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Pacific Drilling SA (NYSE:PACD)

Q4 2013 Earnings Conference Call

February 26, 2014 11:00 AM ET

Executives

Amy Roddy - VP, IR

Chris Beckett - CEO

Paul Reese - CFO

William Restrepo - CFO

Analysts

Gregory Lewis - Credit Suisse

Darren Hicks - Evercore Partners

Dave Wilson - Howard Weil Incorporated

Mike Urban - Deutsche Bank

Jeffrey Schwarz - Metropolitan Capital

William Morris - Cowen & Company

Jacob Eng - Morgan Stanley

Operator

Good day and welcome to the Pacific Drilling Services Fourth Quarter 2013 Results Call. Today’s presentation is being recorded. I would now like to turn the conference over to the Vice President of Investor Relations and External Communications, Amy Roddy.

Amy Roddy

Thank you, Joe and welcome everyone to Pacific Drilling fourth quarter 2013 earnings conference call. Joining me on this morning’s call are Chris Beckett, our CEO; William Restrepo, our CFO through this Friday and Paul Reese, incoming CFO. Before I turn the call over to Chris, I would like to remind everyone that any statements we make about our plans, expectations, estimates, projections or other statements about the future, including but not limited to those concerning future, financial and operating performance, revenue efficiency, operating cost, contract backlog, day rates, rig downtime, the timing and payment of any distribution, market outlook, contract commencement dates and duration, options and extensions, new build delivery cost base, capital expenditure and plans and objectives of management for future operations are all forward-looking statements.

These statements are not guarantees of future performance and are subject to risks and uncertainties, many of which are outside of our control. Our filings with the U.S. Securities and Exchange Commission, which are posted on our website, discuss the risks and uncertainties in our business and industry and other factors which could prevent us from realizing the outcome of any forward-looking statements. Our actual results could differ materially from any forward-looking statements made during this conference call.

Also note that we use non-GAAP financial measures during this call. You will find the required supplemental disclosure for these measures, including the most directly comparable GAAP measure and associated reconciliation in our results press release, which is available on our website.

I’ll now turn the call over to Chris Beckett, Chief Executive Officer of Pacific Drilling.

Chris Beckett

Thank you, Amy and thanks everyone for joining us. I'm very pleased to be here again to be able to discuss excellent results for both the quarter and the year. I'd like to start with an overview of our outstanding operational performance. Then I'll discuss the status of new build rig. I'll address some comments to the market conditions and our contracting activities and then I'll conclude with some brief comments on our Board’s distribution recommendation to shareholders that we published overnight. Before we get started, I want to take the opportunity to thank William for his time and for his efforts for the company. William spent the last three years helping us go through the public process and build the company into an exceptional operating entity. He has built a very strong finance team and I'm very pleased that we have been able to promote from within to replace him. And so, I will also welcome Paul Reese to the table here. You'll hear from Paul in a little while.

With that I would like to start by discussing our operations. For the fifth consecutive quarter, we recorded very strong operational performance. Perhaps most importantly we have had safe operations with no lost time incidents on any rig during the year. At this point Pacific Bora has achieved over three years without a LTI and a year without a recordable incident. The Scirocco and Mistral both achieved over two years without an LTI and the Pacific Santa Ana operating in the Gulf is over 500 days without an LTI or a recordable incident. Now those are exceptional safety records. And I start with that because it’s probably the single most important metric for both Pacific Drilling and for our client. It represents a leading indicator of operational performance because the safest rigs are typically the best performing rigs on every metric.

So with that moving to our financial results. Our revenue for the fourth quarter was $200.5 million, based on a revenue efficiency of 95.6%. That results in a full year revenue efficiency of 93.5%, which is at the top end of our guidance that we provided at this time last year.

Fourth quarter rests up with a great 2013, during which we've demonstrated that what’s possible with a fleet of high-spec drillship staff by dedicated professionals working in a tight knit team. Total revenue for the year was $745.6 million which represents a 17% increase over 2012 and adjusted EBITDA for the year of $358.1 million is an increase of 35% over 2012 and represents a margin of about 48% for the year. So our reputation is growing as a premium contractor and we're delivering industry leading uptime and safety performance.

