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EX-32.2 - EX-32.2 - MCDERMOTT INTERNATIONAL INCmdr-ex322_6.htm
EX-32.1 - EX-32.1 - MCDERMOTT INTERNATIONAL INCmdr-ex321_7.htm
EX-31.2 - EX-31.2 - MCDERMOTT INTERNATIONAL INCmdr-ex312_9.htm
EX-31.1 - EX-31.1 - MCDERMOTT INTERNATIONAL INCmdr-ex311_8.htm
EX-12.1 - EX-12.1 - MCDERMOTT INTERNATIONAL INCmdr-ex121_30.htm

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2018

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 No. 001-08430

 

McDERMOTT INTERNATIONAL, INC.

(Exact name of registrant as specified in its charter)

 

 

REPUBLIC OF PANAMA

 

 

72-0593134

(State or Other Jurisdiction of

Incorporation or Organization)

 

 

(I.R.S. Employer

Identification No.)

 

 

 

 

757 N. Eldridge Parkway

HOUSTON, TEXAS

 

77079

(Address of Principal Executive Offices)

 

 

(Zip Code)

 

Registrant’s Telephone Number, Including Area Code: (281) 870-5000

 

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.    Yes      No  

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).    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.

 

Large accelerated filer

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).    Yes     No  

The number of shares of the registrant’s common stock outstanding at October 26, 2018 was 180,584,114.

 

 

 

 


TABLE OF CONTENTS

 

McDERMOTT INTERNATIONAL, INC.

INDEX—FORM 10-Q

 

 

 

 

 


CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

PART I: Item 1—FINANCIAL INFORMATION

 

McDERMOTT INTERNATIONAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

 

 

 

Three Months Ended

September 30,

 

 

Nine Months Ended

September 30,

 

 

 

2018

 

 

2017

 

 

2018

 

 

2017

 

 

 

(In millions, except per share amounts)

 

Revenues

 

$

2,289

 

 

$

959

 

 

$

4,632

 

 

$

2,267

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Costs and Expenses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cost of operations

 

 

1,986

 

 

 

774

 

 

 

3,948

 

 

 

1,853

 

Project related intangibles amortization

 

 

30

 

 

 

-

 

 

 

42

 

 

 

-

 

Total cost of operations

 

 

2,016

 

 

 

774

 

 

 

3,990

 

 

 

1,853

 

Research and development expenses

 

 

8

 

 

 

2

 

 

 

13

 

 

 

3

 

Selling, general and administrative expenses

 

 

64

 

 

 

55

 

 

 

188

 

 

 

142

 

Other intangibles amortization

 

 

25

 

 

 

-

 

 

 

35

 

 

 

-

 

Transaction costs

 

 

5

 

 

 

-

 

 

 

45

 

 

 

-

 

Restructuring and integration costs

 

 

31

 

 

 

-

 

 

 

106

 

 

 

-

 

Other operating expenses (income), net

 

 

1

 

 

 

-

 

 

 

2

 

 

 

(2

)

Total expenses

 

 

2,150

 

 

 

831

 

 

 

4,379

 

 

 

1,996

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income (loss) from investments in unconsolidated affiliates

 

 

3

 

 

 

(3

)

 

 

2

 

 

 

(9

)

Investment in unconsolidated affiliates-related amortization

 

 

(13

)

 

 

-

 

 

 

(13

)

 

 

-

 

Operating income

 

 

129

 

 

 

125

 

 

 

242

 

 

 

262

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other expense:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest expense, net

 

 

(86

)

 

 

(12

)

 

 

(169

)

 

 

(51

)

Other non-operating income (expense), net

 

 

1

 

 

 

-

 

 

 

(13

)

 

 

(2

)

Total other expense, net

 

 

(85

)

 

 

(12

)

 

 

(182

)

 

 

(53

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income before provision for income taxes

 

 

44

 

 

 

113

 

 

 

60

 

 

 

209

 

 

 

 

 

 

 

 

-

 

 

 

 

 

 

 

 

 

Income tax expense (benefit)

 

 

44

 

 

 

19

 

 

 

(19

)

 

 

53

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Non-operating loss from investments in unconsolidated affiliates

 

 

-

 

 

 

-

 

 

 

-

 

 

 

(2

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

 

-

 

 

 

94

 

 

 

79

 

 

 

154

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Less: Net (loss) income attributable to noncontrolling interests

 

 

(2

)

 

 

(1

)

 

 

(5

)

 

 

1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income attributable to McDermott

 

$

2

 

 

$

95

 

 

$

84

 

 

$

153

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income per share attributable to McDermott

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

0.01

 

 

$

1.00

 

 

$

0.60

 

 

$

1.70

 

Diluted

 

$

0.01

 

 

$

1.00

 

 

$

0.60

 

 

$

1.61

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Shares used in the computation of net income per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

180

 

 

 

95

 

 

 

140

 

 

 

90

 

Diluted

 

 

181

 

 

 

95

 

 

 

141

 

 

 

95

 

 

See accompanying Notes to these Condensed Consolidated Financial Statements.

