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BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES (Policies)

12 Months Ended

Dec. 31, 2019

McDermott International, Inc. (“McDermott,” “we” or “us”), a corporation incorporated under the laws of the Republic of Panama in 1959, is a fully integrated provider of engineering, procurement, construction and installation (“EPCI”) and technology solutions to the energy industry. We design and build end-to-end infrastructure and technology solutions to transport and transform oil and gas into a variety of products. Our proprietary technologies, integrated expertise and comprehensive solutions are utilized for offshore, subsea, power, liquefied natural gas (“LNG”) and downstream energy projects around the world. Our customers include national, major integrated and other oil and gas companies as well as producers of petrochemicals and electric power, and we operate in most major energy 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.

Organization

Our business is organized into five operating groups, which represent our reportable segments consisting of: North, Central and South America (“NCSA”); Europe, Africa, Russia and Caspian (“EARC”); the Middle East and North Africa (“MENA”); Asia Pacific (“APAC”); and Technology. See Note 24, Segment Reporting, for further discussion.

Basis of Presentation

We have presented our Consolidated Financial Statements in U.S. Dollars in accordance with accounting principles generally accepted in the United States (“GAAP”). These Consolidated Financial Statements reflect all wholly owned subsidiaries and those entities we are required to consolidate. See the discussion below under the caption “Joint Venture and Consortium Arrangements” in this footnote for further discussion of our consolidation policy for those entities that are not wholly owned. In the opinion of our management, all adjustments, consisting only of normal recurring adjustments, considered necessary for a fair presentation have been included. Intercompany balances and transactions are eliminated in consolidation. Values presented within tables (excluding per share data) are in millions and may not sum due to rounding.

Restructuring Support Agreement and Chapter 11 Proceedings

On January 21, 2020 (the “Petition Date”), McDermott and certain of its subsidiaries (collectively, the “Debtors”): (1) entered into a Restructuring Support Agreement (together with all exhibits and schedules thereto, the “RSA”) with certain of their lenders, letter of credit issuers and holders of the Senior Notes issued by certain of the Debtors and guaranteed by McDermott and certain of the other Debtors (such lenders, letter of credit issuers and holders of the Senior Notes are referred to below as the “Consenting Parties”); and (2) filed voluntary petitions (the “Bankruptcy Petitions”) for reorganization under Chapter 11 of the United States Bankruptcy Code (the “Bankruptcy Code”) in the United States Bankruptcy Court for the Southern District of Texas (the “Bankruptcy Court”) to pursue a Joint Prepackaged Chapter 11 Plan of Reorganization of the Debtors (as proposed pursuant to the RSA, the “Plan of Reorganization”). At the time of filing the Chapter 11 cases (the “Chapter 11 Cases”), the Debtors had the support of more than two-thirds of all of their funded debt creditors for the RSA. The Chapter 11 Cases are being jointly administered under the caption In re McDermott International, Inc., Case No. 20-30336. The Debtors continue to operate their businesses as “debtors-in-possession” under the jurisdiction of the Bankruptcy Court and in accordance with the applicable provisions of the Bankruptcy Code and orders of the Bankruptcy Court.

In connection with the RSA and the Chapter 11 Cases, certain Consenting Parties or their affiliates have provided the Debtors with superpriority debtor-in-possession financing pursuant to a new credit agreement (the “DIP Credit Agreement”). The DIP Credit Agreement provides for, among other things, term loans and letters of credit in an aggregate principal amount of up to $2.81 billion, including (1) up to $2,067 million under a term loan facility consisting of (a) a $550 million tranche that was made available at closing, (b) a $650 million tranche that was made available upon entry of the Final DIP Order (as defined in the RSA), (c) a $823 million tranche consisting of the principal amount of term loans outstanding under Tranche A and Tranche B of the New Term Loan Facility under our Superpriority Credit Agreement and accrued interest and fees related to term loans outstanding under Tranche A and Tranche B of the New Term Loan Facility under our Superpriority Credit Agreement and the New LC Facility under our Superpriority Credit Agreement, in each case that was rolled up from the Superpriority Credit Agreement and deemed issued under the DIP Credit Agreement upon entry of the Final DIP Order and (d) a $44 million tranche consisting of the make-whole amount owed to the lenders under our Superpriority Credit Agreement that was rolled up from the Superpriority Credit Agreement and deemed issued under the DIP Credit Agreement upon entry of the Final DIP Order (the “DIP Term Facility”) and (2) up to $743 million under a letter of credit facility consisting of (a) $300 million made available at closing, (b) $243 million that was made available upon entry of the Final DIP Order and (c) $200 million amount of term loans outstanding under Tranche A and Tranche B of the New LC Facility under our Superpriority Credit Agreement that was rolled up from the Superpriority Credit Agreement and deemed issued under the DIP Credit Agreement upon entry of the Final DIP Order (the “DIP LC Facility” and, together with the DIP Term Facility, the “DIP Facilities”). The Final DIP Order was entered by the Bankruptcy Court on February 24, 2020. We intend to use proceeds of the DIP Facilities to, among other things: (1) pay certain fees, interest, payments and expenses related to the Chapter 11 Cases; (2) pay adequate protection payments; (3) fund our working capital needs and expenditures during the Chapter 11 proceedings; (4) fund the Carve-Out (as defined below), which accounts for certain administrative, court and legal fees payable in connection with the Chapter 11 Cases; and (5) pay fees and expenses related to the transactions contemplated by the DIP Facilities.

In addition to the DIP Facilities, the RSA contemplates that, on the Effective Date, the Debtors will (1) conduct a non-backstopped equity rights offering (the “Rights Offering”) and (2) enter into new exit credit facilities (the “Exit Facilities”), as described in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources.” Accordingly, consummation of the Plan of Reorganization will require that the Debtors meet all of the conditions to completion of the Exit Facilities.

