Hornbeck Offshore Services Q3 2009 Earnings Call Transcript

| About: Hornbeck Offshore (HOS)

Hornbeck Offshore Services, Inc. (HSO) Q3 2009 Earnings Call November 5, 2009 10:00 AM ET


Ken Dennard - Investor Relations, DRG&E

Todd M. Hornbeck - Chairman of the Board, President, Chief Executive Officer

James O. Harp Jr. - Chief Financial Officer, Executive Vice President


Pierre Conner - Capital One Southcoast

Daniel Boyd - Goldman Sachs

Jud Bailey - Jefferies & Company

Dave Wilson - Howard Weil

Mark Brown - Pritchard Capital

Chris Glystein (ph) - Simmons & Co.



Good day, ladies and gentlemen. Thank you so much for standing by and welcome to the Hornbeck Offshore Services third quarter earnings conference call. During today’s presentation all parties will be in a listen only mode. Following the presentation the conference will be open for questions. (Operator’s instructions) As a reminder the conference is being recorded today on Thursday, the 5th of November 2009. I’ll now turn the conference over to Mr. Ken Dennard with DRG&E.

Ken Dennard

Thank you Michael, and good morning to everyone. We appreciate you joining us for Hornbeck Offshore’s conference call to review third quarter 2009 results. We also welcome out internet participants as they are listening to the call over the web.

Please note that information reported on this call speaks only as of today’s November 5, 2009 and therefore you are advised that time sensitive information may no longer be accurate as any time of replay listening.

During today’s conference Todd and Jim will make certain projections about future financial performance, liquidity, operations and events that are not statements of historical fact and thus constitute forward-looking statements.

As noted in today’s press release, these forward-looking statements are subject to risks, uncertainties, and other factors that may cause such future matters, including the company’s actual future performance to be materially different from that which is being projected today.

In Hornbeck’s 2008 Form 10-K and today’s press release announcing the earnings you can locate additional information about the factors that could cause the company’s results to materially differ from those projected, in the forward-looking statements.

Hornbeck’s Form 10-K and today’s press release is located on the investor relations SEC filing section of the company’s website and that address is www.hornbeckoffshore.com. And of course are also available through the SEC website.

This morning’s call will also contain references to EBITDA, which is a non-GAAP financial measure. A reconciliation of this financial measure to the most directly comparable GAAP financial measure is provided in the press release issued by the company this morning.

Now I’d like to turn the call over to Todd Hornbeck, Chairman, President and CEO of Hornbeck Offshore. Todd.

Todd M. Hornbeck

Thank you Ken, and good morning everyone. Welcome to our third quarter 2009 earnings conference call. Joining me today is Mr. Jim Harp, our Executive Vice President and Chief Financial Officer.

Our agenda for today’s call is to review our third quarter 2009 financial results, provide a brief overview of our current market conditions and update you on our new bill programs.

When we last met I reported that we were in a very tough market. That did not change in the third quarter. The only good news that I can report that maybe, just maybe we’ve seen the bottom of this current cycle.

We saw a few more drilling units join the active Gulf of Mexico fleet. The jacked up count grew from an anemic 16 jacked ups when we last met to 22 units as of this week. Deep water demand drivers remain pretty stable as they have throughout this down cycle, creeping up slightly to 28 drilling units.

This is closer to the 30 or so units we generally saw through most of 2007 and 2008. So the patient has a pulse, but we’re not out the woods yet. Long term, we remain confident that as the economy rebounds so will drilling and other exploration, development and production activities. Which are the primary drivers in our business.

We can take comfort in the fact that despite a pretty severe world wide recession, oil prices have for the most part held pretty firm and appear to be at a price that can support deep water projects going forward.

When we began the year I shared with you our objectives which included taking measure to control costs in the face of this downturn. Our cost cutting strategy has been to one, find and eliminate any non essential spending, two, stack vessels early in the down cycle and three, sell non core assets.

On a same store sales basis for the first nine months of 2009, we estimate that we have saved $21 million in cash operating expense and $9 in overhead through this strategy. Clearly our decision to get ahead of costs early on in this down cycle has helped us keep our margins pretty healthy.

Excluding gains on sales, our OSB operating margin was 32% for the quarter and our EBITDA margin was 54%. As the cycle plays out we will continue to look hard at where we can reduce or eliminate costs.

A second area of focus during 2009 has been to secure quality contracts. In a downturn, this is especially challenging. As of today we have 40% of our available vessel days in 2010 contracted for our OSB fleet. It is note worthy that we are heading into 2010 with pretty healthy contract coverage on a larger OSB fleet compliment.

As you know, most of our contract coverage was set during an up market in the first half of 2008. More recently we’ve been successful in securing new term contracts in Latin America and in the Middle East at day rates higher than the current Gulf of Mexico’s spot market. But it is important to keep this in proper perspective. While we might see some improvement in utilization over the near term, I don’t think we’re going to see pricing that matches what we’ve seen over the past couple of years any time soon.

Looking into 2010, we expect to see the market reset at lower than we saw in 2007 and 2008 prices, but on a higher utilization base compared to 2009. Assuming activity begins to pick back up, that is.

