UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | ||
For the quarterly period ended | ||
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | |
For the transition period from to | |
Commission File Number: 1-10945
____________________________________________
OCEANEERING INTERNATIONAL, INC.
(Exact name of registrant as specified in its charter)
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) | |
(Address of principal executive offices) | (Zip Code) | |
(713 ) 329-4500
(Registrant's telephone number, including area code)
Not Applicable
(Former name, former address and former fiscal year, if changed from last report)
____________________________________________
Securities registered pursuant to Section 12(b) of the Act:
Title of each class | Trading Symbol(s) | Name of exchange on which registered |
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. þ Yes ¨ No
Indicate by check mark whether the registrant has submitted every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). þ Yes ¨ No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of "large accelerated filer," "accelerated filer," "smaller reporting company," and "emerging growth company" in Rule 12b-2 of the Exchange Act.
☑ | Accelerated filer | ☐ | |
Non-accelerated filer | ☐ | Smaller reporting company | |
Emerging growth company | |||
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Number of shares of Common Stock outstanding as of November 1, 2019: 98,929,503
Oceaneering International, Inc.
Form 10-Q
Table of Contents
Part I | |||
Item 1. | |||
Item 2. | |||
Item 3. | |||
Item 4. | |||
Part II | |||
Item 1. | |||
Item 6. | |||
1
PART I – FINANCIAL INFORMATION
Item 1. | Financial Statements |
OCEANEERING INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
Sep 30, 2019 | Dec 31, 2018 | |||||||
(in thousands, except share data) | ||||||||
(unaudited) | ||||||||
ASSETS | ||||||||
Current Assets: | ||||||||
Cash and cash equivalents | $ | $ | ||||||
Accounts receivable, net of allowances for doubtful accounts of $6,593 and $7,116 | ||||||||
Contract assets | ||||||||
Inventory, net | ||||||||
Other current assets | ||||||||
Total Current Assets | ||||||||
Property and equipment, at cost | ||||||||
Less accumulated depreciation | ||||||||
Net property and equipment | ||||||||
Other Assets: | ||||||||
Goodwill | ||||||||
Other noncurrent assets | ||||||||
Right-of-use operating lease assets | — | |||||||
Total other assets | ||||||||
Total Assets | $ | $ | ||||||
LIABILITIES AND EQUITY | ||||||||
Current Liabilities: | ||||||||
Accounts payable | $ | $ | ||||||
Accrued liabilities | ||||||||
Contract liabilities | ||||||||
Total current liabilities | ||||||||
Long-term debt | ||||||||
Long-term operating lease liabilities | — | |||||||
Other long-term liabilities | ||||||||
Commitments and contingencies | ||||||||
Equity: | ||||||||
Common stock, par value $0.25 per share; 360,000,000 shares authorized; 110,834,088 shares issued | ||||||||
Additional paid-in capital | ||||||||
Treasury stock; 11,904,585 and 12,294,873 shares, at cost | ( | ) | ( | ) | ||||
Retained earnings | ||||||||
Accumulated other comprehensive loss | ( | ) | ( | ) | ||||
Oceaneering shareholders' equity | ||||||||
Noncontrolling interest | ||||||||
Total equity | ||||||||
Total Liabilities and Equity | $ | $ | ||||||
The accompanying Notes are an integral part of these Consolidated Financial Statements.
2
OCEANEERING INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||
(in thousands, except per share data) | 2019 | 2018 | 2019 | 2018 | |||||||||||||
Revenue | $ | $ | $ | $ | |||||||||||||
Cost of services and products | |||||||||||||||||
Gross margin | |||||||||||||||||
Selling, general and administrative expense | |||||||||||||||||
Income (loss) from operations | ( | ) | ( | ) | ( | ) | ( | ) | |||||||||
Interest income | |||||||||||||||||
Interest expense, net of amounts capitalized | ( | ) | ( | ) | ( | ) | ( | ) | |||||||||
Equity in income (losses) of unconsolidated affiliates | ( | ) | ( | ) | |||||||||||||
Other income (expense), net | ( | ) | ( | ) | ( | ) | |||||||||||
Income (loss) before income taxes | ( | ) | ( | ) | ( | ) | ( | ) | |||||||||
Provision (benefit) for income taxes | |||||||||||||||||
Net Income (Loss) | $ | ( | ) | $ | ( | ) | $ | ( | ) | $ | ( | ) | |||||
Weighted-average shares outstanding | |||||||||||||||||
Basic | |||||||||||||||||
Diluted | |||||||||||||||||
Earnings (loss) per share | |||||||||||||||||
Basic | $ | ( | ) | $ | ( | ) | $ | ( | ) | $ | ( | ) | |||||
Diluted | $ | ( | ) | $ | ( | ) | $ | ( | ) | $ | ( | ) | |||||
The accompanying Notes are an integral part of these Consolidated Financial Statements.
3
OCEANEERING INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(unaudited)
Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||
(in thousands) | 2019 | 2018 | 2019 | 2018 | |||||||||||||
Net income (loss) | $ | ( | ) | $ | ( | ) | $ | ( | ) | $ | ( | ) | |||||
Other Comprehensive Income (Loss): | |||||||||||||||||
Foreign currency translation adjustments | ( | ) | ( | ) | ( | ) | ( | ) | |||||||||
Total other comprehensive income (loss) | ( | ) | ( | ) | ( | ) | ( | ) | |||||||||
Comprehensive income (loss) | $ | ( | ) | $ | ( | ) | $ | ( | ) | $ | ( | ) | |||||
The accompanying Notes are an integral part of these Consolidated Financial Statements.
4
OCEANEERING INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
Nine Months Ended September 30, | ||||||||
(in thousands) | 2019 | 2018 | ||||||
Cash Flows from Operating Activities: | ||||||||
Net income (loss) | $ | ( | ) | $ | ( | ) | ||
Adjustments to reconcile net income (loss) to net cash provided by operating activities: | ||||||||
Depreciation and amortization | ||||||||
Deferred income tax provision (benefit) | ( | ) | ||||||
Net loss (gain) on sales of property and equipment and cost method investment | ( | ) | ( | ) | ||||
Noncash compensation | ||||||||
Excluding the effects of acquisitions, increase (decrease) in cash from: | ||||||||
Accounts receivable and contract assets | ( | ) | ||||||
Inventory | ( | ) | ( | ) | ||||
Other operating assets | ||||||||
Currency translation effect on working capital, excluding cash | ( | ) | ||||||
Current liabilities | ( | ) | ||||||
Other operating liabilities | ( | ) | ||||||
Total adjustments to net income (loss) | ||||||||
Net Cash Provided by (Used in) Operating Activities | ||||||||
Cash Flows from Investing Activities: | ||||||||
Purchases of property and equipment | ( | ) | ( | ) | ||||
Business acquisitions, net of cash acquired | ( | ) | ||||||
Proceeds from redemption of investments | ||||||||
Purchase of Angolan bonds | ( | ) | ||||||
Distributions of capital from unconsolidated affiliates | ||||||||
Proceeds from sale of property and equipment and cost method investment | ||||||||
Net Cash Provided by (Used in) Investing Activities | ( | ) | ( | ) | ||||
Cash Flows from Financing Activities: | ||||||||
Net proceeds from issuance of 6.000% Senior Notes, net of issuance costs | ||||||||
Repayment of term loan facility | ( | ) | ||||||
Other financing activities | ( | ) | ( | ) | ||||
Net Cash Provided by (Used in) Financing Activities | ( | ) | ( | ) | ||||
Effect of exchange rates on cash | ( | ) | ( | ) | ||||
Net Increase (Decrease) in Cash and Cash Equivalents | ( | ) | ( | ) | ||||
Cash and Cash Equivalents—Beginning of Period | ||||||||
Cash and Cash Equivalents—End of Period | $ | $ | ||||||
The accompanying Notes are an integral part of these Consolidated Financial Statements.
5
OCEANEERING INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EQUITY
(unaudited)
Accumulated Other Comprehensive Income (Loss) | ||||||||||||||||||||||||||||||||||||
Common Stock | Additional Paid-in Capital | Treasury Stock | Retained Earnings | Currency Translation Adjustments | Oceaneering Shareholders' Equity | Non-controlling Interest | Total Equity | |||||||||||||||||||||||||||||
(in thousands) | Pension | |||||||||||||||||||||||||||||||||||
Balance, December 31, 2018 | $ | $ | $ | ( | ) | $ | $ | ( | ) | $ | $ | $ | $ | |||||||||||||||||||||||
Cumulative effect of ASC 842 adoption | — | — | — | ( | ) | — | — | ( | ) | — | ( | ) | ||||||||||||||||||||||||
Net income (loss) | — | — | — | ( | ) | — | — | ( | ) | — | ( | ) | ||||||||||||||||||||||||
Other comprehensive income (loss) | — | — | — | — | — | — | ||||||||||||||||||||||||||||||
Restricted stock unit activity | — | ( | ) | — | — | — | — | |||||||||||||||||||||||||||||
Restricted stock activity | — | ( | ) | — | — | — | — | |||||||||||||||||||||||||||||
Balance, March 31, 2019 | ( | ) | ( | ) | ||||||||||||||||||||||||||||||||
Net income (loss) | — | — | — | ( | ) | — | — | ( | ) | — | ( | ) | ||||||||||||||||||||||||
Other comprehensive income (loss) | — | — | — | — | — | — | ||||||||||||||||||||||||||||||
Restricted stock unit activity | — | — | — | — | — | |||||||||||||||||||||||||||||||
Balance, June 30, 2019 | ( | ) | ( | ) | ||||||||||||||||||||||||||||||||
Net income (loss) | — | — | — | ( | ) | — | ( | ) | — | ( | ) | |||||||||||||||||||||||||
Other comprehensive income (loss) | — | — | — | — | ( | ) | — | ( | ) | — | ( | ) | ||||||||||||||||||||||||
Restricted stock unit activity | — | — | — | — | — | — | ||||||||||||||||||||||||||||||
Balance, September 30, 2019 | $ | $ | $ | ( | ) | $ | $ | ( | ) | $ | $ | $ | $ | |||||||||||||||||||||||
Accumulated Other Comprehensive Income (Loss) | ||||||||||||||||||||||||||||||||||||
Common Stock | Additional Paid-in Capital | Treasury Stock | Retained Earnings | Currency Translation Adjustments | Oceaneering Shareholders' Equity | Non-controlling Interest | Total Equity | |||||||||||||||||||||||||||||
(in thousands) | Pension | |||||||||||||||||||||||||||||||||||
Balance, December 31, 2017 | $ | $ | $ | ( | ) | $ | $ | ( | ) | $ | $ | $ | $ | |||||||||||||||||||||||
Cumulative effect of ASC 606 adoption | — | — | — | ( | ) | — | — | ( | ) | — | ( | ) | ||||||||||||||||||||||||
Net income (loss) | — | — | — | ( | ) | — | — | ( | ) | — | ( | ) | ||||||||||||||||||||||||
Other comprehensive income (loss) | — | — | — | — | — | — | ||||||||||||||||||||||||||||||
Restricted stock unit activity | — | ( | ) | — | — | — | — | |||||||||||||||||||||||||||||
Restricted stock activity | — | ( | ) | — | — | — | — | |||||||||||||||||||||||||||||
Balance, March 31, 2018 | ( | ) | ( | ) | ||||||||||||||||||||||||||||||||
Net income (loss) | — | — | — | ( | ) | — | — | ( | ) | — | ( | ) | ||||||||||||||||||||||||
Other comprehensive income (loss) | — | — | — | — | ( | ) | — | ( | ) | — | ( | ) | ||||||||||||||||||||||||
Restricted stock unit activity | — | — | — | — | — | |||||||||||||||||||||||||||||||
Balance, June 30, 2018 | ( | ) | ( | ) | ||||||||||||||||||||||||||||||||
Net income (loss) | — | — | — | ( | ) | — | ( | ) | — | ( | ) | |||||||||||||||||||||||||
Other comprehensive income (loss) | — | — | — | — | ( | ) | — | ( | ) | — | ( | ) | ||||||||||||||||||||||||
Restricted stock unit activity | — | — | — | — | — | |||||||||||||||||||||||||||||||
Balance, September 30, 2018 | $ | $ | $ | ( | ) | $ | $ | ( | ) | $ | $ | $ | $ | |||||||||||||||||||||||
The accompanying Notes are an integral part of these Consolidated Financial Statements.
