | U.S. Gulf of Mexico | 97 | ||||||
| Palometa |
1972 | 105 | 780 | 100,000 | U.S. Gulf of Mexico | 99 | ||||||
| Jackfish |
1978 | 105 | 1,648 | 110,000 | U.S Gulf of Mexico | 99 | ||||||
| Bonefish |
1977 | 105 | 1,344 | 90,000 | Nigeria | 97 | ||||||
| Croaker |
1977 | 105 | 1,344 | 72,000 | Nigeria | 82 | ||||||
| Gemfish |
1978 | 105 | 2,000 | 100,000 | Ghana | 223 | ||||||
| Tapertail |
1980 | 105 | 1,392 | 100,000 | Nigeria | 100 |
Our liftboats are self-propelled, self-elevating vessels with a large open deck space, which provides a versatile, mobile and stable platform to support a broad range of offshore maintenance and construction services throughout the life of an oil or natural gas well. Once a liftboat is in position, typically adjacent to an offshore production platform or well, third-party service providers perform:
•
production platform construction, inspection, maintenance and removal; •
well intervention and workover; •
well plug and abandonment; and •
pipeline installation and maintenance. Unlike larger and more costly alternatives, such as jackup rigs or construction barges, our liftboats are self-propelled and can quickly reposition at a worksite or move to another location without third-party assistance. Our liftboats are ideal working platforms to support platform and pipeline inspection and maintenance tasks because of their ability to maneuver efficiently and support multiple activities at different working heights. Diving operations may also be performed from our liftboats in connection with underwater inspections and repair. In addition, our liftboats provide an effective platform from which to perform well-servicing activities such as mechanical wireline, electrical wireline and coiled tubing operations. Technological advances, such as coiled tubing, allow more well-servicing procedures to be conducted from liftboats. Moreover, during both platform construction and removal, smaller platform components can be installed and removed more efficiently and at a lower cost using a liftboat crane and liftboat-based personnel than with a specialized construction barge or jackup rig.
The length of the legs is the principal measure of capability for a liftboat, as it determines the maximum water depth in which the liftboat can operate. The U.S. Coast Guard restricts the operation of liftboats to water depths less than 180 feet, so boats with longer leg lengths are useful primarily on taller platforms. Ten of our liftboats in the U.S. Gulf of Mexico have leg lengths of 190 feet or greater, which allows us to service approximately 83% of the 3,800 existing production platforms in the U.S. Gulf of Mexico. Liftboats are typically moved to a port during severe weather to avoid the winds and waves they would be exposed to in open water.
Competition
The shallow-water business is highly competitive. Drilling and liftboat contracts are traditionally short term in nature and are awarded on a competitive bid basis. Pricing is often the primary factor in determining which qualified contractor is awarded a job, although technical capability of service and equipment, unit availability, unit location, safety record and crew quality may also be considered. Many of our competitors in the shallow-water business have greater financial and other resources than we have and may be better able to make technological improvements to existing equipment or replace equipment that becomes obsolete.
Customers
Our customers primarily include major integrated energy companies and independent oil and natural gas operators. Chevron Corporation accounted for 35% of our consolidated revenues for the year ended December 31, 2006. Chevron and Bois d’Arc Energy accounted for 31% and 12%, respectively, of our consolidated revenues for the year ended December 31, 2005 and 31% and 15%, respectively, of our consolidated revenues for the period from inception (July 27, 2004) to December 31, 2004, which we refer to as the “period from inception to December 31, 2004”. No other customer accounted for more than 10% of our consolidated revenues in any period.
Contracts
Our contracts to provide services are individually negotiated and vary in their terms and provisions. We obtain most of our contracts through competitive bidding against other contractors. In general, dayrate drilling contracts provide for payment on a dayrate basis, with higher rates while the unit is operating and lower rates for periods of mobilization or when operations are interrupted or restricted by equipment breakdowns, adverse weather conditions or other factors.
A dayrate drilling contract generally extends over a period of time covering the drilling of a single well or group of wells or covering a stated term. These contracts typically can be terminated by the customer under various circumstances such as the loss or destruction of the drilling unit or the suspension of drilling operations for a specified period of time as a result of a breakdown of major equipment. In addition, customers generally have the right to terminate our contracts with little or no prior notice, and without penalty. The contract term in some instances may be extended by the customers exercising options for the drilling of additional wells or for an
additional term, or by exercising a right of first refusal. To date, most of our contracts in the U.S. Gulf of Mexico have been on a short-term basis of less than one year. Our contracts in international locations have been longer-term, with contract terms of up to two years.
A liftboat contract generally is based on a flat dayrate for the vessel and crew. Our liftboat dayrates are determined by prevailing market rates, vessel availability and historical rates paid by the specific customer. Under most of our liftboat contracts, we receive a variable rate for reimbursement of costs such as catering, fuel, oil, rental equipment, crane overtime and other items. Liftboat contracts in the U.S. Gulf of Mexico generally are for shorter terms than are drilling contracts. Some of our liftboat contracts in West Africa have initial contract terms of one year, whereas others are for shorter terms similar to the U.S. Gulf of Mexico contracts.
On larger contracts, particularly outside the United States, we may be required to arrange for the issuance of a variety of bank guarantees, performance bonds or letters of credit. The issuance of such guarantees may be a condition of the bidding process imposed by our customers for work outside the United States. The customer would have the right to call on the guarantee, bond or letter of credit in the event we default in the performance of the services. The guarantees, bonds and letters of credit would typically expire after we complete the services.
In certain countries, we also may be required to post bonds or letters of credit in order to temporarily import equipment, including our drilling rigs and liftboats, into the country. These temporary importation bonds would secure the amount of the import duty that is payable if the equipment fails to leave the country within the time frame permitted by the local jurisdiction for the temporary importation of equipment. When the equipment is exported out of the local jurisdiction, the bond or letter of credit generally would be returned to us. Currently, we have arranged for a bank in Nigeria to issue a letter of credit valued at approximately $430,000, at December 31, 2006, with respect to our liftboats in that country, and we have executed a counter-indemnity agreement with the Nigerian bank for any liability incurred by the bank under that letter of credit.
