Diamond OffShore Drilling (DO) Earnings Report: Q Conference Call Transcript

Transcription

1 Diamond OffShore Drilling (DO) Earnings Report: Q Conference Transcript The following Diamond O ffshore Drilling conference call took place on November 2, 2015, 08:30 AM ET. This is a transcript of that earnings call: Company Participants Darren Daugherty; Diamond O ffshore. ; Director of IR Marc Edwards; Diamond O ffshore. ; President & CEO Gary Krenek; Diamond O ffshore. ; SVP & CFO Ron Woll; Diamond O ffshore. ; SVP & Chief Commercial O fficer Other Participants Sean Meakim; JPMorgan ; Analyst Waqar Syed; Goldman Sachs ; Analyst Robin Shoemaker; KeyBanc Capital Markets ; Analyst Ian Macpherson; Simmons & Company International ; Analyst Gregory Lewis; Credit Suisse ; Analyst Lukas Daul; ABG ; Analyst Dave Wilson; Howard Weil Incorporated ; Analyst Judson Bailey; Wells Fargo Securities LLC ; Analyst David Smith; Heikkinen Energy ; Analyst Mark Brown; Global Hunter Securities ; Analyst MANAGEMENT DISCUSSIO N SECTIO N Welcome to Diamond O ffshore's third-quarter 2015 earnings conference call. (O perator Instructions) It's now my pleasure to turn the call over to Darren Daugherty, Director of Investor Relations. Please go ahead, sir. Darren Daugherty (Director of IR): Thank you. Good morning, everyone. Thank you for joining us. With me on the call today are Marc Edwards, President and Chief Executive O fficer; Gary Krenek, Senior Vice President and Chief Financial O fficer; and Ron Woll, Senior Vice President and Chief Commercial O fficer. Following our prepared remarks this morning we will have a question-and-answer session. Before we begin our remarks I remind you that information recorded on this call speaks only as of today and therefore you are advised that time sensitive information may no longer be accurate at the time of any replay of this call. In addition certain statements made during this call may be forward-looking in nature. Those statements are based on our current expectations and include known and unknown risks and uncertainties, many of which we are unable to predict or control that may cause our actual results or performance to differ materially from any future results or performance expressed or implied by the 2014 TheStr eet, Inc. Al l R i ghts R eser ved Page 1 of 17

2 statements. These risks and uncertainties include the risk factors disclosed in our filings with the SEC including our 10- K and 10-Q filings. Further we expressly disclaim any obligation to update or revise any forward-looking statements. Please refer to the disclosure regarding forward-looking statements incorporated in our press release issued earlier today. And please note that the contents of our call today are covered by that disclosure. And now I will turn the call over to Marc. Thank you, Darren. Good morning everyone and thank you for joining us on the call this morning. Today we are pleased to report solid third-quarter results. We recorded earnings of $0.99 per share for the quarter versus an impairment impacted $0.38 per share in the third quarter of Gary will drill down on the numbers shortly but in summary I can characterize our results is reflecting our ability to execute as it relates to both the operational performance of our fleet as well as on controlling costs. So allow me to first address the performance of our fleet. During the third quarter our three drillships working in the Gulf of Mexico, the O cean BlackHawk, O cean BlackHornet and the O cean BlackRhino together delivered a combined operating efficiency of 99.3%. In other words these rigs have come out of the yard and immediately gone straight to the top of our clients' rig performance rankings. This is class leading and is an example of the Diamond difference. By focusing on project delivery to include our state-of-the-art in-house training center and systems these brand-new vessels have surpassed our clients' expectations and provided an exceptional revenue uptime for the third quarter. As previously announced recall that the O cean BlackRhino delivered its first well 30 days ahead of the drilling curve. Similar performance is being delivered by the other Black ships and we expect more of the same across the rest of our fleet as our fourth and final newbuild drillship goes on contract with Hess near the turn of the year and starts contributing revenue to Diamond O ffshore. But the ability to execute from a top-line perspective is only part of the solution in what is rapidly becoming the most severe downturn for many decades. So while continuing to invest in training, maintenance and safety we are also laser focused on cost control. Earlier this year we announced plans to control costs aggressively and we took a charge related to restructuring and employee separation costs. We have taken the difficult steps of reducing variable pay and benefits throughout the Company and we have significantly reduced headcount at onshore bases and at corporate facilities including our Houston office. As we entered 2015 having secured what became the last significant term contracts available for our final two newbuild drillships at $400,000 per day we embarked on a strategic review of our cost structure. Following execution of the strategic plan at the end of Q1 the full benefit of such a cost reduction has now fallen through to the bottom line and is positively impacting results. As our Q 3 numbers illustrate, we have been successful in reducing our corporate expense, SG&A and overhead by over 20% and continuing rig-based wage expense by in excess of 15%. Many of you will understand that salaries and wages form the majority of our rig operating expense. As we 2014 TheStr eet, Inc. Al l R i ghts R eser ved Page 2 of 17

