Seadrill Limited (SDRL) Q4 2015 Earnings Report, Transcript and Summary

Good afternoon and welcome to the Seadrill Limited Fourth Quarter 2015 Earnings Conference Call. All participants will be in listen-only-mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Mr. John Roche, Director of Investor Relations. Please go ahead.

Thanks, Nan. Hi, everyone, and good afternoon, and welcome to Seadrill Limited's fourth-quarter earnings conference call. With us today, we have Per Wullf, our Chief Executive Officer; Mark Morris, our Chief Financial Officer; Anton Dibowitz, our Chief Commercial Officer; and David Sneddon, our Chief Accounting Officer. Before we get started, I would like to remind everyone that much of the discussion today will not be based on historical fact, but rather consist of forward-looking statements, and are subject to uncertainty. We articulate some of the key items on page two of the presentation. For additional information and to view our SEC filings, please visit our website at seadrill.com. To kick off the discussion today, Per will take us through our fourth-quarter highlights, some updates on our progress thus far and key action items as we work through this challenging market. Following Per, Mark will then address our financial highlights and outlook. And finally, Anton will offer some color on the overall market. With that, I'd like to turn the call over to our CEO, Per Wullf. Per?

Yes, hi, everybody. During the fourth quarter, we experienced our best operations quarter of the year, by continuing to reduce our cost base. Safe and efficient operations are our bread and butter. And I'm very pleased at this time we been able to deliver on the fourth quarter and during 2015. A very big thanks to all of our people offshore and onshore, who continue to make Seadrill a great operator. These are tough times and your continued focus and dedication is world-class. I am also pleased on our ability to drive down costs throughout the year. Our cash savings therefore produced $832 million of cast savings last year significantly ahead of what we thought we would achieve at the beginning of the year. The $832 million was split as follows. 25% of it is sustainable cost reductions 35% was related to CapEx and long-term maintenance and the last 40% was due to a full stop in new build operations and spent. For 2016 we will continue these efforts and we expect to achieve an additional $260 million in cash savings relative to 2015. The $260 million in 2016 is split as follows. 75% of the identified 2016 is sustainable, the remainder 25% belonging to CapEx and long-term maintenance. At the Group level we achieved 95% economic utilization. As a reminder this figure excludes bonuses achieved including bonuses earned the Group achieved 97% economic utilization truly a great result. I am also pleased that we have been able to reach agreements with a number of shipyards to differ deliveries further adding to our liquidity in this challenging market. Since our last call we've made a special agreement with Jurong in relation to the West Rigel and related to DSME drillships, the West Aquila and West Libra to the second quarter of 2018 and the first quarter of 2019 respectively. We have deferred a total of $1.3 billion in CapEx. We continue to advance discussions with shipyards to differ deliveries further. At the heart of what we do, always is safe and efficient operations. Our top priorities for 2016 are to address our financing needs, continue to drive down costs and to further defer CapEx. Our 2016 liquidity is good and we aim to communicate our financing plans during the first half of the year which Mark will talk more about in a moment. Moving on to operational highlight for Seadrill Limited, as I mentioned in my opening remarks we had a strong operational quarter. For Seadrill Limited we achieved 91% economic utilization on our floaters and 96% for our jack-ups. Our backlog is currently $5.1 billion. In terms of new contracts in February we secured a new contract in Angola for the West Eclipse expected to commence in the second quarter of 2016. The contract is a firm period of two years and that's a backlog of about $285 million inclusive of mobilization. As part of this agreement the backlog for the West Polaris has been decreased by about $95 million. The net effect of this agreement is an increase of approximately $190 million in total backlog. In terms of the overall market environment which Anton will touch on later in the call, let me offer some high level comments. The offshore drilling market continues to be able to supply multiple drilling rigs, chasing the few opportunities that are available. The capital expenditures are expected to decline further in 2016 following two consecutive years of decline. We continue to believe that the majority of rigs with contracts expiring in 2016 will be unable to find suitable follow-on work. Many are likely to be idle for prolonged period and consequently co-stacking and scrapping activity will accelerate. Our company's continues work on managing their existing rig capacity. There are in many cases over committed based on reduced activity levels and there is very little appetite for adding new units. However, by looking at the long-term fundamentals of our industry, we believe in the future for the deep-water business. It is competitive from a cost perspective and deep-water barrels are needed to meet future demand levels. This is a cyclical business and when the cycle turns we see strong future for Seadrill's modern high specification fleet and highly regarded our recent track record. And with this, I will turn things over to Mark who will go over our financial performance. Here we go, Mark.