Employees
As of December 31, 2006, we had approximately 920 employees. We require skilled personnel to operate and provide technical services and support for our rigs and liftboats. As a result, we conduct extensive personnel recruiting, training and safety programs. As of December 31, 2006, certain of our employees in West Africa were working under collective bargaining agreements. Additionally, efforts have been made from time to time to unionize portions of the offshore workforce in the U.S. Gulf of Mexico. We believe that our employee relations are good.
Insurance
We maintain insurance coverage that includes coverage for physical damage, third-party liability, maritime employers liability, general liability, vessel pollution and other coverages. Our primary marine package provides for hull and machinery coverage for our rigs and liftboats up to a scheduled value for each asset. The maximum coverage for these assets is $580.0 million; however, coverage for U.S. Gulf of Mexico named windstorm damage is subject to an annual aggregate limit on liability of $75.0 million. The policies are subject to deductibles and other conditions. Deductibles for events that are not U.S. Gulf of Mexico named windstorm events are $1.5 million per occurrence for drilling rigs, and range from $250,000 to $1.0 million per occurrence for liftboats, depending on the insured value of the particular vessel. The deductibles for drilling rigs in a U.S. Gulf of Mexico named windstorm event are $1.5 million per rig for each occurrence plus an additional $5.0 million for each U.S. Gulf of Mexico named windstorm. The protection and indemnity coverage under the primary marine package has a $5.0 million limit per occurrence with excess liability coverage up to $100.0 million. The primary marine package also provides coverage for cargo and charterer’s legal liability. Vessel pollution is covered under a Water Quality Insurance Syndicate policy. In addition to the marine package, we have separate policies providing coverage for general domestic liability, employer’s liability, domestic auto liability and non-owned aircraft liability, with customary deductibles and coverage. Insurance premiums and fees
for coverage of our operations, assets and personnel base (as the same existed at June 30, 2006) are expected to be approximately $23.9 million for the twelve-month policy period ending July 1, 2007, an increase of approximately 151% over the previous policy period on an annualized basis. We are self-insured for the deductible portion of our insurance coverage.
We believe that our insurance coverage is customary for the industry and adequate for our business. However, there are risks that such insurance will not adequately protect us against or will not be available to cover all the liability from all of the consequences and hazards we may encounter in our operations.
Regulation
Our operations are affected in varying degrees by governmental laws and regulations. Our industry is dependent on demand for services from the oil and natural gas industry and, accordingly, is also affected by changing tax and other laws relating to the energy business generally. We are also subject to the jurisdiction of the U.S. Coast Guard, the National Transportation Safety Board, the U.S. Customs and Border Protection Service, as well as private industry organizations such as the American Bureau of Shipping. The Coast Guard and the National Transportation Safety Board set safety standards and are authorized to investigate vessel accidents and recommend improved safety standards, and the U.S. Customs Service is authorized to inspect vessels at will. Coast Guard regulations also require annual inspections and periodic drydock inspections or special examinations of our vessels.
The shorelines and shallow water areas of the U.S. Gulf of Mexico are ecologically sensitive. Heightened environmental concerns in these areas have led to higher drilling costs, a more difficult and lengthy well permitting process and, in general, have adversely affected drilling decisions of oil and natural gas companies. In the United States, regulations applicable to our operations include regulations that require us to obtain and maintain specified permits or governmental approvals, control the discharge of materials into the environment, require removal and cleanup of materials that may harm the environment or otherwise relate to the protection of the environment. For example, as an operator of mobile offshore units in navigable U.S. waters and some offshore areas, we may be liable for damages and costs incurred in connection with oil spills or other unauthorized discharges of chemicals or wastes resulting from or related to those operations. Laws and regulations protecting the environment have become more stringent and may in some cases impose strict liability, rendering a person liable for environmental damage without regard to negligence or fault on the part of such person. Some of these laws and regulations may expose us to liability for the conduct of or conditions caused by others or for acts which were in compliance with all applicable laws at the time they were performed. The application of these requirements or the adoption of new or more stringent requirements could have a material adverse effect on our financial condition and results of operations.
The U.S. Federal Water Pollution Control Act of 1972, commonly referred to as the Clean Water Act, prohibits the discharge of specified substances into the navigable waters of the United States without a permit. The regulations implementing the Clean Water Act require permits to be obtained by an operator before specified exploration activities occur. Offshore facilities must also prepare plans addressing spill prevention control and countermeasures. Violations of monitoring, reporting and permitting requirements can result in the imposition of civil and criminal penalties. A September 2006 United States district court ruling is expected to result in certain of our vessels being required to obtain Clean Water Act permits for the discharge of ballast water. Under current Clean Water Act regulations, our vessels are exempt from such permitting requirements; however, in Northwest Environmental Advocates v. EPA , the federal district court in California ruled that it will vacate the exemption on September 30, 2008. Prior to this date, EPA will need to take action to regulate ballast water discharges. As a result, owners and operators of vessels will be required to comply with the regulations ultimately promulgated by EPA or face penalties. In addition to this federal development, some states have begun regulating ballast water discharges. We expect to incur certain costs to obtain Clean Water Act permits for certain of our vessels when the federal permitting exemption goes away or if states that have jurisdiction over our operations regulate ballast water discharges. Because we do not yet know what ballast water requirements will be imposed, we cannot
estimate the potential financial impact at this time. However, we believe that any financial impacts resulting from the vacation of the permitting exemption and the implementation of federal and possible state regulation of ballast water discharges will not be material.