 

 

1

 

 


CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

 

McDERMOTT INTERNATIONAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited)

 

 

 

Three Months Ended September 30,

 

 

Nine Months Ended September 30,

 

 

 

2018

 

 

2017

 

 

2018

 

 

2017

 

 

 

(In millions)

 

Net income

 

$

-

 

 

$

94

 

 

$

79

 

 

$

154

 

Other comprehensive (loss) income, net of tax:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(Loss) gain on derivatives

 

 

(1

)

 

 

9

 

 

 

(13

)

 

 

20

 

Foreign currency translation

 

 

(8

)

 

 

(7

)

 

 

(20

)

 

 

(7

)

Total comprehensive income

 

 

(9

)

 

 

96

 

 

 

46

 

 

 

167

 

Less: Comprehensive (loss) income attributable to noncontrolling interests

 

 

(2

)

 

 

(1

)

 

 

(5

)

 

 

1

 

Comprehensive (loss) income attributable to McDermott

 

$

(7

)

 

$

97

 

 

$

51

 

 

$

166

 

 

See accompanying Notes to these Condensed Consolidated Financial Statements.

 

 

2

 

 


CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

 

McDERMOTT INTERNATIONAL, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

 

 

 

September 30,

2018

 

 

December 31,

2017

 

 

 

(In millions, except per share amounts)

 

Assets

 

(Unaudited)

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

Cash and cash equivalents ($158  and $0 related to variable interest entities ("VIEs"))

 

$

580

 

 

$

390

 

Restricted cash and cash equivalents

 

 

325

 

 

 

18

 

Accounts receivable—trade, net ($28 and $0 related to VIEs)

 

 

1,093

 

 

 

328

 

Accounts receivable—other ($59 and $0 related to VIEs)

 

 

252

 

 

 

42

 

Contracts in progress ($63 and $0 related to VIEs)

 

 

723

 

 

 

621

 

Project related intangible assets, net

 

 

176

 

 

 

-

 

Inventory

 

 

58

 

 

 

-

 

Other current assets ($26 and $0 related to VIEs)

 

 

145

 

 

 

36

 

Total current assets

 

 

3,352

 

 

 

1,435

 

Property, plant and equipment, net

 

 

2,106

 

 

 

1,666

 

Accounts receivable—long-term retainages

 

 

71

 

 

 

39

 

Investments in unconsolidated affiliates

 

 

444

 

 

 

8

 

Goodwill

 

 

4,708

 

 

 

-

 

Other intangibles, net

 

 

1,006

 

 

 

-

 

Deferred income taxes

 

 

181

 

 

 

18

 

Other non-current assets

 

 

188

 

 

 

57

 

Total assets

 

$

12,056

 

 

$

3,223

 

 

 

 

 

 

 

 

 

 

Liabilities and Equity

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

Current maturities of long-term debt

 

$

35

 

 

$

24

 

Current portion of long-term lease obligations

 

 

7

 

 

 

-

 

Accounts payable ($328 and $0 related to VIEs)

 

 

874

 

 

 

279

 

Advance billings on contracts ($476 and $0 related to VIEs)

 

 

1,733

 

 

 

32

 

Project related intangible liabilities, net

 

 

76

 

 

 

-

 

Accrued liabilities ($110 and $0 related to VIEs)

 

 

1,579

 

 

 

372

 

Total current liabilities

 

 

4,304

 

 

 

707

 

Long-term debt

 

 

3,397

 

 

 

512

 

Long-term lease obligations

 

 

68

 

 

 

1

 

Deferred income taxes

 

 

77

 

 

 

28

 

Other non-current liabilities

 

 

614

 

 

 

186

 

Total liabilities

 

 

8,460

 

 

 

1,434

 

Commitments and contingencies

 

 

 

 

 

 

 

 

Stockholders' equity:

 

 

 

 

 

 

 

 

Common stock, par value $1.00 per share, authorized 255 shares;

 

 

 

 

 

 

 

 

  issued 183 and 98 shares, respectively

 

 

183

 

 

 

98

 

Capital in excess of par value

 

3,488

 

 

 

1,858

 

Retained earnings/ (accumulated deficit)

 

 

56

 

 

 

(48

)

Accumulated other comprehensive loss

 

 

(84

)

 

 

(51

)

Treasury stock, at cost: 3 and 3 shares, respectively

 

 

(96

)

 

 

(96

)

Total McDermott Stockholders' Equity

 

 

3,547

 

 

 

1,761

 

Noncontrolling interest

 

 

49

 

 

 

28

 

Total stockholders' equity

 

 

3,596

 

 

 

1,789

 

Total liabilities and stockholders' equity

 

$

12,056

 

 

$

3,223

 

 

See accompanying Notes to these Condensed Consolidated Financial Statements.