We will of course maintain price discipline and seek to maximize day rates. We will not work and we’ll stack vessels if necessary if pricing does not justify keeping vessels in the market.

On the new bill front, we saw additional progress. First we delivered the HOS (inaudible) our second T22 DP3 NPSV from the ship yard and mobilized that vessel to the Gulf of Mexico for some final commissioning. We expect that vessel to enter service this quarter and begin making a contribution to our financial results.

Since our last call, we have placed two additional new general OSVs in service. One of which immediately entered the spot market in the Gulf of Mexico and one of which commenced service under a long term charter with the military.

Two additional vessels have been delivered from the shipyard. One of which is being ready for its multi year charter with the military in the first quarter for 2010. The other of which will enter the Gulf of Mexico spot market during the fourth quarter of 2009.

We are pleased with the rate of which we’ve been able to place our new OSVs into service following shipyard deliveries. We’ve seen very little lag time which in large part is due to the long term contracts we have secured for most of the new OSVs in advance of their shipyard deliveries.

We are down to only four OSVs remaining to be delivered under our current OSV new bill program, which Jim will explain. This represents about $63 million in growth CapEx remaining to be funded in 2009 and 2010.

The HOS Strongline our second 370 class Jones acting PSV is nearly shipyard completion. While we had hoped that the Strongline could be placed in service by the fourth quarter of this year, her anticipated in service date has slipped slightly to the right. We now expect to see that vessel beginning to make a contribution in the first quarter of 2010.

Our sister vessel the HOS Centerline which was delivered in early 2009 this year recently received final regulatory approvals to operate under Subchapters L, I, D and O. We have taken advantage of general softness in the market to make some final modifications needed to comply with the Subchapter D and O requirements.

This vessel is now not only the largest supply vessel in the world, but also the only vessel to be authorized to work under these four subchapters. We expect that the Strongline will also receive this regulatory pedigree.

A HOS Centerline and soon the HOS Strongline are remarkable vessels, the versatility of which the customer community is quickly coming to understand. We are keeping the HOS Centerline in the spot market expanding her resume and demonstrating her unique capability. Thus far the vessel has been utilized for large spud loads and has served as a (inaudible) in the Gulf of Mexico. With its new DNO notations we are actively bidding the vessel for flow-back and well test opportunities.

During the third quarter we took steps to further strengthen our liquidity and financial flexibility by completing at $250 million note offering which was used to pay off our revolver and supplement cash.

Yesterday we closed on and amended and extension of our revolver and enhanced it with $100 million accordion feature.

We have with these measures strong and ample liquidity to complete our existing growth plans and take advantage of other strategy opportunities that may arise.

Before I hand over the call to Jim to take you through the numbers in greater detail I want to reiterate our commitment and long term confidence in the fundamentals that underpin our business model. The current downturn presents short term challenges which we will continue to meet head on every day. But as we look through the windshield we continue to be optimistic about the long term strategic objectives we’ve established for ourselves when we started this company over 12 years ago.

We are a deep water focused company striving for excellence in the marine services we provide to our customers. The Gulf of Mexico remains one of the most prolific deep water markets in the world. And for that reason we believe that our Jones Act qualified fleet of new generation vessels will continue to prosper in this dynamic deep water theater.

We believe that our focused international growth which is levered to offshore markets in our hemisphere principally, Brazil and Mexico right now and probably will extend into Africa will provide a platform for further growth and expansion.

Finally I want to give a special recognition to our crew and the management team of the HOS Achiever. This is our other T22 Class DP3 MPSV. Later this month the HOS Achiever will complete the operational phase of a highly successful assignment for a major international oil company in the Gulf of Mexico. The vessel has remained on station and under continuous dynamic positioning operations since April 17, 2009. Our customer has received 100% up time from this vessel and her crew with zero reportable incidents. We are proud of the superior service the HOS Achiever has provided on her first major deep water project and salute the excellence demonstrated by all who have been involved in her early success.

To put that in perspective; being on dynamic positioning since April 17th, that would equate to over 6,600 hours of continuous DP operations offshore or 275 days straight, 24 hours a day.

So with that, let me hand over the call to Jim to take you through the financials.

James O. Harp

Thanks Todd. Good morning everyone. As Todd mentioned we have endured some pretty difficult market conditions over the last couple of quarters and our outlook for each of our business segments during the fourth quarter is not expected to materially change.

Despite these challenging times we have continued to produce respectable margins for our shareholders by reigning in costs. We remain optimistic about our long term business model as we hunker down through this tough economic environment.

I’ll start by recapping our third quarter financial results. Our third quarter 2009 EPS, or earnings per share, was $0.51 per share on a weighted average share count of roughly 27 million diluted shares.

Our third quarter EBITDA was 43.6 million, adjusted EBITDA which is the starting point we use to compute ratios for the financial covenants of our revolving credit agreement was 45.7 million for the third quarter of ’09. For additional information regarding EBITDA and adjusted EBITDA as non-GAAP financial measure, please refer to Note 10, to the data tables in this morning’s earnings release.

I’ll now move into our segmented data. Upstream revenue was down 16.3% from the year ago quarter. Revenues were negatively affected by lower effective day rates from our new generation OSVs that were in service for the current quarter and the year ago quarter as well as a decrease in revenue from new generation and conventional OSVs that were stacked or sold since the prior year quarter.