The U.S. Oil Pollution Act of 1990 (“OPA”) and related regulations impose a variety of requirements on “responsible parties” related to the prevention of oil spills and liability for damages resulting from such spills. Few defenses exist to the liability imposed by OPA, and the liability could be substantial. Failure to comply with ongoing requirements or inadequate cooperation in the event of a spill could subject a responsible party to civil or criminal enforcement action. OPA also requires owners and operators of all vessels over 300 gross tons to establish and maintain with the U.S. Coast Guard evidence of financial responsibility sufficient to meet their potential liabilities under OPA. The 2006 amendments to OPA require evidence of financial responsibility for a vessel over 300 gross tons in the amount the greater of $950 per gross ton or $800,000. Under OPA, an owner or operator of a fleet of vessels is required only to demonstrate evidence of financial responsibility in an amount sufficient to cover the vessel in the fleet having the greatest maximum liability under OPA. Vessel owners and operators may evidence their financial responsibility by showing proof of insurance, surety bond, self-insurance or guarantee. We have obtained the necessary OPA financial assurance certifications for each of our vessels subject to such requirements.
The Coast Guard and Maritime Transportation Act of 2004 (the “CGMTA”) amended OPA to require the owner or operator of any non-tank vessel of 400 gross tons or more that carries oil of any kind as a fuel for main propulsion to prepare and submit a response plan that covers each applicable vessel by August 8, 2005. For vessels that have International Tonnage Certificates, gross tonnage is based on the certificate, which may vary from the standard U.S. gross tonnage for the vessel reflected in our liftboat table above. The vessel response plan must include detailed information on actions to be taken by vessel personnel to prevent or mitigate any discharge or substantial threat of discharge. We submitted the required plans to the Coast Guard prior to the August 2005 deadline.
The U.S. Outer Continental Shelf Lands Act authorizes regulations relating to safety and environmental protection applicable to lessees and permittees operating on the outer continental shelf. Included among these are regulations that require the preparation of spill contingency plans and establish air quality standards for certain pollutants, including particulate matter, volatile organic compounds, sulfur dioxide, carbon monoxide and nitrogen oxides. Specific design and operational standards may apply to outer continental shelf vessels, rigs, platforms, vehicles and structures. Violations of lease conditions or regulations related to the environment issued pursuant to the Outer Continental Shelf Lands Act can result in substantial civil and criminal penalties, as well as potential court injunctions curtailing operations and canceling leases. Such enforcement liabilities can result from either governmental or citizen prosecution.
The U.S. Comprehensive Environmental Response, Compensation, and Liability Act, also known as CERCLA or the “Superfund” law, imposes liability without regard to fault or the legality of the original conduct on some classes of persons that are considered to have contributed to the release of a “hazardous substance” into the environment. These persons include the owner or operator of a facility where a release occurred, the owner or operator of a vessel from which there is a release, and companies that disposed or arranged for the disposal of the hazardous substances found at a particular site. Persons who are or were responsible for releases of hazardous substances under CERCLA may be subject to joint and several liability for the cost of cleaning up the hazardous substances that have been released into the environment and for damages to natural resources. Prior owners and operators are also subject to liability under CERCLA. It is also not uncommon for third parties to file claims for personal injury and property damage allegedly caused by the hazardous substances released into the environment.
In recent years, a variety of initiatives intended to enhance vessel security were adopted to address terrorism risks. In October 2003, the U.S. Coast Guard finalized regulations required to implement the Maritime Transportation and Security Act of 2002. These regulations required, among other things, the development of vessel security plans and on-board installation of automatic information systems, or AIS, to enhance
vessel-to-vessel and vessel-to-shore communications. We believe that our vessels are in substantial compliance with all vessel security regulations.
Although significant capital expenditures may be required to comply with these governmental laws and regulations, such compliance has not materially adversely affected our earnings or competitive position. We believe that we are currently in compliance in all material respects with the environmental regulations to which we are subject.
Some operations are conducted in the U.S. domestic trade, which is governed by the coastwise laws of the United States. The U.S. coastwise laws reserve marine transportation, including liftboat services, between points in the United States to vessels built in and documented under the laws of the United States and owned and manned by U.S. citizens. Generally, an entity is deemed a U.S. citizen for these purposes so long as:
•
it is organized under the laws of the United States or a state; •
each of its president or other chief executive officer and the chairman of its board of directors is a U.S. citizen; •
no more than a minority of the number of its directors necessary to constitute a quorum for the transaction of business are non-U.S. citizens; and •
at least 75% of the interest and voting power in the corporation is held by U.S. citizens free of any trust, fiduciary arrangement or other agreement, arrangement or understanding whereby voting power may be exercised directly or indirectly by non-U.S. citizens. Because we could lose our privilege of operating our liftboats in the U.S. coastwise trade if non-U.S. citizens were to own or control in excess of 25% of our outstanding interests, our certificate of incorporation restricts foreign ownership and control of our common stock to not more than 20% of our outstanding interests. Two of our liftboats rely on an exemption from coastwise laws in order to operate in the U.S. Gulf of Mexico. If these liftboats were to lose this exemption, we would be unable to use them in the U.S. Gulf of Mexico and would be forced to seek opportunities for them in international locations.
The United States is one of approximately 165 member countries to the International Maritime Organization (“IMO”), a specialized agency of the United Nations that is responsible for developing measures to improve the safety and security of international shipping and to prevent marine pollution from ships. Among the various international conventions negotiated by the IMO is the International Convention for the Prevention of Pollution from Ships (“MARPOL”). MARPOL imposes environmental standards on the shipping industry relating to oil spills, management of garbage, the handling and disposal of noxious liquids, harmful substances in packaged forms, sewage and air emissions.
Annex VI to MARPOL, which became effective internationally on May 19, 2005, sets limits on sulfur dioxide and nitrogen oxide emissions from ship exhausts and prohibits deliberate emissions of ozone depleting substances. Annex VI also imposes a global cap on the sulfur content of fuel oil and allows for specialized areas to be established internationally with more stringent controls on sulfur emissions. For vessels over 400 gross tons, platforms and drilling rigs, Annex VI imposes various survey and certification requirements. For this purpose, gross tonnage is based on the International Tonnage Certificate for the vessel, which may vary from the standard U.S. gross tonnage for the vessel reflected in our liftboat table above. The United States has not yet ratified Annex VI. Any vessels we operate internationally would, however, become subject to the requirements of Annex VI in those countries that have implemented its provisions. We believe the rigs we currently offer for international projects are generally exempt from the more costly compliance requirements of Annex VI and the liftboats we currently offer for international projects are generally exempt from or otherwise substantially comply with those requirements. Accordingly, we do not anticipate incurring significant costs to comply with Annex VI in the near term. If the United States does elect to ratify Annex VI in the future, we could be required to incur potentially significant costs to bring certain of our vessels into compliance with these requirements.
