Rowan Cos. Plc (RDC) Q1 2018 Results - Earnings Call Transcript

Rowan Cos. Plc (RDC) Q1 2018 Earnings Call May 1, 2018 11:00 AM ET

Executives

Son Vann - Rowan Cos. Plc
Thomas Peter Burke - Rowan Cos. Plc
Stephen M. Butz - Rowan Cos. Plc

Analysts

Haithum Nokta - Clarksons Platou Securities, Inc.
Taylor Zurcher - Tudor, Pickering, Holt & Co. Securities, Inc.
Edward Charles Muztafago - SG Americas Securities LLC

Operator

Greetings, and welcome to Rowan Companies' First Quarter 2018 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded.

It is now my pleasure to turn the call over to your host, Son Vann, Vice President-Corporate Development. You may begin.

Son Vann - Rowan Cos. Plc

Thank you, operator. Welcome to Rowan's first quarter 2018 earnings call. We appreciate your interest in Rowan. A copy of the company's earnings report issued earlier this morning can be found on our website at rowan.com. Joining us today are Tom Burke, President and Chief Executive Officer; and Stephen Butz, Executive Vice President and Chief Financial Officer; as well as other members of the Rowan team.

Before I turn the call over to Tom, I'd like to remind you that expectations expressed during this call are forward-looking statements and are subject to risks, assumptions, trends and uncertainties such as oil and natural gas prices, changes in the offshore drilling market, variable levels of drilling activity, changes in day rates, ability to secure future drilling contracts, cancellations, early terminations or renegotiations by our customers of drilling contracts, risk related to our joint venture with Saudi Aramco, operating hazards and equipment failure, changes in tax laws and interpretations by taxing authorities, hostilities, terrorism and piracies, impairments, cyber incidents and other risks disclosed in our company's filings with the SEC. Please note that information discussed during this call is as of now and may be outdated at the time any replay happens of this call.

With that, I would like to turn the call over to Tom.

Thomas Peter Burke - Rowan Cos. Plc

Thank you, Son. Good morning, and welcome to our first quarter 2018 earnings call. We really appreciate your participation today and your continued interest and investment in Rowan. Following my prepared remarks, Stephen will walk you through our financial performance and guidance and then, we'll open the call for questions.

Since last summer, commodity prices have risen steadily. Tendering activity has seen an uptick. And overall sentiment in the offshore sector has been improving. We've announced a number of recent contract awards for Rowan, and we're hopeful that the current positive momentum will continue as we move through 2018.

I'd like to begin with the recently announced award from Saudi Aramco, which we believe exemplifies the short and long-term benefits to Rowan's shareholders of the ARO Drilling joint venture. This award of three years' work on each of the four rigs was received in what is still a soft jack-up market, particularly for benign environment applications. We are pleased that the previously idle EXL I and the EXL IV will join the ARO Drilling fleets, with commencement expected in the third quarter.

Additionally, our newly acquired P-59, P-60 rigs, which we renamed the Bess Brants and the Earnest Dees, will also be going to ARO Drilling with a commencement expected at the end of the year or early next year. I would note that the Bess Brants and the Earnest Dees were loaded on to a heavy lift vessel in Brazil last week and have started their journey to the Arabian Gulf. All four rigs will require some capital investments by Rowan, a portion of which will be reimbursed by Saudi Aramco.

Separately, ARO Drilling and Rowan are also in discussions with Saudi Aramco regarding new contracts for ARO Drilling on Rowan-owned jack-ups that are currently managed and operated by ARO Drilling, including the Bob Palmer, a Super Gorilla Class jack-up and the Rowan Mississippi, a 240-Class jack-up. As a reminder, new contracts for the four incremental rigs leased into the joint venture and other new contracts for Rowan-owned rigs will have a bareboat charter mechanism.

ARO Drilling will receive the day rate directly from Saudi Aramco and pay direct operating costs, a significant percentage of the results in rig EBITDA, less than allocation for overhead, will come back to Rowan in the form of bareboat charter revenue. This bareboat revenue will essentially be profit with little to no associated costs. Payments of capital expenditures is expected between Rowan and ARO Drilling with maintenance items paid for by ARO Drilling, while we pick up items such as special surveys. Overall, we have estimated to receive over $90 million of backlogs, released income and capital reimbursements from these awards.

We're also still on track to contribute two assets, the Scooter Yeargain and Hank Boswell, both Tarzan Class rigs to ARO Drilling in the fourth quarter of this year. In other ARO Drilling related news, the LJ43 design has been selected for the newbuild program. The LJ43 has been developed by Lamprell and GustoMSC with a view to meeting ARO Drilling's operational needs and Saudi Aramco's drilling requirements.

