TDW Tidewater Inc

ITEM 2.       MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

FORWARD-LOOKING STATEMENT

In accordance with the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, this Quarterly Report on Form 10-Q and the information incorporated herein by reference contain certain forward-looking statements which reflect our current view with respect to future events and future financial performance. Forward-looking statements are all statements other than statements of historical fact. All such forward-looking statements are subject to risks and uncertainties, many of which are beyond the control of the Company, and our future results of operations could differ materially from our historical results or current expectations reflected by such forward-looking statements. Some of these risks and uncertainties include, without limitation, the risks related to fluctuations in worldwide energy demand and oil and natural gas prices, and continuing depressed levels of oil and natural gas prices without a clear indication of if, or when, prices will recover to a level to support renewed offshore exploration activities; fleet additions by competitors and industry overcapacity; our limited capital resources available to replenish our asset base as needed, including through acquisitions or vessel construction, and to fund our capital expenditure needs; uncertainty of global financial market conditions and potential constraints in accessing capital or credit if and when needed with favorable terms, if at all; changes in decisions and capital spending by customers in the energy industry and the industry expectations for offshore exploration, field development and production; consolidation of our customer base; loss of a major customer; changing customer demands for vessel specifications, which may make some of our older vessels technologically obsolete for certain customer projects or in certain markets; rapid technological changes; delays and other problems associated with vessel maintenance; the continued availability of qualified personnel and our ability to attract and retain them; the operating risks normally incident to our lines of business, including the potential impact of liquidated counterparties; our ability to comply with covenants in our indentures and other debt instruments; acts of terrorism and piracy; the impact of regional or global public health crises or pandemics; the impact of potential information technology, cybersecurity or data security breaches; integration of acquired businesses and entry into new lines of business; disagreements with our joint venture partners; natural disasters or significant weather conditions; unsettled political conditions, war, civil unrest and governmental actions, such as expropriation or enforcement of customs or other laws that are not well developed or consistently enforced; the risks associated with our international operations, including local content, local currency or similar requirements especially in higher political risk countries where we operate; interest rate and foreign currency fluctuations; labor changes proposed by international conventions; increased regulatory burdens and oversight; changes in laws governing the taxation of foreign source income; retention of skilled workers; enforcement of laws related to the environment, labor and foreign corrupt practices; the potential liability for remedial actions or assessments under existing or future environmental regulations or litigation; the effects of asserted and unasserted claims and the extent of available insurance coverage; and the resolution of pending legal proceedings.

Forward-looking statements, which can generally be identified by the use of such terminology as “may,” “can,” “potential,” “expect,” “project,” “target,” “anticipate,” “estimate,” “forecast,” “believe,” “think,” “could,” “continue,” “intend,” “seek,” “plan,” and similar expressions contained in this Quarterly Report on Form 10-Q, are not guarantees or assurances of future performance or events. Any forward-looking statements are based on our assessment of current industry, financial and economic information, which by its nature is dynamic and subject to rapid and possibly abrupt changes, which we may or may not be able to control.  Further, we may make changes to our business plans that could or will affect our results. While management believes that these forward-looking statements are reasonable when made, there can be no assurance that future developments that affect us will be those that we anticipate and have identified. The forward-looking statements should be considered in the context of the risk factors listed above, discussed in this Quarterly Report on Form 10-Q, and discussed in our Annual Report on Form 10-K for the year ended December 31, 2019, filed with the SEC on March 2, 2020, as updated by subsequent filings with the SEC. Investors and prospective investors are cautioned not to rely unduly on such forward-looking statements, which speak only as of the date hereof. Management disclaims any obligation to update or revise any forward-looking statements contained herein to reflect new information, future events, or developments.

In certain places in this Quarterly Report on Form 10-Q, we may refer to reports published by third parties that purport to describe trends or developments in energy production and drilling and exploration activity and we specifically disclaim any responsibility for the accuracy and completeness of such information and have undertaken no steps to update or independently verify such information.

