Item 1. Business.
Loews Corporation was incorporated in 1969 and is a holding company. Our subsidiaries are engaged in the following lines of
business:
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commercial property and casualty insurance (CNA Financial Corporation, a 90% owned subsidiary);
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operation of offshore oil and gas drilling rigs (Diamond Offshore Drilling, Inc., a 53% owned subsidiary);
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transportation and storage of natural gas and natural gas liquids (Boardwalk Pipeline Partners, LP, a 51%
owned subsidiary); and
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operation of a chain of hotels (Loews Hotels Holding Corporation, a wholly owned subsidiary).
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Unless the context otherwise requires, references in this Report to Loews Corporation,
the Company, Parent Company, we, our, us or like terms refer to the business of Loews Corporation excluding its subsidiaries.
We have five reportable segments comprised of our four individual operating subsidiaries listed above and our Corporate
segment. Each of our operating subsidiaries is headed by a chief executive officer who is responsible for the operation of its business and has the duties and authority commensurate with that position. Additional financial information on each of our
segments is included under the heading corresponding to that segment under Item 7, Managements Discussion and Analysis of Financial Condition and Results of Operations (MD&A).
CNA FINANCIAL CORPORATION
CNA Financial Corporation (together with its subsidiaries, CNA) is an insurance holding company. CNAs
property and casualty and remaining life and group insurance operations are primarily conducted by Continental Casualty Company (CCC), The Continental Insurance Company, Western Surety Company, CNA Insurance Company Limited and Hardy
Underwriting Bermuda Limited and its subsidiaries (Hardy). CNA accounted for 71.6%, 67.8% and 67.7% of our consolidated total revenue for the years ended December 31, 2016, 2015 and 2014.
CNAs insurance products primarily include commercial property and casualty coverages, including surety. CNAs
services include risk management, information services, warranty and claims administration. CNAs products and services are primarily marketed through independent agents, brokers and managing general underwriters to a wide variety of customers,
including small, medium and large businesses, insurance companies, associations, professionals and other groups.
Property and Casualty Operations
CNAs core business, commercial property and casualty insurance operations, includes its Specialty, Commercial
and International lines of business.
Specialty
Specialty provides management and professional liability and other coverages through property and casualty products and
services using a network of brokers, independent agencies and managing general underwriters. Specialty includes the following business groups:
Management
& Professional Liability
: Management & Professional Liability provides management and
professional liability insurance and risk management services and other specialized property and casualty coverages. This group provides professional liability coverages to various professional firms, including architects, real estate agents,
accounting firms, law firms and other professional firms. Management & Professional Liability also provides directors and officers (D&O), employment practices, fiduciary and fidelity coverages. Specific areas of focus include
small and
mid-size
firms, public as well as privately held firms and
not-for-profit
organizations, where
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tailored products for these client segments are offered. Products within Management & Professional Liability are distributed through brokers, independent agents and managing general
underwriters. Management & Professional Liability, through CNA HealthCare, also offers insurance products to serve the health care industry. Products include professional and general liability as well as associated standard property and casualty
coverages, and are distributed on a national basis through brokers, independent agents and managing general underwriters. Key customer groups include aging services, allied medical facilities, life sciences, dentists, physicians, hospitals and
nurses and other medical practitioners.
Surety
: Surety offers small, medium and large contract and commercial
surety and fidelity bonds. Surety provides surety and fidelity bonds in all 50 states through a network of independent agencies and brokers.
Warranty and Alternative Risks
: Warranty and Alternative Risks provides extended service contracts and related products
that provide protection from the financial burden associated with mechanical breakdown and other related losses, primarily for vehicles and portable electronic communication devices.
Commercial
Commercial
works with a network of brokers and independent agents to market a broad range of property and casualty insurance products and services to small, middle-market and large businesses. Property products include standard and excess property, marine and
boiler and machinery coverages. Casualty products include standard casualty insurance products such as workers compensation, general and product liability, commercial auto and umbrella coverages. Most insurance programs are provided on a
guaranteed cost basis; however, CNA also offers specialized loss-sensitive insurance programs and total risk management services relating to claim and information services to the large commercial insurance marketplace through a wholly owned
subsidiary, CNA ClaimPlus, Inc., a third party administrator. These property and casualty products are offered through CNAs Middle Market, Small Business and Other Commercial insurance groups.
International
International provides property and casualty insurance and specialty coverages through a network of brokers, independent
agencies and managing general underwriters, on a global basis through its operations in Canada, the United Kingdom, Continental Europe, China and Singapore as well as through its presence at Lloyds of London (Lloyds). The
International business is grouped into broad business units which include Energy & Marine, Property, Casualty, Specialty and Healthcare & Technology, and is managed across three territorial platforms from Head Offices in London and Toronto.
CNAs property and casualty field structure consists of 49 underwriting locations across the United States. In
addition, there are five centralized processing operations which handle policy processing, billing and collection activities and also act as call centers to optimize service. The claims structure consists of a national claim center designed to
efficiently handle the high volume of low severity claims, including property damage, liability and workers compensation medical only claims, and 16 principal claim offices handling the more complex claims. CNA also has a presence in Canada,
Europe, China and Singapore consisting of 17 branch operations and access to business placed at Lloyds through Hardy Syndicate 382.
Non-Core
Operations
Non-core
operations
include CNAs long term care business that is in
run-off,
certain corporate expenses, including interest on CNA corporate debt, and certain property and casualty businesses in
run-off,
including CNA Re and asbestos and environmental pollution (A&EP).
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Direct Written Premiums by Geographic Concentration
Set forth below is the distribution of CNAs direct written premiums by geographic concentration.
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Year Ended December 31
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2016
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2015
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2014
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California
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9.5%
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9.1%
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9.1%
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Texas
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8.2
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8.1
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8.1
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Illinois
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7.6
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7.5
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6.7
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New York
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6.9
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7.1
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7.2
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Florida
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5.8
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5.7
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5.7
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Pennsylvania
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3.7
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3.8
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3.7
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New Jersey
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3.1
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3.2
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3.4
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Canada
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1.9
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2.2
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2.6
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All other states, countries or political subdivisions
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53.3
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53.3
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53.5
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100.0%
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100.0%
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100.0%
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Approximately 7.9%, 8.0%, and 8.8% of CNAs direct written premiums were derived from
outside of the United States for the years ended December 31, 2016, 2015 and 2014.
Other
Competition:
The property and casualty insurance industry is highly competitive both as to rate and
service. CNA competes with a large number of stock and mutual insurance companies and other entities for both distributors and customers. Insurers compete on the basis of factors including products, price, services, ratings and financial strength.
Accordingly, CNA must continuously allocate resources to refine and improve its insurance products and services.
There
are approximately 2,700 individual companies that sell property and casualty insurance in the United States. Based on 2015 statutory net written premiums, CNA is the eighth largest commercial insurance writer and the 14
th
largest property and casualty insurance organization in the United States.
Regulation:
The insurance industry is subject to comprehensive and detailed regulation and supervision. Regulatory
oversight by applicable agencies is exercised through review of submitted filings and information, examinations (both financial and market conduct), direct inquiries and interviews. Each domestic and foreign jurisdiction has established supervisory
agencies with broad administrative powers relative to licensing insurers and agents, approving policy forms, establishing reserve requirements, prescribing the form and content of statutory financial reports and regulating capital adequacy and the
type, quality and amount of investments permitted. Such regulatory powers also extend to premium rate regulations, which require that rates not be excessive, inadequate or unfairly discriminatory, governance requirements and risk assessment practice
and disclosure. In addition to regulation of dividends by insurance subsidiaries, intercompany transfers of assets may be subject to prior notice or approval by insurance regulators, depending on the size of such transfers and payments in relation
to the financial position of the insurance subsidiaries making the transfer or payment.
Domestic insurers are also
required by state insurance regulators to provide coverage to certain insureds who would not otherwise be considered eligible by the insurers. Each state dictates the types of insurance and the level of coverage that must be provided to such
involuntary risks. CNAs share of these involuntary risks is mandatory and generally a function of its respective share of the voluntary market by line of insurance in each state.
Further, domestic insurance companies are subject to state guaranty fund and other insurance-related assessments. Guaranty
funds are governed by state insurance guaranty associations which levy assessments to meet the funding needs of insolvent insurer estates. Other insurance-related assessments are generally levied by state agencies to fund various organizations
including disaster relief funds, rating bureaus, insurance departments, and workers compensation second injury funds, or by industry organizations that assist in the statistical analysis and ratemaking process and CNA has the ability to recoup
certain of these assessments from policyholders.
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As CNAs insurance operations are conducted in a multitude of both domestic
and foreign jurisdictions, CNA is subject to a number of regulatory agency requirements applicable to a portion, or all, of its operations. These include, among other things, the State of Illinois Department of Insurance (which is CNAs global
group-wide supervisor), the U.K. Prudential Regulatory Authority and Financial Conduct Authority, the Bermuda Monetary Authority and the Office of Superintendent of Financial Institutions in Canada.
Hardy, a specialized Lloyds underwriter, is also supervised by the Council of Lloyds, which is the franchisor for
all Lloyds operations. The Council of Lloyds has wide discretionary powers to regulate Lloyds underwriting, such as establishing the capital requirements for syndicate participation. In addition, the annual business plans of each
syndicate are subject to the review and approval of the Lloyds Franchise Board, which is responsible for business planning and monitoring for all syndicates.
Capital adequacy and risk management regulations, referred to as Solvency II, apply to CNAs European operations and are
enacted by the European Unions executive body, the European Commission. Additionally, the International Association of Insurance Supervisors (IAIS) continues to consider regulatory proposals addressing group supervision, capital
requirements and enterprise risk management. The U.S. Federal Reserve, the U.S. Federal Insurance Office and the National Association of Insurance Commissioners are working with other global regulators to define such proposals. It is not currently
clear to what extent the IAIS activities will impact CNA as any final proposal would ultimately need to be legislated or regulated by each individual country or state.
Although the U.S. federal government does not currently directly regulate the business of insurance, federal legislative and
regulatory initiatives can impact the insurance industry. These initiatives and legislation include proposals relating to potential federal oversight of certain insurers; terrorism and natural catastrophe exposures; cybersecurity risk management;
federal financial services reforms; and certain tax reforms.
The Terrorism Risk Insurance Program Reauthorization Act of
2015 provides for a federal government backstop for insured terrorism risks through 2020. The mitigating effect of such law is part of the analysis of CNAs overall risk posture for terrorism and, accordingly, its risk positioning may change if
such law were modified. CNA also continues to invest in the security network of its systems on an enterprise-wide basis, especially considering the implications of data and privacy breaches. This requires an investment of a significant amount of
resources by CNA on an ongoing basis. Potential implications of possible cybersecurity legislation on such current investment, if any, are uncertain. The foregoing laws and proposals, either separately or in the aggregate, create a regulatory and
legal environment that may require changes in CNAs business plan or significant investment of resources in order to operate in an effective and compliant manner.
Additionally, various legislative and regulatory efforts to reform the tort liability system have, and will continue to,
impact CNAs industry. Although there has been some tort reform with positive impact to the insurance industry, new causes of action and theories of damages continue to be proposed in court actions and by federal and state legislatures that
continue to expand liability for insurers and their policyholders.
Properties:
CNAs principal
executive offices are based in Chicago, Illinois. CNAs subsidiaries maintain office space in various cities throughout the United States and various countries. CNA leases all of its office space.
DIAMOND OFFSHORE DRILLING, INC.
Diamond Offshore Drilling, Inc. (together with its subsidiaries, Diamond Offshore) is engaged, through its
subsidiaries, in the business of operating drilling rigs for companies engaged in the offshore exploration and production of hydrocarbons. Diamond Offshore accounted for 12.1%, 18.1% and 19.7% of our consolidated total revenue for the years ended
December 31, 2016, 2015 and 2014.
Rigs:
Diamond Offshore provides contract drilling services to the energy
industry around the world with a fleet of 24 offshore drilling rigs. Diamond Offshores current fleet consists of four drillships, 19 semisubmersible rigs and one
jack-up
rig. Of the current fleet, as of
January 30, 2017, ten rigs are cold stacked, consisting of four ultra-deepwater, three deepwater and three
mid-water
semisubmersible rigs. In December of 2016, Diamond Offshore placed the
Ocean
GreatWhite
into service. The
Ocean GreatWhite
is currently on standby in Labuan, Malaysia, pending further instructions from BP.
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A floater rig is a type of mobile offshore drilling unit that floats and does not
rest on the seafloor. This asset class includes self-propelled drillships and semisubmersible rigs. Semisubmersible rigs consist of an upper working and living deck resting on vertical columns connected to lower hull members. Such rigs operate in a
semi-submerged position, remaining afloat, off bottom, in a position in which the lower hull is approximately 55 feet to 90 feet below the water line and the upper deck protrudes well above the surface. Semisubmersibles hold position
while drilling by use of a series of small propulsion units or thrusters that provide dynamic positioning (DP) to keep the rig on location, or with anchors tethered to the seabed. Although DP semisubmersibles are self-propelled, such
rigs may be moved long distances with the assistance of tug boats.
Non-DP,
or moored, semisubmersibles require tug boats or the use of a heavy lift vessel to move between locations.
A drillship is an adaptation of a maritime vessel that is designed and constructed to carry out drilling operations by means
of a substructure with a moon pool centrally located in the hull. Drillships are typically self-propelled and are positioned over a drillsite through the use of a DP system similar to those used on semisubmersible rigs.
Diamond Offshores floater fleet (semisubmersibles and drillships) can be further categorized based on the nominal water
depth for each class of rig as follows:
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Category
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Rated Water Depth (a) (in feet)
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Number of Units in Fleet
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Ultra-Deepwater
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7,501 to 12,000
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12
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Deepwater
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5,000 to 7,500
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Mid-Water
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400 to 4,999
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5
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(a)
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Rated water depth for semisubmersibles and drillships reflects the maximum water depth in which a floating rig
has been designed to operate. However, individual rigs are capable of drilling, or have drilled, in marginally greater water depths depending on various conditions (such as salinity of the ocean, weather and sea conditions).
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Jack-up
rigs are mobile, self-elevating drilling platforms equipped with legs that are
lowered to the ocean floor. Diamond Offshores
jack-up
is used for drilling in water depths from 20 feet to 350 feet. As of January 30, 2017, the
Ocean Scepter
, a cantilevered
jack-up
drilling rig built in 2008, was offshore Mexico where it was waiting to commence a short-term contract for Fieldwood Energy.
Fleet Enhancements and Additions:
Diamond Offshores long term strategy is to upgrade its fleet to
meet customer demand for advanced, efficient and high-tech rigs by acquiring or building new rigs when possible to do so at attractive prices, and otherwise by enhancing the capabilities of its existing rigs at a lower cost and shorter construction
period than newbuild construction would require. Since 2009, commencing with the acquisition of two newbuild, ultra-deepwater semisubmersible rigs, the
Ocean Courage
and
Ocean Valor
, Diamond Offshore has spent over $5.0 billion
towards upgrading its fleet. In 2016, Diamond Offshore took delivery of the
Ocean GreatWhite
, the final rig to be completed during Diamond Offshores most recent fleet enhancement cycle.
Diamond Offshore will evaluate further rig acquisition and enhancement opportunities as they arise. However, Diamond Offshore
can provide no assurance whether, or to what extent, it will continue to make rig acquisitions or enhancements to its fleet.