The Plan of Reorganization, which remains subject to the approval of the Bankruptcy Court, provides that, among other things, on the effective date of the Plan of Reorganization (the “Effective Date”):

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holders of claims arising under the DIP Credit Agreement shall be paid in full, in cash, on the Effective Date, funded from the proceeds of the Lummus Technology sale or, to the extent not paid in full from the proceeds of the Lummus Technology sale:

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holders of claims arising under the DIP Term Loans (as defined in the Plan of Reorganization) other than the Make Whole Amount (as defined in the Plan of Reorganization) shall receive cash on hand and proceeds from the Exit Facilities;

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holders of claims arising under the DIP Term Loans constituting the Make Whole Amount shall receive their respective pro rata shares of the term loans arising under the Make Whole Tranche (as defined in the Plan of Reorganization); and

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holders of claims arising under drawn DIP Letters of Credit (as defined in the Plan of Reorganization) that have not been reimbursed in full in cash as of the Effective Date shall receive payment in full in cash.

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holders of DIP Cash Secured Letters of Credit (as defined in the Plan of Reorganization) shall receive participation in the Cash Secured Exit Facility (as defined in the RSA) in amounts equal to their respective DIP Cash Secured Letter of Credit Claims (as defined in the Plan of Reorganization; provided that any such cash collateral in the DIP Cash Secured LC Account (as defined in the DIP Credit Facility Term Sheet) shall collateralize the Cash Secured LC Exit Facility);

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holders of claims arising under the DIP Letters of Credit (other than the DIP Cash Secured Letters of Credit) shall receive participation in the Super Senior Exit Facility in amounts equal to their respective DIP Letter of Credit Facility commitments;

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holders of claims arising under the (1) 2021 LC Facility (as defined in the Plan of Reorganization), (2) the 2023 LC Facility (as defined in the Plan of Reorganization), (3) the Revolving Credit Facility (as defined in the Plan of Reorganization) and (4) the Lloyds’ LC Facility (as defined in the Plan of Reorganization) shall receive participation rights in the Roll-Off LC Exit Facility (as defined in the Plan of Reorganization) or receive their respective pro rata shares of the Secured Creditor Funded Debt Distribution (as defined in the Plan of Reorganization), depending upon the nature of such claims;

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holders of claims arising under the Term Loan Facility and Credit Agreement Hedging Claims (as defined in the Plan of Reorganization) other than hedging obligations rolled into the DIP Facilities and the Exit Facilities, will receive pro rata shares of the Secured Creditor Funded Debt Distribution;

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holders of claims arising under the Senior Notes will receive their pro rata shares of (a) 6% of the new common equity interests in the reorganized McDermott (the “New Common Stock”), plus additional shares of New Common Stock as a result of the Prepetition Funded Secured Claims Excess Cash Adjustment (as defined in the Plan of Reorganization), subject to dilution on account of the New Warrants and a new Management Incentive Plan (each as defined in the RSA); and (b) the New Warrants;

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holders of general unsecured claims shall either (1) have their claims reinstated or (2) be paid in full in cash;

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each existing equity interest in any of the Debtors other than McDermott shall be reinstated or cancelled, released and extinguished without any distribution at the Debtors’ election and with the consent of the Required Consenting Lenders (as defined in the Plan of Reorganization); and

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each existing equity interest in McDermott will be cancelled, released and extinguished without any distribution.

The deadline to vote on the Plan of Reorganization was February 19, 2020, and the results of that voting continued to reflect the support of more than two-thirds of all the Debtors’ funded debt creditors. The Bankruptcy Court has set March 12, 2020 as the date for the hearing on confirmation of the Plan of Reorganization.

The RSA contains certain covenants on the part of the Debtors and the Consenting Parties, including that the Consenting Parties, among other things, (1) vote in favor of the Plan of Reorganization in the Chapter 11 Cases and (2) otherwise support and take all actions that are necessary and appropriate to facilitate the confirmation of the Plan of Reorganization and consummation of the Debtors’ restructuring in accordance with the RSA. The RSA further provides that the Consenting Parties shall have the right, but not the obligation, to terminate the RSA upon the occurrence of certain events, including the failure of the Debtors to achieve certain milestones.

The RSA also contemplates that, on or prior to the Effective Date, we will complete the Lummus Technology sale. In order to pursue the satisfaction of that requirement, we have entered into a Share and Asset Purchase Agreement (the “SAPA”) with a “stalking horse” bidder. The Lummus Technology sale will be subject to the approval of the Bankruptcy Court. Under the terms of the SAPA, the stalking horse bidder has agreed, absent any higher or otherwise better bid, to acquire the Lummus Technology business from us for a purchase price of $2.725 billion, subject to certain adjustments. If we receive any bids that are higher or otherwise better than the terms reflected in the SAPA, we expect to conduct an auction for the Lummus Technology business on March 9, 2020. If we consummate an alternative sale of the Lummus Technology business to any person other than the stalking horse bidder, we would be required to pay to the stalking horse bidder a break-up fee equal to 3% of the purchase price and reimburse certain expenses associated with the negotiation, drafting and execution of the SAPA. On February 24, 2020, the Bankruptcy Court approved the selection of the stalking horse bidder and the contractual protections provided to that bidder described above, as well as the bidding procedures for the ultimate sale process.

The foregoing descriptions of the RSA, the Plan of Reorganization, the DIP Facilities and the SAPA are not complete and are qualified in their entirety by reference to the full text of each of those documents, copies of which are filed as exhibits to this report.

These Consolidated Financial Statements have been prepared assuming that we will continue as a going concern and contemplate the realization of assets and the satisfaction of liabilities in the normal course of business. As a result of the Chapter 11 Cases, the realization of assets and the satisfaction of liabilities are subject to uncertainty. While operating as debtors-in-possession under Chapter 11, we may sell or otherwise dispose of or liquidate assets or settle liabilities, subject to the approval of the Bankruptcy Court or as otherwise permitted in the ordinary course of business, for amounts other than those reflected in these Consolidated Financial Statements. Further, the plan of reorganization could materially change the amounts and classifications of assets and liabilities reported in these Consolidated Financial Statements. The accompanying consolidated financial statements do not include any adjustments related to the recoverability and classification of assets or the amounts and classification of liabilities or any other adjustments that might be necessary should we be unable to continue as a going concern or as a consequence of the Chapter 11 Cases.