Available Information
We file annual, quarterly and special reports, proxy statements and other information with the Securities and Exchange Commission. These filings, and any amendments to these filings, are available free of charge through our internet website at www.herculesoffshore.com as soon as reasonably practicable after we electronically file that material with, or furnish it to, the SEC. These filings also are available at the SEC’s internet website at www.sec.gov . Information contained on our website is not part of this annual report.
Segment and Geographic Information
Information with respect to revenues, operating income and total assets attributable to our segments and revenues and long-lived assets by geographic areas of operations is presented in Note 12 of our Notes to Consolidated Financial Statements included in Item 8 of this annual report. Additional information about our segments, as well as information with respect to the impact of seasonal weather patterns on domestic operations, is presented in “Management’s Discussion and Financial Analysis of Financial Condition and Results of Operations” in Item 7 of this annual report.
Item 1A. Risk Factors
Our business depends on the level of activity in the oil and natural gas industry, which is significantly affected by volatile oil and natural gas prices.
Our business depends on the level of activity in oil and natural gas exploration, development and production in the U.S. Gulf of Mexico and internationally, and in particular, the level of exploration, development and production expenditures of our customers. Oil and natural gas prices and our customers’ expectations of potential changes in these prices significantly affect this level of activity. In particular, changes in the price of natural gas materially affect our operations because drilling in the shallow-water U.S. Gulf of Mexico is primarily focused on developing and producing natural gas reserves. Oil and natural gas prices are extremely volatile. On December 13, 2005 natural gas prices were $15.39 per MMBtu at the Henry Hub. They subsequently declined sharply, reaching a low of $3.63 per MMBtu at the Henry Hub on September 29, 2006. As of February 15, 2007, the closing price of natural gas at the Henry Hub was $8.92 per MMBtu. Oil prices increased through 2005 and the first several months of 2006, with the spot price for West Texas intermediate crude increasing from $61.04 per bbl as of January 1, 2006, to a recent peak of $77.03 on July 14, 2006 before declining to $57.99 as of February 15, 2007. Commodity prices are affected by numerous factors, including the following:
•
the demand for oil and natural gas in the United States and elsewhere; •
the cost of exploring for, producing and delivering oil and natural gas; •
economic and weather conditions in the United States and elsewhere; •
expectations regarding future prices; •
advances in exploration, development and production technology; •
the ability of the Organization of Petroleum Exporting Countries, commonly called “OPEC,” to set and maintain production levels and pricing; •
the level of production in non-OPEC countries; •
the policies of various governments regarding exploration and development of their oil and natural gas reserves; and •
the worldwide military and political environment, uncertainty or instability resulting from an escalation or additional outbreak of armed hostilities or other crises in the Middle East and other significant oil and natural gas producing regions or further acts of terrorism in the United States, or elsewhere. Depending on the market prices of oil and natural gas, companies exploring for oil and natural gas may cancel or curtail their drilling programs, thereby reducing demand for drilling services. Any reduction in the demand for drilling and liftboat services may materially erode dayrates and utilization rates for our units, which would adversely affect our financial condition and results of operations.
A significant portion of our business is conducted in the shallow-water U.S. Gulf of Mexico, where market conditions are highly cyclical and subject to rapid change. The mature nature of this region could result in less drilling activity in the area, thereby reducing demand for our services.
Historically, the offshore service industry has been highly cyclical, with periods of high demand and high dayrates often followed by periods of low demand and low dayrates. Periods of low demand intensify the competition in the industry and often result in rigs or liftboats being idle for long periods of time. We may be required to idle rigs or liftboats or enter into lower dayrate contracts in response to market conditions in the future. In the U.S. Gulf of Mexico, contracts are generally short term, and oil and natural gas companies tend to respond quickly to upward or downward changes in prices. Due to the short-term nature of most of our contracts, changes in market conditions can quickly affect our business. In addition, customers generally have the right to terminate our contracts with little or no notice, and without penalty. As a result of the cyclicality of our industry, we expect our results of operations to be volatile.
In addition, the U.S. Gulf of Mexico, and in particular the shallow-water region of the U.S. Gulf of Mexico, is a mature oil and natural gas production region that has experienced substantial seismic survey and exploration activity for many years. Because a large number of oil and natural gas prospects in this region have already been drilled, additional prospects of sufficient size and quality could be more difficult to identify. According to the U.S. Energy Information Administration, the average size of the U.S. Gulf of Mexico discoveries has declined significantly since the early 1990s. In addition, the amount of natural gas production in the shallow-water U.S. Gulf of Mexico has declined over the last decade. Moreover, oil and natural gas companies may be unable to obtain financing necessary to drill prospects in this region. The decrease in the size of oil and natural gas prospects, the decrease in production or the failure to obtain such financing may result in reduced drilling activity in the U.S. Gulf of Mexico and reduced demand for our services.
Our industry is highly competitive, with intense price competition. Our inability to compete successfully may reduce our profitability.
Our industry is highly competitive. Our contracts are traditionally awarded on a competitive bid basis. Pricing is often the primary factor in determining which qualified contractor is awarded a job. Dayrates also depend on the supply of rigs and vessels. Generally, excess capacity puts downward pressure on dayrates. Excess capacity can occur when newly constructed rigs and vessels enter service, when rigs and vessels are mobilized between geographic areas and when non-marketed rigs and vessels are re-activated. Many other companies in the drilling industry are larger than we are and have more diverse fleets, or fleets with generally higher specifications, and greater resources than we have. In addition, the competitive environment has intensified as recent mergers among oil and natural gas companies have reduced the number of available customers. Finally, competition among drilling and marine service providers is also affected by each provider’s reputation for safety and quality. We may not be able to maintain our competitive position, and we believe that competition for contracts will continue to be intense in the foreseeable future. Our inability to compete successfully may reduce our profitability.
