Item 3. LEGAL PROCEEDINGS
Due to the nature of its business, McDermott International is, from time to time, involved in litigation. It is management's opinion that none of this litigation will have a material adverse effect on the consolidated financial position of McDermott International.
For a discussion of McDermott International's potential liability for non-employee products liability asbestos claims see Item 1F and Notes 1 and 10 to the consolidated financial statements.
Item 4.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted during the fourth quarter of the fiscal year covered by this report to a vote of security holders, through the solicitation of proxies or otherwise.
PART I I
Item 5.
Item 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED SECURITY HOLDER MATTERS
International's Common Stock is traded on the New York Stock Exchange. High and low stock prices and dividends declared for the fiscal years ended March 31, 1996 and 1995 follow:
FISCAL YEAR 1995
FISCAL YEAR 1996
As of March 31, 1996, the approximate number of record holders of Common Stock was 6,294.
Item 6.
Item 6. SELECTED FINANCIAL DATA
See Note 2 to the consolidated financial statements regarding acquisitions in fiscal years 1996, 1995 and 1994. See Note 1 regarding the adoption of Statement of Financial Accounting Standards ("SFAS") No. 112 in fiscal year 1995 and Emerging Issues Task Force Issue No. 93-5 in fiscal year 1994. Fiscal year 1993 includes the cumulative effect of the adoption of SFAS No. 106 and SFAS No. 109. See Note 10 regarding the uncertainty as to the ultimate loss relating to products liability asbestos claims.
In fiscal year 1996, Net Income included a gain of $34,788,000 resulting from the sale of McDermott International's interest in three Caspian Sea oil fields, an after tax equity income gain of $20,047,000 resulting from the sale of two power purchase contracts, and an after tax charge of $7,840,000 due to the write-off of an insurance receivable due to an unfavorable arbitration ruling related to the recovery of cost incurred for corrective action in certain utility and industrial installations. In fiscal year 1995, Income before Cumulative Effect of Accounting Change included after tax charges of $30,218,000 for provisions for the decontamination, decommissioning and closing of certain nuclear manufacturing facilities and the closing of a manufacturing facility, and $8,832,000 for the reduction of estimated products liability asbestos claims recoveries from insurers. Also, in fiscal year 1995, after tax income included $16,631,000 for a reduction in accrued interest expense due to the settlement of outstanding tax issues. In fiscal years 1993 and 1992, Income from Continuing Operations before Extraordinary Items and Cumulative Effect of Accounting Changes included after tax gains from the sale of McDermott International's interest in its two commercial nuclear joint ventures of $15,667,000 and $35,436,000, respectively.
Item 7.
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL
A significant portion of McDermott International's revenues and operating results are derived from its foreign operations. As a result, McDermott International's operations and financial results are affected by international factors, such as changes in foreign currency exchange rates. McDermott International's policy attempts to minimize its exposure to changes in foreign currency exchange rates by attempting to match foreign currency contract receipts with like foreign currency disbursements. To the extent that it is unable to match the foreign currency receipts and disbursements related to its contracts, its practice of entering into forward exchange contracts to hedge foreign currency transactions reduces the impact of foreign exchange rate movements on operating results.
In general, both of McDermott International's business segments are capital intensive businesses that rely on large contracts for a substantial amount of the revenues.
The performance of the Power Generation Systems and Equipment segment is largely a function of capital spending in the electric power generation industry and U. S. Government spending, especially for nuclear fuel assemblies and reactor components for the U.S. Navy. This segment's recent business activities have been characterized by significant demand for large, new baseload generating units for electric utilities in Asia and the Middle East and reactively weaker markets in the United States and Europe.
The performance of the Marine Construction Services segment is a function of the level of oil and gas development activity in the world's major hydrocarbon producing regions. As a result, this segment's revenues and profitability reflect some variability associated with the timing of the completion of significant development projects and the commencement of others as to which it has contracts, as well as the worldwide volume of projects and their geographic distribution. This segment's recent operating results have been adversely impacted by a substantial decline in the number of projects generating demand for marine construction services in the Southeast Asia market. McDermott International believes this decline is only temporary and is largely due to project timing. This decline has had an adverse effect on other markets as a result of the migration of equipment and other resources previously allocated to the Southeast Asia market to other markets and the resultant pressure on pricing in those markets caused by the increased capacity. Based on its ongoing dialogue with existing customers with respect to possible future projects, McDermott International expects improvements in certain of its significant markets, including Southeast Asia and the Gulf of Mexico. McDermott International believes that some level of improvement in market activity is reflected in an increase in the backlog relating to contracts to be performed by its unconsolidated joint ventures from $1,014,000,000 at March 31, 1995 to $1,407,000,000 at March 31, 1996. Notwithstanding these signs of improvement, McDermott International cannot at this time, predict the timing or extent of any improvement in the industry or the future level of demand for the services of this segment.
The foregoing statements regarding McDermott International's markets and the other statements in this discussion are forward-looking statements. These forward-looking statements are subject to numerous risks and uncertainties, including, among others, the uncertainties relating to the development of electric generating units and offshore development decisions to be made by oil and gas exploration and development companies.
FISCAL YEAR 1996 VS FISCAL YEAR 1995
Power Generation Systems and Equipment's revenues increased $45,331,000 to $1,708,566,000. This was primarily due to higher revenues from engineering, procurement and construction of cogeneration plants, from defense and space-related products (other than nuclear fuel assemblies and reactor components), replacement nuclear steam generators for domestic customers manufactured at B&W's Cambridge, Ontario location and fabrication of industrial boilers. These increases were partially offset by lower revenues from repair and alteration of existing fossil fuel steam systems, fabrication and erection of fossil fuel steam and environmental control systems and nuclear fuel assemblies and reactor components for the U. S. Government.
Power Generation Systems and Equipment's segment operating income increased $7,139,000 to $20,579,000 due to provisions of $46,489,000 for the decontamination, decommissioning and closing of certain nuclear manufacturing facilities and the closing of a manufacturing facility in the prior year. In addition, there were higher volume and margins from replacement nuclear steam generators, improved margins from fabrication of fossil fuel steam and environmental control systems (including a license buyout agreement of $8,574,000) and higher volume from defense and space-related products (other than nuclear fuel assemblies and reactor components). These increases were offset by the write-off of an insurance claim of $12,600,000 due to an unfavorable arbitration ruling related to the recovery of cost incurred for corrective action in certain utility and industrial installations. There were also lower margins from engineering, procurement and construction of cogeneration plants. In addition, there were lower volume and margins from the repair and alteration of existing fossil fuel steam systems and industrial boilers, plant enhancement projects and from operations and maintenance contracts.
Power Generation Systems and Equipment's equity in income of investees increased $28,125,000 to $36,489,000. This represents the results of approximately 16 active joint ventures, but is primarily due to a nonrecurring equity income gain of $30,612,000 resulting from the sale of power purchase contracts back to a local utility.
Backlog for this segment at March 31, 1996 was $2,261,799,000 compared to $2,130,754,000 at March 31, 1995. At March 31, 1996, this segment's backlog with the U.S. Government was $816,783,000 (of which $57,988,000 had not been funded) and includes orders for nuclear fuel assemblies and reactor components for the U.S. Navy. These orders are expected to continue to comprise a substantial portion of backlog with the U.S. Government as B&W is the sole source provider of these nuclear fuel assemblies, and supplies assemblies due to reload requirements.
This segment's foreign markets for industrial and utility boilers remain strong as electric utilities in Asia and the Middle East are active purchasers of large, new baseload generating units, due to the rapid growth of their economies and to the small existing stock of electrical generating capacity in most developing countries.
Domestic utility markets remain weak as competition within the electric power industry in the United States has intensified, as the Federal Energy Regulatory Commission has begun to implement the provisions of the Energy Policy Act of 1992, which deregulated the electric power generation industry by allowing independent power producers and other companies access to its transmission and distribution systems. The modest growth in demand and the changes associated with this transition from a regulated to a competitive industry have caused electric utilities to defer ordering of large, new baseload power plants in the United States and when electric utilities are in need of peaking capacity, many are purchasing combustion turbines with short lead-times or they are purchasing electricity from other utilities and non-regulated sources, such as cogenerators and independent power producers. In addition, the Clean Air Act amendments of 1990 required many customer industries to implement systems to limit or remove emissions. These mandated expenditures have caused some customers to defer repairs and refurbishments on existing plants. However, the U.S. market for replacement nuclear steam generators is expected to continue to make significant contributions to operating income in the foreseeable future, although at lower levels than in recent years.
As discussed (see Item 1F - Insurance), provisions for estimated future costs for non-employee products liability asbestos claims have been recognized for financial reporting purposes (see Notes 1 and 10 to the consolidated financial statements and the discussion of Liquidity below). Inherent in the estimate of these liabilities and recoveries are expected trends in claim severity and frequency and other factors, including recoverability from insurers, which may vary significantly as claims are filed and settled.
Marine Construction Services' revenues increased $199,399,000 to $1,590,318,000, primarily due to higher purchased engineered equipment and subcontract activities in the North Sea related to the B.P. Exploration Foinaven Development program west of the Shetlands in the North Atlantic and revenues resulting from the acquisition of OPI. There were higher revenues on marine and engineering activities in North America, and the sale of an interest in three Caspian Sea oil fields. These increases were partially offset by lower revenues in the Far East and domestic shipyard operations.
Marine Construction Services' segment operating income increased $6,258,000 to $38,447,000. Excluding the gain of $34,788,000 from the sale of an interest in three Caspian Sea oilfields, segment operating income decreased $28,530,000 due to higher amortization expense relating to goodwill and other intangibles resulting from the acquisition of OPI on January 31, 1995. There were lower margins due to the completion of higher profit margin contracts in the Far East and the Middle East during fiscal 1995, lower volume in the Far East this year, and lower operating income in North America on offshore activities because of weather downtime and lower margins on certain contracts. This decrease was partially offset by a favorable insurance adjustment of $12,000,000, higher volume and margins in North America on fabrication activities, and higher margins on shipyard operations. During fiscal year 1995, there were also operating losses
associated with the fabrication yard in Scotland and accelerated depreciation of $4,314,000 on certain marine equipment in the Far East.
Marine Construction Services' equity in income of investees decreased $13,539,000 to $11,949,000. This decrease was primarily due to lower results from both the HeereMac and McDermott-ETPM West, Inc. joint ventures. The revenues of these two joint ventures declined from $656,490,000 to $542,772,000, primarily in the Gulf of Mexico, the Far East and the North Sea, partially offset by increased volume in West Africa. The equity income from these two joint ventures declined from $24,759,000 to $3,616,000 as a result of reduced volume and margins in the North Sea. Together these two investees accounted for 30% of equity in earnings of investees. While both joint ventures performed at low levels during fiscal 1996, worldwide demand for offshore drilling rigs has increased and has resulted in an increase in these joint ventures' backlog. The decrease was partially offset by higher operating activity from the Brown and Root McDermott Fabricators Limited joint venture which was formed in the last quarter of the prior year.
Backlog for this segment at March 31, 1996 and 1995 was $1,137,597,000 and $1,343,078,000, respectively. Not included in backlog at March 31, 1996 and 1995 was backlog relating to contracts to be performed by unconsolidated joint ventures of approximately $1,407,000,000 and $1,014,000,000, respectively.
The activity of the Marine Construction Services' segment (including its significant investees) depends mainly on the capital expenditures of oil and gas companies and foreign governments for developmental construction. These expenditures are influenced by the selling price of oil and gas along with the cost of production and delivery, the terms and conditions of offshore leases, the discovery rates of new reserves offshore, the ability of the oil and gas industry to raise capital, and local and international political and economic conditions. Demand for new ship construction and inland barges is impacted by charter rates that ship and barge owners can earn and by the age and condition of the existing fleet.
Oil company capital exploration and production budgets in calendar year 1996 are higher than 1995 expenditures. While oil prices remain flat, natural gas prices have increased significantly as compared to calendar year 1995. Expenditures in both domestic and international areas are expected to increase; domestic at a higher rate. Worldwide demand for offshore drilling rigs has increased and this, historically, has been a leading indicator for an increase in the need for marine construction services. This segment's markets are expected to begin to emerge from the competitive environment that has put pressure on margins in prior periods.