3

 

 


CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

 

McDERMOTT INTERNATIONAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

 

 

 

Nine Months Ended September 30,

 

 

 

2018

 

 

2017

 

 

 

(In millions)

 

Cash flows from operating activities:

 

 

 

 

 

 

 

 

Net income

 

$

79

 

 

$

154

 

Non-cash items included in net income:

 

 

 

 

 

 

 

 

Depreciation and amortization

 

 

187

 

 

 

78

 

Debt issuance cost amortization

 

 

27

 

 

 

-

 

Stock-based compensation charges

 

 

36

 

 

 

20

 

Deferred taxes

 

 

(86

)

 

 

10

 

Other non-cash items

 

 

2

 

 

 

8

 

Changes in operating assets and liabilities, net of effects of businesses acquired:

 

 

 

 

 

 

 

 

Accounts receivable

 

 

130

 

 

 

120

 

Contracts in progress, net of Advance billings on contracts

 

 

(318

)

 

 

(673

)

Inventory

 

 

4

 

 

 

-

 

Accounts payable

 

 

123

 

 

 

339

 

Other current and non-current assets

 

 

(52

)

 

 

(29

)

Investments in unconsolidated affiliates

 

 

(2

)

 

 

11

 

Other current and non-current liabilities

 

 

84

 

 

 

98

 

Total cash provided by operating activities

 

 

214

 

 

 

136

 

 

 

 

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

 

 

 

CB&I combination consideration, net of cash acquired of $498

 

 

(2,374

)

 

 

-

 

Purchases of property, plant and equipment

 

 

(62

)

 

 

(97

)

Advances related to proportionately consolidated consortiums

 

 

(155

)

 

 

-

 

Proceeds from asset dispositions

 

 

55

 

 

 

55

 

Investments in unconsolidated affiliates

 

 

(14

)

 

 

(3

)

Total cash used in investing activities

 

 

(2,550

)

 

 

(45

)

 

 

 

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

 

 

 

Proceeds from issuance of long-term debt

 

 

3,560

 

 

 

-

 

Repayment of debt and capital lease obligations

 

 

(531

)

 

 

(231

)

Advances related to equity method joint ventures and proportionately consolidated consortiums

 

 

67

 

 

 

-

 

Debt and letter of credit issuance costs

 

 

(209

)

 

 

(20

)

Debt extinguishment costs

 

 

(10

)

 

 

-

 

Acquisition of NCI

 

 

-

 

 

 

(11

)

Repurchase of common stock

 

 

(14

)

 

 

(7

)

Total cash provided by (used in) financing activities

 

 

2,863

 

 

 

(269

)

 

 

 

 

 

 

 

 

 

Effects of exchange rate changes on cash, cash equivalents and restricted cash

 

 

(30

)

 

 

-

 

Net increase (decrease) in cash, cash equivalents and restricted cash

 

 

497

 

 

 

(178

)

Cash, cash equivalents and restricted cash at beginning of period

 

 

408

 

 

 

612

 

Cash, cash equivalents and restricted cash at end of period

 

$

905

 

 

$

434

 

 

See accompanying Notes to these Condensed Consolidated Financial Statements.

 

 

4

 

 


CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

 

McDERMOTT INTERNATIONAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF EQUITY

(Unaudited)

 

 

 

Common

Stock Par

Value

 

 

Capital in

Excess of Par

Value

 

 

Retained

Earnings/

(Accumulated

Deficit)

 

 

Accumulated

Other

Comprehensive Loss ("AOCI")

 

 

Treasury

Stock

 

 

Stockholders' Equity

 

 

Noncontrolling Interest

("NCI")

 

 

Total

Equity

 

 

(In millions)

 

Balance at December 31, 2017

 

$

98

 

 

$

1,858

 

 

$

(48

)

 

$

(51

)

 

$

(96

)

 

$

1,761

 

 

$

28

 

$

 

1,789

 

Adoption of ASC 606

 

 

-

 

 

 

-

 

 

 

20

 

 

 

-

 

 

 

-

 

 

 

20

 

 

 

-

 

 

 

20

 

Balance at January 1, 2018

 

 

98

 

 

 

1,858

 

 

 

(28

)

 

 

(51

)

 

 

(96

)

 

 

1,781

 

 

 

28

 

 

 

1,809

 

Net income

 

 

-

 

 

 

-

 

 

 

84

 

 

 

-

 

 

 

-

 

 

 

84

 

 

 

(5

)

 

 

79

 

CB&I Combination

 

 

85

 

 

 

1,608

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

1,693

 

 

 

26

 

 

 

1,719

 

Other comprehensive loss, net of tax

 

 

-

 

 

 

 

 

 

 

-

 

 

 

(33

)

 

 

-

 

 

 

(33

)

 

 

-

 

 

 

(33

)

Common stock issued

 

 

1

 

 

 

(1

)

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

Stock-based compensation charges

 

 

-

 

 

 

36

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

36

 

 

 

-

 

 

 

36

 

Purchase of treasury shares

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

(14

)

 

 

(14

)

 

 

-

 

 

 

(14

)

Retirement of common stock

 

 

(1

)

 

 

(13

)

 

 

-

 

 

 

-

 

 

 

14

 

 

 

-

 

 

 

-

 

 

 

-

 

Balance at September 30, 2018

 

$

183

 

 

$

3,488

 

 

$

56

 

 

$

(84

)

 

$

(96

)

 

$

3,547

 

 

$

49

 

$

 

3,596

 

 

 

 

 

5

 

 


NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

TABLE OF CONTENTS

 

 

 

 

PAGE

Note 1—Nature of Operations and Organization

 

7

Note 2—Basis of Presentation and Significant Accounting Policies

 

7

Note 3—Business Combination

 

15

Note 4—Revenue Recognition

 

20

Note 5—Project Changes in Estimates

 

23

Note 6—Cash, Cash Equivalents and Restricted Cash

 

23

Note 7—Accounts Receivable

 