The terms of some of our dayrate drilling contracts may limit our ability to benefit from increasing dayrates in an improving market.
Although historically our offshore drilling contracts in the U.S. Gulf of Mexico generally have been on a short-term basis, from time to time, and particularly in international locations, we may enter into longer term contracts. The duration of offshore drilling contracts is generally determined by market demand and the strategies
of the offshore drilling contractors and their customers. In periods of rising demand for offshore rigs, a drilling contractor generally would prefer to enter into well-to-well or other shorter term contracts that would allow the contractor to profit from increasing dayrates, while customers with reasonably definite drilling programs would typically prefer longer term contracts in order to maintain dayrates at a consistent level. Conversely, in periods of decreasing demand for offshore rigs, a drilling contractor generally would prefer longer term contracts to preserve dayrates and utilization, while customers generally would prefer well-to-well contracts or other shorter term contracts that would allow the customer to benefit from the decreasing dayrates. Our inability to fully benefit from increasing dayrates in an improving market, due to the long-term nature of some of our contracts, may adversely affect our profitability.
Our drilling and liftboat contracts may be terminated due to events beyond our control.
Our customers may terminate some of our drilling and liftboat contracts if the unit is destroyed or lost or if operations are suspended for a specified period of time as a result of a breakdown of our equipment, or due to events beyond the control of either party. In some cases, our drilling contracts and liftboat contracts may be terminable upon specified advance notice from the customer and, after some termination payment (which would not fully compensate us for the loss of the contract). Early termination of a contract may result in a rig or liftboat being idle for an extended period of time, which could adversely affect our financial position, results of operations and cash flows.
Our business involves numerous operating hazards, and our insurance may not be adequate to cover our losses.
Our operations are subject to the usual hazards inherent in the drilling and operation of oil and natural gas wells, such as blowouts, reservoir damage, loss of production, loss of well control, punchthroughs, craterings, fires and pollution. The occurrence of these events could result in the suspension of drilling or production operations, claims by the operator, severe damage to or destruction of the equipment involved and injury or death to rig or liftboat personnel. We may also be subject to personal injury and other claims of rig or liftboat personnel as a result of our drilling and liftboat operations. Operations also may be suspended because of machinery breakdowns, abnormal operating conditions, failure of subcontractors to perform or supply goods or services and personnel shortages.
In addition, our drilling and liftboat operations are subject to perils peculiar to marine operations, including capsizing, grounding, collision and loss or damage from severe weather. Tropical storms, hurricanes and other severe weather prevalent in the U.S. Gulf of Mexico, such as Hurricane Rita in September 2005, Hurricane Katrina in August 2005 and Hurricane Ivan in September 2004, could have a material adverse effect on our operations. During such severe storms, our liftboats typically leave location and cease to earn a full dayrate. Under U.S. Coast Guard guidelines, the liftboats cannot return to work until the weather improves and seas are less than five feet.
Damage to the environment could result from our operations, particularly through oil spillage or extensive uncontrolled fires. We may also be subject to property, environmental and other damage claims by oil and natural gas companies and other businesses operating offshore and in coastal areas. Our insurance policies and contractual rights to indemnity may not adequately cover losses, and we may not have insurance coverage or rights to indemnity for all risks. Moreover, pollution and environmental risks generally are not totally insurable.
As a result of a number of recent catastrophic events like Hurricanes Ivan, Katrina and Rita, insurance underwriters increased insurance premiums for many of the coverages historically maintained and issued general notices of cancellation and significant changes for a wide variety of insurance coverages. The oil and natural gas industry suffered extensive damage from Hurricanes Ivan, Katrina and Rita. As a result, when we renewed our coverages in July 2006, our insurance costs increased significantly, our deductibles increased and our coverage for named windstorm damage was restricted. Any additional severe storm activity in the energy producing areas
of the U.S. Gulf of Mexico in the future could cause insurance underwriters to no longer insure U.S. Gulf of Mexico assets against weather-related damage. A number of our customers that produce oil and natural gas have previously maintained business interruption insurance for their production. This insurance may cease to be available in the future, which could adversely impact our customers’ business prospects in the U.S. Gulf of Mexico and reduce demand for our services.
If a significant accident or other event resulting in damage to our rigs or liftboats, including severe weather, terrorist acts, war, civil disturbances, pollution or environmental damage, occurs and is not fully covered by insurance or a recoverable indemnity from a customer, it could adversely affect our financial condition and results of operations. Moreover, we may not be able to maintain adequate insurance in the future at rates we consider reasonable or be able to obtain insurance against certain risks.
We are subject to additional political, economic, and other uncertainties as our international operations have expanded.
An element of our business strategy is to continue to expand into international oil and natural gas producing areas such as West Africa, the Middle East and the Asia-Pacific region, including India. We currently own or operate 17 liftboats operating offshore West Africa, including Nigeria, Ghana and Cameroon, one drilling rig operating offshore Qatar and another operating offshore India, and we are marketing Rig 26 to work in international markets following completion of the refurbishment and upgrade project on that rig. Our international operations are subject to a number of risks inherent in any business operating in foreign countries, including:
•
political, social and economic instability, war and acts of terrorism; •
potential seizure or nationalization of assets; •
damage to our equipment or violence directed at our employees; •
increased operating costs; •
complications associated with repairing and replacing equipment in remote locations; •
modification or renegotiation of contracts; •
limitations on insurance coverage, such as war risk coverage in certain areas; •
import-export quotas; •
confiscatory taxation; •
work stoppages, particularly in the Nigerian labor environment; •
restrictions on currency repatriations; •
currency fluctuations and devaluations; and •
other forms of government regulation and economic conditions that are beyond our control. As a result of our international expansion, including our acquisition of the liftboats owned and operated by Halliburton in West Africa (described under “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Recent Developments” in Item 7 of this annual report), the exposure to these risks will increase. Our financial condition and results of operations could be susceptible to adverse events beyond our control that may occur in the particular country or region in which we are active.