Turning to our new build, we discussed on our last call the challenges due to supply chain limitation. We expect delivery of two rigs this year, the Pacific Sharav in early second quarter of ‘14 and the Pacific Meltem in early third quarter. That’s in line with our latest status report and we continue to be comfortable with those delivery dates. Our focus for this point is on minimizing the time between that delivery and first revenue. I think the Pacific Khamsin gave a very good example of what’s possible where we managed to reduce the time from delivery to first revenue to a 107 days and that’s in comparison to that period being up to 250 days on some of the earlier rigs. So that’s our focus going forward. We target somewhere between a 120 and 150 days depending on the location and client specific post the upgrade requirements on a go forward basis for the new rigs [ph] that are yet to be delivered.

As we've previously stated, while we look to contract Meltem, we still have two new built uncommitted and un-contracted and we will not add another uncommitted new build to the balance sheet and so we have Meltem contracted. We did not exercise the option to build rig number nine, contrary to some of the reports you may have seen in the market but we do still intend to grow the fleet at our own pace. But as we said, we’re going to manage the timing of additional rigs to fit our criteria for growth. We’re going to differ the new build decision for the time being until the Meltem contract is in place. We do believe this is still a fundamentally effective market and we are interested in continuing to grow the fleet to our targeted drill rate.

Turning to the market, there's been a lot of discussion recently about the state of the market for floating rigs. For several years now we have discussed the drivers of an expected shift in the market and the reasons why we do specific drilling as a dedicated high specification project company. We’re now seeing that market shift happen, as clients become more discerning about what rigs they contract and from whom. We believe that this is a structural shift in what clients will demand from the well construction partners.

Not simply about asset quality, although that is a pre-requisite. It's also about taking a new approach to working together to deliver better value for the clients. Each client is different and the shift will take time to be adopted by all. But it’s coming and all the drillers need to be ready for it. We think we’re particularly well positioned.

To give you a couple of examples, in Nigeria we brought forward the timing of our recently completed export and reimport of the Pacific Scirocco. We've completed that process in record time and using a period of transition between projects that required a change in ancillary service providers and equipment. By combining those activities together we saved the client as much as a month of time that they would otherwise be unable to drill and we’re able to share in the benefits of doing that. So we led by reducing our [indiscernible].

In the Gulf of Mexico, we’re building a very a strong partnership, with all the business partners involved in the Pacific Santa Ana. In 2013 this partnership approach delivered about 84% total productive time, in terms of well construction activity for the client. I'm not talking about uptime for the rig; I'm talking about all the activities that are carried onboard. That’s about 20% higher than the industry average and with the strongest performance in the current fleet.

Obviously these changes in the industry raise questions for investors. So how do we see the industry going forward? Well with the same brunt [ph] prices about $100 a barrel and increasingly successful deep-water discovery profile, over the last four years, we have seen over 300 successful wells averaging a water depth of about 6,000 feet. So we see there is still going to be significant continued demand for our services.

And we're seeing clients show -- demonstrate a preference for high specification rigs. We see a shift away from the rig age and water depth as a measure of marketability and now it's about the total capability of the rig and the service quality of the provider. I think Petrobras’ decision in 2013 to release a number of their less capable and predominantly fifth generation rigs and Chevron’s recent moves to upgrade their Gulf of Mexico fleet to latest generation rigs is clear evidence of this.

And increasingly we see tenders requiring those high levels of specifications. But we see that the long-term fundamentals are reinforcing our strategy to be a dedicated high specification drillship operator. When we look specifically at 2014 on the supply side, of the rigs that we track as potential competitors, we believe there are about 21 rigs that are available in 2014. But of these about 12 are fifth-generation or older and three are low spec. And two of them we believe at least are committed.