The following information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the unaudited condensed consolidated financial statements and notes thereto included in Part 1, Item 1 of this Quarterly Report on Form 10-Q and related disclosures and our Annual Report on Form 10-K for the year ended December 31, 2019, filed with the SEC on March 2, 2020.

About Tidewater

Our vessels and associated vessel services provide support for all phases of offshore oil and natural gas exploration, field development and production as well as windfarm development and maintenance. These services include towing of, and anchor handling for, mobile offshore drilling units; transporting supplies and personnel necessary to sustain drilling, workover and production activities; offshore construction and seismic and subsea support; geotechnical survey support for windfarm construction, and a variety of other specialized services such as pipe and cable laying. In addition, we have one of the broadest geographic operating footprints in the offshore vessel industry. Our global operating footprint allows us to react quickly to changing local market conditions and to be responsive to the changing requirements of the many customers with which we believe we have strong relationships. We are also one of the most experienced international operators in the offshore energy industry with a history spanning over 65 years.

At September 30, 2020, we owned 170 vessels (excluding 3 joint venture vessels), 146 of which are available to serve the global energy industry and 24 of which are available for immediate sale. The average age of our 146 active vessels at September 30, 2020 is 10.4 years.  In October 2020, we purchased 11 crew boats in Angola for $5.3 million to increase our active vessel count to 157.

Principal Factors That Drive Our Results

Our revenues, net earnings and cash flows from operations are largely dependent upon the activity level of our offshore marine vessel fleet. As is the case with the numerous other vessel operators in our industry, our business activity is largely dependent on the level of exploration, field development and production activity of our customers. Our customers’ business activity, in turn, is dependent on current and expected crude oil and natural gas prices, which fluctuate depending on expected future levels of supply and demand for crude oil and natural gas, and on estimates of the cost to find, develop and produce crude oil and natural gas reserves.

Our revenues in all segments are driven primarily by our fleet size, vessel utilization and day rates. Because a sizeable portion of our operating and depreciation costs do not change proportionally with changes in revenue, our operating profit is largely dependent on revenue levels.

Operating costs consist primarily of crew costs, repair and maintenance costs, insurance costs, fuel, lube oil and supplies costs and other vessel operating costs. Fleet size, fleet composition, geographic areas of operation, supply and demand for marine personnel, and local labor requirements are the major factors which affect overall crew costs in all segments. In addition, our newer, more technologically sophisticated vessels generally require a greater number of specially trained, more highly compensated fleet personnel than our older, smaller and less sophisticated vessels. Crew costs may increase if competition for skilled personnel intensifies, though a weaker offshore energy market should somewhat mitigate any potential inflation of crew costs.

Costs related to the recertification of vessels are deferred and amortized over 30 months on a straight-line basis. Maintenance costs incurred at the time of the recertification drydocking that are not related to the recertification of the vessel are expensed as incurred. Costs related to vessel improvements that either extend the vessel’s useful life or increase the vessel’s functionality are capitalized and depreciated.

Insurance costs are dependent on a variety of factors, including our safety record and pricing in the insurance markets, and can fluctuate over time. Our vessels are generally insured for up to their estimated fair market value in order to cover damage or loss.  We also purchase coverage for potential liabilities stemming from third-party losses with limits that we believe are reasonable for our operations, but do not generally purchase business interruption insurance or similar coverage. Insurance limits are reviewed annually, and third-party coverage is purchased based on the expected scope of ongoing operations and the cost of third-party coverage.

Fuel and lube costs can also fluctuate in any given period depending on the number and distance of vessel mobilizations, the number of active vessels off charter, drydockings, and changes in fuel prices. We also incur vessel operating costs that are aggregated as “other” vessel operating costs. These costs consist of brokers’ commissions, training costs, satellite communication fees, agent fees, port fees and other miscellaneous costs. Brokers’ commissions are incurred primarily in our non-United States operations where brokers sometimes assist in obtaining work. Brokers generally are paid a percentage of day rates and, accordingly, commissions paid to brokers generally fluctuate in accordance with vessel revenue.

