Ensco International, Inc. Q1 2009 Earnings Call Transcript

Apr.23.09 | About: Ensco PLC (ESV)

Ensco International, Inc. (NYSE:ESV)

Q1 2009 Earnings Call

April 23, 2009, 11:00 am ET

Executives

Richard LeBlanc - VP, IR

Jay Swent - CFO and SVP

Dan Rabun - Chairman, CEO and President

Jeff Saile - SVP

Bill Chadwick - EVP and COO

Mark Burns - President of ENSCO Offshore International Company

Analysts

Ian MacPherson - Simmons & Co.

Collin Gerry - Raymond James

Robin Shoemaker - Citigroup

Mike Urban - Deutsche Bank

Tom Curran – Wachovia Securities

Jeff Spittel - Natixis Bleichroeder

Dan Boyd - Goldman Sachs

Dan Pickering - TPH

Pierre Conner - Capital One Southcoast

Elliott Glazer - DuPasquier

Geoff Kieburtz - Weeden & Co.

Operator

Good day and welcome to the Ensco International First Quarter of 2009 Earnings Call. As a reminder this call is being recorded and your participation constitutes a consent to being to taping. I will turn the call over to Richard LeBlanc, Vice President of Investor Relations, who will moderate the call. Please go ahead, sir.

Richard LeBlanc

Thank you, Jessica. We would like to welcome everyone to our first quarter earnings conference call. With me in Dallas are Dan Rabun, our Chief Executive Officer; Bill Chadwick, our Chief Operating Officer; Jay Swent, our Chief Financial Officer, as well as other members of our executive management team.

This morning we released our earnings announcement and filed our 8-K with the SEC. We also expect to file our 10-Q later today. The earnings release is available on our website, www.ernscointernational.com.

As usual, we'll keep our call to about an hour. Jay will first provide a financial overview. Dan will then discuss our markets and operations.

As we do each quarter, I'd like to remind everyone that any comments we make today about our expectations of future events are forward-looking statements pursuant to the Private Securities Litigation Reform Act of 1995. All such statements are subject to risks and uncertainties and many factors could cause actual results to differ materially.

We refer you to our earnings release and SEC filings available on our website, which defines such forward-looking statements, state that the company undertakes no duty to update any such statement and lists risk factors which could cause actual results to differ materially from our expectations.

I'd also like to remind everyone that with regard to our rig status, a detailed listing is provided on our website, and that is updated the middle of each month when we file our 8-K with the SEC. The last update was as of April 15th. At the end of our prepared remarks, we will have time for questions.

With that, let me turn it over to Jay.

Jay Swent

Thank you, Richard. Good morning and thank you all for joining us today. My comments this morning will cover details of the first quarter results and our outlook for the second quarter and full year 2009.

Before getting started, I should point out that we adopted a new accounting standard this quarter, which will have an ongoing impact on the calculation of earnings per share. Under this new requirement we now exclude net income allocated to non-vested restricted stock from the numerator of our EPS calculations. This change only affects the EPS computation. It does not affect the calculation of net income. Diluted EPS for the quarter was reduced by $0.02, and each quarter in 2009 will be similarly impacted.

So now let's move onto the results. First quarter revenue was $514 million, which represents a 10% decline versus the same period last year. About 60% of this decline was attributable to our jackup business segments and the balance is due to Ensco 7500 mobilizing during the quarter with all day rates deferred to future quarters.

Although we realized higher average day rates for our jackup fleet in the first quarter, utilization decreased to 80% versus 95% a year ago. First quarter earnings per share dropped to $1.56 versus $1.88 last year primarily as a result of the revenue decline. Excluding the accounting change previously mentioned, EPS would have been $1.58.

Now let's discuss quarterly trends by comparing first quarter 2009 sequentially to fourth quarter 2008. The first quarter revenue decreased by approximately 17% from fourth quarter levels, inline with the decrease we projected during last quarter's call. Most of this decrease is attributable to fewer jackup rig operating days in Asia-Pacific and North and South America.

Four Asia-Pacific jackup rigs, Ensco 51, 50, 56 and 96 completed contracts in late 2008 or early 2009 and were idle for all or most of the first quarter. Two other rigs, Ensco 67 and 97, completed work late in the quarter and are now idle. In our North, South Korea segment, Ensco 89 and Ensco 93 were in a shipyard for the entire quarter in preparation for new contracts with PEMEX in Mexico.

Ensco 68 commenced preparation for work with Chevron in Venezuela and was in a shipyard for 30 days. We also deferred recognition of day rate revenue on Ensco 69 in Venezuela beginning in late January, pending outcome of ongoing discussions with PDVSA.

Cost reduction initiatives and lower than planned repair and maintenance costs resulted in greater than expected reduction in contract drilling expense. Which decreased by 16% in the first quarter, compared to the 10% reduction we had estimated on last quarter's call. As expected, depreciation and G&A expenses were flat compared to the fourth quarter. Our cash generation and balance sheet remained strong during the first quarter, with cash increasing by $138 million to $927 million. This increase is after funding $185 million of capital expenditures, $119 million of which is related to our deep water fleet expansion.