What that means in reality of the rigs have [indiscernible] with us and we feel we can stay more closely, there are only four high spec new builds that are actually available to start work in 2014, versus what we see as a visible demand of five to eight rigs. So we’re pretty confident about the market in terms of where we stand around now. But the contracting profit is taking longer than it did before, partly due to challenges in securing regulator and NOC partner approvals and also due to some revisited development solutions by the clients to be aligned with regulations, especially in the Gulf of Mexico and all of those things are pushing contract signatures and projects to arise [ph], but it’s not making them go away.

So what does it mean roughly? Obviously the bar [ph] is now taken care of. We have a conditional contract in place for two years of $615,000 a day. And contrary to some of the comments you may have seen in the press or from analysts, this is not a sale rate. It was a deal that was agreed in December, in fact in late December. It’s still pending formal approval from the client’s Nigerian partner, which we hope to secure in the next few weeks and we believe it's well advanced. We have already taken care of any leases with one month of un-contracted operating time in our fleet for 2014.

Turing to Scirocco, obviously there are options priced on that rig that need to be exercised by early April. We believe that Total will extend the rigs. We just recently moved the rig to the AKPO field to start development work there for Total, that from the back of Total handing over operatorship of the Usan field whether it was working. We expect that to be a two year extension. That's what the option allowed for.

Turning to Pacific Mistral, our ongoing discussions regarding the extension of Mistral have been slowed a little bit by desire for the client to add manufactured drilling, and that’s adding more complexion to the negotiating process as we determine responsibilities and how we deal with that. But we’re very confident that we will reach agreements. We wouldn’t expect that deal to be approved by Petrobras’ Board and therefore something that we can't [ph] announce formally until late in Q2 but we are very confident that it will get done.

On the Pacific Meltem, as we mentioned previously, it's one of the very few remaining new builds with 2014 availability that can actually start work in 2014. And as I mentioned we believe there are more opportunities for rigs that fit in that criteria than there are rigs available. So we’re extremely comfortable about the status of the marketing on that rig.

Now I’d like to turn to the announcement about cash distributions that we made last night. Last week our Board of Directors confirmed that they plan to recommend to shareholders in our Annual General Meeting later this year to initiate distributions of cash in 2015 in an amount up to $152 million. Obviously that requires shareholder approval but it’s very much in line with our capital allocation strategy of funding continued growth and de-leveraging as appropriate but will now be supplemented by return of cash to shareholders. Our distribution philosophy going forward will target a payout rate from available cash from operations. I’ll let Paul talk about that little bit more in a few minutes.

So to wrap up, I’m very proud of what the Pacific Drilling teams achieved in 2013. Our performance levels are industry leading. We continue to improve results. We believe the introduction of Khamsin and its progression through the shakedown period and the addition of the Sharav and Meltem and in 2015 the Zonda to our fleet will continue our growth. We’re very much focused on the near term challenges and the potential catalysts for the Company, particularly with contract announcements and closing out the outstanding discussions and negotiations we have ongoing, and obviously taking care of rig delivery and startup in the most efficient way. In summary I’d say we have the right strategy, the right fleet and the right team in place to continue to excel.

With that I'm going to turn it over to Paul to talk about the financial results.

Paul Reese

Thank you, Chris and good morning everyone. It’s a pleasure to be here with you today on the call for the first time as CFO. As Chris mentioned, our fleet delivered a fifth consecutive quarter of strong operating performance, with revenue efficiency somewhat above expectations and expenses in line with our forecast.

Our net income was $25.7 million or $0.12 per diluted share, as compared to $30.3 million or $0.14 per diluted share in the third quarter. Our revenue increase of $7.3 million was offset primarily by increases in contract drilling and depreciation expenses totaling $11 million, as well as a $2 million increase in interest expenses. I will discuss these items in more detail shortly.

Contract drilling revenue for the fourth quarter was $200.5 million, as compared to $193.2 million during the third quarter. The increase in revenue was mainly due to the contribution of 15 revenue earning days by the Pacific Khamsin following the commencement of its drilling contract on December 17.