6
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF MAJOR ACCOUNTING POLICIES
Basis of Presentation. Oceaneering International, Inc. ("Oceaneering," "we" or "us") has prepared these unaudited consolidated financial statements pursuant to instructions for quarterly reports on Form 10-Q, which we are required to file with the United States Securities and Exchange Commission (the "SEC"). These financial statements do not include all information and footnotes normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States ("U.S. GAAP"). These financial statements reflect all adjustments that we believe are necessary to present fairly our financial position as of September 30, 2019 and our results of operations and cash flows for the periods presented. Except as otherwise disclosed herein, all such adjustments are of a normal and recurring nature. These financial statements should be read in conjunction with the consolidated financial statements and related notes included in our annual report on Form 10-K for the year ended December 31, 2018. The results for interim periods are not necessarily indicative of annual results.
Principles of Consolidation. The consolidated financial statements include the accounts of Oceaneering and our 50 % or more owned and controlled subsidiaries. We also consolidate entities that are determined to be variable interest entities if we determine that we are the primary beneficiary; otherwise, we account for those entities using the equity method of accounting. We use the equity method to account for our investments in unconsolidated affiliated companies of which we own an equity interest of between 20 % and 50 % and as to which we have significant influence, but not control, over operations. We use the cost method for all other long-term investments. Investments in entities that we do not consolidate are reflected on our balance sheet in other noncurrent assets. All significant intercompany accounts and transactions have been eliminated.
Use of Estimates. The preparation of financial statements in conformity with U.S. GAAP requires that our management make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities as of the date of the financial statements and the reported amounts of revenue and expense during the reporting period. Actual results could differ from those estimates.
Cash and Cash Equivalents. Cash and cash equivalents include demand deposits and highly liquid investments with original maturities of three months or less from the date of investment.
Accounts Receivable – Allowances for Doubtful Accounts. We determine the need for allowances for doubtful accounts using the specific identification method. We generally do not require collateral from our customers.
Inventory. Inventory is valued at the lower of cost or net realizable value. We determine cost using the weighted-average method.
Property and Equipment and Long-Lived Intangible Assets. We provide for depreciation of assets included in property and equipment on the straight-line method over their estimated useful lives. We charge the costs of repair and maintenance of property and equipment to operations as incurred, while we capitalize the costs of improvements that extend asset lives or functionality. Upon the disposition of property and equipment, the related cost and accumulated depreciation accounts are relieved and any resulting gain or loss is included as an adjustment to cost of services and products.
Intangible assets, primarily acquired in connection with business combinations, include trade names, intellectual property and customer relationships and are being amortized over their estimated useful lives.
We capitalize interest on assets where the construction period is anticipated to be more than three months. We capitalized no interest and $1.9 million of interest in the three-month periods ended September 30, 2019 and 2018, respectively, and $3.4 million and $5.3 million of interest in the in the nine-month periods ended September 30, 2019 and 2018, respectively. We do not allocate general administrative costs to capital projects.
Our management periodically, and upon the occurrence of a triggering event, reviews the realizability of our property and equipment and long-lived intangible assets to determine whether any events or changes in circumstances indicate that the carrying amounts of the assets may not be recoverable. For long-lived assets to be held and used, we base our evaluation on impairment indicators, such as the nature of the assets, the future economic benefits of the assets, any historical or future profitability measurements and other external market conditions or factors that may be present. If such impairment indicators are present or other factors exist that indicate that the carrying amount of an asset may not be recoverable, we determine whether an impairment has occurred through the use of an undiscounted cash flows analysis of the asset at the lowest level for which
7
identifiable cash flows exist. If an impairment has occurred, we recognize a loss for the difference between the carrying amount and the fair value of the asset. For assets held for sale or disposal, the fair value of the asset is measured using fair market value less estimated costs to sell. Assets are classified as held-for-sale when we have a plan for disposal of certain assets and those assets meet the held for sale criteria.
Business Acquisitions. We account for business combinations using the acquisition method of accounting, and, in each case, we allocate the acquisition price to the assets acquired and liabilities assumed based on their fair market values as of the date of acquisition.
In March 2018, we acquired Ecosse Subsea Limited (“Ecosse”) for $68 million in cash. Headquartered in Aberdeen, Scotland, Ecosse builds and operates tools for seabed preparation, route clearance and trenching for the installation of submarine cables and pipelines. These services are offered on an integrated basis that includes vessels, remotely operated vehicles ("ROVs") and survey services. We have accounted for this acquisition by allocating the purchase price to the assets acquired and liabilities assumed based on their estimated fair values as of the date of acquisition. We have included Ecosse’s operations in our consolidated financial statements starting from the date of closing, and its operating results are reflected in our Subsea Projects segment.
Dispositions. In September 2018, we consummated the sale of our cost method investment in ASV Global, LLC for $15 million. The sale resulted in a pre-tax gain of $9.3 million, which is reflected in other income (expense), net in our Consolidated Statements of Operations for the three- and nine-month periods ended September 30, 2018.
Goodwill. We evaluate our goodwill annually in December and more frequently, on an interim basis, if events occur or circumstances change that would indicate the carrying amount may be impaired, by performing a qualitative or quantitative impairment test. Under the qualitative approach and after assessing the totality of events or circumstances, if we determine that it is more likely than not that the fair value of a reporting unit is less than its carrying amount, we are required to perform the quantitative analysis to determine the fair value for that reporting unit. In the fourth quarter of 2018, we were required to perform a quantitative analysis for our Subsea Projects Segment and determined that the fair value was less than the carrying value and, as a result, we recorded a pre-tax goodwill impairment loss of $76 million in the Subsea Projects reporting unit. For the remaining reporting units, qualitative assessments were performed; and we concluded that it was more likely than not the fair value of the reporting unit was more than the carrying value of the reporting unit and, therefore, no impairment was required.
In addition to our annual evaluation of goodwill for impairment, upon the occurrence of a triggering event, we review our goodwill to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount.
Foreign Currency Translation. The functional currency for several of our foreign subsidiaries is the applicable local currency. Results of operations for foreign subsidiaries with functional currencies other than the U.S. dollar are translated into U.S. dollars using average exchange rates during the period. Assets and liabilities of these foreign subsidiaries are translated into U.S. dollars using the exchange rates in effect as of the balance sheet date, and the resulting translation adjustments are recognized in accumulated other comprehensive income (loss) as a component of shareholders' equity. All foreign currency transaction gains and losses are recognized currently in the Consolidated Statements of Operations.
Revenue Recognition. On January 1, 2018, we adopted Accounting Standard Update ("ASU") 2014-09, "Revenue from Contracts with Customers," which implemented Accounting Standards Codification Topic 606 ("ASC 606"). We applied the modified retrospective method to those contracts that were not completed as of January 1, 2018, and utilized the practical expedient to reflect the effect on contract modifications in the aggregate. The adoption of this ASU resulted in an after-tax cumulative effect adjustment of $0.5 million recorded to retained earnings as of January 1, 2018.
All of our revenue is realized through contracts with customers. We recognize our revenue according to the contract type. On a daily basis, we recognize service revenue over time for contracts that provide for specific time, material and equipment charges, which we bill periodically, ranging from weekly to monthly. We use the input method to faithfully depict revenue recognition, because each day of service provided represents value to the customer. The performance obligations in these contracts are satisfied, and revenue is recognized, as the work is performed. We have used the expedient available to recognize revenue when the billing corresponds to the value realized by the customer where appropriate.
8
We account for significant fixed-price contracts, mainly relating to our Subsea Products segment, and to a lesser extent in our Subsea Projects and Advanced Technologies segments, by recognizing revenue over time using an input, cost-to-cost measurement percentage-of-completion method. We use the input cost-to-cost method to faithfully depict revenue recognition. This commonly used method allows appropriate calculation of progress on our contracts. A performance obligation is satisfied as we create a product on behalf of the customer over the life of the contract. The remainder of our revenue is recognized at the point in time when control transfers to the customer, thus satisfying the performance obligation.
We have elected to recognize the cost for freight and shipping as an expense when incurred. Taxes assessed by a governmental authority that are both imposed on and concurrent with a specific revenue-producing transaction, and that are collected by us from customers, are excluded from revenue.
In our service-based business lines, which principally charge on a dayrate basis for services provided, there is no significant impact in the pattern of revenue and profit recognition as a result of implementation of ASC 606. In our product-based business lines, we have seen impacts on the pattern of our revenue and profit recognition in our contracts using the percentage-of-completion method, as a result of the requirement to exclude uninstalled materials and significant inefficiencies from the measure of progress. This occurs predominantly in our Subsea Products segment.
We apply judgment in the determination and allocation of transaction price to performance obligations, and the subsequent recognition of revenue, based on the facts and circumstances of each contract. We routinely review estimates related to our contracts and, where required, reflect revisions to profitability in earnings immediately. If an element of variable consideration has the potential for a significant future reversal of revenue, we will constrain that variable consideration to a level intended to remove the potential future reversal. If a current estimate of total contract cost indicates an ultimate loss on a contract, we recognize the projected loss in full when we determine it. In prior years, we have recorded adjustments to earnings as a result of revisions to contract estimates; however, we did not have any material adjustments during the nine months ended September 30, 2019 and 2018. There could be significant adjustments to overall contract costs in the future, due to changes in facts and circumstances.
In general, our payment terms consist of those services billed regularly as provided and those products delivered at a point in time, which are invoiced after the performance obligation is satisfied. Our product and service contracts with milestone payments due at agreed progress points during the contract are invoiced when those milestones are reached, which may differ from the timing of revenue recognition. Our payment terms generally do not provide financing of contracts to customers, nor do we receive financing from customers as a result of these terms.
See Note 2—"Revenue" for more information on our revenue from contracts with customers.
Leases. On January 1, 2019 we adopted ASU 2016-02, "Leases (Topic 842"), which requires lessees to recognize right-of-use assets ("ROU assets") and lease liabilities for virtually all leases and updates previous accounting standards for lessors to align certain requirements of the new leases standard and the revenue recognition accounting standard. We elected to apply the transition method that allowed us to apply this update at the adoption date and adopted the package of practical expedients that permitted us to retain the identification and classification of leases made under the previously applicable accounting standards. The adoption of this ASU as of January 1, 2019 resulted in a cumulative effect adjustment of $5.9 million recorded to retained earnings, with corresponding adjustments to increase ROU assets and lease liabilities by $185 million and $191 million, respectively. The adoption of this ASU did not materially affect our net earnings and had no impact on cash flows. Comparative information with respect to prior periods has not been retrospectively restated and continues to be reported under the accounting standards in effect for those periods.
As a lessee, we utilize the expedients to not recognize leases with an initial lease term of 12 months or less on the balance sheet and to combine lease and non-lease components together and account for the combined component as a lease for all asset classes, except real estate.
As a lessor, we lease certain types of equipment along with the provision of services and utilize the expedient allowing us to combine the lease and non-lease components into a combined component that is accounted for under ASC 842 where the lease component is predominant and under ASC 606 where the service component is predominant. In general, wherever we have a service component, this is typically the predominant element and leads to accounting under ASC 606.
9
We determine whether a contract is or contains a lease at inception, whether as a lessee or a lessor. We take into consideration the elements of an identified asset, right to control and the receipt of economic benefit in making these determinations.