Thank you, Per and good afternoon and good evening to all. I will briefly put up the highlights for the quarter and then talk a little more about our main priorities for 2016, followed by our guidance for Q1. So what were the main moving pieces during the quarter for us? We had no new deliveries or yard deferments. We had two additional rigs going idle in the quarter. We had the redemption of our $350 million bonds which matured in October. There was no new financing undertaking during the quarter. We had a great operational quarter at 95% economic utilization for the Group and no impairment this quarter. And finally, the implementation of a number of cost-saving initiatives which Per talked about. Against, this backdrop these are the highlights for the quarter. Revenues were slightly down in Q4 compared to Q3, primarily driven by more idle units. We had four quarters worth of idle time for the West Venture, West Phoenix and West Eclipse compared to all these units operating partially in Q3. Additionally, the Telesto concluded its contract in November and is now warm stacked. In relation to the Sevan Driller, the contract was suspended from 1st December, while commercial negotiations continue. Our idle fleet currently stands at 10 units, five floaters and five jackups. This is excluding the West Phoenix and Sevan Driller which both remain on contract. You will recall Phoenix stacked at the customers' request due to harsh operating conditions during the winter period. The Phoenix will resume operations during April this year and we continue to receive a day rate of 75 day while the unit is stacked. Turning to other items, this relates predominately to reimbursable revenue, expenses and add-on sales. Add-on sales related to additional services and personnel provided at the customers' request. Finally, costs increased by $16 million in the period, primarily reflecting one-off redundancy costs and implementation costs, while our cost savings measures, which we will start to, reap the benefits from in the future quarter. In summary we had a sound quarter operation but reflecting the market environment. Moving on to the balance sheet. As always there are various movements on the balance sheet. And I'm just going to draw out the main highlights that identify with us. New buildings, you will recall the arrangement we have reached with the [indiscernible] shipyard to join new markets to West Regal for contractual sale. Corresponding in the balance sheet now reflexive reduction in new buildings with the regal funds that held for sale. The other main movement in the balance sheet this quarter relates to declining share prices from a number of our investors mainly in Seadrill partners. Turning now to 2016. We're developing and progressing our financing plan but before I touch on that, let me talk a little about our cash and liquidity for 2016 at the starting point. We finished the year with over 1 billion in cash and continue to expect good operating cash flow with the majority of our rigs working and contracted revenue of $2.3 billion for 2016. Building on this, our cost savings program is expected to generate a further 260 million in cash savings this here. And we do not expect to make any yard or take delivery of any new rigs during 2016. We expect to have sufficient liquidity to address the 570 million of debt maturity in 2016, however, these two facilities will be addressed as part of our broader financing plan. Turning to our financing plans, we fundamentally believe there is resilient offshore market and that we will see some – oil prices and day rates at some point. We just don't know when. We have the youngest and most modern fleet of all the major drillers. a proven track record of operation and scale in an industry that has high values to entry. We're well-positioned asset wise and can compete effectively but need to create a runway to the recovery. You will recall that I mention in Q3 that our top priority was to address our liquidity needs for 2017 and beyond. We have hired advisors to evaluate the number of alternatives in light of the industry and capital market conditions. Our plans are focused on addressing maturities and amortization covenants NBC repayment risk, which relates to the market value of our rigs relative to the loan balance and funding requirements for the downturn. We are currently in process and will come back to you when we are ready, which we expect to be in the first half of this year. Finally turning to the guidance for the quarter. EBITDA for the first quarter is expected to be lower than Q4 at around 450 million. Primarily due to increased idle time on the West Tellus and [indiscernible] relative to the fourth quarter. And day rate renegotiations taking effect in the first quarter by the West Polaris day rate reduction will reduce by the third consideration with this being a season’s partners unit. These movements are expected to be partially offset by improved operations on a number of units. Operation performance for the first quarter has been good to date standing it 96% economic utilization. With that I will hand it to Anton for some comments on the current offshore drilling market.

