Diamond Offshore

Drilling Inc.

Katsy Douangvichit
Tyson Banbury
Nate Evett
Matt Hawk
http://images.businessweek.com/ss/09/02/0224_safe_dividends/10.htm

October 28, 2010

Agenda

Company Overview

Industry Overview

Competitors

SWOT Analysis

Porters 5 Forces

Valuation

Recommendation

Company Overview
Summary

Provides contract drilling services to energy industry

Leader in deepwater drilling for oil and natural gas on a global scale
One of the worlds largest fleets of offshore drilling rigs

Basic Info

Ticker: DO
Employees: 5,500
Price: $67.80
Headquarters: Houston, TX

Global Presence

Gulf of Mexico (GOM)

Mexico
Europe/Africa/Mediterranean
Australasia/Asia/Middle East
South America

http://www.diamondoffshore.com/ourCompany/ourcompany_overview.php

Company Overview
Portfolio Performance
February 2008

Purchased 100 shares @ $122.90 for a total cost of $12,290

Give portfolio exposure to oil and drilling sector

November 2008

Purchased 50 shares @ $72.96 for a total cost of $3,648

September 2009

Written call option exercised, sold 100 shares at adjusted price of $76.25
totaling $7,625
Strike price adjusted to $76.25 from original strike price of $80.00 due to
a special cash dividend of $1.875 paid twice over the holding period of the
option
Realized loss of $4,665

As of 10/27/2010

Diamond Offshore closed at $67.80

Currently have 50 shares with an unrealized loss of 7.07%
Represents 2.93% of the portfolio

Company Overview
Recent Performance

http://finance.yahoo.com/echarts?s=DO+Interactive#chart1

DO stock down 36% since beginning of 2010

Recently passed 20-day Moving Avg., anticipate crossing 200-day Moving Avg.

Company Overview
History

Diamond Offshore Drilling is formed:

1980s Loews Corp. (diversified holding company) purchases

Diamond M Drilling.
1992 Diamond M Drilling Co., under Loews ownership, purchases
all outstanding stock of ODECO

1993 name changed to Diamond Offshore Drilling Inc.

1995 began trading on NYSE under symbol DO

1996 Diamond Offshore acquired Arethusa Ltd. and sold land

division Diamond M Onshore to DI Industries Inc.

Key Takeaway: Diamond Offshore has a longstanding history in the

drilling industry, and all barge, platform, and land rigs acquired in
previous transactions have been been sold to focus on offshore drilling
http://www.diamondoffshore.com/ourCompany/ourcompany_history.php

Company Overview
Business Model Oil Industry

Upstream Exploration
and Production

Midstream
Transportation and
Refinement

Downstream
Distribution and Sales

http://www.nwofighters.org/wp-content/uploads/2010/05/oil-rig.jpg
http://safetyactconsultants.com/yahoo_site_admin/assets/images/Wast_Oil_Refinery.320175601.jpg
http://www.annualreports.com.my/uploads/news/small/9_shell-gas-station-bar-b-cutie.jpg

Company Overview
Business Model Drilling Contracts
Exploratory Drilling

Drill wells in previously

unexplored areas as directed by
customer (operator)

Development Drilling & Well

Completion

Drill additional wells in areas of

successful exploration
Complete wells by preparing
them for continued hydrocarbon
extraction by operators

http://csdms.colorado.edu/wiki/Talk:Marine_Discussion
http://www.epmag.com/archives/features/761.htm

Company Overview
Different Categories of Rigs

High Specification Floaters

Drill in water depths greater than 4,000 ft.

Intermediate Submersibles

Drill in water depths less than 4,000 ft.

Jack-ups

Drill in water depths less than 350 ft.