As a result of our financial condition, the defaults under our debt agreements and the risks and uncertainties surrounding the Chapter 11 Cases, substantial doubt exists regarding our ability to continue as a going concern. We believe that, once we receive the approval of the Plan of Reorganization by the Bankruptcy Court, our successful implementation of the Plan of Reorganization and the finalization of the Lummus Technology sale, among other factors, substantial doubt regarding our ability to continue as a going concern would be alleviated.

Reclassifications

Bidding and Proposal Costs— We began classifying bid and proposal costs in Cost of operations in our Statements of Operations in the second quarter of 2018, as a result of our realignment of commercial personnel within our operating groups in conjunction with the Combination. For periods reported prior to the second quarter of 2018, bid and proposal costs were included in Selling, general and administrative (“SG&A”) expenses. For the years ended December 31, 2018 and 2017, our SG&A expenses included bid and proposal expenses of $10 million and $37 million, respectively.

Income (Loss) from Investments in Unconsolidated Affiliates—Our Statement of Operations for the year ended December 31, 2017 reflects the reclassification of a $12 million loss from investments in unconsolidated affiliates associated with our ongoing io Oil and Gas and Qingdao McDermott Wuchuan Offshore Engineering Company Ltd. joint ventures to Operating income to conform to our current presentation. Previously, results from these unconsolidated joint ventures were presented below Operating income, as we did not consider the activities of the unconsolidated joint ventures to be integral to our operations. Based on an expected expansion in activity of these unconsolidated joint ventures in 2018 and in the future, we now believe the activities of these unconsolidated joint ventures are integral to our ongoing operations and are most appropriately reflected in Operating income. Income (loss) from investments in unconsolidated affiliates that are not integral to our operations will continue to be presented below Operating income. See Note 10, Joint Venture and Consortium Arrangements, for further discussion of our unconsolidated joint ventures.

Reverse Common Stock Split—We amended our Amended and Restated Articles of Incorporation during the second quarter of 2018 to effect a three-to-one reverse stock split of McDermott common stock, effective May 9, 2018. Common stock, capital in excess of par, share and per share (except par value per share, which was not affected) information for all periods presented has been recast in these Consolidated Financial Statements to reflect the reverse stock split.

Pension and Postretirement Benefit Costs—In conjunction with our adoption of Accounting Standards Update (“ASU”) 2017-07 in the first quarter of 2018, we reclassified non-service costs relating to our pension and postretirement plans from SG&A to Other non-operating income (expense) for all historical periods presented. The reclassification did not result in a material impact.

Loss on Asset disposals—In the second quarter of 2019, we sold Alloy Piping Products LLC (“APP”), as discussed in Note 4, Acquisition and Disposition Transactions. Loss from the disposition of APP is included in Loss on asset disposals in our Consolidated Statements of Operations (our “Statements of Operations”). To conform to current period presentation, $3 million loss and $2 million gain on asset disposals presented in Other operating expense during the years ended December 31, 2018 and 2017, respectively, has been reclassified to Loss on asset disposals.

Use of Estimates and Judgments

The preparation of financial statements in conformity with U.S. GAAP requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses and related disclosures of contingent assets and liabilities. We believe the most significant estimates and judgments are associated with:

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revenue recognition for our contracts, including estimating costs to complete each contract and the recognition of incentive fees and unapproved change orders and claims;

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determination of fair value related to the embedded derivatives within the Superpriority Credit Agreement;

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determination of fair value with respect to acquired assets and liabilities;

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assessment of our ability to continue as a going concern;

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classification of all of our long-term debt obligations, including finance lease obligations, as current as of December 31, 2019;

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fair value and recoverability assessments that must be periodically performed with respect to long-lived tangible assets, goodwill and other intangible assets;

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valuation of deferred tax assets and financial instruments;

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the determination of liabilities related to loss contingencies, self-insurance programs and income taxes;

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the determination of pension-related obligations; and

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consolidation determinations with respect to our joint venture and consortium arrangements.

If the underlying estimates and assumptions upon which the Consolidated Financial Statements are based change in the future, actual amounts may differ from those included in the Consolidated Financial Statements.

Revenue Recognition

Revenue Recognition—Our revenue is primarily derived from long-term contracts with customers, and we determine the appropriate accounting treatment for each contract at inception in accordance with ASU 2014-09 (Accounting Standards Codification (“ASC”) Topic 606), Revenue from Contracts with Customers. Our contracts primarily relate to: EPCI services; engineering services; construction services; pipe and steel fabrication services; engineered and manufactured products; technology licensing; and catalysts supply. An EPCI contract may also include technology licensing, and our services may be provided between or among our reportable segments.

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Contracts—Our contracts are awarded on a competitively bid and negotiated basis, and the timing of revenue recognition may be impacted by the terms of such contracts. We use a range of contracting options, including fixed-price, cost-reimbursable and hybrid, which has both cost-reimbursable and fixed-price characteristics. Fixed-price contracts, and hybrid contracts with a more significant fixed-price component, tend to provide us with greater control over project schedule and the timing of when work is performed and costs are incurred, and, accordingly, when revenue is recognized. Cost-reimbursable contracts, and hybrid contracts with a more significant cost-reimbursable component, generally provide our customers with greater influence over the timing of when we perform our work, and, accordingly, such contracts often result in less predictability regarding the timing of revenue recognition. A contract may include technology licensing services, which may be provided between our reportable segments.

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Performance Obligations—A performance obligation is a promise in a contract to transfer a distinct good or service to a customer and is the unit of account in ASC Topic 606. The transaction price of a contract is allocated to each distinct performance obligation and recognized as revenue when, or as, the performance obligation is satisfied. Our contract costs and related revenues are generally recognized over time as work progresses due to continuous transfer to the customer. To the extent a contract is deemed to have multiple performance obligations, we allocate the transaction price of the contract to each performance obligation using our best estimate of the standalone selling price of each distinct good or service in the contract. In addition, certain contracts may be combined and deemed to be a single performance obligation. Our EPCI contracts are generally deemed to be single performance obligations and our contracts with multiple performance obligations were not material as of December 31, 2019.