3 embark on our 2016 budget planning cycle we are continuing to look for additional ways to positively impact the Company's cash flow. These are difficult measures for any organization but against this backdrop we remain as focused as ever on continuously improving our safety performance. Earlier this year we delivered the best quarterly safety performance in the history of the Company. And we remain on track to deliver our best ever annual performance. So now turning to the market, we all know our industry is cyclical but as we have been saying for a considerable period of time this will be a long and a hard downturn, the likes of which we have not seen for decades. And over 12 months ago here at Diamond we took the initial steps to prepare accordingly. We initiated a headcount reduction, we increased our revolver, we were the first driller to retire assets in this cycle and of course we worked hard to successfully secure the Hess term contract for our last two drillships. The recovery in deepwater drilling remains well over the horizon and any greenshoots that would indicate that the market is turning are a very long way out. However, allow me to suggest that as anemic as the market is we see more activity in contracting rigs for midwater than we do for the sixth generation drillships, an asset class that will remain heavily oversupplied. This trend is apparent when examining the rise in the number of midwater exploration drilling permits issued year to date here in the Gulf of Mexico at the expense of ultra-deepwater permits. So staying with midwater, today we have confirmed that the O cean Guardian has been signed for a oneyear term in the North Sea beginning in March 2016 at a rate of $220,000 per day. This is a very attractive contract in a very competitive market and while we do have a gap prior to the commencement of work we will minimize controllable cost during the warm stack period. Further, our client has agreed to pay a portion of the daily warm stack costs prior to contract startup. Additionally we announced this morning that we have reached agreement with Petrobras to end the contracts on the Ocean Alliance and the Ocean Clipper as of October 30 while concurrently adding 875 days of new term to the Ocean Courage at a rate of $380,000 per day, extending the contract term into mid The existing three-year terms on the Ocean Courage and Ocean Valor will remain at a rate of $455,000 per day and the new term added to the Ocean Courage represents a backlog addition of $333 million. While we have ended contracts early for two rigs, one of which by merely two months, we have added a net backlog of approximately $242 million. In other words, for every single dollar of backlog that we gave away we have received an additional $3.50 in return. And we have maintained our dayrate for the remaining sixth-gen assets working for Petrobras. So finally, allow me to share my observations from a visit which I made this past quarter to the Ocean Monarch as she was just commencing work in Australia. I am aware that Petro Data reports this rig as being of a 1974 vintage. Of course the original hull was laid at that time but I can assure you that neither we nor our client would agree with this characterization. The Monarch was redelivered from the yard in 2008, effectively as a new ultra-deepwater rig with an entirely new derrick, drilling package and crew quarters. We have added sponsons to the hull that have vastly increased all of the rig's key capabilities such as water depth, hook load and variable deck load. We have replaced much of the steel and the entire accommodations so that even small details such as the electric cabling are all new. To the layperson it doesn't even look the same in terms of dimension and size. This is an extremely capable rig in excellent shape and our client could not agree more TheStr eet, Inc. Al l R i ghts R eser ved Page 3 of 17

4 The reason I bring this up is to reiterate that not all offshore drilling projects will be carried out by sixthgen drillships. The conventionally moored assets that remain in the worldwide fleet will continue to offer the technologies that are needed in our clients' operational portfolios for many years to come. Yes, we have scrapped 10 of our less capable semisubmersibles over the past year and many more have been scrapped across the industry. I think we will continue to see a bifurcation between the most complex projects requiring the newest generation assets and the large bulk of projects for which moored rigs are the most cost effective solution. Diamond O ffshore has a very good maintenance record on the assets in our portfolio and when demand comes back we think it will be across both ends of this spectrum to include the fourth-gen moored assets. With this in mind I would not swap my fleet, my balance sheet nor my employees for any others. I will now hand over the call to Gary to give further color on the financials and then I will have some closing remarks. Gary? Gary Krenek (SVP & CFO): Thanks, Marc. As always I will give a little color on this past quarter's results and then cover what is expected for the upcoming quarter. For the quarter just ended, we reported after-tax net income of $136 million, or $0.99 per share. This compares to net income of $90 million, or $0.66 per share reported in the previous quarter. The increase in earnings quarter over quarter was mainly driven by a significant decrease in rig operating cost of which Marc has already discussed. I will give a little more detail on that in a moment. Contract drilling revenues decreased from $617 million in Q 2 to $599 million in Q 3, primarily as a result of a number of rigs rolling off contract and failing to secure follow-on work due to the continuing depressed market conditions in our industry. These decreases were partially offset by a couple of rigs securing new work, specifically the O cean Monarch which began an 18-month contract in Australia in Q 3 and the O cean Victory which began its new two-year contract with BP in Trinidad in the second quarter and earned a full quarter's revenue in Q 3. Also our third drillship, the O cean BlackRhino, worked the entire quarter after beginning its initial contract with Murphy O il and Gas in mid Q 2. In addition as Marc has already pointed out, revenues in Q 3 were aided by excellent uptime on our high-spec rigs as our three new drillships operating in the Gulf of Mexico had better than 99% paid uptime. But our two sixth-generation semis working for Petrobras in Brazil, the O cean Courage and O cean Valor, also turned in exceptional performances, combining for a 98% paid uptime percentage for the quarter. When taken together our five active sixth-gen floaters were on payroll and earning dayrate for 98.8% of the time during the third quarter of Moving on to the other lines on the income statement, first contract drilling expenses for the quarter came in at $278 million which was substantially below our guidance of $320 million to $340 million that we gave out in our last earnings conference call. A strong US dollar, particularly in Brazil, was responsible for a portion of this favorable variance. But as Marc's previously stated, the primary factor contributing to our favorable expense results was that we executed on cost-saving initiatives even above our expectations. These include targets that we set for ourselves to quickly reduce cost on rigs that rolled off contracts and controlling costs on operating rigs. We anticipate that we will continue these cost efficiencies on an ongoing basis and that will be reflected in my Q4 cost guidance that I'll given a moment TheStr eet, Inc. Al l R i ghts R eser ved Page 4 of 17

