Tidewater Inc.

Good morning and welcome to the earnings conference call third quarter 2019. My name is Cheryl and I will be your operator for today's call. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session. During the question and answer session, if you have a question, please press star then 1 on your touchtone phone. Please note that this conference call is being recorded. I will now turn the call over to Jason Stanley. Sir, you may begin.

Thank you, Cheryl. Good morning everyone and welcome to Tidewater's earnings conference call for the period ended September 30th, 2019. I'm Jason Stanley, Tidewater's VP of Investor Relations and I'd like to thank you for your time and interest in Tidewater. With me this morning on the call are our President and CEO Quintin Kneen, our Chief Accounting Officer Sam Rubio and our General Counsel and Corporate Secretary Daniel Hudson. After I cover a few formalities, I'll turn the call over to Quintin for his prepared remarks. will then open up the call for you to ask questions. During today's call we may make certain comments that are forward looking and not statements of historical fact. There are risks, uncertainties and other factors that may cause the company's actual future performance to be materially different from that stated or implied by any comment that we make during today's conference call. Please refer to our most recent Form 10-Q for additional details on these factors. This document is available on our website or through the SEC at sec.gov. Information presented on this call speaks only as of today, November 12th, 2019, and therefore you are advised that any time sensitive information may no longer be accurate at the time of any replay. Also during the call we will present both GAAP and non-GAAP financial measures. A reconciliation of GAAPs and non-GAAP measures is included in last evening's press release. Now with that, I'll turn the call over to Quintin.

Thank you, Jason. Good morning, everyone, and welcome to the third quarter 2019 Tidewater Earnings Conference call. I'm excited to be leading this call today. A lot has happened since we last spoke, and we have more positive change in progress that I believe will make you as excited as I am. Tidewater is determined to lead the offshore industry through the remainder of the recovery. We have the industry's leading balance sheet, which we are taking steps to enhance even further. We have led the industry thus far in consolidation and we are preparing our infrastructure and capital structure to consolidate the industry even further. We will use the improving industry fundamentals to get day rates back to where they need to be to properly compensate our capital providers and we will continue to lead the industry in recycling and capital discipline. As previously announced, we recently streamlined our corporate management team. In addition to the publicly announced management changes, we also made significant reductions in staff at our corporate office at the end of October. These organizational changes will result in the five managing directors responsible for the company's primary operating segments to report directly to the CEO. And we are instilling a corporate culture where the functional groups that remain at corporate are chartered to find ways to support and enhance the productivity of the five leading managing directors. One of our primary goals is to reduce bureaucracy in order to increase the speed of decision-making and empower people closest to the vessel to make decisions and take ownership. To that end, since the merger in November of last year, we have also been redesigning and implementing the state-of-the-art shore-based information management system. I am a strong believer in leveraging technology to create standardization and scalability and to reduce what we refer to internally as administrivia and clutter. This dedication to creating efficiency with technology extends across both financial information and ship-based management systems. These transformational changes are in response to changes in the industry. Tidewater had been successful in the past, focusing on utilization and a price-taking philosophy that generated sufficient cash flows to keep the business running. Over the past five years, the industry has shrunk, Tidewater's business has shrunk, and the profit margins generated by a A basic price-taking philosophy has shrunk considerably. To respond to industry conditions today, we needed to change the business and the financial incentives to empower those closest to the vessel to push day rates back to where they need to be to support our capital investment and to incentivize those leaders to grow a cash flow positive business. The process of significant cultural transformation doesn't happen with small incremental changes. You have to break it before you can fix it. You have to take big, bold steps to redefine the culture, and that's what we have done. As a result, it requires key agents within the company to wear multiple hats for a limited time. It's nothing that these individuals haven't done before, including myself. Along those lines, it's probably appropriate to mention that it is not my intention to go without a CFO, although I do like the lower G&A costs that result. The recruiting process for CFO is underway and I anticipate that we will conclude the search by early in the first quarter of 2020. Having said all this, I have some prepared remarks on how we are approaching our operations today and on current