Pressure Control by the Hour:
During 2016, Diamond Offshore entered into a
ten-year
agreement with a subsidiary of GE Oil & Gas, (GE), to provide services with respect to certain blowout preventer and related well control equipment on Diamond Offshores four
drillships. Such services include management of maintenance, certification and reliability with respect to such equipment. In connection with the services agreement with GE, Diamond Offshore sold the equipment to a GE affiliate and leased back such
equipment under four separate
ten-year
operating leases.
Markets:
The
principal markets for Diamond Offshores contract drilling services are:
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the Gulf of Mexico, including the United States (U.S.) and Mexico;
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South America, principally offshore Brazil and Trinidad and Tobago;
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Australia and Southeast Asia, including Malaysia, Indonesia and Vietnam;
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Europe, principally offshore the United Kingdom (U.K.) and Norway;
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Diamond Offshore actively markets its rigs worldwide.
Drilling Contracts:
Diamond Offshores contracts to provide offshore drilling services vary in their terms
and provisions. Diamond Offshore typically obtains its contracts through a competitive bid process, although it is not unusual for Diamond Offshore to be awarded drilling contracts following direct negotiations. Drilling contracts generally provide
for a basic dayrate regardless of whether or not drilling results in a productive well. Drilling contracts generally also provide for reductions in rates during periods when the rig is being moved or when drilling operations are interrupted or
restricted by equipment breakdowns, adverse weather conditions or other circumstances. Under dayrate contracts, Diamond Offshore generally pays the operating expenses of the rig, including wages and the cost of incidental supplies. Historically,
dayrate contracts have accounted for the majority of Diamond Offshores revenues. In addition, from time to time, Diamond Offshores dayrate contracts may also provide for the ability to earn an incentive bonus from its customer based upon
performance.
The duration of a dayrate drilling contract is generally tied to the time required to drill a single well or
a group of wells, which Diamond Offshore refers to as a
well-to-well
contract, or a fixed period of time, in what Diamond Offshore refers to as a term contract. Many
drilling contracts may be terminated by the customer in the event the drilling rig is destroyed or lost or if drilling operations are suspended for an extended period of time as a result of a breakdown of equipment or, in some cases, due to events
beyond the control of either party to the contract. Certain of Diamond Offshores contracts also permit the customer to terminate the contract early by giving notice; in most circumstances, this requires the payment of an early termination fee
by the customer. The contract term in many instances may also be extended by the customer exercising options for the drilling of additional wells or for an additional length of time, generally at competitive market rates and mutually agreeable terms
at the time of the extension. In periods of decreasing demand for offshore rigs, drilling contractors may prefer longer term contracts to preserve dayrates at existing levels and ensure utilization, while customers may prefer shorter contracts that
allow them to more quickly obtain the benefit of declining dayrates. Moreover, drilling contractors may accept lower dayrates in a declining market in order to obtain longer-term contracts and add backlog.
Customers:
Diamond Offshore provides offshore drilling services to a customer base that includes major and
independent oil and gas companies and government-owned oil companies. During 2016, 2015 and 2014, Diamond Offshore performed services for 18, 19 and 35 different customers. During 2016, 2015 and 2014, one of Diamond Offshores customers in
Brazil, Petróleo Brasileiro S.A. (Petrobras) accounted for 18%, 24% and 32% of Diamond Offshores annual total consolidated revenues. During 2016 and 2015, Anadarko accounted for 22% and 12% of Diamond Offshores annual
consolidated revenues. During 2015, ExxonMobil accounted for 12% of Diamond Offshores annual consolidated revenues. No other customer accounted for 10% or more of Diamond Offshores annual total consolidated revenues during 2016, 2015 or
2014.
As of January 1, 2017, Diamond Offshores contract backlog was $3.6 billion attributable to 11
customers. All four of its drillships are currently contracted to work in the U.S. Gulf of Mexico (GOM). As of January 1, 2017, contract backlog attributable to Diamond Offshores expected operations in the GOM was
$639 million, $653 million, $554 million and $85 million for the years 2017, 2018, 2019 and 2020, all of which was attributable to two customers.
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Competition
:
Despite consolidation in previous years, the
offshore contract drilling industry remains highly competitive with numerous industry participants, none of which at the present time has a dominant market share. The industry may also experience additional consolidation in the future, which could
create other large competitors. Some of Diamond Offshores competitors may have greater financial or other resources than it does. Based on industry data as of the date of this Report, there are approximately 830 mobile drilling rigs in service
worldwide, including approximately 290 floater rigs.
The offshore contract drilling industry is influenced by a number of
factors, including global economies and demand for oil and natural gas, current and anticipated prices of oil and natural gas, expenditures by oil and gas companies for exploration and development of oil and natural gas and the availability of
drilling rigs.
Drilling contracts are traditionally awarded on a competitive bid basis. Price is typically the primary
factor in determining which qualified contractor is awarded a job. Customers may also consider rig availability and location, a drilling contractors operational and safety performance record, and condition and suitability of equipment. Diamond
Offshore believes it competes favorably with respect to these factors.
Diamond Offshore competes on a worldwide basis,
but competition may vary significantly by region at any particular time. Competition for offshore rigs generally takes place on a global basis, as these rigs are highly mobile and may be moved, although at a cost that may be substantial, from one
region to another. It is characteristic of the offshore drilling industry to move rigs from areas of low utilization and dayrates to areas of greater activity and relatively higher dayrates. The current oversupply of offshore drilling rigs also
intensifies price competition.
Governmental Regulation
:
Diamond Offshores operations are subject
to numerous international, foreign, U.S., state and local laws and regulations that relate directly or indirectly to its operations, including regulations controlling the discharge of materials into the environment, requiring removal and
clean-up
under some circumstances, or otherwise relating to the protection of the environment, and may include laws or regulations pertaining to climate change, carbon emissions or energy use.
Operations Outside the United States:
Diamond Offshores operations outside the U.S. accounted for
approximately 66%, 79% and 85% of its total consolidated revenues for the years ended December 31, 2016, 2015 and 2014.
Properties:
Diamond Offshore owns an office building in Houston, Texas, where its corporate headquarters are
located, and offices and other facilities in New Iberia, Louisiana, Aberdeen, Scotland, Macae, Brazil and Ciudad del Carmen, Mexico. Additionally, Diamond Offshore currently leases various office, warehouse and storage facilities in Australia,
Louisiana, Malaysia, Singapore, Trinidad and Tobago and the U.K. to support its offshore drilling operations.
BOARDWALK PIPELINE PARTNERS, LP
Boardwalk Pipeline Partners, LP (together with its subsidiaries, Boardwalk Pipeline) is engaged, through its
subsidiaries, in the business of natural gas and natural gas liquids and hydrocarbons (herein referred to together as NGLs) transportation and storage. Boardwalk Pipeline accounted for 10.0%, 9.3% and 8.6% of our consolidated total
revenue for the years ended December 31, 2016, 2015 and 2014.
We own approximately 51% of Boardwalk Pipeline
comprised of 125,586,133 common units and a 2% general partner interest. A wholly owned subsidiary of ours, Boardwalk Pipelines Holding Corp. (BPHC) is the general partner and also holds all of Boardwalk Pipelines incentive
distribution rights which entitle the general partner to an increasing percentage of the cash that is distributed by Boardwalk Pipeline in excess of $0.4025 per unit per quarter.
Boardwalk Pipeline owns and operates approximately 13,930 miles of interconnected natural gas pipelines directly serving
customers in 13 states and indirectly serving customers throughout the northeastern and southeastern U.S. through numerous interconnections with unaffiliated pipelines. Boardwalk Pipeline also owns and operates more than 435 miles of NGL pipelines
in Louisiana and Texas. In 2016, its pipeline systems transported approximately 2.3 trillion cubic feet (Tcf) of natural gas and approximately 64.8 million barrels (MMBbls) of NGLs. Average daily throughput on Boardwalk
Pipelines natural gas pipeline systems during 2016 was
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approximately 6.3 billion cubic feet (Bcf). Boardwalk Pipelines natural gas storage facilities are comprised of 14 underground storage fields located in four states with
aggregate working gas capacity of approximately 205.0 Bcf and Boardwalk Pipelines NGL storage facilities consist of nine salt dome storage caverns located in Louisiana with an aggregate storage capacity of approximately 24.0 MMBbls. Boardwalk
Pipeline also owns three salt dome caverns and a brine pond for use in providing brine supply services and to support the NGL storage operations.
Boardwalk Pipelines pipeline and storage systems are described below:
The Gulf South pipeline system runs approximately 7,225 miles along the Gulf Coast in the states of Texas, Louisiana,
Mississippi, Alabama and Florida. The pipeline system has a
peak-day
delivery capacity of 8.3 Bcf per day and average daily throughput for the year ended December 31, 2016 was 2.7 Bcf per day. Gulf South
has ten natural gas storage facilities. The two natural gas storage facilities located in Louisiana and Mississippi have approximately 83.5 Bcf of working gas storage capacity and the eight salt dome natural gas storage caverns in Mississippi have
approximately 46.0 Bcf of total storage capacity, of which approximately 29.6 Bcf is working gas capacity. Gulf South also owns undeveloped land which is suitable for up to five additional storage caverns.
The Texas Gas pipeline system runs approximately 6,025 miles and is located in Louisiana, East Texas, Arkansas, Mississippi,
Tennessee, Kentucky, Indiana and Ohio with smaller diameter lines extending into Illinois. The pipeline system has a
peak-day
delivery capacity of 5.2 Bcf per day and average daily throughput for the year
ended December 31, 2016 was 2.4 Bcf per day. Texas Gas owns nine natural gas storage fields with 84.3 Bcf of working gas storage capacity.
The Gulf Crossing pipeline system is located in Texas and runs approximately 375 miles into Louisiana. The pipeline system has
a
peak-day
delivery capacity of 1.9 Bcf per day and average daily throughput for the year ended December 31, 2016 was 1.1 Bcf per day.
Boardwalk Louisiana Midstream and Boardwalk Petrochemical Pipeline (collectively Louisiana Midstream) provide
transportation and storage services for natural gas, NGLs and ethylene, fractionation services for NGLs and brine supply services. These assets provide approximately 71.4 MMBbls of salt dome storage capacity, including approximately 7.6 Bcf of
working natural gas storage capacity, significant brine supply infrastructure, and approximately 270 miles of pipeline assets. Louisiana Midstream owns and operates the Evangeline Pipeline (Evangeline), which is an approximately 180 mile
interstate ethylene pipeline that is capable of transporting approximately 2.6 billion pounds of ethylene per year between Texas and Louisiana, where it interconnects with its ethylene distribution system. Throughput for Louisiana Midstream was
64.8 MMBbls for the year ended December 31, 2016.
Boardwalk Field Services operates natural gas gathering,
compression, treating and processing infrastructure primarily in South Texas with approximately 290 miles of pipeline.
Boardwalk Pipeline is also currently engaged in growth projects described below. Several growth projects were placed into
service in 2016, including the Ohio to Louisiana Access, the Southern Indiana Lateral and the Western Kentucky Market Lateral projects and a power plant project in South Texas. These projects were completed on time at an aggregate cost which was
approximately $30 million lower than the $350 million originally estimated. See Liquidity and Capital Resources Subsidiaries for further discussion of capital expenditures and financing.
Northern Supply Access Project: This project will increase the
peak-day
transmission capacity on Boardwalk Pipelines Texas Gas system by the addition of compression facilities and other system modifications to make this portion of the system
bi-directional
and is supported
by precedent agreements for approximately 0.3 Bcf per day of
peak-day
transmission capacity. The project is expected to be placed into service in the second quarter of 2017, with a weighted-average contract
life of 16 years.
Sulphur Storage and Pipeline Expansion Project: Boardwalk Pipeline executed a long term agreement
to provide liquids transportation and storage services to support the development of a new ethane cracker plant in Louisiana. The project will involve significant storage and infrastructure development to serve petrochemical customers near Boardwalk
Pipelines Sulphur Hub and is expected to be placed into service in the fourth quarter of 2017.
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Coastal Bend Header Project: This project is supported by precedent
agreements with foundation shippers to transport natural gas to serve a planned liquefied natural gas (LNG) liquefaction terminal in Freeport, Texas. As part of the project Boardwalk Pipeline will construct an approximately
65-mile
pipeline supply header with approximately 1.4 Bcf per day of capacity to serve the terminal. Additionally, Boardwalk Pipeline will expand and modify its existing Gulf South pipeline facilities that will
provide access to additional supply sources through various interconnects in South Texas and in the Louisiana area. The project is expected to be placed into service in the first half of 2018, with a weighted-average contract life of 20 years.
Customers:
Boardwalk Pipeline serves a broad mix of customers, including producers of natural gas, and with
end-use
customers including local distribution companies, marketers, electric power generators, industrial users and interstate and intrastate pipelines who, in turn, provide transportation and storage
services for
end-users.
These customers are located throughout the Gulf Coast, Midwest and Northeast regions of the U.S.
Competition:
Boardwalk Pipeline competes with numerous other pipelines that provide transportation, storage
and other services at many locations along its pipeline systems. Boardwalk Pipeline also competes with pipelines that are attached to natural gas supply sources that are closer to some of its traditional natural gas market areas. In addition,
regulators continuing efforts to increase competition in the natural gas industry have increased the natural gas transportation options of Boardwalk Pipelines traditional customers. For example, as a result of regulators policies,
capacity segmentation and capacity release have created an active secondary market which increasingly competes with Boardwalk Pipelines natural gas pipeline services. Further, natural gas competes with other forms of energy available to
Boardwalk Pipelines customers, including electricity, coal, fuel oils and alternative fuel sources.
The principal
elements of competition among pipelines are availability of capacity, rates, terms of service, access to gas supplies, flexibility and reliability of service. In many cases, the elements of competition, in particular flexibility, terms of service
and reliability, are key differentiating factors between competitors. This is especially the case with capacity being sold on a longer term basis. Boardwalk Pipeline is focused on finding opportunities to enhance its competitive profile in these
areas by increasing the flexibility of its pipeline systems, such as modifying them to allow for
bi-directional
flows, to meet the demands of customers, such as power generators and industrial users, and is
continually reviewing its services and terms of service to offer customers enhanced service options.
Seasonality:
Boardwalk Pipelines revenues can be affected by weather, natural gas price levels, gas
price differentials between locations on its pipeline systems (basis spreads), gas price differentials between time periods, such as winter to summer (time period price spreads) and natural gas price volatility. Weather impacts natural gas demand
for heating needs and power generation, which in turn influences the short term value of transportation and storage across Boardwalk Pipelines pipeline systems. Colder than normal winters can result in an increase in the demand for natural gas
for heating needs and warmer than normal summers can impact cooling needs, both of which typically result in increased pipeline transportation revenues and throughput. While traditionally peak demand for natural gas occurs during the winter months
driven by heating needs, the increased use of natural gas for cooling needs during the summer months has partially reduced the seasonality of revenues. In 2016, approximately 53% of Boardwalk Pipelines operating revenues were recognized in the
first and fourth quarters of the year.