As a lessee, we lease land, buildings, vessels and equipment for the operation of our business and to support some of our service line revenue streams. These generally carry lease terms that range from days for operational and support equipment to 20 years for land and buildings. These leases are negotiated on commercial terms at market rates and many carry standard options to extend or terminate at our discretion. When the exercise of those options is reasonably certain, we include them in the lease assessment. Our leases do not contain material restrictions or covenants that impact our accounting for them, nor do we provide residual value guarantees.
As a lessor, we lease certain types of equipment, often providing services at the same time. These leases can be priced on a dayrate or lump-sum basis for periods ranging from a few days to multi-year contracts. These leases are negotiated on commercial terms at market rates and many carry standard options to extend or terminate at our customers sole discretion. These leases generally do not contain options to purchase, material restrictions or covenants that impact our accounting for leases.
ROU operating lease assets and operating lease liabilities are recognized based on the present value of the future minimum lease payments over the lease term at commencement or modification date. As most of our leases do not provide an implicit rate, we use our incremental borrowing rate, based on the information available at commencement or modification date in determining the present value of future payments. In determining the incremental borrowing rate, we considered our external credit ratings, bond yields for us and our identified peers, the risk-free rate in geographic regions where we operate and the impact associated with providing collateral over a similar term as the lease for an amount equal to the lease payments. Our ROU operating lease assets also include any lease prepayments made and exclude lease incentives and initial direct costs incurred. Our lease terms may include options to extend or terminate the lease. These options are included in the lease term when it is reasonably certain that we will exercise that option. Lease expense for minimum lease payments is recognized on a straight-line basis over the lease term.
New Accounting Standards. In June 2016, the Financial Accounting Standards Board ("FASB") issued ASU No. 2016-13, "Financial Instruments—Credit Losses: Measurement of Credit Losses on Financial Instruments," as modified by subsequently issued ASU 2018-19, ASU 2019-04 and ASU 2019-05. The guidance introduces a new credit reserving model known as the Current Expected Credit Loss ("CECL") model, which is based on expected losses, and differs significantly from the incurred loss approach used today. The CECL model requires estimating all expected credit losses for certain types of financial instruments, including trade receivables and contract assets, held at the reporting date based on historical experience, current conditions and reasonable and supportable forecasts. These ASUs affect an entity to varying degrees depending on the credit quality for the assets held by the entity, their duration and how the entity applies current U.S. GAAP. These ASUs will become effective for us beginning January 1, 2020. We have formed a project team to review these requirements and ensure that we meet the required implementation date. We continue to assess the impact of this guidance and are in the process of pooling our customers by their associated risk factors and evaluating our historical experience associated with credit losses.
In August 2017, the FASB issued ASU No. 2017-12 "Derivatives and Hedging (Topic 815): Targeted improvements to Accounting for Hedging Activities," which simplified the application of hedge accounting guidance in current U.S. GAAP and improved the reporting of hedging relationships to better portray the economic results of our risk management activities in our consolidated financial statements. Our adoption of this ASU on January 1, 2019 did not have a material impact on our consolidated financial statements.
In February 2018, the FASB issued ASU 2018-02, "Income Statement – Reporting Comprehensive Income (Topic 220) Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income." The amendments in this update allow a reclassification from accumulated other comprehensive income to retained earnings for stranded tax effects resulting from the December 2017 enactment of U.S. tax reform legislation commonly referred to as the Tax Cuts and Jobs Act (the "Tax Act"). However, because the amendments only relate to the reclassification of the income tax effects of the Tax Act, the underlying guidance that requires that the effect of a change in tax laws or rates be included in income from continuing operations is not affected. The amendments in this update also require certain disclosures about stranded tax effects. The amendments in this update were effective for us beginning January 1, 2019. This ASU has not had a material effect on our consolidated financial statements.
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2. REVENUE
Revenue by Category
We recognized revenue, disaggregated by business segment, geographical region, and timing of transfer of goods or services, as follows:
Three Months Ended | Nine Months Ended | |||||||||||||||||||||
(in thousands) | Sep 30, 2019 | Sep 30, 2018 | Jun 30, 2019 | Sep 30, 2019 | Sep 30, 2018 | |||||||||||||||||
Business Segment: | ||||||||||||||||||||||
Energy Services and Products | ||||||||||||||||||||||
Remotely Operated Vehicles | $ | $ | $ | $ | $ | |||||||||||||||||
Subsea Products | ||||||||||||||||||||||
Subsea Projects | ||||||||||||||||||||||
Asset Integrity | ||||||||||||||||||||||
Total Energy Services and Products | ||||||||||||||||||||||
Advanced Technologies | ||||||||||||||||||||||
Total | $ | $ | $ | $ | $ | |||||||||||||||||
Three Months Ended | Nine Months Ended | |||||||||||||||||||||
(in thousands) | Sep 30, 2019 | Sep 30, 2018 | Jun 30, 2019 | Sep 30, 2019 | Sep 30, 2018 | |||||||||||||||||
Geographic Operating Areas: | ||||||||||||||||||||||
Foreign: | ||||||||||||||||||||||
Africa | $ | $ | $ | $ | $ | |||||||||||||||||
United Kingdom | ||||||||||||||||||||||
Norway | ||||||||||||||||||||||
Asia and Australia | ||||||||||||||||||||||
Brazil | ||||||||||||||||||||||
Other | ||||||||||||||||||||||
Total Foreign | ||||||||||||||||||||||
United States | ||||||||||||||||||||||
Total | $ | $ | $ | $ | $ | |||||||||||||||||
Timing of Transfer of Goods or Services: | ||||||||||||||||||||||
Revenue recognized over time | $ | $ | $ | $ | $ | |||||||||||||||||
Revenue recognized at a point in time | ||||||||||||||||||||||
Total | $ | $ | $ | $ | $ | |||||||||||||||||
Contract Balances
Our contracts with milestone payments have, in the aggregate, a significant impact on the contract asset and the contract liability balances. Milestones are contractually agreed with customers and relate to significant events across the contract lives. Some milestones are achieved before revenue is recognized, resulting in a contract liability, while other milestones are achieved after revenue is recognized resulting in a contract asset.
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Our payment terms consist of those services billed regularly as provided and those products delivered at a point in time, which are invoiced after the performance obligation is satisfied. Our product and service contracts with milestone payments due at agreed progress points during the contract are invoiced when those milestones are reached, which may differ from the timing of revenue recognition.
During the nine months ended September 30, 2019, contract assets decreased by $59 million from the balance at December 31, 2018, due to the timing of billings of approximately $1,517 million, which exceeded revenue earned of $1,458 million. Contract liabilities increased $10 million from the balance at December 31, 2018, due to deferrals of milestone payments that totaled $45 million in excess of revenue recognition of $35 million. There were no cancellations, impairments or other significant impacts in the period that relate to other categories of explanation.
Performance Obligations
Due to the nature of our service contracts in our Remotely Operated Vehicle, Subsea Projects, Asset Integrity and Advanced Technologies segments, the majority of our contracts either have initial contract terms of one year or less or have customer option cancellation clauses that lead us to consider the original expected duration of one year or less.
In our Subsea Products and Advanced Technologies segments, we have long-term contracts that extend beyond one year, and these make up the majority of the performance obligations balance reported as of September 30, 2019. We also have shorter-term product contracts with an expected original duration of one year or less that have been excluded.
As of September 30, 2019, the aggregate amount of the transaction price allocated to remaining performance obligations was $431 million. In arriving at this value, we have used two expedients available to us and are not disclosing amounts in relation to performance obligations: (1) that are part of contracts with an original expected duration of one year or less; or (2) on contracts where we recognize revenue in line with the billing. Of this amount, we expect to recognize revenue of $339 million over the next 12 months.
Where appropriate, we have made estimates within the transaction price of elements of variable consideration within the contracts and constrained those amounts to a level where we consider it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the variable consideration is subsequently resolved. The amount of revenue recognized in the three- and nine-month periods ended September 30, 2019 that was associated with performance obligations completed or partially completed in prior periods was not significant.
As of September 30, 2019, there were no significant outstanding liability balances for refunds or returns due to the nature of our contracts and the services and products we provide. Our warranties are limited to assurance warranties that are of a standard length and are not considered to be a material right. The majority of our contracts consist of a single performance obligation. When there are multiple obligations, we look for observable evidence of stand-alone selling prices on which to base the allocation. This involves judgment as to the appropriateness of the observable evidence relating to the facts and circumstances of the contract. If we do not have observable evidence, we estimate stand-alone selling prices by taking a cost-plus-margin approach, using typical margins from the type of product or service, customer and regional geography involved.
Costs to Obtain or Fulfill a Contract
In line with the available expedient, we capitalize costs to obtain a contract when those amounts are significant and the contract is expected at inception to exceed one year in duration; otherwise, the costs are expensed in the period when incurred. Costs to obtain a contract primarily consist of bid and proposal costs, which are incremental to our fixed costs. There were no balances or amortization of costs to obtain a contract in the current reporting periods.
Costs to fulfill a contract primarily consist of certain mobilization costs incurred to provide services or products to our customers. These costs are deferred and amortized over the period of contract performance. The closing balance of costs to fulfill a contract was $14 million and $13 million as of September 30, 2019 and December 31, 2018, respectively. For the three- and nine-month periods ended September 30, 2019, $1.9 million and $6.2 million of amortization expense was recorded, respectively. For the three- and nine-month periods ended September 30,
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2018, we recorded amortization expense of $2.6 million and $5.1 million, respectively. No impairment costs were recognized.
3. SELECTED BALANCE SHEET INFORMATION
The following is information regarding selected balance sheet accounts:
(in thousands) | Sep 30, 2019 | Dec 31, 2018 | |||||||
Inventory: | |||||||||
Remotely operated vehicle parts and components | $ | $ | |||||||
Other inventory, primarily raw materials | |||||||||
Total | $ | $ | |||||||
Other Current Assets: | |||||||||
Prepaid expenses | $ | $ | |||||||
Angolan bonds | |||||||||
Total | $ | $ | |||||||
Accrued Liabilities: | |||||||||
Payroll and related costs | $ | $ | |||||||
Accrued job costs | |||||||||
Income taxes payable | |||||||||
Current operating lease liability | |||||||||
Other | |||||||||
Total | $ | $ | |||||||
4. DEBT
Long-term debt consisted of the following:
(in thousands) | Sep 30, 2019 | Dec 31, 2018 | |||||||
4.650% Senior Notes due 2024 | $ | $ | |||||||
6.000% Senior Notes due 2028 | |||||||||
Fair value of interest rate swaps on $200 million of principal | ( | ) | |||||||
Unamortized debt issuance costs | ( | ) | ( | ) | |||||
Long-term debt | $ | $ | |||||||
In November 2014, we completed the public offering of $500 million aggregate principal amount of 4.650 % Senior Notes due 2024 (the "2024 Senior Notes"). We pay interest on the 2024 Senior Notes on May 15 and November 15 of each year. The 2024 Senior Notes are scheduled to mature on November 15, 2024.
In February 2018, we completed the public offering of $300 million aggregate principal amount of 6.000 % Senior Notes due 2028 (the "2028 Senior Notes"). We pay interest on the 2028 Senior Notes on February 1 and August 1 of each year. The 2028 Senior Notes are scheduled to mature on February 1, 2028.
We may redeem some or all of the 2024 Senior Notes and the 2028 Senior Notes (collectively, the "Senior Notes") at specified redemption prices. We used the net proceeds from the 2028 Senior Notes to repay our term loan indebtedness described further below.
In October 2014, we entered into a credit agreement (as amended, the "Credit Agreement") with a group of banks. The Credit Agreement initially provided for a $500 million five-year revolving credit facility (the "Revolving Credit
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Facility"). Subject to certain conditions, the aggregate commitments under the Revolving Credit Facility may be increased by up to $300 million at any time upon agreement between us and existing or additional lenders. Borrowings under the Revolving Credit Facility may be used for general corporate purposes. The Credit Agreement also provided for a $300 million term loan, which we repaid in full in February 2018, using net proceeds from the issuance of our 2028 Senior Notes referred to above, and cash on hand.
