BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES (Policies)

3 Months Ended

Mar. 31, 2018

McDermott International, Inc., a corporation incorporated under the laws of the Republic of Panama in 1959, is a leading provider of integrated engineering, procurement, construction and installation (“EPCI”), front-end engineering and design (“FEED”) and module fabrication services for upstream field developments worldwide. We deliver fixed and floating production facilities, pipeline installations and subsea systems from concept to commissioning for complex offshore and subsea oil and gas projects. Operating in approximately 20 countries across the Americas, Europe, Africa, Asia and Australia, our integrated resources include a diversified fleet of marine vessels, fabrication facilities and engineering offices. We support our activities with comprehensive project management and procurement services, while utilizing our fully integrated capabilities in both shallow water and deepwater construction. Our customers include national, major integrated and other oil and gas companies, and we operate in most major offshore oil and gas producing regions throughout the world. We execute our contracts through a variety of methods, principally fixed-price, but also including cost reimbursable, cost-plus, day-rate and unit-rate basis or some combination of those methods. In these Notes to our Consolidated Financial Statements, unless the context otherwise indicates, “we,” “us” and “our” mean McDermott International, Inc. and its consolidated subsidiaries.

Basis of Presentation

The accompanying Consolidated Financial Statements are unaudited and have been prepared from our books and records in accordance with Rule 10-1 of Regulation S-X for interim financial information. Accordingly, they do not include all of the information and notes required by accounting principles generally accepted in the United States (“U.S. GAAP”) for complete financial statements. In the opinion of our management, all adjustments, consisting only of normal recurring adjustments, considered necessary for a fair presentation have been included. The results of operations for interim periods are not necessarily indicative of results of operations for a full year. These Consolidated Financial Statements should be read in conjunction with our Consolidated Financial Statements and Notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2017 filed with the U.S. Securities and Exchange Commission (the “SEC”) on February 21, 2018 (the “2017 Form 10-K”).

Classification

Certain prior year amounts have been reclassified for consistency with the current year presentation. Previously reported Consolidated Financial Statements have been adjusted to reflect those changes.

Recently Issued and Adopted Accounting Guidance

Revenue from Contracts with Customers (ASC Topic 606)—In May 2014, the Financial Accounting Standards Board (the “FASB”) issued a new standard related to revenue recognition which supersedes most of the existing revenue recognition requirements in U.S. GAAP and requires entities to recognize revenue at an amount that reflects the consideration to which an entity expects to be entitled in exchange for transferring goods or services to a customer. It also requires significantly expanded disclosures regarding the qualitative and quantitative information of an entity’s nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers.

The FASB has issued several amendments to the standard, including clarification on accounting for licenses of intellectual property, identifying performance obligations, reporting gross versus net revenue and narrow-scope revisions and practical expedients.

Adoption—We adopted the new standard on January 1, 2018 (the “initial application” date):

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using the modified retrospective application, with no restatement of the comparative periods presented and a cumulative effect adjustment to retained earnings as of the date of adoption;

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applying the new standard only to those contracts that are not substantially complete at the date of initial application; and

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disclosing the impact of the new standard in our 2018 Consolidated Financial Statements.

Significant changes to our accounting policies as a result of adopting of the new standard are discussed below:

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We measure transfer of control utilizing an input method to measure progress for individual contracts or combinations of contracts based on the total cost of materials, labor, equipment and vessel operating costs and other costs incurred as applicable to each contract. Previously, under ASC Topic 605-35, Construction-Type and Production-Type Contracts (the “legacy GAAP”), we generally excluded certain costs from the cost-to-cost method of measuring project progress, such as significant costs for procured materials and third-party subcontractors;

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Our Consolidated Balance Sheet no longer reflect assets related to cost incurred in excess of cost recognized. Under legacy GAAP, we generally excluded certain costs from our cost-to-cost method of measuring progress towards completion, such as significant costs for procured materials and third-party subcontractors, which resulted in the recognition of cost incurred in excess of cost recognized as an asset on our Consolidated Financial Statements.