These decreases more than offset the incremental revenues generated from nine new vessels added to our upstream fleet under our ongoing new bill and conversion programs.

OSB market conditions in the GoM for our 200 Class vessels continued to deteriorate during the third quarter of ’09. This vessel class has experienced a decrease in average day rate of approximately $3,400 per day from the beginning of ’09. And the leading edge spot day rate decreases of as much as $10,000 per day or roughly half of the rates we experienced in late 2008.

The extended soft OSB market condition in the GoM has now begun to effect demand for our larger 240 and 265 Class OSVs. Average day rates for these larger OSV classes have decreased sequentially by roughly $2,000 and dropped approximately $4,000 compared to the first quarter of this year.

Effective or utilization adjusted day rates for our 240 ad 265 Class vessels were down approximately $1,700 from the second quarter and down roughly $6,700 from the first quarter. The OSV demand outlook in the GoM is not expected to change much in the near term based on various market indicator such as rig counts and oil and gas industry capital spending budgets for the remainder of ’09.

In recognition of the current and forecasted soft demand for such vessels we elected to stack eight 200 Class new gen OSVs on various dates since May 2009. We’ve also taken proactive measures to mobilize vessels to nearby foreign markets such as Latin America as well as other strategic approaches to mitigating this market force.

As a reminder when we achieve a full run rate fleet complement of 51 new gen OSVs each $1,000 change in effective day rate will result in an $18.6 million change in annual EBITDA and a corresponding annual earnings per share impact of $0.43 assuming period over period costs and share counts remain constant.

While we have had some measure of success with our newly delivered MPSVs these vessels have also been impacted by the tough market conditions in the GoM. Fleet wide MPSV effective day rates have trended about 25% lower than what we had originally projected for ’09. The Centerline experienced about 10 days of down time during the third quarter. And we expect an additional 40 days of down time during the fourth quarter to complete final documentation activities.

Upstream operating margins were 32.3% for the third quarter compared to 58.3% for the year ago quarter. Excluding gains on vessels sales from both periods, operating income would have been $23.7 million or 32% of revenues in the current quarter compared to $44.6 million or 51% of revenues in the prior year quarter. This decrease in operating income and operating margin was largely due to the market driven decline in our effective OSV day rates.

Our downstream segment revenue decreased 22% from the year ago quarter. Soft market conditions that resulted in the stacking of all of our single hull tank barges on various dates since the second quarter of 2008 and to a lesser extent the open 90 retirement of two of our larger single hull tank barges in December 2008 and June 2009 were the primary drivers for our downstream revenue decline.

These decreases were partially offset by a $5.4 million of incremental revenues related to contract cancellation fees recognized during the quarter. As an aside, I would like to clear up some potential confusion around the contract cancellation fee. The only reason we broke out the $5.4 million fee in our press release this morning was to give you an adjusted average day rate excluding such payment for the sake of better comparability to prior quarters. In no way did we intend to imply that this is a non recurring “adjustment” that should be viewed negatively or otherwise non operational. Quite the contrary, this fee is tantamount to customer revenue that we would have otherwise earned over a period of time for a specialty job that was cancelled. This is not uncommon for such high profile specialty work. This has occurred in the past and will likely occur again in the future.

Todd can elaborate further in Q&A if you have any further questions on this matter.

As of September 30th, we had all of our single hull tank barges and six lower horse power tugs stacked. Our active downstream fleet is expected to remain at its current headcount of nine double hull barges and 10 ocean going tugs through the remainder of ’09.

Moving into our operating costs on a segmented basis, cash OpEx for the third quarter of 2009 was $31.1 million for the upstream segment and $8.6 million for the downstream segment. We continue to expect cash OpEx per vessel day in fiscal 2009 for our active fleet to be less than those in fiscal 2008 levels, after excluding contract related costs recoverable through higher day rates or other revenue.

With this recent stacking of two additional new gen OSVs we expect to achieve additional operating cost saving beginning in the fourth quarter.

Moving into overhead, our third quarter G&A expenses of $6.9 million were 7.7% of revenues which is below our 2009 – or previous 2009 guidance range and the historical industry average of our peers of 9%-10% of revenues.

G&A costs for the quarter were allocated 83%, 17% between the upstream and downstream fleets. That 83-17 split between the two segments.

Given our estimated revenue range for the remainder of ’09 we expect G&A to be in the range of 8%-10% of revenues.

As we reported last quarter we commenced pro active cost cutting measures early this year to combat the demand weakness in each of our operating segments. We are pleased with the results of our efforts so far. As Todd commented earlier our strategy has generated year-to-date cost savings of $30 million over the prior year, calculated on a same store sales basis. Stated another way, had we not achieved these cost savings, our company wide operating margin for the first nine months of this year would have been 10 percentage points lower. It is also worth mentioning that we have been able to achieve these cost savings while continuing to execute our growth strategy.

During August 2009, we sold three of our six remaining conventional OSVs for net cash proceeds of $6.1 million. In addition, we sold five of our stacked single hull tank barges in October 2009 for net cash proceeds of $3.1 million. These two recent sales have netted us an aggregate $9.2 million in cash. All eight of these vessels are designed for foreign markets.