So now let's look more specifically at first quarter results in each of our operating segments. The average day rate for our Asia-Pacific segment was $161,500, a slight increase from the $159,100 realized in the fourth quarter. Asia-Pacific utilization was 78% compared to 94% in the fourth quarter, due primarily to the previously mentioned idle time on several rigs.

The average day rate for our Europe-Africa segment decreased during the quarter to $218,900 from $227,700 in the fourth quarter. This variance is attributable to Ensco 85, which is on a standby rate in Tunisia through early March, and then resumed operations at a day rate in the mid-120s for an average of $92,000 per day for the quarter, as compared to an average operating rate of $177,000 per day in the fourth quarter.

Utilization on our Europe-Africa segment improved to 99% during the quarter from 94% last quarter due to lower repair and maintenance down time. As mentioned previously, utilization on our North-South America segment decreased during the quarter as three rigs prepared for new contracts in Latin America, and we had idle time due to repairs and lower activity. Utilization was 69% in the first quarter compared to 99% in the fourth quarter.

The rigs that did work in the Gulf of Mexico during the quarter realized higher average day rates of $121,300 as compared to $115,000 in the fourth quarter. This was primarily due to three of our larger rigs securing very good short-term contracts during the first quarter.

We reported zero revenues for our deep water segment as Ensco 7500 was mobilized into Australia, and although we were earning $366,000 per day during mobilization, we deferred this revenue until the rig commenced drilling operations in early April.

Let's now look at the outlook for the second quarter 2009. Second quarter revenues expected to increase by about 1% from first quarter levels, as Ensco 7500 commenced drilling operations in early April and Ensco 8500 is expected to go on the payroll late in the second quarter. We expect these two rigs to generate $70 million of revenue during the quarter.

As noted in today's earnings release, the effective day rate on the Ensco 7500 contract, inclusive of the deferred day rate revenue to be amortized over the expected 17-month term is $687,000. This amount does not include amortization of reimbursable mobilization cost. This deep-water revenue increase will be largely offset by lower jackup fleet revenue as two of our Asia-Pacific jackups and several of our Gulf of Mexico jackups have rolled to lower rates.

We also expect a 7% reduction in operating days across the jackup fleet primarily due to the softening jackup market. We anticipate second quarter contract drilling expense will increase by approximately 15% from first quarter levels. About three-fourths of this increase relates to the commencement Ensco 7500 and Ensco 8500 operations. The balance is a result of scheduled shipyard repair projects on two of our North Sea rigs in preparation for new work programs and required inspection and repair work on Asia-Pacific jackups.

Depreciation expense will increase by approximately $2 million, with about half of this amount due to commencement of Ensco 8500 operations in June. We anticipate G&A expense will increase by approximately $1 million due to a number of small, onetime items, but should return to the first quarter run rate for the remainder of the year.

Now, a few comments about our 2009 full year outlook. We expect the revenue contribution from our deep water fleet to more than triple in 2009, to just under $300 million. As previously mentioned, Ensco 7500 commenced drilling operations in Australia in April. Ensco 8500 is expected to commence operations in the Gulf of Mexico in June, and we anticipate Ensco 8501 will commence drilling in September.

We expect to add approximately 300 deep water operating days with the startup of Ensco 8500 and 8501 during 2009, but we still expect to reduce 2009 contract drilling expense slightly compared to 2008, as we adjust to lower activity levels in our jackup markets. Fewer jackup rig operating days, a stronger dollar and vendor cost containment initiatives will be the main components of our cost management program.

As mentioned last quarter, the one area where we expect to see significant cost pressure is insurance, specifically related to Gulf of Mexico wind storm coverage. We are currently in discussions with underwriters regarding our July 1st renewal, but have not finalized coverage. It's important to note, however, that we have significantly reduced our Gulf of Mexico jackup exposure and will only have seven rigs remaining in the U.S. Gulf after Ensco 98 and 90 will move to Mexico in May and September.

We expect depreciation expense will be $210 million with the addition of our new deep water rigs. G&A expense will be approximately $50 million, a 7% reduction from 2008. As we indicated last quarter, we anticipate our effective tax rate would be approximately 19% for the year. Before discussing 2009 capital spending plans, I should caution you that enhancement and sustaining budgets may be adjusted over the course of the year depending on business conditions.

With that caveat, we currently expect 2009 capital spending to be in the range of $790 million, approximately $50 million more than discussed last quarter. This increase is due to the previously announced replacement of the Ensco 8500 cranes and preparatory work for the additional jackups that are mobilizing to Mexico. Of the total capital budget, $530 million will be spent on our seven new deep water rigs. We also expect to spend about $160 million for rig enhancement projects and $100 million for sustaining projects.

In conclusion, we expect to realize a meaningful contribution from our growing deep water fleet over the course of 2009 and beyond. This will help to offset some of the weakness that we are currently experiencing in our jackup markets. To put our deep water revenue contribution into perspective, annualized revenue from Ensco 7500, 8500 and 8501 will approach a $0.5 billion in 2010, which is roughly equivalent to the 2008 contribution of nine jackups.

We intend to aggressively manage costs during the current slowdown, and we will stack rigs to reduce costs where we do not have reasonable prospects for work. Personnel costs comprised over half of our contract drilling expense, which is far and away our largest cost component. Even with the addition of the new deep water rigs and relocation of Ensco 7500 to a higher-cost region. We expect a 10% year over year reduction in personnel costs due to lower jackup activity, a stronger dollar, and our efforts to hold the line on wage rates. We are also seeking cost reductions from all of our vendors and leaving no stone unturned when it comes to cost efficiency.