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Variable consideration, including change orders, claims, bonus, incentive fees and liquidated damages or penalties will be included in the estimated contract revenue at the most likely amount to which we expect to be entitled. We will include variable consideration in the estimated transaction price to the extent we concluded that it is probable a significant revenue reversal will not occur or when the uncertainty associated with the variable consideration is resolved.

Revenue Recognition

Contracts―Our revenue is typically derived from long-term contracts that can span several years. We determine the appropriate accounting treatment for each of our contracts with customers before work on the project begins. We generally recognize contract revenues and related costs over-time.

Performance Obligation Satisfied Over Time―A performance obligation is a promise in a contract to transfer a distinct good or service to the customer, and is the unit of account in ASC Topic 606. A contract’s transaction price is allocated to each distinct performance obligation and recognized as revenue when, or as, the performance obligation is satisfied. Our performance obligations are generally satisfied over time as work progresses because of continuous transfer of control to the customer. For contracts with multiple performance obligations, we allocate the contract’s transaction price to each performance obligation using our best estimate of the stand-alone selling price of each distinct good or service in the contract.

Method to Measure Progress—We measure transfer of control utilizing an input method to measure progress for individual contracts or combinations of contracts based on the cost incurred to total cost of materials, labor, equipment and vessel operating costs and other costs as applicable to each contract. These costs, once incurred, are considered a measure of progress and are expensed in the period in which they are incurred. Costs incurred prior to a project award, are generally expensed during the period in which they are incurred.

Total estimated project costs and resulting contract income are affected by changes in the expected cost of materials and labor, productivity, vessel costs, scheduling and other factors. Additionally, external factors such as weather, customer requirements and other factors outside of our control may affect the progress and estimated cost of a project’s completion and, therefore, the timing and amount of revenue and income recognition. Changes in total estimated contract cost and losses, if any, are recognized in the period they are determined.

Performance Obligation Satisfied at a Point-in-Time Method—Contracts with performance obligations that do not meet the criteria to be recognized over time are required to be recognized “at a point-in-time”, whereby revenue and gross profit is recognized only when a performance obligation is complete and a customer has obtained control of a promised asset. For contracts with revenues recognized at a point-in-time, we consider physical possession of the asset, legal transfer of title, significant risk rewards of ownership, customer acceptance and our rights to payment in determining when a performance obligation is complete.

Remaining Performance Obligations (“RPOs”)―RPOs represent the dollar amount of revenues we expect to recognize in the future from contracts that are in progress. These amounts are presented in U.S. dollars. Currency risks associated with RPOs that are not mitigated within the contracts are generally mitigated with the use of foreign currency derivative (hedging) instruments, when deemed significant. However, these actions may not eliminate all currency risk exposure included within our long-term contracts. We do not include expected revenues of contracts related to unconsolidated joint ventures in our RPOs, except to the extent of any contract awards we receive from those joint ventures.

RPOs may not be indicative of future operating results, and projects included in RPOs may be cancelled, modified or otherwise altered by customers.

Variable Consideration―The nature of our contracts gives rise to several types of variable consideration, including unpriced change orders, claims, bonuses, incentive fees and liquidated damages or penalties. We estimate variable consideration based on the most likely amount to which we expect to be entitled. We include variable consideration in the estimated transaction price to the extent it is probable that a significant reversal of cumulative revenue recognized will not occur or when we conclude that any significant uncertainty associated with the variable consideration is resolved. Our estimates of variable consideration and determination of whether to include estimated amounts in the transaction price are based largely on an assessment of our anticipated performance and all information (historical, current and forecasted) that is reasonably available to us. The effect of changes in our estimates of variable consideration on the transaction price is recognized as an adjustment to revenues (either as an increase in or a reduction of revenues) on a cumulative catch-up basis.