Many governments favor or effectively require that liftboat or drilling contracts be awarded to local contractors or require foreign contractors to employ citizens of, or purchase supplies from, a particular jurisdiction. These practices may result in inefficiencies or put us at a disadvantage when bidding for contracts against local competitors.
Our non-U.S. contract drilling and liftboat operations are subject to various laws and regulations in countries in which we operate, including laws and regulations relating to the equipment and operation of drilling units and liftboats, currency conversions and repatriation, oil and natural gas exploration and development, taxation of offshore earnings and earnings of expatriate personnel, the use of local employees and suppliers by foreign contractors and duties on the importation and exportation of units and other equipment. Governments in some foreign countries have become increasingly active in regulating and controlling the ownership of concessions and companies holding concessions, the exploration for oil and natural gas and other aspects of the oil and natural gas industries in their countries. In some areas of the world, this governmental activity has adversely affected the amount of exploration and development work done by major oil and natural gas companies and may continue to do so. Operations in less developed countries can be subject to legal systems which are not as mature or predictable as those in more developed countries, which can lead to greater uncertainty in legal matters and proceedings.
Due to our international operations, we may experience currency exchange losses where revenues are received and expenses are paid in nonconvertible currencies or where we do not hedge an exposure to a foreign currency. We may also incur losses as a result of an inability to collect revenues because of a shortage of convertible currency available to the country of operation, controls over currency exchange or controls over the repatriation of income or capital.
A small number of customers account for a significant portion of our revenues, and the loss of any of these customers could adversely affect our financial condition and results of operations.
We derive a significant amount of our revenue from a single major integrated energy company. Chevron Corporation represented approximately 35% and 31% of our consolidated revenues for the years ended December 31, 2006 and 2005, respectively, and 31% of our consolidated revenues for the period from inception to December 31, 2004. Three independent energy companies represented, in the aggregate, an additional 20% of our consolidated revenues for the year ended December 31, 2006. Our financial condition and results of operations will be materially adversely affected if Chevron curtails its activities in the U.S. Gulf of Mexico or Nigeria, terminates its contracts with us, fails to renew its existing contracts or refuses to award new contracts to us and we are unable to enter into contracts with new customers at comparable dayrates. In addition, the loss of any of our other significant customers could adversely affect our financial condition and results of operations.
Re-activation of non-marketed rigs or liftboats, mobilization of rigs or liftboats back to the U.S. Gulf of Mexico or new construction of rigs or liftboats could result in excess supply in the region, and our dayrates and utilization could be reduced.
If market conditions improve, inactive rigs and liftboats that are not currently being marketed could be reactivated to meet an increase in demand, and the 2005 hurricanes have resulted in the reactivation of a number of shallow-water rigs that have been cold-stacked for the past several years. Improved market conditions, particularly relative to other markets, could also lead to jackup rigs, other mobile offshore drilling units and liftboats being moved into the U.S. Gulf of Mexico or could lead to increased construction and upgrade programs by our competitors. Some of our competitors have already announced plans to upgrade existing equipment or build additional jackup rigs with higher specifications than our rigs. According to ODS-Petrodata, as of February 9, 2007, 66 jackup rigs had been ordered by industry participants, national oil companies and financial investors for delivery through 2009. As of February 9, 2007, we believe there were also 12 liftboats under construction or on order in the United States that may be used in the U.S. Gulf of Mexico. A significant increase in the supply of jackup rigs, other mobile offshore drilling units or liftboats could adversely affect both our utilization and dayrates.
Upgrade, refurbishment and repair projects are subject to risks, including delays and cost overruns, which could have an adverse impact on our available cash resources and results of operations.
We make upgrade, refurbishment and repair expenditures for our fleet from time to time, including when we acquire units or when repairs or upgrades are required by law, in response to an inspection by a governmental authority or when a unit is damaged. We recently completed upgrades to Rig 16 and Rig 31 , and we are currently upgrading and refurbishing Rig 26 . We expect to spend a total of approximately $19.9 million in 2007 to refurbish and upgrade our rigs and liftboats.
Upgrade, refurbishment and repair projects are subject to the risks of delay or cost overruns inherent in any large construction project, including costs or delays resulting from the following:
•
unexpectedly long delivery times for key equipment and materials; •
shortages of skilled labor and other shipyard personnel necessary to perform the work; •
unforeseen increases in the cost of equipment, labor and raw materials, particularly steel; •
unforeseen engineering problems; •
unanticipated actual or purported change orders; •
work stoppages; •
financial or other difficulties at shipyards; •
adverse weather conditions; and •
inability to obtain required permits or approvals. We have experienced delays and costs overruns in the refurbishment of Rig 26 due to certain of the factors listed above. Further delays could put at risk our planned arrangements to transport the rig to an international location on schedule, and could also jeopardize our ability to commence operations on schedule. We may decide to move the rig and complete the refurbishments in the area where we anticipate operating the rig, whether or not we have then obtained a commitment from an operator to reimburse us for the expense incurred in moving the rig to that area.
Significant cost overruns or delays would adversely affect our financial condition and results of operations. Additionally, capital expenditures for rig upgrade and refurbishment projects could exceed our planned capital expenditures.
Our jackup rigs are at a relative disadvantage to higher specification rigs, which may be more likely to obtain contracts than lower specification jackup rigs such as ours.
Many of our competitors have jackup fleets with generally higher specification rigs than those in our jackup fleet. Particularly during market downturns when there is decreased rig demand, higher specification rigs may be more likely to obtain contracts than lower specification jackup rigs such as ours. In addition, higher specification rigs may be more adaptable to different operating conditions and therefore have greater flexibility to move to areas of demand in response to changes in market conditions. Because a majority of our rigs were designed specifically for drilling in the shallow-water U.S. Gulf of Mexico, our ability to move them to other regions in response to changes in market conditions is limited. Furthermore, in recent years, an increasing amount of exploration and production expenditures have been concentrated in deepwater drilling programs and deeper formations, including deep natural gas prospects, requiring higher specification jackup rigs, semisubmersible drilling rigs or drillships. This trend is expected to continue and could result in a decline in demand for lower specification jackup rigs like ours, which could have an adverse impact on our financial condition and results of operations.
Our acquisition strategy may be unsuccessful if we incorrectly predict operating results, are unable to identify and complete future acquisitions, fail to successfully integrate acquired assets or businesses we acquire, or are unable to obtain financing for acquisitions on acceptable terms.
The acquisition of assets or businesses that are complementary to our drilling and liftboat operations is an important component of our business strategy. We believe that acquisition opportunities may arise from time to time, and any such acquisition could be significant. At any given time, discussions with one or more potential sellers may be at different stages. However, any such discussions may not result in the consummation of an acquisition transaction and we may not be able to identify or complete any acquisitions. Any such transactions could involve the payment by us of a substantial amount of cash, the incurrence of a substantial amount of debt or the issuance of a substantial amount of equity. We cannot predict the effect, if any, that any announcement or consummation of an acquisition would have on the trading price of our common stock.
Any future acquisitions could present a number of risks, including:
•
the risk of incorrect assumptions regarding the future results of acquired operations or assets or expected cost reductions or other synergies expected to be realized as a result of acquiring operations or assets; •
the risk of failing to integrate the operations or management of any acquired operations or assets successfully and timely; and •
the risk of diversion of management’s attention from existing operations or other priorities. In addition, we may not be able to obtain, on terms we find acceptable, sufficient financing that may be required for any such acquisition or investment.
If we are unsuccessful in completing acquisitions of other operations or assets, our financial condition could be adversely affected and we may be unable to implement an important component of our business strategy successfully. In addition, if we are unsuccessful in integrating our acquisitions in a timely and cost-effective manner, our financial condition and results of operations could be adversely affected.
Failure to employ a sufficient number of skilled workers or an increase in labor costs could hurt our operations.
We require skilled personnel to operate and provide technical services and support for our rigs and liftboats. In periods of increasing activity and when the number of operating units in our areas of operation increases, either because of new construction, re-activation of idle units or the mobilization of units into the region, shortages of qualified personnel could arise, creating upward pressure on wages and difficulty in staffing our units. In addition, our ability to expand our operations depends in part upon our ability to increase the size of our skilled labor force. Moreover, our labor costs increased significantly in 2005 and in 2006 and we expect this trend to continue but at a slower pace in 2007.
Although our domestic employees are not covered by a collective bargaining agreement, the marine services industry has been targeted by maritime labor unions in an effort to organize U.S. Gulf of Mexico employees. A significant increase in the wages paid by competing employers or the unionization of our U.S. Gulf of Mexico employees could result in a reduction of our skilled labor force, increases in the wage rates that we must pay, or both. If either of these events were to occur, our capacity and profitability could be diminished and our growth potential could be impaired.
Governmental laws and regulations may add to our costs or limit drilling activity and liftboat operations.
Our operations are affected in varying degrees by governmental laws and regulations. The industries in which we operate are dependent on demand for services from the oil and natural gas industry and, accordingly,
are also affected by changing tax and other laws relating to the energy business generally. We are also subject to the jurisdiction of the United States Coast Guard, the National Transportation Safety Board and the United States Customs and Border Protection Service, as well as private industry organizations such as the American Bureau of Shipping. We may be required to make significant capital expenditures to comply with laws and the applicable regulations and standards of those authorities and organizations. Moreover, the cost of compliance could be higher than anticipated. Similarly, our international operations are subject to certain international conventions and the laws, regulations and standards of other foreign countries in which we operate. It is also possible that these conventions, laws, regulations and standards may in the future add significantly to our operating costs or limit our activities.
In addition, as our vessels age, the costs of drydocking the vessels in order to comply with governmental laws and regulations and to maintain their class certifications are expected to increase, which could have an adverse effect on our financial condition and results of operations.
Compliance with or a breach of environmental laws can be costly and could limit our operations.
Our operations are subject to regulations that require us to obtain and maintain specified permits or other governmental approvals, control the discharge of materials into the environment, require the removal and cleanup of materials that may harm the environment or otherwise relate to the protection of the environment. For example, as an operator of mobile offshore drilling units and liftboats in navigable U.S. waters and some offshore areas, we may be liable for damages and costs incurred in connection with oil spills or other unauthorized discharges of chemicals or wastes resulting from those operations. Laws and regulations protecting the environment have become more stringent in recent years, and may in some cases impose strict liability, rendering a person liable for environmental damage without regard to negligence or fault on the part of such person. Some of these laws and regulations may expose us to liability for the conduct of or conditions caused by others or for acts that were in compliance with all applicable laws at the time they were performed. The application of these requirements, the modification of existing laws or regulations or the adoption of new requirements, both in U.S. waters and internationally, could have a material adverse effect on our financial condition and results of operations.
Our business would be adversely affected if we failed to comply with the provisions of U.S. law on coastwise trade, or if those provisions were modified, repealed or waived.
We are subject to U.S. federal laws that restrict maritime transportation, including liftboat services, between points in the United States to vessels built and registered in the United States and owned and manned by U.S. citizens. We are responsible for monitoring the ownership of our common stock. If we do not comply with these restrictions, we would be prohibited from operating our liftboats in U.S. coastwise trade, and under certain circumstances we would be deemed to have undertaken an unapproved foreign transfer, resulting in severe penalties, including permanent loss of U.S. coastwise trading rights for our liftboats, fines or forfeiture of the liftboats.
During the past several years, interest groups have lobbied Congress to repeal these restrictions to facilitate foreign flag competition for trades currently reserved for U.S.-flag vessels under the federal laws. We believe that interest groups may continue efforts to modify or repeal these laws currently benefiting U.S.-flag vessels. If these efforts are successful, it could result in increased competition, which could adversely affect our results of operations.