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Performance Obligations Satisfied Over Time—Revenues for our contracts that satisfy the criteria for over time recognition are recognized as the work progresses. Revenues for contracts recognized over time include revenues for contracts to provide: EPCI services; engineering services; construction services; pipe and steel fabrication services; engineered and manufactured products; technology licensing; and “non-generic” catalysts supply. We measure transfer of control utilizing an input method to measure progress of the performance obligation based upon the cost-to-cost measure of progress, as it best depicts the transfer of assets to the customer, with Cost of operations including direct costs, such as materials and labor, and indirect costs that are attributable to contract activity. Under the cost-to-cost approach, the use of estimated costs to complete each performance obligation is a significant variable in the process of determining recognized revenues and is a significant factor in the accounting for such performance obligations. Significant estimates impacting the cost to complete each performance obligation are: costs of engineering, materials, components, equipment, labor and subcontracts; vessel costs; labor productivity; schedule durations, including subcontractor or supplier progress; contract disputes, including claims; achievement of contractual performance requirements; and contingency, among others. The cumulative impact of revisions in total cost estimates during the progress of work is reflected in the period in which these changes become known, including, to the extent required, the reversal of profit recognized in prior periods and the recognition of losses expected to be incurred on contracts in progress. 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 recognition of revenues and income. Due to the various estimates inherent in our contract accounting, actual results could differ from those estimates, which could result in material changes to our consolidated financial statements and related disclosures. See Note 5, Revenue Recognition, for further discussion.

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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 revenues and gross profit are recognized only when a performance obligation is complete and a customer has obtained control of a promised asset. Revenues for contracts recognized at a point in time include our “generic” catalysts supply and certain manufactured products (which are recognized upon shipment) and certain non-engineering and non-construction oriented services (which are recognized when the services are performed). In determining when a performance obligation is complete for contracts with revenues recognized at a point in time, we measure transfer of control considering physical possession of the asset, legal transfer of title, significant risks and rewards of ownership, customer acceptance and our rights to payment. See Note 5, Revenue Recognition, for further discussion.

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Remaining Performance Obligations (“RPOs”)―RPOs represent the amount of revenues we expect to recognize in the future from our contract commitments on projects. RPOs include the entire expected revenue values for joint ventures we consolidate and our proportionate value for consortiums we proportionately consolidate. We do not include expected revenues of contracts related to unconsolidated joint ventures in our RPOs, except to the extent of any subcontract awards we receive from those joint ventures. Currency risks associated with RPOs which 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. RPOs may not be indicative of future operating results, and projects included in RPOs may be cancelled, modified or otherwise altered by customers. See Note 5, Revenue Recognition, for further discussion.

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Variable Consideration―Transaction prices for our contracts may include variable consideration, which includes increases to transaction prices for approved and unapproved change orders, claims, incentives and bonuses, and reductions to transaction price for liquidated damages or penalties. Change orders, claims and incentives are generally not distinct from the existing contracts due to the significant integration service provided in the context of the contract and are accounted for as a modification of the existing contract and performance obligation. We estimate variable consideration for a performance obligation at the most likely amount to which we expect to be entitled (or the most likely amount we expect to incur in the case of liquidated damages), utilizing estimation methods that best predict the amount of consideration to which we will be entitled (or will be incurred in the case of liquidated damages). We include variable consideration in the estimated transaction price to the extent it is probable that a significant reversal of cumulative revenues recognized will not occur or when the uncertainty associated with the variable consideration is resolved. Our estimates of variable consideration and determinations of whether to include estimated amounts in transaction prices are based largely on assessments of our anticipated performance and all information (historical, current and forecasted) reasonably available to us. The effect of variable consideration on the transaction price of a performance obligation is recognized as an adjustment to revenues on a cumulative catch-up basis. To the extent unapproved change orders and claims reflected in transaction price (or excluded from transaction price in the case of liquidated damages) are not resolved in our favor, or to the extent incentives reflected in transaction price are not earned, there could be reductions in, or reversals of, previously recognized revenue. See Note 5, Revenue Recognition, for further discussion.

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Loss Recognition―Revenues from customers may not cover increases in our costs or our total estimated costs. It is possible that current estimates could materially change for various reasons. For all contracts, if a current estimate of total contract cost indicates a loss, the projected loss is recognized in full immediately and reflected in Cost of operations in the Statements of Operations. It is possible that these estimates could change due to unforeseen events, which could result in adjustments to overall contract revenues and costs. Variations from estimated contract performance could result in material adjustments to operating results for any fiscal quarter or year. In our Consolidated Balance Sheets (our “Balance Sheets”), accruals of provisions for estimated losses on all active uncompleted projects are included in Advance billings on contracts. See Note 5, Revenue Recognition, for further discussion.

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Accounts Receivable and Contract Balances―The timing of when we bill our customers is generally dependent upon advance billing terms, milestone billings based on the completion of certain phases of the work, or when the services are provided or products are shipped.

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Accounts Receivable―Any uncollected billed amounts for our performance obligations recognized over time, including contract retainages to be collected within one year, are recorded within Accounts receivable-trade, net. Any uncollected billed amounts, unbilled receivables for which we have an unconditional right to payment, and unbilled receivables for our performance obligations recognized at a point in time are also recorded within Accounts receivable-trade, net. Contract retainages to be collected beyond one year are recorded within Accounts receivable—long-term retainages. We establish allowances for doubtful accounts based on our assessments of collectability. See Note 8, Accounts Receivable, for further discussion.

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Contracts in Progress—Projects with performance obligations recognized over time that have revenues recognized to date in excess of cumulative billings are reported within Contracts in progress on our Balance Sheets. We expect to invoice customers for all unbilled revenues, and our payment terms are generally for less than 12 months upon billing. Our contracts typically do not include a significant financing component.

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Advance Billings on Contracts—Projects with performance obligations recognized over time that have cumulative billings in excess of revenues are reported within Advance billings on contracts on our Balance Sheets. Our Advance billings on contracts balance also includes our accruals of provisions for estimated losses on all active projects.