With those comments, I'll now turn the call over to Dan.

Dan Rabun

Thank you, Jay, and good morning, everyone. As we stated in our last conference call in February, our customers are adjusting their business models to lower commodity price, tight credit markets, and a global recession. While we believe Ensco is positioned better than most to maneuver through these challenges, we are clearly feeling the impact, and no drilling contractor is immune. From a macro perspective, we expect our jackup business to be challenging for the near-term until we see some stabilization of commodity prices.

We are actively managing our business model as well, and as Jay mentioned in his remarks, we had another good quarter in managing our costs for the 16% quarter-over-quarter reduction in operating costs. We are aggressively working to better align our operating costs to the current environment, and we are starting to see some of the results of our cost containment measures. This is an ongoing effort, and we hope to see more improvement as the year progresses.

We had hoped to have Ensco 8500 earning revenue this quarter, and we're disappointed that the deck cranes needed to be replaced. We are in the process of installing the new units and should have Ensco 8500 working for our customers late in the second quarter. Our 8500 series construction program is proceeding well. Ensco 8501 is undergoing final testing in preparation mobilization to the Gulf of Mexico that we expect will commence in June. The five other semis under construction are progressing as planned. We currently do not expect the same startup and equipment issues as experienced on Ensco 8500.

Looking to the remainder of the year, our significant investment in our deep water initiative will begin to provide a meaningful, positive impact on our financial results. Earnings from our deep water fleet will serve as a buffer to the weakness in jackup markets. Ensco 7500 commenced operations in Australia at a day rate in the low 550s in early April. Plus we began recognizing the deferred mobilization revenue to bringing the effective day rate up to the mid 680s. We expect Ensco 8500 to commence operations in June, and Ensco 8501 will be in contract late in the third quarter.

In spite of the global economic situation, some of our jackup customers continue to drill through the cycle. We're responding to a number of inquiries and tenders in several markets for work later this year and in 2010. But with the combination of existing rigs rolling off contracts and new builds coming into the market, competition for work is intense. We currently have idle jackups in Southeast Asia, the Middle East and in the U.S. Gulf of Mexico. We are evaluating market opportunities for these rigs and are looking at areas that we have previously not participated in.

We will not hesitate to cold-stack rigs to reduce cost if we do not see near-term work opportunities. In the interim, we are maintaining minimal crews on rigs that are idle and have substantially reduced our daily operating cost. All of our management is working diligently to address all opportunities to keep our float working. Utilization and preserving our employee base are major components to ensuring our track record of safe and efficient operations.

We recently re-negotiated changes to several rig contracts with ConocoPhillips, although each was independent of the other. We traded some day rates for additional term on Ensco 104 in East Timor. In the North Sea we agreed to reduce the rate on Ensco 102 in order to continue the current work program. Ensco 80 will be suspended for several months, due to a window in ConocoPhillips drilling program but should resume operations by early next year. In the meantime, we are marketing the rig in the region, and we're optimistic that we'll find some short-term work.

I should note that we may have been overly conservative with reporting a five-month window in ConocoPhillips program as current estimates are suggesting the gap in the work will more likely be closer to three months and again, we are looking at other work to fill this gap.

With those general comments, let's review our operations in markets as we do every quarter. I'll refer you to our monthly contract status report filed last week for specific rig details. In both the Mideast and Southeast Asia-Pacific rim markets, the competition for rigs is intense, and we have seen a significant decrease in day rates and utilization. The early release of rigs by Saudi ARAMCO due to the decrease in the drilling program activity has added to the supply of available rigs.

There are, however, several programs awaiting award or approval to go out to bid in Indonesia and Vietnam and in the Middle East, there are several opportunities on the horizon. We do not anticipate any new requirements coming from Saudi ARAMCO in the near-term. We believe these markets will continue to be challenging for some time.

During the quarter, we were able to obtain work for Ensco 53 in India with BG. In the North Sea, the market is still fairly balanced, and there are a number of outstanding inquiries for short-term work starting in the second half of the year and in 2010. All drilling contractors in the region have available rig time later this year and competition for work will impact rates.

Turning to the U.S. Gulf of Mexico, rig demand continues to fall due to lower natural gas prices, budget cutbacks, and the approaching hurricane season. Somewhat offsetting the lack of customer demand will be the decrease in the supply of premium jackups as rigs move to Mexico and other markets. Over the next few months, the Gulf of Mexico jackup fleet will be reduced to a total of 14 premium rigs. We anticipate the market for the smaller premium rigs will continue to be choppy through hurricane season, while we expect high-spec rigs to have work.

In both cases rates will likely continue to soften. In the last few weeks, as a result of the lower day rates, we have seen some new work opportunities arise as prospects become more economical. With regard to Mexico, we now have three rigs currently drilling and one in the shipyard preparing for mobilization and commencement of work with PEMEX.

During the second quarter we will have another rig enter a shipyard in preparation for work in Mexico. While the timing and actual requirements are unclear, we anticipate that PEMEX will continue to draw jackups from the other areas, and several more rigs will be contracted for work starting later this year.