5 As I stated in prior earnings call after safety cost controls and efficiencies have been and will remain among our top goals. Next depreciation and G&A expense at $118 million and $17 million respectively for Q 3 came in within our guidance. Interest expense at $22 million for Q came in slightly below our guidance as a result of our ability to take a $3.5 million credit to that line on the income statement. This was due to the statute of limitations expiring in Q3 on a tax reserve related to a prior year and that we had pre-loosely booked. And finally our tax rate at 14.6% also was within our guidance range of 10% to 16%. Now for a look at some of the items that will affect our financial performance in the upcoming quarter. Reflecting our ongoing cost-saving initiatives, we expect rig operating costs to decrease for the fifth consecutive quarter. In Q 4 we expect to report contract drilling expense between $255 million and $275 million. This includes approximately $10 million to mobilize the Ocean Onyx and Ocean Alliance back to the Gulf of Mexico. Offsetting that will be reduction in cost from Ocean Baroness which is now cold stacked in the US Gulf. As always I remind everyone that I've been talking about the line on our income statement contract drilling expenses. These numbers that I've just given you do not include costs incurred in the line reimbursable expenses. Reimbursable expenses, whatever the amount incurred, will be offset almost dollar for dollar with additional reimbursable revenues. With regard to other items on the income statement, we are again expecting depreciation expense to come in between $116 million and $120 million in Q4 and G&A expense to also remain at between $16 million to $18 million this quarter. Interest expense should rebound back to $25 million to $27 million as we don't anticipate any unusual adjustments in Q 4. As for taxes, based on current projections we believe our tax rate for the fourth quarter will come in somewhere between 12% and 16%. O f course any changes to the geographic mix and the source of earnings as well as tax assessments or settlements or movements in exchange rates will impact our effective tax rate. And finally moving on to our capital expenditure guidance, we are slightly reducing our CapEx projections that we gave in our last quarterly update, estimating that we will now spend $280 million on maintenance CapEx in 2015 and $630 million in newbuild CapEx which includes the final 70% shipyard payment for our fourth newbuild drillship, the O cean BlackLion, which was delivered in Q 2, oversight costs for the O cean GreatWhite along with several other projects completed during the current year. Together maintenance and newbuild capital expenditures are expected to total approximately $910 million in And with that I will turn it back to Marc. Thank you, Gary. Because of the severe downturn in demand for offshore drilling services the rating agencies Moody's recently downgraded most of the companies in our sector and we are all collectively on negative outlook. However, Diamond O ffshore remains investment-grade at Baa 2 and we share the highest credit rating within the offshore drilling space. Additionally, during the past quarter we extended our revolving credit facility by one year to 2020 and we are positioned currently with a revenue backlog totaling approximately $5.7 billion. We continue to hold the view that the market will be characterized by a significant oversupply of sixth-generation drilling 2014 TheStr eet, Inc. Al l R i ghts R eser ved Page 5 of 17

6 capacity well into 2017 and possibly beyond. But Diamond O ffshore remains well-positioned with our conservative capitalization, strong liquidity and backlog profile. We will continue to execute on conducting safe operations, delivering quality performance for our clients, rationalizing costs and utilizing our capital efficiently. And with that, we'll now take your questions. Q UESTIO NS & ANSWERS (O perator Instructions) Sean Meakim, JPMorgan. Se an Me akim (Analyst - JPMorgan): Good morning. So I was just hoping to talk a little bit more about the improvement that you guys saw in terms of operating performance 3Q over 2Q. Does this indicate that the break-in period has already run its course and from here while it's not a given you'd expect the performance in 3Q to be mostly sustainable going forward? Yes. The performance and the cost improvement that we've, Sean, is sustainable moving forward. This isn't a one-off. As I said in my prepared remarks we embarked on a strategic cost review well over 12 months ago. We implemented it in Q1 and now we are seeing the benefit of those actions taken earlier in the year. So that the 15% improvement in rig-based salaries and wages is sustainable. In fact, we've got over 15%. And of course the improvement in SG&A overheads corporate expense of 20% is sustainable. And as Gary gave guidance into Q4 this will be the fifth consecutive quarter of improving cost. So it is sustainable. This is not a one-off. Se an Me akim (Analyst - JPMorgan): No it's definitely been impressive. Just thinking about with the O cean Guardian announcement, how would you characterize negotiations in terms of pricing? Is there anything specific to that contract in terms of its location, type of work that it's doing that you think helps contribute to where things shook out in terms of dayrate? Sean, this is Ron. The work there with the Guardian with Dana I think was a good outcome for us. Dana of course had some more work required to get done and we're glad that we could propose a rig and a rate and a schedule which worked for them. So I think overall that was a largely positive outcome for us. Se an Me akim (Analyst - JPMorgan): O kay and then I guess just the last question for me just thinking about the outcome with Petrobras, would you be able to characterize your current situation as being relatively derisked in terms of opportunities for further renegotiations or are there still -- is the go-forward still somewhat uncertain for parts of the fleet? 2014 TheStr eet, Inc. Al l R i ghts R eser ved Page 6 of 17

