Valaris Ltd quarterly report, Q2 FY2023

Valaris Limited — Q2 2023 Form 10-Q

Reporting period: Quarter and six months ended June 30, 2023. Valaris provides offshore contract drilling services and reported 51 owned rigs, plus a 50% interest in ARO, which owned seven rigs. Amounts below are in U.S. dollars.

Key financial metrics

Metric	Q2 2023	Comparable period
Revenue	$415.2 million	$413.3 million in Q2 2022; $430.1 million in Q1 2023
Operating income (loss)	$(9.9) million	$(15.6) million in Q2 2022; $8.5 million in Q1 2023
Net income (loss) attributable to Valaris	$(29.4) million; $(0.39) per share	$111.6 million in Q2 2022; $46.7 million in Q1 2023
Operating cash flow	$122.6 million for the first six months, versus $(114.0) million in the prior-year period
Capital expenditures	$127.3 million for the first six months, versus $99.6 million
Cash and cash equivalents	$787.3 million at June 30, 2023, versus $724.1 million at December 31, 2022
Debt	$681.9 million carrying value at June 30; $700.0 million principal of Second Lien Notes

Q2’s operating loss was approximately 2.4% of revenue. The six-month operating loss was $1.4 million on revenue of $845.3 million. Current assets were $1,447.4 million and current liabilities were $658.9 million at quarter-end. Cash flow from operations less reported capital expenditures was approximately $(4.7) million for the first half.

Changes and operating performance

• First-half revenue rose 16% year over year, primarily from more operating days as reactivated rigs returned to work and higher average day rates. Contract drilling expense increased 8%; G&A increased 34%.
• Q2 revenue declined 3% sequentially, mainly because VALARIS 249 completed one contract and mobilized to its next one. Higher day rates partly offset lower operating days and mobilization-related revenue.
• Floater average day rates were $234,676 in Q2, up from $206,290 in Q2 2022; jackup rates were $94,958, versus $91,215. Q2 total-fleet utilization was 65%, compared with 61% a year earlier.
• Six-month net income attributable to Valaris was $17.3 million, down from $73.0 million. Comparisons include substantial prior-year gains on rig sales and a prior-year $51.0 million DS-11 contract termination fee; 2023 included a $29.2 million debt-extinguishment loss and a $27.3 million gain on selling VALARIS 54.

Debt, liquidity and capital allocation

• In April, Valaris issued $700.0 million of 8.375% Second Lien Notes due 2030 and used part of the proceeds to redeem its $550.0 million First Lien Notes. The redemption cost was $571.8 million, excluding accrued interest. Valaris recorded a $29.2 million extinguishment loss.
• A $375.0 million revolving credit facility, including a $150.0 million letter-of-credit sublimit, was available; no borrowings were outstanding at June 30. The company reported covenant compliance. Management said there are no debt principal payments due until 2030.
• Valaris repurchased 1.1 million shares for $65.0 million in the first half at an average $58.82 per share. The buyback authorization was increased to $300.0 million; management expected approximately $200.0 million of repurchases by year-end.

Outlook, risks and contingencies

• Management described the offshore market outlook as positive, citing improving demand, higher utilization and day rates, and a smaller available rig fleet. The company reported backlog of $3.04 billion as of August 1, 2023, up from $2.46 billion on February 21; ARO backlog was $1.50 billion, down from $1.73 billion. New floater contracts contributed significantly to the increase.
• Valaris expected 2023 capital expenditures of approximately $310 million to $350 million, excluding potential purchases of VALARIS DS-13 and DS-14. It expected to exercise options to acquire the drillships by year-end for estimated prices of $119.1 million and $218.3 million, respectively, and was evaluating financing options.
• Inflation has increased personnel, operating and project costs; management expects cost pressures to continue and cannot be certain of recovering higher costs from customers. Reactivations may cost more and take longer due to labor, materials and supply lead times.
• ARO may require partner funding for its newbuild program if operating cash and third-party financing are insufficient. Valaris’s potential aggregate contribution commitment is up to $1.25 billion, reduced proportionately as rigs are delivered. ARO’s two ordered newbuilds were expected to be delivered in 2023.
• In July, Valaris received notice of a Brazilian administrative proceeding seeking approximately BRL 601 million (about $127 million) in alleged damages relating to the 2015 VALARIS DS-5 contract. The company said it could not estimate potential exposure and intends to defend itself. It also reported patent arbitration and other legal, environmental and tax matters; management did not expect the other matters described to have a material adverse effect.
• Other risks include contract delays or cancellations, rig downtime and reactivation execution, customer and commodity-market changes, regulatory and geopolitical developments, foreign-currency exposure, and the ability of ARO to repay notes or distribute earnings. ARO has made no cash earnings distributions since formation; repayment of its notes requires partner consent to enforce if ARO cannot pay when due.

Important facts for investors to verify

• Timing, delivery costs and financing for VALARIS DS-13 and DS-14, and whether the projected capital-spending range includes any related purchase costs.
• Backlog conversion into operating days, revenue and cash flow, including the status and commencement of newly contracted floater work.
• Whether rising reactivation, repair and labor costs are recovered through contract pricing, and the effect on operating margins.
• Liquidity and covenant headroom after planned repurchases, capital expenditures and any potential ARO funding; confirm the scale and terms of ARO’s newbuild financing.
• Developments and potential financial exposure in the Brazilian TCU proceeding, patent arbitration, and tax assessments.