Revenue efficiency for the fourth quarter was 95.6%, as compared to third quarter revenue efficiency of 96.9%. Our initial four rigs continue to average exceptionally high revenue efficiency. The Khamsin, although in very early stages of its takedown experienced limited downtime.

Contract drilling expenses for the fourth quarter were $90.6 million, which included $10.3 million of deferred mobilization expense, 7.3 million for shore base and other support cost and $5.6 million of reimbursable expenses. The $7.9 million quarter-on-quarter increase was driven essentially by the incremental operating days from the Pacific Khamsin startup and by the completion of maintenance projects through the fleet.

The most notable maintenance increases were for the Pacific Board’s planned projects during its month long export and subsequent re-import into Nigeria required to retain its temporary importation status. This period without drilling operations allowed our team to efficiently complete multiple required maintenance tasks in the concentrated period.

Rig related operating expenses per day excluding reimbursable cost averaged $176,000 per day in the fourth quarter as compared to $163,000 for the prior quarter. General and administrative expenses for the fourth quarter decreased slightly to $13 million as compared to $13.1 million for the third quarter.

EBITDA for the fourth quarter of $96.3 million was essentially in line with the prior quarter translating into an EBITDA margin of 48%. As we mentioned before, we consider EBITDA margin an important metric of operational performance as it measures the combined effect of days rates, operational uptimes and operating cost management. Our objective is to continue improving this metric in 2014 and onwards as we add new rigs with significantly higher day rates, as we increase day rates on currently operating rigs and as we benefit from the more efficient use of our fixed cost structure in doubling the size of our operating fleet.

I will now turn to our financing and capital investment programs. Interest expense in the fourth quarter was $25.8 million, as compared to $23.8 million for the third quarter. The increase was mainly result of interest recognition following the commencement of Pacific Khamsin’s contract on December 17th.

Cash flow from operations for the quarter was $37 million with $231 million generated for the full year 2013. As a result of strong cash flow throughout 2013, we were able to delay drawdowns on our $1 billion credit facility until the last few days of year. Following the year end drawdown of $139 million on our facility, our total outstanding debt as of December 31st was $2.4 billion and our cash balances were $204.1 million. Undrawn capacity on our two credit facilities stood at $1.1 billion.

During the fourth quarter, we invested $103.9 in our fleet, of which $67.1 million related to the construction of our newbuild drillships. Capitalized interest was $23.3 million and fleet spares accounted for another 1.5 million. $The balance of expenditures primarily relate to client reimbursed asset upgrades for our operating rigs. We estimate the remaining capital expenditures required to complete construction of our three newbuild drillships and continue to build up of our fleet space to be approximately $1.45 billion, excluding capitalized interest and client reimbursed asset upgrades.

I would now like to make a few comments on our Board of Directors recommendation for cash distributions to shareholders, which we announced in the press release issued overnight. Our Board has approved a resolution to recommend initiation of an annual cash distribution in 2015. This recommendation will be taken to our shareholders general meeting in May for their vote. Our Board has proposed the distribution up to $152 million for the full year 2015 starting in the first quarters.

Given our expectations of positive free cash flow in 2015 and beyond, our current capital expenditure commitments and our outstanding available credit facility, I believe this is a prudent level of cash distribution that is consistent with our Company’s growth and deleveraging target.

Finally, I would like to discuss our guidance for 2014. This guidance is also summarized in our press release issued yesterday. As we stated in our February fleet status report, we expect efficiency for the full year to range between 90% and 94%. We expect revenue efficiency for the first quarter of 2014 to be between 88% and 92%. These ranges include our expectations for unplanned downtime as well as planned events, mainly related to export and re-import of rigs in Nigeria, which we were completed in the first quarter of this year. It also reflects the impact of inspections across the fleet as well as the introduction of the Khamsin, Sharav, and Meltem into the fleet.

As we have previously stated, we expected average revenue efficiency of 90% during our rigs first six months of operation and 93% during the rigs second six months of operation. However revenue efficiency for an individual rig tends to volatile and on a monthly or even quarterly basis and so revenue efficiency maybe above or below our average expectations in any given quarter.