Sonatide Joint Venture (Angola)

We previously disclosed the significant financial and operational challenges that we confront with respect to operations in Angola, as well as steps that we have taken to address or mitigate those risks. Most of our attention has been focused in three areas: (i) reducing the net receivable balance due from Sonatide, our Angolan joint venture with Sonangol, for vessel services; (ii) reducing the foreign currency risk created by virtue of provisions of Angolan law that require that payment for a  portion of the services provided by Sonatide be paid in Angolan kwanza; and (iii) optimizing opportunities, consistent with Angolan law, for services provided by us to be paid for directly in U.S. dollars.  The amounts due from Sonatide are denominated in U.S. dollars; however, the underlying third-party customer payments to Sonatide were satisfied, in part, in Angolan kwanzas. We and Sonangol, our partner in Sonatide, have had discussions regarding how the net losses from the devaluation of certain Angolan kwanza denominated accounts should be shared.  In late 2019, we were informed that, as part of a broad privatization program, Sonangol intends to seek to divest itself from the Sonatide joint venture.

In the second quarter of 2020, Sonatide declared a $35.0 million dividend.  On June 22, 2020, Sonangol received $17.8 million and we received $17.2 million.  All of our share of the dividend is reflected as dividend income from unconsolidated company in the consolidated statement of operations because (i) our investment in the Sonatide joint venture had previously been written down to zero, (ii) the distributions are not refundable and (iii) we are not liable for the obligations of or committed to provide financial support to the Sonatide joint venture.  In addition, as a result of the aforementioned dividend payment, the cash balances of the joint venture were significantly reduced and we determined that, as a result, a significant portion of our net due from Sonatide balance was compromised.  During the nine months ended September 30, 2020, we recorded a $41.5 million affiliate credit loss impairment expense.

Refer to Note (7) of Notes to Unaudited Condensed Consolidated Financial Statements included in Part I, Item 1 of this Quarterly Report on Form 10-Q for further details on the Sonatide joint venture.

DTDW Joint Venture (Nigeria)

We own 40% of the DTDW joint venture in Nigeria.  Our partner, who owns 60%, is a Nigerian national.  DTDW owns one offshore service vessel and has long term debt of $4.7 million which is secured by the vessel and guarantees from the DTDW partners. We also operate company owned vessels in Nigeria for which our partner receives a commission.  As of September 30, 2020, we had no company owned vessels operating in Nigeria and the DTDW owned vessel was not employed.  At the beginning of 2020 we had expected that we would be operating numerous vessels in Nigeria, but in the second quarter of 2020 the COVID-19 pandemic and resulting oil price reduction caused our primary customer in Nigeria to eliminate all planned operations for 2020.  As a result, the near-term cash flow projections indicate that DTDW does not have sufficient funds to meet its obligations to us or to the holder of its long-term debt.  Therefore, we recorded affiliate credit loss impairment expense for the nine months ended September 30, 2020 totaling $12.1 million.  In addition, based on our analysis we have determined that DTDW will be unable to pay its debt obligation and the debt will not be satisfied by liquidating the vessel and, as a result, we recorded additional impairment expense of $2.0 million for our expected share of the obligation guarantee during the nine months ended September 30, 2020.  

Refer to Note (7) of Notes to Unaudited Condensed Consolidated Financial Statements included in Part I, Item 1 of this Quarterly Report on Form 10-Q for further details on the Nigeria joint venture.

Industry Conditions and Outlook

Our business is directly impacted by the level of activity in worldwide offshore oil and natural gas exploration, development and production, which in turn is influenced by trends in oil and natural gas prices. In addition, oil and natural gas prices are affected by a host of geopolitical and economic forces, including the fundamental principles of supply and demand.  In particular, the oil price is significantly influenced by actions of the Organization of Petroleum Exporting Countries, or OPEC.  Prices are subject to significant uncertainty and, as a result, are extremely volatile. The industry experienced a severe downturn beginning in late 2014 that lasted through 2018 with prices falling into the high $20’s per barrel before recovering to average between $50.00 and $65.00 per barrel in 2019.  We had expected to begin to experience consistent operating cash flow in 2020.

