Katsy DouangvichitTyson Banbury

Nate EvettMatt Hawk

October 28, 2010

Diamond Offshore Drilling Inc.

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

Agenda

• Company Overview

• Industry Overview

• Competitors

• SWOT Analysis

• Porter’s 5 Forces

• Valuation

• Recommendation

Company OverviewSummary

• Gulf of Mexico (GOM)• Mexico• Europe/Africa/

Mediterranean• Australasia/Asia/Middle

East• South America

Global Presence

• Provides contract drilling services to energy industry• Leader in deepwater drilling for oil and natural gas on a

global scale• One of the world’s largest fleets of offshore drilling rigs

Basic Info

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

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

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 OverviewPortfolio Performance

Company OverviewRecent Performance

• DO stock down 36% since beginning of 2010

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

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

Company OverviewHistory Diamond Offshore Drilling is formed: • 1980’s – 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 OverviewBusiness 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.jpghttp://safetyactconsultants.com/yahoo_site_admin/assets/images/Wast_Oil_Refinery.320175601.jpghttp://www.annualreports.com.my/uploads/news/small/9_shell-gas-station-bar-b-cutie.jpg

Company OverviewBusiness 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_Discussionhttp://www.epmag.com/archives/features/761.htm

Company OverviewDifferent 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

• The per day rate Diamond Offshore charges clients for use of rigs

• Utilization rates

• The percentage of fleet that is currently under contract to clients

• Number of rigs

• Number of rigs in Diamond Offshore’s fleet

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

Company Overview

GOM/Mexico

South America

Europe/Africa/Mediterranean

Australasia/Asia/Middle East

High-Spec: 13 2 6 3 2

Intermediate: 20 1 (2)2 9 4 3 (1)2

Jack-Ups: 13 4 (4)2 1 3 1

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

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

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%

1 Averages using 2005-2009

Business Model – Revenue Drivers

2 Denotes cold-stacked rigs

Company OverviewBusiness 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 OverviewMacroeconomic Drivers – Global Recovery

Source: World Economic Outlook, 2010http://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 OverviewMacroeconomic 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

Source: World Economic Outlook, 2010http://www.imf.org/external/pubs/ft/weo/2010/01/c1/fig1_19.pdf

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

Industry OverviewMacroeconomic Drivers – Demand For Oil

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

Barrels of Oil Consumed Daily

http://graphics.thomsonreuters.com/10/04/GLB_OILDMND0410.gif

Industry OverviewMacroeconomic 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 DO’s revenues

•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 21st, Judge Martin Feldman halts moratorium

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

•October 12th, drilling ban lifted

Industry OverviewIndustry Outlook – GOM Moratorium

•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 of 2 DO rigs to international contracts

•Slow return to GOM due to new regulations and increased auditing cost

Impact:

CompetitorsNoble 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: Management’s DiscussionNoble Webpage RigFleet Section:

http://www.noblecorp.com/Fleet/FleetOverview.aspNoble Corporation Fleet Status updated 29 September 2010http://finance.yahoo.com/q?s=ne

CompetitorsEnsco

• 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=ESVENSCO web page Global Operations Section http://www.enscous.com/GlobalOperations/Capabilities/default.aspxENSCO fleet status report Oct. 13, 2010http://seekingalpha.com/article/224240-the-oil-and-gas-industry-s-answers-lie-within

CompetitorsTransocean

• World’s 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 Brochurewww.reuters.com/article/idUSN0322326220100603http://seekingalpha.com/article/224240-the-oil-and-gas-industry-s-answers-lie-withinwww.deepwater.com/fw/main/Merger-307.html

CompetitorsRecent Performance

• 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

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

CompetitorsDiamond 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 FleetDiamond Offshore Web page Offshore Rig BasicsSeeking Alpha Diamond Offshore Drilling Q2 2010 Earnings Call Transcript

CompetitorsRig & Financials Comparison

Diamond Offshore Noble Corp. ENSCO Transocean

Floaters 32 16 6 64

Jackups 13 45 38 63

Drillships 1 8 - -

Other - - 1 5

Under Construction - 5 4 -

Total 46 74 49 132

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

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

Firm Factors

SWOT AnalysisIndustry Factors

Opportunities• Growth in some geographic locations including Brazil and Greenland• Increased demand for ultra-deepwater 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

Porter’s 5 ForcesThreat 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 CaseDiscount Value

• CAPM Cost of Equity = 8.12%• Annualized ROI (1999-2001)= 35.40% - Used for 2010-2016 FCF’s• 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

ValuationDCF Valuation

($ in millions, except per share amounts)FY Ending 12/ 31: 2010 2011 2012 2013 2014 2015 2016 Terminal ValueNet Income $990.4 $1,009.2 $1,277.0 $1,577.9 $1,784.0 $1,997.5 $2,193.5Add: D & A 373.0 423.6 447.1 503.6 578.5 604.6 633.7

Changes in Net Working Capital (NWC)Plus: A/ R 78.6 (133.1) 95.8 (242.5) (174.0) 48.8 (198.6)Plus: Assets Held for Sale 0.0 0.0 (50.0) 50.0 0.0 (50.0) 50.0Plus: Prepaid Expenses 54.0 (30.3) (31.1) (17.2) (25.5) (13.4) (22.4)

Less: A/ P and Accrued Liabilities 58.5 16.0 98.9 51.2 138.3 48.2 49.8Less: Taxes Payable 35.4 9.5 16.8 1.5 7.2 22.2 8.5

Less: Changes in NWC 226.5 (137.9) 130.4 (157.0) (54.0) 55.8 (112.8)Less: Capex 467.5 1,384.4 892.5 1,578.1 2,000.4 1,100.9 1,186.3