market conditions. I will go through these and then discuss the quarterly numbers before opening it up for questions. Getting to the highest return on possible on the portfolio of vessels we operate today is a key priority for Tidewater. We have always been everywhere geographically, and this has been a positive attribute for Tidewater for decades. I have no problem being anywhere we're paid well to be, but that's not happening in today's market, and it's seldom been the case in some geographic markets. Vessels are real assets that have frictional costs of relocation, and some are under long-term contracts that require us to keep them in a location where we would otherwise move them more quickly out of. So the process of reallocating the portfolio will take some time. But swapping assets with other large players We're selling off regions as an alternative to working ourselves out of a position in a less desirable market. Each region of the world has attributes that need to be considered. Areas such as Brazil and Australia can be alluring due to the headline day rates in those regions, but often being, well, those headline day rates are often well above the world averages, but the ultimate cash returns in those regions are often less than desirable. Other areas such as Southeast Asia have historically been very appealing, but the oversupply of vessels has enhanced protectionism restrictions in the region and has diminished the appeal, at least for now. So much like many of our customers, we are focusing on the regions and activities that we believe will provide the best opportunities and returns on capital. We are likewise taking a disciplined approach to our decisions regarding the dry document vessels in service and what to do with the vessels in layup. One of the challenges facing owners in our industry, Tidewater included, is the number of dry docks required to be completed in 2019 and 2020. For example, we have 158 vessels in service during the third quarter. Vessels require a major dry dock every five years, which equates to 32 vessels per year on average. The average dry dock cost is approaching $1.2 million, which equates to $38 million per year of reinvestment in the fleet on average, or $9.5 million per quarter. This year, we are estimated to spend over $60 million on dry docks. Not all of this will be paid in 2019, but $44 million has been paid year-to-date, and $15 million was paid in the third quarter. As a reference, cash spent on dry docks for the full year of 2018 was $26 million for a fleet of 142 active vessels. The lumpiness of the dry dock cycle is due to the delivery dates of the vessels, and 2009 and 2014 were big years for vessel deliveries. Consequently, 2019 is a big year for five- and ten-year-old vessels going through their first and second special surveys. Key to us at Tidewater are doing the dry docks in the most cost-efficient manner and only doing dry docks if the vessel's economic outlook justifies the investment. We have 60 vessels in layup, and managing that idle fleet costs us approximately $400 per day per vessel, or $8.8 million per year. I can tell you with near certainty that these vessels are not all going back to work, and our intention is to whittle down this fleet and lay up to the dozen or so vessels that will certainly return to service. Our intention for the vessels we do not keep is to sell them out of the industry or send them to the recycling yard. The cost to reactivate these vessels is approximately $90 million, so it's not just the $400 per day, but the continued escalating cost of reactivation as the vessels continue to age and deteriorate. and every year their remaining economic life decreases. The false hope presented by the low cost option of keeping vessels and land that are not economically viable tends to lure owners into keeping vessels longer than they should. Focusing on our balance sheet and on those assets that are working and tightening up the global fleet will provide us more long-term benefit than paying 8.8 million per year for vessels that are unable to work today and unlikely to ever work in the future. The other very real fact for owners to consider is that the human capital market throws in the towel much more quickly than the capital holders of those idle vessels. The mariners in this industry in 2015 that were let go have moved on. Others sought out higher pay onshore or in other shipping sectors. Around the world today, there is a shortage of mariners in the offshore industry. The industry reduced wages significantly during the downturn, which is one of the many levers we use to get through a downturn. but the global market for mariners extends well beyond the oil and gas industry. Wage pressure in today's offshore vessel market is a force all owners will need to deal with in the future. As a result, the global fleet and layup will not result in incremental cash flows to capital providers because mariner wages will have to increase significantly in order to accrue the incremental . In 2009 to 2012, a prior expansion period in the industry, Mariner rates in some regions like the U.S. Gulf of Mexico rose 30% to attract mariners back into the industry. And remember, you don't just adjust the wages for the one vessel you are reactivating. You are adjusting them for the entire regions of mariner group. So it's not just that the industry is unlikely to get back to the drilling levels required to employ the vessels and lay up today. It's that even if we were to do so, the return to capital