Concentration of Credit Risk

Concentration of Credit Risk—Our principal customers are businesses in the oil and gas exploration and development, petrochemical, natural resources and power industries. This concentration of customers may impact our overall exposure to credit risk, either positively or negatively, in that our customers may be similarly affected by changes in economic or other conditions. In addition, we and many of our customers operate worldwide and are therefore exposed to risks associated with the economic and political forces of various countries and geographic areas. We generally do not obtain any collateral for our receivables. See Note 24, Segment Reporting, for additional information about our operations in different geographic areas.

Bidding and Proposal Costs

Bidding and Proposal Costs―Bidding and proposal costs are generally charged to Cost of operations as incurred, but in certain cases their recognition may be deferred if specific probability criteria are met. We had no significant deferred bidding and proposal costs at December 31, 2019.

Transaction Costs

Transaction Costs—Transaction costs in 2019 primarily related to legal and other professional fees associated with the sale processes for the pipe fabrication business and the Lummus technology business and the now-terminated effort to sell our industrial storage tanks business, as well as professional and other fees associated with the Chapter 11 Cases.

Restructuring and Integration Costs

Restructuring and Integration Costs—Restructuring and integration costs primarily relate to the costs to achieve our combination profitability initiative (“CPI”). See Note 12, Restructuring and Integration Costs, for further discussion.

Stock-Based Compensation

Stock-Based Compensation—Equity instruments are measured at fair value on the grant date. Stock-based compensation expense is generally recognized on a straight-line basis over the requisite service periods of the awards. We use a Black-Scholes model to determine the fair value of certain share-based awards, such as stock options. Additionally, we use a Monte Carlo model to determine the fair value of certain share-based awards that contain market and performance-based conditions. The use of these models requires highly subjective assumptions, such as assumptions about the expected life of the award, vesting probability, expected dividend yield and the volatility of our stock price. See Note 19, Equity-based Compensation, for additional information.

Cash, Cash Equivalents and Restricted Cash

Cash, Cash Equivalents and Restricted Cash—Our cash and cash equivalents are highly liquid investments with maturities of three months or less when we purchase them. We record cash and cash equivalents as restricted when we are unable to freely use such cash and cash equivalents for our general operating purposes. A majority of our restricted cash and cash equivalents serves as cash collateral deposits for our letter of credit facilities, as further discussed in Note 13, Debt.

Leases

Leases—We classify an arrangement as a lease at inception if we have the right to control the use of an identified asset we do not legally own for a period of time in exchange for consideration. In general, leases with an initial term of 12 months or less are not recorded on our Balance Sheet unless it is reasonably certain we will renew the lease. All leases with an initial term of more than 12 months, whether classified as operating or finance, are recorded on our Balance Sheets based on the present value of lease payments over the lease term, determined at lease commencement. Determination of the present value of lease payments requires a discount rate. We use the implicit rate in the lease agreement when available. Most of our leases do not provide an implicit interest rate; therefore, we use an incremental borrowing rate based on information available at the commencement date.

Our lease terms may include options to extend or terminate the lease. Lease expense for operating leases and the amortization of the right-of-use asset for finance leases are recognized on a straight-line basis over the lease terms, in each case taking into account such option when it is reasonably certain we will exercise that option.

We have lease agreements with lease and non-lease components, which are generally accounted for separately for all leases other than leases at our construction project sites. Non-lease components included in assets and obligations under operating leases are not material to our consolidated financial statements.

For our joint ventures, consortiums and other collaborative arrangements (referred to as “joint ventures” and “consortiums”), the right-of-use asset and lease obligations are generally recognized by the party that enters into the lease agreement, which could be the joint venture directly, one of our joint venture members or us. We have recognized our proportionate share of leases entered into by our joint ventures, where the joint venture has the right to control the use of an identified asset.

Property, Plant and Equipment

Property, Plant and Equipment—We carry our property, plant and equipment at depreciated cost. Except for major marine vessels, we depreciate our property, plant and equipment using the straight-line method, over the estimated economic useful lives of three to 46 years for buildings and three to 28 years for machinery and equipment. We do not depreciate property, plant and equipment classified as held for sale. See Note 11, Supplemental Balance Sheet Detail, for disclosure of the components of property, plant and equipment.

We depreciate major marine vessels using the units-of-production method based on the utilization of each vessel. Our units-of-production method of depreciation involves the calculation of depreciation expense on each vessel based on the product of actual utilization for the vessel for the period and the applicable daily depreciation value (which is based on vessel book value, standard utilization and vessel life) for the vessel. Our actual utilization is determined based on the actual days that the vessel was working or otherwise actively engaged (other than in transit between regions) under a contract, as determined by daily vessel operating reports prepared by the crew of the vessel. Our standard utilization is determined by vessel at least annually based on recent actual utilization combined with an expectation of future utilization, both of which allow for idle time. In periods of very low utilization, a minimum amount of depreciation expense of at least 25% of an equivalent straight-line depreciation expense (which is based on an initial 25-year life) is recorded.

We capitalize drydocking costs in other current assets and other assets when incurred and amortize the costs over the period of time between two drydock periods, which is generally five years. We expense the costs of other maintenance, repairs and renewals, which do not materially prolong useful life of an asset, as we incur them.

Goodwill

Goodwill—Goodwill represents the excess of the purchase price over the fair value of net assets acquired in connection with the Combination. Goodwill is not amortized, but instead is reviewed for impairment at least annually at a reporting unit level, absent any interim indicators of impairment. Interim testing for impairment is performed if indicators of potential impairment exist. We perform our annual impairment assessment on October 1 of each year. We identify a potential impairment by comparing the fair value of the applicable reporting unit to its net book value, including goodwill. If the net book value exceeds the fair value of the reporting unit, we measure the impairment by comparing the carrying value of the reporting unit to its fair value.

To determine the fair value of our reporting units and test for impairment, we utilize an income approach (discounted cash flow method) as we believe this is the most direct approach to incorporate the specific economic attributes and risk profiles of our reporting units into our valuation model. We generally do not utilize a market approach, given the lack of relevant information generated by market transactions involving comparable businesses. However, to the extent market indicators of fair value become available, we consider such market indicators in our discounted cash flow analysis and determination of fair value. See Note 3, Business Combination, and Note 9, Goodwill and Other Intangible Assets, for further discussion.