Governmental Regulation:
The Federal Energy Regulatory
Commission (FERC) regulates Boardwalk Pipelines natural gas operating subsidiaries under the Natural Gas Act of 1938 and the Natural Gas Policy Act of 1978. The FERC regulates, among other things, the rates and charges for the
transportation and storage of natural gas in interstate commerce and the extension, enlargement or abandonment of facilities under its jurisdiction. Where required, Boardwalk Pipelines natural gas pipeline subsidiaries hold certificates of
public convenience and necessity issued by the FERC covering certain of their facilities, activities and services. The maximum rates that may be charged by Boardwalk Pipelines subsidiaries operating under the FERCs jurisdiction, for all
aspects of the natural gas transportation services they provide, are established through the FERCs
cost-of-service
rate-making process. Key determinants in the
FERCs
cost-of-service
rate-making process are the costs of providing service, the volumes of gas being transported, the rate design, the allocation of costs
between services, the capital structure and the rate of return a pipeline is permitted to earn. The maximum rates that may be charged by Boardwalk Pipeline for storage services on Texas Gas, with the exception of services associated with a portion
of the working gas capacity on that system, are also established through the FERCs
cost-of-service
rate-making process. The FERC has authorized Boardwalk Pipeline
to charge market-based rates for its firm and interruptible storage services for the majority of its natural gas storage facilities. None of Boardwalk Pipelines FERC-regulated entities has an obligation
11
to file a new rate case and Gulf South is prohibited from filing a rate case until May 1, 2023, subject to certain exceptions.
Boardwalk Pipeline is also regulated by the U.S. Department of Transportation (DOT) through the Pipeline and
Hazardous Material Safety Administration (PHMSA) under the Natural Gas Pipeline Safety Act of 1968, as amended (NGPSA) and the Hazardous Liquids Pipeline Safety Act of 1979, as amended (HLPSA). The NGPSA and HLPSA
govern the design, installation, testing, construction, operation, replacement and management of interstate natural gas and NGL pipeline facilities. Boardwalk Pipeline has received authority from PHMSA to operate certain natural gas pipeline assets
under special permits that will allow it to operate those pipeline assets at higher than normal operating pressures of up to 0.80 of the pipes Specified Minimum Yield Strength (SMYS). Operating at higher than normal operating
pressures will allow these pipelines to transport all of the volumes Boardwalk Pipeline has contracted for with its customers. PHMSA retains discretion whether to grant or maintain authority for Boardwalk Pipeline to operate its natural gas pipeline
assets at higher pressures. PHMSA has also developed regulations that require transportation pipeline operators to implement integrity management programs to comprehensively evaluate certain high risk areas, known as high consequence areas
(HCAs) along Boardwalk Pipelines pipelines and take additional measures to protect pipeline segments located in those areas, including highly populated areas. The NGPSA and HLPSA were most recently amended by the Pipeline Safety,
Regulatory Certainty, and Job Creation Act of 2011 (2011 Act) in 2012. The 2011 Act increased the penalties for safety violations, established additional safety requirements for newly constructed pipelines and required studies of safety
issues that could result in the adoption of new regulatory requirements by PHMSA for existing pipelines. More recently, in June of 2016, the NGPSA and HLPSA were amended by the Protecting Our Infrastructure of Pipelines and Enhancing Safety Act of
2016 (2016 Act), extending PHMSAs statutory mandate through 2019 and, among other things, requiring PHMSA to complete certain of its outstanding mandates under the 2011 Act and developing new safety standards for natural gas
storage facilities by June 22, 2018. The 2016 Act also empowers PHMSA to address imminent hazards by imposing emergency restrictions, prohibitions and safety measures on owners and operators of gas or hazardous liquid pipeline facilities
without prior notice or an opportunity for a hearing. PHMSA issued interim regulations in October of 2016 to implement the agencys expanded authority to address unsafe pipeline conditions or practices that pose an imminent hazard to life,
property, or the environment.
The Surface Transportation Board (STB), has authority to regulate the rates
Boardwalk Pipeline charges for service on certain of its ethylene pipelines, while the Louisiana Public Service Commission (LPSC) regulates the rates Boardwalk Pipeline charges for service on its other NGL pipelines. The STB and LPSC
require that Boardwalk Pipelines transportation rates are reasonable and that its practices cannot unreasonably discriminate among its shippers.
Boardwalk Pipelines operations are also subject to extensive federal, state, and local laws and regulations relating to
protection of the environment. Such laws and regulations impose, among other things, restrictions, liabilities and obligations in connection with the generation, handling, use, storage, transportation, treatment and disposal of hazardous substances
and waste and in connection with spills, releases, discharges and emissions of various substances into the environment. Environmental regulations also require that Boardwalk Pipelines facilities, sites and other properties be operated,
maintained, abandoned and reclaimed to the satisfaction of applicable regulatory authorities.
Many states where Boardwalk
Pipeline operates also have, or are developing, similar environmental or occupational health and safety legal requirements governing many of the same types of activities and those requirements can be more stringent than those adopted under federal
laws and regulations. Failure to comply with these federal, state and local laws and regulations may result in the assessment of administrative, civil and criminal penalties, the imposition of corrective or remedial obligations, the occurrence of
delays in the development or expansion of projects and the issuance of orders enjoining performance of some or all of Boardwalk Pipelines operations in the affected areas. Historically, Boardwalk Pipelines environmental compliance costs
have not had a material adverse effect on its business, but there can be no assurance that continued compliance with existing requirements will not materially affect them, or that the current regulatory standards will not become more onerous in the
future, resulting in more significant costs to maintain compliance or increased exposure to significant liabilities.
12
Properties:
Boardwalk Pipeline is headquartered in
approximately 103,000 square feet of leased office space located in Houston, Texas. Boardwalk Pipeline also leases approximately 60,000 square feet of office space in Owensboro, Kentucky. Boardwalk Pipelines operating subsidiaries own their
respective pipeline systems in fee. However, substantial portions of these systems are constructed and maintained on property owned by others pursuant to
rights-of-way,
easements, permits, licenses or consents.
LOEWS HOTELS HOLDING CORPORATION
Loews Hotels Holding Corporation (together with its subsidiaries, Loews Hotels), through its subsidiaries,
operates a chain of 25 primarily upper, upscale hotels. Thirteen of these hotels are owned by Loews Hotels, ten are owned by joint ventures in which Loews Hotels has equity interests and two are managed for unaffiliated owners. Loews Hotels
earnings are derived from the operation of its wholly owned hotels, its share of earnings in joint venture hotels and hotel management fees earned from both joint venture and managed hotels. Loews Hotels accounted for 5.1%, 4.5% and 3.3% of our
consolidated total revenue for the years ended December 31, 2016, 2015 and 2014. The hotels are described below.
|
|
|
|
|
Name and Location
|
|
Number of
Rooms
|
|
|
|
|
|
Owned:
|
|
|
|
|
Loews Annapolis Hotel, Annapolis, Maryland
|
|
|
215
|
|
Loews Chicago Hotel, Chicago, Illinois
|
|
|
400
|
|
Loews Chicago OHare Hotel, Chicago, Illinois
|
|
|
556
|
|
Loews Coronado Bay Resort, San Diego, California (a)
|
|
|
439
|
|
Loews Miami Beach Hotel, Miami Beach, Florida
|
|
|
790
|
|
Loews Minneapolis Hotel, Minneapolis, Minnesota (a)
|
|
|
251
|
|
Loews Philadelphia Hotel, Philadelphia, Pennsylvania
|
|
|
581
|
|
Loews Regency New York Hotel, New York, New York (a)
|
|
|
379
|
|
Loews Regency San Francisco Hotel, San Francisco, California
|
|
|
155
|
|
Hotel 1000, Seattle, Washington
|
|
|
120
|
|
Loews Vanderbilt Hotel, Nashville, Tennessee
|
|
|
340
|
|
Loews Ventana Canyon Resort, Tucson, Arizona
|
|
|
398
|
|
Loews Hotel Vogue, Montreal, Canada
|
|
|
142
|
|
|
|
Joint Venture:
|
|
|
|
|
Hard Rock Hotel, at Universal Orlando, Orlando, Florida
|
|
|
650
|
|
Loews Atlanta Hotel, Atlanta, Georgia
|
|
|
414
|
|
Loews Boston Hotel, Boston, Massachusetts
|
|
|
225
|
|
Loews Don CeSar Hotel, St. Pete Beach, Florida (b)
|
|
|
347
|
|
Loews Hollywood Hotel, Hollywood, California
|
|
|
628
|
|
Loews Madison Hotel, Washington, D.C.
|
|
|
356
|
|
Loews Portofino Bay Hotel, at Universal Orlando, Orlando, Florida
|
|
|
750
|
|
Loews Royal Pacific Resort, at Universal Orlando, Orlando, Florida
|
|
|
1,000
|
|
Loews Sapphire Falls Resort, at Universal Orlando, Orlando, Florida
|
|
|
1,000
|
|
Universals Cabana Bay Beach Resort, Orlando, Florida
|
|
|
1,800
|
|
|
|
Management Contract:
|
|
|
|
|
Loews New Orleans Hotel, New Orleans, Louisiana
|
|
|
285
|
|
Loews Santa Monica Beach Hotel, Santa Monica, California
|
|
|
347
|
|
(a)
|
Subject to a land lease.
|
(b)
|
Expected to be sold in the first quarter of 2017.
|
Competition:
Competition from other hotels and lodging facilities is vigorous in all areas in which Loews
Hotels operates. The demand for hotel rooms is seasonal and dependent on general and local economic conditions. Loews Hotels properties also compete with facilities offering similar services in locations other than those in which its hotels are
located. Competition among luxury hotels is based primarily on quality of location, facilities and service.
13
Competition among resort and commercial hotels is based on price and facilities as well as location and service. Because of the competitive nature of the industry, hotels must continually make
expenditures for updating, refurnishing and repairs and maintenance, in order to prevent competitive obsolescence.
Recent
Developments:
|
●
|
|
In January of 2016, Loews Hotels acquired a hotel in Seattle, Washington, which is now operating as the Hotel
1000;
|
|
●
|
|
In the third quarter of 2016, the Loews Sapphire Falls Resort, a 1,000 guestroom hotel at Universal Orlando,
opened;
|
|
●
|
|
In the first quarter of 2017, the sale of the Loews Don CeSar Hotel in St. Pete Beach, Florida, a property in
which Loews Hotels has a joint venture interest, is expected to be completed;
|
|
●
|
|
In 2017, Universal Orlandos Cabana Bay Beach Resort is expected to complete a 400 guestroom expansion;
and
|
|
●
|
|
In 2018, Universal Orlandos Aventura Hotel, a 600 guestroom hotel, is expected to open. As with Loews
Hotels other properties at Universal Orlando, Loews Hotels has a 50% joint venture interest in this hotel.
|
EMPLOYEE RELATIONS
Including our operating subsidiaries as described below, we employed approximately 15,800 persons at December 31, 2016.
CNA employed approximately 6,700 persons. Diamond Offshore employed approximately 2,800 persons, including international crew personnel furnished through independent labor contractors. Boardwalk Pipeline employed approximately 1,280 persons,
approximately 110 of whom are union members covered under collective bargaining units. Loews Hotels employed approximately 4,775 persons, approximately 1,760 of whom are union members covered under collective bargaining units. We, and our
subsidiaries, have experienced satisfactory labor relations.
14
EXECUTIVE OFFICERS OF THE REGISTRANT
|
|
|
|
|
|
|
Name
|
|
Position and Offices Held
|
|
Age
|
|
First
Became
Officer
|
|
|
|
|
|
Marc A. Alpert
|
|
Senior Vice President, General Counsel and Secretary
|
|
54
|
|
2016
|
David B. Edelson
|
|
Senior Vice President and Chief Financial Officer
|
|
57
|
|
2005
|
Richard W. Scott
|
|
Senior Vice President and Chief Investment Officer
|
|
63
|
|
2009
|
Kenneth I. Siegel
|
|
Senior Vice President
|
|
59
|
|
2009
|
Andrew H. Tisch
|
|
Office of the President,
Co-Chairman
of the Board and
Chairman of the Executive Committee
|
|
67
|
|
1985
|
James S. Tisch
|
|
Office of the President, President and Chief Executive Officer
|
|
64
|
|
1981
|
Jonathan M. Tisch
|
|
Office of the President and
Co-Chairman
of the
Board
|
|
63
|
|
1987
|
Andrew H. Tisch and James S. Tisch are brothers and are cousins of Jonathan M. Tisch. None of
our other executive officers or directors is related to any other.
All of our executive officers, except for Marc A.
Alpert and David B. Edelson, have served in their current roles at the Company for at least the past five years. Prior to assuming his current role at the Company in July of 2016, Mr. Alpert served as a partner and head of the Public Companies
Practice Group at the law firm of Chadbourne & Parke LLP. Mr. Edelson served as our Senior Vice President prior to May of 2014, when he assumed his current role.
Officers are elected annually and hold office until their successors are elected and qualified, and are subject to removal by
the Board of Directors.
AVAILABLE INFORMATION
Our website address is www.loews.com. We make available, free of charge, through the website our Annual Report on Form
10-K,
Quarterly Reports on Form
10-Q,
Current Reports on Form
8-K
and amendments to those reports filed or furnished pursuant to
Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, as soon as reasonably practicable after these reports are electronically filed with or furnished to the SEC. Copies of our Code of Business Conduct and Ethics, Corporate
Governance Guidelines, Audit Committee charter, Compensation Committee charter and Nominating and Governance Committee charter have also been posted and are available on our website. Information on or accessible through our website is not
incorporated by reference into this Report.
Item 1A. RISK FACTORS.
Our business and the businesses of our subsidiaries face many risks and uncertainties. These risks and uncertainties could
lead to events or circumstances that have a material adverse effect on our business, results of operations, cash flows, financial condition or equity and/or the business, results of operations, financial condition or equity of one or more of our
subsidiaries. We have described below the most significant risks facing us and our subsidiaries. There may be additional risks that we do not yet know of or that we do not currently perceive to be as significant that may also impact our business or
the businesses of our subsidiaries.
You should carefully consider and evaluate all of the information included in this
Report and any subsequent reports we may file with the SEC and the information we make available to the public before investing in any securities issued by us. Our subsidiaries, CNA Financial Corporation, Diamond Offshore Drilling, Inc. and
Boardwalk Pipeline Partners, LP, are public companies and file reports with the SEC. You are also cautioned to carefully review and consider the information contained in the reports filed by those subsidiaries with the SEC and the information they
make available to the public before investing in any of their securities.
15
Risks Related to Us and Our Subsidiary, CNA Financial Corporation
If CNA determines that its recorded insurance reserves are insufficient to cover its estimated ultimate unpaid liability for claim and claim adjustment
expenses, CNA may need to increase its insurance reserves which would result in a charge to CNAs earnings.
CNA maintains insurance reserves to cover its estimated ultimate unpaid liability for claim and claim adjustment expenses,
including the estimated cost of the claims adjudication process, for reported and unreported claims. Insurance reserves are not an exact calculation of liability but instead are complex management estimates developed utilizing a variety of actuarial
reserve estimation techniques as of a given reporting date. The reserve estimation process involves a high degree of judgment and variability and is subject to a number of factors which are highly uncertain. These variables can be affected by both
changes in internal processes and external events. Key variables include claims severity, frequency of claims, mortality, morbidity, discount rates, inflation, claims handling policies and procedures, case reserving approach, underwriting and
pricing policies, changes in the legal and regulatory environment and the lag time between the occurrence of an insured event and the time of its ultimate settlement. Mortality is the relative incidence of death. Morbidity is the frequency and
severity of injury, illness, sickness and diseases contracted.
There is generally a higher degree of variability in
estimating required reserves for long-tail coverages, such as general liability and workers compensation, as they require a relatively longer period of time for claims to be reported and settled. The impact of changes in inflation and medical
costs are also more pronounced for long-tail coverages due to the longer settlement period.