Direct operating expenses on a per rig per day basis for the year 2014 will be higher as compared to the full year 2013, primarily as a result of the cost associated with the rig takedown on three rigs, the planned January increases an annual compensation for our operational personnel and anticipated inflationary cost increases in other lines.

For the full year we expect average direct rig related operating expenses, excluding reimbursable expenses to range between $181,000 and $187,000 per day. Additionally, we expect a minimum of $10,000 of reimbursable expenses per rig per day. As a reminder, we incur these costs on behalf of our customers and are reimbursed fully but these expenses, although volatile at times have limited impact on our margins. As we noted in last quarter’s call, we have continued to strengthen our corporate structure towards the target level we believe is required to manage our expanding fleet.

We expect our 2014 overhead cost including SG&A as well as shore-based and other support costs to increase when compared to 2013 as a result of this organizational growth. Shore-based and other support costs are expected to be between $18,000 and $20,000 per day per rig. We expect their general and administrative expenses to total between $57 million and $59 million for 2014.

Income tax expense for the full year is anticipated to range between 3% and 4% of total contract drilling revenue. However, we expect movement in the metric quarter-to-quarter depending on the mix of revenues between geographical locations and the timing of the cost in our various operating entities.

We have also updated our investor toolkit to reflect our current expectations of newbuild delivery and startup. The toolkit includes information through 2015 on projected amortization of deferred revenue and cost, depreciation expense and capital expenditures. This resource is posted on our website under Inventor Relations.

And with that, I will turn the call back to Amy.

Amy Roddy

Thank you, Paul. Jill, we are now ready to begin the question-and-answer portion of our call.

Question-and-Answer Session

Operator

Yes, thank you. [Operator Instructions] And our first question comes from Gregory Lewis of Credit Suisse.

Gregory Lewis - Credit Suisse

Chris, in your prepared remarks, you mentioned that the Scirocco with that option. When does that to your option expire?

Chris Beckett

The option they have to exercise by April 7; is the official date, and then frankly from past experience, it would be midnight on April 7 before they do it.

Gregory Lewis - Credit Suisse

Okay, I mean, and really what it sounds like based on some of your comments is, you know two years, is 449, or close to 500, it almost sounds like, I mean do you think that’s a good rate for the rig right now in the current market or do you think maybe it’s a little bit light?

Chris Beckett

I think it’s -- from that standpoint I think it’s a great rate. I think it’s below market for that rig. The rig is performing exceptionally well. So we are extremely comfortable and Cortell is very happy with it. By their evaluation the rig delivered less than 5% downtime last year which was about the best in that fleet. So we think that they think it’s an attractive rate.

Gregory Lewis - Credit Suisse

Okay yes, it does seem pretty attractive. And then there is another question, Paul congratulations on IFM, of bring you into the mix. When we think about the note expiring in 2015, at what point, I mean I guess I would say two things. One is it seems like it make sense for PACD, in advance of that to sort of do, maybe go issue a bigger note and actually maybe use that as an opportunity to replace some of the term of project loans. Is that sort of how we’re thinking about it or should it be more, is it going to be more, is there something in line with that type of amount, that 300 amount?

Paul Reese

Well I think I'll have to look at basically that note that's coming due as well as the delivery of the Zonda which should be happening roughly simultaneously in Q1 of 2015. And I think openly we'll factor both of those in, in terms of deciding what we'll need to do for our financing strategy related to that.

Gregory Lewis - Credit Suisse

Okay, but it’s not something where it maybe that we also would make it a -- use it as an opportunity to swap out some of the project loans?

Paul Reese

No. We already took care of the initial four project financing loans that we had on the first four rigs. We are very comfortable with the financing that we have on the current rigs. So I don’t think so.

Chris Beckett

Greg this is Chris, and I think that the way -- we think that the pricing we have on those loans is extremely good. So there is not a lot of driver for swapping amounts to the extent, but we want to revisit some of the terms and the covenants, we may do that. But we don't anticipate taking those loans any time soon.