Interest income decreased $15,502,000 to $37,238,000 primarily due to decreases in investments in government obligations and other investments in the current year and income recognized in the prior year on a receivable from an equity investee and settlement of claims for interest relating to foreign tax refunds and contract claims.
Interest expense increased $27,197,000 to $84,312,000, primarily due to a reduction in accrued interest of $26,300,000 on proposed tax deficiencies that was recorded in the prior year.
Minority interest expense decreased $2,137,000 to $10,030,000 primarily due to minority shareholder participation in the increased losses of the McDermott-ETPM East joint venture in the current year which was partially offset by participation in losses in the prior year of DCC.
Other-net increased $37,790,000 from expense of $33,291,000 to income of $4,499,000. This increase was primarily due to a loss related to the reduction of estimated products liability asbestos claim recoveries of $14,478,000 from insurers and a provision for the settlement of a lawsuit, both in the prior year, and gains in the current year of $9,115,000 on the disposal of assets.
The provision for income taxes increased $21,122,000 from a benefit of $20,043,000 to a provision of $1,079,000, while income before income taxes and cumulative effect of accounting change increased $30,871,000 from a loss of $9,167,000 to income of $21,704,000. The increase in income taxes is primarily due to an increase in income from operations partially offset by a reappraisal of $5,600,000 of liabilities in certain foreign tax jurisdictions. In addition, McDermott International operates in many different tax jurisdictions. Within these jurisdictions, tax provisions vary because of nominal rates, allowability of deductions, credits and other benefits, and even tax basis (for example, revenues versus income). These variances, along with variances in the mix of income within jurisdictions, are responsible for shifts in the effective tax rate. As a result of these factors, the provision for income taxes was 5% of pretax income in fiscal year 1996 compared to a benefit from income taxes of 219% of pretax loss in fiscal year 1995.
Net Income increased $11,514,000 to $20,625,000 reflecting the cumulative effect of the adoption of SFAS No. 112, in addition to the other items mentioned above.
FISCAL YEAR 1995 VS FISCAL YEAR 1994
Power Generation Systems and Equipment's revenues increased $49,029,000 to $1,663,235,000. This was primarily due to higher revenues from fabrication and erection of fossil fuel steam and environmental control systems, nuclear fuel assemblies and reactor components for the U. S. Government, replacement nuclear steam generators, repair and alteration of existing fossil fuel steam systems, and operations and maintenance contracts for small power plants. These increases were partially offset by lower revenues from defense and space-related products (other than nuclear fuel assemblies and reactor components), extended scope of supply and fabrication of industrial boilers, and replacement parts.
Power Generation Systems and Equipment's segment operating income decreased $28,365,000 to $13,440,000 due to provisions for the decontamination, decommissioning and closing of certain nuclear manufacturing facilities and the closing of a manufacturing facility ($46,489,000) and a favorable warranty reserve recorded in the prior year ($11,000,000). Operating income increased due to lower operating expenses (including favorable workers compensation adjustments) and administrative expenses (including cost reduction initiatives); higher volume and margins on operations and maintenance contracts; and improved margins on plant enhancement projects. These
increases were partially offset by lower volume and margins on extended scope of supply and fabrication of industrial boilers, lower volume on replacement parts, and lower margins on nuclear fuel assemblies and reactor components for the U. S. Government.
Power Generation Systems and Equipment's equity in income of investees decreased $3,668,000 to $8,364,000. This represents the results of approximately fifteen active joint ventures each of which is relatively small. The decrease was primarily due to a discontinued domestic venture which engaged in simulation training and lower operating results from its Chinese venture engaged in boiler manufacturing.
Marine Construction Services' revenues decreased $61,578,000 to $1,390,919,000, primarily due to lower volume in worldwide marine and domestic fabrication operations. These decreases were partially offset by the inclusion of revenues as a result of the acquisitions of OPI ($44,439,000) on January 31, 1995 and Northern Ocean Services ("NOS") ($59,644,000 for the full fiscal year) in February 1994 and higher volume in foreign fabrication and procured materials.
Marine Construction Services' segment operating income increased slightly to $32,189,000 from $34,174,000 (including $4,993,000 from OPI) primarily due to improved margins in foreign marine operations, inclusion of the operating results of NOS for the full fiscal year; and higher volume of procured materials, domestic engineering operations, and foreign fabrication. These increases were mostly offset by higher operating expenses, lower operating results from DCC's operations, lower margins from shipyard operations, and start-up costs associated with new shipbuilding activities.
Marine Construction Services' equity in income of investees decreased $82,340,000 to $25,488,000. Both the HeereMac and McDermott-ETPM West, Inc. joint ventures performed at lower levels than in the previous year, as several large contracts were completed in fiscal 1994. The revenues of these two joint ventures declined from $895,666,000 to $656,490,000. Most of the HeereMac decline was in the North Sea. McDermott-ETPM West, Inc. also declined in the North Sea, but this was partially offset by increased volume in West Africa. The equity income from these two joint ventures declined from $106,783,000 to $24,759,000. HeereMac's equity income decreased as a result of the reduced volume and reduced margins. McDermott-ETPM West, Inc.'s equity income also decreased as a result of the reduced volume, but the decrease was not as severe. McDermott-ETPM West, Inc. also had a loss provision of approximately $7,500,000 on a major North Sea contract. Together these two significant investees accounted for 97% of equity in earnings of investees. No other venture contributed significantly to the decline.
Interest income increased $13,989,000 to $52,740,000 primarily due to recognition of interest on a receivable from an equity investee, settlement of claims for interest relating to foreign tax refunds and contract claims, and higher interest rates on investments in government obligations and other investments.
Interest expense decreased $6,860,000 to $57,115,000, primarily due to a reduction of accrued interest on proposed tax deficiencies, partially offset by changes in debt obligations and interest rates prevailing thereon.
Minority interest expense decreased $3,084,000 to $12,167,000 primarily due to minority shareholder participation in increased losses of DCC and JRM's losses for the two months ended March 31, 1995. These decreases in expense were partially offset by an increase due to minority shareholder participation in the improved results of the McDermott-ETPM East joint venture.
Other-net expense increased $28,926,000 to $33,291,000 primarily due to a loss related to the reduction of estimated products liability asbestos claim recoveries from insurers, a provision for the settlement of a lawsuit and losses on the sales of investment securities in the current period.
The provision for income taxes decreased $45,041,000 from a provision of $24,998,000 to a benefit of $20,043,000, while income before income taxes and cumulative effect of accounting changes decreased $124,121,000. The reduction in income taxes is primarily due to a decrease in income from operations along with a reduction in a provision for taxes due to a settlement of outstanding issues and higher non-taxable earnings.
Net Income increased $19,905,000 from a loss of $10,794,000 to income of $9,111,000 reflecting the cumulative effect of the adoption of SFAS No. 112 of $1,765,000 in the current year and the cumulative effect of accounting change for non- employee products liability asbestos claims of $100,750,000 in the prior year, in addition to other items described above.
Effect of Inflation and Changing Prices
McDermott International's financial statements are prepared in accordance with generally accepted accounting principles, using historical dollar accounting (historical cost). Statements based on historical cost, however, do not adequately reflect the cumulative effect of increasing costs and changes in the purchasing power of the dollar, especially during times of significant and continued inflation.
The management of McDermott International is cognizant of the effects of inflation and, in order to minimize the negative impact of inflation on its operations, attempts to cover the increased cost of anticipated changes in labor, material and service costs, either through an estimation of such changes, which is reflected in an original price, or through price escalation clauses in its contracts.
Liquidity and Capital Resources
During fiscal year 1996, McDermott International's cash and cash equivalents increased $152,754,000 to $238,663,000 and total debt decreased $176,173,000 to $810,514,000. This included McDermott International's repayment of its 10.25% Notes of $150,000,000 on June 1, 1995. During this period, McDermott International used cash of $174,331,000 for repayment of long-term debt; $165,836,000 in operating activities; $85,838,000 for additions to property, plant and equipment; $62,411,000 for dividends on International's common and preferred stocks; $29,620,000 for the conversion of a barge to a floating production unit; $23,364,000 for investments in equity investees; $23,260,000 for acquisitions; and $5,743,000 for the repurchase of a
subsidiary's preferred stock to satisfy current and future sinking fund requirements. Also during this period, McDermott International received cash of $478,343,000 from the liquidation of its investment portfolio; $165,060,000 from the proceeds of asset sales; $30,000,000 as a deposit on the sale of certain marine equipment and $46,497,000 from the return of capital from its equity investees.
The decrease in accounts payable relates primarily to the Britoil contract for the Atlantic Frontier Programme Development of Foinaven Phase One Facility ("Foinaven"). Increases in Net contracts in progress and advance billings were primarily due to the timing of billings on the Foinaven contracts and Canadian activities.
Pursuant to an agreement with the majority of its principal insurers, McDermott International negotiates and settles products liability asbestos claims from non-employees and bills these amounts to the appropriate insurers. As a result of collection delays inherent in the process, reimbursement is usually delayed for three months or more. The number of claims had increased during the second half of fiscal year 1995 and the first nine months of fiscal year 1996, but have decreased during the March quarter. Management believes, based on information currently available, that the recent increase represented an acceleration in the timing of the receipt of these claims, but does not represent an increase in its total estimated liability. The average amount of these claims (historical average of approximately $5,500 per claim over the last three years) has continued to rise. Claims paid in fiscal year 1996 were $151,961,000, of which $135,778,000 has been recovered or is due from insurers. At March 31, 1996, receivables of $63,223,000 were due from insurers for reimbursement of settled claims including $21,050,000 due from certain insurers which have refused to reimburse B&W for amounts paid by B&W to settle claims under applicable policies. B&W has filed a lawsuit against these insurers seeking reimbursement of these claims and expects to prevail in this litigation which may continue beyond fiscal year 1997 unless a settlement is reached. B&W will require that any settlement reimburse B&W for all amounts billed to date and future payments up to full policy limits. Estimated liabilities for pending and future non-employee products liability asbestos claims are derived from McDermott International's claims history and constitute management's best estimate of such future costs. Estimated insurance recoveries are based upon analysis of insurers providing coverage of the estimated liabilities. Inherent in the estimate of such liabilities and recoveries are expected trends in claim severity and frequency and other factors, including recoverability from insurers, which may vary significantly as claims are filed and settled. Accordingly, the ultimate loss may differ materially from amounts provided in the consolidated financial statements. Settlement of the liability is expected to occur over approximately the next 25 years. The collection delays (including the lawsuit mentioned above), and the amount of claims paid for which insurance recovery is not probable have not had a material adverse effect on McDermott International's liquidity, and management believes, based on information currently available, that they will not have a material adverse effect on liquidity in the future.
McDermott International's expenditures for property, plant and equipment decreased $5,341,000 to $85,838,000 in fiscal year 1996. While the majority of these expenditures were incurred to maintain and replace existing facilities and equipment, $8,669,000 was expended for the installation of a new pipe reel system on a marine barge. In addition to expenditures for property, plant and equipment, McDermott International expended $29,620,000 for the conversion of a barge to a floating production unit which is now
leased to a third party. The barge conversion is financed by $21,700,000 in loan facilities, of which $21,139,000 was outstanding at March 31, 1996. McDermott International has committed to make capital expenditures of approximately $43,689,000 during fiscal 1997.
At March 31, 1996 and 1995, The Babcock & Wilcox Company had sold, with limited recourse, an undivided interest in a designated pool of qualified accounts receivable of approximately $107,000,000 and $175,000,000, respectively, under an agreement with a U.S. bank. During fiscal year 1996 the maximum sales limit available under the agreement was reduced from $225,000,000 to $140,000,000 and the agreement was amended to provide for an annual renewal of the program.
At March 31, 1996 and 1995, International and its subsidiaries had available to them various uncommitted short-term lines of credit from banks totaling $439,610,000 and $373,867,000, respectively. Borrowings against these lines of credit at March 31, 1996 and 1995 were $149,067,000 and $63,025,000, respectively. In addition, The Babcock & Wilcox Company had available to it an unsecured and committed revolving credit facility which was amended during fiscal year 1996 to increase the commitment to $150,000,000 and to extend the agreement to March 31, 1999. It is a condition to borrowing under this revolving credit facility that the borrower's tangible net worth, debt to capitalization, and interest coverage as defined in the agreement meet or exceed certain covenant requirements. There were borrowings of $50,000,000 against this facility at March 31, 1996 and none at March 31, 1995. JRM also had available a $150,000,000 unsecured and committed revolving credit facility on which no borrowings were outstanding at March 31, 1996. JRM is restricted, as a result of the consolidated tangible net worth covenant in this agreement, in its ability to transfer funds to International and its subsidiaries through cash dividends or through unsecured loans or investments. At March 31, 1996, approximately $13,000,000 of JRM's net assets were not subject to this restriction.
The Delaware Company is restricted, as a result of covenants in credit agreements, in its ability to transfer funds to International and its subsidiaries through cash dividends or through unsecured loans or investments. Substantially all of the net assets of the Delaware Company is subject to such restrictions. It is not expected that these restrictions will have any significant effect on International's liquidity.
McDermott International maintains an investment portfolio of government obligations and other investments. The fair value of short-term investments and the long-term portfolio at March 31, 1996 was $244,103,000. At March 31, 1996, approximately $125,361,000 fair value of these obligations were pledged to secure a letter of credit in connection with a long-term loan and certain reinsurance agreements.
During March 1996, JRM sold the vessels DB101 and DB102 (previously leased to the joint venture) to the HeereMac joint venture for $240,969,000, including $30,000,000 as a deposit in advance of the sale of certain marine equipment. Consideration received included cash of $135,969,000 and a promissory note of $105,000,000 bearing interest at a rate of 7.75%. The cash portion of the purchase price was funded in part through a $200,000,000 stand-alone credit arrangement obtained by the HeereMac joint venture. Proceeds from the sale were used to repay JRM's Floating Rate Note to McDermott International and to repay other indebtedness of approximately $72,000,000. The remaining proceeds were invested in cash equivalents. As a result of the sale, JRM recorded a deferred gain of $103,239,000, which it is amortizing over 12 years.
Also during March 1996, McDermott International sold its interest in three Caspian Sea oil fields to Itochu Corporation, a Japanese trading company, and recognized a gain of $34,788,000. The proceeds from the sale were used to repay outstanding short-term indebtedness.
Working capital increased $372,776,000 to $331,986,000 at March 31, 1996 from a deficit of $40,790,000 at March 31, 1995. This increase reflects the liquidation of approximately $348,000,000 of the long-term investment portfolio to repay short-term debt and the 10.25% Notes due June 1, 1995, and cash received from the vessel sales described above. During fiscal year 1997, McDermott International expects to obtain funds to meet capital expenditure, working capital and debt maturity requirements from operating activities, sales of non-strategic assets and borrowings under its short-term lines of credit. Leasing agreements for equipment, which are short-term in nature, are not expected to impact McDermott International's liquidity or capital resources. McDermott International's financial strategy is to rebuild its investment portfolio and maintain a level of cash and investments equal to or greater than its total debt. It intends to achieve this balance from improved operating performance and the disposition of unused, surplus and non-strategic assets which have been identified and placed in a program for their disposal. JRM is also considering the issuance of public debt, the proceeds of which, in part, would be used to repay its intercompany note payable of $231,000,000 which was issued to International in consideration for the contribution of International's marine construction services businesses to JRM in the merger with OPI. International intends to reduce any short-term borrowings outstanding, and to invest any remaining funds from the settlement in its investment portfolio.
JRM's joint ventures are largely financed through their own resources, including, in some cases, stand-alone borrowing arrangements. Historically, JRM has obtained funds from its joint ventures through chartering arrangements, whereby JRM charters vessels to the joint ventures for use in their operations, as well as through distributions from the joint ventures. While JRM and the other parties to the joint venture arrangements generally must agree on the amount of cash flow to be distributed, the joint ventures have historically distributed to their respective owners cash in excess of estimated working capital requirements, based on the owners' relative ownership percentages.
International's quarterly dividends are $0.25 per share on its Common Stock and $0.71875 per share on its Series C Cumulative Convertible Preferred Stock. The Delaware Company's quarterly dividends are $0.55 per share on the Series A $2.20 Cumulative Convertible Preferred Stock and $0.65 per share on the Series B $2.60 Cumulative Preferred Stock. International's and the Delaware Company's quarterly dividends were at the same rates in 1996 and 1995. During fiscal year 1996, 458,382 shares of Series B Preferred Stock were converted into 1,065,193 shares of common stock and the remaining 250 shares were redeemed for cash. Prior to its redemption during fiscal 1996, JRM paid $511,000 on its Series B Preferred Stock.
At March 31, 1996, the ratio of long-term debt to total stockholders' equity was 0.84 as compared with 0.81 at March 31, 1995.
McDermott International has provided a valuation allowance ($30,889,000 at March 31, 1996) for deferred tax assets which cannot be realized through carrybacks and future reversals of existing taxable temporary differences. Management believes that remaining deferred tax assets at March 31, 1996 in all other tax jurisdictions are realizable through carrybacks and future reversals of existing taxable temporary differences and, if necessary, the implementation of tax planning strategies involving the sales of appreciated assets. A major uncertainty that affects the ultimate realization of deferred tax assets is the possibility of declines in value of appreciated assets involved in identified tax planning
strategies. This factor has been considered in determining the valuation allowance. Management will continue to assess the adequacy of the valuation allowance on a quarterly basis.
New Accounting Standards
In March 1995, the Financial Accounting Standards Board ("FASB") issued SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," effective for fiscal years beginning after December 15, 1995. SFAS No. 121 requires that long-lived assets and certain identifiable intangibles to be held and used by an entity be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. SFAS No. 121 also applies to similar assets that are held for disposal, except for the assets of a discontinued operation. McDermott International has not yet finalized its review of the impact of this statement, but it is not expected to have a material impact on the consolidated financial statements.
In October 1995, the FASB issued SFAS No. 123, "Accounting for Stock-Based Compensation," effective for fiscal years beginning after December 15, 1995. SFAS No. 123 established financial accounting and reporting standards for stock-based employee compensation plans. McDermott International has not yet finalized its review of the provisions of this statement, and accordingly, has not yet determined whether it will adopt SFAS No. 123 for expense recognition purposes, or continue to follow Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," and make the pro forma information disclosures required under the new method.
Item 8.
Item 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
COMPANY REPORT ON CONSOLIDATED FINANCIAL STATEMENTS
International has prepared the consolidated financial statements and related financial information included in this report. International has the primary responsibility for the financial statements and other financial information and for ascertaining that the data fairly reflects the financial position and results of operations of McDermott International. The financial statements were prepared in accordance with generally accepted accounting principles, and necessarily reflect informed estimates and judgments by appropriate officers of McDermott International with appropriate consideration given to materiality.
McDermott International believes that it maintains an internal control structure designed to provide reasonable assurance that assets are safeguarded against loss or unauthorized use and that the financial records are adequate and can be relied upon to produce financial statements in accordance with generally accepted accounting principles. The concept of reasonable assurance is based on the recognition that the cost of an internal control structure must not exceed the related benefits. Although internal control procedures are designed to achieve these objectives, it must be recognized that errors or irregularities may nevertheless occur. McDermott International seeks to assure the objectivity and integrity of its accounts by its selection of qualified personnel, by organizational arrangements that provide an appropriate division of responsibility and by the establishment and communication of sound business policies and procedures throughout the organization. McDermott International believes that its internal control structure provides reasonable assurance that errors or irregularities that could be material to the financial statements are prevented or would be detected.
McDermott International's accompanying consolidated financial statements have been audited by its independent auditors, who provide McDermott International with expert advice on the application of U. S. generally accepted accounting principles to McDermott International's business and also provide an objective assessment of the degree to which McDermott International meets its responsibility for the fairness of financial reporting. They regularly evaluate the internal control structure and perform such tests and other procedures as they deem necessary to reach and express an opinion on the fairness of the financial statements. The report of the independent auditors appears elsewhere herein.
The Board of Directors pursues its responsibility for McDermott International's consolidated financial statements through its Audit Committee, which is composed solely of directors who are not officers or employees of McDermott International. The Audit Committee meets periodically with the independent auditors and management to review matters relating to the quality of financial reporting and internal control structure and the nature, extent and results of the audit effort. In addition, the Audit Committee is responsible for recommending the engagement of independent auditors for McDermott International to the Board of Directors, who in turn submit the engagement to the stockholders for their approval. The independent auditors have free access to the Audit Committee.
May 15, 1996
REPORT OF INDEPENDENT AUDITORS
The Board of Directors and Stockholders McDermott International, Inc.
We have audited the accompanying consolidated balance sheet of McDermott International, Inc. as of March 31, 1996 and 1995, and the related consolidated statements of income (loss), stockholders' equity and cash flows for each of the three years in the period ended March 31, 1996. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of McDermott International, Inc. at March 31, 1996 and 1995, and the consolidated results of its operations and its cash flows for each of the three years in the period ended March 31, 1996, in conformity with generally accepted accounting principles.
As discussed in Note 1 to the consolidated financial statements, the Company changed its methods of accounting for postemployment benefits and investment securities in 1995 and recoveries of products liability claims in 1994.
ERNST & YOUNG LLP
New Orleans, Louisiana May 15, 1996
McDERMOTT INTERNATIONAL, INC. CONSOLIDATED BALANCE SHEET MARCH 31, 1996 and 1995
ASSETS
See accompanying notes to consolidated financial statements.
LIABILITIES AND STOCKHOLDERS' EQUITY
McDERMOTT INTERNATIONAL, INC. CONSOLIDATED STATEMENT OF INCOME (LOSS) FOR THE THREE FISCAL YEARS ENDED MARCH 31, 1996
CONTINUED
See accompanying notes to consolidated financial statements.
McDERMOTT INTERNATIONAL, INC. CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY FOR THE THREE FISCAL YEARS ENDED MARCH 31, 1996 (In thousands, except for share amounts)
See accompanying notes to the consolidated financial statements.
McDERMOTT INTERNATIONAL, INC. CONSOLIDATED STATEMENT OF CASH FLOWS FOR THE THREE FISCAL YEARS ENDED MARCH 31, 1996
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
CONTINUED
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
See accompanying notes to consolidated financial statements.
McDERMOTT INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FOR THE THREE FISCAL YEARS ENDED MARCH 31, 1996
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation
The consolidated financial statements are presented in U.S. Dollars in accordance with accounting principles generally accepted in the United States. The consolidated financial statements include the accounts of McDermott International, Inc. and all subsidiaries and controlled joint ventures. Investments in joint venture and other entities which McDermott International, Inc. does not control but has significant influence are accounted for on the equity method. Differences between the cost of equity method investments and the amount of underlying equity in net assets of the investees are amortized systematically to income. All significant intercompany transactions and accounts have been eliminated. Certain amounts previously reported have been reclassified to conform with the presentation at March 31, 1996.
Unless the context otherwise requires, hereinafter "International" will be used to mean McDermott International, Inc., a Panamanian corporation; "JRM" will be used to mean J. Ray McDermott, S.A., a Panamanian corporation, which is a majority owned subsidiary of International, and its consolidated subsidiaries; and the "Delaware Company" will be used to mean McDermott Incorporated, a Delaware corporation which is a subsidiary of International, and its consolidated subsidiaries (including Babcock & Wilcox Investment Company and its principal subsidiary, The Babcock & Wilcox Company); and "McDermott International" will be used to mean the consolidated enterprise.
Use of Estimates
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.
Changes in Accounting Policies
Products Liability - As a result of the consensus reached on Emerging Issues Task Force ("EITF") Issue No. 93-5, a company is no longer permitted to offset, for recognition purposes, reasonable possible recoveries against probable losses which until fiscal year 1994 had been McDermott International's practice with respect to estimated future costs for non-employee products liability asbestos claims. Effective April 1, 1993, McDermott International adopted this provision of EITF Issue No. 93-5 as a change in accounting principle and provided for estimated future costs to the extent that recovery from its insurers was not determined to be probable. The cumulative effect of the accounting change at April 1, 1993 was a charge of $100,750,000 (net of income taxes of $54,250,000), or $1.89 per share. The adoption of this provision of EITF Issue No. 93-5 resulted in an increase in pre-tax Income before Cumulative Effect of Accounting Change of $19,947,000 ($12,168,000 net of tax, or $0.23 per share) in fiscal year 1994, as
costs in fiscal year 1994 that would have been recognized under McDermott International's prior practice were included in the cumulative effect of the accounting change.
Postemployment Benefits - Effective April 1, 1994, McDermott International adopted Statement of Financial Accounting Standards ("SFAS") No. 112, "Employers' Accounting for Postemployment Benefits," in accounting for disability benefits and other types of benefits paid to employees, their beneficiaries and covered dependents after active employment, but before retirement. The cumulative effect as of April 1, 1994 of this change in accounting was to reduce net income by $1,765,000 (net of income taxes of $287,000) or $0.03 per share. Other than the cumulative effect, the accounting change had no material effect on the results of fiscal year 1995. Prior to April 1, 1994, McDermott International recognized the cost of providing most of these benefits on a cash basis.
Investments - Effective April 1, 1994, McDermott International adopted SFAS No. 115, "Accounting for Certain Investments in Debt and Equity Securities" for investments held as of or acquired after April 1, 1994. The adoption of SFAS No. 115 resulted in a decrease in the opening balance of stockholders' equity of $4,095,000 to reflect the net unrealized holding losses on McDermott International's investment securities which were previously carried at amortized cost.
At March 31, 1996 and 1995 McDermott International's investments, primarily government obligations and other debt securities, are classified as available-for-sale and are carried at fair value, with the unrealized gains and losses, net of tax, reported in a separate component of shareholders' equity. Management determines the appropriate classifications of debt securities at the time of purchase and reevaluates such designation as of each balance sheet date. Investment securities available for current operations are classified in the balance sheet as current assets while securities held for long-term investment purposes are classified as non-current assets. The amortized cost of debt securities is adjusted for amortization of premiums and accretion of discounts to maturity. Such amortization is included in interest income. Realized gains and losses are included in other income. The cost of securities sold is based on the specific identification method. Interest on securities is included in interest income.
Income Taxes
Income taxes have been provided using the liability method in accordance with SFAS No. 109, "Accounting for Income Taxes".
Foreign Currency Translation
Assets and liabilities of foreign operations, other than operations in highly inflationary economies, are translated into U.S. Dollars at current exchange rates and income statement items are translated at average exchange rates for the year. Adjustments resulting from the translation of foreign currency financial statements are recorded in a separate component of equity. Foreign currency transaction adjustments are reported in income. Included in Other Income (Expense) are transaction losses of $3,840,000, $1,057,000, and $2,260,000 for fiscal years 1996, 1995 and 1994, respectively.
Contracts and Revenue Recognition
Contract revenues and related costs are principally recognized on a percentage of completion method for individual contracts or components thereof based upon work performed or a cost to cost method, as applicable to the product or activity involved. Revenues and related costs so recorded, plus accumulated contract costs that exceed amounts invoiced to customers under the terms of the contracts, are included in Contracts in Progress. Billings that exceed accumulated contract costs and revenues and costs recognized under percentage of completion are included in Advance Billings on Contracts. Most long-term contracts have provisions for progress payments. There are no unbilled revenues which will not be billed. Contract price and cost estimates are reviewed periodically as the work progresses and adjustments proportionate to the percentage of completion are reflected in income in the period when such estimates are revised. Provisions are made currently for all known or anticipated losses. Variations from estimated contract performance could result in a material adjustment to operating results for any fiscal quarter or year. Claims for extra work or changes in scope of work are included in contract revenues when collection is probable. Included in Accounts Receivable and Contracts in Progress are approximately $58,190,000 and $50,831,000 relating to commercial and U.S. Government contracts claims whose final settlement is subject to future determination through negotiations or other procedures which had not been completed at March 31, 1996 and 1995, respectively.
McDermott International is usually entitled to financial settlements relative to the individual circumstances of deferrals or cancellations of Power Generation Systems and Equipment contracts. McDermott International does not recognize such settlements or claims for additional compensation until final settlement is reached.
Included in accounts receivable - trade are amounts representing retainages on contracts as follows:
Of its long-term retainages at March 31, 1996, McDermott International anticipates collection of $13,541,000 in fiscal year 1998 and $4,012,000 in fiscal year 1999.
Inventories
Inventories are carried at the lower of cost or market. Cost is determined on an average cost basis except for certain materials inventories, for which the last-in first-out (LIFO) method is used. The cost of approximately 19% and 20% of total inventories was determined using the LIFO method at March 31, 1996 and 1995, respectively. Consolidated inventories at March 31, 1996 and 1995 are summarized below:
Warranty Expense
Estimated warranty expense which may be required to satisfy contractual requirements, primarily of the Power Generation Systems and Equipment segment, is accrued relative to revenue recognition on the respective contracts. In addition, specific provisions are made where the costs of warranty are expected to significantly exceed such accruals.
Environmental Clean-up Costs
McDermott International accrues for future decommissioning and decontamination of its nuclear facilities that will permit the release of these facilities to unrestricted use at the end of each facility's life, which is a condition of its licenses from the Nuclear Regulatory Commission. Such accruals are based on the estimated cost of those activities over the economic useful life of each facility, which is estimated at 40 years.
Research and Development
The cost of research and development which is not performed on specific contracts is charged to operations as incurred. Such expense was approximately $23,000,000, $19,905,000 and $21,036,000 in fiscal years 1996, 1995 and 1994, respectively. In addition, expenditures on research and development activities of approximately $45,106,000, $44,240,000 and $48,112,000 in fiscal years 1996, 1995 and 1994, respectively, were paid for by customers of McDermott International.
Depreciation, Maintenance and Repairs and Drydocking Expenses
Except for major marine vessels, property, plant and equipment is depreciated on the straight-line method, using estimated economic useful lives of 8 to 40 years for buildings and 2 to 28 years for machinery and equipment.
Major marine vessels are depreciated on the units-of-production method based on the utilization of each vessel. Depreciation expense calculated under the units-of-production method may be less than, equal to, or greater than depreciation expense calculated under the straight-line method in any period. The annual depreciation based on utilization of each vessel will not be less than the greater of 25% of annual straight-line depreciation, or 50% of cumulative straight-line depreciation.
Maintenance, repairs and renewals which do not materially prolong the useful life of an asset are expensed as incurred except for drydocking costs for the marine fleet, which are estimated and accrued over the period of time between drydockings, and such accruals are charged to operations currently.
Amortization of Excess of Cost Over Fair Value of Net Assets of Purchased Businesses
Excess of the cost over fair value of net assets of purchased businesses primarily pertains to the acquisition of The Babcock & Wilcox Company, which is being amortized on a straight-line basis over 40 years, and the acquisition of Offshore Pipelines, Inc. which is being amortized on a straight-line basis over 15 years. Management periodically reviews goodwill to assess recoverability, and impairments would be recognized in operating results if a permanent diminution in value were to occur.
Capitalization of Interest Cost
In fiscal years 1996, 1995 and 1994, total interest cost incurred was $86,239,000, $59,715,000 and $65,296,000, respectively, of which $1,927,000, $2,600,000 and $1,321,000, respectively, was capitalized.
Earnings Per Share
Primary earnings per share are based on the weighted average number of common and dilutive common equivalent shares outstanding during the year. Fully diluted earnings per share are the same as primary since the computations were antidilutive.
Cash Equivalents
Cash equivalents are highly liquid investments, with maturities of three months or less when purchased, which are not held as part of the investment portfolio.
Derivative Financial Instruments
Derivatives, primarily forward exchange contracts, are utilized to minimize exposure and reduce risk from foreign exchange fluctuations in the regular course of business. Gains and losses related to qualifying hedges of firm commitments are deferred and recognized in income or as adjustments of carrying amounts when the hedged transactions occur. Gains and losses on forward exchange contracts which hedge foreign currency assets or liabilities are recognized in income as incurred. Such amounts effectively offset gains and losses on the foreign currency assets or liabilities that are hedged.
Accounting for Long-Lived Assets
McDermott International is currently reviewing Statement of Financial Accounting Standards ("SFAS") No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," effective for fiscal years beginning after December 15, 1995. SFAS No. 121 established financial accounting and reporting standards for long-lived assets and certain identifiable intangibles. McDermott International has not yet finalized its review of the impact of this statement, but it is not expected to have a material impact on the consolidated financial statements.
Stock-Based Compensation
McDermott International accounts for its stock compensation arrangements under the provision of Accounting Principles Board ("APB") No. 25, "Accounting for Stock Issued to Employees," but is reviewing the provisions of SFAS No. 123, "Accounting for Stock-Based Compensation," which is effective for fiscal years beginning after December 15, 1995. SFAS No. 123 establishes financial accounting and reporting standards for stock-based employee compensation plans. McDermott International has not yet finalized its review of the provisions of this statement, and accordingly, has not yet determined whether it will adopt SFAS No. 123 for expense recognition purposes, or continue to follow APB Opinion No. 25, and make the proforma information disclosures required under the new standard.
NOTE 2 - ACQUISITIONS
During the three years ended March 31, 1996, McDermott International made the acquisitions described below which were accounted for by the purchase method. Operating results have been included in the Consolidated Statement of Income (Loss) from the acquisition dates.
During fiscal year 1996, McDermott International acquired the minority ownership interest in McDermott Engineers & Constructors (Canada), Ltd. ("MECL"), formerly Delta Catalytic Corporation, a controlling interest in Talleres Navales Del Golfo ("TNG"), a Mexican shipyard, and the assets of Joy Environmental Technologies, which specialized in technologies used by electric utilities and other industrial companies to comply with clean air regulations. Proforma results of operations have not been presented because the effects of these acquisitions were not significant.
On January 31, 1995, McDermott International contributed substantially all of its marine construction services business to JRM and JRM acquired Offshore Pipelines, Inc. ("OPI"), a full-range provider of offshore marine construction and other related services on a worldwide basis to the oil and gas industry. Pursuant to the Merger Agreement, JRM issued 13,867,946 shares of Common Stock, 897,818 options to acquire shares of Common Stock and 458,632 shares of Series B $2.25 Cumulative Convertible Exchangeable Preferred Stock valued at $347,599,000 in exchange for all of the outstanding common stock, stock options and preferred stock of OPI. As a result of the acquisition of OPI, McDermott International's ownership interest in the common stock of JRM was reduced to approximately 64%. The purchase price ($369,868,000, including direct costs of acquisition and non-compete agreements) was allocated to the underlying assets and liabilities based upon preliminary fair values at the date of acquisition which resulted in excess cost over fair value of net assets acquired of $235,000,000. During fiscal year 1996, McDermott International completed certain asset and liability valuations related primarily to joint ventures, property, plant and equipment and preacquisition contingencies resulting in an increase in excess of cost over fair value of net assets acquired of $95,000,000. Additionally, during fiscal year 1996, management completed its assessment of the amortization period for excess of cost over fair value of net assets acquired and determined the amortization period should be 15 years.
Unaudited proforma results of operations for fiscal years 1995 and 1994 assuming the acquisition of OPI had occurred as of the beginning of fiscal year 1994 are: revenues of $3,359,054,000, loss before cumulative effect of accounting changes of $9,547,000 ($0.33 loss per share) and net loss of $11,312,000 ($0.36 per share) for fiscal year 1995; revenues of $3,399,186,000, income before cumulative effect of accounting changes of $56,031,000 ($0.93 per share) and net loss of $44,719,000 ($0.95 per share) for fiscal year 1994. The proforma information is presented for informational purposes only and is not necessarily indicative of the operating results that would have occurred had the acquisition been completed as of April 1, 1993.
During fiscal year 1994, McDermott International acquired Northern Ocean Services Limited ("NOS") for $57,645,000 and the Delaware Company acquired a controlling interest in MECL for $28,249,000. Of the purchase prices, $32,832,000 was assigned to excess of cost over fair value of net assets acquired and is being amortized over a period of 10 years.
Assuming the acquisitions of NOS and MECL had occurred at the beginning of fiscal year 1994 the unaudited proforma results of operations for revenues, income before cumulative effect of accounting changes and net loss are $3,164,468,000, $94,704,000 ($1.66 per share) and $6,046,000 ($0.23 per share), respectively. The proforma financial information is presented for informational purposes only and is not necessarily indicative of the operating results that would have occurred had the acquisitions been completed as of April 1, 1993.
NOTE 3 - INVESTMENTS IN JOINT VENTURES AND OTHER ENTITIES
Investments in joint ventures and other entities, which are accounted for on the equity method, were $129,658,000 and $163,029,000 at March 31, 1996 and 1995, respectively. Transactions with entities for which investments are accounted for by the equity method included sales to ($180,198,000, $152,517,000 and $89,123,000 in fiscal years 1996, 1995 and 1994, respectively, including approximately $44,491,000, $54,657,000 and $49,121,000, respectively, attributable to leasing activities) and purchases from ($39,915,000, $12,582,000, and $137,942,000 in fiscal years 1996, 1995 and 1994, respectively) these entities. Included in non-current Other Assets at March 31, 1996 and 1995 are $23,000,000 and $12,996,000, respectively of accounts and note receivable from unconsolidated investees. Included in Accounts payable at March 31, 1996 and 1995 are $14,260,000 and $7,168,000, respectively, of payables to unconsolidated investees.
During fiscal year 1996, McDermott International sold to the HeereMac joint venture the major marine vessels it had been leasing to the joint venture. McDermott International received cash of $135,969,000, including a $30,000,000 deposit in advance of the sale of certain marine equipment, and a 7.75% note receivable of $105,000,000, and recorded a deferred gain of $103,239,000, which is being amortized over HeereMac's 12 year depreciable lives of the vessels. The note receivable, net of the deferred gain, is included in investments in joint ventures. In addition to the vessel sale in fiscal year 1996, JRM received $37,097,000 as a return of capital from the HeereMac joint venture.
In fiscal year 1995, JRM contributed various marine construction barges with a cost of $102,602,000 and accumulated depreciation of $76,763,000 and sold a derrick barge to the HeereMac joint venture for $9,101,000. In fiscal year 1994, McDermott International recognized revenues of $131,000,000 on work subcontracted to HeereMac.
At March 31, 1996 and 1995, property, plant and equipment included $141,293,000 and $402,479,000, and accumulated depreciation included $89,312,000 and $230,674,000, respectively, of marine equipment that is leased to unconsolidated investees. Dividends received from unconsolidated investees were $42,475,000, $76,481,000 and $65,214,000 in fiscal years 1996, 1995 and 1994, respectively. Undistributed earnings in unconsolidated affiliates were $50,997,000 and $44,503,000, respectively, at March 31, 1996 and 1995.
Summarized combined balance sheet and income statement information based on the most recent financial information for equity investments in joint ventures and other entities are presented below:
NOTE 4 - INCOME TAXES
Income taxes have been provided based upon the tax laws and rates in the countries in which operations are conducted. All income has been earned outside of Panama and McDermott International is not subject to income tax in Panama on income earned outside of Panama. Therefore, there is no expected relationship between the provision for, or benefit from, income taxes and income, or loss, before income taxes. The major reason for the variations in such relationships is that income is earned within and subject to the taxation laws of various countries, each of which has a regime of taxation which varies from that of any other country (not only with respect to nominal rate but also with respect to the allowability of deductions, credits and other benefits) and because the proportional extent to which income is earned in, and subject to tax by, any particular country or countries varies from year to year. International and certain of its subsidiaries keep books and file tax returns on the completed contract method of accounting.
Deferred income taxes reflect the net tax effects of temporary differences between the financial and tax bases of assets and liabilities. Significant components of deferred tax assets and liabilities as of March 31, 1996 and 1995 were as follows:
Income (loss) before provision for (benefit from) income taxes and cumulative effect of accounting changes was as follows:
The provision for (benefit from) income taxes consists of:
The current provision for other than U.S. income taxes in 1996, 1995 and 1994 includes a reduction of $3,763,000, $1,323,000 and $22,515,000, respectively, for the benefit of net operating loss carryforwards.
During fiscal year 1995, settlements were reached with the Internal Revenue Service ("IRS") concerning the Delaware Company's U.S. income tax liability for the fiscal years ended March 31, 1983 through March 31, 1988 disposing of all U.S. federal income tax issues for those years. These settlements resulted in a reduction in accrued interest expense of $26,300,000 during fiscal year 1995. The IRS has issued notices for fiscal years March 31, 1989 and March 31, 1990 asserting deficiencies in the amount of taxes reported. The deficiencies are based on issues substantially similar to those of earlier years. The Delaware Company believes that any income taxes ultimately assessed will not exceed amounts already provided.
Pursuant to a stock purchase and sale agreement (the "Intercompany Agreement"), the Delaware Company has the right to sell to International and International has the right to buy from the Delaware Company, 100,000 units, each unit consisting of one share of International Common Stock and one share of International Series A Participating Preferred Stock, at a price based primarily upon the stockholders' equity of McDermott International at the close of the fiscal year preceding the date at which the right to sell or buy, as the case may be, is exercised, and, to a limited extent, upon the price-to-book value of the Dow Jones Industrial Average. At April 1, 1996, the current unit value was $2,529 and the aggregate current unit value for the Delaware Company's 100,000 units was $252,886,000. The net proceeds to the Delaware Company from the exercise of any rights under the Intercompany Agreement would be subject to U. S. federal, state and other applicable taxes. No tax provisions have been established, since there is no present intention by either party to exercise such rights.
NOTE 5 - LONG-TERM DEBT AND NOTES PAYABLE
Notes payable and current maturities of long-term debt consist of:
The Indenture for the 9.375% Notes due 2002 and the Series A and B Medium Term Notes contain certain covenants which restrict the amount of funded indebtedness that the Delaware Company may incur, and place limitations on certain restricted payments, certain transactions between affiliates, the creation of certain liens and the amendment of the Intercompany Agreement.
In connection with the OPI acquisition, a subsidiary of JRM assumed OPI's $70,000,000 12-7/8% Guaranteed Senior Notes ("12.875% Notes"). The 12.875% Notes are subject to mandatory sinking fund requirements beginning on July 15, 2000 calculated to retire 50% of the original principal amount prior to maturity in 2002. The 12.875% Notes are redeemable, for cash, at the option of the issuer, at any time on or after July 15, 1997, in whole or in part, at a price of 106.4% of the principal amount, and thereafter at prices declining annually to 100% of the principal amount on or after July 15, 2000.
McDermott International's 10.375% Note payable due 1998 is secured by a letter of credit issued by a U. S. bank. The letter of credit was secured by $60,847,000 market value of McDermott International's long-term portfolio at March 31, 1996. The outstanding principal is repayable in semi-annual payments with the final installment due June 20, 1998. The letter of credit and collateral amounts decline as the loan principal is repaid. At March 31, 1996 and 1995, McDermott International had an interest rate swap outstanding on the current notional principal amount of this note which effectively changes the fixed interest rate of 10.375% to a floating rate based on LIBOR (See Note 14).
Maturities of long-term debt during the five fiscal years subsequent to March 31, 1996 are as follows: 1997 - $35,191,000; 1998 - $82,892,000; 1999 - $54,983,000; 2000 - $30,735,000; 2001 - $27,000.
The Delaware Company and JRM are restricted, as a result of covenants in certain credit agreements, in their ability to transfer funds to International and its subsidiaries through cash dividends or through unsecured loans or investments. At March 31, 1996, substantially all of the net assets of the Delaware Company and JRM were subject to such restrictions.
At March 31, 1996 and 1995, International and its subsidiaries had available to them various uncommitted short-term lines of credit from banks totaling $439,610,000 and $373,867,000, respectively. Borrowings against these lines of credit at March 31, 1996 and 1995 were $149,067,000 and $63,025,000, respectively. In addition, The Babcock & Wilcox Company had available to it an unsecured and committed revolving credit facility which was amended during fiscal year 1996 to increase the commitment to $150,000,000 and to extend the agreement to March 31, 1999. It is a condition to borrowing under this revolving credit facility that the borrower's tangible net worth, debt to capitalization, and interest coverage as defined in the agreement meet or exceed certain covenant requirements. There were borrowings of $50,000,000 against this facility at March 31, 1996 and none at March 31, 1995. JRM also had available a $150,000,000 unsecured and committed revolving credit facility on which no borrowings were outstanding at March 31, 1996. JRM is restricted, as a result of the consolidated tangible net worth covenant in this agreement, in its ability to transfer funds to International and its subsidiaries through cash dividends or through unsecured loans or investments.
NOTE 6 - PENSION PLANS AND POSTRETIREMENT BENEFITS
Pension Plans - McDermott International provides retirement benefits, primarily through non-contributory pension plans, for substantially all of its regular full-time employees, except certain non-resident alien employees of foreign subsidiaries who are not citizens of a European Community country or who do not earn income in the United States, Canada, or the United Kingdom. Salaried plan benefits are based on final average compensation and years of service, while hourly plan benefits are based on a flat benefit rate and years of service. McDermott International's funding policy is to fund applicable pension plans to meet the minimum funding requirements of the Employee Retirement Income Security Act of 1974 (ERISA) and, generally, to fund other pension plans as recommended by the respective plan actuary and in accordance with applicable law. At January 1, 1995 and 1994, approximately one-half of total plan assets were invested in listed stocks and bonds. The remaining assets were held in foreign equity funds, U.S. Government securities and investments of a short-term nature.
U.S. Pension Plans:
The net periodic pension benefit for fiscal years 1996, 1995 and 1994 included the following components:
Due to the sale of a domestic entity, loss before cumulative effect of accounting change in fiscal year 1995, includes a net after-tax gain of $732,000 resulting from the recognition of a curtailment of a related plan.
The following table sets forth the U.S. plans' funded status and amounts recognized in the consolidated financial statements:
The assumptions used in determining the funded status of the U. S. plans were:
The projected benefit obligation increase at March 31, 1996 was primarily due to the change in the discount rate for the U.S. plans ($119,458,000) and changes in actuarial assumptions relative to mortality and retirement.
In accordance with the provisions of SFAS No. 87, "Employers' Accounting for Pensions," McDermott International recorded, during 1996 and 1995, an additional minimum liability for certain of its U.S. plans of $5,952,000 and $10,322,000, respectively. These liabilities resulted in recognition of intangible assets of $4,114,000 and $9,910,000 and reductions in stockholders' equity of $1,839,000 and $391,000, respectively, in fiscal years 1996 and 1995.
The three principal U.S. ERISA pension plans provide that, subject to certain limitations, any excess assets in such plans would be used to increase pension benefits if certain events occurred within a 60-month period following a change in control of International.
Non-U.S. Pension Plans:
The net periodic pension benefit for fiscal years 1996, 1995 and 1994 included the following components:
Due to a plan settlement, net income includes a net gain of $1,104,000 for fiscal year 1996. Due to a reduction in workforce at one foreign subsidiary, income before cumulative effect of accounting change in fiscal year 1994 includes a net after-tax loss of $1,456,000 resulting from the recognition of a curtailment of a related plan.
The following table sets forth the non-U.S. plans' funded status (assets exceed accumulated benefits) and amounts recognized in the consolidated financial statements:
The assumptions used in determining the funded status of the non-U.S. plans were:
The changes in the discount rate for the non-U.S. plans increased the projected benefit obligation at March 31, 1996 by $10,090,000.
Multiemployer Plans - One of McDermott International's subsidiaries contributes to various multiemployer plans. The plans generally provide defined benefits to substantially all unionized workers in this subsidiary. Amounts charged to pension cost and contributed to the plans were $4,441,000, $9,838,000 and $8,367,000 in fiscal years 1996, 1995 and 1994, respectively.
Postretirement Health Care and Life Insurance Benefits - McDermott International offers postretirement health care and life insurance benefits to substantially all of its retired regular full-time employees, including those associated with discontinued operations, except certain non-resident alien retired employees who are not citizens of a European Community country or who, while employed, did not earn income in the United States, Canada or the United Kingdom. McDermott International shares the cost of providing these benefits with all affected retirees, except for certain life insurance plans. Postretirement health care and life insurance benefits are offered under separate defined benefit postretirement plans to union and non-union employees. The health care plans are contributory and contain cost-sharing provisions such as deductibles and coinsurance; the life insurance plans are contributory and non-contributory. McDermott International does not fund any of its plans.
The following table sets forth the amounts recognized in the consolidated financial statements at March 31:
The accumulated postretirement benefit obligation in the above table includes $395,808,000 and $358,543,000 for McDermott International's health care plans and $44,128,000 and $41,158,000 for McDermott International's life insurance plans at March 31, 1996 and 1995, respectively. The changes in the accumulated postretirement benefit obligation and the unrecognized net gain (loss) at March 31, 1996 were primarily attributable to the decrease in the discount rate.
Net periodic postretirement benefit cost for fiscal years 1996, 1995 and 1994 included the following components:
For measurement purposes, a weighted-average annual assumed rate of increase in the per capita cost of covered health care claims of 10-3/4% was assumed for 1996, 11-1/2% for 1995 and 12-1/2% in 1994. For 1997, a rate of 9-3/4% was assumed. In all years, the rate was assumed to decrease gradually to 5% in 2005 and remain at that level thereafter. The health care cost trend rate assumption has a significant effect on the amounts reported. For example, increasing the assumed health care cost trend rates by one percentage point in each year would increase the accumulated postretirement benefit obligation as of March 31, 1996 by $27,440,000 and the aggregate of the service cost and interest cost components of net periodic postretirement benefit cost for fiscal year 1996 by $2,397,000.
NOTE 7 - SALE OF ACCOUNTS RECEIVABLE
The Babcock & Wilcox Company has an agreement with a U.S. bank, whereby it can sell, with limited recourse, an undivided interest in a designated pool of qualified accounts receivable. Under the terms of the agreement, new receivables are added to the pool as collections reduce previously sold accounts receivable. The maximum sales limit under the agreement was reduced during fiscal year 1996 from $225,000,000 to $140,000,000. At March 31, 1996 and 1995, approximately $107,000,000 and $175,000,000, respectively, of receivables had been sold for cash under this agreement. Receivables sold under this agreement are presented as a reduction of accounts receivable on the accompanying balance sheets. Included in Other-net income were expenses recorded on the sale of receivables which represent bank fees and discounts of $8,518,000, $9,709,000 and $8,699,000 for fiscal years 1996, 1995 and 1994, respectively. Discounts are based on the bank's cost of issuing commercial paper and bank fees are a fixed amount based on the maximum limit which may be sold.
NOTE 8 - SUBSIDIARIES' STOCKS
At March 31, 1996 and 1995, 13,000,000 shares of Delaware Company Preferred Stock, with a par value of $1 per share, were authorized. Of the authorized shares, 2,818,780 shares of Series A Preferred Stock, and 2,726,860 and 2,917,236 shares of Series B Preferred Stock, respectively, were outstanding (in each case, exclusive of shares owned by the Delaware Company) at March 31, 1996 and 1995. The outstanding shares are entitled to $31.25 per share in liquidation. Preferred dividends of $13,539,000, $14,142,000 and $15,719,000 are classified as minority interest in Other Income (Expense) in fiscal years 1996, 1995 and 1994, respectively. Both series of Preferred Stock are entitled to general voting rights of one-half vote for each share. The Board of Directors of the Delaware Company may authorize additional series of Preferred Stock, and may set terms of each new series except that the Delaware Company cannot create any series of stock senior to the existing Series A and Series B Preferred Stock without the consent of the holders of at least 50% of the shares of such Preferred Stock.
Each share of the outstanding Series A Preferred Stock is convertible into one share of International's Common Stock plus $0.10 cash. Series A and Series B Preferred Stock are redeemable at the option of the Delaware Company at $31.25 per share plus accrued dividends. On March 31, 1997 and each subsequent year through March 31, 2008, the Delaware Company is obligated to redeem, at a redemption price of $31.25 plus accrued dividends, 313,878 shares of Series A Preferred Stock. On March 31 of fiscal years 1997 through 2006, and March 31 of fiscal years 2007 and 2008, the Delaware Company is obligated to redeem 252,702 and 189,526 shares, respectively, of Series B Preferred Stock. For the five fiscal years subsequent to March 31, 1996, the obligation to redeem the Series A and B Preferred Stock is $17,706,000 for each of the fiscal years 1997 through 2001. The Delaware Company may apply to the mandatory sinking fund obligations any Series A or B Preferred Stock reacquired, redeemed or surrendered for conversion which have not been previously credited against the mandatory sinking fund obligations. The Delaware Company applied 313,878 shares of Series A Preferred Stock and 252,702 shares of Series B Preferred Stock that it owned to satisfy the March 31, 1996 mandatory sinking fund obligations. During fiscal years 1996 and 1995, 190,376 and 557,416 shares, respectively, of Series B Preferred Stock were purchased on the open market. At March 31, 1996, 49,637 shares of Series A Preferred Stock have been converted to date and the Delaware Company owned 947,749 and 179,213 shares of Series A and Series B Preferred Stock, respectively.
At March 31, 1996, JRM had outstanding 3,200,000 shares of Series A $2.25 Cumulative Convertible Preferred Stock ("Series A Preferred Stock" - liquidation preference $160,000,000), all of which were owned by McDermott International. Each share of Series A Preferred Stock is convertible into 1.794 shares of Common Stock at any time after a call by JRM for redemption of any or all of the outstanding Series A Preferred Stock or at any time after January 31, 2000. At March 31, 1996, 15,592,108 shares of Common Stock were reserved for issuance in connection with the conversion of Series A Preferred Stock, and the exercise of stock options, awards of restricted stock under JRM's stock incentive plans and contributions to the Thrift Plan. At March 31, 1996, 1,092,094 options were outstanding at an average exercise price of $13.47 per share (557,440 options exercisable at an average price of $8.77 per share).
NOTE 9 - CAPITAL STOCK
The Panamanian regulations relating to acquisitions of securities of companies, such as International, registered with the National Securities Commission require, among other matters, that detailed disclosure concerning the offeror, which is subject to review by either the Panamanian National Securities Commission or the Board of Directors of the subject company, be finalized prior to the beneficial acquisition of more than 5 percent of the outstanding shares of any class of stock. Transfers of securities in violation of these regulations are invalid and cannot be registered for transfer.
At March 31, 1996 and 1995, 85,880,211 and 86,389,216 shares of Common Stock, respectively, were reserved for issuance in connection with the conversion and redemption of the Delaware Company's Series A Preferred Stock, the conversion of International's Series C Preferred Stock, the exercise of International Rights, the 1992 Officer Stock Program (and its predecessor programs), the 1992 Director Stock Program, the 1992 Senior Management Stock Program and contributions to the Thrift Plan.
International Preferred Stock - At March 31, 1996 and 1995, 25,000,000 shares of Preferred Stock were authorized. Of the authorized shares, 100,000 shares of Series A Participating Preferred Stock (the "Participating Preferred Stock") and 60,000 and 70,000 shares of Series B Non-Voting Preferred Stock (the "Non-Voting Preferred Stock"), respectively, were issued and owned by the Delaware Company at March 31, 1996 and 1995. The Non-Voting Preferred Stock is currently callable by International at $275 per share and 10,000 shares are to be redeemed each year by International at $250 per share. The annual per share dividend rates for the Participating Preferred Stock and the Non-Voting Preferred Stock are $10 (but no more than ten times the amount of the per share dividend on International Common Stock) and $20, respectively, payable quarterly, and dividends on such shares are cumulative to the extent not paid. In addition, shares of Participating Preferred Stock are entitled to receive additional dividends whenever dividends in excess of $3.00 per share on International Common Stock are declared (or deemed to have been declared) in any fiscal year. In 1987, the voting rights of the Participating Preferred Stock were eliminated.
Of the authorized shares, International issued 2,875,000 shares of Series C Cumulative Convertible Preferred Stock in July 1993. Net cash proceeds to International were $140,066,000. The Series C shares have a par value of $1.00 per share, and a liquidation preference of $50.00 per share, plus an amount equal to accrued and unpaid dividends. Dividends on Series C shares are cumulative at the annual rate of 5.75% per share on the liquidation preference, equal to $2.875 per annum. International may not redeem Series C shares prior to July 1, 1997. On or after July 1, 1997, the Series C shares are redeemable, in whole or in part, at the option of International, either in cash, shares of International Common Stock, or a combination thereof. Holders of Series C shares may convert them, in whole or in part, at any time, into International Common Stock at a conversion price of $35.25 per share of Common Stock (equivalent to a conversion rate of 1.4184 shares of Common Stock for each share of Series C Preferred Stock), subject to adjustment.
The issuance of additional International Preferred Stock in the future and the specific terms thereof, such as the dividend rights, conversion rights, voting rights, redemption prices and similar matters, may be authorized by the Board of Directors of International without stockholder approval, except to the extent such approval may be required by applicable rules of the New York Stock Exchange or applicable law. If additional Preferred Stock is issued, such additional shares will rank senior to International Common Stock as to dividends and upon liquidation.
International Rights - On December 30, 1995, the then existing Stockholder Rights Plan expired and was replaced by a new Stockholder Rights Plan. Under the new Plan, on January 2, 1996, each holder of Common Stock received a dividend distribution of one Right for each outstanding share of Common Stock. The Rights currently trade with the Common Stock and at March 31, 1996 and 1995, International had outstanding Rights to purchase 54,535,823 and 54,059,597 shares (including Rights to purchase 100,000 shares held by the Delaware Company at March 31, 1996 and 1995), respectively, of its Common Stock at a price of $50 per share subject to anti-dilution adjustments. The Rights will become exercisable and will detach from the Common Stock a specified period of time after a person or a group either becomes the beneficial owner of 15 percent or more of the outstanding Common Stock, or commences or announces an intention to commence a tender or exchange offer for 30 percent or more of the outstanding Common Stock. If thereafter the acquiring person or group engages in certain self-dealing transactions, holders of Rights may purchase at the exercise price that number of shares of Common Stock having a market value equal to twice the exercise price. In the event International merges with or transfers 50 percent or more of its assets or earnings to any person after the Rights become exercisable, holders of Rights may purchase at the exercise price that number of shares of common stock of the acquiring entity having a market value equal to twice the exercise price. The Rights are redeemable by International and expire on January 2, 2006.
International's Stock Plans - The following table summarizes activity for International's stock option plans:
A total of 314,292 shares of Common Stock (including 287,671 of approved shares that were not awarded, and rights to shares that have not terminated or expired, under predecessor plans) are available for grants of options under the 1992 Officer Stock Program. Options become exercisable at such time or times as determined at the date of the grant, and expire ten years after the date of grant. Pursuant to the program, eligible employees may be granted rights to purchase shares of Common Stock at par value ($1.00 per share) subject to restrictions on transfer which lapse at such times and circumstances as specified when granted. Substantially all of the shares of Common Stock available for award under the 1992 Officer Stock Program may be granted as rights under the program. A total of 950,010 rights have been granted to purchase shares at par value ($1.00 per share) under the 1992 Officer Stock Program (and its predecessor plans) at March 31, 1996.
A total of 10,925 shares of Common Stock are available for grants of options, and rights to purchase shares, to non- employee directors under the 1992 Director Stock Program. Options to purchase 900, 300 and 300 shares will be granted on the first, second, and third years, respectively, of a Director's term at not less than 100% of the fair market value on the date of grant. Options become exercisable, in full, six months after the date of the grant, and expire ten years and one day after the date of grant. Rights to purchase 450, 150 and 150 shares are granted on the first, second and third years, respectively, of a Director's term at par value ($1.00 per share) subject to restrictions on transfer, which lapse at the end of such term. A total of 13,175 rights have been granted to purchase shares at par value ($1.00 per share) under the 1992 Director Stock Plan at March 31, 1996.
Under the 1992 Senior Management Stock Option plan, senior management employees may be granted options to purchase shares of Common Stock. The total number of shares available for grant is determined by the Board of Directors from time to time. Options to purchase shares are granted at no less that 100% of the fair market value on the date of grant, become exercisable at such time or times as determined when granted, and expire ten years after the date of the grant.
In the event of a change in control of McDermott International, all three programs have provisions that may cause restrictions to lapse and accelerate the exercisability of options outstanding.
Thrift Plan - On November 12, 1991 and June 5, 1995, a maximum of 5,000,000 each of the authorized and unissued shares of International's Common Stock and JRM's Common Stock was reserved for possible issuance to be used as the employer match for employee contributions to the Thrift Plan for Employees of McDermott Incorporated and Participating Subsidiary and Affiliated Companies. Such employer contributions equal 50% of the first 6% of compensation, as defined in the Plan, contributed by participants, and fully vest and are non-forfeitable after five years of service or upon retirement, death, lay-off or approved disability. During fiscal years 1996, 1995 and 1994, 300,951, 312,883 and 300,391 of International's shares, respectively, were issued as employer contributions pursuant to the Plan. During fiscal year 1996, 80,356 of JRM's shares were issued as employer contributions pursuant to the Plan. At March 31, 1996, 3,622,934 and 4,919,644 of International and JRM shares, respectively, remained available for issuance.
NOTE 10 - CONTINGENCIES AND COMMITMENTS
Litigation - International and certain of its officers, directors and subsidiaries are defendants in numerous legal proceedings. Management believes that the outcome of these proceedings will not have a material adverse effect upon the consolidated financial position of McDermott International.
Products Liability - At March 31, 1996 and 1995, the estimated liability for pending and future non-employee products liability asbestos claims was $843,986,000 (of which approximately $208,000,000 had been asserted) and $995,948,000 and estimated insurance recoveries were $723,243,000 and $861,407,000, respectively. Certain B&W insurers have refused to reimburse B&W for amounts paid to settle claims under applicable policies. At March 31, 1996, receivables outstanding from these insurers were $21,050,000. B&W has filed a lawsuit against these insurers seeking reimbursement of these claims and expects to prevail in this litigation which may continue beyond fiscal year 1997 unless a settlement is reached. B&W will require that any settlement reimburse B&W for all amounts billed to date and for all future payments up to full policy limits. During fiscal year 1995, McDermott International received notice that provisional liquidators had been appointed to a London-based products liability asbestos insurer and, as a result, a loss of $14,478,000 related to the reduction of estimated insurance recoveries was recognized. Estimated liabilities for pending and future non- employee products liability asbestos claims are derived from McDermott International's claims history and constitute management's best estimate of such future costs. Estimated insurance recoveries are based upon analysis of insurers providing coverage of the estimated liabilities. Inherent in the estimate of such liabilities and recoveries are expected trends in claim severity and frequency and other factors, including recoverability from insurers, which may vary significantly as claims are filed and settled. Accordingly, changes in estimates could result in a material adjustment to operating results for any fiscal quarter or year and the ultimate loss may differ materially from amounts provided in the consolidated financial statements.
Environmental Matters - During fiscal year 1995, a decision was made to close certain nuclear manufacturing facilities, and a provision of $41,724,000 for the decontamination, decommissioning and closing of these facilities was recognized. Previously, decontamination and decommissioning costs were being accrued over the facilities' remaining expected life. Decontamination will proceed as permitted by the existing NRC license, while funding support will be sought and a decommissioning plan will be submitted for review and approval as required by the NRC. B&W expects to have reached agreement with the NRC in fiscal 1997 on the plan that will provide for the completion of facilities dismantlement and soil restoration by the end of fiscal year 2001. B&W expects to request approval from the NRC to release the site for unrestricted use at that time.
At March 31, 1996 and 1995, McDermott International had total environmental reserves of $38,816,000 and $51,271,000 (including the provision discussed above) respectively, of which $11,062,000 and $8,780,000 were included in current liabilities.
McDermott International has been identified as a potentially responsible party at various cleanup sites under the Comprehensive Environmental Response, Compensation and Liability Act, as amended. McDermott International has not been determined to be a major contributor of wastes to these sites. However, each potentially responsible party or contributor may face assertions of joint and several liability. Generally, however, a final allocation of costs is made based on its relative contribution of wastes to each site. Based on its relative contribution of waste to each site, McDermott International's share of the ultimate liability for the various sites is not expected to have a material effect on its consolidated financial position.
The Department of Environmental Resources of the Commonwealth of Pennsylvania, ("PADER"), by letter dated March 19, 1994, advised B&W that it will seek monetary sanctions, and remedial and monitoring relief, related to B&W's Parks Facilities in Parks Township, Armstrong County, Pennsylvania. The relief sought relates to potential groundwater contamination related to the previous operations of the facilities. B&W is currently negotiating with PADER and expects to reach a settlement without having to resort to litigation. Any sanctions ultimately assessed are not expected to have a material effect on the consolidated financial statements of McDermott International.
Operating Leases - Future minimum payments required under operating leases that have initial or remaining noncancellable lease terms in excess of one year at March 31, 1996 are as follows: 1997 -$16,134,000; 1998 - $14,314,000; 1999 - $12,107,000; 2000 - $11,156,000; 2001 - $10,138,000; and thereafter - $63,088,000. Total rental expense for fiscal years 1996, 1995 and 1994 was $90,434,000, $109,655,000, and $120,515,000, respectively. These expense figures include contingent rentals and are net of sublease income, both of which are not material.
Other - McDermott International performs significant amounts of work for the U.S. Government under both prime contracts and subcontracts and thus is subject to continuing reviews by governmental agencies.
McDermott International maintains liability and property insurance that it considers normal in the industry. However, certain risks are either not insurable or insurance is available only at rates which McDermott International considers uneconomical.
Prior to JRM's acquisition of OPI, one of OPI's vessels was severely damaged during a typhoon while under going final work in connection with its refurbishment. Estimates for the repair of the vessel, together with out-of-pocket costs, total more than $45,000,000. At the time of the casualty loss, insurance policies had been issued insuring the vessel for its full value. Efforts to settle the claim with underwriters, however, have been unsuccessful, and resort to the courts may be necessary to collect the amount claimed. Management believes that the underwriters' refusal to satisfactorily adjust the claim is without basis and is of the opinion that the outcome of any necessary litigation will be favorable.
Commitments for capital expenditures amounted to approximately $43,689,000 at March 31, 1996, all of which relates to fiscal year 1997.
McDermott International is contingently liable under standby letters of credit totaling $445,602,000 (including $52,472,000 issued on behalf of unconsolidated foreign joint ventures) at March 31, 1996, issued in the normal course of business. McDermott International has guaranteed $50,297,000 of loans to and $18,981,000 of standby letters of credit issued by unconsolidated foreign joint ventures of McDermott International at March 31, 1996. In addition, McDermott International has guaranteed $13,333,000 of loans to a third party at March 31, 1996. At March 31, 1996, McDermott International had pledged approximately $64,515,000 fair value of government obligations and corporate bonds to secure payments under and in connection with certain reinsurance agreements.
NOTE 11 - RELATED PARTY TRANSACTIONS
In connection with the acquisition of OPI, two directors and two officers of JRM entered into noncompetition agreements. As consideration, such directors and officers received a total of approximately $10,131,000 (including 50,000 shares of JRM's common stock valued at $1,131,000) during fiscal year 1995. In addition, one such director (who resigned in April 1996) received $1,500,000 in fiscal year 1996 and will receive additional payments of $1,500,000 per year over the next four years.
In fiscal year 1995, JRM entered into an office sublease with an affiliate of a director (who resigned in April 1996) of JRM. Under the sublease, which expires no later than March 1997, the affiliate is required to make monthly rental payments of approximately $18,000. During fiscal year 1996, the affiliate paid $185,000 under the sublease. Under another agreement, the affiliate manages and operates JRM's offshore producing oil and gas property for a monthly fee of $48,000 and reimbursement of certain costs. During fiscal year 1996, JRM paid $576,000 to the affiliate and reimbursed the affiliate for out-or-pocket expenses for the management and operation of its offshore producing oil and gas property. Also, during fiscal year 1996, JRM fabricated a caisson for the affiliate for $84,000. In addition, JRM sold an offshore jacket and deck to the affiliate for $1,100,000 during fiscal year 1995 and received approximately $2,000,000 from the affiliate during fiscal year 1996 pursuant to a contract to refurbish, transport and install the jacket and deck.
JRM entered into agreements with an affiliate of another director of JRM pursuant to which, JRM acquired interests in certain offshore oil and gas property. During fiscal years 1996 and 1995, JRM paid $2,036,000 and $3,000,000 to the affiliate under the agreements in connection with the acquisition of its interests and the development of such property. During fiscal year 1996, JRM sold its interest in the property to the affiliate in exchange for an $8,000,000 convertible production payment relating to such property. Pursuant to the terms of the agreements entered into in connection with such sale, JRM received a right to a production payment that allows it to share in up to $8,000,000 of the net proceeds on any production from the property based upon a percentage of its original interest in such property. In December 1995, this property was placed on production and to date JRM has earned approximately $179,000 as a result of this production payment. In addition, JRM owns 140,000 shares of this affiliate and 20,000 units in a limited partnership which is also an affiliate of this director. JRM has a $15,000,000 contract to fabricate and install a platform with the limited partnership.
JRM has also entered into agreements with two affiliates of a director of JRM pursuant to which, JRM will design, fabricate and install several offshore pipelines and structures. The value of these agreements exceeds $80,000,000. As of March 31, 1996, these affiliates have paid to JRM approximately $59,000,000 for work completed under these agreements. The affiliates of the director have been invoiced for an additional $3,300,000 that is expected to be paid in the ordinary course of business.
JRM maintains employment agreements with certain officers and employees which contain change in control provisions that would entitle each to receive two times his three-year average annual salary plus continuation of certain benefits if there is a change in control of JRM (as defined) and a termination of his employment within two years after a change in control. These agreements also provide medical and health insurance benefits for a two -year period following the termination of employment.
NOTE 12 - FINANCIAL INSTRUMENTS WITH CONCENTRATIONS OF CREDIT RISK
McDermott International's Power Generation Systems and Equipment customers are principally the electric power generation industry (including government-owned utilities and independent power producers), the U.S. Government (including its contractors), and the pulp and paper and other process industries, such as oil refineries and steel mills. The principal customers of the Marine Construction Services segment are the offshore oil, natural gas and hydrocarbon processing industries and other marine construction companies. These concentrations of customers may impact McDermott International's overall exposure to credit risk, either positively or negatively, in that the customers may be similarly affected by changes in economic or other conditions. However, McDermott International's management believes that the portfolio of receivables is well diversified and that such diversification minimizes any potential credit risk. Receivables are generally not collateralized.
McDermott International believes that its provision for possible losses on uncollectible accounts receivable is adequate for its credit loss exposure. At March 31, 1996 and 1995, the allowance for possible losses deducted from Accounts receivable-trade on the balance sheet was $14,028,000 and $8,526,000, respectively.
NOTE 13 - INVESTMENTS
The following is a summary of available-for-sale securities at March 31, 1996:
The following is a summary of available-for-sale securities at March 31, 1995:
The amortized cost and estimated fair value amounts above include $12,050,000 and $10,909,000 in other debt securities which are reported as cash equivalents in the balance sheet as of March 31, 1996 and 1995, respectively.
Proceeds, gross realized gains and gross realized losses on sales of available-for-sale securities were approximately $586,917,000, $1,562,000 and $1,008,000, respectively, for fiscal year 1996 and $251,565,000, $88,000 and $2,666,000, respectively, for fiscal year 1995. The amortized cost and estimated fair value of available-for-sale debt and equity securities at March 31, 1996, by contractual maturity, are shown below:
NOTE 14 - DERIVATIVE FINANCIAL INSTRUMENTS
McDermott International operates internationally giving rise to exposure to market risks from changes in foreign exchange rates. Derivative financial instruments, primarily forward exchange contracts, are utilized to reduce those risks. McDermott International does not hold or issue financial instruments for trading purposes.
Forward exchange contracts are entered into primarily as hedges of certain firm purchase and sale commitments denominated in foreign currencies. At March 31, 1996, McDermott International had forward exchange contracts to purchase $179,365,000 in foreign currencies (primarily Canadian Dollars and Pound Sterling), and to sell $133,626,000 in foreign currencies (primarily Canadian Dollars, Dutch Guilders, Saudi Riyals and Pound Sterling), at varying maturities from fiscal year 1997 through 2000. At March 31, 1995, McDermott International had forward exchange contracts to purchase $251,562,000 in foreign currencies (primarily Canadian Dollars, Japanese Yen, and Pound Sterling), and to sell $199,735,000 in foreign currencies (primarily Canadian Dollars, Dutch Guilders, Japanese Yen, Malaysian Ringgit, and Pound Sterling), at varying maturities from fiscal year 1996 through 2000.
Deferred realized and unrealized gains and losses from hedging firm purchase and sale commitments are included on a net basis in the balance sheet as a component of either contracts in progress or advance billings on contracts or as a component of either other current assets or accrued liabilities. They are recognized in income as part of the purchase or sale transaction when it is recognized, or as other gains or losses when a hedged transaction is no longer expected to occur. At March 31, 1996 and 1995, McDermott International had deferred gains of $4,306,000 and $2,231,000, respectively, and deferred losses of $1,081,000 and $10,865,000, respectively, related to forward exchange contracts which will principally be recognized in accordance with the percentage of completion method of accounting.
In management of its net interest costs (expense on debt and income on investments), McDermott International entered into interest rate swap agreements with certain banks which effectively change the fixed interest rates on certain long- term notes payable. Net amounts to be paid or received as a result of these agreements are accrued as adjustments to interest expense over the terms of these contracts. Interest rate swaps resulted in an increase in interest expense of $96,000 and $1,202,000 in fiscal years 1996 and 1995, respectively, and a reduction of interest expense of $5,782,000 in fiscal year 1994.
McDermott International is exposed to credit-related losses in the event of nonperformance by counterparties to derivative financial instruments, but it does not anticipate nonperformance by any of these counterparties. The amount of such exposure is generally the unrealized gains in such contracts.
NOTE 15 - FAIR VALUES OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used by McDermott International in estimating its fair value disclosures for financial instruments:
Cash and cash equivalents: The carrying amount reported in the balance sheet for cash and cash equivalents approximates its fair value.
Investment securities: The fair values of investments are estimated based on quoted market prices. For investments for which there are no quoted market prices, fair values are derived from available yield curves for investments of similar quality and terms.
Note receivable with an unconsolidated affiliate: At March 31, 1996, it was not practicable to estimate the fair value of McDermott International's 7.75% Note Receivable with the HeereMac joint venture because of the lack of quoted market prices and because the time of its settlement cannot yet be determined.
Long and short-term debt: The fair values of debt instruments are based on quoted market prices or where quoted prices are not available, on the present value of cash flows discounted at estimated borrowing rates for similar debt instruments or on estimated prices based on current yields for debt issues of similar quality and terms.
Redeemable preferred stocks: The fair values of the redeemable preferred stocks of the Delaware Company are based on quoted market prices.
Foreign currency exchange contracts: The fair values of foreign currency forward exchange contracts are estimated by obtaining quotes from brokers. At March 31, 1996 and 1995, McDermott International had net forward exchange contracts outstanding to purchase foreign currencies with notional values of $45,739,000 and $51,827,000 and fair values of $51,146,000 and $41,237,000, respectively.
Interest rate swap agreements: The fair values of interest rate swaps are the amounts at which they could be settled and are estimated by obtaining quotes from brokers. At March 31, 1996 and 1995, McDermott International had an interest rate swap outstanding on
current notional principal of $55,300,000 with a fair value of ($470,000) and $73,800,000 with a fair value of ($2,541,000), respectively, which represents the estimated amount, McDermott International would have to pay to terminate the agreement.
The estimated fair values of McDermott International's financial instruments are as follows:
NOTE 16 - SEGMENT REPORTING
McDermott International operates in two industry segments - Power Generation Systems and Equipment and Marine Construction Services.
Power Generation Systems and Equipments' principal businesses are the supply of fossil-fuel and nuclear steam generating systems and equipment to the electric power generation industry, and nuclear reactor components to the U. S. Navy.
Marine Construction Services supplies worldwide services for the offshore oil and gas exploration and production and hydrocarbon processing industries, and to other marine construction companies, primarily through JRM. Principal activities include the design, engineering, fabrication and installation of offshore drilling and production platforms and other specialized structures, modular facilities, marine pipelines and subsea production systems and onshore construction and maintenance services; and the maintenance and construction of a variety of marine vessels.
Intersegment sales are accounted for at prices which are generally established by reference to similar transactions with unaffiliated customers. Identifiable assets by industry segment are those assets that are used in McDermott International's operations in each segment. Corporate assets are principally cash and cash equivalents, short-term investments, marketable securities and prepaid pension costs.
In the fiscal years 1996, 1995 and 1994, the U.S. Government accounted for approximately 12%, 12% and 13%, respectively, of McDermott International's total
revenues. These revenues are principally included in the Power Generation Systems and Equipment segment.
At March 31, 1996 and 1995 receivables of $6,824,000 and $6,230,000, respectively, were due from minority shareholders, primarily ETPM S.A., participating in McDermott International's majority-owned joint ventures. There were no sales to ETPM S.A. in fiscal year 1996; sales to ETPM S.A. were $1,801,000 and $3,358,000 in fiscal years 1995 and 1994, respectively. In fiscal years 1996, 1995 and 1994 equipment charters and overhead expenses of $4,118,000, $4,938,000 and $6,330,000, respectively, were charged by ETPM S.A. to the McDermott-ETPM joint venture.
In fiscal year 1996, the write-off of an insurance claim due to an unfavorable arbitration ruling resulted in a decrease in the Power Generation Systems and Equipment segment operating income of $12,600,000. The gain resulting from the sale of McDermott International's interest in three Caspian Sea oil field and a favorable insurance adjustment resulted in an increase in the Marine Construction Services segment operating income of $38,744,000 and $12,000,000, respectively. The provisions for the closing of certain facilities in fiscal year 1995 resulted in a decrease in the Power Generation Systems and Equipment segment operating income of $46,489,000. The adoption of EITF Issue No. 93-5 in fiscal year 1994 resulted in an increase in the Power Generation Systems and Equipment segment operating income of $19,947,000.
Segment Information for the Three Fiscal Years Ended March 31, 1996.
1. Information about McDermott International's Operations in Different Industry Segments.
(2) See Note 2 regarding the acquisition of OPI during fiscal year 1995 and the acquisitions of NOS and MECL during fiscal year 1994.
(3) Fiscal years 1995 and 1994 have been restated to reflect the allocation of certain expenses to the business segments which were previously included in General Corporate Expenses. This restatement reduced Segment Operating Income and General Corporate Expenses by $19,800,000 and $18,356,000 in fiscal years 1995 and 1994, respectively, from amounts previously reported.
(1) Includes property, plant and equipment of $11,198,000, $173,134,000 and $79,233,000 of acquired companies in fiscal years 1996, 1995 and 1994, respectively, expenditures on an asset held for lease of $29,620,000 and $6,711,000 in fiscal years 1996 and 1995, respectively, and the purchase of a fabrication yard financed by a note payable of $16,250,000 in fiscal year 1994.
. Information about McDermott International's Operations in Different Geographic Areas.
(1) Net of inter-geographic area revenues in fiscal years 1996, 1995 and 1994 as follows: United States- $69,872,000, $69,432,000 and $38,666,000; Canada - $22,389,000, $11,538,000 and $12,082,000; Europe and West Africa - $6,036,000, $13,200,000 and $15,868,000; Far East - $486,000, $18,414,000 and $474,000; Middle East - $15,152,000, $37,303,000 and $2,686,000; and Other Foreign - $13,519,000, $26,259,000 and $25,770,000, respectively.
(2) Fiscal years 1995 and 1994 have been restated to reflect the allocation of certain expenses to the geographic areas which were previously included in General Corporate Expenses.
NOTE 17 - QUARTERLY FINANCIAL DATA (UNAUDITED)
The following tables set forth selected unaudited quarterly financial information for the fiscal years ended March 31, 1996 and 1995:
Pre-tax results for the quarter ended June 30, 1995 include an equity income gain of $30,612,000 resulting from the sale of two power purchase contracts. Results for the quarter ended September 30, 1995 include a favorable insurance adjustment of $12,000,000. Results for the quarter ended December 31, 1995 include favorable worker's compensation cost adjustments of $12,640,000. Results for the quarter ended March 31, 1996 include a gain of $34,788,000 resulting from the sale of McDermott International's interest in three Caspian Sea oil fields and the write-off of an insurance claim of $12,600,000 due to an unfavorable arbitration ruling related to the recovery of cost incurred for corrective action in certain utility and industrial installations.
Continued
Pre-tax results for the quarter ended June 30, 1994 include a reduction in accrued interest expense of $5,700,000 due to settlement of an outstanding tax issue with the IRS. Results for the quarter ended September 30, 1994 include a loss related to the reduction of estimated products liability asbestos claim recoveries from insurers of $14,478,000 and a reduction in accrued interest expense of $5,600,000 due to the settlement of outstanding tax issues. Results for the quarter ended December 31, 1994 include a reduction in accrued interest expense of $5,000,000 due to the settlement of outstanding tax issues and favorable worker's compensation cost adjustments of $14,886,000. Results for the quarter ended March 31, 1995 include provisions of $46,489,000 for the decontamination, decommissioning, and closing of a nuclear facility and for the closing of a manufacturing facility, and a reduction in accrued interest expense and taxes of $10,000,000 and $5,200,000, respectively, due to the settlement of outstanding tax issues.
Item 9.
Item 9. DISAGREEMENTS WITH AUDITORS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None
PART I I I
Item 10.
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
There are no family relationships between any of the executive officers, directors or persons nominated to be such, and no executive officer was elected to his position pursuant to any arrangements or understanding between himself and any other person.
Information required by this item with respect to directors and executive officers is incorporated by reference to the material appearing under the headings "Election of Directors" in the Proxy Statement for International's 1996 Annual Meeting of Stockholders.
Item 11.
Item 11. EXECUTIVE COMPENSATION
Information required by this item is incorporated by reference to the material appearing under the heading "Compensation of Executive Officers" in the Proxy Statement for International's 1996 Annual Meeting of Stockholders.
Item 12.
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information required by this item is incorporated by reference to the material appearing under the headings "Security Ownership of Directors and Executive Officers" and "Security Ownership of Certain Beneficial Owners" in International's Proxy Statement for the 1996 Annual Meeting of Stockholders.
Item 13.
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
NONE
PART I V
Item 14.
Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of this Annual Report or incorporated by reference:
1. CONSOLIDATED FINANCIAL STATEMENTS
Report of Independent Auditors
Consolidated Balance Sheet March 31, 1996 and 1995
Consolidated Statement of Income (Loss) For the Three Fiscal Years Ended March 31, 1996
Consolidated Statement of Stockholders' Equity For the Three Fiscal Years Ended March 31, 1996
Consolidated Statement of Cash Flows For the Three Fiscal Years Ended March 31, 1996
Notes to Consolidated Financial Statements For the Three Fiscal Years Ended March 31, 1996
2. CONSOLIDATED FINANCIAL STATEMENT SCHEDULES
All required schedules will be filed by amendment to this Form 10-K on Form 10-K/A.
3. EXHIBITS
* Management contract or compensatory plan or arrangement required to be filed as an exhibit pursuant to the requirements of Item 14(c) of Form 10-K.
FORM 8-K REPORTS
None
SIGNATURES
Pursuant to the requirements of Sections 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
McDERMOTT INTERNATIONAL, INC.
s/ Robert E. Howson ---------------------------------- June 4, 1996 By: Robert E. Howson Chairman of the Board and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities indicated and on the date indicated.
INDEX TO EXHIBITS
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* Management contract or compensatory plan or arrangement required to be filed as an exhibit pursuant to the requirements of Item 14(c) of Form 10-K.