In Venezuela, we recently mobilized Ensco 68 from U.S. Gulf of Mexico, and commenced operations for Chevron. We continue to work toward a satisfactory resolution with PDVSA for the past due payments on Ensco 69, and we do not have anything new to report at this time.

Now let's turn to the deep water market. While indications are that this is only temporary, some operators are rationalizing their spending and are delaying certain projects and offering sublets on their deep water rigs. We believe, over the near-term, the market will begin to show a differentiation in rates for fourth, fifth and sixth generation semis. We believe sixth generation semis will command a premium as they address deep wells and ultra deep water that cannot be effectively drilled by the older fourth and fifth generation semis.

Several clients, including Shell, Chevron and BP continue to indicate that they are two to three rigs short on their worldwide deep water rig requirements beginning in 2011. Asia represents an emerging deep water area with successes in China, Malaysia, Indonesia and Australia by a variety of operators. In Africa there are numerous unfilled needs in Nigeria, Angola, Equatorial Guinea and Ghana. Many of these requirements are for work starting in 2010 and beyond, and new build rigs entering the market will likely pick up this work.

The U.S. Gulf of Mexico is relatively quiet now as far as new programs are surfacing, but continued exploration successes in the lower tertiary trend should create additional demand for development rigs in the future. Brazil remains the strongest deep water market. The pre-salt routinely delivers exploration success with significant reservoirs of high quality oil, and all operators in the region are reporting successes. Just last week, Petrobras reconfirmed its intention of adding 28 deep water units over the next five years.

We are actively marketing and are engaged in discussions with several operators for prospective opportunities for our three uncommitted deep water rigs. With deliveries not scheduled until the second half of 2011 and in 2012, we fully expect that these rigs will be contracted before delivery.

In closing, the macro environment continues to suffer. Given that fact, we will focus on what we can control in the short-term while continuing to execute on our long-term strategy. First we are proactive in addressing our cost structure as demonstrated with our 16% cost reduction quarter-over-quarter.

Second, we are beginning to capture the benefits from our deep water initiative with a revenue contribution approaching $300 million in 2009 and growing as the other five rigs are added over the next few years.

Third, our strong balance sheet is expected to enable us to fund our construction program through internally generated cash and available cash and allows us the necessary flexibilities should other opportunities interest us.

With that as an overview, our management team is available to answer your questions. Richard, I'll hand the call back to you.

Richard LeBlanc

Jessica, we are now ready to take some questions.

Question-And-Answer Session

Operator

(Operator Instructions). We'll take our first question from Ian McPherson with Simmons & Company.

Ian MacPherson - Simmons & Co.

I guess my first question would be regarding the next slug of deep water demand for Petrobras. I'd like to get your opinion on the local content imperative down there. Whether or not you think the next round of rigs will be predominantly or entirely locally built and managed rigs? Or what you think the opportunities are for your three un-contracted units are for that opportunity?

Dan Rabun

Ian, we think we've got a good opportunity for uncommitted units down there, and we're talking to Petrobras about that. With regard to the local construction, we've read what you have read. We've just began to try and discuss that with Petrobras. As you know there haven't been rigs built in Brazil before. But to the extent that Petrobras is interested in doing that, so are we. It's too early to say what the realistic opportunity might be down there, but we find it interesting and we are looking into it.

Ian MacPherson - Simmons & Co.

If I may ask a follow-up it would be on the Mexico jackup market. Any specifics you might have on the incremental demand, the timing? How many of the incremental tenders would be for renewals on existing rigs? Do you expect that PEMEX might exercise their termination rights on some contracts in order to release rigs and then re-contract at lower market rates?

Dan Rabun

Ian, on the last part of your question, I don't think so. I'm not saying that that's totally impossible. As far as terminating some of the rigs that they have under contract, you know, what they're looking at is they need additional supply. I think if any of the rigs that are currently contracted are terminated and released they would be the older Mat slot jackups that are not as productive to help them fulfill their needs as to some of these more capable rigs. As far as what they're looking for going forward, that seems to be fairly dynamic. The number stays fairly constant between six to 10 additional rigs, most of the time it's on the high side. We expect to tender in the next couple of months and that's going to be for we think what we keep hearing maybe at 250 or so, some 300 foot rigs, four, five, and a few 350s.

Ian, keep in mind, too, that on three of our five rigs committed to PEMEX, those rigs do adjust to market rates. It's only the most recent two that are fixed.

Operator

Our next question will come from Collin Gerry with Raymond James.

Collin Gerry - Raymond James

Just a follow-up on the Mexico side. Do you have a sense for how many of those incoming tenders are going to be bid against incumbent rigs there, rolling over?

Dan Rabun

I think what Jeff was addressing was all incremental demand.

Collin Gerry - Raymond James

And then you mentioned, on the deep water side, a little bit of a discrepancy emerging between the fourth and the sixth or the lower generation rigs and the higher spec rigs. I want to follow that logic on the jackup side. Are we seeing utilization hold up better for the higher spec rigs? I guess the latest fleet status in Southeast Asia you had some 400 footers have some idle time now. It doesn't seem to me there's too much of a bifurcation in the market place. Maybe give us a little color on what's happening in terms of higher spec rigs internationally?