In early 2020, it became evident that a novel coronavirus originating in Asia (COVID-19) could become a pandemic with worldwide reach.  By mid-March, when the World Health Organization declared the outbreak to be a pandemic (the “COVID-19 pandemic”), much of the industrialized world had initiated severe measures to lessen its impact.  The ongoing COVID-19 pandemic created significant volatility, uncertainty, and economic disruption during the first nine months of 2020.  

With respect to our particular sector, the COVID-19 pandemic resulted in a much lower demand for oil as national, regional, and local governments impose travel restrictions, border closings, restrictions on public gatherings, stay at home orders, and limitations on business operations in order to contain its spread.  During this same time period, oil-producing countries struggled to reach consensus on worldwide production levels, resulting in both a market oversupply of oil and a precipitous fall in oil prices.

Combined, these conditions adversely affected our operations and business beginning in late March 2020 and continuing through the third quarter of 2020 and we expect our operations and business during the remainder of 2020 to be negatively impacted. The reduction in demand for hydrocarbons together with an unprecedented decline in the price of oil has resulted in our primary customers, the oil and gas companies, making material reductions to their planned spending on offshore projects, compounding the effect of the virus on offshore operations. Further, these conditions, separately or together, are expected to continue to impact the demand for our services, the utilization and/or rates we can achieve for our assets and services, and the outlook for our industry in general.

As the pandemic spread throughout the world, its impact on one or more of our locations, including our vessels, has affected our operations.  We have implemented various protocols for both onshore and offshore personnel in efforts to limit this impact, but there is no assurance that those efforts will be fully successful. The spread of COVID-19 to our onshore workforce could prevent us from supporting our offshore operations, we may experience reduced productivity as our onshore personnel continue to work remotely, and any spread to our key management personnel may disrupt our business. Any outbreak on our vessels may result in the vessel, or some or all of a vessel crew, being quarantined and therefore impede the vessel’s ability to generate revenue.  We have experienced challenges in connection with our offshore crew changes due to health and travel restrictions related to COVID-19, and those challenges and/or restrictions are expected to continue despite our efforts at mitigating them.  To the extent the COVID-19 pandemic adversely affects our operations and business, it may also have the effect of heightening many of the other risks set forth in our SEC filings.

The effect on our business includes lockdowns of shipyards where we have vessels performing drydocks which will delay vessels returning to service and the cancellation and/or temporary delay of certain revenue vessel contracts allowed either under the contract provisions or by mutual agreement with our customers. These cancellations and delays affect approximately 19% of our 2020 contracts with durations in excess of three months which typically comprise over 90% of our contractual revenue.  It is possible that there will be additional cancellations or delays.

As a company, we have undertaken the following temporary measures to assist us in weathering the COVID 19 pandemic and allow us to recover as soon as possible:

The full impact of the COVID-19 pandemic is unknown and is rapidly evolving. The extent to which it impacts our business and operations will depend on the severity, location, and duration of the effects and spread of the pandemic itself, the actions undertaken by national, regional, and local governments and health officials to contain the virus or treat its effects, and how quickly and to what extent economic conditions improve and normal business and operating conditions resume.  As we cannot predict the duration or scope of this pandemic, the anticipated negative financial impact to our operating results cannot be reasonably estimated but could be both material and long-lasting.