7 Sean again this is Ron here. I think I'd agree with that broad characterization. I think the Petrobras renegotiation was a widely recognized force that we had to work our way through. In the end we were able to meet needs that we have, meet needs that Petrobras had and take I'd say a large I think negotiation to do for us. I think that was probably the biggest nail to pound back in the board. Se an Me akim (Analyst - JPMorgan): All right, understood. Thanks. I appreciate the detail. Waqar Syed, Goldman Sachs. Waqar Sye d (Analyst - Goldman Sachs): Thanks for taking my question. The question relates around some of the rigs that are still idle but not stacked or cold stacked like the Q uest, America, Confidence, you continue to market them. Do you see any near-term opportunities or should we assume that in a few months you may reconsider and stack those rigs? This is Ron here. I think those questions make a lot of sense. If you look at certainly the Q uest, that's a rig which has done well for us in the past but quite candidly with the oversupply in the market I think that's going to be a while before she goes back to work. So from a modeling point of view I think she'll see I think lower utilization in You know, the America is undergoing some safety upgrades right now and we have no announcements today but we continue to market her. And I think we'll promote her good reputation in Asia and Australia. The Confidence, that is a tough one. We have been and continue to talk to operators about their interest in the Confidence. We're not making any announcements today of course. But candidly we acknowledge it is going to be tough to contract her with a surplus of sixth-gen drillships in the market. We've kept her costs to a minimum and we'll make I think a more permanent call about marketing her versus stacking her in Q 4. Waqar Sye d (Analyst - Goldman Sachs): O kay. And then on the rigs that are cold stacked, you have quite a few rigs now cold stacked, why not retire them now? Why keep them in that stacked category? There's always an option on some of these rigs that is worth keeping for some time in the future. We'll make further decisions as to what we do with these rigs down the road. But as I've expressed before every quarter we look at whether we need to take an impairment or not. And suffice to say during this quarter we elected not to take a further impairment as it stands today. We'll relook at it in the next quarter. Waqar Sye d (Analyst - Goldman Sachs): 2014 TheStr eet, Inc. Al l R i ghts R eser ved Page 7 of 17

8 And what would be the book value for these cold stacked rigs? Gary Krenek (SVP & CFO): It's in the order of approximately $0.5 billion, I would think. Waqar Sye d (Analyst - Goldman Sachs): Okay. Gary Krenek (SVP & CFO): I don't have the exact number. Waqar Sye d (Analyst - Goldman Sachs): And then just last question on any M&A opportunities either for single assets or for companies, you have a pretty good balance sheet, you could be a national acquirer of assets. What are you thinking along those lines? Another good question. Look, we were the first in this downturn to retire assets but we may not be the first to acquire assets. In valuing any distressed asset you have to consider the future revenue stream. The most important factor in any valuation methodology is the first five years of revenue. It doesn't matter which tool is used. And if a revenue stream is uncertain over or near zero in the short to medium term then it's not difficult to see why the seller buyer arbitrage is so wide at present. And in a market that is looking troubled for a good number of years with significant excess supply in the sixth-gen space the price will need to be very, very attractive. You know, one of the main responsibilities that I have to the shareholders of Diamond O ffshore is future capital allocation and the proper goal accordingly is to focus on long-term value per share. So buying distressed assets at current prices is not in my opinion maximizing future shareholder value. However, I'm not ruling out such as an option at some stage in the future and really the same goes for consolidation. O ne has to look at the balance between long- and short-term contract coverage that is out there and not all rigs contribute the same to EBITDA. But I have to say our high earning sixth-gen assets are all contracted through to 2019 and beyond and we have no sixth-gen assets that we have the cold stack or defer delivery on. So that's why I would say I would not swap my fleet or balance sheet with any other. So in essence any acquisition would need to have a price which is very much more attractive than I think where we are today. Waqar Sye d (Analyst - Goldman Sachs): Great, thank you very much. Robin Shoemaker, KeyBanc Capital. Robin Shoemaker (Analyst - KeyBanc Capital Markets): 2014 TheStr eet, Inc. Al l R i ghts R eser ved Page 8 of 17