To recap, our fleet rationalization program, early in 2008 we owned 10 conventional OSVs, 12 single hull barges, and eight older non rebuilt tugs. We identified these 30 vessels and no longer strategic for our core business model and began to actively market these assets for sale. Including our two recent sales, we have now sold 13 of these 30 vessels for aggregate cash proceeds of $28.4 million and an aggregate gain of $9.5 million.

We expect sales prices at or above our total net book value of $16.6 million for our remaining 17 non core vessels. These non core assets, all of which are stacked, are now comprised of 30 conventional OSVs, seven single hull tank barges and seven lower horse powered tugs.

I’ll now review some of our key balance sheet items for the third quarter. Today we announced an amendment to our revolving credit facility that maintains the prior $250 million barrowing base but now includes an optional accordion feature that allows for the expansion of the facility under certain conditions up to an additional $100,000 or an aggregate of $350 million. This amendment extends the maturity of our revolver from September 2011 to March 2013, and provides us additional financial flexibility.

We also swapped the vessel pledges as collateral under the amended facility so as to reduce the total number of such vessels to 19 new generation OSVs. None of our downstream vessels are now pledged under this facility.

The new labor pricing grid is roughly 200 basis points higher across the board than our prior pricing grid. And our unused fee is slightly higher at a flat rate of 50 basis points.

With a posted letter of credit of $900,000 on our revolver, which is otherwise undrawn, we had 249.1 million of credit immediately available under this facility at September 30th. And this availability remains unchanged as of today. With total cash and cash equivalents of about $62 million at quarter end and our undrawn revolver barrowing capacity we had about $310 million of immediately available liquidity.

As of September 30th our total debt is now comprised of our $250 million undrawn revolver, $300 million of 6 1/8 senior notes due 2014, $250 million of 1 5/8 convertible senior notes due 2026, but with a first call date of 2013 and our recently issued $250 million of 8% senior notes due 2017.

We currently pay a blended average cash coupon of about 5.3% on our $800 million of funded total debt, which results in an annual run rate of cash interest expense of approximately $44 million. Really its $42 million but when you add the 50 bps of unused fee on the new revolver its cash debt service per year is $44 million.

After considering the recent issuance of our 8% senior notes during the third quarter and the amendment to our revolver announced today, we have extended our weighted average debt maturity since last quarter by 35% to just over five years or a weighted average increase in maturity of 1.3 years.

While our effective tax rate for GAAP, or the generally accepted accounting principles, GAAP income statement purposes is roughly 37% for 2009. On a cash basis we currently estimate that we will only need to pay income taxes of approximately $500,000 in the fourth quarter of ’09 bringing our total annual cash taxes for 2009 to $16.1 million. However, we only expect to pay about $1 or $2 million in cash taxes in 2010, for the full fiscal year of 2010.

Our overall growth CapEx budget for our two active construction programs remains at $925 million. We have already paid $853 million or roughly 92% through September 2009. The remaining construction costs related to our MPSV program and our fourth OSV new bill program of approximately $72 million are expected to be paid over the next 12 months with about $38 million of that figure to be incurred during the fourth quarter of ’09 and $34 million in fiscal 2010.

With our recent financings and the nearing completion of our construction programs we feel very confident in our overall liquidity position and the strength of our balance sheet. In addition, we look forward to the substantial free cash flow generating capacity of our growing fleet in 2010 and beyond. All of these factors position us well for whatever strategy opportunity may present itself.

Moving into our recap of our dry dock activity, during the third quarter, we dry docked three new generation OSVs for a total project cost of $3.4 million of which $1.3 million was spent in the third quarter and $2.1 million is expected to be incurred during the fourth quarter. During the fourth quarter we expect the dry dock two additional new generation OSVs at a total project cost of $2.7 million, all of which we anticipate spending in the fourth quarter.

The projected fourth quarter dry dockings represent 67 aggregate days out of service for our new gen OSVs. Combined with the 12 OSV dry docking that occurred during the first nine months of this year, we expect to have incurred roughly 419 days out of service for dry dockings by the end of the fourth quarter.

Excluded from this total is approximately 150 aggregate days of down time during the fourth quarter for two vessels that have been or will be dry docked and modified in prepositioning for a long term charter in Brazil, which is expected to commence in late 2009. In addition, we have two additional vessels that will incur similar periods of downtime in 2010 to preposition them for long term charters in Brazil that are currently expected to commence in the second quarter.

We expect annually recurring maintenance CapEx inclusive of differed dry docking charges to trend higher from the current range of $25-$30 million per annual to somewhere in the range of $35-$45 million over the next couple of years beyond 2009. You will note that in the tables provided in today’s press release, our 2009 projected maintenance CapEx is $38.2 million but only $28 million of that is considered annually recurring maintenance CapEx. We increased our projected other vessel CapEx from the prior quarter by approximately $7 million for the purchase of a 100 ton heat compensated crane to be installed on one of our MPSVs.

Wrapping up with our revised annual 2009 forward-looking guidance range we reported this morning. In recognition of our actual nine months results and currently prevailing market trends in each of our business segments, this morning we lowered our EBITDA guidance for the full year ’09 to a range of 185-200 million and our diluted EPS guidance to a range of $1.63-$1.97 on a GAAP basis. EPS guidance was also lowered to reflect the impact of additional interest expense associated with the company’s recent senior note offering and the amendment of our revolving credit facility.