24

Note 8—Contracts in Progress and Advance Billings on Contracts

 

24

Note 9—Intangible Assets

 

25

Note 10—Joint Venture and Consortium Arrangements

 

25

Note 11 – Restructuring and Integration Costs

 

28

Note 12—Debt

 

28

Note 13—Lease Obligations

 

33

Note 14—Pension and Postretirement Benefits

 

34

Note 15—Accrued Liabilities

 

35

Note 16—Fair Value Measurements

 

35

Note 17—Derivative Financial Instruments

 

36

Note 18—Income Taxes

 

38

Note 19—Stockholders’ Equity and Equity-based Incentive Plans

 

39

Note 20—Earnings Per Share

 

40

Note 21—Commitments and Contingencies

 

41

Note 22—Segment Reporting

 

44

Note 23—Subsequent Events

 

46

 

 

 

6

 

 


NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

NOTE 1NATURE OF OPERATIONS AND ORGANIZATION

Nature of Operations

McDermott International, Inc. (“McDermott,” “MDR,” “we,” “our” or “us”), a corporation incorporated under the laws of the Republic of Panama in 1959, is a fully-integrated provider of engineering, procurement, construction and installation (“EPCI”) and technology solutions to the energy industry. On May 10, 2018, we completed our combination with Chicago Bridge & Iron Company N.V. (“CB&I”) through a series of transactions (the “Combination”) (see Note 3, Business Combination, for further discussion). We design and build end-to-end infrastructure and technology solutions to transport and transform oil and gas into a variety of products. Our proprietary technologies, integrated expertise and comprehensive solutions are utilized for offshore, subsea, power, liquefied natural gas (“LNG”) and downstream energy projects around the world. Our customers include national, major integrated and other oil and gas companies as well as producers of petrochemicals and electric power, and we operate in most major energy producing regions throughout the world. We execute our contracts through a variety of methods, principally fixed-price, but also including cost reimbursable, cost-plus, day-rate and unit-rate basis or some combination of those methods.

Organization

Our business is organized into five operating groups, which represent our reportable segments consisting of: North, Central and South America (“NCSA”); Europe, Africa, Russia and Caspian (“EARC”); the Middle East and North Africa (“MENA”); Asia Pacific (“APAC”); and Technology. See Note 22, Segment Reporting for further discussion.

NOTE 2—BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES

Basis of Accounting and Consolidation

The accompanying Condensed Consolidated Financial Statements (the “Financial Statements”) are unaudited and have been prepared from our books and records in accordance with Rule 10-1 of Regulation S-X for interim financial information. Accordingly, they do not include all of the information and notes required by accounting principles generally accepted in the United States (“U.S. GAAP”) for complete financial statements and are not necessarily indicative of results of operations for a full year. Therefore, they should be read in conjunction with the Financial Statements and Notes thereto included in our Current Report on Form 8-K filed with the SEC on July 31, 2018 (the “July 31 Form 8-K”).

These Financial Statements reflect all wholly owned subsidiaries and those entities we are required to consolidate. See the “Joint Venture and Consortium Arrangements” section of this footnote for further discussion of our consolidation policy for those entities that are not wholly owned. In the opinion of our management, all adjustments, consisting only of normal recurring adjustments, considered necessary for a fair presentation have been included. Intercompany balances and transactions are eliminated in consolidation. Values presented within tables (excluding per share data) are in millions and may not sum due to rounding.

Reclassifications

Beginning in the second quarter of 2018, we made certain classification changes, as well as reclassifications to our historical financial statements to align with our current presentation as follows:

 

Bidding and Proposal Costs—In conjunction with the Combination, we realigned our commercial personnel within the operating groups for the combined company. As a result of the realignment, beginning in the second quarter of 2018, we included our bid and proposal costs in Cost of operations in our Condensed Consolidated Statements of Operations (the “Statements of Operations”) to better represent how those costs are managed and controlled. For periods reported prior to the second quarter of 2018, bid and proposal costs are included in Selling, general and administrative (“SG&A”) expenses. Our Cost of operations for the three and nine months ended September 30, 2018 includes $20 million and $37 million of bid and proposal costs, respectively. Our SG&A expense for the nine months ended September 30, 2018 includes bid and proposal costs of $10 million incurred in the first quarter of 2018, and the three and nine months ended September 30, 2017 includes bid and proposal costs of $10 million and $26 million, respectively.

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NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

 

Income (Loss) from Investments in Unconsolidated AffiliatesOur Statements of Operations for the three and nine months ended September 30, 2017 reflect the reclassification of $3 million and $9 million, respectively, of Loss from investments in unconsolidated affiliates associated with our ongoing io Oil and Gas and Qingdao McDermott Wuchuan Offshore Engineering Company Ltd. joint ventures to Operating income to conform to our current presentation. Previously, results from these unconsolidated joint ventures were presented below Operating income, as we did not consider the activities of the unconsolidated joint ventures to be integral to our operations. Based on expected expansion in activity of these unconsolidated joint ventures with us in 2018 and in the future, we now believe the activities of these unconsolidated joint ventures are integral to our ongoing operations and are most appropriately reflected in Operating income. Prior periods have been reclassified to be consistent with our 2018 presentation. Income (loss) from investments in unconsolidated affiliates that are not integral to our operations will continue to be presented below Operating income. See Note 10, Joint Venture and Consortium Arrangements, for further discussion of our unconsolidated joint ventures.