The collaboration on the LJ43 design is a combination of the robust and advanced technology of GustoMSC as well as Lamprell's system integration capability, detailed engineering expertise and construction experience. This jack-up rig redesign will enable highly-efficient and automated drilling using the latest technologies available, including an X-Y cantilever that has an innovative BOP handling system and enhanced cantilever skidding capabilities. Engineering for the design has already started. The procurement for and construction of the first two rigs is expected to begin later this year.

Other notable additions to our backlog comes from our North Sea region, which secured approximately eight months of work with Shell UK and the MOL Group for the Rowan Viking, an N-Class jack-up rig, following the conclusion of its contract with Lundin, as well as 18 months of work with Chrysaor for the Gorilla VII, a Super Gorilla Class jack-up rig. We are delighted to have been selected for this work.

As I mentioned on the last, we're encouraged by the tightening of the ultra-harsh environment jack-up market and believe there's an opportunity for our North Sea fleet to be highly utilized by the end of the year and into 2019. While we have recently been able to selectively move some day rates higher, margins are still nowhere near prior up cycles.

Turning to our ultra-deepwater drillships, we received a contract for the Rowan Resolute from LLOG for approximately 85 days. Commencement is expected to be late June or early July after we complete its maiden contract with Anadarko and following a short out-of-service period for maintenance. The contract also has a priced option for two additional wells. This was a competitive opportunity as we were bidding against several capable but idle rigs and our day rate reflects these competitive dynamics.

I would also like to take a few moments to discuss our general market outlook, both for jack-ups and ultra-deepwater drillships. Since the beginning of the year, the worldwide marketed utilization for jack-ups has been relatively stable at approximately 72% with harsh environment regions showing modest improvements. Some benign environment regions, however, which is Southeast Asia, has softened a bit as rigs roll off contracts. Although conditions have improved in certain regions, utilization is still well below what is needed for any meaningful price momentum.

Outside of the Middle East and North Sea, which I've already mentioned, we currently have five modern jack-up rigs working between Trinidad and the U.S. Gulf of Mexico. Trinidad has somewhat similar characteristics to the North Sea in terms of the need to have heavy-duty rigs that can withstand the Atlantic Ocean wave conditions in the region.

Given our fleet makeup, as well as our track record in Trinidad, we continue to experience success in the region. Today, we have three jack-ups in Trinidad, all of which are under contract. The Gorilla VI, a Super Gorilla Class jack-up, just commenced operations for Shell. The EXL II has also just restarted a drilling program for BP, estimated to last one year. And the Joe Douglas, a 240-C Class jack-up, continues to perform under its contract with BP through November 2018.

Although the U.S. Gulf of Mexico has an extra supply of jack-up rigs, we've been able to find work in the region with our high-specification rigs. The Ralph Coffman, a 240-C Class jack-up, recently arrived in the U.S. and is scheduled to work for GulfSlope Energy in early June 2018, while the EXL III has been operating for McMoRan since March, executing a five-well P&A program that will keep the rig busy through July.

In West Africa, the number of competitive jack-up rigs has shrunk considerably since the downturn began. Over the past year, we have seen some tightening as a few rigs return to work. For Rowan, we continue to pursue opportunities to move assets to this strategically important region, although we are now somewhat constrained that we have fewer rigs available.

Switching over to the floater market, conditions remains challenging in 2018 outside of the harsh environment niche, although the outlook for our 7th generation ultra-deepwater drillships is gradually improving and we are pursuing multiple opportunities. Admittedly, it's uncertain whether some of these opportunities will ultimately be awarded, although the odds are likely improved with oil prices at current levels.

Commencement windows largely range from late-2018 to late-2019. While these prospects will be highly competitive, certain programs are at water depths or require technical specifications that puts the highest end of 7th generation ultra-deepwater ships like ours better positioned.

Customers with several of these opportunities are also looking for rigs that have managed pressure drilling capabilities. By later this year, all of our drillships will be fully MPD-ready. This feature, along with many other enhancements already on our drillships, keeps our rigs amongst an elite group of assets with the highest most desirable specifications needed for complex ultra-deepwater drilling. The quality of our floaters, coupled with the improving tendering market, gives me increasing confidence in our ability to add backlog to our drillships as we progress through 2018.

Some concluding thoughts on our operations and overall market positioning. Safety and operational efficiency remain paramount at Rowan. We're striving to eliminate waste in our processes, improve our offshore systems for both offshore and onshore and develop our people through improved leadership programs. We're proud and appreciative of our employees for their efforts in these areas. During this downturn, we're also focused on differentiating factors such as the formation of ARO Drilling and driving our LEAN and analytics initiatives through the company.