Excluding the downstream segment non cash impairment charge that we booked in the second quarter and non cash OID interest expense under APB 14-1 related to the adoption of new accounting rules, adjusted EPS for fiscal ’09 is expected to range between $2.36-$2.70.

The pro forma run rate EBITDA illustration included in the tables of our press release this morning reflects the low and high case assumptions outlined in Footnote 11 to that table. Which among other assumptions, includes a full year run rate contribution from our two growth initiatives which are comprised of four MPSVs and 16 OSV new bills as though such vessels were in service as of January 1, ’09 and January 1 ’08 respectively.

Based on these assumptions, we are projected pro forma run rate EBITDA of between $265-$401 million and pro forma adjusted EPS in the range of $2.69-$5.86 per share.

With that I’ll turn it back over to Todd for any further comments or to entertain questions.

Todd M. Hornbeck

Thank you, Jim. I think we can open it up now to questions.

Question-and-Answer Session


(Operator's Instructions) Our first question is from Pierre Conner with Capital One Southcoast.

Pierre Conner - Capital One Southcoast

Good morning, gentlemen. First question, Todd, Jim, there's a pretty wide range on the guidance for the fourth quarter and I wondered if you would elaborate on what kind of variables we might be watching to see where we would end on that range, assuming it's mostly associated with the utilization on the NPSVs if that's correct?

Todd M. Hornbeck

Yeah. You hit the nail on the head. I mean, while we see the market firming and we see into '10, epically the wider part of '10 starting to firm and a lot of projects and a flurry of activity, we're just being conservative. The NPSVs are coming into the market for the first time, very large vessels, very large projects that these NPSVs go on, a lot of engineering required so those projects can move to the right pretty easily. So through the end of the year with the Strongline not going to deliver until the first quarter, that being one element, and also just general market conditions we're being conservative.

Pierre Conner - Capital One Southcoast

Okay. On the Strongline you anticipate getting all of your certifications in that startup period as —

Todd M. Hornbeck

Yeah. We anticipate that they will all be done prior to delivery unlike in the Centerline where we went ahead and delivered the vessel to start doing spud loads and float tell services and working on the traditional upstream OSV type work and while we were applying for the D&O applications which takes much longer in time because they're specialty applications for hazardous cargo and dangerous cargo handling, and then come back in and do her modifications as we move through that process. That won't happen on the second vessel.

Pierre Conner - Capital One Southcoast

Okay. My followup is on the — basically I am trying to get a feel for your limited amount of exposure in the Gulf of Mexico, so kind of pro forma the vessels going to Brazil plus your military contracts east coast west coast plus the two additional — where are we in terms of the number of vessels operating in the Gulf and then what's that split on spot in term, Todd?

Todd M. Hornbeck

Well, we usually don't break that. I think we gave that to you in percentages of what we're contracted through the end of the year, 60 something percent so I would say 40% in spot. On the Brazil, four contracts going to Brazil. Those are moving to the right a little bit. We have a window to deliver those four vessels between the middle of November and all the way to the end of March. So that's the window to deliver those vessels in. I think hopefully we can depart with two of the vessels out of the four by the end of this year because we have some minor conversions that have to take place and some equipment that has to be put on for the contract, and then two, the first part of next year probably around March.

Pierre Conner - Capital One Southcoast

Okay. Well, I'll stick with two and re-queue for followups.


Thank you. Our next question is from the line of Daniel Boyd with Goldman Sachs.

Daniel Boyd - Goldman Sachs

Hi. Good morning, guys. Can you add some comments on what you're seeing in Mexico? There seem to be some mix expectation on if they're going to let some vessels go, if they're going to take more vessels in, or what is your view of that market?

Todd M. Hornbeck

Well, our view long term is that PEMEX is not going out of business and they're going to drill and they really need to drill to recover any of their depletion curve. So long term we think the budget issues will get worked out. Of course, as you know, they've spent their 2009 budget. Our contracts down there are fixed so we don't really have — and our contracts are in the 2009 budget and beyond so we're secure on those vessels.

We think eventually that that budget will be fixed and there's going to be incremental vessels going into Mexico and incremental rigs going in. I know it's all over the map right now, but this is not uncommon for Mexico. This is because they typically try to approve a budget every year and they're trying to move more towards getting budgets approved for multi year and so it's just a very narrow time slice. I don't have a lot of energy over it and I'm pretty bullish that they're going to get that fixed and they're going to have a lot of incremental work in Mexico.

Daniel Boyd - Goldman Sachs

Okay. And a followup is, other work or other opportunities that you see to move vessels out of the US Gulf of Mexico, you mentioned Africa, if you could expand on that; and also if you can give us a bigger picture for Brazil and what that can represent to Hornbeck one day? How big would you want to be there, what would be the time progression, would you be interested in building vessels in Brazil?

Todd M. Hornbeck

Well, let me start first — Brazil is a big topic so let me start first with Africa. As you know, up and down the African coast from Nigeria to Angola in the Congo and EG, the whole thing has got a lot of opportunity and the biggest opportunities for us in that market are going to be the sub sea construction, the NPSV type opportunities, and flotels and things of that nature. We just see that growing in the near term in '10 and looking and we're bidding several opportunities into those markets. Whether we're going to be successful remains to be seen, but it is a big market and eventually as we're growing our fleet and expanding internationally, particularly with the NPSVs, we have a lot more capabilities in the company that we can do a lot of specialty type projects. We'll probably eventually find ourselves operating on that coast, but no definite plans to go in there to penetrate the market. It's going to be on a case by case basis and a contract in hand before we go into that market, for a specific job.

Now, in the case of Brazil, everyone knows that's going to be one of the largest deep water markets in the world. It is moving at a very fast pace. We know they have some infrastructure problems trying to build equipment in Brazil. Petrobras is picking up a lot of equipment on the open market around the world. We were successful with the first four 200 class vessels negotiating a contract there. We are bidding into that market. We're currently negotiating an additional four vessels to go into that market in about the 240 size range that would potentially be for three-year contracts starting the first half of 10. So we're in the middle of those negotiations and hopefully we'll be successful there.

Going forward we see a lot of opportunity not only with the NOC Petrobras, but also the independents that are in that market or the other oil companies like Shell and Chevron and Anadarko that are growing their footprint there.

And so we see on a long-term strategy that we will be moving equipment on an alternative basis compared to what we can get in the Gulf of Mexico into Brazil on contracts before we arrive in Brazil and also we're looking very hard at in-country opportunities whether it be a new-build opportunity or buying equipment in the market. I think it’s a little too early for us to say that we know exactly how large we want to be in Brazil. I think that's a dangerous path to go down to set such a market, but we're going to monitor it like we always have and try to do good deals that make a good return on invested capital. So we're going to do it by the numbers.


Thank you. Our next question comes from the line of Jud Bailey with Jefferies & Company.

Jud Bailey - Jefferies & Company

Thanks, good morning. Follow up on Brazil, Todd, you've been putting vessels down there, the Gulf has obviously been very weak and so has the North Sea. In the last few quarters as you have been negotiating to put more vessels down there, how much rate pressure have you seen for the various asset classes that you’ve been bidding down there?

Todd M. Hornbeck

Not as much as we'll probably see going forward. The contracts that we've been negotiating have been long term in nature and have started six or seven months ago. This is not something that is just recent and I suspect with what's happening in the North Sea there will probably be some more pressure. But you have to bear in mind that Petrobras is a very particular company to work for, very demanding, the contracts can be very complex, and it's not a market in which you're just going to see a company just show up in Brazil because they want to be in Brazil.

It is something that is from an operational standpoint complex and from a contracting standpoint complex, so that weeds out a lot of people just showing up in Brazil.

The spec of the equipment is very high, so that's good for us, and the operating efficiencies demands are very high as well. So I haven't seen as much pressure as you’d think in this market and I think what we're seeing in '11 and '12 and '13 with the market really increasing in those years starting mid '10, I don't see the people with the high-end equipment low contract in their equipment long-term at low-day rates. I just don't think that that's something that's going to be very wise to do. I think most of the people with the high-end equipment are going to take the spot market, operate at the market conditions that we have today and preserve the upside opportunity in the market because we know that it's going to — we're very confident that this market’s going to improve greatly over the next couple of years.

Jud Bailey - Jefferies & Company

Okay. And my followup is you mentioned working good vessels in the spot market, it sounds like some of your new builds are going to immediately go into the spot market, can you give us a range of expectations for what that class of asset could fetch in the Gulf of Mexico, maybe now and what you think once construction season picks up next year?

Todd M. Hornbeck

I think that we're starting to see a build of activity and I hope it carries over to the first quarter of next year. Typically we see a build in the fourth quarter and then it drops off in the first quarter of the following year, but what we're seeing in this downturn is that the new generation 240 type class equipment is staying between the $14,000-$20,000 range, depending on the project. If that vessel is going to go work on a traditional shelf project or a transition zone project, it's probably going to be at the lower range. If it's an ultra deep water project where the risk factors are much higher it's going to be at the higher end of the range, and depending on what company it's working for.

What we are also seeing in a great degree, not only in the Gulf of Mexico, but worldwide, is as we've gone through this downturn a lot of the older tonnage is being stacked in what we believe will be taken out of the market permanently. You know we had a lot of the conventional vessels that stayed in this market as a result of Katrina and Rita and Ike and Gustav and all the storms over the last five years — kept a lot of tonnage in this market that would have otherwise been scrapped. We're going to see that attrition rate pick way up. We've already seen it in this market and I don't anticipate any of that equipment really coming back into the markets. So that's going to hold up the day rate opportunities for the new generation equipment, and as the market builds back we should not only firm that base of day rate, but improve on it pretty rapidly.

I really don't know the time slice when that would happen, I would suspect it'd be more towards the latter part of '10. First we're going to build the utilization back and then we'll build the day rate on top of that, toward the end of '10 maybe into '11, but we're very bullish on the market and the fundamentals and our customers are planning long-term capital expenditure projects and drilling projects. It's not the Dead Sea; it is a very active market.


(Operator's Instructions) Our next question's from the line of Dave Wilson with Howard Weil.

Dave Wilson - Howard Weil

Good morning, guys. I got two real quick ones, first on the Iron Horse. Does it currently have a contract or will it be entering into the spot market?

Todd M. Hornbeck

It will be entering into the spot market. We should finish her commissioning mid month of November and we are currently in negotiations for several contracts in their spot in nature. Some are two weeks long, some are 30 days long, some are 90 days long and so she'll start her jobs in those specific projects in the Gulf of Mexico, but that vessel is being bid and we're bidding with NOCs all over the world. It's being bid into West Africa and Brazil on much larger scale projects. So the answer to the short question is it will enter the spot market, but we already have a number of identified projects that it'll be going to.

Dave Wilson - Howard Weil

And because it's being marked so many places, I guess, the range on the day rate is pretty wide as well?

Todd M. Hornbeck

Yes. Right now they're pretty wide. We don't anticipate, kind of like the OSV market, we see the demand really picking up for that equipment in '11 and '12. Our goal for 2010 with the NPSV equipment is to really build its resume on those four vessels, do a lot of different types of jobs, and put them through the paces whether it's tree installation or subsea infrastructure or decommissioning jobs or oil back opportunities or flotels to really build those resumes on that equipment and show their capabilities and then as the market improves, select where we're going to permanently place that equipment.

Dave Wilson - Howard Weil

Got it. And then another real quick one here, on that OSV that went to work for the military, that was basically a swap, but it wasn’t additive, correct?

Todd M. Hornbeck

That is correct. We have four that are going to the military as we've I guess been talking about for a year. They're finally coming to market and replacing those vessels. And those four vessels actually are the four vessels we're negotiating in Brazil, the ones that are coming off with the military to go directly into Brazil. So that's happening as we talk. And there may be some incremental demand coming from the military as well.

Dave Wilson - Howard Weil

Great. Thanks a lot, guys.


Thank you. Our next question comes from the line of Mark Brown of Pritchard Capital.

Mark Brown - Pritchard Capital

Hi, guys. Just wondering of the vessels going to the military, what kind of a day rate do you get on those relative to the rest of your fleet?

Todd M. Hornbeck

That's confidential with the military, but I can tell you if you took the average day rates that we announced when we did the 11 or 12 contracts for the new build program for OSVs, it's above the average. So healthy day rates, they’re not low day rates by any means.

Mark Brown - Pritchard Capital

Okay. And just wanted to get your opinion on the IRS investigation of foreign vessels that have not been complying with tax requirements allegedly, if you think that that is something that would benefit you and if that turns into some kind of enforceable action and what the likelihood of that would be?

Todd M. Hornbeck

It's interesting you bring it up. This is something that we've been monitoring for a few years and we received the information last Friday. This first reared its ahead about a year ago. There was white paper done from an accounting firm about this issue and we believe that there are probably some problems out there. We don't know exactly with whom or what vessels, but there's been about 45 foreign vessels trading in the market and it's a big issue. I think that if our suspicions are correct that they have not been complying with the same tax regime that have in the US, it will definitely be beneficial to us because they artificially had low day rates when we're trying to compete in the market because we're a full US taxpayer and they’ve had the benefit of an artificially low day rate because of not paying the same sort of tax rate. So this would be a big benefit to us.

We are tax compliant in the US even though we own a couple of foreign vessels like the Achiever and the Iron Horse. We do have a PE in the US and we pay all of our US taxes. So we think it's going to even the playing field and it's going to be very beneficial to our company, but this has just started this process and we'll update you each quarter as we hear what's transpiring. That coupled with the strengthening of the Jones Act that we saw this year from the customs are two very positive moves for the US domestic fleet.

Mark Brown - Pritchard Capital

Okay, thank you. And just my final question if I may is on the revolver, what was the rationale for increasing using the accordion feature potentially increasing it to 300 million?

James O. Harp Jr.

We didn't actually exercise it, we just build it in as optionally for the future so that we can more easily call on that money in a very quick fashion. Our existing bank group is only, of course, committed to the borrowing base of 250, but the mechanism and the ability to call on that incremental 100 million of available volume capacity by having it built into the accordion into the revolver now allows us to, in the future should we have an opportunity arise, call on that money very quickly.

Mark Brown - Pritchard Capital

Okay. Thank you very much.


Thank you. Our next question is from the line of Chris Glystein (ph) - Simmons & Co.

Chris Glystein - Simmons & Co.

Thanks, good morning. Quick question, one, of the captive vessels in the Gulf of Mexico, how many of those do you think are new generation?

Todd M. Hornbeck

Today would be the majority; there are a few stretch vessels in the market. You had some companies about 10 years ago decide to take some 180s and stretch those vessels and try to put a quasi-DP system on them to compete in the transition zone in the deep gas and those might be left in the market, but most of the 180s or the conventional vessels have now been taken out of the market and stacked and probably permanently retired. So it's going to be virtually all new generation equipment today.

Chris Glystein - Simmons & Co.

Where does the order book for Jones qualify vessels stand point?

Todd M. Hornbeck

I have that —

James O. Harp Jr.


Todd M. Hornbeck

Forty-five vessels, I believe still remaining to be delivered into the market between now and 2012, 2013 — by the end of 2012 I believe. And a lot of that equipment, just like our equipment, will find its way. This equipment that we build in the US is competitive worldwide. So as markets pick up in Africa and Brazil —

James O. Harp Jr.

Thirty-one vessels.

Todd M. Hornbeck

Thirty-one vessels, I just got the confirmation on that, 31 remaining to be delivered — will transit international. We have possibly eight vessels going to Brazil, we have, we think an incremental demand in Mexico that will come out of the US flag fleet in 2010. Whether it's our vessels or our competitors' vessels, it could grow by another five or six or eight vessels going to Mexico and those will be US flags that will trade out of the market. And likewise, the new generation equipment that's being delivered to the market won't all stay here. It will move as the demand driver’s move around the globe.

Chris Glystein - Simmons & Co.

Thank you. That's very helpful.


And we have a followup from Pierre Conner, please go ahead.

Pierre Conner - Capital One Southcoast

Thanks for letting me back through. I just wanted to get an update, Todd, you wrapping up a successful job for the Achiever, what’s sort of on the burner for that in terms of what types of work and when?

Todd M. Hornbeck

Well, the same as the Strongline, we're looking and we're bidding actively bidding her in this market and other markets. I don't expect her to really be available to put out into the market until probably mid-January. We're looking at expanding some crane capacity on that vessel that I think Jim announced to you that we bought a crane, and we're looking at the best asset to put that crane on, and we think it may be the Achiever, it may be another one of our NPSVs, but if we select the Achiever for that particular crane we'd have to mobilize her to Norway, install it, and then be ready for the construction season starting in March. So between now and the end of the year we've got some decisions to make there. But those two vessels are very unique in the world because of their DP3 qualification and just their physical size. And there's very few DP3 capable vessels of their magnitude that are available in the world today as we want to work in the spot market until it firms up the long-term requirements for that type of equipment.

Pierre Conner - Capital One Southcoast

Okay. And then my followup is unrelated, but would give you a chance to speak about the TTB segment a bit on your visibility as well as your interest in where do you stand on divestiture?

Todd M. Hornbeck

Well, that's a good question. That market, of course you know ebbs and flows strictly with the economy and with what's happened this year with the economy, you would suspect it to be pretty low ebb which it is. At some point as the economy recovers there's going to be about 15%-20% less capacity in that fleet because of the stacking of the single hull equipment that was actually in the market until 2014, but it is accelerated that D-Day, I guess you might as well say, of that equipment and it's taking out of the market and we don’t' expect any of it to return into the market. The costs to get it back in the market for such a short period of lifetime don’t justify it. The rates would have to quadruple and so we're going to be — we have nine new generation double-hull barges that are a big part of that market.

As the economy comes back they're going to be in very high demand. We are looking at strategic alternatives to either sell that equipment, consolidate it with another owner because it's not a very fragmented market — and any consolidation in that market really changes the dynamics of it, or we may be a consolidator of that market ourselves under the right circumstances. So we're keeping all of our options open. We know we have great assets in that market. That's going to come back and when it comes back it's going to be, as you've see in the past, a very high margin, strong cash flowing entity and it's non core so we have a lot of optionality with that segment of our business.

Pierre Conner - Capital One Southcoast

Okay, thanks.

Todd M. Hornbeck

I also wanted to mention, Jim had mentioned about I've seen some reports earlier this morning about the $5.4 million cancellation fee in that business. That is typical with the specialty type work that we do with that equipment. They're very large scale projects, a lot of engineering, a lot of planning to do the specialty projects, and then when you get to do the specialty project it could move to the right or be cancelled altogether depending on whether the oil company is going to make a deep water well or not.

So that is typical in that market and that is revenue we would have otherwise earned in the downstream market working in the traditional business. So anticipate that that money or that cancellation fee is typical. We had those in the past and we will have them in the future. What's unique to Hornbeck is that we've got these downstream assets with this upstream complement that we have that we can move equipment from the downstream to the upstream and back and that's the value we bring to the table with our strategy.


All right, thank you. That does conclude the question and answer portion of our conference. Mr. Hornbeck, please continue with any closing remarks you may have.

Todd M. Hornbeck

I want to thank everyone for joining us on this call. I know it's been a tough market out there this year for the broader oil field service market. I think Hornbeck is positioned properly with the right type of assets. Even in a down market you see our earnings power. Even though it's come off it's still very healthy on returns. We're preserving a lot of upside optionality in the company. We have worked very hard to take cost out of this business this year and prepare ourselves for big growth in the end of '10 and '11.

We also have seen that we've been able to accomplish expanding our capital structure because we believe that going forward there's going to be opportunities to consolidate this business and have some strategic initiatives and we organized our balance sheet and our capital structure to be in position to do that. When that might happen is the $64 million question, but we'll do like we always have and be very opportunistic and do ti by the numbers.

Thank you and we'll see you next quarter and have a good Christmas.


All right, thank you. Ladies and gentlemen, this concludes the Hornbeck Offshore Services third quarter earnings conference call. If you would like to listen to a replay of today's conference you can do so by dialing 303-590-3030 and put the access code 4173756. We would like to thank you very much for your participation today and you may now disconnect. Have a very pleasant rest of your day.

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