Craig Muirhead - VP and Treasurer
Hercules Offshore, Inc. (HERO) Cowen 3rd Annual Ultimate Energy Conference Call December 4, 2013 1:15 PM ET
Okay. Good afternoon everyone first session after lunch, I’m very pleased to introduce Hercules Offshore, Mr. Craig Muirhead, Craig has been Vice President and Treasurer of Hercules since May 2011 and previously held position of Assistant Treasurer, prior joining Hercules Craig served various financial planning analysis roles at Cameron International, he has the BA in Mathematical Economic Analysis from Rice and MBA from University of Texas.
So please join me in welcoming Craig and Hercules.
Alright. Well, thank you. I guess we’re already on housekeeping section here. So please be mindful of -- that's fine, mindful of the forward-looking statements. So Hercules Offshore is one of the leading providers of shallow-water services to the E&P industry. We have 40 jackup rigs, which is the third largest fleet worldwide and we operate 24 liftboats, which is the largest fleet outside of Gulf of Mexico.
If you look at the map, we’ve got operations in all of the major shallow-water provinces in the world or have had operations in those provinces. With a highly experience management team that largely has come from other drilling contractors with experience and managing through cycles. And we’re a qualified contractor with national oil companies and major oil companies around the world.
So, 2013 has been a very active year for us, we’ve executed on a number of our strategic priorities. We have high graded our asset base through the purchase of 2 ultrahigh-spec new build rigs from Discovery Offshore. And also a new build or newer liftboat in West Africa, that’s one of highest spec liftboats in our fleet.
We’ve also sold our domestic liftboat business and our inland barge business. And both of those businesses were cash breakeven businesses. We try to consolidate domestic liftboat business back in 2011, we were not successful, haven't really seen an obvious path to growth in those businesses and so it make sense to exit. The timing of those sales that was convenient, we were able to use $110 million or so in proceeds from those sales to complete the Discovery acquisition without issuing additional equity.
We’ve increased our earnings visibility. The continued improvement in the Gulf of Mexico backlog along with two five year contract extensions on rigs with Saudi Aramco allowed us to post the highest revenue backlog we’ve ever had as a company, at the end of the third quarter. And we’ve addressed our balance sheet, we’ve refinanced some higher coupon debt, pushing out the maturities and lowering our debt cost.
We’re very excited, we in November put our first new build rig on contract in India. The Hercules Triumph begin a job with Cairn at $215,000 a day that’s a four month job in India which has a $13 million mob fee. So including the mob fee in that, of those four months the effective day rate is over $330,000 a day. So an extremely attractive rate for rig of this class. And I think a lot people consider that North Sea is the only place where you can get premium day rates on rigs of this class, but this contract clearly shows that it’s not just the North Sea, you can get these in other areas as well. And so we are very excited about this job. And we think there is possibility to continue work with Cairn after this initial four months.
I mentioned just a little bit earlier we signed two contract extensions on two of our rigs with Saudi Aramco for five years, these lock up these rigs through the end of 2019 and day rates that are 50% higher than what they are earning today. This is a great deal for Hercules, extending our backlog out almost to the end of the decade, but also I think it’s a good sign of Aramco’s view of jackup supply and demand they have locked up two 30 year old assets in the phase of 134 new build jackups set to be delivered in the first part of this contract cycle. So I think that shows that they perceive the jackup supply and demand to be continue to be tight through the delivery of this 134 jackups in the build cycle today.
So turning to our domestic offshore segment, those of you who have followed us, know that the last few years have been quite a ride for Hercules. 2009 and 2010 were very challenging that allowed us the opportunity to purchase our largest competitor in the Gulf of Mexico in early 2011 at a very good price just at the time that the market was recovering. And so since that time in 2011, the utilization in the market has averaged 90% or better. Backlog has improved significantly and day rates have tripled.
So you look at the supply and demand balance today. There is 58 rigs currently located in the Gulf of Mexico. 20 of those are coal-stacked, 8 coal-stacked are ours, the other rigs, the coal-stacked rigs belong to Rowan, [Insco] and Diamond. We don’t see those other operators. Their business model doesn’t learned to them reactivating these coal-stacked rigs, they are focused elsewhere. So I don’t think those coal-stacked or other operators are not going to reactivate coal-stacked rigs. We have reactivated our Hercules 209 early this year. We got a 203 set to be delivered from reactivation next year. We don’t see anyone else as a source of supply from reactivations.
So that was 38 rigs in the current market supply to take out the current coal-stacked rigs. Of those 38, there is handful that are only work-over rigs. They are not capable of drilling, making hole, and so all of their two drilling rigs are working full out as this 35 Gulf of Mexico demand. So we get a measured demand of about 92%, which is still very good but all of the two drilling rigs are working full out.
And so high utilization leads to improving backlog and we’ve got this slide here going back to 2007, which is the previous peak in day rates and you can see the utilization is still in the 40 days or so, back in 2007. We peaked earlier this year at over 200 days per rig on average backlog. And we worked off that a little bit during the year. We had three rigs with Chevron that signed one year contracts each at the end of last year, throughout this year we worked out that backlog. We expect to renew those rigs here before the end of this year and so we’ll see another improvement in our backlog, once we get those rigs on contract again.