The offshore drilling market still has much to overcome in this downturn, but there are some positive signs. First and foremost, oil prices are near their highest levels since late-2014 when the downturn took hold. This upward trend is highly positive for customer confidence, reflected in tendering activity awards and general customer discussions. Our fleet is well-positioned and we believe the harsh environment applications, whether it's jack-up or floaters, will lead the recovery.

We continue to manage our balance sheet prudently to sustain us through what may be a prolonged downturn, while also allowing us to pursue asset acquisition opportunities. We, along with many of our offshore peers, have largely worked through highly profitable legacy contracts. I'm confident that we have the right asset base that puts us in an advantageous position to book relatively attractive backlog and the financial wherewithal to see us through these challenging times while preserving the upside for our fleets when industry conditions rebound.

As a final note, before handing over to Stephen, I'd like to say many, many thanks to Carrie Prati for all her hard work with Rowan. She's been here for 15 years and we're so sorry to see her go. Thank you, Carrie.

That concludes my remarks and I'll now turn the call over to Stephen.

Stephen M. Butz - Rowan Cos. Plc

Thank you, Tom, and good morning, everyone. On the call today, I will review our first quarter 2018 results as well as provide updated estimates on our cost and capital spending for the second quarter and full-year 2018. I will also briefly discuss ARO Drilling's operating results.

Earlier this morning, we reported a net loss of $112 million or $0.89 per diluted share for the first quarter 2018 in comparison to net income of $112 million or $0.89 per diluted share in the fourth quarter of 2017. As a reminder, the fourth quarter results included $157 million pre-tax gain on the sale of assets to ARO Drilling. Excluding the impact of this item, we would have reported a net loss of $39.7 million or $0.31 per diluted share in the fourth quarter.

Our adjusted EBITDA for the first quarter was $28 million, slightly better than the consensus analyst estimates. However, EBITDA declined by $55 million in the previous quarter due largely to fewer operating days that led to a decline in revenue, partially offset by lower direct operating cost and SG&A expenses.

First quarter 2018 revenue of $194 million, excluding rebillable items, represented a $89 million reduction from the previous quarter, driven by the completion of the Reliance contract with Cobalt in the fourth quarter and a 35% decline in operating days for our jack-up fleet, stemming from the sale of three rigs to ARO Drilling and reduced levels of utilization.

While jack-up utilizations declined, our average day rate increased by 13% to $139,000 per day from $123,000 in the previous quarter. Operating performance in the jack-up segment remain strong, experiencing less than 2% in billable downtime. Our deepwater utilization declined to 25% for the first quarter, but the Resolute continued its solid operating performance with Anadarko as its drillship has operated for almost two years with outstanding uptime performance.

Direct operating costs were $140 million, excluding rebillable items, which came in below our previous guidance of $150 million to $160 million, due largely to lower than expected repairs and maintenance expense and the timing of spend on the Bess Brants and Earnest Dees, the two rigs we purchased from Petrobras early in the quarter.

Our operating costs were also below the previous quarter's operating costs of $166 million, excluding rebillables, due to lower fuel purchases on the drillships and reduced costs on the Gorilla IV and Ralph Coffman, both of which came off contract late in the fourth quarter. The favorable comparison versus the fourth quarter was also driven by the fact that our fourth quarter results were burdened by a number of items, which we outlined on our last call, which did not reoccur in the first quarter.

SG&A expenses for the first quarter totaled $25.6 million, lower than our guidance of $30 million and well below the previous quarter expenses of $34 million. The improvement versus the prior quarter and our previous estimate was largely due to mark-to-market accounting on equity compensation and lower professional fees.

For the first quarter, depreciation expense totaled approximately $98 million, which was slightly above our previous guidance, and interest expense totaled $39 million in line with our expectations.

We recognized income tax expense of $6 million in the first quarter. We currently expect full year 2018 income tax expense to range from $20 million to $25 million, although this estimate is very sensitive to a number of factors, including overall activity levels and the geographic mix of our earnings. Overall, it is likely that our estimate of tax expense will continue to remain volatile for the foreseeable future.

In 2018, we expect our cash tax payment to total in the high $30 million range. These estimates also exclude any discrete items such as audit settlements or adjustments to valuation allowances on deferred tax assets.

Moving to our cash flow and balance sheet, capital expenditures totaled $35 million in the first quarter, excluding the final payment of approximately $70 million for the Bess Brants and Earnest Dees, respectively. We ended the quarter with just over $1.2 billion in cash.

Turning now to our guidance for the second quarter and a brief update to our full year 2018 outlook. As Tom mentioned, we have received several jack-up awards thus far in 2018. We're optimistic about improving utilization levels for our jack-up fleet for the remainder of the year and into 2019. While meaningful price improvements for the broader jack-up market remain unlikely in the near-term, particularly in benign environment markets given their oversupply, we are experiencing pockets of day rate improvement in certain areas such as harsh environments where availability for qualified rigs is tighter than the broader market.