 

Reverse Common Stock SplitWe amended our Amended and Restated Articles of Incorporation during the second quarter of 2018 to effect a three-to-one reverse stock split of McDermott common stock, effective May 9, 2018. Common stock, capital in excess of par, share and per share (except par value per share, which was not affected) information for all periods presented has been recast in the Financial Statements and the accompanying Notes to reflect the reverse stock split.

 

Pension and Postretirement Benefit CostsIn conjunction with our adoption of Accounting Standards Update (“ASU”) 2017-07, we reclassified non-service costs relating to our pension and postretirement plans from SG&A to Other non-operating income (expense) for all historical periods presented. The reclassification did not result in a material impact.  

 

Deferred Income Tax and Other Tax Liabilities—We reclassified Deferred income taxes, Income taxes payable and other tax balances in our December 31, 2017 Balance Sheet to conform to our current presentation. The reclassifications did not result in a material impact.  

 

Lease Obligations—Long-term capital lease obligations were reclassified from Long-term debt in our December 31, 2017 Balance Sheet to conform to our current presentation. The reclassification did not result in a material impact.

Use of Estimates and Judgments

The preparation of financial statements in conformity with U.S. GAAP requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses and related disclosures of contingent assets and liabilities. We believe the most significant estimates and judgments are associated with:

 

revenue recognition for our contracts, including estimating costs to complete each contract and the recognition of incentive fees and unapproved change orders and claims;

 

determination of fair value with respect to acquired assets and liabilities;

 

fair value and recoverability assessments that must be periodically performed with respect to long-lived tangible assets, goodwill and other intangible assets;

 

valuation of deferred tax assets and financial instruments;

 

the determination of liabilities related to self-insurance programs and income taxes; and

 

consolidation determinations with respect to our joint venture and consortium arrangements. If the underlying estimates and assumptions upon which the Financial Statements are based change in the future, actual amounts may differ from those included in the Financial Statements.

Significant Accounting Policies

Revenue Recognition—Our revenue is primarily derived from long-term contracts with customers, and we determine the appropriate accounting treatment for each contract at inception in accordance with ASU 2014-09 (Accounting Standards Codification (“ASC”) Topic 606), Revenue from Contracts with Customers. Our contracts primarily relate to: EPCI services; engineering services; construction services; pipe and steel fabrication services; engineered and manufactured products; technology licensing; and catalyst supply. An EPCI contract may also include technology licensing, and our services may be provided between or among our reportable segments.

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NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

 

Contracts—Our contracts are awarded on a competitively bid and negotiated basis, and the timing of revenue recognition may be impacted by the terms of such contracts. We use a range of contracting options, including cost-reimbursable, fixed-price and hybrid, which has both cost-reimbursable and fixed-price characteristics. Fixed-price contracts, and hybrid contracts with a more significant fixed-price component, tend to provide us with greater control over project schedule and the timing of when work is performed and costs are incurred, and, accordingly, when revenue is recognized. Cost-reimbursable contracts, and hybrid contracts with a more significant cost-reimbursable component, generally provide our customers with greater influence over the timing of when we perform our work, and, accordingly, such contracts often result in less predictability regarding the timing of revenue recognition. A contract may include technology licensing services, which may be provided between our reportable segments.

 

Performance Obligations—A performance obligation is a promise in a contract to transfer a distinct good or service to a customer and is the unit of account in ASC Topic 606. The transaction price of a contract is allocated to each distinct performance obligation and recognized as revenue when, or as, the performance obligation is satisfied. Our contract costs and related revenues are generally recognized over time as work progresses due to continuous transfer to the customer. To the extent a contract is deemed to have multiple performance obligations, we allocate the transaction price of the contract to each performance obligation using our best estimate of the standalone selling price of each distinct good or service in the contract. In addition, certain contracts may be combined and deemed to be a single performance obligation. Our EPCI contracts are generally deemed to be single performance obligations and our contracts with multiple performance obligations were not material as of September 30, 2018.

 

Performance Obligations Satisfied Over Time—Revenues for our contracts that satisfy the criteria for over time recognition are recognized as the work progresses. Revenues for contracts recognized over time include revenues for contracts to provide: EPCI services; engineering services; construction services; pipe and steel fabrication services; engineered and manufactured products; technology licensing; and “non-generic” catalyst supply. We measure transfer of control utilizing an input method to measure progress of the performance obligation based upon the cost-to-cost measure of progress, with Cost of operations including direct costs, such as materials and labor, and indirect costs that are attributable to contract activity. Under the cost-to-cost approach, the use of estimated costs to complete each performance obligation is a significant variable in the process of determining recognized revenues and is a significant factor in the accounting for such performance obligations. Significant estimates impacting the cost to complete each performance obligation are: costs of engineering, materials, components, equipment, labor and subcontracts; vessel costs; labor productivity; schedule durations, including subcontractor or supplier progress; contract disputes, including claims; achievement of contractual performance requirements; and contingency, among others. The cumulative impact of revisions in total cost estimates during the progress of work is reflected in the period in which these changes become known, including, to the extent required, the reversal of profit recognized in prior periods and the recognition of losses expected to be incurred on contracts in progress. Additionally, external factors such as weather, customer requirements and other factors outside of our control, may affect the progress and estimated cost of a project’s completion and, therefore, the timing and amount of recognition of revenues and income. Due to the various estimates inherent in our contract accounting, actual results could differ from those estimates, which could result in material changes to our financial statements and related disclosures. See Note 4, Revenue Recognition, for further discussion.