You saw day rate have improved over the last couple of years and so this charts look like what you would want to see from revenue chart significant improvement over the last several years.
The customer base in the Gulf of Mexico is very diverse, the top three operators have been fairly stable they operate about a third, consume about the third of the jackup demand, but the remainder is from a number of different customers and it’s actually grown over the last several years, in 2009 there were 23 different operators on the Gulf of Mexico shelf. Today there is 35 operators in the Gulf of Mexico shelf. And a lot of those new operators are private equity funded new entrance. And so they entered into the market by buying properties from existing operators.
And so Riverstone purchased the Apache, Gulf of Mexico shelf properties earlier this year that new company is called Fieldwood. Apache had treated the Gulf of Mexico properties as a cash cow and they’ve really focused their growth energy and other areas. For Fieldwood they are completely focused on the Gulf of Mexico. So we feel like their drilling demand is going to improve because they are focused on their properties in the Gulf of Mexico shelf and we feel the same way about many of these other acquisitions. People don't buy these properties to sit on it. They buy the properties to work them. And most of that work requires a drilling rig. And so these property acquisitions are going to drive drilling demand.
I mentioned a little bit earlier some reactivations. We reactivated a Hercules 209 earlier this year, it's a 200 McCann lever rig. It costs us about $14 million to reactivate that rig. It's currently working today at $110,000 a day, which gives the payback of little under seven months, if it worked the whole year at that rate. Our Hercules 203 is currently in process of being reactivated, we are scheduling a late summer delivery for that rig. Reactivation cost is in the ballpark of $20 million to get it back to the shape it was in before it was coal-stacked and that current rate that gives a payback of less than a year.
We'll continue to look at additional reactivations, but we will also continue to be delivered in those reactivations. And to be mindful of the supply and demand balance not out-supply to quickly to the market.
We have a significant amount of operating leverage in the Gulf of Mexico with a large fleet. And with improving day rates, that flow through significantly to improving earnings. Our average revenue per day for our Gulf of Mexico fleet with $85,000 in the third quarter. Today it's about $100,000 and we're signing up rates on our 200 McCann lever’s at a $110,000 today. So we're continuing to say improved day rates adding those to backlog. And so we'll see that reflected in our earnings throughout 2014.
One of the questions we sometimes get from investors is the Gulf of Mexico looks really good. At what point do rigs from other regions start migrating back to the U.S.?
Well, we don’t really see that happening. A lot of the rigs, or a lot of the older rigs at least in the international market came from the U.S. Gulf of Mexico but left because they could get higher day rates in longer term elsewhere. Well that gap has significantly closed recently or over the last several years I should say. But the international markets are still very strong. And so for rigs to leave their markets to come back to the U.S. Gulf of Mexico, they have an extreme opportunity caused from lost revenue plus you have to pay mobilization to get from wherever as they are to the U.S. and operate it in the U.S. and not reimbursing for mobilization.
So, we don’t see an influx of rigs coming from other regions. Now we did have one, I guess recently, but that was probably an unusual case. I don’t think that’s going to be something that’s going to be a large influx.
And the reason is, like I just said because international markets are extremely strong. The largest markets for jackups, Middle East, Southeast Asia, West Africa, Mexico, all are working full out. They are short of rigs, they are looking to add capacity to those markets and increase their rig count. Aramco and PEMEX have doubled their rig counts since 2011. PEMEX has indicated they are running 44 rigs right now. They have indicated they want to increase their rig count from 60 to 62 rigs. So another 50% increase in their rig count today. Aramco is looking to increase as well. So, we see the international market remaining strong and strong enough to absorb all of the new build capacity that’s coming online into 2015.
When we were looking at the discovery project we were evaluating what kind of rigs should we build. And we looked at historical day rates for standard spec rigs and also for ultra high spec rigs. And so when you look at the ultra high spec day rates that -- the day rates at ultra high spec rigs garner, for a little bit of additional capital, you get a significant improvement in your day rates. So that’s the reason why we have chosen the discovery Super A design for discovery of rigs.
So, quick look at our international fleet status. The Triumph, I just mentioned a little bit earlier is currently working in India for Cairn at 215, through February of 2014, and we are marketing that for long term contracts, but also have the opportunity to maintain that rig in India, we think after this initial job.
The Resilience, we are also marketing for long term contracts, but we will put that to work like we did with the Triumph on shorter term work before the long term contracts kick in. There is a -- Resilience is currently in Singapore, in the shipyard, there is a very robust spot market in Southeast Asia. Rates would be a little bit lower than what we are experiencing on the Triumph right now that would be (inaudible) spot market work in Southeast Asia.