In February 2018, we entered into Agreement and Amendment No. 4 to the Credit Agreement ("Amendment No. 4"). Amendment No. 4 amended the Credit Agreement to, among other things, extend the maturity of the Revolving Credit Facility to January 25, 2023 with the extending lenders, which represent 90 % of the existing commitments of the lenders, such that the total commitments for the Revolving Credit Facility will be $500 million until October 25, 2021, and thereafter $450 million until January 25, 2023. At September 30, 2019, we had no borrowings outstanding under the Revolving Credit Facility.
Borrowings under the Revolving Credit Facility bear interest at an Adjusted Base Rate or the Eurodollar Rate (both as defined in the Credit Agreement), at our option, plus an applicable margin based on our Leverage Ratio (as defined in the Credit Agreement) and, at our election, based on the ratings of our senior unsecured debt by designated ratings services, thereafter to be based on such debt ratings. The applicable margin varies: (1) in the case of advances bearing interest at the Adjusted Base Rate, from 0.125 % to 0.750 %; and (2) in the case of advances bearing interest at the Eurodollar Rate, from 1.125 % to 1.750 %. The Adjusted Base Rate is the highest of (1) the per annum rate established by the administrative agent as its prime rate, (2) the federal funds rate plus 0.50 % and (3) the daily one-month LIBOR plus 1 %. We pay a commitment fee ranging from 0.125 % to 0.300 % on the unused portion of the Revolving Credit Facility, depending on our Leverage Ratio. The commitment fees are included as interest expense in our consolidated financial statements.
The Credit Agreement contains various covenants that we believe are customary for agreements of this nature, including, but not limited to, restrictions on our ability and the ability of each of our subsidiaries to incur debt, grant liens, make certain investments, make distributions, merge or consolidate, sell assets and enter into certain restrictive agreements. We are also subject to a maximum adjusted total Capitalization Ratio (as defined in the Credit Agreement) of 55 %. The Credit Agreement includes customary events of default and associated remedies. As of September 30, 2019, we were in compliance with all the covenants set forth in the Credit Agreement.
We have two interest rate swaps in place on a total of $200 million of the 2024 Senior Notes for the period to November 2024. See Note 6—"Commitments and Contingencies" for more information on our interest rate swaps.
5. LEASES
Supplemental information about our operating leases follows:
(in thousands) | Sep 30, 2019 | Jan 1, 2019 | ||||||||
Assets: | ||||||||||
Right-of-use operating lease assets | $ | $ | ||||||||
Liabilities: | ||||||||||
Operating | Current operating | $ | $ | |||||||
Operating | Noncurrent operating | |||||||||
Lease liabilities | $ | $ | ||||||||
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Sep 30, 2019 | Jan 1, 2019 | |||||||
Lease Term and Discount Rate: | ||||||||
Weighted-average remaining lease terms (years) | Weighted-average remaining lease term (years) | |||||||
Weighted-average discount rate | Weighted-average discount rate | % | % | |||||
Operating lease cost reflects the lease expense resulting from amortization over the respective lease terms of our operating leases with initial lease terms greater than 12 months. Our short-term lease cost consists of expense for our operating leases with initial lease terms of 12 months or less that are not recorded on our balance sheet. The components of lease cost are as follows:
Three Months Ended | Nine Months Ended | |||||||||
(in thousands) | Sep 30, 2019 | Sep 30, 2019 | ||||||||
Lease Cost: | ||||||||||
Operating lease cost | Operating lease cost | $ | $ | |||||||
Short-term lease cost | Short-term lease cost | |||||||||
Total Lease Cost | $ | $ | ||||||||
Future maturities of lease liabilities under all of our operating leases are as follows:
(in thousands) | ||||
For the 12 months ended September 30, | ||||
2020 | $ | |||
2021 | ||||
2022 | ||||
2023 | ||||
2024 | ||||
Thereafter | ||||
Total lease payments | ||||
Less: Interest | ( | ) | ||
Present Value of Lease Liabilities | $ | |||
6. COMMITMENTS AND CONTINGENCIES
Litigation. In the ordinary course of business, we are, from time to time, involved in litigation or subject to disputes, governmental investigations or claims related to our business activities, including, among other things:
• | performance- or warranty-related matters under our customer and supplier contracts and other business arrangements; and |
• | workers’ compensation claims, Jones Act claims, occupational hazard claims, premises liability claims and other claims. |
Although we cannot predict the ultimate outcome of these matters, we believe that our ultimate liability, if any, that may result from these other actions and claims will not have a material adverse effect on our consolidated financial condition, results of operations or cash flows. However, because of the inherent uncertainty of litigation and other dispute resolution proceedings and, in some cases, the availability and amount of potentially available insurance, we can provide no assurance that the resolution of any particular claim or proceeding to which we are a party will not have a material effect on our consolidated financial condition, results of operations or cash flows for the fiscal period in which that resolution occurs.
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Financial Instruments and Risk Concentration. In the normal course of business, we manage risks associated with foreign exchange rates and interest rates through a variety of strategies, including the use of hedging transactions. As a matter of policy, we do not use derivative instruments unless we have an underlying exposure. Other financial instruments that potentially subject us to concentrations of credit risk are principally cash and cash equivalents and accounts receivable.
The carrying values of cash and cash equivalents approximate their fair values due to the short-term maturity of the underlying instruments. Accounts receivable are generated from a broad group of customers, primarily from within the energy industry, which is our major source of revenue. Due to their short-term nature, carrying values of our accounts receivable and accounts payable approximate fair market values.
We estimated the aggregate fair market value of the Senior Notes to be $761 million as of September 30, 2019, based on quoted prices. Since the market for the Senior Notes is not an active market, the fair value of the Senior Notes is classified within Level 2 in the fair value hierarchy under U.S. GAAP (inputs other than quoted prices in active markets for similar assets and liabilities that are observable or can be corroborated by observable market data for substantially the full terms for the assets or liabilities).
We have two interest rate swaps in place on a total of $200 million of the 2024 Senior Notes for the period to November 2024. The agreements swap the fixed interest rate of 4.650 % on $100 million of the 2024 Senior Notes to the floating rate of one-month LIBOR plus 2.426 % and on another $100 million to one-month LIBOR plus 2.823 %. We estimate the combined fair value of the interest rate swaps to be a net asset of $6.9 million as of September 30, 2019, which is included on our balance sheet in other long-term assets. These values were arrived at based on a discounted cash flow model using Level 2 inputs.
Since the second quarter of 2015, the exchange rate for the Angolan kwanza relative to the U.S. dollar generally has been declining, with the exception that the exchange rate was relatively stable during 2017. As our functional currency in Angola is the U.S. dollar, we recorded foreign currency transaction losses related to the kwanza of $2.0 million and $4.5 million in the three-month periods ended September 30, 2019 and 2018, respectively, and $2.6 million and $17 million in the nine-month periods ended September 30, 2019 and 2018, respectively, as a component of other income (expense), net in our Consolidated Statements of Operations for those respective periods. Our foreign currency transaction losses related primarily to the remeasurement of our Angolan kwanza cash balances to U.S. dollars. Any conversion of cash balances from kwanza to U.S. dollars is controlled by the central bank in Angola, and the central bank slowed this process from mid-2015 to 2017, causing our kwanza cash balances to increase during that period of time. However, beginning in 2018, the Angolan central bank has allowed us to repatriate cash from Angola. As of September 30, 2019 and December 31, 2018, we had the equivalent of approximately $8.4 million and $9.3 million, respectively, of kwanza cash balances in Angola reflected on our Consolidated Balance Sheets.
To mitigate our currency exposure risk in Angola, we have used kwanza to purchase equivalent Angolan central bank (Banco Nacional de Angola) bonds. The bonds are denominated as U.S. dollar equivalents, so that, upon payment of semi-annual interest and principal upon maturity, payment is made in kwanza, equivalent to the respective U.S. dollars at the then-current exchange rate. During 2018, we received a total of $70 million in proceeds from maturities and redemptions of Angolan bonds and reinvested $10 million of the proceeds in similar assets. As of September 30, 2019 and December 31, 2018, we have $10 million of Angolan bonds on our Consolidated Balance Sheets. Because we intend to sell the bonds if we are able to repatriate the proceeds, we have classified these bonds as available-for-sale securities, and they are recorded in other current assets on our Consolidated Balance Sheets.
We estimated the fair market value of the Angolan bonds to be $10 million as of September 30, 2019 and December 31, 2018 using quoted market prices. Since the market for the Angolan bonds is not an active market, the fair value of the Angolan bonds is classified within Level 2 in the fair value hierarchy under U.S. GAAP. As of September 30, 2019 and December 31, 2018, the difference between the fair market value and the carrying amount of the Angolan bonds was immaterial.
7. EARNINGS (LOSS) PER SHARE, SHARE-BASED COMPENSATION AND SHARE REPURCHASE PLAN
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Earnings (Loss) per Share. For each period presented, the only difference between our calculated weighted-average basic and diluted number of shares outstanding is the effect of outstanding restricted stock units. In periods where we have a net loss, the effect of our outstanding restricted stock units is anti-dilutive, and therefore does not increase our diluted shares outstanding.
For each period presented, our net income (loss) allocable to both common shareholders and diluted common shareholders is the same as our net income (loss) in our consolidated statements of operations.
Share-Based Compensation. We have no outstanding stock options and, therefore, no share-based compensation to be recognized pursuant to stock option grants.
During 2017, 2018 and through September 30, 2019, we granted restricted units of our common stock to certain of our key executives and employees. During 2017, 2018 and 2019, our Board of Directors granted restricted common stock to our nonemployee directors. The restricted units granted to our key executives and key employees generally vest in full on the third anniversary of the award date, conditional on continued employment. The restricted stock unit grants can vest pro rata over three years , provided the individual meets certain age and years-of-service requirements. The shares of restricted stock we grant to our nonemployee directors vest in full on the first anniversary of the award date, conditional on continued service as a director. Each grantee of shares of restricted stock is deemed to be the record owner of those shares during the restriction period, with the right to vote and receive any dividends on those shares. The restricted stock units outstanding have no voting or dividend rights.
For each of the restricted stock units granted in 2017 through September 30, 2019, at the earlier of three years after grant or at termination of employment or service, the grantee will be issued one share of our common stock for each unit vested. As of September 30, 2019 and December 31, 2018, respective totals of 1,810,561 and 1,443,897 shares of restricted stock or restricted stock units were outstanding.
We estimate that share-based compensation cost not yet recognized related to shares of restricted stock or restricted stock units, based on their grant-date fair values, was $14 million as of September 30, 2019. This expense is being recognized on a graded-vesting basis over three years for awards attributable to individuals meeting certain age and years-of-service requirements, and on a straight-line basis over the applicable vesting period of one or three years for the other awards.
Share Repurchase Plan. In December 2014, our Board of Directors approved a plan to repurchase up to 10 million shares of our common stock. Under this plan, in 2015, we had repurchased 2.0 million shares of our common stock for $100 million. We did no t repurchase any shares during 2016 through September 30, 2019. We account for the shares we hold in treasury under the cost method, at average cost.
8. INCOME TAXES
During interim periods, we provide for income taxes based on our current estimated annual effective tax rate using assumptions as to (1) earnings and other factors that would affect the tax provision for the remainder of the year and (2) the operations of foreign branches and subsidiaries that are subject to local income and withholding taxes. The effective tax rate for the nine months ended September 30, 2019 and September 30, 2018 was different than the federal statutory rate of 21 %, primarily due to the geographic mix of operating revenue and results that generated taxes in certain jurisdictions that exceeded the tax benefit from losses and credits in other jurisdictions, which could not be realized in the quarter due to valuation allowances being provided, and other discrete items. It is our intention to continue to indefinitely reinvest in certain of our international operations; therefore, we do not provide for withholding taxes on the possible distribution of these earnings. We do not believe the effective tax rate before discrete items is meaningful due to the ongoing shifting of geographic mix of our operating revenue and results.