9 Thank you. Marc I was wanted to ask you a little more about the bifurcation that you spoke about because as you know in many down cycles high-end rigs work in midwater at very low rates and especially given the high stacking cost of ultra-deepwater rigs you would expect that to reoccur but you're signaling a different kind of phenomenon this time. I just wondered if you could shed a little more light on that? Yes, you know, thanks for the question. I think we will see a further bifurcation in the market between the high-end sixth-gen fleet and let's say a fourth-generation moored floater. As I previously mentioned more scrapping is needed. But from looking at what has happened already this will really only help the fourth-gen market where we as a Company are well-positioned with relatively capable assets I might add. Having said that you know we have demonstrated that our fourth- and fifth-gen assets have opportunities. In my last call four of our seven fourth-gen assets actually started new contracts but a number of months ago. We previously announced new contract for the Apex is a very good rate for this market and the Monarch as I earlier referred to has recently commenced work in Australia. The real problem is in the sixth-gen category where we simply have too much supply and there's no scrapping occurring in that category at this time. That's why effectively it is so hard to value, put a true value on sixth-generation assets at the present unless they have committed long-term contracts like our own fleet does. So if you look at again as I said in my prepared remarks, if you look at the number of exploration permits being issued in the Gulf of Mexico they are all, well, they are primarily all in the deepwater space, sorry, midwater space. And we're seeing a lot of tenders coming out that are more specific for our moored fleet whether it's in Australia, whether it's quite a bit of activity right now or certain other places. So a lot of people suggest that we're somewhat encumbered by having a more mixed fleet. I see it in a different way. We will see bifurcation and we're very comfortable with our fleet our mix at this moment in time. Robin Shoemaker (Analyst - KeyBanc Capital Markets): Yes, it's an interesting phenomenon. So one follow-up question, when you have these warm stacked assets like the Q uest or the America, the Confidence and they're in a particular location, is the way the market works now with idle rigs available in essentially all markets that the real opportunities you would pursue would be close to where that rig is actually sitting today and that mobe costs and so forth would basically rule out moving to another market or bidding that rig into West Africa or somewhere else? Robin, this is Ron. I think that's largely true with a surplus of assets. I think coming to terms with the mobilization cost, that's hard to make that work in economics. And so where you got surplus in regional markets I think that plays pretty heavily into decision-making of what rigs end up where. So we've seen I think less I think cross regional moves because of that. Robin Shoemaker (Analyst - KeyBanc Capital Markets): Yes, okay, well thank you TheStr eet, Inc. Al l R i ghts R eser ved Page 9 of 17

10 Ian Macpherson, Simmons and Company. Ian Macphe rso n (Analyst - Simmons & Company International): Good morning. Congratulations on the quarter. We've covered the Confidence, the America and the Q uest but also you've got the three rigs rolling this quarter, the O nyx, Endeavor and Valiant. And I wonder if any of those have decent visibility for follow-on work with their current customers or future customers? Ian, thanks for that question. This is Ron. So let's talk about each of those years. So the Onyx following her work with BG I think we're going to have to focus on minimizing her costs during this phase of the oversupplied market, that's just a reality. We do see a future for the rig I think when the market does tighten up and candidly her good performance and low operating costs favor some budget minded programs. So look for that rig in the future but I think you've got to be realistic here in the short term. The Endeavor, of course she's working for Exxon today, good feedback on her performance. Her work takes are just past the start of the year. Exxon has not announced or declared any additional scopes of work for the Endeavor so we have nothing to announce there today. I think you can expect us to clarify the outlook on Endeavor between now and year end. And it certainly on the Valiant doing well for Premier today, again good feedback on how she's drilling. I think in contrast to the Onyx and Endeavor, though, I would be a bit more optimistic on what we see for her in 2016 in terms of her work in the UK. Nothing specific to talk about but that's one we have just a bit more traction around operator interest. Ian Macphe rso n (Analyst - Simmons & Company International): Just more demand in that region you mean? Yes, there is more, it's not the kind of long-term program that we've enjoyed in the past but we're seeing good, honest, I think short- to medium-term scopes of work. And the Valiant is doing well there, good reputation, operators like her. And so that's one where we continue to put some energy into. Ian Macphe rso n (Analyst - Simmons & Company International): O kay, thanks for those answers. And you also mentioned at the beginning of the call that Dano would be paying part of the Guardian's pre-start up warm stack costs. Is that included in the $220,000 dayrate that you've reported or would that be above and beyond that? Ian, this is Ron again. That is not included in the $220,000, so that's above and beyond. Ian Macphe rso n (Analyst - Simmons & Company International): Okay. And then last one for me if I can, Marc you've talked a little bit in the past, the recent past about the merits at least hypothetically of a next-generation newbuild as opposed to buying a sixth-gen rig that's idled, that looks cheap but might not as you say have a clear value without any demand prospects TheStreet, Inc. All Rights Reserved Page 10 of 17