In the ultra-deepwater, excess capacity remains high both from idle assets and rigs that are rolling off existing contracts. With that said, we are actively pursuing multiple programs that are well-suited for our drillships. We've recently booked additional work for the Resolute and are well-positioned to add further backlog for our drillships albeit at weak day rates. The majority of the jobs we are pursuing have commencement windows of no earlier than late third quarter of 2018.

Before I review our cost estimates, I would like to remind everyone that we expect to generate transition services revenue in excess of $30 million in 2018, declining thereafter as ARO Drilling establishes its own support services.

Now, going back to direct operating expenses, we are slightly reducing our full year 2018 guidance to $590 million to $610 million, which includes an expectation of incremental work beyond what is currently contracted for our drillships. We currently estimate second quarter expenses will range between $160 million and $170 million, which reflects the ramp-up in costs related to the Gorilla VI returning to work in Trinidad, and Mississippi returning to working a full quarter following its shipyard stay, and costs associated with the Brants and Dees as we move these rigs to the Middle East and prepare them for work.

Please note that our cost estimate excludes rebillable items, which recently have averaged over $15 million per quarter. This is higher than recent previous quarter's expenses as a result of ARO Drilling related rebills. We expect similar overall rebillable levels in the second quarter through year-end 2018.

Our full year 2018 SG&A estimate is $95 million to $100 million. Second quarter SG&A expenses are expected to remain in the mid-$20 million range. Depreciation expense is expected to approximate $98 million for the second quarter. We expect full year 2018 depreciation to range from $380 million to $390 million. Our interest expense estimate remains at approximately $155 million in 2018. We continue to expect we will generate approximately $10 million of interest income from ARO Drilling for the year on top of interest income related to our cash balance.

And finally, our capital expenditures are expected to increase from our previous estimate due to operator-related upgrades for the four jack-up awards from Saudi Aramco. Our current full year 2018 CapEx estimate, excluding rig acquisition costs, range from $190 million to $200 million. Of this amount, about $85 million is related to upgrades required by Saudi Aramco, a meaningful portion of which will be reimbursed.

I would now like to take a moment to discuss the operating results for ARO Drilling, which Rowan accounts for under the equity method. In the first quarter, ARO generated a net loss of $2.6 million compared to net income of $1.7 million during the fourth quarter of 2017. The joint venture generated revenue of approximately $58 million compared to $49 million in the fourth quarter. The increase reflects the start-up of the SAR-201 in late February and a full quarter of operations from the other four rigs, somewhat offset by downtime on the SAR-202, the rig with the highest day rate.

Direct operating cost increased to $33 million from $22 million in the prior quarter, also due mainly to a full quarter of operation, including a full quarter of cost on the SAR-201, but also due to higher repairs and maintenance expense on three of the rigs during the quarter, which we expect to normalize going forward.

SG&A totaled $6.4 million, a modest increase from the fourth quarter levels. All in all, ARO generated adjusted EBITDA of $18.5 million for the first quarter of 2018, down slightly from $20.3 million in the previous quarter.

That concludes my remarks on the financials. In closing, while industry conditions remain very challenging, we have thoughtfully positioned our fleet over the past several years through our joint venture with Saudi Aramco and our emphasis in serving harsh environment regions, including Norway, the UK and Trinidad. We believe our recent contracts continue to validate these strategic moves. And we are confident that our decision to invest in only in the highest quality deepwater assets and maintain them in excellent condition will lead to additional contract awards in the coming months.

With that, we are ready to open the call for questions and answers. Operator?

Question-and-Answer Session

Operator

Thank you. Our first question comes from the line of Haithum Nokta from Clarksons Platou Securities. Your line is open.

Haithum Nokta - Clarksons Platou Securities, Inc.

There have been a lot of positive comments that is the stack-cultured deepwater markets and how that looks like that's going to be tightening relatively soon. That sounds positive for you guys. And, obviously, you have three rigs that are idle, let's say, that you could put it back to work. I wanted to ask how your marketing strategy may kind of change at all. I've noted the comments are a bit more aggressive. But are you kind of pursuing more short-term contracts right now or are you looking at long-term contracts as well?

Thomas Peter Burke - Rowan Cos. Plc

Hey, Haithum. Thanks for the question. So, I'd say, just the beginning of your question got cut off, but I think I got the gist of it. So on the deepwater strategy, on our marketing strategy, I'd say that in 2015, 2016 and early 2017, there was some work out there, but it was of short duration or it was low in the – and also day rates. And so, we decided that, at the time, we would just not focus on that as much, right? We would keep the rigs warm-stacked. And what we didn't want to do was basically start the rigs up, take the cost to get everybody where they needed to be, start the rigs up and then do a short-term contract and then there was, clearly, no follow-on work.