Operator

And our next question comes from Darren Hicks with Evercore.

Darren Hicks - Evercore Partners

So this has to do with the utilization expectation. I understand your guidance for 2014 is 90% to 94%, and that this is a volatile kind of aspect of your business. But, you just strung together a few quarters of over 95% efficiency, and given the quality of your fleet and your contract visibility and the likelihood that your clients will extend existing contracts. Do you think it might be ever reasonable to kind of increase your utilization expectations, you know maybe if you still can get another couple of quarters, above your guidance performance?

Chris Beckett

Yes I know I think there’s a couple of elements to this, and firstly, our existing fleet is already operating and continues to run well. We expect to deliver efficiencies at the top end of that range or above it. But once again we are introducing three new rigs, or two new rigs, plus the continued shakedown of the Khamsin over the course of the year. And those rigs are most likely going to be able to deliver something lower than the levels that we expect from a fully shaken down in-service rigs. So, really the net of all of that comes out to the range that we gave you. It’s -- we recognize a fairly wide range, but that’s in part, because of the -- in large part because of the uncertainty of the specific timing of the shakedown process on each of those three new rigs. I think the other thing to recognize, and you know obviously we guided a little bit lower for Q1, is we've gone through a process already with the Civics Rocco was renewing its export, imports and temporary infiltration process into Nigeria and that has an impact. And we're very much in the shakedown phase with Khamsin. So I think, the simple answer is we expect the existing operating rigs to continue to deliver extremely strong performance. But that’s going to get a little bit diluted as we bring new rigs into the fleet and shake them down.

Darren Hicks - Evercore Partners

And the next question has to do with the dividend outlook. Now I pay particular attention to the language in your press release, and it says up to 152 million. What type of scenario is that, still more or count for, and to pay the full 152 million, that has to do mostly with your outlook for the market, that performance of your rig, just help us understand, what are the means to pay the full amount, or if that was just something to kind of hedge yourself?

Chris Beckett

Yes, look I think the simple answer is that the regulations in Luxembourg and working our way through all things that are necessary and getting the shareholders vote, we can’t commit to anything more. The board is going recommend that number and as an optimum figure, and get that approval from the shareholders, we hope. And then the board will evaluate this as the year goes on, what our Khamsin operations enables, but certainly if we meet our expectations then I suspect we'll be at the upper end of that range.

Operator

And we will go next to Dave Wilson with Howard Weil.

Dave Wilson - Howard Weil Incorporated

Good morning, gentlemen. Thanks for taking my questions. Just kind of follow-on on the [132] million distribution proposed by the Board for 2015, couple of quick questions here. First, is it safe to assume that this is going to continual proposal a year-after-year? And I guess kind of the follow-up to that or tied to that is, because they require shareholder approval, is this something that’s going to be, kind of renewed every year, does it require a shareholder approval every year or is it just kind of a one-time shareholder approval?

Chris Beckett

Practically speaking, I think we'll probably end up needing shareholder approval each year, but I think the base expectation is that yes, this is the initiation of ongoing cash distribution.

Dave Wilson - Howard Weil Incorporated

Okay, great. And then just a follow-up on the revenue efficiency guidance, I know for 2014, it included some of the imports, exports for the Scirocco, is it safe to assume that there is not going to be that issue for the Bora when it rolls off contracts in August before it hits the tier extension and then kind of follow-up to that, during that tier extension, is there any point in time where that rig needs to be exported and then imported again?

Chris Beckett

Right, so the Bora import, export process actually is what we comment about in our prepared comments that occurred during the fourth quarter. So, that’s already been done.

Dave Wilson - Howard Weil Incorporated

Okay.

Chris Beckett

And actually was fully compensated, so it will have another re-import, export process during the extension period that happens every two years roughly. So, you can expect that in the late 2015 timeframe.

Dave Wilson - Howard Weil Incorporated

Okay, great. And then just -- and so -- and then for the Scirocco, when what was the last time that had that import export?

Chris Beckett

For the Scirocco, it was the one that we just completed here in Q1.

Dave Wilson - Howard Weil Incorporated

Okay.

Chris Beckett

So, it will have.

Operator

And we will go next to Mike Urban with Deutsche Bank.

Mike Urban - Deutsche Bank

Maybe comment on the Bora grade which is great by the way, you thought that was a pretty fresh rate and indicative of the market at least for that rig, what you feel drove that, I mean obviously the performance has been good for you guys in general and so a recognition of that and probably a little bit sound location driven [indiscernible] time but were there any factors that drove the pricing on that rig which is -- it is how we have seen from some other fresh drill recently?

Chris Beckett

Yes, look I mean the reality is that if you look at fixed drills over the last couple of months, the only real numbers that have been printed have been 550 in the Gulf and 615 for Bora now. And I know there is a perception that market rates are well below that, I can’t really comment to whatever everyone's perception is, I mean that rate was agreed in finally in late December, so we consider it’s a fairly fresh rate. It’s certainly influenced by the geography and also by the rig’s performance. Other rigs delivered 98.4% up from last year and clients are clearly going to be more comfortable paying good rates for rigs that delivery more and need which is drilling time. But we would argue that it’s more representative of what these premium assets when well-run can deliver. And so I think talk of rates below 500, I just don’t see it. We haven’t seen anyone bidding though that on tenders, and we certainly haven’t seen anything printed there. So, I think the market is not as bad as people seem to perceiving it be.

Mike Urban - Deutsche Bank

It's good to hear that they are perceiving it pretty badly. And on the EBIT [indiscernible] again the comment on up to again some of that is semantics but is it possible that amount will vary quarter-to-quarter depending on the operation, is that linked to the operation and the cash flow quarter-to-quarter or is this going to be a pretty stable payout of return?

Chris Beckett

I mean the expectation at this point is that it will be a pretty stable payout, obviously we have to go through the shareholder meeting to get it approved and then the Board is going to make the under valuation of what they feel is a prudent amount. But I think that baseline expectation is to define something that would be a fairly stable quarterly payment. We'll see what they finally decide on.

Operator

Our next question comes from Jeffrey Schwarz of Metropolitan Capital.

Jeffrey Schwarz - Metropolitan Capital

Good morning. Just wanted to first thank Williams for the terrific job that he's done on behalf of the all of Pacific Drilling shareholders and getting us a capital structure that’s going to set us up for in a terrific way for the next couple of years. So, William, we are going to miss you, Paul I look forward to working with you. You have some big shoes to fill. Chris, I apologize for continuing to the drumbeat of questions on the dividend, comment you and the Board on, what looks like a very process of allocating the company’s cash flow to prudently do leveraging planning for growth while also returning cash to shareholders. What I’m wondering about is, the type of trajectory that we might look for. The board has to make this determination in the absence of any sort of contracts on the Meltem. Optimally the Meltem will be working for all of 2015, but I would assume that in making the determination of what to recommend to shareholders, you couldn’t be counting on that. Is there a sense that you could us of how you might think about incremental cash flow to be coming from the Meltem or perhaps from the Zonda as we go into 2016 that can give investors an idea of how to think about a potential ramp up in the dividend?

William Restrepo

Jeffrey, first of all, this is William, thank you for your kind words and I think Paul has already been filling those shoes very capably over the last month that we’ve been working together. I’ll let Paul answer that question but I do appreciate your kind words. Thank you very much.

Paul Reese

Yes, Jeffrey, I think that obviously we expect our cash flow from operations to continue to grow through ’15 into ’16 and with the introduction in hand, completing the shakedown period on the new rig, and obviously introduction of the Zonda in ’15. So that we certainly anticipate more capacity for distribution on a go forward basis, our philosophy if you like is going to be to target a cash flow from operations payout ratio and therefore as cash flow from operation grows, we’d expect to be able to potentially grow that distribution. But I think it's a little premature at this point to give you any kind of specific guidance on that obviously, the board’s been focused on what’s the prudent number to target for ’15 and I’m very-very comfortable with that, and I think we’ll -- we would generically expect it to grow but I can’t comment further at this point about at what pace.