Intangible and Other Long-Lived Assets

Intangible and Other Long-Lived Assets—Our finite-lived intangible assets resulted from the Combination and are amortized over their estimated remaining useful economic lives. Our project-related intangible assets are amortized as the applicable projects progress, customer relationships are amortized utilizing an accelerated method based on the pattern of cash flows expected to be realized, taking into consideration expected revenues and customer attrition, and our other intangibles are amortized utilizing a straight-line method.

We review tangible assets and finite-lived intangible assets for impairment whenever events or changes in circumstances indicate the carrying value of the asset may not be recoverable. If a recoverability assessment is required, the estimated future undiscounted cash flow associated with the asset or asset group will be compared to its respective carrying amount to determine if an impairment exists. If the asset or asset group fails the recoverability test, we will perform a fair value measurement to determine and record an impairment charge. See Note 3, Business Combination, Note 9, Goodwill and Other Intangible Assets, and Note 16, Fair Value Measurements, for additional information.

Foreign Currency

Foreign Currency—The nature of our business activities involves the management of various financial and market risks, including those related to changes in foreign currency exchange rates. The effects of translating financial statements of foreign operations into our reporting currency are recognized as a cumulative translation adjustment in accumulated other comprehensive income (loss) (“AOCI”), which is net of tax, where applicable.

Derivative Financial Instruments

Derivative Financial Instruments—We utilize derivative financial instruments in certain circumstances to mitigate the effects of changes in foreign currency exchange rates and interest rates, as described below.

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Foreign Currency Rate Derivatives— We do not engage in currency speculation. However, we utilize foreign currency exchange rate derivatives on an ongoing basis to hedge against certain foreign currency related operating exposures. We generally apply hedge accounting treatment for contracts used to hedge operating exposures and designate them as cash flow hedges. Therefore, gains and losses are included in AOCI until the associated underlying operating exposure impacts our earnings, at which time the impact of the hedge is recorded within the Statement of Operations line item associated with the underlying exposure. Changes in the fair value of instruments that we do not designate as cash flow hedges are recognized in the Statement of Operations line item associated with the underlying exposure.

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Interest Rate Derivatives— On May 8, 2018, we entered into a U.S. dollar interest rate swap arrangement to mitigate exposure associated with cash flow variability on the Term Facility in an aggregate notional value of $1.94 billion. The swap arrangement had been designated as a cash flow hedge. As of December 31, 2019, in light of the circumstances described in “—Basis of Presentation,” we believe that our hedged forecasted transaction is not probable to occur and as such, our hedge accounting has ceased and our previously recognized unrealized losses in AOCI of approximately $67 million have been reclassified into the interest expense in our Statement of Operations for the year ended December 31, 2019.

See Note 16, Fair Value Measurements, and Note 17, Derivative Financial Instruments, for further discussion.

Joint Venture and Consortium Arrangements

Joint Venture and Consortium Arrangements—In the ordinary course of business, we execute specific projects and conduct certain operations through joint venture, consortium and other collaborative arrangements (referred to as “joint ventures” and “consortiums”). We have various ownership interests in these joint ventures and consortiums, with such ownership typically proportionate to our decision making and distribution rights. The joint ventures and consortiums generally contract directly with their third-party customers; however, services may be performed directly by the joint ventures and consortium, us, our co-venturers, or a combination thereof.

Joint ventures and consortium net assets consist primarily of working capital and property and equipment, and assets may be restricted from use for obligations outside of the joint venture or consortiums. These joint ventures and consortiums typically have limited third-party debt or have debt that is non-recourse in nature. They may provide for capital calls to fund operations or require participants in the joint venture or consortiums to provide additional financial support, including advance payment or retention letters of credit.

Each joint venture or consortium is assessed at inception and on an ongoing basis as to whether it qualifies as a Variable Interest Entity (“VIE”) under the consolidations guidance in ASC Topic 810, Consolidations. A venture generally qualifies as a VIE when it (1) meets the definition of a legal entity, (2) absorbs the operational risk of the projects being executed, creating a variable interest, (3) lacks sufficient capital investment from the co-venturers, potentially resulting in the joint venture or consortium requiring additional subordinated financial support to finance its future activities, (4) structured with non-substantive voting rights, and (5) the equity holders, as a group, lack the characteristics of a controlling financial interest.

If at any time a joint venture or consortium qualifies as a VIE, we perform a qualitative assessment to determine whether we are the primary beneficiary of the VIE and therefore need to consolidate the VIE. We are the primary beneficiary if we have (1) the power to direct the economically significant activities of the VIE and (2) the right to receive benefits from and obligation to absorb losses of the VIE. If the joint venture or consortium is a VIE and we are the primary beneficiary, or we otherwise have the ability to control the joint venture or consortium, it is consolidated. If we determine we are not the primary beneficiary of the VIE or only have the ability to significantly influence, rather than control the joint venture or consortium, it is not consolidated.

We account for unconsolidated joint ventures and consortium arrangements using either (1) proportionate consolidation for both the Balance Sheet and Statement of Operations when we meet the applicable accounting criteria to do so, or (2) the equity method. For incorporated unconsolidated joint ventures and consortiums where we utilize the equity method of accounting, we record our share of the profit or loss of the investments, net of income taxes, in the Statements of Operations. Results from unconsolidated joint ventures that are deemed to be integral to our operations are recorded within Income (loss) from investments in unconsolidated affiliates in the Statements of Operations, and results from any other joint ventures are recorded within Non-operating loss from investments in unconsolidated affiliates in the Statements of Operations. We evaluate our equity method investments for impairment when events or changes in circumstances indicate the carrying value of such investments may have experienced an other-than-temporary decline in value. When evidence of loss in value has occurred, we compare the estimated fair value of our investment to the carrying value of our investment to determine whether an impairment has occurred. If the estimated fair value is less than the carrying value and we consider the decline in value to be other-than-temporary, the excess of the carrying value over the estimated fair value is recognized in the Consolidated Financial Statements as an impairment. See Note 10, Joint Venture and Consortium Arrangements, for further discussion.