FCF $1,122.4 ($89.5) $962.1 $346.4 $308.0 $1,557.1 $1,528.1 $17,822.3% Growth 2426.95% -107.97% -1174.84% -64.00% -11.08% 405.55% -1.86%

PV FCF $1,122.4 ($75.0) $675.9 $204.0 $152.0 $644.1 $529.9 $8,850.4

FORECASTED

DCF ValuationPresent Value of FCF's 12,103.7Less: Outstanding Debt 1,495.4Plus: Cash and ST investments 777.4Equity Value 11,385.7

Value per Share $81.89Equals Value +/ - 10% $73.70 $90.08

ValuationSensitivity Analysis

Sensitivity Table$81.89 15.00% 16.00% 17.00% 18.00% 19.31% 20.00% 21.00% 22.00% 23.00%2.00% $74.47 $73.82 $73.21 $72.62 $71.90 $71.53 $71.03 $70.54 $70.082.50% $77.46 $76.82 $76.20 $75.62 $74.89 $74.53 $74.02 $73.54 $73.083.00% $80.78 $80.13 $79.52 $78.93 $78.21 $77.84 $77.33 $76.85 $76.393.50% $84.46 $83.82 $83.20 $82.62 $81.89 $81.53 $81.02 $80.54 $80.084.00% $88.59 $87.94 $87.33 $86.74 $86.02 $85.65 $85.15 $84.66 $84.204.50% $93.24 $92.60 $91.98 $91.39 $90.67 $90.31 $89.80 $89.32 $88.855.00% $98.52 $97.88 $97.26 $96.68 $95.95 $95.59 $95.08 $94.60 $94.145.50% $104.57 $103.93 $103.31 $102.73 $102.00 $101.64 $101.13 $100.65 $100.19

Discount Rate

GROWTH RATE

Ratio ValuationTriangulation

Valuation Method Weight Price

Forward P/ E 15.00% $71.60Price/ Sales 15.00% $68.90TEV/ EBITDA 20.00% $82.51DCF 50.00% $81.89Triangulated Value $78.52

TRIANGULATION

Bad ScenarioAssumes 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: 2010 2011 2012 2013 2014 2015 2016 Terminal ValueNet Income $990.4 $584.4 $600.9 $604.9 $728.4 $813.1 $948.6Add: D & A 373.0 413.6 420.4 456.7 510.9 516.7 525.0

Changes in Net Working Capital (NWC)Plus: A/ R 296.6 (94.7) 127.1 (44.7) (84.0) (46.8) (79.2)Plus: Assets Held for Sale 0.0 0.0 (50.0) 50.0 0.0 (50.0) 50.0Plus: Prepaid Expenses 54.0 3.2 (2.2) (0.1) (15.0) (9.5) (13.8)

Less: A/ P and Accrued Liabilities 58.5 (99.1) 2.9 (3.5) 79.8 34.2 32.0Less: Taxes Payable 35.4 (10.2) 0.4 (4.6) 4.4 13.6 5.4

Less: Changes in NWC 444.5 (200.8) 78.2 (3.0) (14.8) (58.6) (5.6)Less: Capex 467.5 1,184.4 550.0 1,145.8 1,539.9 628.1 681.9

FCF $1,340.4 ($387.2) $549.5 ($87.1) ($315.4) $643.1 $786.0 $9,167.6% Growth 2917.55% -128.89% -241.93% -115.85% 262.04% -303.93% 22.22%

PV FCF $1,340.4 ($324.5) $386.1 ($51.3) ($155.7) $266.1 $272.6 $4,552.5

FORECASTED

Valuation Method Weight Price

Forward P/ E 15.00% $71.60Price/ Sales 15.00% $68.90TEV/ EBITDA 20.00% $82.51DCF 50.00% $40.05Triangulated Value $57.60

TRIANGULATION

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

Valuation Method Weight Price

Forward P/ E 15.00% $71.60Price/ Sales 15.00% $68.90TEV/ EBITDA 20.00% $82.51DCF 50.00% $97.51Triangulated Value $86.33

TRIANGULATION

($ in millions, except per share amounts)FY Ending 12/ 31: 2010 2011 2012 2013 2014 2015 2016 Terminal ValueNet Income $990.4 $1,155.7 $1,534.7 $2,010.3 $2,221.9 $2,424.3 $2,703.5Add: D & A 373.0 427.9 458.3 525.3 609.7 644.4 683.4

Changes in Net Working Capital (NWC)Plus: A/ R 78.6 (225.4) 68.1 (345.8) (188.8) 82.3 (259.7)Plus: Assets Held for Sale 0.0 0.0 (50.0) 50.0 0.0 (50.0) 50.0Plus: Prepaid Expenses 54.0 (44.6) (42.7) (31.7) (27.0) (11.6) (31.0)

Less: A/ P and Accrued Liabilities 58.5 65.2 137.7 98.5 153.9 41.4 74.6Less: Taxes Payable 35.4 18.0 23.5 8.0 6.7 24.1 12.5

Less: Changes in NWC 226.5 (186.9) 136.5 (221.0) (55.1) 86.4 (153.6)Less: Capex 467.5 1,470.0 1,035.3 1,798.3 2,214.8 1,302.3 1,425.6

FCF $1,122.4 ($73.3) $1,094.2 $516.4 $561.6 $1,852.7 $1,807.7 $21,083.6

PV FCF $1,122.4 ($61.4) $768.7 $304.1 $277.2 $766.4 $626.8 $10,469.9

FORECASTED

RecommendationSuggested Action:

•Current Price: $67.80

•DCF Value: $81.89

•Triangulation: $78.52

• We recommend that we purchase 100 shares of Diamond Offshore

Diamond Offshore Drilling Inc.

October 28, 2010http://images.businessweek.com/ss/09/02/0224_safe_dividends/10.htm