So as we think about the market in 2018, it's changed quite a bit. And it seems like the IOCs are coming back with some short-term work, and there are few long-term contracts. And so, we feel it's appropriate now to reactivate the rigs or reactivate some of the rigs in anticipation of some short-term work.

Now, what we have today is we have the Rowan Resolute, which has been working for Anadarko and it's gone on to work for LLOG. We have the Reliance, actually which is warm-stacked, but it is at a pretty high state of readiness. It has a large crew on it. And then, we have the (27:03) core, which is the Renaissance and the Relentless. They have lower crew levels on them and they're in Downing, Corpus Christi. And so, what we're doing now is we're going after some of that short-term work because we can see follow-on work. And it does seem like there is more opportunities available, particularly around, as I mentioned, around some of the IOCs coming back.

Now, we're working short-term and it will be very competitive. And we mostly see it in Africa and Latin America, but some in the Gulf of Mexico. But that's sort of really how we see things.

Haithum Nokta - Clarksons Platou Securities, Inc.

Okay. And in terms of – you said you had the – I think it was the Reliance that's sort of at pretty high state of readiness. I assume that you could put that back to work for like a 90-day contract kind of for the Resolute. Is that what you're thinking or do you still need longer than that or is that kind of what you're just looking at for the near-term (28:03)?

Thomas Peter Burke - Rowan Cos. Plc

No, I do think if we had an opportunity for 90 days and I think we would take that because we can see follow-on work. And the Reliance is the last rig that stopped working. It was working for Cobalt. So we have more of the crews on that rig and we would put it to work for a 90-day project. Now, we still need to add crew to it and on the junior levels. We still need to add crew to it. So it's not like you can go back to work tomorrow. But if we have 90 days of work later on this year, it's something that we would go after with the Reliance.

Haithum Nokta - Clarksons Platou Securities, Inc.

No, I appreciate that. Yeah, yeah. Definitely. And then, I do want to ask about the harsh environment jack-up market. I know that you talked a little bit about that starting to improve, rates starting to improve there. Obviously, it's not shooting up the way kind of we've seen in the harsh environment floaters. But would you see Rowan potentially acquiring assets to sell that niche further or are you kind of are we not at that stage yet?

Thomas Peter Burke - Rowan Cos. Plc

I'd say the harsh environment sort of area of jack-ups and the harsh environment which to me is sort of the type of assets, the 240-C, the Super As, the CJ-50s, the JU-2000s, and the ultra-harsh being the N-Class, the Super Gorillas and the CJ-70s, both areas which we really like on the jack-up side. We like jack-ups and we like harsh environment jack-ups. So the answer to that is yes. We would probably not be as focused on acquiring benign environment jack-ups unless we clearly get them for very good value and put them to work on a contract as we did to the two rigs that we bought earlier this year. So I think that was a resounding yes basically. We like those assets.

Haithum Nokta - Clarksons Platou Securities, Inc.

Very good. Congrats again on booking of the four contracts for ARO.

Thomas Peter Burke - Rowan Cos. Plc

Yeah. No, thank you very much. We really appreciate that. And it's – obviously, we've got a lot to execute on in ARO, but it does feel like things are really moving in the right direction. In fact, Stephen and I and Mark Keller were there last week at a board meeting and we have the ARO Drilling CEO in town this week and he'll be coming to the analyst dinner that we're having tomorrow night.

Haithum Nokta - Clarksons Platou Securities, Inc.

Great. I'll turn it back. Thank you.

Operator

We have a question from the line of Haithum Nokta from Clarksons Platou Securities. Your line is open.

Haithum Nokta - Clarksons Platou Securities, Inc.

I think I'll just hop back in. I did want to ask I guess about the newbuild program for ARO. I think last quarter, you said one, maybe two – I think on this call you said two that will be ordered this year. How is that kind of progressing so far? And I'm also curious to what extent is that going to impact, if at all, the cash dividend that you expect to receive later this year.

Thomas Peter Burke - Rowan Cos. Plc

I'll answer the first question, the easy one. And then, Stephen can answer the harder second question. So, as far as the plans and the progression, I think it's – obviously, it's a big program, but the good thing about doing a newbuild program in a downturn is absolutely the right time to be doing it. And so, we've got a lot of attention from the vendors, and frankly, the shipyards are all interested and very focused. There's not a lot of competing projects.

So as far as what we're doing is we have a team, who are basically put together, mostly from Rowan, but with some from Saudi Aramco, who are working on the project. And I think the people – are all inside ARO Drilling working on the project and making great steps forward, working with Gusto and Lamprell on the design.