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Change Orders―Change orders, which are a normal and recurring part of our business, can increase the future scope and cost of a project. Most of our change orders are not distinct from the existing contract and are accounted for as part of that existing contract. The effect of a change order on the transaction price and our measure of progress for the performance obligation to which it relates, is recognized as an adjustment to revenues (either as an increase in or a reduction of revenues) on a cumulative catch-up basis.

Change orders that may not be approved by the customer until the later stages of a contract or subsequent to the date a project is completed could significantly affect gross profit on a contract. Revenues from unapproved change orders are generally recognized to the extent of the amounts we expect to recover, consistent with our Variable Consideration policy discussed above. If it is probable that a reversal of revenues will occur, the costs attributable to change orders are treated as contract costs without incremental revenues. To the extent change orders included in the price are not resolved in our favor, there could be reductions in, or reversals of previously reported amounts of, revenues and profits, and charges against current earnings, which could be material.

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Claims Revenue—Claims revenue may relate to various factors, including the procurement of materials, equipment performance failures, change order disputes or schedule disruptions and other delays, including factors outside of our control, therefore we believe we are entitled to additional compensation. Claims revenue, when recorded, is only recorded to the extent of the amounts we expect to recover. We include certain unapproved claims in the transaction price when the claims are legally enforceable, we consider collection to be probable and believe we can reliably estimate the ultimate value. Amounts attributable to unpriced change orders are not included in claims. We continue to engage in negotiations with our customers on our outstanding claims. However, these claims may be resolved at amounts that differ from our current estimates, which could result in increases or decreases in future estimated contract profits or losses. Claims are generally negotiated over the course of the respective projects, many of which are long-term in nature.

Warranties―Our contracts include assurance-type warranties that our performance is free from material defect and consistent with the specifications of our contracts, which do not give rise to a separate performance obligation.

Adoption of the new revenue standard resulted in changes to the timing of revenue recognition and in the reclassification between financial statement line items. See Note 3, Revenue Recognition, for further discussion.

Pension and Postretirement Benefits—In March 2017, the FASB issued Accounting Standards Update (“ASU”) 2017-07, Compensation—Retirement Benefits (Topic 715): Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit. This ASU requires bifurcation of certain components of net pension and postretirement benefit cost in the Consolidated Statements of Operations. We adopted this ASU effective as of January 1, 2018. As a result, benefit costs, excluding service costs component, previously included in Selling, general and administrate expenses, are now included in Other non-operating income (expense), net in our Consolidated Statements of Operations. All comparable periods presented have been retrospectively revised to reflect this change.

Accounting Guidance Issued But Not Adopted

Accounting Guidance Issued But Not Adopted as of March 31, 2018

Financial Instruments—In June 2016, the FASB issued ASU 2016-13, Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. This ASU will require a financial asset measured at amortized cost basis to be presented at the net amount expected to be collected. A valuation account, allowance for credit losses, will be deducted from the amortized cost basis of the financial asset to present the net carrying value at the amount expected to be collected on the financial asset. This ASU is effective for interim and annual periods beginning after December 15, 2019. We are currently assessing the impact of this guidance on our future Consolidated Financial Statements and related disclosures.

Leases—In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). The ASU will require entities that lease assets—referred to as “lessees”—to recognize on the balance sheet the assets and liabilities for the rights and obligations created by leases with lease terms of more than 12 months. Consistent with current U.S. GAAP, the recognition, measurement and presentation of expenses and cash flows arising from a lease by a lessee primarily will depend on its classification as a finance or operating lease. However, unlike current U.S. GAAP—which requires only capital leases to be recognized on the balance sheet—the new ASU will require both types of leases to be recognized on the balance sheet. This ASU is effective for interim and annual periods beginning after December 15, 2018. Early adoption is permitted. We are currently assessing the impact of this ASU on our future Consolidated Financial Statements and related disclosures.