Mark Burns

Yes, Colin, this is Mark burns. Particular in Southeast Asia, where you noted we do have one of our high spec units, the Ensco 106 is now idle. At this point, companies have not been expressing a great deference or preference for the new build units versus the older units. We will start to see that as more of these units come online. Obviously some companies that have been in this business, exploration companies, have been concerned about efficient operations, safe operations and startup of these new builds. So we've been able to see the older rig utilizations remain. So we haven't, at this point, seen a great difference between the two.

Collin Gerry - Raymond James

But that's something that we should expect over the course of 2009?

Mark Burns

Well, I think, as we get further into 2009, and the newer rigs do continue to come out and into the market place, obviously newer equipment, is brighter, it's shinier, and there's companies that will prefer the newer rigs. So I think, as these newer rigs start to also get some operating experience behind them, I think you will start to see a difference between the two.

Jeff Saile

Collin, this is Jeff. Let me just add one thing to that. It's really not exactly the same type of comparison when we're talking about the sixth generation semis. Because the sixth generation semis have a different capability that some of these older mold rigs and lesser capable rigs can do. We're basically taking the sixth generation semis, for all practical purposes, intofor lack of a better word, a new frontier and therein lies the difference. So you're beginning see these, I believe, the sixth semis take a significant step away from the fourth and fifth generation semis relative to utilization and rate. They're actually addressing something that's new and different that we haven't done before.

Collin Gerry - Raymond James

That's helpful. My last question, just, Dan, you mentioned the North Sea market looks a little more balanced than maybe some of the other markets. Why is that? I mean I am talking about the jackup side. We are seeing some from the mid water side and certainly jackup weakness everywhere else in the world. What's going on in the North Sea that maybe it's a little bit more resilient?

Mark Burns

Collin, this is Mark Burns. I think the important thing to remember is the operating area itself, the North Sea, the various sectors, the UK, Dutch, Norwegian sectors. The regulatory compliance requirements are greater than in benign operating areas. Your equipment needs to have different capabilities, for example, different instrumentation systems, training systems.

So the North Sea tends to be more of a closed market, I guess. It's a difficult market to enter. So with that, the total available jackups in the North Sea remains fairly constant and fairly balanced. There's a total of 35 jackups operating in the North Sea and as you look at requirements for the remainder of this year, it's still a fairly balanced market. There will be some weakness in the market later in the year. However, as Dan mentioned in his opening comments, we are still seeing some near-term opportunities. So primarily that's the main reason why you don't see such the swing there as you do in other areas.

Operator

Our next question will come from Robin Shoemaker with Citigroup.

Robin Shoemaker - Citigroup

I was wondering if you could describe the competitive bidding situation in cases today, where you have 10 or 12 rigs bidding on a single job in the jackup market. Is this key to having a winning bid there strictly price? Is having a strong resume important? Is it important that the rig has worked recently or how long it's been stacked? I just wondered if you could describe what makes for a winning bid in these highly competitive situations.

Dan Rabun

Yes. Obviously, price is important. But that's not the only determination. I think it depends on customers as well, what they look at. I think, if you look at the recent award we got with Ensco 53 in India. There is a meaningful differentiation between an established drilling contractor with established systems and processes and a very successful drilling record for that particular rig. So, the customer looks qualitatively as well as just price. I think in this market it will be quite meaningful.

Robin Shoemaker - Citigroup

Okay. I wonder if you could give your view on your strategy with regard to the Ensco 8504, 8505 and 8506, and are there any customers who are interested now in signing contracts that far ahead to late '11 or '12? I believe on the last call, you said these conversations could continue for quite some time closer to the point of delivery.

Dan Rabun

Yes. What we've always said fairly consistently is that, within a two-year time period of delivery is really kind of the sweet spot, if you will, for customers to contract rigs. I think, what I said on the last call and it's the same today, we are in very meaningful conversations with customers about signing contracts today.

Operator

(Operator Instructions). Our next question will come from Mike Urban with Deutsche Bank.

Mike Urban - Deutsche Bank

I had more of a question on the general market sense and kind of your discussions with customers, which is, you know, as recently as a few months ago, it just seemed like a lot of them were shell shocked. You kind of were in free fall in a lot of markets, commodity prices were falling, no access to credit capital markets, and those things are not great but are stabilizing. I'm speaking of the jackup market specifically. Is there a little more willingness on the part of those customers who were a bit, paralyzed to come back and look at projects and say, we're not quite there, but, you know, if we continue to see a stabilization let's talk about work going forward?

Mark Burns

Yes. What you are seeing is we have seen price stabilize somewhat. You've seen the capital markets stabilize somewhat. I think all of those are very positive signs, and I think, if this would continue for a period of time where the customers have confidence in their budgets, I think you would see a pickup in activity.

Mike Urban - Deutsche Bank

So for now, it does seems like they're still in a kind of wait and see mode, but you have encouraging signs given, some of the things you mentioned.

Dan Rabun

That's the way I would characterize it, yes.

Mike Urban - Deutsche Bank

That's fair. In some of the weaker markets, I guess, in parts of the Middle East and Southeast Asia would certainly be one of these. Is there a sense to where customers want to get rates? Do they need to get down to close to cash break even levels, or is it not necessarily a question of rate but again, some of the needy issues we just talked about in terms of just you can take the way you see it.