We've selected the design. We feel good about that and the engineering has started and we're moving into sort of selection of equipment, sort of all the equipments on the rig. So that's going well. Initially, when we started, we actually believed we would add one rig in 2018 – or we would order one rig in 2018 and two in 2019, but what we determined to do, I'd say, we mean the board of ARO drilling was that we would basically order two at the end of this year.

So as far as the preparations on newbuild, it's going well. But the nice thing about it is that we aren't in a – we're doing it in a methodical manner. It's not the sort of a race because of the contract, which is about to expire. So we're doing in a methodical careful manner. So I think the preparations to date are going well.

Stephen M. Butz - Rowan Cos. Plc

Yeah and, Haithum, good morning. I'll take the second part of that question with respect to the cash impact of the number of newbuild orders that ARO places this year. You'll recall that last year, we received a distribution from ARO of about $88 million in the fourth quarter. And what we've said, with respect to the orders, was that if ARO ordered one rig this year, our distribution in 2018 would likely be greater than what we received last year. If it ordered two rigs, it would likely be less than what we received last year. And the reason I say likely is also that ARO is still thinking through and finalizing its financing plan and that could also have some impact to the ultimate distribution.

Haithum Nokta - Clarksons Platou Securities, Inc.

Okay. No, fair enough. And then, I wanted to ask you about the operating cost for ARO during the second quarter. You mentioned that gets higher R&M expense. And was that kind of like a unique higher R&M expense or do you kind of expect that to be to this cost level per day more or less be the long-term average?

Stephen M. Butz - Rowan Cos. Plc

Yeah. I think it was somewhat elevated on three of the rigs during the quarter and so we would expect that to decline related to those rigs, their R&M in the second quarter. At the same time, the SAR-201 wasn't working in the entire quarter. That kind of came in and started working mid-quarter. So that will have higher cost going forward. But, Tom, do you...

Thomas Peter Burke - Rowan Cos. Plc

Yeah. Just thinking through that – the reason for that was, on some of the rigs, particularly the ones we've started up, there was higher OpEx. But I do feel like, and we actually did a big review of all the ARO numbers last week, and so I actually feel like it should trend to a more normalized level.

Stephen M. Butz - Rowan Cos. Plc

And then, the other impact to the ARO operating costs, which will just cause them to increase over time is Rowan lease its rigs into ARO. Obviously, they will bear the vast majority of those costs related to those rigs going forward.

Haithum Nokta - Clarksons Platou Securities, Inc.

Right, right. Then, just last question for me is, noticed that there are a lot of long-term liabilities in the ARO balance sheet that was kind of in the press release. And that's mainly because the deals are structured as shareholder loans, correct?

Stephen M. Butz - Rowan Cos. Plc

That's right. Great question. And that was just how us together with Saudi Aramco decided to make our contributions. We did have a modest contribution that was structured as equity, but the vast majority of the contributions were structured as shareholder loans, which is the more efficient way to actually take money out of the joint venture over the longer term.

Haithum Nokta - Clarksons Platou Securities, Inc.

All right. I appreciate that. Thank you.

Thomas Peter Burke - Rowan Cos. Plc

Thanks, Haithum.

Operator

Our next question comes from the line of Taylor Zurcher from TPH. Your line is open.

Taylor Zurcher - Tudor, Pickering, Holt & Co. Securities, Inc.

Hey. Morning, guys. I just wanted to touch on...

Thomas Peter Burke - Rowan Cos. Plc

Good morning.

Taylor Zurcher - Tudor, Pickering, Holt & Co. Securities, Inc.

... the CapEx budget. Morning. It looks like the 2018 budget's up by, I think, $85 million or so. And you said a lot of that's just for these new contracts you've gotten with Aramco, that there'll be some more upgrades there. I just wondered if you could touch on what sort of upgrades you're actually doing on those rigs? And then, from a reimbursement perspective, is it fair to assume you just get a higher day rate over the life of the contract or is there a different reimbursement mechanism there?

Thomas Peter Burke - Rowan Cos. Plc

Yeah. Hey, Taylor. Good morning. So, on the CapEx, so there's two things going on. There is getting the four rigs ready for contract. And so, there is a requirement for which in the – it's basically called – everybody in the industry are working there with us, referred as Schedule G. So it's a requirement for certain equipment to work with Saudi Aramco and that's pretty standard. That's part of it. And also, the Bess Brants and the Earnest Dees, those rigs were came out of Petrobras, one of those we stacked for some time. They are 2013 rigs, although we normally need to make some changes then to make them to ARO/Rowan standards.

So there is some reactivation, some perhaps refurbishments on those two rigs we've got for Petrobras. And in all four rigs, there is some Schedule G contracts that required upgrades. And they would be things like (38:35) or a certain size of BOP or cascade systems and things like that. It's all sort of normal stuff...