In the first and second quarters of 2020, we considered these events to be indicators that the value of our offshore vessel fleet may be impaired.  As a result, in the first quarter of 2020 we performed a Step 1 evaluation of our offshore fleet under FASB Accounting Standards Codification 360, which governs the methodology for identifying and recording impairment of long-lived assets to determine if any of our asset groups have net book value in excess of undiscounted future net cash flows. Our evaluation did not indicate impairment of any of our asset groups.  Our evaluation did, however, identify one asset group with a net book value of approximately $40.0 million where the undiscounted future net cash flows total was within 10% of the net book value of that asset group as of March 31, 2020. In the second quarter of 2020, we identified 22 vessels in our active fleet that were designated as assets held for sale. In conjunction with reclassifying the vessels to assets held for sale and revaluing the vessels’ carrying value to net realizable value, we recorded $49.9 million of impairment expense. In addition, at June 30, 2020, we performed another Step 1 impairment evaluation of our offshore fleet and did not identify any asset groups that had carrying values in excess of undiscounted future net cash flows. We also did not identify any asset group that had undiscounted future net cash flows within 10% of the net book value of that asset group. As of September 30, 2020, conditions related to the pandemic and oil price environment have not worsened from the second quarter.  In addition, we have not significantly changed our outlook for our vessels since the second quarter forecast was updated to reflect the expected effect on our operations of the pandemic and reduced oil prices. As a result, we did not identify additional events or conditions that would require us to perform a Step 1 evaluation. The eventual impact of the oil price reduction and the COVID 19 pandemic on our future operations is not known.  Depending on the severity of the impact, our expected cash flows in future periods could indicate impairment of one or more asset groups in our vessel fleet. We will continue to monitor the expected future cash flows and the fair market value of our asset groups for impairment.

Results of Operations – Three Months Ended September 30, 2020 compared to September 30, 2019

Revenues for the quarters ended September 30, 2020 and 2019, were $86.5 million and $119.8 million, respectively.  The decrease in revenue is primarily due to decreases in our West Africa segment, with 21 less active vessels and our Europe/Mediterranean segment, with 17 less active vessels. Both segments were significantly affected by the decrease in demand caused by the pandemic.  Overall, we had 45 less average active vessels in the third quarter of 2020 than in the third quarter of 2019.  Active utilization decreased from 80.4% in 2019  to 78.2% in 2020.

Vessel operating costs for the quarters ended September 30, 2020 and 2019, were $61.8 million and $80.6 million, respectively. The decrease is primarily due to a decrease in vessel activity, as we have 45 less active vessels in our fleet in the third quarter 2020 largely due to the downturn caused by the pandemic.

Depreciation and amortization expense for the quarters ended September 30, 2020 and 2019, was $30.8 million and $25.7 million, respectively. The increase in amortization expense related to deferred drydock expenditures was partially offset by the decrease in depreciation from the sale in 2019 of over 40 vessels and the reclassification of 46 vessels at year end 2019 and 22 additional vessels at June 30, 2020 from property and equipment to assets held for sale.

General and administrative expenses for the quarters ended September 30, 2020 and 2019, were $17.4 million and $30.5 million, respectively.  The decrease is primarily due to decreased personnel and benefit costs related to the significant restructuring of our executive management and corporate administrative functions in 2019 and cost cutting measures being implemented due to the current downturn.

Included in gain on asset dispositions, net for the quarter ended September 30, 2020, are $0.5 million of net gains from the disposal of 22 vessels and other assets. During the quarter ended September 30, 2019, we recognized gains of $0.3 million related to the disposal of 3 vessels and other assets.

In the three months ended September 30, 2020 and September 30, 2019 we recorded $1.9 million and $5.2 million, respectively, of impairment expense related to obsolete marine service and vessel supplies and parts inventory.

In November 2019, we paid down $125.0 million of our Senior Notes.  In the third quarter of 2020, we repurchased an additional $27.7 million of our Senior Notes (See Note 9). This reduced our interest expense, partially offset by the acceleration of our debt premium, by $1.4 million for the three months ended September 30, 2020 compared to the three months ended September 30, 2019.  In addition, the reduction in cash plus a reduction in interest rates received on our cash balances reduced our interest income by $1.3 million for the same period.  

During the quarter ended September 30, 2020 we recognized foreign exchange losses of $1.2 million and during the quarter ended September 30, 2019 we recognized  foreign exchange gains of $0.2 million.