In the nine-month period ended September 30, 2019, we recognized additional tax benefit of $1.9 million from discrete items, primarily related to an $8.5 million benefit from adjustment of the mandatory repatriation tax related to the Tax Act, offset by $1.8 million of additional uncertain tax positions, $1.5 million of valuation allowances and $3.3 million associated with various other issues. In the nine-month period ended September 30, 2018, we recognized additional tax expense of $60 million from discrete items, primarily related to $39 million of valuation allowances on certain deferred tax assets recognized in prior years that may not be realizable in certain foreign jurisdictions, $7.9 million of provisional mandatory repatriation tax related to the Tax Act, $4.8 million related to uncertain tax positions and $8.3 million associated with various other issues.
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We conduct our international operations in a number of locations that have varying laws and regulations with regard to income and other taxes, some of which are subject to interpretation. We recognize the expense or benefit for a tax position if it is more likely than not to be sustainable upon audit by the applicable taxing authority. If this threshold is met, the tax expense or benefit is then measured and recognized at the largest amount that we believe is greater than 50 % likely of being realized upon ultimate settlement.
We account for any applicable interest and penalties on uncertain tax positions as a component of our provision for income taxes on our financial statements. Including associated foreign tax credits, penalties and interest, we have accrued a net total of $20 million and $18 million in other long-term liabilities on our balance sheet for unrecognized tax liabilities as of September 30, 2019 and December 31, 2018, respectively. Changes in management's judgment related to those liabilities would affect our effective income tax rate in the periods of change.
Our tax returns are subject to audit by taxing authorities in multiple jurisdictions. These audits often take years to complete and settle. The following lists the earliest tax years open to examination by tax authorities where we have significant operations:
Jurisdiction | Periods | |
United States | ||
United Kingdom | ||
Norway | ||
Angola | ||
Brazil | ||
Australia | ||
9. | BUSINESS SEGMENT INFORMATION |
We are a global provider of engineered services and products, primarily to the offshore energy industry. Through the use of our applied technology expertise, we also serve the defense, aerospace and commercial theme park industries. Our Energy Services and Products business consists of ROVs, Subsea Products, Subsea Projects and Asset Integrity. Our ROV segment provides submersible vehicles operated from the surface to support offshore energy exploration, development and production activities. Our Subsea Products segment supplies a variety of specialty subsea hardware and related services. Our Subsea Projects segment provides multiservice subsea support vessels and offshore diving and support vessel operations, primarily for inspection, maintenance and repair and installation activities. We also provide survey, autonomous underwater vehicle and satellite-positioning services. For the renewable energy markets, we provide seabed preparation, route clearance and trenching services for submarine cables. Our Asset Integrity segment provides asset integrity management and assessment services, nondestructive testing and inspection. Our Advanced Technologies business provides project management, engineering services and equipment for applications in non-energy industries. Unallocated Expenses are those not associated with a specific business segment. These consist of expenses related to our incentive and deferred compensation plans, including restricted stock and bonuses, as well as other general expenses, including corporate administrative expenses.
There are no differences in the basis of segmentation or in the basis of measurement of segment profit or loss from those used in our consolidated financial statements for the year ended December 31, 2018.
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The table that follows presents Revenue, Income (Loss) from Operations and Depreciation and Amortization by business segment for each of the periods indicated.
Three Months Ended | Nine Months Ended | |||||||||||||||||||
(in thousands) | Sep 30, 2019 | Sep 30, 2018 | Jun 30, 2019 | Sep 30, 2019 | Sep 30, 2018 | |||||||||||||||
Revenue | ||||||||||||||||||||
Energy Services and Products | ||||||||||||||||||||
Remotely Operated Vehicles | $ | $ | $ | $ | $ | |||||||||||||||
Subsea Products | ||||||||||||||||||||
Subsea Projects | ||||||||||||||||||||
Asset Integrity | ||||||||||||||||||||
Total Energy Services and Products | ||||||||||||||||||||
Advanced Technologies | ||||||||||||||||||||
Total | $ | $ | $ | $ | $ | |||||||||||||||
Income (Loss) from Operations | ||||||||||||||||||||
Energy Services and Products | ||||||||||||||||||||
Remotely Operated Vehicles | $ | $ | $ | $ | $ | |||||||||||||||
Subsea Products | ||||||||||||||||||||
Subsea Projects | ( | ) | ( | ) | ||||||||||||||||
Asset Integrity | ( | ) | ( | ) | ( | ) | ||||||||||||||
Total Energy Services and Products | ||||||||||||||||||||
Advanced Technologies | ||||||||||||||||||||
Unallocated Expenses | ( | ) | ( | ) | ( | ) | ( | ) | ( | ) | ||||||||||
Total | $ | ( | ) | $ | ( | ) | $ | ( | ) | $ | ( | ) | $ | ( | ) | |||||
Depreciation and Amortization | ||||||||||||||||||||
Energy Services and Products | ||||||||||||||||||||
Remotely Operated Vehicles | $ | $ | $ | $ | $ | |||||||||||||||
Subsea Products | ||||||||||||||||||||
Subsea Projects | ||||||||||||||||||||
Asset Integrity | ||||||||||||||||||||
Total Energy Services and Products | ||||||||||||||||||||
Advanced Technologies | ||||||||||||||||||||
Unallocated Expenses | ||||||||||||||||||||
Total | $ | $ | $ | $ | $ | |||||||||||||||
We determine Income (Loss) from Operations for each business segment before interest income or expense, other income (expense) and provision for income taxes. We do not consider an allocation of these items to be practical. Our equity in earnings (losses) of unconsolidated affiliates is part of our Subsea Projects segment.
During the nine-month period ended September 30, 2018, we recorded write-offs of certain equipment and intangible assets associated with exiting the land survey business and equipment obsolescence of $7.6 million, attributable to our reporting segments as follows:
• | Remotely Operated Vehicles - $ |
• | Subsea Products - $ |
• | Subsea Projects - $ |
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Item 2. | Management's Discussion and Analysis of Financial Condition and Results of Operations |
Certain statements we make in this quarterly report on Form 10-Q are forward-looking statements made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. These statements include, without limitation, statements regarding our expectations about:
• | the fourth quarter and full year of 2019 operating results and the contributions from our segments to those results (including anticipated revenue, operating income or loss, backlog and utilization information), as well as the items below the operating income (loss) line; |
• | cash flows and earnings before interest, taxes, depreciation and amortization ("EBITDA") in 2019; |
• | free cash flow, which we define as net cash provided by operating activities less cash paid for purchases of property and equipment, in 2019 and in future periods; |
• | future demand, order intake and business activity levels; |
• | the adequacy of our liquidity, cash flows and capital resources; |
• | our expectations regarding shares to be repurchased under our share repurchase plan; |
• | our assumptions that could affect our estimated tax rate; |
• | the implementation of new accounting standards and related policies, procedures and controls; |
• | seasonality; and |
• | industry conditions. |
These forward-looking statements are subject to various risks, uncertainties and assumptions, including those we have referred to under the headings "Risk Factors" and "Cautionary Statement Concerning Forward-Looking Statements" in Part I of our annual report on Form 10-K for the year ended December 31, 2018. Although we believe that the expectations reflected in such forward-looking statements are reasonable, because of the inherent limitations in the forecasting process, as well as the relatively volatile nature of the industries in which we operate, we can give no assurance that those expectations will prove to have been correct. Accordingly, evaluation of our future prospects must be made with caution when relying on forward-looking information.
The following discussion should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" included in our annual report on Form 10-K for the year ended December 31, 2018.
Executive Overview
Our operating results for the third quarter of 2019 improved by $4.4 million over the immediately preceding quarter, largely due to increased contributions from our Subsea Products and Remotely Operated Vehicle ("ROV") segments, which were mostly offset by a lower contribution from our Advanced Technologies segment. Additionally, we had lower Unallocated Expenses, due to reduced performance-based compensation expenses in the third quarter. Our diluted earnings (loss) per share for the three- and nine-month periods ended September 30, 2019 were $(0.26) and $(0.87), respectively, as compared to $(0.67) and $(1.50) for the corresponding periods of 2018, and each of our operating segments, except Asset Integrity, contributed operating income year-to-date.
For the fourth quarter of 2019, compared to the third quarter, we believe our EBITDA will be slightly lower, with the onset of seasonally lower offshore activity within our energy segments being slightly offset by improved contribution from our Advanced Technologies segment. Sequentially for our energy segments, we expect lower operating results from our ROV, Subsea Products and Subsea Projects segments and a marginal improvement in our Asset Integrity segment. For Advanced Technologies, we are projecting improved performance from our commercial businesses that should result in a meaningful revenue increase and an operating margin in the low double-digit range. Unallocated Expenses are forecast to be in the low- to mid-$30 million range.
For the full year of 2019, we are increasing our capital expenditures guidance for the year to $150 million, primarily driven by increased spending within our ROV segment to support projected higher levels of activity anticipated for 2020. However, we continue to expect positive free cash flow generation for the year after servicing our debt and funding our anticipated maintenance and organic growth capital expenditures, as we project generating cash from positive working capital changes in the fourth quarter.
We are not providing guidance as to our 2019 annual effective tax rate, due to the ongoing shifting of geographic mix of our operating revenue and results. These conditions do not allow for a meaningful tax rate forecast.
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We continue to believe that the long-term fundamentals for the offshore energy industry are improving and that our energy segments are positioned to benefit from this recovery. We also believe this recovery to be gradual, so we remain focused on continuing to adapt our business structure to the current market to improve returns. We are also implementing a stricter capital discipline approach, which we expect to help us generate meaningful free cash flow in the future.
Accordingly, looking into 2020, we are anticipating increased activity and improved operating performance across all of our segments, led by gains from ROV and Subsea Products, with positive operating income from each of our operating segments. We project capital expenditures to be in the range of $70 million to $100 million and Unallocated Expenses to be approximately $140 million. In this dynamic market, we will necessarily continue to review our forecast as we develop a definitive operating plan for 2020, and we will update our guidance range during the year-end reporting process.
Critical Accounting Policies and Estimates
The discussion and analysis of our financial condition and results of operations are based on our consolidated financial statements, which have been prepared in conformity with accounting principles generally accepted in the United States. These principles require us to make various estimates, judgments and assumptions that affect the reported amounts in our financial statements and accompanying notes. We disclose our significant accounting policies in Notes to Consolidated Financial Statements—Note 1—"Policies" in this quarterly report and in our annual report on Form 10-K for the year ended December 31, 2018, in Part II. Item 7. "Financial Statements and Supplementary Data—Note 1—Summary of Major Accounting Policies."
For information about our critical accounting policies and estimates, see Part II. Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies and Estimates" in our annual report on Form 10-K for the year ended December 31, 2018. As of September 30, 2019, there have been no material changes to the judgments, assumptions and estimates upon which our critical accounting policies and estimates are based.
Liquidity and Capital Resources
As of September 30, 2019, we had working capital of $657 million, including $340 million of cash and cash equivalents. Additionally, Amendment No. 4 to the Credit Agreement (as defined below) provides for a $500 million revolving credit facility until October 25, 2021 and thereafter $450 million until January 25, 2023 with a group of banks. We consider our liquidity, cash flows and capital resources to be adequate to support our existing operations and capital commitments.