Mark Burns

I don't think it has anything to do with rates.

Mike Urban - Deutsche Bank

So the new word is the continued caution that's out there.

Mark Burns

Yes.

Mike Urban - Deutsche Bank

Simpler sense same issues that have been out there right now for the last several months.

Dan Rabun

I think, and I said it in my remarks, one of the markets where you do see some effect of rates is in the U.S. Gulf of Mexico, where we have some smaller operators or prospects all of a sudden become more economical given rates.

Operator

Our next question will come from Tom Curran with Wachovia Securities. That's all for me. Thank you.

Tom Curran - Wachovia Securities

Dan, the two deck cranes on the 8500 that you guys are currently in the process of replacing, they were provided by Patriot rather than Ctracks, the vendor you've gone with for, I think, all of the other 8500 new builds as well as some of your other rigs. What made you decide to go with Patriot in that particular case? As you look across the other major components for the remaining new builds, are there any others where you strayed from the vendor you typically use?

Dan Rabun

We originally decided to go with that particular vendor, several years ago. It was a competitive bidding process. It was based on price and technical requirements, and they had provided other equipment to us. So, it was a competitive situation. The last part of your question, I apologize, I didn't catch it.

Tom Curran - Wachovia Securities

Sure. I was just wondering, when you look at the major components on each of the remaining 8500 series new builds, are there any other examples where you strayed from the vendor you're using for most of them?

Dan Rabun

No, not really.

Tom Curran - Wachovia Securities

Okay. The vendors are fairly uniform in terms of the top sides, the packages?

Mark Burns

Well, all of the rigs are the same. They're all the same. So, anything that we experienced on Ensco 8500 has been incorporated into the subsequent units. So we don't expect any similar issues that we had on Ensco 8500 to bleed over, if you will, to the latter rigs. I think what's real important is that a lot of the commissioning issues that you had with a lot of this new equipment on Ensco 8500, a lot of this stuff is very software driven. It's very complicated and it took a lot of time to work some of the bugs out on that equipment. If you look at by comparison to Ensco 8501, where we're able to just take the software off 8500 and incorporate into Ensco 8501, I mean, its light years ahead of where Ensco 8500 was. The learning curve was quite substantial in the first rig.

Tom Curran - Wachovia Securities

Sort of like the down side of the increasingly wired rig, I guess, right?

Dan Rabun

Yes.

Tom Curran - Wachovia Securities

Outside of the North Sea, as you look across the rest of your fleet, how many rigs outside of the North Sea are you currently in discussions about any kind of potential day rate relief in return for extended term?

Dan Rabun

Yes. I was just looking at Mark. I think three or four.

Tom Curran - Wachovia Securities

Three or four. And where would they be?

Dan Rabun

Out in Asia.

Tom Curran - Wachovia Securities

And then, Jay, on the cost reduction front and I'm sorry if I missed this earlier. What percentage of the cost savings you have realized thus far have been labor related, and how much more of that do you think is possible? And if you could quantify that, please?

Jay Swent

I think what we've seen so far in terms of labor rate is fairly modest for a couple of reasons. What we said is we're going to have fewer operating days over time, particularly as we look at warm stacking or cold stacking rigs. So a lot of that hasn't really cut in yet. We also talked about currency having some impact on labor in countries where we're not paying in U.S. dollars. It takes a little while for some of that to feed in, because we have old hedges in place that are still at older rates. So most of what we're going to see on labor, you're going to see bleed into the numbers and the second through the fourth quarter with respect to labor.

Operator

The next question will come from Roger Reed with Natixis Bleichroeder.

Jeff Spittel - Natixis Bleichroeder

It's actually, Jeff. The first question, I guess, the inevitable M&A question for every quarter. Could you characterize what you're seeing in terms of bid/ask spreads for assets that are out there, and have they compressed to the point where they merit some consideration versus your very successful 8500 series program at this point?

Dan Rabun

It's just been two months since I had to answer that question. I think the best way to characterize it is the spread between the[bid and ask is narrowing, and there are some opportunities out there that obviously we're looking at. It's way too early to make a call on whether anything is actionable or not.

Jeff Spittel - Natixis Bleichroeder

Sure. Understand. I guess, looking at the U.S. Gulf of Mexico jackup market, as you head into hurricane season here, is your sense, from your discussions with customers that they're little bit more reticent to continue their drilling programs independent of what gas prices are doing, having kind of been burned last year in hurricane season?

Dan Rabun

Clearly the hurricane season is, as people are trying to adjust to the new criteria for where you can drill, it's having an effect on the customer's willingness to proceed during that period.

Operator

Next question will come from Dan Boyd with Goldman Sachs.

Dan Boyd - Goldman Sachs

I would like to talk about your stacking strategy a little bit and your ability to reduce costs even further. Of the rigs that you currently have, can you talk about what percentage of the cost decline – or from peak, how much costs are down on those rigs? Where are you in your decision process of stacking some of those your cold stack and reducing the costs further?

Mark Burns

I think, at this point, we haven't cold stacked any rigs. We're looking at it. We've been warm stacking some rigs, starting to take some costs out. But as I said earlier, most of that doesn't really start feeding in until the second, third quarter. A way to think of it, Dan, in rough numbers is that you probably are going to spend about $1 million to warm stack a rig and your cost to just sort of keep it going in a cold stack mode is probably $4,500 a day, something like that. When you're in a warm stack mode, it's probably $10,000 a day higher than that, somewhere in that range.