11 Any progress on that idea or do you think it's just more of an abstraction at this point? O kay, so thanks for the question. Look, I would suggest that there is not much more the drillers can give away to the E&P companies in terms of day rates. In the current oil price environment with the excess supply in fifth- and sixth-gen assets we're struggling to put rigs to work at even cash cost. And this is obviously not sustainable. So you really have to look at the structure of deepwater industry itself and address efficiency, capital efficiency for ourselves and our clients. We have to lower the cost and shorten the cycle time. In my prior like this is exactly what we did for the unconventional shale developments here in North America and we need to take a similar approach to deepwater drilling. So suffice to say I have a lot of very capable people here at Diamond working on a floating factory concept. O bviously we can't address cost savings let's say relating to umbilicals or topsides nor rate of penetration but we can address the 80% of the time a rig is over a well without the bit turning. The opportunity is significant and the savings could be material. The industry successfully took a factory approach to solving unconventional shale economics and we need to do the same for deepwater. But in terms of well let me express it this way. We at Diamond know what we want to do in terms of the floating factory concept but I bring you back to the capital allocation conundrum in terms of what we are likely to do. I think this is where your question is really pointed. And the correct answer is that it depends based on price and value of alternatives, all of which we will continue to monitor as they track lower. O ur industry is somewhat self-correcting. There is a price for a distressed asset that meets double-digit WACC hurdles with lower day rates and this needs to be compared with efficiency gains from the floating factory which we believe are material. So I'm not going to declare at this stage on what we're going to do. Suffice to say we're looking at all opportunities and there is a possibility we might have somewhat of a hybrid strategy moving forward. Ian Macphe rso n (Analyst - Simmons & Company International): Very good. Thanks, Marc. Gregory Lewis, Credit Suisse. Gregory Lewis (Analyst - Credit Suisse): Yes, thank you and good morning. O ver the last couple of months and this is regarding the GreatWhite, we've seen some issues with shipyards unable to deliver the rigs on time and that's resulted in contract issues. You mentioned earlier that we are spending some money on rig oversight of that rig. If you could just give us any sort of update, is that rig on schedule, ahead of schedule? I mean it's still a year out but it seems like this is generally when we've seen issues start to creep in with rigs that are eventually delayed. So just any sort of update on that I think would be pretty helpful TheStreet, Inc. All Rights Reserved Page 11 of 17

12 Yes, sure. Look, we're all watching what's happening in Korea today with a lot of interest. The GreatWhite was scheduled for delivery at the end of this year. That's not going to happen but with our own experience from working with the particular shipyard involved on the delivery of the drillships, we've factored somewhat of a delay into the delivery itself when we contracted the rig with our client. If you look at the particular stage of where the GreatWhite is today and compare it with where we are at, we're at with the Black ships we are very confident that the rig will be delivered let's say April, May next year. We've communicated that early with our client and they are very comfortable. I believe that they've actually publicly announced that they will commence drilling around O ctober, November in Australia. So as it stands today even with a delay that's factored into it, even with the commitments that our client has publicly stated regarding start date of the rigs we're not concerned about the contract being canceled or us having to relook at the delivery date from the shipyard itself. So at this moment in time we are comfortable that the rig will be delivered in time to meet the obligations that are required from our client to commence drilling in Australia but obviously we've got a keen oversight on the rig. Gregory Lewis (Analyst - Credit Suisse): O kay, great. Then just, Ron just a little bit more color on the extension on the Courage. Just as you look at that and make adjustments, it looked like the implied rate was somewhere in the $270,000 to $280,000 range, that rate seems pretty good given the environment of rigs going idle. Yes, you gave up a little bit on those two rigs that the contracts terminated earlier but were you surprised at I guess the dayrate on that rig? Yes, Greg, good topic. Important win for us and of course Petrobras also liked the outcome. From our standpoint having the rig extended at $380,000 per day I thought was a pretty good outcome. Marc mentioned as a backlog multiple we certainly earned back a lot more than we gave up. And for Petrobras I mean we comprehend why they had some and have some short-term pain in 2015 and 2016, so that's the trade that we made. I think we were quite pleased to have not traded away dayrate on the existing term. I think that was an important point for us and Petrobras recognized why that mattered to us so it was a good trade. And although I get the algebra on the implied dayrate calculation that you mentioned what we looked at as a $380,000 rate for added term on the backend and we both came away liking the deal. Gregory Lewis (Analyst - Credit Suisse): Okay. I mean even at $275,000 it seems like at an implied rate it's still good. Yes, and again I know how the algebra takes you there. But we certainly think of it as $380,000 on the backend and preserving the existing rate for the current scope of work. Gregory Lewis (Analyst - Credit Suisse): O kay guys, thank you very much TheStreet, Inc. All Rights Reserved Page 12 of 17