providers won't be there because it will be absorbed by increased mariner wage rates. Similar to what has been experienced in the past, adding active vessels to the fleet holds down vessel day rates and increases mariner wages and perpetually pushes out the return on capital to providers. The best option for capital holders to get out of this predicament is through consolidation. There are too many management teams protecting too many vessels that have too much debt. By creating a truly scalable infrastructure, Tidewater can consolidate the industry. We can remove excess G&A and we can rationalize the global fleet. So my message is that Tidewater will not be shy in taking a blowtorch to the fleet in Leah. And my message to owners and capital holders outside of Tidewater is that consolidation and fleet rationalization is the best way to maximize your investment. We have no required capex. We have no vessels under construction. Every investment we make is our decision based on today's economics. We continue to work on optimizing our balance sheet and our focus on keeping our low net debt position, which is truly noteworthy and unique in our industry. You may have seen that we launched a bond consent solicitation to modify certain terms of our existing 350 million face value 8% 2022 senior secured bonds. We are asking for about 16 topical modifications, including easing the ability to operate internationally, improving administrative efficiency, and lowering the required financial coverage ratio. We have also launched a separate tender offer conditioned on the successful consent for 125 million of the issue for a tender premium of up to 8.5%. This is the first of several steps to reset our debt capital structure so that it is in a position to be strategically refinanced and in addition to providing meaningful improved operational flexibility, the most modifications allow for a revolving credit facility and the ability to refinance the other outstanding debt. In addition to seeking modifications to the indenture, we intend to file two S3 shelf registration statements over the next few weeks. The first S3 will be to register some of the warrants that are outstanding from the restructuring and the 2018 merger. The second S3 will be a customary universal shelf registration statement registering various forms of debt and equity securities. and providing us with the increased flexibility to opportunistically and efficiently access the capital markets. The steps we are taking or planning to take with respect to the 2022 notes and the registration statements are being done to provide the flexibility to facilitate an optimal capital structure and industry consolidation. As it pertains to the industry as a whole over the next two quarters, we are entering into the softer quarters of the year. The fourth quarter will be a step down from the third quarter, and the first quarter will be a step down from the fourth. The best thing I can say about this is that it tells me that the world is getting back to normal, slowly, but getting back to a more normal offshore work pattern that reflects the preference of doing work in the warmer times of the year. We saw limited seasonality in the depths of the downturn as operators were only doing required offshore maintenance, which is consistent throughout the year but at a lower level of activity. The North Sea and Mediterranean Sea markets performed well in the third quarter, with active utilization approaching 93%. In early November, one customer charged over 10 vessels, which will help tighten up the market there through the remainder of 2019. I remain optimistic about the North Sea market as I look into 2020. We did see average day rates decline in the North Sea from the second quarter, but that was due to the contract roll-off I mentioned on our second quarter call. Activities in the Middle East and Asia Pacific are also continuing to improve. This is the one region where we saw average day rates increase from the second quarter due to an increase in deepwater vessels operating in the region during the third quarter. I continue to see improvement in this market as we go into 2020. It's not generally a high day rate region, but our team there has been successful in getting long-term contracts for deepwater vessels and in getting our customers to prepay for dry dockings, which is an important consideration for us in the decision to reactivate a vessel. The West Africa region has significant dryback activity during the third quarter as well as the second quarter, which has kept profitability down in that region for the past six months. We anticipate operating margins returning to what we would expect for the region in the low 40s during the fourth quarter. Activity increases in the region during the first half of 2019 were significant, but we anticipate a lull in activity increases until the second quarter of 2020 when new drilling programs are set to commence. The Americas region was another region that had significant dry dock activity in the second and third quarters. Nonetheless, active utilization stayed in the mid-80s, which is very good based on the number of dry docks in that region over the past six months. Activity in the southern Caribbean, a subset of the Americas region, is expected to improve significantly in the fourth quarter, even though we typically see a slight downturn in the fourth quarter due to regional seasonality. So with all that as a backdrop, let me walk through the third quarter and talk about how I see the