Cash flows for the nine months ended September 30, 2019 and 2018 are summarized as follows:
Nine Months Ended | |||||||||
(in thousands) | Sep 30, 2019 | Sep 30, 2018 | |||||||
Changes in Cash: | |||||||||
Net Cash Provided by Operating Activities | $ | 112,167 | $ | 35,656 | |||||
Net Cash Used in Investing Activities | (120,046 | ) | (82,444 | ) | |||||
Net Cash Used in Financing Activities | (2,320 | ) | (5,749 | ) | |||||
Effect of exchange rates on cash | (3,737 | ) | (10,629 | ) | |||||
Net Increase (Decrease) in Cash and Cash Equivalents | $ | (13,936 | ) | $ | (63,166 | ) | |||
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Operating activities
Our primary sources and uses of cash flows from operating activities for the nine months ended September 30, 2019 and 2018 are as follows:
Nine Months Ended | ||||||||||
(in thousands) | Sep 30, 2019 | Sep 30, 2018 | ||||||||
Cash Flows from Operating Activities: | ||||||||||
Net income (loss) | $ | (85,532 | ) | $ | (148,188 | ) | ||||
Non-cash items, net | 148,453 | 191,744 | ||||||||
Accounts receivable and contract assets | 51,629 | (85,278 | ) | |||||||
Inventory | (10,765 | ) | (7,094 | ) | ||||||
Current liabilities | (340 | ) | 60,998 | |||||||
Other changes | 8,722 | 23,474 | ||||||||
Net Cash Provided by Operating Activities | $ | 112,167 | $ | 35,656 | ||||||
Net cash provided by operating activities for the nine months ended September 30, 2019 and 2018 was $112 million and $36 million, respectively. The increase in cash related to accounts receivable and contract assets in the nine months ended September 30, 2019 was primarily due to an increased focus on managing our working capital, including increased collection efforts, as well as receiving various expected income tax refunds. The decrease in cash related to inventory as of September 30, 2019 was primarily due to an increase in Manufactured Products' inventory related to an increase in backlog. The decrease in cash related to current liabilities in the nine months ended September 30, 2019 reflected timing of vendor payments.
Investing activities
Our capital expenditures were $129 million during the first nine months of 2019, as compared to $84 million in the first nine months of 2018, excluding the $68 million purchase price for the Ecosse acquisition. The increase in capital expenditures in the nine months ended September 30, 2019 was primarily due to increased spending associated with projected higher ROV activity and purchases of equipment to support our drill pipe riser contract in Brazil. In the first nine months of 2018, we received proceeds of $62 million from a maturity and redemptions of Angolan bonds and $15 million of proceeds from the sale of a cost-method investment, partially offset by the purchase of $10 million of Angolan bonds.
We acquired Ecosse in March 2018, reflecting our commitment to expand our service line capabilities, grow our market position within the offshore renewable energy market, and provide our customers with proven tools to optimize installation projects. Ecosse builds and operates seabed preparation, route clearance and trenching tools for submarine cables and pipelines on an integrated basis that includes vessels, ROVs and survey services.
We currently estimate our capital expenditures for 2019, excluding business acquisitions, will be approximately $150 million, including approximately $75 million of maintenance capital expenditures and $75 million of growth capital expenditures. We placed our new-build Jones Act multiservice subsea support vessel Ocean Evolution into service during the second quarter of 2019.
The Ocean Evolution is U.S.-flagged and documented with a coastwise endorsement by the U.S. Coast Guard. The vessel has an overall length of 353 feet, a Class 2 dynamic positioning system, accommodations for 110 personnel, a helideck, a 250-ton active heave-compensated crane, a working moonpool, and two of our high specification 4,000 meter work-class ROVs. The vessel is also equipped with a satellite communications system capable of transmitting streaming video for real-time work observation by shore-based personnel. The vessel is being used to augment our ability to provide subsea intervention services in the U.S. Gulf of Mexico. These services are required to perform inspection, maintenance and repair projects and hardware installations.
We previously had several deepwater vessels under long-term charter. The last of our long-term deepwater vessel charters expired in March 2018. With the current market conditions, we attempt to charter vessels for specific projects on a back-to-back basis or guaranteed minimum utilization arrangements with the vessel owners. This
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generally minimizes our contract exposure by closely matching our obligations with our revenue. We also charter vessels on a short-term basis as necessary to augment our fleet.
Financing activities
In the nine months ended September 30, 2019, we used $2.3 million of cash in financing activities. In the nine months ended September 30, 2018, we used $5.7 million in financing activities, primarily as a result of the repayment of the $300 million term loan facility under the Credit Agreement, substantially offset by $296 million of net proceeds from the issuance of the 2028 Senior Notes(as defined below).
As of September 30, 2019, we had long-term debt in the principal amount of $800 million outstanding and $500 million available under our revolving credit facility provided under the Credit Agreement.
In October 2014, we entered into a credit agreement (as amended, the "Credit Agreement") with a group of banks. The Credit Agreement initially provided for a $500 million five-year revolving credit facility (the "Revolving Credit Facility"). Subject to certain conditions, the aggregate commitments under the Revolving Credit Facility may be increased by up to $300 million at any time upon agreement between us and existing or additional lenders. Borrowings under the Revolving Credit Facility may be used for general corporate purposes. The Credit Agreement also provided for a $300 million term loan, which we repaid in full in February 2018, using net proceeds from the issuance of our 2028 Senior Notes referred to above, and cash on hand.
In February 2018, we entered into Agreement and Amendment No. 4 to the Credit Agreement ("Amendment No. 4"). Amendment No. 4 amended the Credit Agreement to, among other things, extend the maturity of the Revolving Credit Facility to January 25, 2023 with the extending lenders, which represent 90% of the existing commitments of the lenders, such that the total commitments for the Revolving Credit Facility will be $500 million until October 25, 2021, and thereafter $450 million until January 25, 2023.
Borrowings under the Revolving Credit Facility bear interest at an Adjusted Base Rate or the Eurodollar Rate (both as defined in the Credit Agreement), at our option, plus an applicable margin based on our Leverage Ratio (as defined in the Credit Agreement) and, at our election, based on the ratings of our senior unsecured debt by designated ratings services, thereafter to be based on such debt ratings. The applicable margin varies: (1) in the case of advances bearing interest at the Adjusted Base Rate, from 0.125% to 0.750%; and (2) in the case of advances bearing interest at the Eurodollar Rate, from 1.125% to 1.750%. The Adjusted Base Rate is the highest of (1) the per annum rate established by the administrative agent as its prime rate, (2) the federal funds rate plus 0.50% and (3) the daily one-month LIBOR plus 1%. We pay a commitment fee ranging from 0.125% to 0.300% on the unused portion of the Revolving Credit Facility, depending on our Leverage Ratio. The commitment fees are included as interest expense in our consolidated financial statements.
The Credit Agreement contains various covenants that we believe are customary for agreements of this nature, including, but not limited to, restrictions on our ability and the ability of each of our subsidiaries to incur debt, grant liens, make certain investments, make distributions, merge or consolidate, sell assets and enter into certain restrictive agreements. We are also subject to a maximum adjusted total Capitalization Ratio (as defined in the Credit Agreement) of 55%. The Credit Agreement includes customary events of default and associated remedies. As of September 30, 2019, we were in compliance with all the covenants set forth in the Credit Agreement.
In November 2014, we completed the public offering of $500 million aggregate principal amount of 4.650% Senior Notes due 2024 (the "2024 Senior Notes"). We pay interest on the 2024 Senior Notes on May 15 and November 15 of each year. The 2024 Senior Notes are scheduled to mature on November 15, 2024.
In February 2018, we completed the public offering of $300 million aggregate principal amount of 6.000% Senior Notes due 2028 (the "2028 Senior Notes"). We pay interest on the 2028 Senior Notes on February 1 and August 1 of each year. The 2028 Senior Notes are scheduled to mature on February 1, 2028. We may redeem some or all of the 2024 Senior Notes and 2028 Senior Notes at specified redemption prices.
We have not guaranteed any debt not reflected on our Consolidated Balance Sheets as of September 30, 2019, and we do not have any off-balance sheet arrangements, as defined by SEC rules.
In December 2014, our Board of Directors approved a plan to repurchase up to 10 million shares of our common stock. In 2015, we repurchased 2.0 million shares of our common stock for $100 million under this plan. We did
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not repurchase any shares during 2016 through September 30, 2019. We account for the shares we hold in treasury under the cost method, at average cost. The timing and amount of any future repurchases will be determined by our management. We expect that any additional shares repurchased under the plan will be held as treasury stock for possible future use. The plan does not obligate us to repurchase any particular number of shares.
Results of Operations
We operate in five business segments. The segments are contained within two businesses — services and products provided primarily to the offshore energy industry ("Energy Services and Products") and services and products provided to non-energy industries ("Advanced Technologies"). Our Unallocated Expenses are those not associated with a specific business segment.
Consolidated revenue and profitability information are as follows:
Three Months Ended | Nine Months Ended | ||||||||||||||||||||
(dollars in thousands) | Sep 30, 2019 | Sep 30, 2018 | Jun 30, 2019 | Sep 30, 2019 | Sep 30, 2018 | ||||||||||||||||
Revenue | $ | 497,647 | $ | 519,300 | $ | 495,781 | $ | 1,487,314 | $ | 1,414,387 | |||||||||||
Gross Margin | 49,061 | 47,635 | 41,983 | 118,631 | 96,191 | ||||||||||||||||
Gross Margin % | 10 | % | 9 | % | 8 | % | 8 | % | 7 | % | |||||||||||
Operating Income (Loss) | (5,194 | ) | (1,552 | ) | (9,635 | ) | (36,543 | ) | (48,338 | ) | |||||||||||
Operating Income (Loss) % | (1 | )% | — | % | (2 | )% | (2 | )% | (3 | )% | |||||||||||
In our Subsea Projects segment, we generate a material amount of our consolidated revenue from contracts for services in the U.S. Gulf of Mexico, which has historically been more active from April through October, as compared to the rest of the year. The European operations of our Asset Integrity segment have historically been more active in the second and third quarters. However, the reduced customer spending levels in the current commodity price environment have substantially obscured this seasonality since mid-2014. Revenue in our ROV segment is generally subject to seasonal variations in demand, with our first quarter typically being the lowest quarter of the year. The level of our ROV seasonality primarily depends on the number of ROVs we have engaged in vessel-based subsea infrastructure inspection, maintenance and repair and installation, which is more seasonal than drilling support. Revenue in our Subsea Products and Advanced Technologies segments generally has not been seasonal.
Energy Services and Products
The primary focus of our Energy Services and Products business over the last several years has been toward leveraging our asset base and capabilities for providing services and products for offshore energy operations and subsea completions. In recent years, we have also added focus on directing some of our service and product offerings toward our energy customers' operating expenses and the offshore renewable energy market.
The following table sets forth the revenue, gross margin and operating income (loss) for our Energy Services and Products business segments for the periods indicated. In the ROV section of the table that follows, "Days available" includes all days from the first day that an ROV is placed into service until the ROV is retired. All days during this period are considered available days, including periods when an ROV is undergoing maintenance or repairs. Our ROVs do not have scheduled maintenance or repair that requires significant time when the ROVs are not available for utilization.