CNA is also subject to the
uncertain effects of emerging or potential claims and coverage issues that arise as industry practices and legal, judicial, social, economic and other environmental conditions change. These issues have had, and may continue to have, a negative
effect on CNAs business by either extending coverage beyond the original underwriting intent or by increasing the number or size of claims, resulting in further increases in CNAs reserves. The effects of unforeseen emerging claim and
coverage issues are extremely difficult to predict.
Emerging or potential claims and coverage issues include, but are not
limited to, uncertainty in future medical costs in workers compensation. In particular, medical cost inflation could be greater than expected due to new treatments, drugs and devices; increased health care utilization; and/or the future costs
of health care facilities. In addition, the relationship between workers compensation and government and private health care providers could change, potentially shifting costs to workers compensation.
In light of the many uncertainties associated with establishing the estimates and making the judgments necessary to establish
reserve levels, CNA continually reviews and changes its reserve estimates in a regular and ongoing process as experience develops from the actual reporting and settlement of claims and as the legal, regulatory and economic environment evolves. If
CNAs recorded reserves are insufficient for any reason, the required increase in reserves would be recorded as a charge against earnings in the period in which reserves are determined to be insufficient. These charges could be substantial.
CNAs actual experience could vary from the key assumptions used to determine active life reserves for long term care policies.
CNAs active life reserves for long term care policies are based on CNAs best estimate assumptions as of
December 31, 2015 due to an unlocking at that date. Key assumptions include morbidity, persistency (the percentage of policies remaining in force), discount rate and future premium rate increases. These assumptions, which are critical bases for
its reserve estimates are inherently uncertain. If actual experience varies from these assumptions or the future outlook for these assumptions changes, CNA may be required to increase its reserves. See the
Non-Core
Long Term Care Policyholder Reserves portion of the Insurance Reserves section of MD&A under Item 7 for more information.
Estimating future experience for long term care policies is highly uncertain because the required projection period is very
long and there is limited historical and industry data available to CNA, as only a small portion of the long term care policies which have been written to date are in claims paying status. Morbidity and persistency trends can
16
be volatile and may be negatively affected by many factors including, but not limited to, policyholder behavior, judicial decisions regarding policy terms, socioeconomic factors, cost of care
inflation, changes in health trends and advances in medical care.
A prolonged period during which interest rates remain
at levels lower than those anticipated in CNAs reserving would result in shortfalls in investment income on assets supporting CNAs obligations under long term care policies, which may require changes to its reserves. This risk is more
significant for CNAs long term care products because the long potential duration of the policy obligations exceeds the duration of the supporting investment assets. Further, changes to the corporate tax code may also impact the rate at which
CNA discounts its reserves. In addition, CNA may not receive regulatory approval for the level of premium rate increases it requests. Any adverse deviation between the level of future premium rate increases approved and the level included in
CNAs reserving assumptions may require an increase to its reserves.
If CNAs estimated reserves are
insufficient for any reason, including changes in assumptions, the required increase in reserves would be recorded as a charge against earnings in the period in which reserves are determined to be insufficient. These charges could be substantial.
Catastrophe losses are unpredictable and could result in material losses.
Catastrophe losses are an inevitable part of CNAs business. Various events can cause catastrophe losses. These events
can be natural or
man-made,
and may include hurricanes, windstorms, earthquakes, hail, severe winter weather, fires, floods, riots, strikes, civil commotion and acts of terrorism. The frequency and severity of
these catastrophe events are inherently unpredictable. In addition, longer-term natural catastrophe trends may be changing and new types of catastrophe losses may be developing due to climate change, a phenomenon that has been associated with
extreme weather events linked to rising temperatures, and includes effects on global weather patterns, greenhouse gases, sea, land and air temperatures, sea levels, rain, hail and snow.
The extent of CNAs losses from catastrophes is a function of the total amount of its insured exposures in the affected
areas, the frequency and severity of the events themselves, the level of reinsurance assumed and ceded, reinsurance reinstatement premiums and state residual market assessments, if any. It can take a long time for the ultimate cost of any
catastrophe losses to CNA to be finally determined, as a multitude of factors contribute to such costs, including evaluation of general liability and pollution exposures, infrastructure disruption, business interruption and reinsurance
collectibility. Reinsurance coverage for terrorism events is provided only in limited circumstances, especially in regard to unconventional terrorism acts, such as nuclear, biological, chemical or radiological attacks. As a result of the
items discussed above, catastrophe losses are particularly difficult to estimate.
Additionally, claim frequency and
severity for some lines of business can be correlated to an external factor such as economic activity, financial market volatility, increasing health care costs or changes in the legal or regulatory environment. Claim frequency and severity can also
be correlated to insureds use of common business practices, equipment, vendors or software. This can result in multiple insured losses emanating out of the same underlying cause. In these instances, CNA may be subject to increased claim
frequency and severity across multiple policies or lines of business concurrently. While CNA does not define such instances as catastrophes for financial reporting purposes, they are similar to catastrophes in terms of the uncertainty and potential
impact on its results.
CNA has exposure related to A&EP claims, which could result in material losses.
CNAs property and casualty insurance subsidiaries have exposures related to A&EP claims. CNAs experience has
been that establishing claim and claim adjustment expense reserves for casualty coverages relating to A&EP claims is subject to uncertainties that are greater than those presented by other claims. Additionally, traditional actuarial methods and
techniques employed to estimate the ultimate cost of claims for more traditional property and casualty exposures are less precise in estimating claim and claim adjustment expense reserves for A&EP. As a result, estimating the ultimate cost of
both reported and unreported A&EP claims is subject to a higher degree of variability.
17
On August 31, 2010, CNA completed a retroactive reinsurance transaction
under which substantially all of its legacy A&EP liabilities were ceded to National Indemnity Company (NICO), a subsidiary of Berkshire Hathaway Inc., subject to an aggregate limit of $4.0 billion (loss portfolio
transfer or LPT). The cumulative amount ceded under the loss portfolio transfer as of December 31, 2016 is $2.8 billion. If the other parties to the loss portfolio transfer do not fully perform their obligations, net
losses incurred on A&EP claims covered by the loss portfolio transfer exceed the aggregate limit of $4.0 billion or CNA determines it has exposures to A&EP claims not covered by the loss portfolio transfer, CNA may need to increase its
recorded net reserves which would result in a charge against earnings. These charges could be substantial.
CNA uses analytical models to assist its
decision making in key areas such as pricing, reserving and capital modeling and may be adversely affected if actual results differ materially from the model outputs and related analyses.
CNA uses various modeling techniques and data analytics (e.g., scenarios, predictive, stochastic and/or forecasting) to
analyze and estimate exposures, loss trends and other risks associated with its assets and liabilities. This includes both proprietary and third party modeled outputs and related analyses to assist in decision-making related to underwriting,
pricing, capital allocation, reserving, investing, reinsurance and catastrophe risk, among other things. CNA incorporates therein numerous assumptions and forecasts about the future level and variability of policyholder behavior, loss frequency and
severity, interest rates, equity markets, inflation, capital requirements, and currency exchange rates, among others. The modeled outputs and related analyses from both proprietary and third parties are subject to the inherent limitations of any
statistical analysis, including those arising from the use of historical internal and industry data and assumptions.
In
addition, the effectiveness of any model can be degraded by operational risks including, but not limited to, the improper use of the model, including input errors, data errors and human error. As a result, actual results may differ materially from
CNAs modeled results. The profitability and financial condition of CNA substantially depends on the extent to which its actual experience is consistent with the assumptions CNA uses in its models and the ultimate model outputs. If, based upon
these models or other factors, CNA misprices its products or fails to appropriately estimate the risks it is exposed to, its business, financial condition, results of operations or liquidity may be adversely affected.
CNA faces intense competition in its industry.
All aspects of the insurance industry are highly competitive and CNA must continuously allocate resources to refine and
improve its insurance products and services to remain competitive. CNA competes with a large number of stock and mutual insurance companies and other entities, some of which may be larger or have greater financial or other resources than CNA does,
for both distributors and customers. This includes agents and brokers who may increasingly compete with CNA to the extent that they continue to have direct access to providers of capital seeking exposure to insurance risk. Insurers compete on the
basis of many factors, including products, price, services, ratings and financial strength. The competitor insurer landscape has evolved substantially in recent years, with significant consolidation and new market entrants, resulting in increased
pressures on CNAs ability to remain competitive, particularly in implementing pricing that is both attractive to CNAs customer base and risk appropriate to CNA.
The property and casualty market is cyclical and has experienced periods characterized by relatively high levels of price
competition, resulting in less restrictive underwriting standards and relatively low premium rates, followed by periods of relatively lower levels of competition, more selective underwriting standards and relatively high premium rates. During
periods in which price competition is high, CNA may lose business to competitors offering competitive insurance products at lower prices. As a result, CNAs premium levels and expense ratio could be materially adversely impacted.
CNA markets its insurance products worldwide primarily through independent insurance agents and insurance brokers, who also
promote and distribute the products of CNAs competitors. Any change in CNAs relationships with its distribution network agents and brokers, including as a result of consolidation and their increased promotion and distribution of
CNAs competitors products, could adversely affect CNAs ability to sell its products. As a result, CNAs business volume and results of operations could be materially adversely impacted.
18
CNA purchases reinsurance to help manage its exposure to risk. Under CNAs
ceded reinsurance arrangements, another insurer assumes a specified portion of CNAs exposure in exchange for a specified portion of policy premiums. Market conditions determine the availability and cost of the reinsurance protection CNA
purchases, which affects the level of its business and profitability, as well as the level and types of risk CNA retains. If CNA is unable to obtain sufficient reinsurance at a cost it deems acceptable, CNA may be unwilling to bear the increased
risk and would reduce the level of its underwriting commitments.
CNA may be adversely affected by technological changes or
disruptions in the insurance marketplace.
Technological changes in the way insurance transactions are completed
in the marketplace, and CNAs ability to react effectively to such change, may present significant competitive risks. For example, more insurers are utilizing big data analytics to make underwriting and other decisions that impact
product design and pricing. If such utilization is more effective than how CNA uses similar data and information, CNA will be at a competitive disadvantage. There can be no assurance that CNA will continue to compete effectively with its industry
peers due to technological changes; accordingly this may have a material adverse effect on CNAs business and results of operations.
In addition, agents and brokers, technology companies or other third parties may create alternate distribution channels for
commercial business that may adversely impact product differentiation and pricing. For example, they may create a digitally enabled distribution channel that may adversely impact CNAs competitive position. CNAs efforts or the efforts of
agents and brokers with respect to new products or alternate distribution channels, as well as changes in the way agents and brokers utilize greater levels of data and technology, could adversely impact CNAs business relationships with
independent agents and brokers who currently market its products, resulting in a lower volume and/or profitability of business generated from these sources.
CNA may not be able to collect amounts owed to it by reinsurers, which could result in higher net incurred losses.
CNA has significant amounts recoverable from reinsurers which are reported as receivables on its balance sheets and are
estimated in a manner consistent with claim and claim adjustment expense reserves or future policy benefits reserves. The ceding of insurance does not, however, discharge CNAs primary liability for claims. As a result, CNA is subject to credit
risk relating to its ability to recover amounts due from reinsurers. Certain of CNAs reinsurance carriers have experienced credit downgrades by rating agencies within the term of CNAs contractual relationship, which indicates an increase
in the likelihood that CNA will not be able to recover amounts due. In addition, reinsurers could dispute amounts which CNA believes are due to it. If the amounts due from reinsurers that CNA is able to collect are less than the amount recorded by
CNA with respect to such amounts due, its incurred losses will be higher.
CNA may not be able to collect amounts owed to it by
policyholders who hold deductible policies and/or who purchase retrospectively rated policies, which could result in higher net incurred losses.
A portion of CNAs business is written under deductible policies. Under these policies, CNA is obligated to pay the
related insurance claims and is reimbursed by the policyholder to the extent of the deductible, which may be significant. Moreover, certain policyholders purchase retrospectively rated workers compensation policies (i.e., policies in which
premiums are adjusted after the policy period based on the actual loss experience of the policyholder during the policy period). Retrospectively rated policies expose CNA to additional credit risk to the extent that the adjusted premium is greater
than the original premium, which may be significant. As a result, CNA is exposed to policyholder credit risk. If the amounts due from policyholders that CNA is able to collect are less than the amounts recorded with respect to such amounts due,
CNAs net incurred losses will be higher.
CNA may incur significant realized and unrealized investment losses and volatility
in net investment income arising from changes in the financial markets.
CNAs investment portfolio is
exposed to various risks, such as interest rate, credit spread, issuer default, equity prices and foreign currency, which are unpredictable. Financial markets are highly sensitive to changes in economic conditions, monetary policies, tax policies,
domestic and international geopolitical issues and many other factors. Changes in financial markets including fluctuations in interest rates, credit, equity prices and foreign currency
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prices, and many other factors beyond CNAs control can adversely affect the value of its investments, the realization of investment income and the rate at which it discounts certain
liabilities.
CNA has significant holdings in fixed maturity investments that are sensitive to changes in interest rates.
A decline in interest rates may reduce the returns earned on new fixed maturity investments, thereby reducing CNAs net investment income, while an increase in interest rates may reduce the value of its existing fixed maturity investments. The
value of CNAs fixed maturity investments is also subject to risk that certain investments may default or become impaired due to deterioration in the financial condition of issuers of the investments CNA holds or in the underlying collateral of
the security. Any such impairments which CNA deems to be other-than-temporary would result in a charge to earnings.
In
addition, CNA invests a portion of its assets in equity securities and limited partnerships which are subject to greater market volatility than its fixed maturity investments. Limited partnership investments generally provide a lower level of
liquidity than fixed maturity or equity investments, which may also limit CNAs ability to withdraw assets.
Further,
CNA holds a portfolio of commercial mortgage loans. CNA is subject to credit risk relating to its ability to recover amounts due from the borrowers as a result of the creditworthiness of the borrowers or tenants of credit tenant loan properties. If
the amounts CNA collects from the borrowers is less than the amount recorded, it would result in a charge to earnings.
As
a result of all of these factors, CNA may not earn an adequate return on its investments, may be required to write down the value of its investments and may incur losses on the disposition of its investments.
Inability to detect and prevent significant employee or third party service provider misconduct or inadvertent errors and omissions
could result in a material adverse effect on CNAs operations.
CNA may incur losses which arise from
employees or third party service providers engaging in intentional misconduct, fraud, errors and omissions, failure to comply with internal guidelines, including with respect to underwriting authority, or failure to comply with regulatory
requirements. CNAs controls may not be able to detect all possible circumstances of employee and third party service provider
non-compliant
activity and the internal structures in place to prevent this
activity may not be effective in all cases. Any losses relating to such
non-compliant
activity could adversely affect CNAs results of operations.
CNA is subject to capital adequacy requirements and, if it is unable to maintain or raise sufficient capital to meet these requirements,
regulatory agencies may restrict or prohibit CNA from operating its business.
Insurance companies such as CNA are
subject to capital adequacy standards set by regulators to help identify companies that merit further regulatory attention. These standards apply specified risk factors to various asset, premium and reserve components of CNAs legal entity
statutory basis of accounting financial statements. Current rules, including those promulgated by insurance regulators and specialized markets such as Lloyds, require companies to maintain statutory capital and surplus at a specified minimum
level determined using the applicable jurisdictions regulatory capital adequacy formula. If CNA does not meet these minimum requirements, CNA may be restricted or prohibited from operating its business in the applicable jurisdictions and
specialized markets. If CNA is required to record a material charge against earnings in connection with a change in estimated insurance reserves, the occurrence of a catastrophic event or if it incurs significant losses related to its investment
portfolio, which severely deteriorates its capital position, CNA may violate these minimum capital adequacy requirements unless it is able to raise sufficient additional capital. CNA may be limited in its ability to raise significant amounts of
capital on favorable terms or at all.