business over the next few quarters. Revenue for the quarter was $120 million, down $6 million from the second quarter. Two big factors drove the decrease. We had those very lucrative five-year contracts that were cut in 2014 that rolled off in the second quarter. And we had five fewer vessels operating during the quarter. The five fewer vessels operating during the quarter reflects the fact that market conditions for older tonnage is still weak. As our older tonnage rolls off contracts, they are going into layup. We are simultaneously reactivating higher specification vessels, which begins to offset the decline, but market conditions today are only good enough to reactivate a select group of vessels in layup. As it pertains to the fourth quarter, we see a similar number of net vessels going into layup. As I look into the first half of 2020, I see tightening in the West African and Middle East markets that will allow several of the vessels that will have gone into layup in the second half of 2019 to be reactivated. We are also pushing day rates, particularly on the larger vessels, and my expectation is that the day rate trend will begin to increase again as we go through the first half of 2020. Vessel operating costs of $81 million was essentially flat in the third quarter, although the number of vessels dropped by five vessels, or approximately 3%. This is due to the simultaneous mobilization and layup of vessels. Vessels just coming out of reactivation and vessels going into layup have a higher than average per day cost. My expectation is that we will see optics per active day level off over the next two quarters. As I mentioned above, included in the $81 million is approximately $2.2 million or $8.8 million per year of costs related to managing the fleet and layup. So as a result, gross margin for the quarter at the vessel level was $39 million or 32%. General and administrative expense was $30 million in the third quarter, but that reflects a number of big-ticket items that are non-recurring. It includes $6.3 million of severance-related costs due to the staffing changes we effected before the end of the quarter, including the wages and benefits of those individuals for the full quarter. It also includes $650,000 of professional service fees related to the implementation of the SAP system. We did another substantial reduction in force at the corporate office in October. So those wages and salaries are also in the third quarter numbers, and a portion of, along with our severance, will be in the fourth quarter numbers as well. We set our year-end annual run rate objective at 87 million, or 21.8 million per quarter, and the changes enacted in the second half of 2019 make me extremely comfortable that this objective will be met. Tidewater's goal is to lead the offshore industry out of the current oversupply situation and reshape the sector so that an acceptable return on capital becomes the norm. Our vision for Tidewater is to be the company with the highest return on capital in the offshore vessel industry. We have the industry's leading global footprint, and our new information systems give us a truly scalable infrastructure platform. Our financial strength, global scale, and low-cost infrastructure positions us to consolidate the industry and incrementally grow our consolidated return on capital. Tidewater has the industry's strongest balance sheet. We are dedicated to keeping it. Doing so requires us to develop a business that is free cash flow positive and requires that any potential consolidation be done principally on a stock-to-stock basis and that these stocks are appropriately relatively valued. We close the quarter with $363 million of cash. We have $430 million of debt, the bulk of which matures three years from now in August 2022, but we are easily able to service the debt and can readily refinance the debt given our cash on hand. As a result of our grossed cash and debt position, we have been incurring a negative carry of over 6% per year on the balance. For this reason and the other reasons indicated earlier, we launched the consent and tender Importantly, our path to acceptable free cash flow generation isn't predicated on a recovery in the drilling market. It's based on designing our shore-based infrastructure to be efficient and fully scalable. It's based on focusing our vessels in the fewest regions possible while driving the highest margin on those vessels. It's about tightly managing the required investment in those vessels. It's about rationalizing the fleet and layout. And last but certainly not least, it's about keeping the net debt low and keeping working capital investment at a minimum. We are transforming Tidewater to be the highest return on capital offshore vessel company in the world. That transformation requires substantial changes to the organizational structure, which are largely complete. It requires a cultural transformation to reduce bureaucracy, improve decisiveness, and enhance accountability, which is underway and enabled by the new organizational structure and our new information system. It requires the optimization of the investment in and physical location of the assets, which will occur over time, but which is in process. It requires the right capital structure, which we are addressing through the indenture modifications and the S3 registration statements. And all of this can be significantly enhanced through sensible consolidation of the industry. And with that, Cheryl, would you please open the call up for questions?