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Three Months Ended | Nine Months Ended | ||||||||||||||||||||
(dollars in thousands) | Sep 30, 2019 | Sep 30, 2018 | Jun 30, 2019 | Sep 30, 2019 | Sep 30, 2018 | ||||||||||||||||
Remotely Operated Vehicles | |||||||||||||||||||||
Revenue | $ | 113,101 | $ | 105,045 | $ | 120,363 | $ | 333,810 | $ | 298,065 | |||||||||||
Gross Margin | 18,908 | 8,757 | 17,360 | 45,689 | 25,888 | ||||||||||||||||
Operating Income (Loss) | 10,145 | 772 | 8,688 | 20,251 | 2,916 | ||||||||||||||||
Operating Income (Loss) % | 9 | % | 1 | % | 7 | % | 6 | % | 1 | % | |||||||||||
Days Available | 25,392 | 25,668 | 25,006 | 74,904 | 76,192 | ||||||||||||||||
Days Utilized | 15,146 | 14,249 | 15,423 | 43,511 | 38,937 | ||||||||||||||||
Utilization | 60 | % | 56 | % | 62 | % | 58 | % | 51 | % | |||||||||||
Subsea Products | |||||||||||||||||||||
Revenue | 150,836 | 137,099 | 138,910 | 418,590 | 385,491 | ||||||||||||||||
Gross Margin | 28,030 | 18,748 | 21,029 | 61,374 | 49,828 | ||||||||||||||||
Operating Income (Loss) | 13,219 | 5,367 | 7,413 | 20,156 | 9,417 | ||||||||||||||||
Operating Income (Loss) % | 9 | % | 4 | % | 5 | % | 5 | % | 2 | % | |||||||||||
Backlog at End of Period | 609,000 | 333,000 | 596,000 | 609,000 | 333,000 | ||||||||||||||||
Subsea Projects | |||||||||||||||||||||
Revenue | 75,996 | 104,972 | 75,104 | 240,828 | 239,868 | ||||||||||||||||
Gross Margin | 5,213 | 10,829 | 5,472 | 19,718 | 6,801 | ||||||||||||||||
Operating Income (Loss) | (616 | ) | 6,088 | 87 | 2,363 | (6,629 | ) | ||||||||||||||
Operating Income (Loss) % | (1 | )% | 6 | % | — | % | 1 | % | (3 | )% | |||||||||||
Asset Integrity | |||||||||||||||||||||
Revenue | 59,274 | 62,346 | 61,156 | 181,119 | 191,056 | ||||||||||||||||
Gross Margin | 5,273 | 9,430 | 6,423 | 17,968 | 26,909 | ||||||||||||||||
Operating Income (Loss) | (2,453 | ) | 2,275 | (1,302 | ) | (4,468 | ) | 7,311 | |||||||||||||
Operating Income (Loss) % | (4 | )% | 4 | % | (2 | )% | (2 | )% | 4 | % | |||||||||||
Total Energy Services and Products | |||||||||||||||||||||
Revenue | $ | 399,207 | $ | 409,462 | $ | 395,533 | $ | 1,174,347 | $ | 1,114,480 | |||||||||||
Gross Margin | 57,424 | 47,764 | 50,284 | 144,749 | 109,426 | ||||||||||||||||
Operating Income (Loss) | 20,295 | 14,502 | 14,886 | 38,302 | 13,015 | ||||||||||||||||
Operating Income (Loss) % | 5 | % | 4 | % | 4 | % | 3 | % | 1 | % | |||||||||||
In general, our energy-related business focuses on supplying services and products to the offshore energy industry. Since the downturn in oil prices in mid-2014, we have experienced lower activity levels and reduced pricing. In 2019, with oil prices stabilizing and activity in some areas improving, we believe that we are in the early stages of a recovery in activity in general, and in our businesses. We expect that a recovery will take time, and only after a sustained higher level of activity can the prices for our services and products be increased enough to generate satisfactory returns.
We believe we are the world's largest provider of ROV services and, generally, this business segment has been the largest contributor to our Energy Services and Products business operating income. Our ROV segment revenue reflects the utilization percentages, fleet sizes and average pricing in the respective periods.
ROV operating income for the third quarter of 2019 increased $1.5 million compared to the immediately preceding quarter as the third quarter gross margin and operating results include a $2.8 million gain associated with the sale
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of ROV accessory equipment that was integrated into a customer's rigs. Average ROV revenue per day on hire was slightly lower, declining 4% sequentially, as a result of changes in geographic mix. However, this decline was offset by a decrease in costs. Fleet utilization declined to 60% during the third quarter from 62% in the immediately preceding quarter. We added nine new ROVs to our fleet during the nine months ended September 30, 2019 and retired eight, resulting in a total of 276 ROVs in our ROV fleet as of September 30, 2019. Our operating income increased in the three- and nine-month periods ended September 30, 2019, compared to the corresponding periods of the prior year, primarily as a result of increased days on hire.
We expect lower operating results from our ROV segment in the fourth quarter of 2019, due to fewer days of utilization, largely on decreased seasonal demand for our vessel-based services. We believe our overall ROV fleet utilization for the fourth quarter will be in the high-50% range. We need a sizable increase in our customers' offshore activities, longer-term contract durations and spending levels for there to be a discernible increase in ROV pricing and profitability.
Our Subsea Products segment consists of two business units: (1) Manufactured Products; and (2) Service and Rental. Manufactured Products includes production control umbilicals and specialty subsea hardware, while Service and Rental includes tooling, subsea work systems and installation and workover control systems. The following table presents revenue from Manufactured Products and Service and Rental, as their respective percentages of total Subsea Products revenue:
Three Months Ended | Nine Months Ended | |||||||||||||||
Sep 30, 2019 | Sep 30, 2018 | Jun 30, 2019 | Sep 30, 2019 | Sep 30, 2018 | ||||||||||||
Manufactured Products | 59 | % | 54 | % | 63 | % | 58 | % | 55 | % | ||||||
Service and Rental | 41 | % | 46 | % | 37 | % | 42 | % | 45 | % | ||||||
Our Subsea Products operating income improved in the third quarter of 2019, with a corresponding 9% increase in quarterly revenue, as compared to the immediately preceding quarter. This improvement was largely due to greater activity and improved performance in our Service and Rental business. Subsea Products operating income increased in the three- and nine-month periods ended September 30, 2019 compared to the corresponding periods of the prior year, primarily due to improved execution in our Service and Rental business along with increased throughput in Manufactured Products as a result of increased umbilical-related backlog.
Our Subsea Products backlog was $609 million as of September 30, 2019, compared to $332 million as of December 31, 2018. The backlog increase was largely attributable to increased umbilical-related order intake in our Manufactured Products business. This includes the significant umbilical order announced mid-September 2019 in connection with the KG-DWN 98/2 project in the Bay of Bengal. Our book-to-bill ratio for the trailing 12 months was 1.5. We expect Subsea Products operating results to be lower in the fourth quarter of 2019 compared to the third quarter, as a greater proportion of segment revenue is coming from lower margin manufacturing activities. Our Subsea Products book-to-bill ratio is expected to be in the range of 1.25 to 1.4 for the full year.
Our Subsea Projects revenue and operating results were relatively flat in the three-month period ended September 30, 2019 as compared to the immediately preceding quarter, as a result of consistent call-out work in each of the quarters. Our Subsea Projects operating results decreased in the three months ended September 30, 2019, compared to the corresponding period of the prior year, due to reduced amounts of diving and installation work. Our Subsea Projects operating results improved for the nine months ended September 30, 2019, compared to the corresponding period of the prior year, due to a write-off of certain equipment and intangible assets associated with exiting the land survey business in the second quarter of 2018. In the fourth quarter of 2019, we expect Subsea Projects operating results to be lower when compared to the third quarter of 2019, due to the seasonal decrease in the U.S. Gulf of Mexico deepwater vessel work outweighing improved performance in survey services.
Asset Integrity's operating results for the three month period ended September 30, 2019, compared to the immediately preceding quarter, and the three- and nine-month periods ended September 30, 2019, compared to the corresponding periods of the prior year, were lower due to reduced revenue and lower pricing for inspection services, which remains very competitive. For the fourth quarter of 2019, we expect Asset Integrity's operating results to improve slightly compared to the third quarter of 2019.
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Advanced Technologies
Our Advanced Technologies segment consists of two business units: (1) government; and (2) commercial. Government services and products include engineering and related manufacturing in defense and space exploration activities. Our commercial business unit offers turnkey solutions that include program management, engineering design, fabrication/assembly and installation to the commercial theme park industry and mobile robotics solutions, including automated guided vehicle technology to a variety of industries.
Revenue, gross margin and operating income information for our Advanced Technologies segment are as follows:
Three Months Ended | Nine Months Ended | ||||||||||||||||||||
(dollars in thousands) | Sep 30, 2019 | Sep 30, 2018 | Jun 30, 2019 | Sep 30, 2019 | Sep 30, 2018 | ||||||||||||||||
Revenue | $ | 98,440 | $ | 109,838 | $ | 100,248 | $ | 312,967 | $ | 299,907 | |||||||||||
Gross Margin | 9,413 | 14,824 | 13,386 | 38,047 | 36,645 | ||||||||||||||||
Operating Income | 2,958 | 8,960 | 7,241 | 19,798 | 18,514 | ||||||||||||||||
Operating Income % | 3 | % | 8 | % | 7 | % | 6 | % | 6 | % | |||||||||||
Advanced Technologies operating income for the three-month period ended September 30, 2019 was lower than that of the immediately preceding quarter, predominantly due to project delays and higher costs on certain projects within our commercial business. Operating income for the three-month period ended September 30, 2019 was lower compared to the corresponding period of the prior year, due to reduced levels of activity and higher costs in our theme park-related business. The operating income for the nine-month period ended September 30, 2019 increased slightly when compared to the corresponding period of the prior year driven by increased revenue and operating income in our government business partially offset by reduced commercial activity and project delays. We expect an increase in our Advanced Technologies operating income in the fourth quarter of 2019 compared to the third quarter, as a result of increased throughput and improved execution in our commercial business.
The following table presents revenue from government and commercial, as their respective percentages of total Advanced Technologies revenue:
Three Months Ended | Nine Months Ended | |||||||||||||||
Sep 30, 2019 | Sep 30, 2018 | Jun 30, 2019 | Sep 30, 2019 | Sep 30, 2018 | ||||||||||||
Government | 79 | % | 67 | % | 75 | % | 74 | % | 68 | % | ||||||
Commercial | 21 | % | 33 | % | 25 | % | 26 | % | 32 | % | ||||||
Unallocated Expenses
Our Unallocated Expenses, (i.e., those not associated with a specific business segment), within gross margin consist of expenses related to our incentive and deferred compensation plans, including restricted stock units, performance units and bonuses, as well as other general expenses. Our Unallocated Expenses within operating expense consist of those expenses within gross margin plus general and administrative expenses related to corporate functions.
The following table sets forth our Unallocated Expenses for the periods indicated:
Three Months Ended | Nine Months Ended | ||||||||||||||||||||
(dollars in thousands) | Sep 30, 2019 | Sep 30, 2018 | Jun 30, 2019 | Sep 30, 2019 | Sep 30, 2018 | ||||||||||||||||
Gross Margin | $ | 17,776 | $ | 14,953 | $ | 21,687 | $ | 64,165 | $ | 49,880 | |||||||||||
Operating Expense | 28,447 | 25,014 | 31,762 | 94,643 | 79,867 | ||||||||||||||||
Operating expense % of revenue | 6 | % | 5 | % | 6 | % | 6 | % | 6 | % | |||||||||||
Our Unallocated Expenses for the three months ended September 30, 2019 were lower compared to the immediately preceding quarter, as performance-based compensation expenses were reduced based on our expected level of results relative to our plan targets. Our Unallocated Expenses for the three- and nine-month
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periods ended September 30, 2019 increased compared to the corresponding periods of the prior year, primarily due to higher 2019 estimated expenses related to incentive compensation and higher expenses related to global information technology expenses. For the fourth quarter of 2019, we expect our quarterly Unallocated Expenses to be in the low- to mid-$30 million range.
Other
The following table sets forth our significant financial statement items below the income (loss) from operations line.
Three Months Ended | Nine Months Ended | ||||||||||||||||||||
(in thousands) | Sep 30, 2019 | Sep 30, 2018 | Jun 30, 2019 | Sep 30, 2019 | Sep 30, 2018 | ||||||||||||||||
Interest income | $ | 2,089 | $ | 2,645 | $ | 1,848 | $ | 6,541 | $ | 8,187 | |||||||||||
Interest expense, net of amounts capitalized | (11,382 | ) | (9,885 | ) | (10,199 | ) | (31,005 | ) | (28,058 | ) | |||||||||||
Equity in income (losses) of unconsolidated affiliates | 554 | (1,684 | ) | — | 390 | (3,264 | ) | ||||||||||||||
Other income (expense), net | (3,660 | ) | 5,632 | 7 | (2,934 | ) | (6,398 | ) | |||||||||||||
Provision (benefit) for income taxes | 7,930 | 61,135 | 17,203 | 21,981 | 70,317 | ||||||||||||||||
In addition to interest on borrowings, interest expense includes amortization of loan costs, fees for lender commitments under our revolving credit agreement and fees for standby letters of credit and bank guarantees that banks issue on our behalf for performance bonds, bid bonds and self-insurance requirements.