Drivers of revenue

Day Rates

Utilization rates

The per day rate Diamond Offshore charges clients for use of rigs
The percentage of fleet that is currently under contract to clients

Number of rigs

Number of rigs in Diamond Offshores fleet

http://www.diamondoffshore.com/ourCompany/ourcompany_offshorerigbasics.php

Company Overview
Business Model Revenue Drivers
Number
of Rigs

Average1
Utilization Rate

Average1 Day Rate

($ thousands)

Avg % Total
Revenue

High-Spec
Floaters

13

83.4%

356.1

49.6%

Intermediate
Semis

20

83.4%

249.2

34.7%

Jack-Ups

13

77.7%

112.6

15.5%

GOM/
Mexico
High-Spec: 13

South
America

Averages using 2005-2009

Europe/Africa/
Mediterranean

Australasia/Asia/
Middle East

Intermediate: 20

1 (2)2

3 (1)2

Jack-Ups: 13

4 (4)2

1
2

Denotes cold-stacked rigs

85% of revenue comes from Intermediate Semis and High-Spec Floaters

Total Rigs: 46 [6 cold stacked rigs GOM, 1 in Malaysia]

Company Overview
Business Model Geographic Distribution
Total revenue per region $ in millions (% of total revenue)
Geographic Region

2006

2007

2008

2009

GOM

1,114.2
(56.1%)

1,226.5
(48.9%)

1,375.6
(39.6%)

1,138.2
(32.2%)

Mexico

96.5
(4.9%)

148.6
(5.9%)

325.8
(9.4%)

323.1
(9.1%)

Australia/Asia/
Middle East

323.0
(16.3%)

400.7
(16.0%)

557.1
(16.0%)

717.7
(20.3%)

Europe/Africa/
Mediterranean

250.1
(12.6%)

473.7
(18.9%)

634.0
(18.2%)

641.2
(18.1%)

South America

203.3
(10.2%)

256.2
(10.2%)

583.9
(16.8%)

716.4
(20.3%)

Reducing exposure to GOM prior to drilling moratorium

Strong 08-09 growth in South America and Australia/Asia/Middle East despite global
economic downturn

http://www.diamondoffshore.com/investors/investors_secfiling.php

Industry Overview
Macroeconomic Drivers Global Recovery

Source: World Economic Outlook, 2010

http://www.imf.org/external/pubs/ft/weo/2010/01/c1/fig1_2.pdf

Global GDP growth expected to taper gradually after rebound from recession
Translates into gradual increase in demand for oil in near future with expected
higher growth in demand after 2015

Industry Overview
Macroeconomic Drivers Key Players

China and India projected to

have over 5% GDP growth in
2010-2011 (1)
Along with the U.S., Brazil,
Russia and Japan, these two
countries make up the top six
oil-consuming nations
Brazilian government pledges to
keep oil supply ahead of
growing economy via Petrobras

World Economic Outlook, 2010

http://www.imf.org/external/pubs/ft/
weo/2010/01/c2/fig2_1.pdf
(1)

Source: World Economic Outlook, 2010

http://www.imf.org/external/pubs/ft/
weo/2010/01/c1/fig1_19.pdf

Industry Overview
Macroeconomic Drivers Demand For Oil

1. United States
2. China
3. Japan
4. India
5. Russia
6. Brazil
7. Germany
8. Saudi Arabia
9. Korea, South
10. Canada
11. Mexico
12. France
13. Iran
14. United Kingdom
15. Italy

8,200,000
4,363,000
2,980,000
2,850,000
2,460,000
2,437,000
2,430,000
2,216,000
2,151,000
2,078,000
1,875,000
1,809,000
1,669,000
1,537,000
0

10,000,000

18,690,000

20,000,000

Barrels of Oil Consumed Daily

Source: https://www.cia.gov/library/publications/
the-world-factbook/rankorder/2174rank.html,2009

http://graphics.thomsonreuters.com/10/04/GLB_
OILDMND0410.gif

Industry Overview
Macroeconomic Drivers Price of Crude

Source: World Economic Outlook, 2010

http://www.imf.org/external/pubs/ft/weo/2010/01/c1/fig1_19.pdf

Oil prices expected to remain around $85 per barrel over near term
Stable price projected due to expectation of meeting increase in oil demand
with increased production
Increased production puts upward pressure on rig utilization and day rates,
driving up DOs revenues

Industry Overview
Industry Outlook GOM Moratorium
April

20, 2010, Deepwater Horizon rig, owned by Transocean Ltd., experiences

blowout leading to explosion and largest offshore oil spill in U.S. history.