Dan Boyd - Goldman Sachs

And in your guidance, it was down slightly year-over-year. Are you assuming any of the rigs get cold stacked? Or are you assuming the ones that are currently idle stay in warm stack mode?

Mark Burns

There's some assumption of cold stacking in there. I can't get into the real specifics for you, but we're assuming some will.

Operator

We'll now hear from Dan Pickering with TPH.

Dan Pickering - TPH

I guess and I apologize I missed this at the beginning. Venezuela, Dan, I think I heard you say you're continuing negotiations. Any payments of any kind at this point?

Dan Rabun

Nothing meaningful.

Dan Pickering - TPH

I want to come back to the discussion around you said you're having some rate relief discussions with three or four rigs in southeast Asia. Can you just describe I mean, is that a, okay we'll lower the rate type of discussions? Or is it give us some term, we'll take a lower rate? I mean how –

Dan Rabun

It's all trade for term.

Dan Pickering - TPH

Okay. So net revenue impact to Ensco is unchanged in your current negotiations?

Dan Rabun

That's correct. Increased.

Dan Pickering - TPH

Increased. Okay. So maybe lower rate, but significantly longer term or something?

Dan Rabun

Longer. I'm not sure significant.

Dan Pickering - TPH

Fair enough. Then, as we look at this stacking decision, I guess what I didn't hear in the discussion of the markets around the world was, basically, I heard Mexico looks potentially better. North Sea has a few incremental bids out, and then, essentially, the rest of the world is sort of static at best right now. So, is it time that is going to drive your decision? Is it a day rate level that drives your decision? Is it oil price? I'm just trying to understand how you are thinking about that or how you're analyzing the market?

Dan Rabun

In terms of stacking?

Dan Pickering - TPH

Yes.

Dan Rabun

Yes. I mean, it's pretty simple. We have several rigs that are warm stacked right now. We look in front of the rigs and say, what are the opportunities that we have on the near-term horizon. To the extent there isn't anything there, we'll go stack the rigs. So we have been actively addressing active leads and prospects for those rigs. So when we don't see any further near-term opportunity, that's when we'll make the decision.

Dan Pickering - TPH

Sounds like you define near-term as three to six months, something like that.

Dan Rabun

Yes. That's exactly right.

Operator

(Operator Instructions). We'll now hear from Pierre Conner with Capital One Southcoast.

Pierre Conner - Capital One Southcoast

Dan, I wanted to see if you could talk a little bit more about the Middle East and you mentioned you don't see any additional tenders for Saudi Arabia, Saudi ARAMCO there. There's been discussion about additional gas drilling. Do you envision that those would be opportunities undertaken by existing rigs or we just move to those prospects? What do you see there relative to further activity in that region?

Dan Rabun

Pierre, as far as opportunities in the Middle East, obviously the LNG big gas development projects in Qatar that have utilized several jackups over the last few years, those large development projects are starting to draw to an end. That's allowing out some un-utilized jackups. Also Saudi ARAMCO's announcement of decreased production, there's been some units released, out of Saudi Arabia. However, we continue to look at opportunities, for example. We've got a short-term opportunity coming up with (inaudible) here with one of our idle units that we're going to be doing here soon. So there's still some opportunities in the area. There's not a lot of long-term opportunities. So we're still looking at opportunities in the area.

Pierre Conner - Capital One Southcoast

Could you say that utilization is going to continue to decrease in that region, or has it stabilized as far as utilization? Not rates, just utilization?

Dan Rabun

I think we'll see some utilization decrease still between now and the end of the year, as some of these projects start to roll to an end, yes.

Pierre Conner - Capital One Southcoast

Next question is about the competitive landscape on the new builds coming out, and, Jeff, Dan, you guys have been to some of the construction yards. What is your opinion on the deliveries? Any cancellation potentials out of the some 70 plus in the order book on jackups I'm talking about now?

Jeff Saile

Pierre, I really haven't heard since the last call, really no new incremental information on that. I really don't hear a lot about cancellations. So what you do hear about for certain customers who have run into financing problems, and, they're working those out with the yard, so I would expect you'd see some diminution in the order book.

Pierre Conner - Capital One Southcoast

But no change, really, in perspective, that's your point?

Jeff Saile

Correct.

Pierre Conner - Capital One Southcoast

Dan I was going to ask you, your comment about the Gulf of Mexico with some potential incremental activity with the lower rates is interesting, and so a little more on that. The level of those inquiries, if you have the rig available at this rate, this project becomes available, or are there specific bids out there, inquiries for jobs?

Dan Rabun

Pierre, you know the Gulf of Mexico. You have got a lot of smaller operators that when rates get down to a certain level they take advantage of it and commence work activities. So there's those kind of operators there now kind of coming into the visibility.

Pierre Conner - Capital One Southcoast

Then last one for Jay. On the costs side, you mentioned the labor and the potential to secure additional reduction there. So supplies, you mentioned renegotiating with some of your suppliers. What percent of cost? I'm assuming that's in the 15%, 20% range. Then ballpark what kind of target would you have for how much you could cut that cost?