Globally, insurance regulators are working cooperatively to develop a common
framework for the supervision of internationally active insurance groups. Finalization and adoption of this framework could increase CNAs minimum regulatory capital requirement as well as significantly increase its cost of regulatory
compliance.
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CNAs insurance subsidiaries, upon whom CNA depends for dividends in order to fund its
corporate obligations, are limited by insurance regulators in their ability to pay dividends.
CNA is a holding
company and is dependent upon dividends, loans and other sources of cash from its subsidiaries in order to meet its obligations. Ordinary dividend payments or dividends that do not require prior approval by the insurance subsidiaries
domiciliary insurance regulator are generally limited to amounts determined by formulas that vary by jurisdiction. If CNA is restricted from paying or receiving intercompany dividends, by regulatory rule or otherwise, CNA may not be able to fund its
corporate obligations and debt service requirements from available cash. As a result, CNA would need to look to other sources of capital which may be more expensive or may not be available at all.
Rating agencies may downgrade their ratings of CNA and thereby adversely affect its ability to write insurance at competitive rates or
at all.
Ratings are an important factor in establishing the competitive position of insurance companies.
CNAs insurance company subsidiaries, as well as CNAs public debt, are rated by rating agencies, including, A.M. Best Company (A.M. Best), Moodys Investors Service, Inc. (Moodys) and S&P Global
Ratings (S&P). Ratings reflect the rating agencys opinions of an insurance companys or insurance holding companys financial strength, capital adequacy, operating performance, strategic position and ability to meet
its obligations to policyholders and debt holders.
The rating agencies may take action to lower CNAs ratings in the
future as a result of any significant financial loss or possible changes in the methodology or criteria applied by the rating agencies. The severity of the impact on CNAs business is dependent on the level of downgrade and, for certain
products, which rating agency takes the rating action. Among the adverse effects in the event of such downgrades would be the inability to obtain a material volume of business from certain major insurance brokers, the inability to sell a material
volume of CNAs insurance products to certain markets and the required collateralization of certain future payment obligations or reserves.
In addition, it is possible that a significant lowering of our corporate debt ratings by certain of the rating agencies could
result in an adverse impact on CNAs ratings, independent of any change in CNAs circumstances.
CNA is subject to
extensive regulations that restrict its ability to do business and generate revenues.
The insurance industry is
subject to comprehensive and detailed regulation and supervision. Most insurance regulations are designed to protect the interests of CNAs policyholders and third-party claimants rather than its investors. Each jurisdiction in which CNA does
business has established supervisory agencies that regulate the manner in which CNA conducts its business. Any changes in regulation could also impose significant burdens on CNA. In addition, the Lloyds marketplace sets rules under which its
members, including CNAs Hardy syndicate, operate.
These rules and regulations relate to, among other things, the
standards of solvency (including risk-based capital measures), government-supported backstops for certain catastrophic events (including terrorism), investment restrictions, accounting and reporting methodology, establishment of reserves and
potential assessments of funds to settle covered claims against impaired, insolvent or failed private or quasi-governmental insurers.
Regulatory powers also extend to premium rate regulations which require that rates not be excessive, inadequate or unfairly
discriminatory. State jurisdictions ensure compliance with such regulations through market conduct exams, which may result in losses to the extent
non-compliance
is ascertained, either as a result of failure
to document transactions properly or failure to comply with internal guidelines, or otherwise. CNA may also be required by the jurisdictions in which it does business to provide coverage to persons who would not otherwise be considered eligible or
restrict CNA from withdrawing from unprofitable lines of business or unprofitable market areas. Each jurisdiction dictates the types of insurance and the level of coverage that must be provided to such involuntary risks. CNAs share of these
involuntary risks is mandatory and generally a function of its respective share of the voluntary market by line of insurance in each jurisdiction.
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The United Kingdoms expected exit from the European Union is expected to increase the
complexity and cost of regulatory compliance of CNAs European business.
On June 23, 2016, the U.K.
held a referendum in which voters approved an exit from the European Union (E.U.), commonly referred to as Brexit. As a result of the referendum, it is currently expected that the British government will formally commence the
process to leave the E.U. and begin negotiating the terms of treaties that will govern the U.K.s future relationship with the E.U. in the first quarter of 2017. Although the terms of any future treaties are unknown, changes in CNAs
international operating platform may be required to allow CNA to continue to write business in the E.U. after the completion of Brexit. As a result of these changes, the complexity and cost of regulatory compliance of CNAs European business is
likely to increase.
Risks Related to Us and Our Subsidiary, Diamond Offshore Drilling, Inc.
The worldwide demand for Diamond Offshores drilling services has declined significantly as a result of the decline in oil prices,
which commenced during the second half of 2014 and has continued into 2017.
Demand for Diamond Offshores
drilling services depends in large part upon the oil and natural gas industrys offshore exploration and production activity and expenditure levels, which are directly affected by oil and gas prices and market expectations of potential changes
in oil and gas prices. Commencing in the second half of 2014, oil prices have declined precipitously, falling to a
12-year
low of less than $30 per barrel in January of 2016. Oil prices have recently rebounded
to some extent, but continue to exhibit
day-to-day
volatility. The dramatic reduction in commodity prices has caused a sharp decline in the demand for offshore drilling
services, including services that Diamond Offshore provides, and adversely affected Diamond Offshores operations and cash flows in 2015 and 2016, compared to previous years. A prolonged period of low oil prices would have a material adverse
effect on many of Diamond Offshores customers and, therefore, on demand for its services and on its business.
Oil
prices have been, and are expected to continue to be, volatile and are affected by numerous factors beyond Diamond Offshores control, including:
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worldwide supply of and demand for oil and gas;
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the level of economic activity in energy-consuming markets;
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the worldwide economic environment and economic trends, including recessions and the level of international
trade activity;
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the ability of the Organization of Petroleum Exporting Countries (OPEC) to set and maintain
production levels and pricing;
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the level of production in
non-OPEC
countries;
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civil unrest and the worldwide political and military environment, including uncertainty or instability
resulting from an escalation or additional outbreak of armed hostilities involving the Middle East, Russia, other
oil-producing
regions or other geographic areas or further acts of terrorism in the United
States or elsewhere;
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the cost of exploring for, developing, producing and delivering oil and gas;
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the discovery rate of new oil and gas reserves;
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the rate of decline of existing and new oil and gas reserves and production;
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available pipeline and other oil and gas transportation and refining capacity;
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the ability of oil and gas companies to raise capital;
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weather conditions, including hurricanes, which can affect oil and gas operations over a wide area;
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natural disasters or incidents resulting from operating hazards inherent in offshore drilling, such as oil
spills;
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the policies of various governments regarding exploration and development of their oil and gas reserves;
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technological advances affecting energy consumption, including development and exploitation of alternative
fuels or energy sources;
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laws and regulations relating to environmental or energy security matters, including those purporting to
address global climate change;
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domestic and foreign tax policy; and
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advances in exploration and development technology.
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An increase in commodity demand and prices will not necessarily result in a prompt increase in offshore drilling activity
since Diamond Offshores customers project development times, reserve replacement needs and expectations of future commodity demand, prices and supply of available competing rigs all combine to affect demand for its rigs.
Diamond Offshores business depends on the level of activity in the offshore oil and gas industry, which has been cyclical and is
significantly affected by many factors outside of its control.
Demand for Diamond Offshores drilling
services depends upon the level of offshore oil and gas exploration, development and production in markets worldwide, and those activities depend in large part on oil and gas prices, worldwide demand for oil and gas and a variety of political and
economic factors. The level of offshore drilling activity is adversely affected when operators reduce or defer new investment in offshore projects, reduce or suspend their drilling budgets or reallocate their drilling budgets away from offshore
drilling in favor of other priorities, such as shale or other land-based projects. As a result, Diamond Offshores business and the oil and gas industry in general are subject to cyclical fluctuations.
As a result of the cyclical fluctuations in the market, there have been periods of lower demand, excess rig supply and lower
dayrates, followed by periods of higher demand, shorter rig supply and higher dayrates. Diamond Offshore cannot predict the timing or duration of such fluctuations. Periods of lower demand or excess rig supply, which have occurred in the recent past
and are continuing, intensify the competition in the industry and often result in periods of lower utilization and lower dayrates. During these periods, Diamond Offshores rigs may not obtain contracts for future work and may be idle for long
periods of time or may be able to obtain work only under contracts with lower dayrates or less favorable terms which could have a material adverse effect on Diamond Offshores business during these periods. Additionally, prolonged periods of
low utilization and dayrates could also result in the recognition of further impairment charges on certain of Diamond Offshores drilling rigs if future cash flow estimates, based upon information available to management at the time, indicate
that the carrying value of these rigs may not be recoverable.
Diamond Offshores industry is highly competitive, with
oversupply and intense price competition.
The offshore contract drilling industry is highly competitive with
numerous industry participants. Some of Diamond Offshores competitors may be larger companies, have larger or more technologically advanced fleets and have greater financial or other resources than it does. The drilling industry has
experienced consolidation in the past and may experience additional consolidation, which could create additional large competitors. Drilling contracts are traditionally awarded on a competitive bid basis. Price is typically the primary factor in
determining which qualified contractor is awarded a job.
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New rig construction and upgrades of existing drilling rigs, cancelation or
termination of drilling contracts and established rigs coming off contract have contributed to the current oversupply of drilling rigs, intensifying price competition. Additional newbuild rigs entering the market are expected to further negatively
impact rig utilization and intensify price competition as rigs are delivered.
Diamond Offshores customer base is
concentrated.
Diamond Offshore provides offshore drilling services to a customer base that includes major and
independent oil and gas companies and government-owned oil companies. During 2016, one of Diamond Offshores customers in the GOM, Anadarko, and Diamond Offshores five largest customers in the aggregate accounted for 22% and 65% of its
annual total consolidated revenues. In addition, the number of customers Diamond Offshore has performed services for has declined from 35 in 2014 to 18 in 2016. The loss of a significant customer could have a material adverse impact on Diamond
Offshores financial results, especially in a declining market where the number of Diamond Offshores working drilling rigs is declining along with the number of its active customers. In addition, if a significant customer experiences
liquidity constraints or other financial difficulties, or elects to terminate one of Diamond Offshores drilling contracts, it could materially adversely affect utilization rates in the affected market and also displace demand for Diamond
Offshores other drilling rigs as the resulting excess supply enters the market.
Diamond Offshore can provide no assurance
that its drilling contracts will not be terminated early or that its current backlog of contract drilling revenue will be ultimately realized.
Currently, Diamond Offshores customers may terminate their drilling contracts under certain circumstances, such as the
destruction or loss of a drilling rig or if Diamond Offshore suspends drilling operations for a specified period of time as a result of a breakdown of major equipment, excessive downtime for repairs, failure to meet minimum performance criteria
(including customer acceptance testing) or, in some cases, due to other events beyond the control of either party.
In
addition, some of Diamond Offshores drilling contracts permit the customer to terminate the contract after specified notice periods, often by tendering contractually specified termination amounts, which may not fully compensate Diamond
Offshore for the loss of the contract. During depressed market conditions, such as those currently in effect, certain customers have utilized such contract clauses to seek to renegotiate or terminate a drilling contract or claim that Diamond
Offshore has breached provisions of its drilling contracts in order to avoid their obligations to Diamond Offshore under circumstances where Diamond Offshore believes it is in compliance with the contracts. For example, in August of 2016, Petrobras,
the customer for the
Ocean Valor
, delivered a notice of termination of its drilling contract. Diamond Offshore is disputing in court the termination attempt as unlawful and has obtained a preliminary injunction against the termination, which
Petrobras has appealed. Additionally, because of depressed commodity prices, restricted credit markets, economic downturns, changes in priorities or strategy or other factors beyond Diamond Offshores control, a customer may no longer want or
need a rig that is currently under contract or may be able to obtain a comparable rig at a lower dayrate. For these reasons, customers may seek to renegotiate the terms of Diamond Offshores existing drilling contracts, terminate their
contracts without justification or repudiate or otherwise fail to perform their obligations under the contracts. Such renegotiations could include requests to lower the contract dayrate in some cases, in exchange for additional contract term,
shorten the term on one contracted rig in exchange for additional term on another rig, early termination of a contract in exchange for a lump sum payout and many other possibilities. Diamond Offshores contract backlog may be adversely impacted
as a result of such contract terminations or renegotiations.
When a customer terminates a contract prior to the
contracts scheduled expiration, Diamond Offshores contract backlog is adversely impacted and Diamond Offshore might not recover any compensation for the termination, or any recovery Diamond Offshore might obtain may not fully compensate
it for the loss of the contract. In any case, the early termination of a contract may result in Diamond Offshores rig being idle for an extended period of time.
Currently, Diamond Offshores reported contract backlog only includes future revenues under firm commitments; however,
from time to time, Diamond Offshore may report anticipated commitments for which definitive agreements have not yet been, but are expected to be, executed. Diamond Offshore can provide no assurance in such cases that it will be able to ultimately
execute a definitive agreement. In addition, for the reasons described above,
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Diamond Offshore can provide no assurance that its customers will be willing or able to fulfill their contractual commitments.
Diamond Offshore may not be able to renew or replace expiring contracts for its rigs.
As of the date of this Report, Diamond Offshore has a number of customer contracts that will expire in 2017 and 2018. Diamond
Offshores ability to renew or replace expiring contracts or obtain new contracts, and the terms of any such contracts, will depend on various factors, including market conditions and the specific needs of its customers at such times. Given the
historically cyclical and highly competitive nature of the industry, Diamond Offshore may not be able to renew or replace the contracts or it may be required to renew or replace expiring contracts or obtain new contracts at dayrates that are below,
and potentially substantially below, existing dayrates, or that have terms that are less favorable than existing contracts. Moreover, Diamond Offshore may be unable to secure contracts for these rigs. Failure to secure contracts for a rig may result
in a decision to cold stack the rig, which puts the rig at risk for impairment and may competitively disadvantage the rig as customers during the most recent market downturn have expressed a preference for ready or hot stacked rigs over
cold-stacked rigs.
Diamond Offshores contract drilling expense includes fixed costs that will not decline in proportion to
decreases in rig utilization and dayrates.
Diamond Offshores contract drilling expense includes all direct
and indirect costs associated with the operation, maintenance and support of its drilling equipment, which is often not affected by changes in dayrates and utilization. During periods of reduced revenue and/or activity, certain of Diamond
Offshores fixed costs will not decline and often it may incur additional operating costs, such as fuel and catering costs, for which it is generally reimbursed by the customer when a rig is under contract. During times of reduced utilization,
reductions in costs may not be immediate as Diamond Offshore may incur additional costs associated with cold stacking of a rig (particularly if Diamond Offshore cold stacks a newer rig, such as a drillship, for which cold stacking costs are
typically substantially higher than for a
jack-up
rig or an older floater rig), or it may not be able to fully reduce the cost of its support operations in a particular geographic region due to the need to
support the remaining drilling rigs in that region. Accordingly, a decline in revenue due to lower dayrates and/or utilization may not be offset by a corresponding decrease in contract drilling expense.