Jeffrey Schwarz - Metropolitan Capital

Thanks Chris, just a quick follow up, do you see at some point in time management and the board getting comfortable with providing guidance as to payout ratio?

Chris Beckett

Well, that’s certainly a conversation that we’re having with the board about how explicit they want to be with that and to the extent that they get comfortable obviously we’ll provide that as soon as can.

Operator

We’ll go next to William Morris, with Cowen and Company.

William Morris - Cowen & Company

Hey guys, thanks for taking the question. I just wanted to get an idea if you could talk a little bit about contracting the Meltem and maybe just how it compares to the conversations you had on the extension for Bora and what the differences are there and what you’re seeing in terms of a brand new contract and I really like the Meltem which obviously is going to be kind of one of the next rigs of its caliber available in ’14. Maybe if you could just talk about those conversations so far.

Chris Beckett

I mean obviously there are some differences, the Bora is optimized for the work it’s doing, it’s got a proven track record with the client, it's in country already, whereas bringing a new rig into any location is always involves mobilization and the usual start up process of any new rig. So I think it’s not unreasonable to assume that the rates from Meltem will need to be a little below where whether borrowed or new, even if it’s taking recognition of the incremental costs associated with mobilization and so on. It is ultimately a more capable rig and that will offset a little bit, but I think that at the end of the day, I guess the real question is where we do think rate for that rig will be and I think we’re comfortable that that’s somewhere in the mid to high fives.

William Morris - Cowen & Company

I guess, I mean, I think I’m just trying to get an idea of whether right now the market for a fresh rig is significantly different than the market for a rig like the board that's been working at a pretty high efficiency.

Chris Beckett

Look I think there’s clearly a differentiation in the market between less capable rigs and more capable rigs and every client has their own viewpoint on exactly what capability they’re looking for, but fundamentally we don’t perceive there to be a significant difference in attitude towards the Meltem versus any of our existing rigs, you know we’ve got a pretty solid track record on all of the rigs that are operating so far and no reason to believe that the performance on Meltem would be markedly different, but every client’s going to look at it and understand that the first six months of operations, there'll be some learning curve and some shakedown period and they’ll factor that into their decision criteria and their willingness to pay for frankly.

Operator

And we’ll go next to Jacob Eng with Morgan Stanley.

Jacob Eng - Morgan Stanley

Hi, thank you for taking my question and congratulations on a nice extension for the Bora. So it seems like you’ll take a couple more weeks for this LOI finalize, but some of your peers are taking more longer and the LOI contract finalization process in Nigeria, so could you help us understand what’s driving this difference in LOI and hopefully help us handicap the risk that your LOI might not go through as quickly.

Chris Beckett

So I would say -- I mean obviously there is a little bit difference between getting approvals on an extension that’s been visible to all the parties for some time and getting approvals on a brand new rig. We signed the letter of commitment and that letter of commitment is conditional only on formal approval from the local partner. We signed that in December, we obviously started discussions about it, not only with Chevron, but with the relative the local partners and the others who welcome a need to sign off some time ago. So I think that process, if it takes us two months that’s probably about what you should expect between finalizing terms and a formal contract signature. We would point that it’s a little bit more than an LOI at this point, it is a letter of commitment, albeit with one very specific condition, but that’s a condition that we think is in the process of being addressed and obviously we wouldn’t be announcing it if we didn’t have a level of comfort that it was going to happen.

Operator

And we have no more questions at this time.

Amy Roddy

Okay, then, I think we’ll go ahead and wrap it up. Thank you everyone for participating in Pacific Drilling’s Fourth quarter and Full year 2013 results conference call. I’ll be available to answer additional questions following the call, thank you again.

Operator

This concludes today’s call, have a wonderful day.

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