Foreign currency transaction gains and losses are the principal component of other income (expense), net. In the three- and nine-month periods ended September 30, 2019, we incurred foreign currency transaction losses of $3.5 million and $2.8 million, respectively. The currency losses in 2019 primarily related to declining exchange rates for the Angolan kwanza and the Brazilian real relative to the U.S. dollar. In the three- and nine-month periods ended September 30, 2018, we incurred foreign currency transaction losses of $3.8 million and $16 million, respectively. The currency losses in 2018 primarily related to the declining exchange rate for the Angolan kwanza relative to the U.S. dollar, and its effect on the U.S. dollar equivalent value of our cash balances in Angola. We could incur further foreign currency exchange losses in Angola and Brazil if further currency devaluations occur.
For the three- and nine-month periods ended September 30, 2018, other income (expense), net included a pre-tax gain of $9.3 million resulting from the sale of our cost method investment in ASV Global, LLC in September 2018. The total consideration from the sale was $15 million.
During interim periods, we provide for income taxes based on our current estimated annual effective tax rate using assumptions as to (1) earnings and other factors that would affect the tax provision for the remainder of the year and (2) the operations of foreign branches and subsidiaries that are subject to local income and withholding taxes. Factors that could affect our estimated tax rate include our profitability levels in general and the geographic mix in the sources of our results. The effective tax rate for the nine months ended September 30, 2019 was different than the federal statutory rate of 21%, primarily due to the geographic mix of operating revenue and results that generated taxes in certain jurisdictions that exceeded the tax benefit from losses and credits in other jurisdictions, which could not be realized in the quarter due to additional uncertain tax positions and other discrete items. It is our intention to continue to indefinitely reinvest in certain of our international operations; therefore, we do not provide for withholding taxes on the possible distribution of these earnings. We do not believe the effective tax rate before discrete items is meaningful due to the ongoing shifting of geographic mix of our operating revenue and results.
In the three-month period ended September 30, 2019, we recognized additional tax benefit of $7.0 million from discrete items, primarily related to an $8.5 million benefit from adjustment of the mandatory repatriation tax related to U.S. tax reform legislation enacted in December 2017 commonly referred to as the Tax Cuts and Jobs Act (the "Tax Act") and $1.5 million of various other issues. In the nine-month period ended September 30, 2019, we recognized additional tax benefit of $1.9 million from discrete items, primarily related to an $8.5 million benefit from adjustment of the mandatory repatriation tax related to the Tax Act, offset by $1.8 million of additional uncertain tax positions, $1.5 million of valuation allowances and $3.3 million of various other issues.
In the three-month period ended September 30, 2018, we recognized additional tax expense of $57 million for discrete items, primarily related to $39 million of valuation allowances on certain deferred tax assets recognized in prior years that may not be realizable in certain foreign jurisdictions, $7.9 million of provisional mandatory
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repatriation tax related to the Tax Act, $3.6 million related to uncertain tax position and $5.9 million associated with various other issues. In the nine-month period ended September 30, 2018, we recognized additional tax expense of $60 million from discrete items, primarily related to $39 million of valuation allowances on certain deferred tax assets recognized in prior years that may not be realizable in certain foreign jurisdictions, $7.9 million of provisional tax related to the Tax Act, $4.8 million related to uncertain tax positions and $8.3 million associated with various other issues.
Our 2019 income tax payments, net of tax refunds, are anticipated to be approximately $26 million.
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Item 3. | Quantitative and Qualitative Disclosures About Market Risk |
We are currently exposed to certain market risks arising from transactions we have entered into in the normal course of business. These risks relate to interest rate changes and fluctuations in foreign exchange rates. Except for our exposure in Angola, we do not believe these risks are material. We have not entered into any market risk sensitive instruments for speculative or trading purposes. When we have a significant amount of borrowings, we typically manage our exposure to interest rate changes through the use of a combination of fixed- and floating-rate debt. See Note 4—"Debt" in the Notes to Consolidated Financial Statements in this quarterly report for a description of our revolving credit facility and interest rates on our borrowings. We have two interest rate swaps in place on a total of $200 million of the 2024 Senior Notes. The agreements swap the fixed interest rate of 4.650% on $100 million of the 2024 Senior Notes to the floating rate of one-month LIBOR plus 2.426% and on another $100 million to one-month LIBOR plus 2.823%. We believe significant interest rate changes would not have a material near-term impact on our future earnings or cash flows.
Because we operate in various oil and gas exploration and production regions in the world, we conduct a portion of our business in currencies other than the U.S. dollar. The functional currency for several of our international operations is the applicable local currency. A stronger U.S. dollar against the United Kingdom pound sterling, the Norwegian kroner and the Brazilian real may result in lower operating income. We manage our exposure to changes in foreign exchange rates principally through arranging compensation in U.S. dollars or freely convertible currency and, to the extent possible, by limiting compensation received in other currencies to amounts necessary to meet obligations denominated in those currencies. We use the exchange rates in effect as of the balance sheet date to translate assets and liabilities as to which the functional currency is the local currency, resulting in translation adjustments that we reflect as accumulated other comprehensive income or loss in the equity section of our Consolidated Balance Sheets. We recorded net adjustments to our equity accounts of $(27) million and $(21) million in the nine-month periods ended September 30, 2019 and 2018, respectively. Negative adjustments reflect the net impact of the strengthening of the U.S. dollar against various foreign currencies for locations where the functional currency is not the U.S. dollar. Conversely, positive adjustments reflect the effect of a weakening U.S. dollar.
We recorded foreign currency transaction losses of $3.5 million and $2.8 million in the three- and nine-month periods ended September 30, 2019, and $3.8 million and $16 million in the three- and nine-month periods ended September 30, 2018, respectively. Those gains (losses) are included in other income (expense), net in our Consolidated Statements of Operations in those respective periods. Since the second quarter of 2015, the exchange rate for the Angolan kwanza relative to the U.S. dollar generally has been declining, with the exception that the exchange rate was relatively stable during 2017. As our functional currency in Angola is the U.S. dollar, we recorded foreign currency transaction losses related to the kwanza of $2.0 million and $2.6 million in the three- and nine-month periods ended September 30, 2019 and $4.5 million and $17 million in the three- and nine-month periods ended September 30, 2018, respectively, as a component of other income (expense), net in our Consolidated Statements of Operations for those respective periods. Our foreign currency transaction losses related primarily to the remeasurement of our Angolan kwanza cash balances to U.S. dollars. Any conversion of cash balances from kwanza to U.S. dollars is controlled by the central bank in Angola, and the central bank slowed this process from mid-2015 to 2017, causing our kwanza cash balances to increase during that period of time. However, beginning in 2018, the Angolan central bank has allowed us to repatriate cash from Angola. During 2018, we were able to repatriate $74 million of cash from Angola.
As of September 30, 2019 and December 31, 2018, we had the equivalent of approximately $8.4 million and $9.3 million, respectively, of kwanza cash balances in Angola reflected on our Consolidated Balance Sheets.
To mitigate our currency exposure risk in Angola, we have used kwanza to purchase equivalent Angolan central bank (Banco Nacional de Angola) bonds. The bonds are denominated as U.S. dollar equivalents, so that, upon payment of semi-annual interest and principal upon maturity, payment is made in kwanza, equivalent to the respective U.S. dollars at the then-current exchange rate. Because we intend to sell the bonds if we are able to repatriate the proceeds, we classified these bonds as available-for-sale securities, and they are recorded in other current assets on our Consolidated Balance Sheets.
We estimated the fair market value of the Angolan bonds to be $10 million as of September 30, 2019 and December 31, 2018 using quoted market prices. Since the market for the Angolan bonds is not an active market, the fair value of the Angolan bonds is classified within Level 2 in the fair value hierarchy under U.S. GAAP. As of
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September 30, 2019 and December 31, 2018, the difference between the fair market value and the carrying amount of the Angolan bonds was immaterial.
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Item 4. Controls and Procedures
In accordance with Rules 13a-15 and 15d-15 under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), we carried out an evaluation, under the supervision and with the participation of management, including our principal executive officer and principal financial officer, of the effectiveness of our disclosure controls and procedures (as that term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this report. Based on that evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were effective as of September 30, 2019 to provide reasonable assurance that information required to be disclosed in our reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms.
There has been no change in our internal control over financial reporting that occurred during the three months ended September 30, 2019 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
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PART II – OTHER INFORMATION
Item 1. | Legal Proceedings |
In the ordinary course of business, we are, from time to time, involved in litigation or subject to disputes, governmental investigations or claims related to our business activities, including, among other things:
• | performance- or warranty-related matters under our customer and supplier contracts and other business arrangements; and |
• | workers’ compensation claims, Jones Act claims, occupational hazard claims, premises liability claims and other claims. |
Although we cannot predict the ultimate outcome of these matters, we believe that our ultimate liability, if any, that may result from these other actions and claims will not have a material adverse effect on our consolidated financial condition, results of operations or cash flows. However, because of the inherent uncertainty of litigation and other dispute resolution proceedings and, in some cases, the availability and amount of potentially available insurance, we can provide no assurance that the resolution of any particular claim or proceeding to which we are a party will not have a material effect on our consolidated financial condition, results of operations or cash flows for the fiscal period in which that resolution occurs.
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Item 6. Exhibits
Index to Exhibits | |||||||||||||
Registration or File Number | Form of Report | Report Date | Exhibit Number | ||||||||||
* | 3.01 | 1-10945 | 10-K | Dec. 2000 | 3.01 | ||||||||
* | 3.02 | 1-10945 | 8-K | May 2008 | 3.1 | ||||||||
* | 3.03 | 1-10945 | 8-K | May 2014 | 3.1 | ||||||||
* | 3.04 | 1-10945 | 8-K | Aug. 2015 | 3.1 | ||||||||
* | 10.1+ | 1-10945 | 10-Q | Jul. 2019 | 10.1 | ||||||||
* | 10.2+ | 1-10945 | 10-Q | Jul. 2019 | 10.2 | ||||||||
* | 10.3+ | 1-10945 | 10-Q | Jul. 2019 | 10.3 | ||||||||
* | 10.4+ | 1-10945 | 10-Q | Jul. 2019 | 10.4 | ||||||||
* | 10.5+ | 1-10945 | 10-Q | Jul. 2019 | 10.5 | ||||||||
10.6+ | |||||||||||||
31.01 | |||||||||||||
31.02 | |||||||||||||
32.01 | |||||||||||||
32.02 | |||||||||||||
101.INS | XBRL Instance Document - The instance document does not appear in the interactive data file because its XBRL tags are embedded within the Inline XBRL document. | ||||||||||||
101.SCH | XBRL Taxonomy Extension Schema Document | ||||||||||||
101.CAL | XBRL Taxonomy Extension Calculation Linkbase Document | ||||||||||||
101.DEF | XBRL Taxonomy Extension Definition Linkbase Document | ||||||||||||
101.LAB | XBRL Taxonomy Extension Label Linkbase Document | ||||||||||||
101.PRE | XBRL Taxonomy Extension Presentation Linkbase Document | ||||||||||||
104 | Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) | ||||||||||||
+ | Management contract or compensatory plan or arrangement. | ||||||||||||
* | Exhibit previously filed with the Securities and Exchange Commission, as indicated, and incorporated herein by reference. | ||||||||||||
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
November 4, 2019 | /S/ RODERICK A. LARSON | |
Date | Roderick A. Larson | |
President and Chief Executive Officer | ||
(Principal Executive Officer) | ||
November 4, 2019 | /S/ ALAN R. CURTIS | |
Date | Alan R. Curtis | |
Senior Vice President and Chief Financial Officer | ||
(Principal Financial Officer) | ||
November 4, 2019 | /S/ WITLAND J. LEBLANC, JR. | |
Date | Witland J. LeBlanc, Jr. | |
Vice President and Chief Accounting Officer | ||
(Principal Accounting Officer) | ||
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