Diamond Offshore may enter into drilling contracts that expose it to greater risks than it normally assumes.
From time to time, Diamond Offshore may enter into drilling contracts with national oil companies, government-controlled
entities or others that expose it to greater risks than it normally assumes, such as exposure to greater environmental or other liability and more onerous termination provisions giving the customer a right to terminate without cause or upon little
or no notice. Upon termination, these contracts may not result in a payment to Diamond Offshore, or if a termination payment is required, it may not fully compensate Diamond Offshore for the loss of a contract.
Diamond Offshore is subject to extensive domestic and international laws and regulations that could significantly limit its business
activities and revenues and increase its costs.
Certain countries are subject to restrictions, sanctions and
embargoes imposed by the United States government or other governmental or international authorities. These restrictions, sanctions and embargoes may prohibit or limit Diamond Offshore from participating in certain business activities in those
countries. Diamond Offshores operations are also subject to numerous local, state and federal laws and regulations in the United States and in foreign jurisdictions concerning the containment and disposal of hazardous materials, the
remediation of contaminated properties and the protection of the environment.
The offshore drilling industry is dependent on demand for services from the oil and gas exploration industry and, accordingly, can be affected by changes in tax and
other laws relating to the energy business generally. Diamond Offshore may be required to make significant expenditures for additional capital equipment or inspections and recertifications to comply with existing or new governmental laws and
regulations. It is also possible that these laws and regulations may, in the future, add significantly to Diamond Offshores operating costs or result in a reduction in revenues associated with downtime required to install such equipment, or
may otherwise significantly limit drilling activity.
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In addition, Diamond Offshores business is negatively impacted when it
performs certain regulatory inspections, which Diamond Offshore refers to as a special survey, that are due every five years for most of its rigs. The inspection interval for Diamond Offshores North Sea rigs is two and one half years. These
special surveys are generally performed in a shipyard and require scheduled downtime, which can negatively impact operating revenue. Operating expenses increase as a result of these special surveys due to the cost to mobilize the rigs to a shipyard,
and inspection, repair and maintenance costs. Repair and maintenance activities may result from the special survey or may have been previously planned to take place during this mandatory downtime. The number of rigs undergoing a special survey will
vary from year to year, as well as from quarter to quarter. Diamond Offshores business may also be negatively impacted by intermediate surveys, which are performed at interim periods between special surveys. Although an intermediate survey
normally does not require shipyard time, the survey may require some downtime for the rig. Diamond Offshore can provide no assurance as to the exact timing and/or duration of downtime associated with regulatory inspections, planned rig mobilizations
and other shipyard projects.
In April of 2016, the Bureau of Safety and Environmental Enforcement (BSEE)
issued its final well control regulations in response to the 2010 Macondo well blowout and subsequent investigation into the causes of the event. The final well control rule, which became effective in July of 2016, resulted in reforms that
consolidated new regulations regarding equipment and operational requirements pertaining to offshore oil and gas drilling, completions, workovers and decommissioning operations in the GOM to enhance safety and environmental protection. BSEEs
final rule focuses on blowout preventers (BOPs) and well-control requirements. Key features of the well control rule include requirements for BOPs, double shear rams, third-party reviews of equipment, real-time monitoring data, safe
drilling margins, centralizers, inspections and other reforms related to well design and control, casing, cementing and subsea containment.
BSEEs new regulations under the well control rule, to be phased in over time, could require modifications or
enhancements to existing systems and equipment, or require new equipment, and could increase Diamond Offshores operating costs and cause downtime for its rigs if it is required to take any of them out of service between scheduled surveys or
inspections, or if it is required to extend scheduled surveys or inspections, to meet any such new requirements. Diamond Offshore is not able to predict the likelihood, nature or extent of any additional rulemaking or the future impact of these
events on its operations. Additional governmental regulations concerning licensing, taxation, equipment specifications, training requirements or other matters could increase the costs of Diamond Offshores operations, and enhanced permitting
requirements, as well as escalating costs borne by its customers, could reduce exploration activity in the GOM and therefore demand for its services.
Governments in some countries are increasingly active in regulating and controlling the ownership of concessions, the
exploration for oil and gas and other aspects of the oil and gas industry. The modification of existing laws or regulations or the adoption of new laws or regulations curtailing exploratory or developmental drilling for oil and gas for economic,
environmental or other reasons could materially and adversely affect Diamond Offshores operations by limiting drilling opportunities.
If Diamond Offshore or its customers are unable to acquire or renew permits and approvals required for drilling operations, Diamond
Offshore may be forced to delay, suspend or cease its operations.
Oil and natural gas exploration and production
operations require numerous permits and approvals for Diamond Offshore and its customers from governmental agencies in the areas in which it operates or expects to operate. Obtaining all necessary permits and approvals may necessitate substantial
expenditures to comply with the requirements of these permits and approvals, future changes to these permits or approvals, or any adverse change in the interpretation of existing permits and approvals. In addition, such regulatory requirements and
restrictions could also delay or curtail Diamond Offshores operations.
Contracts for Diamond Offshores drilling rigs
are generally fixed dayrate contracts, and increases in Diamond Offshores operating costs could adversely affect the profitability of those contracts.
Diamond Offshores contracts for its drilling rigs generally provide for the payment of a fixed dayrate per rig operating
day, although some contracts do provide for a limited escalation in dayrate due to increased operating costs it incurs on the project. Many of Diamond Offshores operating costs, such as labor costs, are unpredictable and may fluctuate based on
events beyond its control. In addition, equipment repair and maintenance expenses vary
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depending on the type of activity the rig is performing, the age and condition of the equipment and general market factors impacting relevant parts, components and services. The gross margin that
Diamond Offshore realizes on these fixed dayrate contracts will fluctuate based on variations in its operating costs over the terms of the contracts. In addition, for contracts with dayrate escalation clauses, Diamond Offshore may not be able to
fully recover increased or unforeseen costs from its customers.
Diamond Offshores business involves numerous operating
hazards which could expose it to significant losses and significant damage claims. Diamond Offshore is not fully insured against all of these risks and its contractual indemnity provisions may not fully protect Diamond Offshore.
Diamond Offshores operations are subject to the significant hazards inherent in drilling for oil and gas offshore, such
as blowouts, reservoir damage, loss of production, loss of well control, unstable or faulty sea floor conditions, fires and natural disasters such as hurricanes. The occurrence of any of these types of events could result in the suspension of
drilling operations, damage to or destruction of the equipment involved and injury or death to rig personnel and damage to producing or potentially productive oil and gas formations, oil spillage, oil leaks, well blowouts and extensive uncontrolled
fires, any of which could cause significant environmental damage. In addition, offshore drilling operations are subject to marine hazards, including capsizing, grounding, collision and loss or damage from severe weather. Operations also may be
suspended because of machinery breakdowns, abnormal drilling conditions, failure of suppliers or subcontractors to perform or supply goods or services or personnel shortages. Any of the foregoing events could result in significant damage or loss to
Diamond Offshores properties and assets or the properties and assets of others, injury or death to rig personnel or others, significant loss of revenues and significant damage claims against Diamond Offshore.
Diamond Offshores drilling contracts with its customers provide for varying levels of indemnity and allocation of
liabilities between its customers and Diamond Offshore with respect to the hazards and risks inherent in, and damages or losses arising out of, its operations, and Diamond Offshore may not be fully protected. Diamond Offshores contracts with
its customers generally provide that Diamond Offshore and its customers each assume liability for their respective personnel and property. Diamond Offshores contracts also generally provide that its customers assume most of the responsibility
for and indemnify Diamond Offshore against loss, damage or other liability resulting from, among other hazards and risks, pollution originating from the well and subsurface damage or loss, while Diamond Offshore typically retains responsibility for
and indemnifies its customers against pollution originating from the rig. However, in certain drilling contracts Diamond Offshore may not be fully indemnified by its customers for damage to their property and/or the property of their other
contractors. In certain contracts Diamond Offshore may assume liability for losses or damages (including punitive damages) resulting from pollution or contamination caused by negligent or willful acts of commission or omission by Diamond Offshore,
its suppliers and/or subcontractors, generally (but not always) subject to negotiated caps on a per occurrence basis and/or on an aggregate basis for the term of the contract. In some cases, suppliers or subcontractors who provide equipment or
services to Diamond Offshore may seek to limit their liability resulting from pollution or contamination. Diamond Offshores contracts are individually negotiated, and the levels of indemnity and allocation of liabilities in them can vary from
contract to contract depending on market conditions, particular customer requirements and other factors existing at the time a contract is negotiated.
Additionally, the enforceability of indemnification provisions in Diamond Offshores contracts may be limited or
prohibited by applicable law or such provisions may not be enforced by courts having jurisdiction, and Diamond Offshore could be held liable for substantial losses or damages and for fines and penalties imposed by regulatory authorities. The
indemnification provisions in Diamond Offshores contracts may be subject to differing interpretations, and the laws or courts of certain jurisdictions may enforce such provisions while other laws or courts may find them to be unenforceable,
void or limited by public policy considerations, including when the cause of the underlying loss or damage is Diamond Offshores gross negligence or willful misconduct, when punitive damages are attributable to Diamond Offshore or when fines or
penalties are imposed directly against Diamond Offshore. The law with respect to the enforceability of indemnities varies from jurisdiction to jurisdiction and is unsettled under certain laws that are applicable to Diamond Offshores contracts.
Current or future litigation in particular jurisdictions, whether or not Diamond Offshore is a party, may impact the interpretation and enforceability of indemnification provisions in its contracts. There can be no assurance that Diamond
Offshores contracts with its customers, suppliers and subcontractors will fully protect it against all hazards and risks inherent in its operations.
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There can also be no assurance that those parties with contractual obligations to indemnify Diamond Offshore will be financially able to do so or will otherwise honor their contractual
obligations.
Diamond Offshore maintains liability insurance, which includes coverage for environmental damage; however,
because of contractual provisions and policy limits, Diamond Offshores insurance coverage may not adequately cover its losses and claim costs. In addition, certain risks such as pollution, reservoir damage and environmental risks are generally
not fully insurable. Also, Diamond Offshore does not typically purchase
loss-of-hire
insurance to cover lost revenues when a rig is unable to work.
Diamond Offshore believes that the policy limit under its marine liability insurance is within the range that is customary for
companies of its size in the offshore drilling industry and is appropriate for its business. However, if an accident or other event occurs that exceeds Diamond Offshores coverage limits or is not an insurable event under its insurance
policies, or is not fully covered by contractual indemnity, it could result in significant loss to Diamond Offshore. There can be no assurance that Diamond Offshore will continue to carry the insurance it currently maintains, that its insurance will
cover all types of losses or that Diamond Offshore will be able to maintain adequate insurance in the future at rates it considers to be reasonable or that Diamond Offshore will be able to obtain insurance against some risks.
Significant portions of Diamond Offshores operations are conducted outside the United States and involve additional risks not
associated with United States domestic operations.
Diamond Offshores operations outside the United States
accounted for approximately 66%, 79% and 85% of its total consolidated revenues for 2016, 2015 and 2014 and include, or have included, operations in South America, Australia and Southeast Asia, Europe, East and West Africa, the Mediterranean and
Mexico. Because Diamond Offshore operates in various regions throughout the world, it is exposed to a variety of risks inherent in international operations, including risks of war, political disruption, civil disturbance, acts of terrorism,
political corruption, possible economic and legal sanctions (such as possible restrictions against countries that the U.S. government may consider to be state sponsors of terrorism) and changes in global trade policies. Diamond Offshore may not have
insurance coverage for these risks, or it may not be able to obtain adequate insurance coverage for such events at reasonable rates. Diamond Offshores operations may become restricted, disrupted or prohibited in any country in which any of
these risks occur. In particular, Diamond Offshore is also subject to the following risks in connection with its international operations:
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political and economic instability;
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piracy, terrorism or other assaults on property or personnel;
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kidnapping of personnel;
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seizure, expropriation, nationalization, deprivation, malicious damage or other loss of possession or use of
property or equipment;
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renegotiation or nullification of existing contracts;
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disputes and legal proceedings in international jurisdictions;
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changing social, political and economic conditions;
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enactment of additional or stricter U.S. government or international sanctions;
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imposition of wage and price controls, trade barriers, export controls or import-export quotas;
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restrictive foreign and domestic monetary policies;
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the inability to repatriate income or capital;
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difficulties in collecting accounts receivable and longer collection periods;
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fluctuations in currency exchange rates and restrictions on currency exchange;
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regulatory or financial requirements to comply with foreign bureaucratic actions;
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restriction or disruption of business activities;
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limitation of access to markets for periods of time;
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travel limitations or operational problems caused by public health threats or changes in immigration policies;
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difficulties in supplying, repairing or replacing equipment or transporting personnel in remote locations;
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difficulties in obtaining visas or work permits for employees on a timely basis; and
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changing taxation policies and confiscatory or discriminatory taxation.
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Diamond Offshore is also subject to the regulations of the U.S. Treasury Departments Office of Foreign Assets Control
and other U.S. laws and regulations governing its international operations in addition to domestic and international anti-bribery laws and sanctions and other restrictions imposed by other governmental or international authorities. In addition,
international contract drilling operations are subject to various laws and regulations in countries in which Diamond Offshore operates, including laws and regulations relating to:
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the equipping and operation of drilling rigs;
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import-export quotas or other trade barriers;
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repatriation of foreign earnings or capital;
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oil and gas exploration and development;
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local content requirements;
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taxation of offshore earnings and earnings of expatriate personnel; and
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use and compensation of local employees and suppliers by foreign contractors.
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Some foreign governments favor or effectively require the awarding of drilling contracts to local contractors, require use of
a local agent or require foreign contractors to employ citizens of, or purchase supplies from, a particular jurisdiction. These practices may adversely affect Diamond Offshores ability to compete in those regions. It is difficult to predict
what governmental regulations may be enacted in the future that could adversely affect the international offshore drilling industry. The actions of foreign governments may materially and adversely affect Diamond Offshores ability to compete
against local competitors.
In addition, the shipment of goods, including the movement of a drilling rig across
international borders, subjects Diamond Offshore to extensive trade laws and regulations. Diamond Offshores import activities are governed by unique customs laws and regulations that differ in each of the countries in which Diamond Offshore
operates and often impose record-keeping and reporting obligations. The laws and regulations concerning import/export activity and record-keeping and reporting requirements are complex and change frequently. These laws and regulations may be
enacted, amended, enforced and/or interpreted in a manner adverse to Diamond Offshore. Shipments can be delayed and denied export or entry for a variety of reasons, some of which may be outside of Diamond Offshores control. Shipping delays or
denials could cause unscheduled downtime for rigs. Failure to comply with these laws and regulations could result in criminal and civil penalties, economic sanctions, seizure of shipments and/or the contractual withholding of monies owed to Diamond
Offshore, among other things.
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Diamond Offshore has elected to self-insure for physical damage to rigs and equipment
caused by named windstorms in the GOM.
Because the amount of insurance coverage available to Diamond Offshore has
been limited, and the cost for such coverage is substantial, Diamond Offshore self-insures for physical damage to rigs and equipment caused by named windstorms in the GOM. This results in a higher risk of losses, which could be material, that are
not covered by third party insurance contracts.