 

Performance Obligation Satisfied at a Point-in-Time Method—Contracts with performance obligations that do not meet the criteria to be recognized over time are required to be recognized at a point-in-time, whereby revenues and gross profit are recognized only when a performance obligation is complete and a customer has obtained control of a promised asset. Revenues for contracts recognized at a point in time include our “generic” catalyst supply and certain manufactured products (which are recognized upon shipment) and certain non-engineering and non-construction oriented services (which are recognized when the services are performed). In determining when a performance obligation is complete for contracts with revenues recognized at a point-in-time, we measure transfer of control considering physical possession of the asset, legal transfer of title, significant risks and rewards of ownership, customer acceptance and our rights to payment. See Note 4, Revenue Recognition, for further discussion.

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NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

 

Remaining Performance Obligations (“RPOs”)―RPOs represent the amount of revenues we expect to recognize in the future from our contract commitments on projects. RPOs include the entire expected revenue values for joint ventures we consolidate and our proportionate value for consortiums we proportionately consolidate. We do not include expected revenues of contracts related to unconsolidated joint ventures in our RPOs, except to the extent of any subcontract awards we receive from those joint ventures. Currency risks associated with RPOs that are not mitigated within the contracts are generally mitigated with the use of foreign currency derivative (hedging) instruments, when deemed significant. However, these actions may not eliminate all currency risk exposure included within our long-term contracts. RPOs may not be indicative of future operating results, and projects included in RPOs may be cancelled, modified or otherwise altered by customers. See Note 4, Revenue Recognition, for further discussion.

 

Variable Consideration―Transaction prices for our contracts may include variable consideration, which includes increases to transaction prices for approved and unapproved change orders, claims, incentives and bonuses, and reductions to transaction price for liquidated damages or penalties. Change orders, claims and incentives are generally not distinct from the existing contracts due to the significant integration service provided in the context of the contract and are accounted for as a modification of the existing contract and performance obligation. We estimate variable consideration for a performance obligation at the most likely amount to which we expect to be entitled (or the most likely amount we expect to incur in the case of liquidated damages), utilizing estimation methods that best predict the amount of consideration to which we will be entitled (or will be incurred in the case of liquidated damages). We include variable consideration in the estimated transaction price to the extent it is probable that a significant reversal of cumulative revenues recognized will not occur or when the uncertainty associated with the variable consideration is resolved. Our estimates of variable consideration and determinations of whether to include estimated amounts in transaction prices are based largely on assessments of our anticipated performance and all information (historical, current and forecasted) reasonably available to us. The effect of variable consideration on the transaction price of a performance obligation is recognized as an adjustment to revenues on a cumulative catch-up basis. To the extent unapproved change orders and claims reflected in transaction price (or excluded from transaction price in the case of liquidated damages) are not resolved in our favor, or to the extent incentives reflected in transaction price are not earned, there could be reductions in, or reversals of, previously recognized revenue. See Note 4, Revenue Recognition, for further discussion.

 

Loss Recognition―A risk associated with our contracts is that revenues from customers may not cover increases in our costs. It is possible that current estimates could materially change for various reasons. For all contracts, if a current estimate of total contract cost indicates a loss, the projected loss is recognized in full immediately and reflected in Cost of operations in the Statements of Operations. It is possible that these estimates could change due to unforeseen events, which could result in adjustments to overall contract revenues and costs. Variations from estimated contract performance could result in material adjustments to operating results for any fiscal quarter or year. In our Condensed Consolidated Balance Sheets (“Balance Sheets”), accruals of provisions for estimated losses on all active uncompleted projects are included in Advance billings on contracts. See Note 4, Revenue Recognition, for further discussion.

 

Accounts Receivable and Contract Balances―The timing of when we bill our customers is generally dependent upon advance billing terms, milestone billings based on the completion of certain phases of the work, or when the services are provided or products are shipped.

 

Accounts Receivable―Any uncollected billed amounts for our performance obligations recognized over time, including contract retainages to be collected within one year, are recorded within Accounts receivable-trade, net. Any uncollected billed amounts and unbilled receivables for our performance obligations recognized at a point in time are also recorded within Accounts receivable-trade, net. Contract retainages to be collected beyond one year are recorded within Accounts receivable-long-term retainages. We establish allowances for doubtful accounts based on our assessments of collectability. See Note 7, Accounts Receivable, for further discussion.

 

Contracts in Progress—Projects with performance obligations recognized over time that have revenues recognized to date in excess of cumulative billings are reported within Contracts in progress on our Balance Sheets. We expect to invoice customers for all unbilled revenues, and our payment terms are generally for less than 12 months upon billing. Our contracts typically do not include a significant financing component. See Note 8, Contracts in Progress and Advances Billings on Contracts, for further discussion.