Jay Swent

Well, I think, in terms of percentages, as you know, Pierre, some vendors are less willing than others to be accommodating. So, the range is anywhere from zero to probably 20% at this point. And that's without working too hard at it yet. We've been working pretty hard with some vendors in trying to work that number higher. So right now, I'd say we've secured a number that's in the 10% range. Probably if you looked across the board and we are looking to keep working on that through a variety of different procurement strategies.

Pierre Conner - Capital One Southcoast

And the impact of that Jay, second half as well?

Jay Swent

Absolutely.

Operator

Our next question will come from (inaudible) from Carnegie.

Unidentified Analyst

Can you comment on how many units in terms of the new build coming to the market that are sort of at risk and may not come to the market or will be postponed?

Dan Rabun

You're talking about deep water?

Unidentified Analyst

Yes.

Dan Rabun

I don't have a headcount right in front of me; but I think it's pretty well publicized, what companies are experiencing problems and, several rigs that were contracted last year down in Brazil seem to be at risk and there are numerous others. I think it's all pretty much public information.

Unidentified Analyst

Also, you mentioned a bit on the sublet side. Are you seeing that rigs on the sublets are significantly lower rates than what the initial contract was both on the jackup and market (inaudible) part of it?

Jeff Saile

This is Jeff Saile. I'm not aware of any rate reductions in the sublets. I haven't heard of any. A lot of the sublets are opportunities for these guys that don't have, known long-term programs in front of them, and ultimately it could be an opportunity, or create additional opportunities for all the contractors if some of these sublets generated some success. You'd hold Brazil up as an example of what success in deep water will bring to the market.

Unidentified Analyst

I want to ask a question on the bid ask spreads. Can you give us a bit of color on sort of what the range is both for again the high end jackup deep water semi kind of a sub?

Dan Rabun

I don't really care to comment on that.

Operator

Next question will come from Elliott Glazer with DuPasquier.

Elliott Glazer - DuPasquier

There was an analyst report last week on Transocean, specifically on the deep water fleet, where the analyst expressed his opinion that fully contracted rates would have to come down, would have to be lowered because of pushback from the oil company operators. In a similar vein, as you take a look over the next few years at your contracted rates to your Singapore shipyard for the 8504, 8505, 8506. Is there any ability on your part to get them to lower the rates by getting them to go to the steel company suppliers and have them lower the steel costs. Because as you know, the price of hot rolled steel during the past seven months has been almost cut in half.

Dan Rabun

I don't think it [would come up] with any response with regards to the question. Clearly we continue to work on all of our costs. But you have to understand though that steel costs in new build construction is that since there is an not an effective way to hedge steel costs in the marketplace. That whenever you place an order for a new build rig it usually requires some portion of a down payment. That down payment is used by steel the day you order the rig. So that fact that steel has decreased in price really doesn't result in a direct increase of the cost of the unit.

Elliott Glazer - DuPasquier

What about the question of business gets any worse, if the oil price gets any lower, the oil company offering is even on the best deep water rigs will ask for some kind of price relief?

Dan Rabun

We haven't seen that kind of pressure on the deep water rigs. Like I said we would be out of contract with them, and we plan to hold them accountable for it. If they were to decrease rates just like we have done on the jackups, it would be in trade for something that was economically beneficial to us. Additional term or something else would be economically beneficial. Just as when the market was going up and we had below market rates, our customers held us to our contracts. We intend to hold our customers to their contracts.

Keep in mind, Elliot, too, on these commitments by the oil companies on these deep water projects are long-term commitments, so they tend to be fairly conservative on a commodity price. They're not as much driven by the current stock price.

Richard LeBlanc

We have time Jessica for one more question.

Operator

Next question will come from Geoff Kieburtz with Weeden & Co.

Geoff Kieburtz - Weeden & Co.

You mentioned in your comments that you were considering entering into new markets. I wondered if you could tell us a little about what you might be considering and maybe more importantly how do you think about entering into a new market when we already have pretty challenging competitive environment everywhere.

Mark Burns

We look at it very closely, Geoff. We are considering looking in Vietnam. Not considering we are looking at Vietnam. We go in and do our research in terms of administrative costs and tax structures. We look at our customer base. We look at the amount of programs over the next two or three years and, along with our mobilization costs of a unit and that type of thing. So obviously we do our up-front work on that. We also look at entering a new area. We look at the long-term geological impact of that area. Obviously if we don't see a great amount of geological potential in the area it just means that there may not long-term be a place we want to be. So we take all of that into consideration when we look at moving into a new market. So that's just one example. when we look at entering a new market. So that's just one example.

Dan Rabun

There's clearly – let me just add on to what Mark is saying. We would not move into a new market unless we had substantial term.

Geoff Kieburtz - Weeden & Co.

Are you thinking, as you look at the idle units that you have right now, that there's a meaningful number of those that you could put to work in markets you don't currently work in?

Mark Burns

No.

Richard LeBlanc

Thanks, Geoff. Again, we'd like to thank everyone for joining us today on our call. We look forward to talking with you again in July, July 23rd for our second quarter earnings conference call.

Jessica with that, I'll turn it back over to you.

Operator

Thank you. Ladies and gentlemen, that does conclude today's conference. We thank you for your participation.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!