In addition, certain of Diamond Offshores shore-based facilities
are located in geographic regions that are susceptible to damage or disruption from hurricanes and other weather events. Future hurricanes or similar natural disasters that impact Diamond Offshores facilities, its personnel located at those
facilities or its ongoing operations may negatively affect its business. These negative effects may include or result from reduced or lost sales and revenues; costs associated with interruption in operations and with resuming operations; reduced
demand for Diamond Offshores services from customers that were similarly affected by these events; lost market share; late deliveries; uninsured property losses; lack of or inadequate business interruption insurance; employee evacuations; and
an inability to retain necessary staff.
Diamond Offshores consolidated effective income tax rate may vary substantially from one reporting
period to another.
Diamond Offshores consolidated effective income tax rate is impacted by the mix between
its domestic and international
pre-tax
earnings or losses, as well as the mix of the international tax jurisdictions in which it operates. Diamond Offshore cannot provide any assurances as to what its
consolidated effective income tax rate will be in the future due to, among other factors, uncertainty regarding the nature and extent of its business activities in any particular jurisdiction in the future and the tax laws of such jurisdictions, as
well as potential changes in U.S. and foreign tax laws, regulations or treaties or the interpretation or enforcement thereof, changes in the administrative practices and precedents of tax authorities or any reclassification or other matter (such as
changes in applicable accounting rules) that increases the amounts Diamond Offshore has provided for income taxes or deferred tax assets and liabilities in its consolidated financial statements. This variability may cause its consolidated effective
income tax rate to vary substantially from one reporting period to another.
Diamond Offshore may be required to accrue additional
tax liability on certain of its foreign earnings.
Certain of Diamond Offshores international rigs are owned
and operated, directly or indirectly, by Diamond Foreign Asset Company (DFAC), a Cayman Islands subsidiary that it owns. It is Diamond Offshores intention to indefinitely reinvest future earnings of DFAC and its foreign
subsidiaries to finance foreign activities. Diamond Offshore does not expect to provide for U.S. taxes on any future earnings generated by DFAC and its foreign subsidiaries, except to the extent that these earnings are immediately subjected to U.S.
federal income tax. Should a future distribution be made from any unremitted earnings of this subsidiary, Diamond Offshore may be required to record additional U.S. income taxes.
Fluctuations in exchange rates and nonconvertibility of currencies could result in losses.
Due to Diamond Offshores international operations, certain of its monetary assets and liabilities, including tax related
liabilities, are denominated in a foreign currency. Fluctuations in currency exchange rates could increase or decrease the amount receivable or payable by Diamond Offshore. Diamond Offshore has experienced currency exchange losses where revenues are
received and expenses are paid in nonconvertible currencies or where it does not effectively hedge an exposure to a foreign currency. Diamond Offshore may also incur losses as a result of an inability to collect revenues because of a shortage of
convertible currency available to the country of operation, controls over currency exchange or controls over the repatriation of income or capital.
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Diamond Offshore must make substantial capital and operating expenditures to build,
maintain, and upgrade its drilling fleet.
Diamond Offshores business is highly capital intensive and
dependent on having sufficient cash flow and/or available sources of financing in order to fund its desired capital expenditure requirements. Diamond Offshore can provide no assurance that it will have access to adequate or economical sources of
capital to fund its capital expenditures.
Diamond Offshores debt levels may limit its liquidity and flexibility in obtaining
additional financing and in pursuing other business opportunities.
As of December 31, 2016, Diamond Offshore
had outstanding approximately $104 million in borrowings under its revolving credit facility and $2 billion of senior notes, maturing at various times from 2019 through 2043. As of February 10, 2017, Diamond Offshore had no
outstanding borrowings and $1.5 billion available under its revolving credit facility to meet its short term liquidity requirements. Diamond Offshore may incur additional indebtedness in the future and borrow from time to time under its
revolving credit facility to fund working capital or other needs, subject to compliance with its covenants.
Diamond
Offshores ability to meet its debt service obligations is dependent upon its future performance, which is subject to general economic conditions, industry cycles and financial, business and other factors affecting its operations, many of which
are beyond its control. High levels of indebtedness could have negative consequences to Diamond Offshore, including:
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it may have difficulty satisfying its obligations with respect to its outstanding debt;
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it may have difficulty obtaining financing in the future for working capital, capital expenditures, acquisitions or other purposes;
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it may need to use a substantial portion of available cash flow from operations to pay interest and principal on its debt, which would reduce the amount of money available to fund working capital requirements, capital
expenditures, the payment of dividends and other general corporate or business activities;
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vulnerability to the effects of general economic downturns, adverse industry conditions and adverse operating results could increase;
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flexibility in planning for, or reacting to, changes in its business and in its industry in general could be limited;
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it may not have the ability to pursue business opportunities that become available;
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the amount of debt and the amount it must pay to service its debt obligations could place Diamond Offshore at a competitive disadvantage compared to its competitors that have less debt;
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customers may react adversely to its significant debt level and seek alternative service providers; and
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failure to comply with the restrictive covenants in its debt instruments that, among other things, require Diamond Offshore to maintain a specified ratio of its consolidated indebtedness to total capitalization and
limit the ability of its subsidiaries to incur debt, could result in an event of default that, if not cured or waived, could have a material adverse effect on its business.
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In addition, approximately $500 million of Diamond Offshores long-term senior notes will mature over the next five
years and will need to be paid or refinanced. Diamond Offshore may not be able to refinance its maturing debt upon commercially reasonable terms, or at all, depending on numerous factors, including its financial condition and prospects at the time
and the then current state of the bank and capital markets in the U.S. Further, Diamond
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Offshores liquidity may be adversely affected if it is unable to replace the revolving credit facility upon acceptable terms when it matures.
In November of 2016, S&P downgraded Diamond Offshores corporate credit rating to BB+ from BBB, and, in January of
2017, further downgraded its corporate credit rating to
BB-;
the outlook remains negative. Diamond Offshores current corporate credit rating by Moodys is Ba2, with a stable outlook. These credit
ratings are below investment grade and could raise the cost of financing. As a consequence, Diamond Offshore may not be able to issue additional debt in amounts and/or with terms that it considers to be reasonable.
Diamond Offshores revolving credit facility bears interest at variable rates, based on its corporate credit rating and
market interest rates. If market interest rates increase, Diamond Offshores cost to borrow under its revolving credit facility may also increase. Favorable changes in Diamond Offshores current credit ratings could lower the fees that it
pays under its revolving credit facility, however, any further downgrade in Diamond Offshores credit ratings would have no further impact on the applicable interest rate margins and fees under the revolving credit facility. Although Diamond
Offshore may employ hedging strategies such that a portion of the aggregate principal amount outstanding under this credit facility would effectively carry a fixed rate of interest, any hedging arrangement put in place may not offer complete
protection from this risk.
Unionization efforts and labor regulations in some of the countries in which Diamond Offshore operates
could materially increase its costs or limit its flexibility.
Some of Diamond Offshores employees in
non-U.S.
markets are represented by labor unions and work under collective bargaining or similar agreements which are subject to periodic renegotiation. These negotiations could result in higher personnel expenses,
other increased costs or increased operational restrictions. Efforts have been made from time to time to unionize other portions of Diamond Offshores workforce. In addition, Diamond Offshore may be subjected to strikes or work stoppages and
other labor disruptions in certain countries. Additional unionization efforts, new collective bargaining agreements or work stoppages could materially increase Diamond Offshores costs, reduce its revenues or limit its flexibility.
Rig conversions, upgrades or newbuilds may be subject to delays and cost overruns.
From time to time, Diamond Offshore adds new capacity through conversions or upgrades to its existing rigs or through new
construction. Projects of this type are subject to risks of delay or cost overruns inherent in any large construction project resulting from numerous factors, including the following:
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shortages of equipment, materials or skilled labor;
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unscheduled delays in the delivery of ordered materials and equipment;
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unanticipated cost increases or change orders;
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weather interferences or storm damage;
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difficulties in obtaining necessary permits or in meeting permit conditions;
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design and engineering problems;
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disputes with shipyards or suppliers;
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availability of suppliers to recertify equipment for enhanced regulations;
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customer acceptance delays;
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shipyard failures or unavailability; and
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failure or delay of third party service providers, civil unrest and labor disputes.
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Failure to complete a rig upgrade or new construction on time, or failure to
complete a rig conversion or new construction in accordance with its design specifications may, in some circumstances, result in the delay, renegotiation or cancellation of a drilling contract, resulting in a loss of contract drilling backlog and
revenue to Diamond Offshore. If a drilling contract is terminated under these circumstances, Diamond Offshore may not be able to secure a replacement contract, or if it does secure a replacement contract, it may not contain equally favorable terms.
In addition, impairment write-offs could result if a rigs carrying value becomes excessive due to spending over budget on a newbuild construction project or major rig upgrade.
Risks Related to Us and Our Subsidiary, Boardwalk Pipeline Partners, LP
Boardwalk Pipeline may not be able to replace expiring natural gas transportation contracts at attractive rates or on a long-term basis and may not be
able to sell short-term services at attractive rates or at all due to market conditions.
Each year, a portion of
Boardwalk Pipelines firm natural gas transportation contracts expire and need to be renewed or replaced. Over the past several years, Boardwalk Pipeline has renewed some expiring contracts at lower rates and for shorter terms than in the past,
and in some cases, it remarketed the capacity to other customers. Boardwalk Pipeline expects this trend to continue, including for the contracts entered into in 2008 and 2009 related to its East Texas Pipeline, Southeast Expansion, Gulf Crossing
Pipeline, and Fayetteville and Greenville Lateral growth projects. These projects are supported by firm transportation agreements, typically having a term of ten years and priced based on then current market conditions. As the terms of these
contracts expire in 2018 and 2019, Boardwalk Pipeline will have significantly more transportation contract expirations than it has had during the past several years. Boardwalk Pipeline cannot predict what market conditions will prevail when these
contracts expire. If these contracts are renewed, Boardwalk Pipeline expects that the new contracts will be at lower rates and for shorter contract terms than its current contracts. If these contracts are renewed at current market rates, the
revenues earned from these transportation contracts would be materially lower than they are today.
The narrowing of the price differentials between
natural gas supplies and market demand for natural gas has reduced the transportation rates that Boardwalk Pipeline can charge.
The transportation rates Boardwalk Pipeline is able to charge customers are heavily influenced by market trends (both short
and longer term), including the available supply, geographical location of natural gas production, the competition between producing basins, the demand for gas by
end-users
such as power plants, petrochemical
facilities and LNG export facilities and the price differentials between the gas supplies and the market demand for the gas (basis differentials). Current market conditions have resulted in a sustained narrowing of basis differentials on certain
portions of Boardwalk Pipelines pipeline system, which has reduced transportation rates that can be charged in the affected areas and adversely affected the contract terms Boardwalk Pipeline can secure from its customers for available
transportation capacity and for contracts being renewed or replaced in these areas. The prevailing market conditions may also lead some of its customers to seek to renegotiate existing contracts to terms that are less attractive to Boardwalk
Pipeline; for example, seeking a current price reduction in exchange for an extension of the contract term. Boardwalk Pipeline expects these market conditions to continue.
Boardwalk Pipeline is exposed to credit risk relating to default or bankruptcy by its customers.
Credit risk relates to the risk of loss resulting from the default by a customer of its contractual obligations or the
customer filing bankruptcy. Boardwalk Pipeline has credit risk with both its existing customers and those supporting its growth projects.
Natural gas producers comprise a significant portion of Boardwalk Pipelines revenues and support several of its growth
projects. In 2016, approximately 46% of Boardwalk Pipelines revenues were generated from contracts with natural gas producers. For existing customers on its interstate pipelines, FERC gas tariffs only allow Boardwalk Pipeline to require
limited credit support. During 2016, the prices of oil and natural gas remained volatile. If gas prices continue to remain volatile for a sustained period of time, Boardwalk Pipelines producer customers will be adversely affected, which could
lead some customers to default on their obligations to Boardwalk Pipeline or file for bankruptcy.
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Credit risk also exists in relation to Boardwalk Pipelines growth projects,
both because foundation customers make long term firm capacity commitments to Boardwalk Pipeline for such projects and certain of those foundation customers agree to provide credit support as construction for such projects progresses. If a customer
fails to post the required credit support during the growth project process, overall returns on the project may be reduced to the extent an adjustment to the scope of the project results or Boardwalk Pipeline is unable to replace the defaulting
customer.
Boardwalk Pipelines credit exposure also includes receivables for services provided, future performance
under firm agreements and volumes of gas owed by customers for imbalances or gas loaned by Boardwalk Pipeline to them under certain NNS and parking and lending (PAL) services.
In 2016, the credit ratings of several of Boardwalk Pipelines producer customers, including some of those supporting its
growth projects, were downgraded. The downgrades may restrict liquidity for those customers and indicate a greater likelihood of nonperformance of their contractual obligations, including failure to make future payments, or the failure to post
required letters of credit or other forms of credit support. In addition, Boardwalk Pipelines customers that file for bankruptcy protection may also seek to have their contracts with Boardwalk Pipeline rejected in the bankruptcy proceedings.
During 2016, several of its customers declared bankruptcy. While the overall impact of these bankruptcies was not material to its business in 2016, one of the bankruptcies did negatively affect one of its growth projects.
Boardwalk Pipeline relies on a limited number of customers for a significant portion of its revenues.
For 2016, while no customer comprised 10% or more of its operating revenues, the top ten customers comprised approximately 42%
of revenues. If any of Boardwalk Pipelines significant customers have credit or financial problems which result in bankruptcy, a delay or failure to pay for services provided by Boardwalk Pipeline to post the required credit support for
construction associated with its growth projects or existing contracts or to repay the gas they owe Boardwalk Pipeline, it could have a material adverse effect on its business.
Boardwalk Pipelines actual construction and development costs could exceed its forecasts, its anticipated cash flow from construction and
development projects will not be immediate and its construction and development projects may not be completed on time or at all.
Boardwalk Pipeline is engaged in multiple significant construction projects involving its existing assets and the construction
of new facilities for which it has expended or will expend significant capital. Boardwalk Pipeline expects to continue to engage in the construction of additional growth projects and modifications of its system. When Boardwalk Pipeline builds a new
pipeline or expands or modifies an existing facility, the design, construction and development occurs over an extended period of time, and it will not receive any revenue or cash flow from that project until after it is placed in service. Typically,
there are several years between when the project is announced and when customers begin using the new facilities. During this period, Boardwalk Pipeline spends capital and incurs costs without receiving any of the financial benefits associated with
the projects. The construction of new assets involves regulatory, environmental, activist, legal, political, materials and labor costs, as well as operational and other risks that are difficult to predict and beyond Boardwalk Pipelines
control. Any of these projects may not be completed on time or at all due to a variety of factors, may be impacted by significant cost overruns or may be materially changed prior to completion as a result of developments or circumstances that
Boardwalk Pipeline is not aware of when it commits to the project, including the inability of any shipper to provide adequate credit support or to otherwise perform their obligations under any precedent agreements. Any of these events could result
in material unexpected costs or have a material adverse effect on Boardwalk Pipelines ability to realize the anticipated benefits from its growth projects.
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Legislative and regulatory initiatives relating to pipeline safety that require the use of new or more
prescriptive compliance activities, substantial changes to existing integrity management programs or withdrawal of regulatory waivers could subject Boardwalk Pipeline to increased capital and operating costs and operational delays.
Boardwalk Pipelines interstate pipelines are subject to regulation by PHMSA, which is part of DOT. PHMSA regulates the
design, installation, testing, construction, operation, replacement and management of existing interstate natural gas and NGLs pipeline facilities. PHMSA regulation currently requires pipeline operators to implement integrity management programs,
including frequent inspections, correction of certain identified anomalies and other measures to promote pipeline safety in HCAs, such as high population areas, areas unusually sensitive to environmental damage and commercially navigable waterways.