 

Advance Billings on Contracts—Projects with performance obligations recognized over time that have cumulative billings in excess of revenues are reported within Advance billings on contracts on our Balance Sheets. Our Advance billings on contracts balance also includes our accruals of provisions for estimated losses on all active projects. See Note 8, Contracts in Progress and Advances Billings on Contracts, for further discussion.

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NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

Bidding and Proposal CostsBidding and proposal costs are generally charged to Cost of operations as incurred, but in certain cases their recognition may be deferred if specific probability criteria are met. We had no significant deferred bidding and proposal costs at September 30, 2018.

Goodwill— Goodwill represents the excess of the purchase price over the fair value of net assets acquired in connection with the Combination. Goodwill is not amortized, but instead is reviewed for impairment at least annually at a reporting unit level, absent any interim indicators of impairment. Interim testing for impairment is performed if indicators of potential impairment exist. There were no indicators of goodwill impairment identified during the three months ended September 30, 2018.  However, recent declines in our market capitalization subsequent to September 30, 2018, if sustained, could indicate a risk of impairment to our goodwill, and such impairments could be material to our financial results. We will perform our annual impairment assessment during the fourth quarter of each year. We identify a potential impairment by comparing the fair value of the applicable reporting unit to its net book value, including goodwill. If the net book value exceeds the fair value of the reporting unit, we measure the impairment by comparing the carrying value of the reporting unit to its fair value.

To determine the fair value of our reporting units and test for impairment, we utilize an income approach (discounted cash flow method) as we believe this is the most direct approach to incorporate the specific economic attributes and risk profiles of our reporting units into our valuation model. We generally do not utilize a market approach, given the lack of relevant information generated by market transactions involving comparable businesses. However, to the extent market indicators of fair value become available, we consider such market indicators in our discounted cash flow analysis and determination of fair value. See Note 3, Business Combination, for further discussion.

Intangible and Other Long-Lived Assets—Our finite-lived intangible assets resulted from the Combination and are amortized over their estimated remaining useful economic lives. Our project-related intangible assets are amortized as the applicable projects progress, customer relationships are amortized utilizing an accelerated method based on the pattern of cash flows expected to be realized, taking into consideration expected revenues and customer attrition, and our other intangibles are amortized utilizing a straight-line method. We review tangible assets and finite-lived intangible assets for impairment whenever events or changes in circumstances indicate the carrying value of the asset may not be recoverable. If a recoverability assessment is required, the estimated future cash flow associated with the asset or asset group will be compared to their respective carrying amounts to determine if an impairment exists. See Note 3, Business Combination, and Note 9, Intangible Assets, for further discussion.

Income Taxes—Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases using currently enacted income tax rates for the years in which the differences are expected to reverse. We provide for income taxes based on the tax laws and rates in the countries in which we conduct our operations. McDermott International, Inc. is a Panamanian corporation that earns all of its income outside of Panama. As a result, we are not subject to income tax in Panama. We operate in numerous taxing jurisdictions around the world. Each of these jurisdictions has a regime of taxation that varies, not only with respect to statutory rates, but also with respect to the basis on which these rates are applied. These variations, along with changes in our mix of income or loss from these jurisdictions, may contribute to shifts, sometimes significant, in our effective tax rate.

A valuation allowance (“VA”) is provided to offset any net deferred tax assets (“DTAs”) if, based on the available evidence, it is more likely than not that some or all of the DTAs will not be realized. The realization of our net DTAs depends upon our ability to generate sufficient future taxable income of the appropriate character and in the appropriate jurisdictions.

On a periodic and ongoing basis, we evaluate our DTAs (including our net operating loss (“NOL”) DTAs) and assess the appropriateness of our VAs. In assessing the need for a VA, we consider both positive and negative evidence related to the likelihood of realization of the DTAs. If, based on the weight of available evidence, our assessment indicates it is more likely than not a DTA will not be realized, we record a VA. Our assessments include, among other things, the amount of taxable temporary differences which will result in future taxable income, the value and quality of our RPOs, evaluations of existing and anticipated market conditions, analysis of recent and historical operating results (including cumulative losses over multiple periods) and projections of future results, strategic plans and alternatives for associated operations, as well as asset expiration dates, where applicable. At September 30, 2018 and December 31, 2017, we had VAs against certain U.S. and non-U.S. DTAs, as we do not believe it is more likely than not that we will utilize those DTAs. See the July 31 Form 8-K for further discussion of our VA assessments.

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NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

If the factors upon which we based our assessment of realizability of our DTAs differ materially from our expectations, including future operating results being lower than our current estimates, our future assessments could be impacted and result in an increase in VAs and increase in tax expense.

Income tax and associated interest and penalty reserves, where applicable, are recorded in those instances where we consider it more likely than not that additional tax will be due in excess of amounts reflected in income tax returns filed worldwide, irrespective of whether we have received tax assessments. We continually review our exposure to additional income tax obligations and, as further information becomes known or events occur, changes in our tax, interest and penalty reserves may be recorded within income tax expense. See Note 18, Income Taxes, for further discussion.

Foreign Currency—The nature of our business activities involves the management of various financial and market risks, including those related to changes in foreign currency exchange rates. The effects of translating financial statements of foreign operations into our reporting currency are recognized as a cumulative translation adjustment in accumulated other comprehensive income (loss) (“AOCI”), which is net of tax, where applicable.