May

28th, government imposes ban on drilling new wells over 500 ft

June
July

21st, Judge Martin Feldman halts moratorium

12th, second moratorium implemented and scheduled to end November 30th

October

12th, drilling ban lifted

Impact:
Industry

faces increased operating costs due to increased regulation

New standards for Blowout Preventers (BOPs) and cementing wells

Lengthened process to acquire drilling permits

Relocation
Slow

of 2 DO rigs to international contracts

return to GOM due to new regulations and increased auditing cost

Competitors
Noble Corporation

Business strategy is to actively expand international and

deepwater drilling through acquisitions, modifications, and
upgrades
Fleet has 15 deepwater rigs, 50 Jackups, 4 Drillships
Completed purchase of Frontier Drilling in July 2010
This increased fleet by 7 rigs to 69 total platforms
5 more rigs currently under construction
Noble has mobilized 9 rigs from GOM to international
markets in the past 5 years
Stock currently trading on NYSE at $34.32 (10/28/2010)

Feb. 26, 2010 10-k Item 7: Managements Discussion

Noble Webpage RigFleet Section: http://www.noblecorp.com/Fleet/FleetOverview.asp
Noble Corporation Fleet Status updated 29 September 2010
http://finance.yahoo.com/q?s=ne

Competitors
Ensco

Business is divided into four units

Ulta-deepwater
Asia/Pacific Rim
Europe/Africa
North and South America
Fleet includes 8 deepwater and 40 Jackups
Leverage ratio is lowest among DO, Noble, and Transocean
Rate #1 in safety and reliability by EnergyPoint Research Inc.
Stock currently trading on NYSE at $46.40 (10/28/2010)

http://finance.yahoo.com/q?s=ESV
ENSCO web page Global Operations Section http://www.enscous.com/Global
Operations/Capabilities/default.aspx
ENSCO fleet status report Oct. 13, 2010
http://seekingalpha.com/article/224240-the-oil-and-gas-industry-s-answers-lie-within

Competitors
Transocean

Worlds largest offshore driller with 114 rigs

Only 23 deepwater rigs, 65 Jackups
Less emphasis on deepwater specialization
Implicated in the April 2010 Deepwater Horizon oil rig
explosion in GOM
Reputation has suffered as a result
Ranked last among drillers in 2008 and 2009 for job quality
Merged with GlobalSantaFe in 2007
Stock currently trading on NYSE at $64.16 (10/28/2010)

http://finance.yahoo.com/q?s=rig
Transocean 2010 Fleet Directory Brochure
www.reuters.com/article/idUSN0322326220100603
http://seekingalpha.com/article/224240-the-oil-and-gas-industry-s-answers-lie-within
www.deepwater.com/fw/main/Merger-307.html

Competitors
Recent Performance

Source: Yahoo! Finance http://finance.yahoo.com/echarts?s=DO+Interactive#chart4:symbol=do;range=20081028,

20100927;compare=esv+ne+rig+^gspc;indicator=volume;charttype=line;crosshair=on;ohlcvalues=0;logscale=on;
source=undefined

Strong divergence at outset of GOM disaster

Ensco and Noble have less exposure to deepwater drilling
Anticipate DO recovery in future despite increased U.S. drilling
regulations due to continued further global diversification

Competitors
Diamond Offshore How They Differentiate

DO has larger percent of floaters in fleet due to customers demand

for high-tech, efficient rigs

Floaters not limited to shallow drilling

Floaters can withstand harsher weather and sea conditions

Historically, DO has paid out significantly more in dividends than its

competitors

From 2006-2009, DO paid out $17.88 while the closest competitor

Transocean paid out only $1.58
Reason to believe DO will increase dividend in future since it remains
a key part of their long-term value creation

2009 Annual Report Item 1: Business The Fleet

Diamond Offshore Web page Offshore Rig Basics
Seeking Alpha Diamond Offshore Drilling Q2 2010 Earnings Call Transcript

Competitors
Rig & Financials Comparison
Diamond Offshore

Noble Corp.

ENSCO

Transocean

Floaters

32

16

64

Jackups

13

45

38

63

Drillships

Other

Under Construction

46

74

49

132

Total
Market
Cap
(billion)

Trailing
P/E (ttm)

Forward
P/E

Revenue
(billion)
(ttm)

Net Income
(billion)
(ttm)

Cash on
Hand
(billion)

OCF
(billion)
(ttm)

Current
Ratio

Diamond
Offshore

$9.96

8.63

10.51

$3.48

$1.38

$1.50

$1.41

2.97

Noble

$9.19

6.38

8.25

$3.40

$1.45

$1.08

$2.15

3.86

Ensco

$6.80

10.05

11.13

$1.81

$0.60

$1.24

$1.05

4.05

Transocean

$21.39

7.67

8.63

$10.66

$2.81

$2.92

$5.02

1.27

http://www.diamondoffshore.com/ourFleet/rigStatus.php

SWOT Analysis
Firm Factors
Strengths
One of the first drillers to
move away from Gulf of
Mexico (GOM)
Majority of rigs have deep
nominal drilling depth
(10,000+ ft.)
Most rigs committed short
term (80% of semis for 2010)
Conservative business
approach: invested in new rigs
in the downturn, got them for
discount

Weaknesses
Increasing dependence on
few customers (15 of their 33
floaters contracted by two
Brazilian customers)
Gulf of Mexico rigs still
comprise 20% of projected
2011 revenue
Increased idle times for rigs
due to regulation

SWOT Analysis
Industry Factors
Opportunities
Growth in some geographic
locations including Brazil and
Greenland
Increased demand for ultradeepwater rigs

Threats
Compliance with new regulations
in GOM
Cyclical industry
Lack of increased oil demand
would result in oversupply of rigs
leading, lowering day rates

Porters 5 Forces
Threat of New Entrants (Low): The oil drilling industry requires highly specialized workers to
operate the machinery. Since the equipment is so expensive and the labor is costly, any
newcomers to the industry would have to be well capitalized.
Power of Suppliers (Medium): The rig builders have more bargaining power when the price
of oil is high and there is increased drilling activity, and thus increased demand for drilling
platforms. When the price of oil is low, there is not a lot of demand for rigs, so the builders
have little power.
Power of Buyers (Medium): Since oil is a commodity, the buyers can go with the company
that will drill for the lowest contracted day rate. However, there are only a limited number
of drillers with the capability to drill at extreme depths, so the buyers have to go with one
of them.
Threat of Substitutes (Low): There are many alternatives to oil and natural gas including
coal, solar, and wind power. Coal is already well established in the market place while other
alternative technologies are still far too inefficient to compete over the next decade.
Industry Rivalry (High): There are high exit barriers due to the costs of the rigs and the lack
of alternative uses for them. Therefore, companies want to stay in the industry, increasing
rivalry. Bids to get contracts is very competitive and lowest cost wins the bid.

Valuation Base Case

Discount Value

CAPM Cost of Equity = 8.12%

Annualized ROI (1999-2001)= 35.40% - Used for 2010-2016 FCFs
Annualized ROI (2005-2010)= 19.33% - Used for Terminal FCF
Cost of Debt = 5.4%
Discount rates = 19.31% (2010-2016)
12.37% (Terminal)

http://finance.yahoo.com/echarts?s=DO+Interactive#chart4:symbol=do;range=20081028,20100927;compare=
esv+ne+rig+^gspc;indicator=volume;charttype=line;crosshair=on;ohlcvalues=0;logscale=on;source

The estimated 2010 -2016 future rate of return to investor was chosen based upon the
assumption of future moderate growth similar to that of growth of DO during 1999-2001

Valuation
DCF Valuation
($ in millions, except per share amounts)
FY Ending 12/31:
Net Income
Add: D & A

2011
$1,009.2
423.6

2012
$1,277.0
447.1

78.6
0.0
54.0

(133.1)
0.0
(30.3)

95.8
(50.0)
(31.1)

(242.5)
50.0
(17.2)

(174.0)
0.0
(25.5)

48.8
(50.0)
(13.4)

(198.6)
50.0
(22.4)

58.5
35.4
226.5
467.5

16.0
9.5
(137.9)
1,384.4

98.9
16.8
130.4
892.5

51.2
1.5
(157.0)
1,578.1

138.3
7.2
(54.0)
2,000.4

48.2
22.2
55.8
1,100.9

49.8
8.5
(112.8)
1,186.3

($89.5)
$962.1
-107.97% -1174.84%

$346.4
-64.00%

$308.0
-11.08%

$1,557.1
405.55%

$1,528.1
-1.86%

$17,822.3

$204.0

$152.0

$644.1

$529.9

$8,850.4

Changes in Net Working Capital (NWC)

Plus: A/R
Plus: Assets Held for Sale
Plus: Prepaid Expenses
Less: A/P and Accrued Liabilities
Less: Taxes Payable
Less: Changes in NWC
Less: Capex
FCF
% Growth
PV FCF

FORECASTED
2013
2014
$1,577.9
$1,784.0
503.6
578.5

2010
$990.4
373.0

$1,122.4
2426.95%
$1,122.4

DCF Valuation
Present Value of FCF's
Less: Outstanding Debt
Plus: Cash and ST investments
Equity Value
Value per Share
Equals Value +/- 10%

($75.0)

$675.9

2015
$1,997.5
604.6

12,103.7
1,495.4
777.4
11,385.7
$81.89
$73.70

$90.08

2016
Terminal Value
$2,193.5
633.7

Valuation
Sensitivity Analysis

Sensitivity Table

GROWTH
RATE

$81.89

15.00%

16.00%

17.00%

2.00%
2.50%
3.00%
3.50%
4.00%
4.50%
5.00%
5.50%

$74.47
$77.46
$80.78
$84.46
$88.59
$93.24
$98.52
$104.57

$73.82
$76.82
$80.13
$83.82
$87.94
$92.60
$97.88
$103.93

$73.21
$76.20
$79.52
$83.20
$87.33
$91.98
$97.26
$103.31

Discount Rate
19.31%
$72.62
$71.90
$75.62
$74.89
$78.93
$78.21
$82.62
$81.89
$86.74
$86.02
$91.39
$90.67
$96.68
$95.95
$102.73
$102.00

18.00%

20.00%

21.00%

22.00%

23.00%

$71.53
$74.53
$77.84
$81.53
$85.65
$90.31
$95.59
$101.64

$71.03
$74.02
$77.33
$81.02
$85.15
$89.80
$95.08
$101.13

$70.54
$73.54
$76.85
$80.54
$84.66
$89.32
$94.60
$100.65

$70.08
$73.08
$76.39
$80.08
$84.20
$88.85
$94.14
$100.19

Ratio Valuation
Triangulation

TRIANGULATION
Valuation Method
Weight
Forward P/E
Price/Sales
TEV/EBITDA
DCF
Triangulated Value

15.00%
15.00%
20.00%
50.00%

Price
$71.60
$68.90
$82.51
$81.89
$78.52

Bad Scenario
Assumes DO experiences another stretch of suppressed
revenue streams

Dayrates and Utilizations rates decline

Increased regulatory costs decrease margins
Do not begin to pick up until 2014

($ in millions, except per share amounts)

FY Ending 12/31:
Net Income
Add: D & A

FORECASTED
2013
2014
$604.9
$728.4
456.7
510.9

2010
$990.4
373.0

2011
$584.4
413.6

2012
$600.9
420.4

Changes in Net Working Capital (NWC)

Plus: A/R
Plus: Assets Held for Sale
Plus: Prepaid Expenses

296.6
0.0
54.0

(94.7)
0.0
3.2

127.1
(50.0)
(2.2)

(44.7)
50.0
(0.1)

(84.0)
0.0
(15.0)

(46.8)
(50.0)
(9.5)

(79.2)
50.0
(13.8)

Less: A/P and Accrued Liabilities

Less: Taxes Payable
Less: Changes in NWC
Less: Capex

58.5
35.4
444.5
467.5

(99.1)
(10.2)
(200.8)
1,184.4

2.9
0.4
78.2
550.0

(3.5)
(4.6)
(3.0)
1,145.8

79.8
4.4
(14.8)
1,539.9

34.2
13.6
(58.6)
628.1

32.0
5.4
(5.6)
681.9

$1,340.4
2917.55%

($387.2)
-128.89%

$549.5
-241.93%

($87.1)
-115.85%

($315.4)
262.04%

$643.1
-303.93%

$786.0
22.22%

$1,340.4

($324.5)

$386.1

($51.3)

($155.7)

$266.1

$272.6

FCF
% Growth
PV FCF

TRIANGULATION
Valuation Method
Weight
Forward P/E
Price/Sales
TEV/EBITDA
DCF
Triangulated Value

15.00%
15.00%
20.00%
50.00%

Price
$71.60
$68.90
$82.51
$40.05
$57.60

2015
$813.1
516.7

2016
Terminal Value
$948.6
525.0

$9,167.6
$4,552.5

Good Scenario
Oil prices rise sharply
Dayrates and utilization rates rise rapidly
Emerging markets spur global demand for oil in deepwater
Moratorium has little lasting effect on GOM

($ in millions, except per share amounts)

FY Ending 12/31:
Net Income
Add: D & A

FORECASTED
2013
2014
$2,010.3
$2,221.9
525.3
609.7

2010
$990.4
373.0

2011
$1,155.7
427.9

2012
$1,534.7
458.3

78.6
0.0
54.0

(225.4)
0.0
(44.6)

68.1
(50.0)
(42.7)

(345.8)
50.0
(31.7)

(188.8)
0.0
(27.0)

82.3
(50.0)
(11.6)

(259.7)
50.0
(31.0)

58.5
35.4
226.5
467.5

65.2
18.0
(186.9)
1,470.0

137.7
23.5
136.5
1,035.3

98.5
8.0
(221.0)
1,798.3

153.9
6.7
(55.1)
2,214.8

41.4
24.1
86.4
1,302.3

74.6
12.5
(153.6)
1,425.6

FCF

$1,122.4

($73.3)

$1,094.2

$516.4

$561.6

$1,852.7

$1,807.7

PV FCF

$1,122.4

($61.4)

$768.7

$304.1

$277.2

$766.4

$626.8

Changes in Net Working Capital (NWC)

Plus: A/R
Plus: Assets Held for Sale
Plus: Prepaid Expenses
Less: A/P and Accrued Liabilities
Less: Taxes Payable
Less: Changes in NWC
Less: Capex

TRIANGULATION
Valuation Method
Weight
Forward P/E
Price/Sales
TEV/EBITDA
DCF
Triangulated Value

15.00%
15.00%
20.00%
50.00%

2015
$2,424.3
644.4

Price
$71.60
$68.90
$82.51
$97.51
$86.33

2016
Terminal Value
$2,703.5
683.4

$21,083.6
$10,469.9

Recommendation
Suggested Action:
Current
DCF

Price: $67.80

Value: $81.89

Triangulation:

$78.52

We recommend that we purchase 100 shares of Diamond Offshore

Diamond Offshore Drilling Inc.

http://images.businessweek.com/ss/09/02/0224_safe_dividends/10.htm

October 28, 2010