Taylor Zurcher - Tudor, Pickering, Holt & Co. Securities, Inc.

Okay.

Thomas Peter Burke - Rowan Cos. Plc

... downhole tools, and things like that. Stephen, can you talk about the...

Stephen M. Butz - Rowan Cos. Plc

Yes. Taylor, I would just add that for the portion that where we will be reimbursed from Aramco, we'll receive that at the start of the contracts. But we'll likely account for that and recognize that in our revenue over the three-year period. So we'll defer those revenues and recognize them over the three years.

Thomas Peter Burke - Rowan Cos. Plc

And, Taylor, just a clarification on that is that that piece, that CapEx reimbursement, the portion that we get, that won't be split in the lease mechanism. That comes directly back to Rowan.

Taylor Zurcher - Tudor, Pickering, Holt & Co. Securities, Inc.

Okay. That's helpful. Only other question on jack-ups in the Gulf of Mexico, I think both of your jack-ups have some availability later this year. And just curious for those specific rigs, the EXL III, I believe, and the Ralph Coffman, if you see any good prospects for follow-on work in the Gulf of Mexico, if those rigs assuming they get some follow-on work are likely to go to work elsewhere?

Thomas Peter Burke - Rowan Cos. Plc

Yeah. No, it's a good question. So the Gulf of Mexico, and you know very well, it tends to be very short-term work. And we have had occasions where we had long-term contracts. So it is a short-term work. So we do see prospects for those rigs down the road. Obviously, in the Gulf of Mexico, hurricane season is a big issue. And so, from mid-July to November is obviously the tough time. But having said that, from November to July is a better time. So if we can get through hurricane season and keep those rigs working, typically, customers want to do work from late in the year to early summer because it is the opportunity.

So we do see some opportunities there in the Gulf of Mexico, but also for both of those rigs. They are hot working jack-ups and there are opportunities in other regions around the world. Not too far, but there are opportunities basically in West Africa and other places for those.

Taylor Zurcher - Tudor, Pickering, Holt & Co. Securities, Inc.

Okay. And last question from me just on the ultra-deepwater side. I realize the pricing environment is obviously pretty cutthroat right now. And, frankly, no one's disclosing day rates for – I fully understand that. I'm just trying to calibrate where the market's at today. I mean a lot of your competitors have talked about the market potentially fading out in 2019. But as we sit today, you've got some short-term work for one of your drillships that you recently signed. It sounds like you're pursuing similar short-term work over the back half of the year, maybe in Q3 this year. Just curious, is it fair to assume that the pricing environment for some of the short-term work is still – albeit cutthroat, still positive cash margin-type work.

Thomas Peter Burke - Rowan Cos. Plc

It is. Obviously, it depends on where it is in the world and it all depends relative to mobilization costs. I would say that we can't get into like pricing levels because it's just too competitive. I would say it's better than stacking those.

Taylor Zurcher - Tudor, Pickering, Holt & Co. Securities, Inc.

Okay. That's helpful.

Thomas Peter Burke - Rowan Cos. Plc

It's going to be evasive, but it's definitely better cash margin than stacking. And as we've all stopped disclosing day rates, it is a much less efficient market for day rates today. It's a lot less visibility to everybody.

Taylor Zurcher - Tudor, Pickering, Holt & Co. Securities, Inc.

No, I certainly understand. Thanks a lot.

Thomas Peter Burke - Rowan Cos. Plc

Thank you so much for the questions, Taylor.

Operator

Our next question comes from the line of Edward Muztafago from Société Générale. Your line is open.

Edward Charles Muztafago - SG Americas Securities LLC

Hi, guys. I wanted to actually maybe ask a little bit about the predictive maintenance program. And I think my general understanding of not just Rowan, but the industry in general is that it's fairly heavily focused on the newer rigs. Can you maybe talk to what the ability to kind of extend your program beyond just the drillships into some of the older rigs might be, or for that matter, even the newer rigs that will get built for ARO?

Thomas Peter Burke - Rowan Cos. Plc

Yes. Steve, will you take that one? No, I'm just kidding. No, I'll take that one. No, it's a good question. So I think on the predictive maintenance, I mean, really what it comes down to is getting the data off the rigs and analyzing it and to look the trends in the data that are telling you something is different, if something different is happening. So you look at bearing temperature or you look at – in the simplest form, you just look at some key parameters, bearing temperature, you look at vibration, you look at moisture in the hydraulic fluid and you trend that over time. And if it changes, you know. Well, at this stage if it's a sophisticated model, you actually build a model and the word in a digital twin is a good marketing phrase that's used. But you build a model of what is going on and you use it to predict, so you say how this inputs to my model. I know the way the machinery works. It should be giving this much output torque. And if it's not, then something else is happening, right. So there's basically just alarms on – and there's more predictive maintenance.