Insurance and Self-Insurance

Insurance and Self-Insurance—Our wholly owned “captive” insurance subsidiaries provide coverage for our retentions under employer’s liability, general and products liability, automobile liability and workers’ compensation insurance and, from time to time, builder’s risk and marine hull insurance within certain limits. We may also have business reasons in the future to arrange for our insurance subsidiaries to insure other risks which we cannot or do not wish to transfer to outside insurance companies. Premiums charged and reserves related to these insurance programs are based on the facts and circumstances specific to the insurance claims, our past experience with similar claims, loss factors and the performance of the outside insurance market for the type of risk at issue. The actual outcome of insured claims could differ significantly from estimated amounts. We maintain actuarially determined accruals in our Consolidated Balance Sheets to cover self-insurance retentions for the coverages discussed above. These accruals are based on various assumptions developed utilizing historical data to project future losses. Loss estimates in the calculation of these accruals are adjusted as required based upon reported claims, actual claim payments and settlements and claim reserves. These loss estimates and accruals recorded in our Consolidated Financial Statements for claims have historically been reasonably accurate. Claims as a result of our operations, if greater in frequency or severity than actuarially predicted, could adversely impact the ability of our captive insurance subsidiaries to respond to all claims presented.

Pension and Postretirement Benefit Plans

Pension and Postretirement Benefit Plans—We have both defined benefit (funded and unfunded) and defined contribution plans. For the defined benefit plans, a projected benefit obligation is calculated annually by independent actuaries using the unit credit method. We recognize actuarial gains and losses on pension and postretirement benefit plans immediately in our operating results. These gains and losses are generally measured annually, as of December 31, and, accordingly, will normally be recorded during the fourth quarter, unless an earlier remeasurement is required. Should actual experience differ from actuarial assumptions, the projected pension benefit obligation and net pension cost and accumulated postretirement benefit obligation and postretirement benefit cost would be affected in future years. Pension costs primarily represent the increase in the actuarial present value of the obligation for pension benefits based on employee service during the year and the interest on this obligation in respect of employee service in previous years, offset by expected return on plan assets.

We estimate income or expense related to our pension and postretirement benefit plans based on actuarial assumptions, including assumptions regarding discount rates and expected returns on plan assets, adjusted for current period actuarial gains and losses. We determine our discount rate based on a review of published financial data and discussions with our third-party actuary regarding rates of return on high-quality, fixed-income investments currently available and expected to be available during the period to maturity of our pension obligations. Based on historical data and discussions with our investment consultant, we determine our expected return on plan assets, utilizing the expected long-term rate of return on our plan assets and the market value of our plan assets. The expected long-term rate of return is based on the expected return of the various asset classes held in the plan, weighted by the target allocation of the plan’s assets. Changes in these assumptions can result in significant changes in our estimated pension income or expense and our consolidated financial condition. We revise our assumptions annually based on changes in current interest rates, return on plan assets and the underlying demographics of our workforce. These assumptions are reasonably likely to change in future periods and may have a material impact on our future earnings. See Note 15, Pension and Postretirement Benefits, for further discussion.

For defined contribution plans, we make employer contributions pursuant to the terms of those plans. The employer contributions are recognized as employee benefit expense when due.

Loss Contingencies

Loss Contingencies—We record liabilities for loss contingencies when it is probable that a liability has been incurred and the amount of loss is reasonably estimable. We provide disclosure when there is a reasonable possibility that the ultimate loss will exceed by a material amount the recorded provision or if the loss is not reasonably estimable but is expected to be material to our financial results. We are currently involved in litigation and other proceedings, as discussed in Note 23, Commitments and Contingencies. We have accrued our estimates of the probable losses associated with these matters, and associated legal costs are generally recognized as incurred. However, our losses are typically resolved over long periods of time and are often difficult to estimate due to various factors, including the possibility of multiple actions by third parties. Therefore, it is possible future earnings could be affected by changes in our estimates related to these matters.

Income Taxes

Income Taxes—Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases using currently enacted income tax rates for the years in which the differences are expected to reverse. We provide for income taxes based on the tax laws and rates in the countries in which we conduct our operations. McDermott International, Inc. is a Panamanian corporation that earns all of its income outside of Panama. As a result, we are not subject to income tax in Panama. During 2018, following the Combination, McDermott became a U.K. tax resident. We operate in numerous taxing jurisdictions around the world. Each of these jurisdictions has a regime of taxation that varies, not only with respect to statutory rates, but also with respect to the basis on which these rates are applied. These variations, along with changes in our mix of income or loss from these jurisdictions, may contribute to shifts, sometimes significant, in our effective tax rate.

On a periodic and ongoing basis, we evaluate our net DTAs (including our NOL DTAs) and assess the appropriateness of our VAs. A VA is provided to offset any net DTAs if, based on the available evidence, it is more likely than not that some or all of the DTAs will not be realized. The realization of our net DTAs depends on our ability to generate sufficient future taxable income of the appropriate character and in the appropriate jurisdictions. In assessing the need for a VA, we consider both positive and negative evidence related to the likelihood of realization of the DTAs. If, based on the weight of available evidence, our assessment indicates it is more likely than not a DTA will not be realized, we record a VA. Our assessments include, among other things, the amount of taxable temporary differences which will result in future taxable income, evaluations of existing and anticipated market conditions, analysis of recent and historical operating results (including cumulative losses over multiple periods) and projections of future results, strategic plans and alternatives for associated operations, as well as asset expiration dates, where applicable.

Income tax and associated interest and penalty reserves, where applicable, are recorded in those instances where we consider it more likely than not that additional tax will be due in excess of amounts reflected in income tax returns filed worldwide, irrespective of whether we have received tax assessments. We continually review our exposure to additional income tax obligations and, as further information becomes known or events occur, changes in our tax, interest and penalty reserves may be recorded within income tax expense. See Note 18, Income Taxes, for further discussion.