13 Lukas Daul, ABG. Lukas Daul (Analyst - ABG): Thank you, good morning. Guys, I had a question on your comments around the tendering activity in midwater and ultra-deepwater. Can you talk a little bit more about what is driving oil companies to be more active in midwater as opposed to the ultra-deepwater at the moment? Lukas, this is Ron. I think what you see there is that longer term operators recognize that the deepwater or midwater will continue to be part of their overall portfolio. And even though the economics are challenging I think today there's a whole lifecycle I think that operators have to manage. So they continue to acquire interest and stakes in different properties so they can continue to develop them over time. And so even though again we're in a tough I think spot right now the operators want to keep feeding in midwater I think parts of their portfolio and we will continue to serve those over time. So it speaks well to long term the kind of fleet mix that Marc talked about. Lukas Daul (Analyst - ABG): All right. And then looking at the overall drilling costs from the oil company perspective, obviously rates have come down in excess of 50%. But what would you say has been the decrease in the overall rig spread that the oil companies are bearing? I think the rates on the spreads themselves obviously haven't come down as much as the dayrate on the rig itself. I think you're probably looking at currently 15% to 20% across the rest of the deepwater space. Is there more to come? Possibly. I think perhaps maybe the average breakeven point for deepwater was around the $85 rate. I think you're going to see another $15 coming off of that. You see unconventional is more transactional and therefore if we look at competing against unconventional, certainly here in North America, their costs have come down much faster than we can bring costs down in deepwater. That's why we at Diamond are looking at this floating factory concept to see what else we can do other than just simply lower day rates because that's not the answer. I'll bring up a point here that we're looking at in terms of the long-term prospects for deepwater and I think somewhat there's an overemphasis on the 2020 or similar future strip calling for a price that's still in the $65 a barrel range when really the elephant in the room is a combination of oil intensity, the economy, economic growth, decline curves, geopolitical risk, whatever you want to say. And well, I say this because one of the larger investment bankers recently published a very detailed and perhaps the most comprehensive report of the year looking into the melting pot that governs the price of oil and had some interesting conclusions. And suffice to say that we also would be surprised to see a $65 price in I think the price will be higher than that and I think deepwater will come back once we've implemented further cost savings as to how we deliver these projects over the next two to three years. And I think we'll be looking at a very different market but it's not going to happen today. So I hope the data answer some of your queries there. Lukas Daul (Analyst - ABG): 2014 TheStreet, Inc. All Rights Reserved Page 13 of 17

14 Yes, thanks. And just finally when talking about new contracts with the operators, have you experienced that they are more scrutinizing the financial health of the contractors? Yes, this is Ron. The short answer is yes they are, and quite candidly we know that customers are taking a very close look at who can survive this market cycle. And we've received some pretty I think favorable feedback on the confidence that they have in Diamond with our strong balance sheet to make it through this market. They know that we'll navigate through this cycle and that during the cycle we'll stay focused on training and spares and maintenance and operational excellence, things that are important to high-performing drillers. So this is coming up as an increasingly important theme as we talk to our customers. Lukas Daul (Analyst - ABG): All right. Thank you, guys. Dave Wilson, Howard Weil. Dave Wilso n (Analyst - Howard Weil Incorporated): Good morning, gentlemen. Thanks for taking my questions. First on the fleet and planned downtime for 2016 I notice we haven't put anything yet in the fleet status report and I know that can be in flux given where we are in the budgetary process. But could you at least identify which rigs might have some planned downtime in 2016? Gary Krenek (SVP & CFO): Hey, Dave, it's Gary. You're right, we are still going through the budget but at this point it's questionable whether we're going to have anything for planned downtime. Dave Wilso n (Analyst - Howard Weil Incorporated): Got it. All right and then Gary just as a follow-up on your cost guidance the $255 million to $275 million, that includes $10 million in mobe cost? Gary Krenek (SVP & CFO): That is correct. Dave Wilso n (Analyst - Howard Weil Incorporated): So kind of a run rate going forward is kind of a $245 million to $265 million just from an operating standpoint? Gary Krenek (SVP & CFO): It's going to depend on the activity of the rigs. We have some cost for the Alliance and the Clipper in Q4. We shouldn't have that in Q1, so it could come down again in Q1 but we'll see what we'll have when we evaluate everything. Dave Wilso n (Analyst - Howard Weil Incorporated): 2014 TheStreet, Inc. All Rights Reserved Page 14 of 17

15 O kay great. Thanks. I will turn it back. Judson Bailey, Wells Fargo. Judso n Baile y (Analyst - Wells Fargo Securities LLC): Thanks. Good morning. A question for Gary. Gary, with all your cost coming down quite a bit here over the last few quarters, can you maybe help us recalibrate your operating cost or operating cost assumptions for our modeling purposes for some of your major asset classes? I'm thinking of the drillships in the Gulf of Mexico and maybe now the two remaining ultra-deepwater semis you're going to have in Brazil? Gary Krenek (SVP & CFO): We're looking at the big drillships in the Gulf. They have an operating cost of around $160,000 a day but we also have amortized mobe that has to go into that. So once you add that in it comes back to the $175,000, $180,000, something like that. And then in Brazil, those costs have come down one because of the cost initiatives and then two because of the strength of the dollar against the Brazil currency. So those costs are somewhere also in that $170,000, $180,000 range. They had been over $200,000 a day to $220,000. Judso n Baile y (Analyst - Wells Fargo Securities LLC): Okay and then last one or next one the Guardian or just your UK midwater semis, a cost point there? Gary Krenek (SVP & CFO): Cost point somewhere in the 60s, 60s to 70s. Judso n Baile y (Analyst - Wells Fargo Securities LLC): O kay, and my follow-up question is just thinking about Brazil as a market for Diamond you will be down to two working semis. Can you maybe talk us through how can that impact your shore-based cost in that region? Can you start eliminating some bigger costs in that area, maybe move them back to the US or when you're down to that low of a number of rigs working, can you help us think through does that help you eliminate some of your shore-based cost down there further? Yes, it does. It does, Jud. We already started working on reducing our shore-based costs in Brazil a good number of quarters ago. We've actually done two tranches of cost reductions there. And in actual fact we started rightsizing for a two-rig operation probably about three, four months ago. So we're well into that process. As the international players pick up in that part of the world we're looking at what other rigs we might take in there. So I think an earlier question came is do we believe any of our other contracts are at risk? I think we're done with Petrobras. I think they're very comfortable in terms of what we've negotiated and what they've negotiated. It is a win-win for both parties. And I don't see any more risk there for our backlog. And indeed I think actually there is an opportunity to 2014 TheStreet, Inc. All Rights Reserved Page 15 of 17