Now, on the – the reality is if you can get the sensor data, then you can do some sort of predictive maintenance. And so, it doesn't really – now, there are some companies such as the thruster companies worldwide and others that do a lot of this, but it comes with the system, it comes with the equipment. Others, it doesn't and you have to build it yourself or contract it out to somebody. Now, conceptually, if you can get the sensor data, you can do it on anything, right? So I can sort of talk about this for hours. So I'll try and restrain myself, but does that help?

Edward Charles Muztafago - SG Americas Securities LLC

Yeah. No, I think so. And I mean I think the impression that some – the clients have had is that it involves some kind of massive rework of an older rig to sort of be able to do this. And I think kind of what you said is my general impression is the first step is to really kind of figure out the algorithm and then sort of putting a series of sensors on a rig down the road is not the most significant effort, so that it could be extended to a lot of the older rigs in people's fleet...

Thomas Peter Burke - Rowan Cos. Plc

Yeah. It could be for sure.

Edward Charles Muztafago - SG Americas Securities LLC

...if that's correct.

Thomas Peter Burke - Rowan Cos. Plc

Yeah. No, that is correct. But I would say that the fundamental issue is getting the data off the rigs because a lot of these systems weren't built to get the data. They are sort of self-contained. So, you have a top drive system, for example, a mud pump, and it's generating data. And it's obviously often used by the equipment operator that tell what's happening, or for troubleshooting when it's in the vendor's shop, for example. So, getting that data off and analyzing it is probably the biggest challenge.

And at Rowan, what we've done is we have spent a lot of our effort in streaming the data from that equipment back into, I think, what we have done at ARO Drilling and Rowan, is spend a lot of time streaming that data back to somewhere where it can be analyzed. The analysis, right, is fairly straightforward. It's not something that I could do, but it's fairly straightforward and fairly well-known, but the system to get the data, get it somewhere it can be analyzed is important.

Now, adding sensors, actually, is fairly straightforward, but it's being able to sort of (46:18) the industry term is sort of gather it or ingest it to be able to analyze it is probably the biggest challenge.

Edward Charles Muztafago - SG Americas Securities LLC

Okay. That's helpful. And then, I wanted to follow-up on Haithum's question or sort of discussion about the harsh environment interest as well. And one of the things that I think we've repeatedly seen over the cycles is that the acquisition environment actually gets better as the cycle's recovering not at the worst part of the cycle. And you've highlighted that there has been some progress on the harsh environment side. Can you just talk to sort of what the availability of those assets are out there in the market? And perhaps where – I'm presuming you're having some discussions on them. How much or to what degree have those discussions improved as the environment has started to kind of pick back up on the harsh environment side?

Thomas Peter Burke - Rowan Cos. Plc

Well, I mean, on the jack-up side, there have been some transactions where a number of the assets have been bought. But they tend to be benign and they tended to be benign environment rigs, so those – some of them that have been high spec and benign environment rigs.

And so, just the way the things sort of turned out, a lot of the harsher environment jack-ups have actually ended up being built in China. Now, there is I think one ultra-harsh asset that's available in Singapore, but most of our ultra-harsh – well, most of the harsh environment, the CJ50, the JU-2000, a lot of those were built in China.

So, actually, there's a still quite a few of them available. I do think that, really, on any M&A, we're very focused on value and we're focused on making sure that our assumptions, that our models when we build it, we're going to generate good returns based on our outlook. And so, the real limitation is really just around value and the pricing.

I would say that the shipyards have become more – I think in the early start of the cycle, there were buyers that no longer wanted to buy and there were shipyards who were trying to desperately deliver it on time. And frankly, shipyards couldn't do anything because they had obligations they had to keep. A lot of that is behind us. And so the sort of – a lot of those rigs have been – people have either walked away from them without getting into specifics. So, I think there is more opportunity there. That sort of roadblock is out of the way, but it still really basically comes back down to value.

Edward Charles Muztafago - SG Americas Securities LLC

Okay.

Thomas Peter Burke - Rowan Cos. Plc

So we're still looking, always looking at – I wouldn't say looking at everything, but pretty close.

Edward Charles Muztafago - SG Americas Securities LLC

Okay. Okay. That's helpful. Thank you, guys.

Operator

I'll now turn the call back to the presenters for closing remarks.

Son Vann - Rowan Cos. Plc

Thanks, Lisa. And I'd like to thank everyone for joining us today. We appreciate your interest in Rowan. If you have any questions, feel free to reach out to me. I have my contact on the press release. And with that, we'll talk to you next quarter. Thanks a lot.

Operator

This concludes today's conference call. You may now disconnect.