Preferred Stock

Preferred Stock—We issued Redeemable Preferred Stock and Series A Warrants in a private placement in 2018 (See Note 21, Redeemable Preferred Stock, for further discussion). Total net consideration, after deduction for direct issuance costs, was allocated to the Redeemable Preferred Stock and the Series A Warrants based on their relative fair value. We may redeem the Redeemable Preferred Stock at any time, and the Redeemable Preferred Stock is contingently redeemable at the option of the holders after seven years or upon a change of control. As a result of the holders’ contingent redemption rights that are outside of our control, our Redeemable Preferred Stock is classified outside of stockholders’ equity in the mezzanine section of our Balance Sheet.

As the holders’ redemption option is only subject to passage of time, the carrying value of the Redeemable Preferred Stock is accreted to its redemption value using the effective interest method from the date of issuance through the earliest assumed date of redemption. Accretion and accrued dividends are treated as a reduction to the calculation of net income attributable to common shareholders. We record a liability for dividends in the period they are declared.

In conjunction with the private placement, we also issued Series A Warrants to purchase a number of shares of our common stock. Our Series A Warrants are considered standalone financial instruments and are recorded within stockholder’s equity. Equity classified Series A Warrants are recognized based on the allocated consideration on the date of issuance, recorded in Capital in excess of par value and not re-measured.

Recently Adopted Accounting Guidance

Leases—In February 2016, the Financial Accounting Standards Board (the “FASB”) issued Accounting Standards Update (“ASU”) 2016-02, Leases (Topic 842). This ASU requires 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. We adopted this ASU effective January 1, 2019 using the modified retrospective application, applying the new standard to leases in place as of the adoption date. Prior periods have not been adjusted.

We elected to apply certain practical expedients allowed upon the adoption of this ASU, which, among other things, allowed us to: not reassess whether any expired or existing contracts contain leases; carry forward the historical lease classification; and not have to reassess any initial direct cost of any expired or existing leases. Adoption of the new standard resulted in the recording of Operating lease right-of-use assets, Current portion of long-term lease obligations and Long-term lease obligations of approximately $424 million, $101 million and $342 million, respectively, as of January 1, 2019. The adoption of this ASU did not have a material impact on our Statement of Operations, Consolidated Statement of Cash Flows (“Statement of Cash Flows”) or the determination of compliance with financial covenants under our current debt agreements. See Note 14, Lease Obligations, for further discussion.

Income Taxes—In January 2018, the FASB issued ASU 2018-02, Reporting Comprehensive Income (Topic 220). This ASU gives entities the option to reclassify to retained earnings the tax effects resulting from the U.S. Tax Cuts and Jobs Act related to items in AOCI that the FASB refers to as having been stranded in AOCI. We adopted this ASU effective January 1, 2019. The adoption of this ASU did not have a material impact on the Consolidated Financial Statements and related disclosures.

Derivatives—In August 2017, the FASB issued ASU No. 2017-12, Derivatives and Hedging (Topic 815). This ASU includes financial reporting improvements related to hedging relationships to better report the economic results of an entity’s risk management activities in its financial statements. Additionally, this ASU makes certain improvements to simplify the application of the hedge accounting guidance. We adopted this ASU effective January 1, 2019. The adoption of this ASU did not have a material impact on the Consolidated Financial Statements. See Note 17, Derivative Financial Instruments, for related disclosures.

In October 2018, the FASB issued ASU No. 2018-16, Derivatives and Hedging: Inclusion of the Secured Overnight Financing Rate (SOFR) Overnight Index Swap (OIS) Rate as a Benchmark Interest Rate for Hedge Accounting Purposes, which expands the list of benchmark interest rates permitted in the application of hedge accounting. This ASU permits the use of an OIS rate based on the SOFR as a U.S. benchmark interest rate for hedge accounting purposes. We adopted this ASU effective January 1, 2019. The adoption of this ASU did not have a material impact on the Consolidated Financial Statements and related disclosures. See Note 17, Derivative Financial Instruments.

Accounting Guidance Issued But Not Adopted

Accounting Guidance Issued but Not Adopted as of December 31, 2019

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 adopting the new standard effective January 1, 2020.

We are currently finalizing our methodology, process and controls associated with estimating expected credit losses as prescribed in ASU 2016-13. Based on our developed method, which considers historical credit losses and the probability of default for relevant counterparties, the overall impact of the adoption of ASC 326 is not expected to have a material impact on our future consolidated financial statements and related disclosures.

Defined Benefit Pension Plans—In August 2018, the FASB issued ASU No. 2018-14, Compensation—Retirement Benefits—Defined Benefit Plans—General (Subtopic 715-20). This ASU eliminates, modifies and adds disclosure requirements for employers that sponsor defined benefit pension or other postretirement plans. This ASU is effective for fiscal years ending after December 15, 2020, with early adoption permitted. We are evaluating the impact of the new guidance on our future disclosures.

Consolidation—In October 2018, the FASB issued ASU No. 2018-17, Consolidation: Targeted Improvements to Related Party Guidance for Variable Interest Entities (“VIE”). This ASU amends the guidance for determining whether a decision-making fee is a variable interest, which requires companies to consider indirect interests held through related parties under common control on a proportional basis rather than as the equivalent of a direct interest in its entirety. The ASU is effective for annual and interim periods beginning after December 15, 2019. We are adopting the new standard effective January 1, 2020. The adoption of this ASU is not expected to have a material impact on our future consolidated financial statements and related disclosures.

Collaborative Arrangements—In November 2018, the FASB issued ASU No. 2018-18, Collaborative Arrangements: Clarifying the Interaction between Topic 808 and Topic 606. This ASU clarifies that certain transactions between collaborative arrangement participants should be accounted for as revenue under Topic 606 when the collaborative arrangement participant is a customer in the context of a unit of account. In addition, unit-of-account guidance in Topic 808 was aligned with the guidance in Topic 606 (that is, a distinct good or service) when assessing whether the collaborative arrangement or a part of the arrangement is within the scope of Topic 606. This ASU is effective for interim and annual periods beginning after December 15, 2019. We are adopting the new standard effective January 1, 2020. The adoption of this ASU is not expected to have a material impact on our future consolidated financial statements and related disclosures.