Derivative Financial Instruments—We utilize derivative financial instruments in certain circumstances to mitigate the effects of changes in foreign currency exchange rates and interest rates, as described below.

 

Foreign Currency Rate Derivatives—We do not engage in currency speculation; however, we utilize foreign currency exchange rate derivatives on an ongoing basis to hedge against certain foreign currency related operating exposures. We generally seek hedge accounting treatment for contracts used to hedge operating exposures and designate them as cash flow hedges. Therefore, gains and losses, exclusive of credit risk and forward points (which represent the time value component of the fair value of our derivative positions), are included in AOCI until the associated underlying operating exposure impacts our earnings. Changes in the fair value of (i) credit risk and forward points, (ii) instruments deemed ineffective during the period, and (iii) instruments that we do not designate as cash flow hedges, are recognized within Other non-operating income (expense).

 

Interest Rate Derivatives—Our interest rate derivatives are limited to a swap arrangement entered into on May 8, 2018, to hedge against interest rate variability associated with $1.94 billion of our $2.26 billion “Term Facility” described in Note 12, Debt. The swap arrangement has been designated as a cash flow hedge as its critical terms matched those of the Term Facility at inception and through September 30, 2018. Accordingly, changes in the fair value of the swap arrangement are included in AOCI until the associated underlying exposure impacts our interest expense.

See Note 16, Fair Value Measurements, and Note 17, Derivative Financial Instruments, for further discussion.

Joint Venture and Consortium ArrangementsIn the ordinary course of business, we execute specific projects and conduct certain operations through joint venture, consortium and other collaborative arrangements (referred to as “joint ventures” and “consortiums”). We have various ownership interests in these joint ventures and consortiums, with such ownership typically proportionate to our decision making and distribution rights. The joint ventures and consortiums generally contract directly with their third-party customers; however, services may be performed directly by the joint ventures and consortium, us, our co-venturers, or a combination thereof.

Joint ventures and consortium net assets consist primarily of working capital and property and equipment, and assets may be restricted from use for obligations outside of the joint venture or consortiums. These joint ventures and consortiums typically have limited third-party debt or have debt that is non-recourse in nature. They may provide for capital calls to fund operations or require participants in the joint venture or consortiums to provide additional financial support, including advance payment or retention letters of credit.

Each joint venture or consortium is assessed at inception and on an ongoing basis as to whether it qualifies as a Variable Interest Entity (“VIE”) under the consolidations guidance in ASC Topic 810, Consolidations. A venture generally qualifies as a VIE when it (i) meets the definition of a legal entity, (ii) absorbs the operational risk of the projects being executed, creating a variable interest, and (iii) lacks sufficient capital investment from the co-venturers, potentially resulting in the joint venture or consortium requiring additional subordinated financial support to finance its future activities.

If at any time a joint venture or consortium qualifies as a VIE, we perform a qualitative assessment to determine whether we are the primary beneficiary of the VIE and therefore need to consolidate the VIE. We are the primary beneficiary if we have (i) the power to direct the economically significant activities of the VIE and (ii) the right to receive benefits from and obligation to absorb losses of the

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NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

VIE. If the joint venture or consortium is a VIE and we are the primary beneficiary, or we otherwise have the ability to control the joint venture or consortium, it is consolidated. If we determine we are not the primary beneficiary of the VIE or only have the ability to significantly influence, rather than control the joint venture or consortium, it is not consolidated.

We account for unconsolidated joint ventures and consortium arrangements using either (i) proportionate consolidation for both the Balance Sheet and Statement of Operations when we meet the applicable accounting criteria to do so, or (ii) utilize the equity method. For incorporated unconsolidated joint ventures and consortiums where we utilize the equity method of accounting, we record our share of the profit or loss of the investments, net of income taxes, in the Statements of Operations. We evaluate our equity method investments for impairment when events or changes in circumstances indicate the carrying value of such investments may have experienced an other-than-temporary decline in value. When evidence of loss in value has occurred, we compare the estimated fair value of our investment to the carrying value of our investment to determine whether an impairment has occurred. If the estimated fair value is less than the carrying value and we consider the decline in value to be other-than-temporary, the excess of the carrying value over the estimated fair value is recognized in the Financial Statements as an impairment. See Note 10, Joint Venture and Consortium Arrangements, for further discussion.

Transaction Costs—Transaction costs primarily related to professional service fees (including audit, legal and advisory services) associated with the Combination. See Note 3, Business Combination, for further discussion.

Restructuring and Integration Costs—Restructuring and integration costs primarily relate to costs to achieve our combination profitability initiative (“CPI”). See Note 11, Restructuring and Integration Costs, for further discussion.

See Note 2, Basis of Presentation and Significant Accounting Policies, included in the July 31 Form 8-K, for additional information relating to our accounting policies.

Recently Adopted Accounting Guidance

Revenue from Contracts with Customers (ASC Topic 606)—In May 2014, the Financial Accounting Standards Board (the “FASB”) issued a new standard related to revenue recognition which supersedes most of the existing revenue recognition requirements in U.S. GAAP and requires entities to recognize revenue at an amount that reflects the consideration to which an entity expects to be entitled in exchange for transferring goods or services to a customer. It also requires significantly expanded disclosures regarding the qualitative and quantitative information of an entity’s nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with c