The tax expense for the three months ended  September 30, 2020 was $6.0 million compared to $15.1 million for the three months ending September 30, 2019.  The reduction of $9.2 million is due to increased foreign losses and a decrease in uncertain tax positions.  The tax expense for the three months ended September 30, 2020 is mainly attributable to foreign taxes where tax is not calculated on the basis of taxable income or loss.  This includes deemed profit regimes, minimum tax regimes and withholding tax on revenue and lease payments.  Additionally, the inability to offset profits in one country with losses in a different country contributes to having a tax liability in the face of large consolidated pre-tax losses.

Results of Operations – Nine Months Ended September 30, 2020 compared to September 30, 2019

Revenues for the nine months ended September 30, 2020 and 2019, were $305.2 million and $367.8 million, respectively.  The decrease in revenue is primarily due to decreases in our West Africa and Europe/Mediterranean segments, with 13 less active vessels in each segment. Both segments were significantly affected by the decrease in demand caused by the pandemic. Overall, we had 29 less average active vessels in the nine months ended September 30, 2020 than in the nine months ended September 30, 2019.  Active utilization decreased from 80.1% in 2019 to 77.0% in 2020.

Vessel operating costs for the nine months ended September 30, 2020 and 2019, were $205.4 million and $243.3 million, respectively. The decrease is primarily due to a decrease in vessel activity, as we have 29 less active vessels in our fleet in the nine months of 2020.

Depreciation and amortization expense for the nine months ended September 30, 2020 and 2019, was $86.0 million and $73.7 million, respectively. The increase in amortization expense related to deferred drydock expenditures was partially offset by the decrease in depreciation from the sale in 2019 of over 40 vessels and the reclassification of 46 vessels at year end 2019 and 22 additional vessels at June 30, 2020 from property and equipment to assets held for sale. 

General and administrative expenses for the nine months ended September 30, 2020 and 2019, were $56.5 million and $81.3 million, respectively.  The decrease is primarily due to decreased personnel and benefit costs related to the significant restructuring of our executive management and corporate administrative functions in 2019 and cost cutting measures being implemented due to the current downturn.

Included in gain on asset dispositions, net for the nine months ended September 30, 2020, are $7.5 million of net gains from the disposal of 47 vessels and other assets. During the nine months ended September 30, 2019, we recognized net gains of $1.0 million related to the sale of 37 vessels and other assets.

In the nine months ended September 30, 2020 we recorded $1.9 million of impairment expense related to obsolete marine service and vessel supplies and parts inventory, $65.7 million of impairment expense related to valuation of our assets held for sale, $53.6 million affiliate credit loss impairment expense relating to the valuation of our net receivables from our joint ventures in Africa and $2.0 million of impairment related to a guarantee of long term debt of one of our African joint ventures.  

We recorded $17.2 million of dividend income from one of our African joint ventures in the nine months ended September 30, 2020.

In November 2019, we paid down $125.0 million of our Senior Notes.   In the third quarter of 2020, we repurchased an additional $27.7 million of our Senior Notes (See Note 9). This reduced our interest expense by $4.6 million for the nine months ended September 30, 2020 compared to the nine months ended September 30, 2019.  In addition, the reduction in cash plus a reduction in interest rates received on our cash balances reduced our interest income by $4.8 million for the same period.

During the nine months ended September 30, 2020 we recognized foreign exchange losses of $2.4 million and during the nine months ended September 30, 2019 we recognized foreign exchange losses of $0.3 million.

The tax expense for the nine months ended  September 30, 2020 was $3.5 million compared to a tax expense of $26.4 million for the nine months ending September 30, 2019.  The decrease in expense is related to changes in tax laws (primarily Cares Act refund) and also change in income. The tax expense for the nine months ended September 30, 2020, excluding the Cares Act refund, is $10.4 million and is mainly attributable to foreign taxes where tax is not calculated on the basis of taxable income or loss.  This includes deemed profit regimes, minimum tax regimes and withholding tax on revenue and lease payments.  Additionally, the inability to offset profits in one country with losses in a different country contributes to having a tax liability in the face of large consolidated pre-tax losses. 

The following table compares vessel revenues and vessel operating costs by geographic segment for our owned and operated vessel fleet and the related percentage of vessel revenue for the periods indicated: