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INTERIM CONSOLIDATED FINANCIAL STATEMENTS AND MANAGEMENT REPORT
Scorpion Offshore Ltd. and Subsidiaries
For the Period Ended March 31, 2009
3rd Quarter 2009 Highlights
· Revenues increased by 33% or $16.7 million to $67.8 million during the 3rd quarter
ended March 31, 2009. Revenues year-to-date totaled $167.7 million, up 186% from this
period last year.
· Excluding the semisubmersible impairment, Operating Income was $24 million, up 45%
from the previous quarter. Operating Income year-to-date was $62.5 million, up 251%
from this period last year.
· The average day rate for the 3rd quarter was $181,696 (versus $171,405 for the last
quarter) due to the Offshore Vigilant working the entire quarter versus less than half of
last quarter.
· The average daily rig operating cost was $63,371 up $6,477 from $56,894 for the
previous quarter. The increased operating cost is primarily related to the Offshore
Vigilant working the entire quarter, which has higher local labor costs.
· Revenue utilization averaged 98.1% for the quarter, up from 96.8% in the 2nd quarter,
which excludes Offshore Resolute downtime due to the 3rd party manufacturing
equipment failure.
o Offshore Courageous began its drilling contract for Shell in Malaysia on January
20, 2009 and achieved 96.9% revenue utilization during the quarter.
o Offshore Defender continued working for Petrobras offshore Brazil and achieved
94.9% revenue utilization during the quarter.
o Offshore Resolute continued drilling for Thang Long Joint Operating Company in
Vietnam and achieved 99.7% revenue utilization.
o Offshore Vigilant continued working Urdanetagazprom-1 (Gazprom) in Venezuela
and achieved 99.9% revenue utilization.
· On January 14, 2009 Offshore Intrepid signed a charter contract with Odjfell Drilling
Services LLC for work in the neutral zone located offshore Saudi Arabia with a duration
of 42 months at a dayrate of $180,000.
· On January 14, 2009 the Company secured financing for its remaining construction
payments on the Offshore Freedom and refinanced the amounts drawn under the
Semisubmersible Bridge loan with Bayererische Hypo-und Vereinsbank AG in a new
credit facility totaling $169 million.
· On February 19, 2009, Scorpion signed an agreement to increase the Intrepid Revolving
Credit Facility by $24.0 million to $34.0 million.
· In March 2009, Scorpion raised approximately $60.0 million equity via a private
placement in order to finance the Offshore Mischief's next construction payment and for
general corporate purposes.
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· Significant events since March 31, 2009:
o On May 14, 2009, the Company secured a $26.8 million pound sterling (GBP)
convertible loan from a Middle Eastern private equity investor in order to finance
the Offshore Mischief’s next construction payment of $40 million.
Introduction
This management report provides analysis of the financial and operational results of Scorpion
Offshore Ltd. (Scorpion or the Company) for the 3rd quarter fiscal 2009 ending March 31, 2009.
The management report should be read in conjunction with Scorpion’s Interim Consolidated
Financial Statements for the period ending March 31, 2009, and the related notes. All financials
are in US dollars unless otherwise stated.
Financial Review
Net Income for the third quarter ended March 31, 2009 totaled $15.2 million for the quarter and
$(32.6) fiscal year-to-date. Contract drilling revenue, including mobilization revenue of $4.5
million, totaled $67.8 million for the third quarter (vs. $51.1 million for the previous quarter) and
$167.7 million fiscal year-to-date. Operating costs, excluding mobilization, totaled $24.2 million
for the third quarter compared to $18.7 million for the previous quarter. Interest expense was
$6.4 million for the quarter and $12.8 million fiscal year-to-date. In addition, interest of $3.3
million for the quarter and $17.0 million year-to-date were capitalized. The increase of $16.7
million in revenue from the previous quarter is primarily due to the increased number of days of
operation for both the Offshore Courageous (70 days vs 33 days) and the Offshore Vigilant (90
days vs 51 days) compared to last quarter. Both rigs spent a majority of the previous quarter
preparing and mobilizing for their next drilling programs.
As of March 31, 2009, total assets were $1,170.8 million. This primarily consists of $55.2
million in cash and cash equivalents, $48.9 million in accounts receivable, and $999.8 million in
property and equipment.
As of March 31, 2009, long-term debt totaled $558.5 million which was an increase of $8.7
million from last quarter. The $8.7 million increase was due to debt draws of $61.1 million
offset by moving $48.0 million to the current portion of long-term debt and making $4.4 million
in principle payments.
Shareholders’ equity totaled $453.5 million ($5.16 per share), which was an increase of $81.1
million from the previous quarter.
Operations
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The Offshore Courageous departed the Lamprell shipyard on December 29, 2008 after
undergoing contract specific modifications and commenced the Sarawak Shell Berhad contract
on January 20, 2009. The Offshore Courageous completed the Shell Global Rig Acceptance
Team’s final inspections and acceptance and mobilized to the drilling location on February 5,
2009. The rig achieved revenue utilization of 96.9% for the quarter and 98.7% fiscal year-to-
date.
Offshore Brazil, the Offshore Defender continued work for Petrobras and achieved revenue
utilization rate of 94.9% for the quarter and 94.3% fiscal year-to-date.
The Offshore Resolute continued drilling in Vietnam for Thang Long Joint Operating Company.
The rig has achieved a revenue utilization rate of 100.0% for the quarter and 99.4% year-to-date,
excluding downtime associated with a major third party manufacturer equipment defect.
The Offshore Vigilant has also performed well. The rig commenced its contract in Venezuela
with Gazprom in mid-November 2008 and achieved 100.0% revenue utilization during its first 6
weeks. Further, the Offshore Vigilant has achieved revenue utilization of 99.9% for the quarter
and year-to-date.
Scorpion’s continued focus on recruitment and training has allowed the Company to staff its rigs
with a high caliber of expatriate and national personnel. The commitment of the Scorpion team
to design, implement and execute an effective health, safety, and environmental (HSE)
management system continues to provide value to all company stakeholders. At the end of the
quarter, the Company’s YTD total recordable incident rate (TRIR) was 2.68 and the Rolling 12
month total recordable incident rate was 1.55.
Contracts and Backlog
Currently Scorpion has five ultra premium jackup units working under contract and one jackup
unit preparing for contract. A summary of the current contract status of Scorpion’s units is
provided below.
Rig Location Dayrate Start Date Estimated End Date
Offshore Defender Brazil 185,000 3/1/2008 Feb 2010
Offshore Courageous Malaysia 157,000 1/20/2009 Jan 2012
Offshore Resolute Vietnam 189,000 Aug 2008 Aug 2009
Offshore Vigilant Venezuela 207,990 Nov 2008 Dec 2009
Offshore Intrepid Arabian Gulf 180,000 May 2009 Oct 2012
Offshore Freedom Arabian Gulf 185,000 Jun 2009 May2013
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Construction
Currently, Scorpion has accepted delivery of 6 jackups with 5 operating. The Offshore Freedom
is preparing to begin its contract in the Middle East. One rig, Offshore Mischief, remains under
construction at Lamprell’s shipyard in Sharjah, U.A.E.
All costs are in millions Project Total
Owner Mgmt, Start Estimated
Scheduled Shipyard LeTourneau Furnished up, Other Delivered
Rig Depth Yard Delivery costs costs Equipment costs1 Costs
Offshore Mischief 350 ft. Lamprell Mar-10 176.4 0.0 10.0 14.7 USD 201.1
1
Includes project management, capital interest, and start up fees.
Market Conditions
The effects of the global financial crisis and slow-down in the global economy continue to
negatively impact the oil and gas drilling industry via a decline in drilling activity. In particular,
exploration and production companies are reducing expenditures and amending, delaying,
postponing and in some cases canceling projects in an effort to conserve cash and mitigate the
global financial crisis. International projects have not been affected to the same degree as those
in United States; however, the Company expects utilization will continue to decline and dayrates
on future contracts will be lower than experienced in the previous quarters. The Company is
encouraged that oil prices, the primary driver of international drilling activity, increased in recent
weeks. Low US natural gas prices have resulted in sharp declines in drilling activities in the US
drilling markets. At this time, the company does not have any exposure to the US Gulf of
Mexico market as all of our rigs are deployed internationally.
At the end of the fiscal third quarter 2009, Scorpion’s contract backlog stands at US $821
million. The Company’s marketing strategy of pursuing work with demanding clients and
challenging programs is reflected in this backlog; thereby providing Scorpion the opportunity to
compete for new contracts using metrics other than dayrate alone. Except for the Offshore
Resolute, Scorpion’s fleet is committed through the end of 2009, and 50% of the Company’s
contracted rigs are committed well beyond the year 2011.
The Company is currently pursuing opportunities for the Offshore Mischief, the Company’s only
uncontracted rig, which will be delivered from the Lamprell Shipyard in early 2010 and will be
available to begin a contract in the second quarter of next year. The company remains confident
in its ability to secure further contracts for its high specification jackup fleet.
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Outlook
The global economy is currently in a recession. Many OECD countries are expected to show
negative GDP growth in 2009, resulting in reduced demand for oil and natural gas. The impact of
the reduction in global demand has driven the prices of both oil and natural gas to approximately
one-third of the highs reached in 2008. Lower commodity prices result in oil companies cutting
their budgeted expenditures which has a negative impact on demand for offshore rigs. In
addition, on the rig supply side of the equation, the offshore drilling industry is expected to
deliver an additional 29 new jackup rigs into the market this year and a further 27 in 2010. Of
these 56 rigs, 23 are currently contracted or being delivered to national oil companies. The
current market downturn may result in many existing older rigs not returning to the competitive
fleet in the future. These capacity additions coupled with weakening demand have resulted in
lower rig utilization and dayrates.
Scorpion is, however, well positioned for the rest of 2009 and 2010. We have a contracted
revenue backlog of $821 million corresponding to an average 2 years of contract coverage per
rig. For the remainder of 2009, the Offshore Resolute is our only rig with availability in August
2009 and we are in discussions to extend its current contract with Thang Long in Vietnam.
Revenue and net income are expected to increase over the next two quarters as the Offshore
Intrepid and Offshore Freedom begin operations in Saudi Arabia in May and June 2009
respectively.
As indicated in the Company’s recent Prospectus dated March 30, 2009, Scorpion requires
approximately $40 million in additional funds to finance the start-up of the Offshore Intrepid and
Offshore Freedom charter contracts. In addition, under the Company’s investment program, it is
currently anticipated that there is an unfunded amount of approximately USD 74 million to
complete construction of the Offshore Mischief. Such funds will be required to make payments
scheduled from November 1, 2009 onwards. It is envisaged that the funds will be raised in the
form of bank debt and equity, if necessary, in addition to excess cash flow from operations,
although no decision has been made as to the exact amounts of each element. Such decision will
be made by the Company’s board of directors, taking into account the prevailing financial
market conditions prevailing. Although the Company continues to market the Offshore Mischief
for drilling operations, the Company is also pursuing sale of the rig.
Forward Looking Statements
This report contains forward-looking statements about our business, financial performance and
prospects. Statements about our plans, intentions, expectations, beliefs, estimates, predictions or
similar expressions for the future are forward-looking statements. We cannot assure you that the
outcomes of these forward-looking statements will be realized. Various factors could cause
actual results to differ materially.
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Responsibility Statement
We, the Board of Directors, confirm that the following two statements are true to the best of our
knowledge. The accompanying consolidated financial statements, for the period ending March
31, 2009, provide a true and fair view of the assets, liabilities, financial position, and results of
operations. The management report includes a true and fair review of the important events that
occurred during the period, those events’ impact on the financial statements, and the risks and
uncertainties for the coming months.
May 20, 2009
The Board of Directors
Scorpion Offshore Ltd.
Hamilton, Bermuda
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Scorpion Offshore Ltd. and Subsidiaries
Interim Consolidated Financial Statements
Period and Three and Nine Months Ended March 31, 2009
Contents
Report of Independent Auditor........................................................................................ 8
Interim Consolidated Financial Statements
Consolidated Balance Sheets........................................................................................... 9
Consolidated Statements of Operations ......................................................................... 10
Consolidated Statement of Shareholders’ Equity.......................................................... 12
Consolidated Statements of Cash Flows ........................................................................ 13
Notes to Unaudited Interim Consolidated Financial Statements..................................... 14
7
Scorpion Offshore Ltd. and Subsidiaries
Consolidated Balance Sheets
(In Thousands, except share data)
March 31, June 30,
2009 2008
Assets (Unaudited) (Audited)
Current assets:
Cash and cash equivalents $ 55,183 $ 12,849
Trade receivables, net 48,936 19,256
Inventory 12,790 1,671
Current portion of deferred mobilization expense 19,561 17,364
Prepaid expenses 3,144 5,907
Other current assets 10,158 2,618
Total current assets 149,772 59,665
Properties and equipment, net:
Equipment 771,477 458,316
Construction in progress 228,355 351,482
Net properties and equipment 999,832 809,798
Deferred mobilization expense 11,800 4,211
Other assets 9,382 7,222
Total assets $ 1,170,786 $ 880,896
Liabilities and shareholders’ equity
Current liabilities:
Current portion of long-term debt $ 85,850 $ 17,600
Short-term debt - 44,312
Accounts payable 37,205 51,260
Current portion of deferred revenue 11,075 5,877
Accrued liabilities 21,112 14,731
Total current liabilities 155,242 133,780
Long-term debt 558,450 410,400
Deferred revenue 2,545 2,775
Other long-term liabilities 1,076 1,185
Commitments and contingencies
Shareholders’ equity:
Common stock, $0.002 par value; 150,000,000 shares
authorized, 87,800,409 and 59,610,527 shares issued and
outstanding, respectively 175 119
Additional paid-in capital 485,773 413,570
Receivable for stock issuance - (82,967)
Retained earnings (accumulated deficit) (30,289) 2,267
Accumulated other comprehensive loss (2,186) (233)
Total shareholders’ equity 453,473 332,756
Total liabilities and shareholders’ equity $ 1,170,786 $ 880,896
See accompanying notes.
9
Scorpion Offshore Ltd. and Subsidiaries
Consolidated Statements of Operations
(In Thousands, except per share amounts)
(Unaudited)
Three Months Ended March 31,
2009 2008
Revenues:
Contract drilling $ 67,841 $ 28,480
Total revenues 67,841 28,480
Expenses and other operating items:
Operating costs, excluding depreciation 24,176 7,938
Mobilization expense 7,887 2,098
Asset impairment charge 633 -
Equity placement fees 1,490 -
Stock-based compensation 1,505 678
Debt commitment fees 249 393
Depreciation 7,315 2,344
General and administrative, excluding depreciation 1,622 1,259
Total expenses and other operating items 44,877 14,710
Operating income 22,964 13,770
Interest expense (6,446) (310)
Interest income 34 237
Change in fair value of derivative (1,904) (5,013)
Other income (expense), net 1,726 (50)
Income (loss) before income taxes 16,374 8,634
Income taxes 1,147 1,234
Net income $ 15,227 $ 7,400
Earnings per share:
Basic $ 0.23 $ 0.14
Diluted share 0.22 0.14
Weighted-average number shares outstanding
Basic 67,465 52,573
Diluted share 69,144 53,455
See accompanying notes.
10
Scorpion Offshore Ltd. and Subsidiaries
Consolidated Statements of Operations
(In Thousands, except per share amounts)
(Unaudited)
Nine Months Ended March 31,
2009 2008
Revenues:
Contract drilling $ 167,710 $ 58,612
Total revenues 167,710 58,612
Expenses and other operating items:
Operating costs, excluding depreciation 57,132 16,064
Mobilization expense 18,753 13,146
Asset impairment charge 74,673 -
Equity placement fees 1,490 1,443
Stock-based compensation 3,934 1,641
Debt commitment fees 633 1,487
Depreciation 18,463 4,430
General and administrative, excluding depreciation 4,784 2,612
Total expenses and other operating items 179,862 40,823
Operating income (loss) (12,152) 17,789
Interest expense (12,847) (310)
Interest income 232 720
Change in fair value of derivative (6,421) (10,475)
Other income, net 3,439 162
Income (loss) before income taxes (27,749) 7,886
Income taxes 4,807 2,638
Net income (loss) $ (32,556) $ 5,248
Earnings (loss) per share:
Basic $ (0.53) $ 0.10
Diluted share (0.53) 0.10
Weighted-average number shares outstanding
Basic 61,231 51,803
Diluted share 61,231 52,565
See accompanying notes.
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Scorpion Offshore Ltd. and Subsidiaries
Consolidated Statement of Shareholders’ Equity
(In Thousands, except for share data)
(Unaudited)
Retained Accumulated
Earnings Other
Additional Receivable for (Accumulated Comprehensive
Shares Par Value Paid-In Capital Stock Issuance Deficit) Loss Total
Balance at June 30, 2008 59,610,527 $ 119 $ 413,570 $ (82,967) $ 2,267 $ (233) $ 332,756
Issuance of common stock 27,593,725 55 64,470 82,967 – – 147,492
Employee stock-based compensation,
net of forfeitures and tax 596,157 1 7,733 – – – 7,734
Foreign currency translation – – – – – (133) (133)
Unrealized loss on interest rate swap – – – – – (1,820) (1,820)
Net loss – – – – (32,556) – (32,556)
Balance at March 31, 2009 87,800,409 $ 175 $ 485,773 $ – $ (30,289) $ (2,186) $ 453,473
See accompanying notes.
12
Scorpion Offshore Ltd. and Subsidiaries
Consolidated Statements of Cash Flows
(In Thousands)
(Unaudited)
Nine Months Ended March 31,
2009 2008
Cash flows from operating activities
Net income (loss) for the period $ (32,556) $ 5,248
Adjustments to reconcile net loss to net cash provided by operating activities:
Stock-based compensation 5,222 1,856
Depreciation 18,463 4,430
Amortization of debt issuance costs 2,031 918
Amortization of deferred mobilization costs 18,865 7,975
Loss on mark-to-market derivative 1,432 10,994
Asset impairment charge 74,673 -
Other non-cash items (5) 111
Changes in assets and liabilities:
Increase in trade receivables (29,680) (25,546)
Increase in inventory (11,119) (1,618)
Increase in deferred mobilization expense (27,756) (15,317)
(Increase) decrease in prepaid expenses and other current assets (1,621) 1,054
Increase in other assets (344) (1,112)
Increase in accounts payable 6,455 3,059
Increase in deferred revenue 4,968 7,979
Increase in accrued liabilities 2,311 196
Increase in other liabilities - 1,650
Net cash provided by operating activities 31,339 1,877
Cash flows from investing activities
Purchase of equipment (1,441) (1,076)
Capital expenditures for construction in progress (303,406) (180,961)
Proceeds from sale of equipment 1,653 11
Use of restricted cash - 15,949
Net cash used in investing activities (303,194) (166,077)
Cash flows from financing activities
Proceeds from the issuance of common stock 146,198 48,095
Proceeds from borrowings 296,709 96,000
Change in short-term obligation - 17,782
Repayments of borrowings (124,721) -
Debt issue costs (3,997) (366)
Net cash provided by financing activities 314,189 161,511
Increase (decrease) in cash and cash equivalents 42,334 (2,689)
Cash and cash equivalents at beginning of period 12,849 13,357
Cash and cash equivalents at end of period $ 55,183 $10,668
Cash paid during the period for:
Interest, net of capitalized interest $ 13,473 $ -
Taxes 2,049 1,787
Non-cash transactions during the period:
Common stock issued in lieu of cash for commission fees related to rig construction $ 1,214 $ 7,867
See accompanying notes.
13
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements
For the Three and Nine Months Ended March 31, 2009
1. Summary of Significant Accounting Policies
Nature of Operations
Scorpion Offshore Ltd. (Scorpion) was incorporated in Bermuda with the purpose of
operating a fleet of drilling rigs (Rigs) and specifically to construct, own, operate, lease,
and charter Rigs. Prior to September 2007, Scorpion was considered a development stage
company. Since that point, the Company has begun to operate five ultra premium Rigs in
the international offshore oil and gas industry, is preparing one Rig for contract, and is
constructing one additional Rig.
Basis of Presentation
The interim consolidated financial statements have been prepared for the three and nine
month periods ended March 31, 2009 and the corresponding interim period based upon
the principles of Accounting Principles Board (APB) #28, “Interim Financial Reporting”.
The interim financial information presented in these financial statements are unaudited
and include all known accruals and adjustments that, in the opinion of management, are
necessary for a fair presentation of the consolidated financial position of Scorpion and its
results of operations and cash flows for such periods. All such adjustments are of a
normal and recurring nature, with the exception of the asset impairment discussed in
Impairment of Long Lived Assets below. Results of operations for the interim periods
presented are not indicative of operating results for the full year or any future periods.
The accompanying consolidated financial statements and related footnotes of Scorpion,
its consolidated subsidiaries (collectively, the Company) are presented in U.S. dollars and
have been prepared in accordance with accounting principles generally accepted in the
United States of America and should be read in conjunction with the Company’s annual
financial statements for the fiscal year ended June 30, 2008.
Use of Certain Significant Estimates
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of certain assets and liabilities
and disclosures of contingent assets and liabilities at the date of the financial statements
and the related reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates. Management believes that its estimates
are reasonable.
14
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
Pending Accounting Pronouncements
In April 2009, the Financial Accounting Standards Board (FASB) issued FASB Staff
Position (FSP) SFAS 157-4, “Determining Fair Value When the Volume and Level of
Activity for the Asset or Liability Have Significantly Decreased and Identifying
Transactions That Are Not Orderly.” FSP Statement of Financial Accounting Standards
(SFAS) 157-4 affirms that the objective of fair value when the market for an asset is not
active is the price that would be received to sell the asset in an orderly transaction, and
clarifies and includes additional factors for determining whether there has been a
significant decrease in market activity for an asset when the market for that asset is not
active. FSP SFAS 157-4 requires an entity to base its conclusion about whether a
transaction was not orderly on the weight of the evidence. FSP SFAS 157-4 also
amended SFAS 157, “Fair Value Measurements,” to expand certain disclosure
requirements. This FSP shall be effective for interim and annual reporting periods ending
after June 15, 2009, and shall be applied prospectively. Adoption of this FSP SFAS 157-4
is not expected to have a material impact on the Company’s consolidated financial
statements.
In April 2009, the FASB issued FSP SFAS 107-1 and APB 28-1, “Interim Disclosures
about Fair Value of Financial Instruments.” FSP SFAS 107-1 and APB 28-1 amends
SFAS 107, “Disclosures about Fair Value of Financial Instruments,” to require an entity
to provide disclosures about fair value of financial instruments in interim financial
information and amends APB Opinion No. 28, “Interim Financial Reporting,” to require
those disclosures in summarized financial information at interim reporting periods. Under
FSP SFAS 107-1 and APB 28-1, a publicly traded company shall include disclosures
about the fair value of its financial instruments whenever it issues summarized financial
information for interim reporting periods. In addition, entities must disclose, in the body
or in the accompanying notes of its summarized financial information for interim
reporting periods and in its financial statements for annual reporting periods, the fair
value of all financial instruments for which it is practicable to estimate that value,
whether recognized or not recognized in the statement of financial position, as required
by SFAS 107. This FSP shall be effective for interim reporting periods ending after June
15, 2009. The new interim disclosures required by this FSP will be included in the
Company’s annual financial statements at June 30, 2009.
Cash and Cash Equivalents
The Company considers all highly liquid investments purchased with an original maturity
of three months or less to be cash equivalents. Cash and cash equivalents include cash on
hand, demand deposits with banks, and all highly liquid investments. The Company’s
cash, cash equivalents, and short-term investments are subject to potential credit risk. The
Company’s cash management and investment policies restrict investments to low-risk,
15
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
highly liquid securities. The Company excludes from its definition of Cash and Cash
Equivalents, deposits and other amounts that are considered restricted for specific uses.
Fair Value of Financial Instruments
On July 1, 2008, we adopted, without material impact on our consolidated financial
statements, the provisions of Statement of SFAS No. 157, Fair Value Measurement , for
our financial assets and liabilities with respect to which we have recognized or disclosed
at fair value on a recurring basis. In February 2008, the FASB issued FSP No. 157-2,
Effective Date of FASB Statement No. 157, which delays the effective date for
nonfinancial assets and non-financial liabilities to fiscal years beginning after
November 15, 2008, except for items that are measured at fair value in the financial
statements on a recurring basis at least annually. Beginning July 1, 2009, we will adopt
the provisions for nonfinancial assets and nonfinancial liabilities that are not required or
permitted to be measured at fair value on a recurring basis. We do not expect the
provisions of SFAS No. 157 related to these items to have a material effect on our
consolidated financial statements.
In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial
Assets and Financial Liabilities — Including an amendment of FASB Statement No. 115.
SFAS No. 159 permits entities to choose to measure many financial instruments and
certain other items at fair value. Unrealized gains and losses on items for which the fair
value option has been elected will be recognized in earnings at each subsequent reporting
date. SFAS No. 159 is effective for fiscal years beginning on or after January 1, 2008.
The adoption of the provisions of SFAS No. 159 did not have a material impact on our
financial statements.
The Company’s financial instruments consist of cash and cash equivalents, receivables,
inventory, payables, debt and interest rate swaps. The Company believes that the carrying
values of cash and cash equivalents, receivables, inventory and payables on the
accompanying consolidated balance sheet approximate their fair values due to the short-
term maturity of these financial instruments. The Company’s debt is at a floating rate and
therefore its fair value approximates the carrying value on the accompanying
consolidated balance sheet.
The Company is subject to the risk of variability in interest payments on our floating rate
debt. Pursuant to portions of the our debt, the Company entered into floating-to-fixed
interest rate swaps which are intended to manage a portion of the cash flow risk related to
the Company’s debt. See Footnote 7 for additional information.
Inventory
Inventory consists of spare rig parts and supplies for use in operations. Inventory is
stated at average cost.
16
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
Property and Equipment
Property and equipment are valued at historical cost. Additions and improvements to the
assets under construction are capitalized. Construction in progress also includes all
contractual payments classified as prepayments under the construction contracts with the
shipyards. Drilling equipment and facilities will be depreciated using the straight-line
method over the estimated remaining useful lives as of the in-service date or date of
major refurbishment. Estimated useful lives of the Company’s drilling equipment are
expected to range from 3 to 30 years. Other property and equipment is depreciated using
the straight-line method over useful lives ranging from 3 to 5 years.
Scheduled maintenance of equipment and overhauls will be performed on the basis of
number of hours operated in accordance with the Company’s preventative maintenance
program. Repair and maintenance costs will generally be charged to expense as incurred;
however, overhauls related to large-scale maintenance projects will be capitalized and
depreciated over the estimated useful life.
Impairment of Long-Lived Assets
In compliance with Statement of SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets, the recoverability of the carrying values of property and
equipment will be assessed at minimum annually or whenever, in management’s
judgment, events or changes in circumstances indicate that the carrying value of such
assets may not be recoverable based on estimated future cash flows. If this assessment
indicates that the carrying value will not be recoverable, as determined based on
undiscounted cash flows over the remaining useful lives, an impairment loss will be
recognized. The impairment loss will equal the excess of the carrying value over the fair
value of the asset. The fair value of the asset will be based on prices of similar assets, if
available, or discounted cash flows.
During the second quarter of 2009, the Company was unable to secure the necessary
financing for the construction and delivery of the semisubmersible due to the change in
the global credit markets and therefore, has subsequently terminated the related
construction contracts. The Company believes that the carrying amount of the
semisubmersible was no longer recoverable; therefore, the value of the semisubmersible
as of March 31, 2009 was impaired. The impact for the three and nine months ended
March 31, 2009 is $633,000 and $74.7 million, respectively.
17
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
Revenue and Cost Recognition
The Company provides fully staffed Rigs to its customers primarily on a dayrate basis.
Dayrate contracts will be either for a specified period of time or for the time required to
drill a specified well or number of wells. Revenues and expenses from dayrate drilling
operations, which are classified under contract drilling services, are recognized on a per-
day basis as the work progresses.
The Company may receive lump-sum fees for the mobilization of equipment and
personnel. Mobilization fees received and costs incurred to mobilize a Rig from one
market to another are recognized over the initial term of the related drilling contract.
Costs incurred and otherwise committed to relocate Rigs when a contract has not been
secured are expensed as incurred. Lump-sum payments received from customers relating
to specific contracts are deferred and amortized to income over the term of the drilling
contract. The Company will record or has recorded reimbursements from customers for
“out-of-pocket” expenses as revenues and the related costs as direct operating expenses.
For the nine month period ended March 31, 2008 the Company expensed $5.2 million of
mobilization costs which were committed prior to securing a contract. For the three and
nine months ended March 31, 2009 and 2008, the Company amortized $7.9 million,
$18.9 million, $2.1 million and $8.0 million, respectively, of deferred mobilization costs,
and deferred $15.7 million, $28.6 million, $9.5 million and $15.7 million, respectively, of
mobilization costs.
Income Taxes
The Company follows the liability method of accounting for income taxes in accordance
with SFAS No. 109, Accounting for Income Taxes. Under this method, deferred income
taxes are recorded based upon the differences between the financial reporting and tax
basis of assets and liabilities and are measured using the enacted tax rates and laws that
will be in effect when the underlying assets or liabilities are recovered or settled.
Scorpion and the majority of its subsidiaries are Bermuda companies, and Bermuda does
not impose corporate income taxes. Scorpion Offshore, Inc., a wholly owned subsidiary
of Scorpion, is a U.S. company. Accordingly, the Company has provided for current and
deferred U.S. and state income taxes on the operations of this company.
Certain Scorpion’s subsidiaries are subject to income tax in the jurisdictions in which the
Company operates its Rigs. Accordingly, the Company has provided for current and,
when applicable, deferred income taxes on the operations of these subsidiaries.
18
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
Receivables and Concentration of Credit Risk, Concentration of Customers
As the Company currently has five customers, its credit risk is concentrated as such. As
additional rigs are delivered and begin operating, this credit risk will be proportionally
mitigated. The Company evaluates the creditworthiness of its customers’ financial
condition and continually monitors its credit risk.
Allowances for Doubtful Accounts
The Company will maintain allowances for doubtful accounts for estimated losses
resulting from the inability of the Company’s customers to make required payments.
Management of the Company monitors the accounts receivable from its customers to
ensure amounts are collectable. An allowance for doubtful accounts is established based
on reviews of individual customer accounts, recent loss experience, current economic
conditions, and other pertinent factors. Accounts deemed uncollectible are charged to the
allowance. There was no allowance at March 31, 2009 or June 30, 2008.
Insurance
The Company has purchased insurance for the first six Rigs, which was effective upon
delivery of each of the Rigs from the shipyard. During the construction of the
Company’s Rigs, the shipyard is responsible for insuring both the construction in
progress and any delivered owner-furnished equipment (OFE). When required, the
Company procures insurance on the OFE during shipment from the vendor to the
shipyard. Prepaid insurance is amortized over the terms of the Company’s insurance
policies.
Net Income (Loss) Per Share
The Company computes and presents earnings per share in accordance with SFAS No.
128, Earnings Per Share. Net income (loss) per share has been computed on the basis of
the weighted-average number of ordinary shares and, where dilutive, ordinary share
equivalents outstanding during the indicated periods. In the periods, the weighted-average
number of common shares outstanding was calculated utilizing an appropriate fraction of
days shares were outstanding. For the nine months ended March 31, 2009, basic and
diluted shares outstanding are the same due to the anti-dilutive nature resulting from
losses. For the three months ended March 31, 2009 and three and nine months ended
2008, 1,679,000, 882,000 and 763,000 shares, respectively, of unvested restricted stock
were included in the diluted earning per share computation due to their dilutive effect.
19
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
Debt Issuance Costs
Debt issuance costs are being amortized over the term of the debt using the effective
interest rate method.
Share-Based Compensation
SFAS No. 123 (SFAS 123(R)), “Share-Based Payment”, became effective for the
Company July 1, 2005. Scorpion adopted the provisions of SFAS 123(R) on February 6,
2006, the date of our first grant of restricted stock awards to employees. Accordingly,
compensation costs for all share-based awards to employees and directors are measured
based on the grant date fair value of those awards and recognized over the period during
which the employee is required to perform service in exchange for the award (generally
over the vesting period of the award). Excess tax benefits, as defined by SFAS 123(R),
will be recognized as an addition to additional paid-in capital.
Share-based compensation for the restricted stock awards was determined based on the
market price of our stock at the date of grant applied to the total number of shares that
were ultimately expected to vest. Restricted stock compensation is amortized under the
straight-line attribution method from the date of award to and including the final vesting
date. Although share-based compensation expense recognized in the consolidated
financial statements is based on awards ultimately expected to vest, the Company has not
made any adjustments for estimated forfeitures as it does not have an adequate basis for
assuming any forfeitures. SFAS 123(R) requires forfeitures to be estimated at the time of
grant and revised, if necessary, in subsequent periods if actual forfeitures differ from
those estimates.
As of March 31, 2009, the total unrecognized compensation cost related to unvested
shares was $12.5 million, which is expected to be recognized on a straight line basis over
the remaining period, which is approximately 1.6 years. To date, the Company has
experienced forfeitures of 281,350 unvested shares.
20
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
2. Liquidity
The Company does not yet have sufficient financing to meet all its future commitments
related to its rig construction program. Currently, this unfunded commitment totals $74
million and is specific to the Offshore Mischief. The Company expects to raise the
necessary financing with debt and equity, if necessary. Under the construction contract as
amended by Addendum No. 12 dated May 15, 2009, the Company’s next installment
totaling $26 million is due on November 1, 2009. If the installment is not paid within the
30 day cure period, the builder is entitled to cancel the contract, and shall be entitled to
claim compensation for any and all losses. Our carrying value of the rig under
construction is $98 million at March 31, 2009. In the event the Company is unable to
execute on this plan, this creates a risk as to the recoverability of some portion of
amounts reported as construction in progress for the Offshore Mischief.
3. Property and Equipment
Property and equipment consist of the following, (in thousands):
March 31, June 30,
2009 2008
Rig and rig equipment $ 796,550 $ 464,918
Software 1,409 1,397
Equipment 127 167
Construction in progress 228,355 351,482
1,026,441 817,964
Accumulated depreciation (26,609) (8,166)
Net properties and equipment $ 999,832 $ 809,798
Depreciation expense of property and equipment for the three and nine months ended
March 31, 2009 and 2008 was $7.3 million, $18.5 million, $2.3 million and $4.4 million,
respectively.
The Company capitalizes project management costs to the Rigs under construction. This
includes general and administrative costs and deferred compensation related to
supporting the Rig construction (see Footnote 1 for more detail). For the three and nine
months ended March 31, 2009 and 2008, total capitalized project management costs were
$4.4 million, $13.6 million, $2.8 million and $9.9 million, respectively.
The Company capitalizes interest to the construction of the Rigs. For the three and nine
months ended March 31, 2009 and 2008, the Company capitalized interest of $3.3
million, $17.0 million, $10.3 million and $29.1 million, respectively.
21
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
4. Commitments and Contingencies
At March 31, 2009, the Company, through its subsidiaries, has two Rigs under
construction at the Lamprell Energy Ltd. (Lamprell) shipyard in the United Arab
Emirates (Lamprell Construction Contracts). The following table summarizes the fixed
and turnkey price contracts (in millions):
Estimated Delivery Turnkey Incurred to Remaining
Rig Name Shipyard Date Price Date Commitment
Offshore
Freedom Lamprell April 27, 2009 $170.4 (a) $106.3 $64.1 (b)
Offshore
Mischief Lamprell March 31, 2010 $176.4 (a) $84.0 $92.4
(a) Turnkey price amounts do not include project management costs or capitalized interest. In
addition, the turnkey price amounts have been updated to include change orders for Rig
modifications.
(b) $63.0 million was due upon delivery of the Offshore Freedom from Lamprell and paid on April
29, 2009. This final shipyard payment is not reflected as an accrual in the March 31, 2009
financials.
22
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
Rig Construction Contract Change Orders and Contract Amendments
The change orders as of March 31, 2009 by Rig, which are included in the fixed price
amounts in the commitments and contingencies table above, are summarized as follows
(in thousands):
Amount
Offshore Freedom 2,208
Offshore Mischief 464
Total change orders $ 2,672
Termination of the Semisubmersible Construction and Equipment Contracts
In January 2009, Scorpion negotiated the termination of the semisubmersible
construction contract (Semi Construction Contract) with Keppel FELS Limited (Keppel),
and the equipment contracts with both NOV and Cameron International Corp.
(Cameron). The amicable termination of the contracts releases Scorpion of any further
commitments to Keppel, NOV and Cameron. Scorpion was to use its best efforts to
secure a suitable party through March 31, 2009 to take over Scorpion’s rights and
obligations under the Semi Construction Contract. The Company does not expect to
incur any additional costs above $74.6 million.
5. Stockholders’ Equity
The Company has raised approximately $453.3 million in cash from common stock
issuances since inception.
23
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
The following table summarizes the activity of common stock issuances:
Common Stock Proceeds
Issuance Date Shares Issued (in millions)
April 15, 2005 1,890,000 $ 3.8
June 22, 2005 5,000,000 $ 10.0
June 30, 2005 6,000,000 $ 12.0
August 15, 2005 175,000 $ 0.4
August 30, 2005 17,980,385 $ 111.1
November 3, 2005 8,970,000 $ 52.8
November 30, 2005 65,000 $ 0.4
December 28, 2005 750,000 $ 5.5
January 13, 2006 3,000,000 $ 25.3
September 25, 2006 22,002 $ 0.2 (a)
October 17, 2006 3,500,000 $ 35.2
December 12, 2006 6,850 $ 0.1 (a)
January 31, 2007 6,850 $ 0.1 (a)
March 31, 2007 6,850 $ 0.1 (a)
May 31, 2007 81,433 $ 1.0 (b)
June 30, 2007 6,850 $ 0.1 (a)
July 24, 2007 3,800,000 $ 48.1
July 31, 2007 582,649 $ 7.4 (b)
September 30, 2007 4,725 $ 0.1 (a)
December 12, 2007 37,485 $ 0.5 (b)
December 31, 2007 5,371 $ 0.1 (a)
March 31, 2008 5,371 $ 0.1 (a)
June 27, 2008 5,400,000 $ 85.5 (c)
June 30, 2008 5,371 $ 0.1 (a)
September 30, 2008 4,921 $ 0.1 (a)
November 22, 2008 247,816 $ 0.4 (b)
December 31, 2008 5,097 $ - (a)
March 4, 2009 27,027,027 $ 63.2
March 10, 2009 303,767 $ 0.8 (b)
March 31, 2009 5,097 $ - (a)
Total 87,895,917 $ 464.5
(a) Director compensation in lieu of cash compensation for services rendered. For additional
information, see Footnote 11.
(b) Commission payment in lieu of cash compensation for consulting services rendered in connection
with the construction of the Rigs.
(c) Proceeds were received on July 3, 2008.
24
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
Outstanding shares also include restricted stock issued and outstanding under the
Company’s incentive stock plan (see Footnote 8). Restricted stock issuances are
registered in the holders name with the Company’s stock registrar and these shares
include voting and dividend rights.
6. Indebtedness
Short-Term Debt
Bridge Loan – Scorpion Rigs Ltd.
On December 12, 2007 Scorpion, through its wholly owned subsidiary Scorpion Rigs
Ltd., entered into a $20.0 million facility (the Bridge Loan), which was subsequently
amended on April 8, 2008 to $40.0 million with an interest rate of 7.72% per annum and
a maturity date of August 10, 2008. The funds from the Bridge Loan were used to fund
the progress payments to Lamprell for the construction of the Offshore Mischief. On July
3, 2008, the bridge loan was repaid and cancelled.
Bridge Loan – Scorpion Deepwater Ltd.
On July 14, 2008, Deepwater, entered into an $81.0 million facility (the Semisubmersible
Bridge Loan), with an interest rate of LIBOR + 1% per annum and a maturity date of
October 13, 2008, with an option to extend for 90 days, which was exercised on
September 18, 2008, extending the maturity date to January 14, 2009, which was
subsequently mutually extended until February 13, 2009. The funds from the
Semisubmersible Bridge Loan were used to fund the progress payments to Keppel and
the equipment vendors (see Footnote 4), for the construction of the deepwater
semisubmersible.
The Semisubmersible Bridge Loan, through a wholly owned subsidiary, Scorpion
Freedom Ltd., was refinanced effective February 13, 2009 with long term debt (Freedom
Term Loan Tranche B).
Short-Term Financing
From time to time, Scorpion, through a wholly owned subsidiary enters into short-term
financing arrangements to fund annual insurance premiums. As of March 31, 2009, no
debt was outstanding under this arrangement.
25
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
Long-Term Debt
Long-term debt consisted of the following (in thousands):
March 31, 2009 June 30, 2008
st
1 Lien Term Loan $ 156,800 $ 130,000
1st Lien Revolving Credit Facility 38,500 14,000
nd
2 Lien Loan 225,000 225,000
Intrepid Term Loan 95,000 59,000
Intrepid Revolving Credit Facility 1,000 -
Intrepid Revolving Credit Facility Tranche B 24,000 -
Freedom Term Loan Tranche A 30,000 -
Freedom Term Loan Tranche B 74,000 -
Total debt 644,300 428,000
Current portion of long-term debt 85,850 17,600
Long-term debt $ 558,450 $ 410,400
1st Lien Financing
On November 30, 2005 Scorpion, through its wholly owned subsidiary Drilling, entered
into $220 million senior secured credit facilities (the 1st Lien Credit Facilities). The 1st
Lien Credit Facilities are comprised of a $170 million senior secured delayed-draw term
loan facility (the 1st Lien Term Loan ) to be used for progress payments under the
AmFELS Construction Contracts, and a $50 million senior secured revolving credit
facility (the 1st Lien Revolving Credit Facility) to be used for general corporate purposes.
In no event shall more than $25 million of the 1st Lien Revolving Credit Facility be
utilized for amounts owing to effect the Rig constructions and/or financings. The 1st Lien
Credit Facilities mature on September 5, 2013 (the Maturity Date). Scorpion
unconditionally and irrevocably guarantees Drilling’s obligations under the Credit
Facilities.
The 1st Lien Term Loan was available on a delayed-draw basis during the construction
period and amortizes with 19 consecutive quarterly repayments of $4.4 million
commencing September 30, 2008, down to a balloon of $86.4 million due on the
Maturity Date. The 1st Lien Revolving Credit Facility was progressively available after
delivery of the second Rig and is due in full on the Maturity Date. As of March 31, 2009,
the Company has $10.6 million in letters of credit outstanding under these 1st Lien Credit
Facilities.
26
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
The interest rate for the 1st Lien Credit Facilities is LIBOR plus 2.125% until the delivery
of the third Rig, which occurred on April 25, 2008, after which the interest rate reduces to
LIBOR plus 1.5% to 1.75% based on certain conditions being met. A commitment fee
was due on the unutilized portion of the 1st Lien Credit Facilities from the closing date
calculated at a rate of 1.00% until delivery of the third Rig, reducing to 0.70% thereafter.
The 1st Lien Credit Facilities are secured by first priority mortgages on the first four Rigs,
assignments of earnings and insurances on these rigs, including term contracts,
assignments of the AmFELS Construction Contracts, including stock pledges on Drilling
and its subsidiaries.
The 1st Lien Credit Facilities contain usual and customary covenants for facilities of this
nature. Included in the covenants are financial measures around leverage, minimum cash
balances, working capital, interest coverage and collateral maintenance.
The 1st Lien Credit Facilities contain a “change of control” clause, under which the
lenders may require the facilities to be repaid in the event that a person (or group of
related persons) become the beneficial owner of 40% or more of the Company’s shares or
voting rights and in certain other situations.
2nd Lien Financing
On November 8, 2005 (Effective Date) Scorpion, through its wholly owned subsidiary,
Drilling, entered into a $225 million second lien senior secured term loan (the 2nd Lien
Loan). The 2nd Lien Loan is subordinated to the 1st Lien Credit Facilities, both in terms
of the priority under the mortgages and through an intercreditor agreement executed in
connection with the financing. Scorpion unconditionally and irrevocably guarantees
Drilling’s obligations under the 2nd Lien Loan.
The 2nd Lien Loan bears interest at LIBOR plus 750 basis points and matures on May 8,
2014. These notes are callable after four years from execution at a price of 102, after five
years from the Effective Date at a price of 101 and thereafter at par. The 2nd Lien Loan
is secured by second priority mortgages on the first four Rigs, assignments of earnings
and insurances on these Rigs, including term contracts, assignments of the AmFELS
Construction Contracts, including stock pledges on Drilling and its subsidiaries.
The 2nd Lien Loan contains usual and customary covenants that are similar to the 1st
Lien Credit Facilities.
The 2nd Lien Loan contains a “change of control” clause, under which the lenders may
require the facility to be repaid in the event that a person (or group of related persons)
become the beneficial owner of 50% or more of the Company’s shares or voting rights
and in certain other situations.
27
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
Intrepid Term Loan and Revolver
On April 12, 2007 Scorpion, through its wholly owned subsidiary Scorpion Intrepid Ltd.,
entered into $105 million senior secured credit facilities (the Intrepid Facilities). The
Intrepid Facilities are comprised of a $95 million senior secured delayed-draw term loan
facility (the Intrepid Term Loan Facility) to be used for progress payments under the
AmFELS Construction Contracts, and a $10 million senior secured revolving credit
facility (the Intrepid Revolving Credit Facility) to be used for general corporate purposes.
On February 19, 2009 the Intrepid Revolving Credit Facility was amended to increase its
availability by $24.0 million reflected as Intrepid Revolving Credit Facility Tranche B.
The Intrepid Facilities mature on January 23, 2014, the fifth anniversary of the
completion and delivery of the Offshore Intrepid. The Intrepid Revolving Credit Facility
Tranche B matures on or before August 31, 2009. In addition, the interest rate for the
Intrepid Revolving Credit Facility is LIBOR plus 3%. Scorpion unconditionally and
irrevocably guarantees Scorpion Intrepid Ltd’s obligations under the Intrepid Facilities.
The Intrepid Term Loan Facility was available on a delayed-draw basis during the
construction period and amortizes with 10 consecutive bi-annual repayments of $5.25
million commencing July 24, 2009, six months after delivery of the Offshore Intrepid,
down to a balloon of $42.5 million due on the Maturity Date. The Intrepid Revolving
Credit Facility is progressively available after delivery of the Rig and is due in full on the
Maturity Date. As of March 31, 2009, the Company has $9.0 million in letters of credit
outstanding under these Intrepid Facilities.
The interest rate for the Intrepid Facilities is LIBOR plus 3.0%. A commitment fee is due
on the unutilized portion of the Intrepid Term Loan Facility from the closing date
calculated at a rate of 0.75% and on the Intrepid Revolving Credit Facility from
completion and delivery of the Rig at a rate of 0.75%.
The Intrepid Facilities are secured by a first priority mortgage on the Offshore Intrepid,
assignments of earnings and insurances and a stock pledge on Scorpion Intrepid Ltd.
The Intrepid Facilities contain usual and customary covenants for facilities of this nature.
Included in the covenants are financial measures around leverage, minimum cash
balances, interest coverage, working capital and collateral maintenance. The working
capital covenant was waived for the period March 31, 2009 until September 29, 2009.
Management believes that it will be compliant with all covenants in future periods
beginning September 30, 2009.
The Intrepid Facilities contain a “change of control” clause, under which the lenders may
require the facilities to be repaid in the event that the Company is no longer listed on the
Oslo stock exchange or any other major stock exchange.
28
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
Freedom Term Loan
On January 20, 2009 Scorpion, through its wholly owned subsidiary Scorpion Freedom
Ltd., entered into $169 million senior secured credit facilities (the Freedom Term Loan
Facility). The Freedom Term Loan Facilities are comprised of two tranches; a
$95 million tranche A and a $74 million tranche B. Freedom Term Loan Tranche A is to
be used for progress payments under the Offshore Freedom construction contracts at
Lamprell and Freedom Term Loan Tranche B was used to refinance the Semisubmersible
Bridge Loan. Freedom Term Loan Tranche A matures on April 27, 2014. Freedom Term
Loan Tranche B matures on June 30, 2012. In the event Scorpion raises new equity, a
portion of Freedom Term Loan Tranche B repayment is accelerated. Scorpion
unconditionally and irrevocably guarantees Scorpion Freedom Ltd.’s obligations under
the Facilities.
Freedom Term Loan Tranche A is available on a delayed-draw basis during the
construction period and amortizes with 18 consecutive quarterly installments each in the
sum of $2,375,000 and a balloon payment of $52,250,000, the first installment falling due
on October 27, 2009.
The interest rate for Freedom Term Loan Tranche A ranges from LIBOR plus 3.5%
reducing to LIBOR plus 3.0% upon delivery of the Offshore Freedom and with an
Acceptable Drilling Contract. The interest rate for Freedom Term Loan Tranche B is
LIBOR plus 3.5%. A success fee in the form of 1 million Scorpion shares with a strike
price of NOK 25.00 exercisable until 31 December 2011 is also applicable. See footnote
7 for additional information regarding this instrument. A commitment fee is due on the
unutilized portion of the Freedom Term Loan Facilities from the closing date calculated
at a rate of 30% of the aforementioned margin.
The Freedom Term Loan Facilities are secured by first priority mortgages on the
Offshore Freedom, assignments of earnings and insurances, including term contracts, and
a stock pledge on Scorpion Freedom Ltd and a second priority mortgage on the Offshore
Intrepid, assignments of earnings and insurances, including term contracts of the
Offshore Intrepid.
The Freedom Term Loan Facilities contain usual and customary covenants for facilities
of this nature. Included in the covenants are financial measures around leverage,
minimum cash balances, interest coverage and collateral maintenance.
29
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
Future Maturities
Future maturities of long-term debt were as follows at March 31, 2009 (in millions):
Current Maturities of Long-Term
Debt at March 31, Amount
2009 $ 85.9
2010 61.6
2011 46.6
2012 34.3
2013 190.9
Thereafter 225.0
Total $ 644.3
7. Derivatives and Financial Instruments
Interest Rate Swap on 2nd Lien Loan
The Company is subject to the risk of variability in interest payments on its floating rate
debt. Pursuant to the 2nd Lien Loan, the Company entered into a floating-for-fixed
interest rate swap with a monthly notional amount of $10 million in December 2005,
increasing to a monthly notional amount of $225 million in February 2007. The monthly
notional amount is $225 million from February 2007 through maturity in November
2009. The interest rate swap is intended to manage a portion of the cash flow risk related
to this debt. Under the terms of the swap, the Company has agreed to pay the
counterparty a fixed monthly interest rate equal to 4.595%, and the Company will receive
one-month LIBOR on the notional amounts. This interest rate swap provides protection
up to a one-month LIBOR threshold rate of 6.25%, where after Scorpion pays one-month
LIBOR. Through March 31, 2009, the Company has made net payments of $3.6 million
under the interest rate swap.
As of March 31, 2009, the Company has not designated this swap as a hedging
instrument as defined by SFAS No. 133, Accounting for Derivative Instruments and
Hedging Activities. Accordingly, the changes in fair value of the interest rate swap will
be recorded in earnings. The Company included the changes in the fair value of the
interest rate swap of $0.7 million, ($1.6 million), ($4.7 million) and ($11.0 million) in our
consolidated statements of operations for the three and nine months ended March 31,
2009 and 2008, respectively. The fair value of the interest rate swap at March 31, 2009
was $6.3 million and is recorded in accrued liabilities.
30
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
Interest Rate Swap on 1st Lien Term Loan
Pursuant to the 1st Lien Term Loan, the Company entered into a floating-for-fixed interest
rate swap with a monthly notional amount of $20 million on December 20, 2007. The
interest rate swap is intended to manage a portion of the cash flow risk related to the
Company’s 1st Lien Term Loan through December 21, 2009. Under the terms of the
swap, the Company has agreed to pay the counterparty a fixed monthly interest rate equal
to 3.91%, and the Company will receive three-month LIBOR on the notional amount.
Through March 31, 2009, the Company has made net payments of $229,000 under the
interest rate swap.
As of March 31, 2009, the Company has designated this swap as a hedging instrument as
defined by SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities.
Accordingly, the changes in fair value of the interest rate swap was recorded in
accumulative other comprehensive income. The Company included the changes in the
fair value of the interest rate swap of ($221,000) in our consolidated statement of
shareholders equity for the period ended March 31, 2009. The fair value of the interest
rate swap at March 31, 2009 was $400,000 and is recorded in accrued liabilities. Hedge
effectiveness is measured quarterly based on the relative cumulative changes in fair value
between derivative contracts and the hedge item over time. Any change in fair value
resulting from ineffectiveness is recognized immediately in earnings. We did not
recognize a gain or loss due to hedge ineffectiveness in our Consolidated Statements of
Operations for the period ended March 31, 2009.
Interest Rate Swaps on Intrepid Term Loan
Pursuant to the Intrepid Term Loan, the Company entered into two floating-for-fixed
interest rate swaps on January 23, 2009, each with quarterly notional amounts of 40% of
the projected loan balance over the next three years. The interest rate swaps are intended
to manage a portion of the cash flow risk related to the Company’s Intrepid Term Loan
through January 23, 2012. Under the terms of the swap, the Company has agreed to pay
the counterparty a fixed quarterly interest rate equal to 1.955% (resulting in 4.955% fixed
interest costs), and the Company will receive three-month LIBOR on the notional
amount. To date, the Company has not received nor made any payments.
The Company has designated these swaps as hedging instruments as defined by SFAS
No. 133, Accounting for Derivative Instruments and Hedging Activities. Accordingly,
the changes in fair value of the interest rate swaps was recorded in accumulative other
comprehensive income. The Company included the changes in the fair value of the
interest rate swaps of ($367,000), respectively, in our consolidated statement of
shareholders equity for the period ended March 31, 2009. The fair value of the interest
rate swaps at March 31, 2009 were $367,000, respectively, with $493,000 and $242,000
being recorded as accrued liabilities and other long-term liabilities, respectively. Hedge
31
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
effectiveness is measured quarterly based on the relative cumulative changes in fair value
between derivative contracts and the hedge item over time. Any change in fair value
resulting from ineffectiveness is recognized immediately in earnings. We did not
recognize a gain or loss due to hedge ineffectiveness in our Consolidated Statements of
Operations for the period ended March 31, 2009.
Interest Rate Swap on Freedom Credit Facility Tranche A
Pursuant to the Freedom Credit Facility, the Company entered into a floating-for-fixed
interest rate swap on January 23, 2009, with quarterly notional amounts of 80% of the
projected Tranche A balance over the next three years. The interest rate swap is intended
to manage a portion of the cash flow risk related to the Company’s Freedom Credit
Facility Tranche A through January 23, 2012. Under the terms of the swap, the Company
has agreed to pay the counterparty a fixed quarterly interest rate equal to 1.915%
(resulting in 4.915% fixed interest costs), and the Company will receive three-month
LIBOR on the notional amount. To date, the Company has not received nor made any
payments.
The Company has designated this swap as a hedging instrument as defined by SFAS No.
133, Accounting for Derivative Instruments and Hedging Activities. Accordingly, the
changes in fair value of the interest rate swap was recorded in accumulative other
comprehensive income. The Company included the changes in the fair value of the
interest rate swap of ($630,000) in our consolidated statement of shareholders equity for
the period ended March 31, 2009. The fair value of the interest rate swap at March 31,
2009 was $630,000, with $423,000 and $207,000 being recorded as accrued liabilities
and other long-term liabilities, respectively. Hedge effectiveness is measured quarterly
based on the relative cumulative changes in fair value between derivative contracts and
the hedge item over time. Any change in fair value resulting from ineffectiveness is
recognized immediately in earnings. We did not recognize a gain or loss due to hedge
ineffectiveness in our Consolidated Statements of Operations for the period ended March
31, 2009.
Interest Rate Swap on Freedom Credit Facility Tranche B
Pursuant to the Freedom Credit Facility, the Company entered into a floating-for-fixed
interest rate swap on February 13, 2009, with quarterly notional amounts of 80% of the
projected Tranche B balance over the next three years. The interest rate swap is intended
to manage a portion of the cash flow risk related to the Company’s Freedom Credit
Facility Tranche B through February 13, 2012. Under the terms of the swap, the
Company has agreed to pay the counterparty a fixed quarterly interest rate equal to 1.73%
(resulting in 5.230% fixed interest costs), and the Company will receive three-month
LIBOR on the notional amount. To date, the Company has not received nor made any
payments.
32
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
The Company has designated this swap as a hedging instrument as defined by SFAS No.
133, Accounting for Derivative Instruments and Hedging Activities. Accordingly, the
changes in fair value of the interest rate swap was recorded in accumulative other
comprehensive income. The Company included the changes in the fair value of the
interest rate swap of ($234,000) in our consolidated statement of shareholders equity for
the period ended March 31, 2009. The fair value of the interest rate swap at March 31,
2009 was $234,000, with $182,000 and $52,000 being recorded as accrued liabilities and
other long-term liabilities, respectively. Hedge effectiveness is measured quarterly based
on the relative cumulative changes in fair value between derivative contracts and the
hedge item over time. Any change in fair value resulting from ineffectiveness is
recognized immediately in earnings. We did not recognize a gain or loss due to hedge
ineffectiveness in our Consolidated Statements of Operations for the period ended March
31, 2009.
Equity Derivative
In connection with the Freedom Term Loan Facilities, the Company entered into a letter
of agreement (Equity Derivative) with Bayerische Hypo-und Vereinsbank AG, the lead
arranger of the aforementioned borrowing, to pay them a fee based upon the Company’s
future equity share prices. Specifically, Bayerische Hypo-und Vereinsbank AG has the
right to receive a cash payment calculated by multiplying up to 1 million equity shares by
the market price of the Company’s equity shares on the “exercise date” less the exercise
price per share of 25.00 NOK. The exercise dates are semi annually ending December
2011.
The fair value of the Equity Derivative at the date of the borrowing was $781,000 and has
been deferred as debt issue costs which will be amortized into interest expense over the
term of Freedom Term Loan Tranche A. In addition, the letter agreement meets the
definition of a derivative under SFAS 133, Accounting for Derivative Instruments and
Hedging Activities, and accordingly, was initially recorded in other long term liabilities at
its fair value, with subsequent changes in the fair value recognized in earnings. The fair
value of the Equtiy Derivative at March 31, 2009 was $575,000 and is recorded as other
long-term liabilities.
33
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
Fair Value of Financial Instruments
The following table presents the carrying amount and estimated fair value of our financial
instruments at March 31, 2009, recognized at fair value on a recurring basis (in
thousands):
Estimated Fair Value Measures
Significant
Quoted Prices Other Significant
in Active Observable Unobservable
Carrying Market Inputs Inputs
Amount (Level 1) (Level 2) (Level 3)
Derivative Instruments:
Interest rate swaps ($8,343) $- ($8,343) $-
Equity Derivative ($575) $- ($575) $-
The equity derivative and interest rate swap instruments have been valued by independent
third parties using a combined income and market based valuation methodology based on
forward exchange curves and credit. Our cash and cash equivalents, accounts receivable
and accounts payable are by their nature short-term. As a result, the carrying value
included in the accompanying consolidated balance sheets approximate fair value.
34
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
8. Stock Incentive Plan
The Company has a stock incentive plan (the Plan) which provides for the granting of
restricted stock to key employees and directors. Employee shares generally vest in thirds
over a three year period and director shares vest over a two year period. These shares are
subject to acceleration of the vesting periods in the event of a change of control of the
Company or the termination of the recipient’s employment with the Company at the
convenience of the Company. As of March 31, 2009, the Plan has 95,509 shares
available for future issuance.
The following table summarizes the activity of our restricted stock plan:
Shares
Non-vested restricted stock:
Outstanding as of June 30, 2008 1,626,701
Granted 598,507
Vested 770,784
Forfeitures 2,350
Outstanding as of March 31, 2009 1,452,074
Restricted stock vested as of March 31, 2009 1,452,417
Fair value of restricted stock at date of grant during the nine months
ended March 31, 2009 $ 8.6
Fair value of restricted stock vested during the nine months ended March
31, 2009 $ 3.7
As Scorpion is currently operating four Rigs with two Rigs preparing for contract and
constructing one Rig, the compensation expense of certain employees dedicated to
mobilization of the operating rigs is deferred and certain employees dedicated to the
construction projects is capitalized each quarter.
35
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
The following table summarizes the shared based compensation cost (in thousands):
Three Months Ended Nine Months Ended
March 31, March 31,
2009 2008 2009 2008
Deferred mobilization $ 305 $ 102 $ 895 $ 419
Capitalized in CIP 992 970 2,839 2,972
Expensed 1,505 678 3,861 1,641
Total $ 2,802 $ 1,750 $ 7,595 $ 5,032
For employees of Scorpion Offshore, Inc., the Company recognizes a tax benefit for the
deduction of restricted stock at the time the compensation is included as U.S. taxable
income to each employee, which is based on vesting. For the three and nine months
ended March 31, 2009, the Company recognized a deduction for stock compensation of
$2.7 million and $4.8 million, respectively for the tax period. No stock compensation
deduction was recognized for the periods ended March 31, 2008.
9. Comprehensive Income
Comprehensive income includes all changes in equity during the period except those
resulting from investments by or distributions to owners. The components of
comprehensive income are as follows (in thousands):
Three Months Ended Nine Months Ended
March 31, March 31,
2009 2008 2009 2008
Net income (loss) $ 15,227 $ 7,400 $(32,556) $ 5,248
Foreign currency
translation 626 - (133) -
Unrealized gain (loss)
on interest rate swap (1,527) (630) (1,820) (510)
Total comprehensive
income (loss) $ 14,326 $6,770 $(34,509) $ 4,738
36
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
10. Employment Contracts
The Company entered into employment contracts with its senior officers including its
Chief Executive Officer, Chief Financial Officer and all Vice Presidents. The initial term
of these agreements are two years. Thereafter, these agreements automatically renew for
one year periods.
If the Company terminates the officer’s employment agreement at any time during the
term without cause, the officer is entitled to receive compensation provided under the
agreement as follows:
a) Any portion of the annual salary, any success fee bonus and any incentive bonus
that shall have been earned by the officer prior to the termination, but not yet
paid;
b) An amount equal to the officer’s annual salary in effect at the date of
employment; and
c) The prorated success fee bonus applicable to each Rig scheduled for delivery
prior to April 1, 2009, which is delivered after such termination without cause,
within sixty days after delivery of such Rig.
In the event the officer’s employment is terminated within two years after a change of
control, the Company shall pay the officer the following:
a) Three times the officer’s annual salary; and
b) The maximum amount of the success fee bonus for all Rigs constructed and under
construction which has been or is scheduled to be delivered prior to April 1, 2009
assuming that each of these Rigs was or will be delivered on time and within the
budgeted amount.
37
Scorpion Offshore Ltd. and Subsidiaries
Notes to Unaudited Interim Consolidated Financial Statements (continued)
11. Director Compensation
The Compensation Committee of the Company’s Board of Directors sets the level of
compensation of the Directors. Each non-executive Director is paid a retainer of $50,000
per annum, of which a maximum of $25,000 is payable in cash and the balance is paid in
shares of Company stock. The Chairman and the committee chairs receive an additional
$10,000 per annum payable in cash, shares or a combination of the two at the discretion
of the recipient. The number of shares payable to a director is determined using the
closing price on the first day of the fiscal year. Director compensation accrues daily but is
payable quarterly in arrears. All reasonable meeting and travel expenses will be
reimbursed by the Company. In addition, effective August 16, 2007, the Compensation
Committee of the Company’s Board of Directors adopted an Annual Director’s Long
Term Incentive Fee (Incentive Fee). This Incentive Fee will be an annual award of
$50,000 payable in restricted shares of Scorpion which will vest over a two year period.
Compensation expense for the board of directors for the three and nine months ended
March 31, 2009 and 2008 was $79,000, $301,000, $86,000 and $289,000, respectively.
12. Subsequent Events
Convertible Secured Loan
On May 14, 2009, Scorpion, through its wholly owned subsidiary Scorpion Rigs Ltd.
(SRL), secured a 26.8 million pound sterling (GBP) convertible loan from a Middle
Eastern private equity investor, 21st Century Group Holdings to fund a $40 million
construction payment on the Offshore Mischief.
At the option of the lender, the loan is either repayable in 12 months or converts into a
40% interest in SRL. The loan bears interest at 10% per annum and is secured by a 1st
priority mortgage on the Offshore Mischief currently under construction at the Lamprell
shipyard in Sharjah.
38
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