All of our rigs for Saudi and the 267 working for dock for Chevron in Angola are locked up through 2014 and for the next several years. Our Hercules 208 is going to work for Cairn in India as well. And so we will have two rigs working for Cairn. They are very shortly once the 208 arrives. The 260 is working for Perenco in West Africa. We think there is a good chance that it will maintain with that customer, but it's not, there is good opportunities for that rig in West Africa. And the 170 is very likely to stay stacked.
So turning to liftboats, we have 21 liftboats in West Africa. We are the largest provider in the region. About 50% of the work in West Africa is well works, or well intervention, coiled tubing, wire line and things like that. The other 50% is construction related works, the pipelines work, platform construction and maintenance.
We have three rigs, I am sorry, three liftboats in the Middle East. Almost all of that work is construction related. We also do a fair amount of accommodations work where we’ll pull up next to a platform and operate really as a mobile hotel on that work. We've got some long term contracts for our liftboats in the Middle East and so we would expect our performance to improve in that segment 2014 as utilization improves with these long term contracts.
So, we will circle back to some of the things we talked about earlier. We've had a very busy year, a lot of our transactions -- well, all of our transactions this year will help us to balance our geographic diversity. We’re moving more towards an international fleet. It will also helps us to upgrade our fleet with newer assets and higher stack assets in both the Discovery rigs and the Bull Ray Liftboat in West Africa.
Our revenue backlog at the end of the third quarter was the highest we've ever posted as a company. And we have opportunities to improve on this with long term contracts that we’re chasing on the two new build jackups as well as contract renewals on our rigs in the Gulf of Mexico working for Chevron.
And so to wrap it up, our Discovery acquisition was a significant event for our company for a couple of reasons. One, it high grades our fleet by adding ultrahigh-spec assets and their new assets, which will work through the cycles for the next 30 years. We've got some positive industry trends in the U.S. Gulf of Mexico. We didn't really touch on this earlier, but there is a lot of seismic activity, 3D seismic that may open up, some new possibilities for finding additional hydrocarbons as well as sub salt. I mean this is a kind of a new idea, so we don't know how far it will take off, but it's a possibility that these sub salt players could really be a driver of new exploration in a very well developed field.
Our international market is very strong and we're seeing increased rig counts from all of the major regions and major customers. We've experienced this with a good contract with our Triumph in India as well as two five-year extensions with Aramco. Both of those have led to increased backlog which improves our revenue visibility and reduces our volatility.
We've addressed the balance sheet with a refinancing, pushes out maturities and improves our borrowing cost. And we've got a proactive management team and it's got experience to effectively manage through the cycles.
And so with that I will close it. And I guess we have few minutes for questions, if there is any.
We don't have any questions? All right. I just had one on the fleet you have in the Gulf of Mexico, it's an order fleet, the average age is high 20s,. I want to say there might be something like…
It’s creeping into 30s.
Okay. What's kind -- I know you’re sure it gets, what's kind of the average lifespan that you guys are projecting that fleet to have left and then what are you going to do to replace that EBITDA that is lost as those rigs are retired going out into the future?
Yeah. I mean the lifespan question is a tough one to answer. Our Hercules 120 was built 1958. So they can last as long as an operator is willing to hire. And it’s not the age of the rig that kills it but it’s the cost of maintenance that kills the rig. So it’s an economic obsolesce rather than -- we haven’t really changed the way the drilling rigs work. It's still, the drill pipe returns to the right. Even our Discovery rigs, while they have got a lot of new gadgets on them work basically the same way as Hercules 120 does. I mean it’s a hard question to answer. But if you look at the age of our fleet, if you look at Aramco signing up 30 year old assets for an additional five years and in fact it’s additional almost seven years if you look at the contract (inaudible) contract. They can last for a long, long time and 30 years is not the end.
Have you seen maintenance costs or the cost that you need to put into these rigs over the last few years increase significantly to be able to keep them working?
Yeah, I know that they do increase as rigs age. You have to replace more steel whenever you go in because it’s steel sitting in water, things corrode, that’s kind of the nature of the assets. And so that’s a challenge of maintaining an older fleet is the cost of maintenance. And we have seen an increase. We are up to about 3.5 million a year on average for all of our rigs in maintenance CapEx.
And you guys did some one-off acquisitions earlier this year, the Ben Avon, the Titan 2 I believe.
Right. The Titan 2, not Bull Ray. Yes.
Right, yeah. Are you guys still looking for one-off acquisitions like that to grow and what regions would you be looking to expand into?
We are, yeah. We've been extremely happy, both with the Ben Avon and the Titan 2, we were able to put those on very good jobs. And so to the extent there are more opportunities like that, we are certainly interested in those opportunities. One thing we would like to do is move to a more international business, don’t be so focused on the Gulf of Mexico, but also expand our footprint in the regions where we are. Economies of scale are real in our business. And so to the extent that we can group together assets in similar areas, we like to do that as well.
Any preference for existing assets or do you guys ever looking at rigs that are being built right now in the yard that might not necessarily, the owner might not necessarily want to operate those rigs and they are looking for somebody to take over that?
Sure. Yeah, we look at all of that stuff.
Okay, anything else? All right. Thanks very much, Greg. I appreciate it.
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