16 take one of our other assets in there in possibly a couple of years. We're already in dialogue. So I think from a Diamond Offshore perspective we're looking at in the long run increasing our fleet once again down there rather than taking it back any further. Judso n Baile y (Analyst - Wells Fargo Securities LLC): O kay, thank you. David Smith, Heikkinen Energy Advisors. David Smit h (Analyst - Heikkinen Energy): My questions have been answered. Thank you. Mark Brown, Seaport Global Securities. Mark Bro wn (Analyst - Global Hunter Securities): Hi, gentlemen. I wanted to ask just on how you think the sixth-gen asset demand will come back? Do you think it will recover by 2019, 2020 when your new drillships come off contract? Are you considering potentially blend and extend type arrangements in advance of that if you don't think it will have recovered by then? Yes, thanks, Mark. Look, geopolitical issues aside, the ultra-deepwater market will remain particularly challenged through in our opinion or my opinion to at least the end of 2017 possibly into So I would be surprised if by the time our current rigs come off contract in 2019 and 2020 that the market has not turned somewhat. You can't escape the fact that at this year end there will be over 40 capable assets looking for work with more to be delivered next your, many without a contract. This number could double over the next two years as there are not many drillship tenders available today nor will there be in the next few quarters. If you look at our clients and what they are signaling vis-a-vis 2017 CapEx and you look at the current availability of contracting on the sixth-gen assets, along with the cycle time from projects sanctioned to rigs actually commencing operation then we are looking at a recovery that we believe does not materialize for these assets prior to But as I've stated before, and not by accident by the way, all of our high EBITDA contribution sixth-gen assets are on contract through to 2019 and beyond to include what we believe is a win for us. The additional $333 million of backlog we have announced at a rate of $380,000 a day for the Ocean Courage. And for those that of the more diversified fleet for example capable moored fourth-generation assets the recovery may come sooner where excess supply will be less if we continue to see more scrapping in this particular space. Mark Bro wn (Analyst - Global Hunter Securities): O kay, what thank you. And just on the moored semi market overall, how do you see demand evolving next year or the year after that? Do you believe it will decline somewhat but not as much as ultradeepwater or do you think it will maintain some more resiliency and maybe flatten? 2014 TheStreet, Inc. All Rights Reserved Page 16 of 17

17 Yes, this is Ron here. I think to echo some of Marc's comments there we certainly see in the sixth space the oversupply will keep that in sort of a tough sector for us for anyone competing. But in the moored space candidly there is that's a smaller I think slice of the market in terms of what's out in the oversupply. So in fact there's probably maybe not in the short term but if you think through the second balance of the ball you can see some ways to see a more slightly more optimistic scenario. I think we're not prepared to call it -- we're not prepared to say that improves quickly. But you can see a scenario where in fact enough supply comes out and demand stays reasonable where that market tightens up perhaps faster than the sixth-generation drillship slice will. Mark Bro wn (Analyst - Global Hunter Securities): That makes sense. Thank you very much. O kay. Well folks, thank you for participating in the call today. And we look forward to speaking with you again in the next quarter. Thank you. Ladies and gentlemen, this does conclude today's conference call. All rights reserved (c) 2014 TheStreet, Inc. Please feel free to quote up to 200 words per transcript. Any quote should be accompanied by "Provided by TheStreet" and a link to the complete transcript and Any other use or method of distribution is strictly prohibited. THE INFORMATION CONTAINED IN EACH WRITTEN OR AUDIO TRANSCRIPT (the "TRANSCRIPT") IS A REPRO DUCTIO N O F A PARTICULAR CO MPANY'S CO NFERENCE CALL, CO NFERENCE PRESENTATIO N O R O THER AUDIO PRESENTATIO N. THE TRANSCRIPTS ARE PRO VIDED "AS IS" AND "AS AVAILABLE" AND THESTREET IS NOT RESPONSIBLE IN ANY WAY NOR DOES IT MAKE ANY REPRESENTATION OR WARRANTY REGARDING THE ACCURACY O R CO MPLETENESS O F THE TRANSCRIPTS AS PRO DUCED, NO R THE SUBSTANCE O F A PARTICULAR CO MPANY'S INFO RMATIO N. THE TRANSCRIPTS ARE PROVIDED FOR INFORMATIONAL PURPOSES ONLY. THESTREET IS NOT PROVIDING ANY INVESTMENT ADVICE O R ENDO RSING ANY PARTICULAR CO MPANY TheStreet, Inc. All Rights Reserved Page 17 of 17