Thanks, Mark. Good morning, afternoon to everybody. During the fourth quarter, the internet prices remains in the $40 to $50 range. During the new year market conditions have deteriorated even further as oil prices extended the price decline down to almost $27 a barrel. Ultimately settling in the low 30s today. This decline has precipitated further negative sentiment from oil companies. Oil company plan capital spending has declined further heading into this year. And the primary focus from many of our customers is to balance the books in 2016 with respect to revenue and planning capital expenditures. This focus will have a direct effect on activity levels and sustained oil prices below oil company planning levels will result in further spending cuts included on drilling and regardless of the implication for production level. Lack of near term planned activity from oil companies and a significant overhand of contracted rigs for which no currently exist continues to severely affect demand. Contractors continue to bid below breakeven pricing for new the work prioritizing fleet utilization over returns. This has done little to encourage oil companies to contract for new work. And the majority of fixtures continue to be extensions of current contracts often in connection with blends and extent type deals. Previously most discussions with operators facing excess capacity were on the premise of finding mutually beneficial solutions. Such as [indiscernible]. Today operators starting positions for such discussions are significantly more negative. Given the increasingly aggressive attempts by some oil companies do reduce their contract commitments with tough choices going forward between maintaining utilization and protecting our contractual rights. The significant and sustained customer investment all held, they're having an effect on offshore production levels in existing fields. Offshore reserves remain a significant portion of the hydrocarbon supply base and in the long run drilling will be required to access these reserves. The sustained downturn will encourage cold stacking and scrapping activity that will also be need to rebounce the market. We can't predict the timing of rebouncing but what we do know is that with the premium fleets and excellent operations Seadrill will be well placed when it occurs. Per?

Thanks, Anton. Although we are in the midst of a near perfect storm in our industry, Seadrill's future is bright. Our young, high specification fleet and operational excellence will continue to set the standard in the industry. We know we have a challenge ahead of us, but are as focused as ever on our financing cost and managing our business through the rough waters. I am confident that we will be in the driver's seat when the offshore drilling market eventually returns with a competitive cost basis and capital structure. That's all I have. John Roche Thanks, Per. Before I do turn it over to Q&A I'd just like to remind everyone to keep questions limited to one question and one follow-up. If anything is more detailed accounting notes related, as always, happy to take this offline. So, I'm going to turn over to the operator to compile the questions.

Thank you. We will now begin the question-and-answer session. [Operator Instructions] Our first question comes from Ian Macpherson of Simmons. Please go ahead.

Hi. Thanks. I was just wanted to clarify a comment. Mark, you said that you expect not to make any new build installments this year. Obviously, the scheduled installments in your release are 1.25 billion. Can you tell us how the negotiations are going with – ongoing negotiations are going with the shipyards in terms of the continued deferral of that? And what type of – we're seeing significant creep with your peers who are deferring and they're paying the shipyards for deferral. I think, for the most part, we haven't heard that from Seadrill. Is that changing or you still finding this to be essentially a cost free deferral for you because of your – I don't know, because of, say, Seadrill's heft in the industry?

Yeah. I'll answer that one. The latest two rigs we deferred, also two DSME drillships have been deferred for 2018 and 2019, and there's no cost enrolled from our side until we take delivery. There will be an add-on cost to our capital cost when we take delivery in 2018 and 2019 but no cost. The same counts for the two drillships that we have deferred until 2017. And the same is also the case for the jackups as well as for the semi we have a special arrangement with Jurong. So there is no – in 2016, there is no installment, and there is no cash implication [indiscernible] all the units we have deferred. And on top of that, I would just say for clarification that our jackups – we don't guarantee for them back in Seadrill Limited. And, thereby, you should look at that as an option to buy. And I can't say we will not take delivery, and we don't plan to take delivery of any jackups in 2016.

Okay. Thank you. Per. My final question is regarding the West Eclipse contract. Congratulations! It appears that you've displaced a competitor with Exxon in Angola, although we did find out this week that that your competitor was displaced because they did not have real term on their contract. They were released at Exxon's convenience. And I wonder if you have a real-term contract here for the Eclipse or is it also – does it come with a looser definition of term than what we've seen in stronger cycles?

No. I would characterize the contract as with our typical contract. This is a solid firm contract.

So it can't be canceled for convenience?

Well, look, generally, many of our contracts, as we stand here in the industry, do give an operator a cancellation for – termination for convenience but not without a significant sum being paid.

Understood. Okay. Thanks.

Our next question comes from Jacob Ng of Morgan Stanley. Please go ahead.

Hi there. Mark, I wonder, if you could comment on how you see Seadrill Partners fitting strategically within the broader organization, given recent developments in the broader MLP market. Would it make sense for Seadrill to reabsorb Seadrill Partners at this stage?

Well, Seadrill Partners is standalone. It's operating as it currently sits as a credit profile in Seadrill Limited in terms of the assets it has and the contracts and backlog it has and the duration. I think, of all things, as we think about options going forward, we keep various things under review. But certainly in our planning at the moment, as we concentrate on our financing plans for Seadrill, Seadrill Partners is not part of that thought process at the moment.

Got it. Thank you. I also noticed in your filing a comment related to the delayed Mexico reservoir wells. And I wonder if you could share more color on what your normal billing cycle is in Mexico and how far the customer is now behind?

Well – sorry, I don't know if you want to take it or.

No. I don't think we want to get into details on this call about billing cycle and the payment cycles. I mean, it's not a secret, but Pemex had some challenges with getting its payments made last year. What I can say is that towards the end of last year and leading into the first quarter of this year, we've seen a significant amount of those payments being cashed up. and Pemex is trying to wipe that situation.

Thank you.

[Operator Instructions] Our next question comes from Darren Gacicia of KLR Group. Please go ahead.

Hey. Thanks guys for putting in. I wanted to ask on that debt side, the amount of that debt you have on term basis and have some form of amortization. Just given how massive the cycle has been and were concerns maybe, is there a discussion about potentially suspending some of the amortization -- what are those type of conversations light and some of your debt is bad debt. Just a little bit of color would be great.

Well, I'm not going to get drawn in at this stage on discussion on financing plans in detail. But obviously our bank facilities all have amortization and they broadly run on 10 to 12 year profiles. And of course as I highlighted in our financing plans both maturities and amortizations will be something we are looking at. But I'm not going to get drawn in on either where we got to or what our plans are at this stage.

Okay. Second then, CapEx we obviously -- there are some questions around what will be delivered when and what's going to organized, there already have been some questions on that. What I don't think I caught on the opening comments, what would you say with the kind of maintenance CapEx from a fleet at the current run rate?

Well, what our current maintenance CapEx -- can you repeat around the maintenance CapEx again please, because I didn't get 100% of your question?

Yeah. Sorry. No worries. I was just asking, do you think about the current fleet as it stands now not assuming any new builds, so just on maintenance CapEx basis, what would be their maintenance CapEx number be on a run rate basis?

It's about $200 million a year. So the good rule of thumb is about 5 million for a floater and about 3 or so for a jackup.

In operation.

In operation, yeah.

Great. Excellent I appreciate the help. Thank you.

[Operator Instructions] Our next question is from Mark Brown of Seaport Global Securities. Please go ahead.

Thank you. I was just curious, the agreement you had previously announced on the West Regal and with Jurong. If -- what led them to agree to a sharing ownership of that asset as opposed to just delivering it? And also is that kind of a model to something you would consider pursuing with some of your other rigs under construction?

I can take that one. That rig was substantially delayed. It was [indiscernible] going to be finished exactly at the time. We could also have ended up in a lengthy arbitration case with that unit. But what we did with Jurong in this case was that we agreed on that together we could sell the unit. And by selling that unit we would go and get our installment back. If the unit is not sold by, I think it is mid-May of this year then we'll go in for a joint ownership of that unit whereby we will own 23% of that unit and the shipyard will own 77% of that unit. So, in other words, our installment is now and ownership of the unit and then once we find work for that unit Seadrill will go and operate the unit.

Okay. That's helpful. And just one question on the Jack-ups you have contracted with Saudi Aramco. Are there any negotiations with regard to the rate that you're paying, that you're expected to pay over the remaining terms?

I mean, Aramco is an important customer to us, especially they operate a premium fleet, which is exactly the kind of market we want to be in and want to continue there. We did sign a three-year extension with Callisto, and our next rig is up for renewal in May. Aramco like many operators around the world are looking to engage in discussions with the contractors about current rate release and as with all of our customers we'll take a look at it on the base of the contract status, the future for the market there, the remaining term and if there's a deal that makes overall sense holistically and economically based on all the facts then we may do something with them.

All right. Well, thank you very much.

Our next question comes from Monroe Helm of Barrow Hanley. Please go ahead.

Sure. Not a question, I just think that Per Wullf and his team has done an incredible job here in a very difficult environment, cutting costs, being able to negotiate better terms with the shipyards, and being able to get some extensions on the rigs. So, just wanted to congratulate you on an incredible job in a very difficult environment. And we look forward to hearing about the refinancing plan for the debt.

Thank you very much. That was also needed because it is pretty tough to honest.

Our next question comes from Lukas Daul of ABG. Please go ahead.

Thank you. Good evening, guys. Looking at your D&A costs they've been coming down for some quarters and then they came up a little bit in the fourth quarter. Is there any specific reason for that, or is that the level we should look for in 2016?

I think, I heard G&A, but as supposed to D&A. So, our G&A costs – yes, so they've been coming down steadily. If you just think about what's been happening we made a number of announcements in the last quarter around redundancy and more cost saving and cash savings initiatives. As all these implementation costs, you have some upfront costs that delivered and obviously redundancy cost, so I think we recognize those one-off costs up front. So, that is uptick in G&A in the fourth quarter just really what you're seeing is the output of some of those one-offs that we're getting and obviously, we'll reap the benefits of those in future quarters.

Okay.

I'll just add on you're going to see lower G&A costs going forward.

Okay good. And then Mark on your comment regarding the MVC repayment risk. Can you elaborate a little bit more on that how that works what do you see happening there going forward?

Yes Lucas I can. And maybe I should have maybe spent a little bit more. MVC and first of all, it stands for minimum value clause. It goes by various acronyms, sometimes you see MVS, sometimes you see easy MMVC. This type of covenant is a common feature found in asset base financing and shipping, particularly with the banks. In essence it is something that keeps the loan-to-value ratio in check by demanding there is always a buffer between the deterioration of any asset rig values and the outstanding amounts of debt. Again, this will be addressed as part of our broader refinancing plans. Historically, MVC risk has been low for us, but it could become a risk if there continues to be significant deterioration in rig values. Our rigs are valued on a winning set -- winning buyers phase, is twice a year, but we chose some of our bank facilities amortize at about 10% per year. So, it's a natural delivering in the system. Obviously facilities sort of near the start of the term are at higher risk than was at the end of their term. But importantly I should stress this so no one goes away, MVCs create prepayment risk, but they don't create an event of default. So, in effect, all that happens as you make a prepayment to redirect the loan-to-value. But like I said this will be addressed as part of our refinancing plan. So, hopefully that gives you some clearer picture of what it actually does. And again it's what I call it pro-cyclical talk, of course, generally rig values are going down, it just doesn't happen on one, it tends to happen on more. But historically and currently it hasn't been a problem for us. But it -- just like all things, it could be if there was to be -- significant rig devaluations in the future.

Okay. Thank you. So, do you think when refinancing packages going forward, you will not be able to raise as much leverage on each rig as you maybe have been doing the past five years?

I'm not sure I really comment on that at the moment. I mean I think first part of it is really just for us to look talk about how we create the liquidity and the refinancing extending debt maturities. I mean I think like all things loan-to-value ratios will ebb and flow with the market. So, I don't think you can sort of say that in the future, they will be lower, or they will be higher. It will depend on where people sit in the driving seat. I mean clearly where there is more angst around rig values; the real issue is what are you setting relative to where price of the rig is, that's the key point. So, certainly in our plans where we look at refinancing, it will look at rolling over existing facilities.

Okay. Thank you, Mark.

Okay. Thank you.

[Operator Instructions] Our next question is from Daniel Butcher of JPMorgan. Please go ahead.

Hi, everyone. So just a quick one for me on financing if I couldn't. Apologies if it is spared it in the detail and I didn't find it, but can you maybe just talk about your policy for hedging base rates on interest rates in terms of the [indiscernible] and percentage of your exposure hedged and how far forward you actually do that and what rate you are locked into base rates? Thank you.

Yes. There is a load of this stuff in the notes – the accounts like top of my head I don't remember the exact note number, but you'll find it in there. Broadly from memory about 6.5 billion of our total debt pile – sorry, higher than that actually 7.8. Can't get the exact number is hedged with interest rates swaps. Basically we like to be predominately hedged on a fixed bases obviously because the day rates are fixed. We run what I call sort of PBA one analysis to get ourselves comfortable with where we see ourselves. Sorry, I'm just looking for the details now. We are currently about 97% covered in terms of where we sit on interest rates. That would've been lower, but actually it got higher because I think of some of the day rates that we've done in our contracts in where we sit in terms of our loan facility in terms of what's been repaid effectively. So we manage it on a macro basis. We overlay interest rates swaps. On the debit terms we raise and try and keep that in sort of what I will call sort of 80% to 90% range normally.

Okay. Thank you. That's great.

This concludes our question-and-answer session. I would now like to turn the conference back over to Mr. Roche for any closing remarks.

Thanks, Nan. And thanks everyone for joining us for our call today. This concludes our fourth quarter conference call.