Our debt could adversely affect our ability to operate our business and make it difficult to meet our debt service obligations.
As of December 31, 2006, we have total outstanding debt of approximately $93.3 million. This debt represents approximately 19.1% of our total capitalization. We have up to $75 million of available capacity under our revolving credit facility, under which we may continue to borrow to fund working capital or other needs in
the near term. Our debt and the limitations imposed on us by our existing or future debt agreements could have significant consequences on our business and future prospects, including the following:
•
we may not be able to obtain necessary financing in the future for working capital, capital expenditures, acquisitions, debt service requirements or other purposes; •
we may be exposed to risks inherent in interest rate fluctuations because our borrowings generally are at variable rates of interest, which would result in higher interest expense to the extent we have not hedged such risk in the event of increases in interest rates; and •
we could be more vulnerable in the event of a downturn in our business that would leave us less able to take advantage of significant business opportunities and to react to changes in our business and in market or industry conditions. Our ability to make payments on and to refinance our indebtedness and to fund planned capital expenditures will depend on our ability to generate cash in the future, which is subject to general economic, financial, competitive, legislative, regulatory and other factors that are beyond our control. Our future cash flows may be insufficient to meet all of our debt obligations and commitments, and any insufficiency could negatively impact our business. To the extent we are unable to repay our indebtedness as it becomes due or at maturity with cash on hand or from other sources, we will need to refinance our debt, sell assets or repay the debt with the proceeds from equity offerings. Additional indebtedness or equity financing may not be available to us in the future for the refinancing or repayment of existing indebtedness, and we may not be able to complete asset sales in a timely manner sufficient to make such repayments.
Our senior secured credit agreement imposes significant operating and financial restrictions, which may prevent us from capitalizing on business opportunities and taking some actions.
Our senior secured credit agreement imposes significant operating and financial restrictions on us. These restrictions limit our ability to:
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make investments and other restricted payments, including dividends; •
incur additional indebtedness; •
create liens; •
restrict dividend or other payments by our subsidiaries to us; •
sell our assets or consolidate or merge with or into other companies; •
engage in transactions with affiliates; and •
make capital expenditures. These limitations are subject to a number of important qualifications and exceptions. Our credit agreement also requires us to maintain a minimum fixed charge coverage ratio and maximum leverage ratio. These covenants may adversely affect our ability to finance our future operations and capital needs and to pursue available business opportunities. A breach of any of these covenants could result in a default in respect of the related debt. If a default were to occur, the relevant lenders could elect to declare the debt, together with accrued interest and other fees, immediately due and payable and proceed against any collateral securing that debt.
Because we have a limited operating history and we have not provided three full years of audited financial statements, you may not be able to evaluate our current business and future earnings prospects accurately.
We were formed in July 2004 to provide drilling and liftboat services to the oil and natural gas exploration and production industry. As a result, we have limited operating history upon which you can base an evaluation of our current business and our future earnings prospects.
In addition, this annual report includes audited financial statements only as of and for the years ended December 31, 2006 and 2005 and for the period from inception to December 31, 2004. We have acquired our fleet of jackup rigs and liftboats in a number of separate asset acquisitions since our formation in July 2004. We have not completed or provided in this annual report any stand-alone pre-acquisition financial statements for the assets we acquired in these transactions. As a result, and given our recent date of formation, we have not provided three full years of audited financial statements that normally would be provided in an annual report on Form 10-K.
We limit foreign ownership of our company, which could reduce the price of our common stock.
Our certificate of incorporation limits the percentage of outstanding common stock and other classes of capital stock that can be owned by non-United States citizens within the meaning of statutes relating to the ownership of U.S.-flagged vessels. Applying the statutory requirements applicable today, our certificate of incorporation provides that no more than 20% of our outstanding common stock may be owned by non-United States citizens and establishes mechanisms to maintain compliance with these requirements. These restrictions may have an adverse impact on the liquidity or market value of our common stock because holders may be unable to transfer our common stock to non-United States citizens. Any attempted or purported transfer of our common stock in violation of these restrictions will be ineffective to transfer such common stock or any voting, dividend or other rights in respect of such common stock.
Restrictions on the percentage ownership of our outstanding capital stock by non-U.S. citizens may subject the shares held by such non-U.S. citizens to restrictions, limitations and redemption.
Our certificate of incorporation provides that any transfer, or attempted or purported transfer, of any shares of our capital stock that would result in the ownership or control of in excess of 20% of our outstanding capital stock by one or more persons who are not U.S. citizens for purposes of U.S. coastwise shipping will be void and ineffective as against us. In addition, if at any time persons other than U.S. citizens own shares of our capital stock or possess voting power over any shares of our capital stock in excess of 20%, we may withhold payment of dividends, suspend the voting rights attributable to such shares and redeem such shares.
We have no plans to pay regular dividends on our common stock, so investors in our common stock may not receive funds without selling their shares .
We do not intend to declare or pay regular dividends on our common stock in the foreseeable future. Instead, we generally intend to invest any future earnings in our business. Subject to Delaware law, our board of directors will determine the payment of future dividends on our common stock, if any, and the amount of any dividends in light of any applicable contractual restrictions limiting our ability to pay dividends, our earnings and cash flows, our capital requirements, our financial condition, and other factors our board of directors deems relevant. Our senior secured credit agreement restricts our ability to pay dividends or other distributions on our equity securities. Accordingly, stockholders may have to sell some or all of their common stock in order to generate cash flow from their investment. Stockholders may not receive a gain on their investment when they sell our common stock and may lose the entire amount of their investment.
Provisions in our charter documents or Delaware law may inhibit a takeover, which could adversely affect the value of our common stock.
Our certificate of incorporation, bylaws and Delaware corporate law contain provisions that could delay or prevent a change of control or changes in our management that a stockholder might consider favorable. These provisions will apply even if the offer may be considered beneficial by some of our stockholders. If a change of control or change in management is delayed or prevented, the market price of our common stock could decline.
Item 1B. Unresolved Staff Comments
None.