States have jurisdiction over certain of Boardwalk Pipelines intrastate pipelines and have adopted regulations similar to existing PHMSA regulations. State regulations may impose more stringent requirements than found under federal law.
Compliance with these rules has resulted in an overall increase in maintenance costs. PHMSA has issued notices of proposed rulemaking in April of 2015 and March of 2016, which have proposed new, more prescriptive regulations related to the overall
operations of Boardwalk Pipelines interstate natural gas and NGLs pipelines, which, if adopted as proposed, will cause it to incur increased capital and operating costs, experience operational delays and result in potential adverse impacts to
its ability to reliably serve its customers. Additionally, requirements that are imposed under the 2011 Act and 2016 Act may also increase Boardwalk Pipelines capital and operating costs or impact the operation of its pipeline.
Boardwalk Pipeline has entered into firm transportation contracts with shippers on certain of its expansion projects that
utilize the design capacity of certain of its pipeline assets, based upon the authority Boardwalk Pipeline received from PHMSA to operate those pipelines at higher than normal operating pressures of up to 0.80 of the pipelines SMYS. PHMSA
retains discretion to withdraw or modify this authority. If PHMSA were to withdraw or materially modify such authority, it could affect Boardwalk Pipelines ability to transport all of its contracted quantities of natural gas on these pipeline
assets and it could incur significant additional costs to reinstate this authority or to develop alternate ways to meet its contractual obligations.
Changes in energy prices, including natural gas, oil and NGLs, impact the supply of and demand for those commodities, which impact Boardwalk
Pipelines business.
Boardwalk Pipelines customers, especially producers, are directly impacted by
changes in commodity prices. The prices of natural gas, oil and NGLs fluctuate in response to changes in supply and demand, market uncertainty and a variety of additional factors. The declines in the levels of natural gas, oil and NGLs prices
experienced in 2015 and 2016 have adversely affected the businesses of Boardwalk Pipelines producer customers and reduced the demand for Boardwalk Pipelines services and could result in defaults or the
non-renewal
of Boardwalk Pipelines contracted capacity when existing contracts expire. Future increases in the price of natural gas and NGLs could make alternative energy and feedstock sources more
competitive and reduce demand for natural gas and NGLs. A reduced level of demand for natural gas and NGLs could reduce the utilization of capacity on Boardwalk Pipelines systems and reduce the demand of its services.
A significant portion of Boardwalk Pipelines debt will mature over the next five years and will need to be paid or refinanced and changes to the
debt and equity markets could adversely affect its business.
A significant portion of Boardwalk Pipelines
debt is set to mature in the next five years, including its revolving credit facility. Boardwalk Pipeline may not be able to refinance its maturing debt on commercially reasonable terms, or at all, depending on numerous factors, including its
financial condition and prospects at the time and the then current state of the banking and capital markets in the U.S.
Limited access to the debt
and equity markets could adversely affect Boardwalk Pipelines business.
Boardwalk Pipelines current
strategy is to fund its announced growth projects through currently available financing options, including utilizing cash generated from operations, borrowings under its revolving credit facility, accessing proceeds from its subordinated loan
agreement with a subsidiary of the Company and accessing the capital markets. Changes in the debt and equity markets, including market disruptions, limited liquidity, and interest rate volatility, may increase the cost of financing as well as the
risks of refinancing maturing debt. Instability in the
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financial markets may increase Boardwalk Pipelines cost of capital while reducing the availability of funds. This may affect its ability to raise capital and reduce the amount of cash
available to fund its operations or growth projects. If the debt and equity markets were not available, it is not certain if other adequate financing options would be available to Boardwalk Pipeline on terms and conditions that it would find
acceptable.
Any disruption in the capital markets could require Boardwalk Pipeline to take additional measures to
conserve cash until the markets stabilize or until it can arrange alternative credit arrangements or other funding for its business needs. Such measures could include reducing or delaying business activities, reducing its operations to lower
expenses and reducing other discretionary uses of cash. Boardwalk Pipeline may be unable to execute its growth strategy or take advantage of certain business opportunities.
Boardwalk Pipelines natural gas transportation and storage operations are subject to extensive regulation by the FERC, including rules and
regulations related to the rates it can charge for its services and its ability to construct or abandon facilities. The FERCs rate-making policies could limit its ability to recover the full cost of operating its pipelines, including earning a
reasonable return.
Boardwalk Pipelines natural gas transportation and storage
operations are
subject to extensive regulation by the FERC, including the types and terms of services Boardwalk Pipeline may offer to its customers, construction of new facilities, creation, modification or abandonment of services or facilities, recordkeeping
and relationships with affiliated companies. An adverse FERC action in any of these areas could affect Boardwalk Pipelines ability to compete for business, construct new facilities, offer new services or recover the full cost of operating
its pipelines. This regulatory oversight can result in longer lead times to develop and complete any future project than competitors that are not subject to the FERCs regulations. The FERC can also deny Boardwalk Pipeline the right to abandon
certain facilities from service.
The FERC also regulates the rates Boardwalk Pipeline can charge for its natural gas
transportation and storage operations. For cost-based services, the FERC establishes both the maximum and minimum rates Boardwalk Pipeline can charge. The basic elements that the FERC considers are the costs of providing service, the volumes of gas
being transported, the rate design, the allocation of costs between services, the capital structure and the rate of return a pipeline is permitted to earn. The FERC has issued a notice of inquiry concerning the inclusion of income taxes in the rates
of an interstate pipeline that operates as a master limited partnership. The ultimate outcome of this proceeding could impact the maximum rates Boardwalk Pipeline can charge on its FERC regulated pipelines. Boardwalk Pipeline may not be able to earn
a return or recover all of its costs, including certain costs associated with pipeline integrity activities, through existing or future rates. The FERC or Boardwalk Pipelines customers can challenge the existing rates on any of Boardwalk
Pipelines pipelines. Such a challenge against Boardwalk Pipeline could adversely affect its ability to charge rates that would cover future increases in its costs or even to continue to collect rates to maintain its current revenue levels that
are designed to permit a reasonable opportunity to recover current costs and depreciation and earn a reasonable return.
Boardwalk Pipeline may not
be successful in executing its strategy to grow and diversify its business.
Boardwalk Pipeline relies primarily
on the revenues generated from its natural gas long-haul transportation and storage services. Negative developments in these services have significantly greater impact on Boardwalk Pipelines financial condition and results of operations than
if it maintained more diverse assets. Boardwalk Pipeline is pursuing a strategy of growing and diversifying its business through acquisition and development of assets in complementary areas of the midstream energy sector, such as liquids
transportation and storage assets. Boardwalk Pipelines ability to grow, diversify and increase distributable cash flows will depend, in part, on its ability to expand its existing business lines and to close and execute on accretive
acquisitions. Boardwalk Pipeline may not be successful in acquiring or developing such assets or may do so on terms that ultimately are not profitable. Any such transactions involve potential risks that may include, among other things:
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the diversion of managements and employees attention from other business concerns;
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inaccurate assumptions about volume, revenues and project costs, including potential synergies;
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a decrease in Boardwalk Pipelines liquidity as a result of using available cash or borrowing capacity to
finance the acquisition or project;
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a significant increase in interest expense or financial leverage if it incurs additional debt to finance the
acquisition or project;
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inaccurate assumptions about the overall costs of equity or debt;
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an inability to hire, train or retain qualified personnel to manage and operate the acquired business and
assets or the developed assets;
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unforeseen difficulties operating in new product areas or new geographic areas; and
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changes in regulatory requirements or delays of regulatory approvals.
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Additionally, acquisitions also contain the following risks:
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an inability to integrate successfully the businesses Boardwalk Pipeline acquires;
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the assumption of unknown liabilities for which it is not indemnified, for which its indemnity is inadequate
or for which its insurance policies may exclude from coverage;
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limitations on rights to indemnity from the seller; and
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customer or key employee losses of an acquired business.
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Boardwalk Pipelines ability to replace expiring gas storage contracts at attractive rates or on a long-term basis and to sell
short-term services at attractive rates or at all are subject to market conditions.
Boardwalk Pipeline owns and
operates substantial natural gas storage facilities. The market for the storage and PAL services that it offers is impacted by the factors and market conditions discussed above for Boardwalk Pipelines transportation services, and is also
impacted by natural gas price differentials between time periods, such as winter to summer (time period price spreads), and the volatility in time period price spreads. When market conditions cause a narrowing of time period price spreads and a
decline in the price volatility of natural gas, these factors adversely impact the rates Boardwalk Pipeline can charge for its storage and PAL services.
Boardwalk Pipelines operations are subject to catastrophic losses, operational hazards and unforeseen interruptions for which it
may not be adequately insured.
There are a variety of operating risks inherent in transporting and storing
natural gas, ethylene and NGLs, such as leaks and other forms of releases, explosions, fires, cyber-attacks and mechanical problems, some of which could have catastrophic consequences. Additionally, the nature and location of Boardwalk
Pipelines business may make it susceptible to catastrophic losses from hurricanes or other named storms, particularly with regard to its assets in the Gulf Coast region, windstorms, earthquakes, hail, and severe winter weather. Any of
these or other similar occurrences could result in the disruption of Boardwalk Pipelines operations, substantial repair costs, personal injury or loss of human life, significant damage to property, environmental pollution, impairment of its
operations and substantial financial losses. The location of pipelines in HCAs, which includes populated areas, residential areas, commercial business centers and industrial sites, could significantly increase the level of damages resulting from
some of these risks.
Boardwalk Pipeline currently possesses property, business interruption, cyber threat and general
liability insurance, but proceeds from such insurance coverage may not be adequate for all liabilities or expenses incurred or revenues lost. Moreover, such insurance may not be available in the future at commercially reasonable costs and terms. The
insurance coverage Boardwalk Pipeline does obtain may contain large deductibles or fail to cover certain events, hazards or all potential losses.
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Climate change legislation and regulations restricting emissions of greenhouse gases
(GHGs) could result in increased operating and capital costs and reduced demand for Boardwalk Pipelines pipeline and storage services.
Climate change continues to attract considerable public and scientific attention. As a result, numerous proposals have been
made and are likely to continue to be made at the international, national, regional and state levels of government to monitor and limit emissions of greenhouse gases. While no comprehensive climate change legislation has been implemented at the
federal level, the Environmental Protection Agency (EPA) and states or groupings of states have pursued legal initiatives in recent years that seek to reduce GHG emissions through efforts that include consideration of
cap-and-trade
programs, carbon taxes and GHG reporting and tracking programs and regulations that directly limit GHG emissions from certain sources.
In particular, the EPA has adopted rules that, among other things, establish certain permit reviews for GHG emissions from
certain large stationary sources, which reviews could require securing permits at covered facilities emitting GHGs and meeting defined technological standards for those GHG emissions. The EPA has also adopted rules requiring the monitoring and
annual reporting of GHG emissions from certain petroleum and natural gas system sources in the U.S., including, among others, onshore processing, transmission, storage and distribution facilities as well as gathering, compression and boosting
facilities and blowdowns of natural gas transmission pipelines.
Federal agencies also have begun directly regulating
emissions of methane, a GHG, from oil and natural gas operations. In June of 2016, the EPA published regulations requiring certain new, modified or reconstructed facilities in the oil and natural gas sector to reduce these methane gas and volatile
organic compound emissions and, in November of 2016, the EPA began seeking additional information on methane emissions from certain existing facilities and operations in the oil and natural gas sector that could be developed into federal guidelines
that states must consider in developing their own rules for regulating sources within their borders. In December of 2015, the U.S. joined the international community at the 21st Conference of the Parties of the United Nations Framework Convention on
Climate Change in Paris, France that prepared an agreement requiring member countries to review and represent a progression in their intended nationally determined contributions, which set GHG emission reduction goals every five years
beginning in 2020. This Paris Agreement was signed by the U.S. in April of 2016 and entered into force in November of 2016, however this agreement does not create any binding obligations for nations to limit their GHG emissions, but
rather includes pledges to voluntarily limit or reduce future emissions.
The adoption and implementation of any
international, federal or state legislation or regulations that require reporting of GHGs or otherwise restrict emissions of GHGs could result in increased compliance costs or additional operating restrictions. Finally, some scientists have
concluded that increasing concentrations of GHG in the atmosphere may produce climate changes that have significant physical effects, such as increased frequency and severity of storms, droughts, and floods and other climate events.
Risks Related to Us and Our Subsidiary, Loews Hotels Holding Corporation
Loews Hotels business may be adversely affected by various operating risks common to the lodging industry, including competition,
excess supply and dependence on business travel and tourism.
Loews Hotels owns and operates hotels which have
different economic characteristics than many other real estate assets. A typical office property, for example, has long-term leases with third-party tenants, which provide a relatively stable long-term stream of revenue. Hotels, on the other hand,
generate revenue from guests that typically stay at the hotel for only a few nights, which causes the room rate and occupancy levels at each hotel to change every day, and results in earnings that can be highly volatile.
In addition, Loews Hotels properties are subject to various operating risks common to the lodging industry, many of
which are beyond Loews Hotels control, including:
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changes in general economic conditions, including the severity and duration of any downturn in the U.S. or
global economy and financial markets;
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war, political conditions or civil unrest, terrorist activities or threats and heightened travel security
measures instituted in response to these events;
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outbreaks of pandemic or contagious diseases, such as norovirus, avian flu, severe acute respiratory syndrome
(SARS), H1N1 (swine flu), Ebola and Zika virus;
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natural or
man-made
disasters, such as earthquakes, tsunamis,
tornadoes, hurricanes, typhoons, floods, oil spills, fires and nuclear incidents;
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any material reduction or prolonged interruption of public utilities and services, including water and
electric power;
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decreased corporate or government travel-related budgets and spending and cancellations, deferrals or
renegotiations of group business due to adverse economic conditions or otherwise;
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decreased need for business-related travel due to innovations in business-related technology;
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competition from other hotels and alternative accommodations, such as Airbnb, in the markets in which Loews
Hotels operates;
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excess supply of hotels in the markets in which Loews Hotels operates;
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requirements for periodic capital reinvestment to repair and upgrade hotels;
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increases in operating costs including, but not limited to, labor (including minimum wage increases),
workers compensation, benefits, insurance, food, energy and unanticipated costs resulting from force majeure events, due to inflation, new or different federal, state or local governmental regulations and other factors that may not be offset
by increased room rates;
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the costs and administrative burdens associated with compliance with applicable laws and regulations;
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the financial condition and general business condition of the airline, automotive and other
transportation-related industries and its impact on travel;
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decreased airline capacities and routes;
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statements, actions or interventions by governmental officials related to travel and corporate travel-related
activities and the resulting negative public perception of such travel and activities;
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organized labor activities, which could cause a diversion of business from hotels involved in labor
negotiations and loss of business for Loews Hotels properties generally as a result of certain labor tactics;
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changes in the desirability of particular locations or travel patterns of customers, geographic concentration
of Loews Hotels operations and customers and shortages of desirable locations for development; and
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relationships with third-party property owners, developers, landlords and joint venture partners, including
the risk that owners and/or partners may terminate management or joint venture agreements.
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These
factors, and the reputational repercussions of these factors, could adversely affect, and from time to time have adversely affected, individual hotels and hotels in particular regions.
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Loews Hotels is exposed to the risks resulting from significant investments in owned and
leased real estate, which could increase its costs, reduce its profits, limit its ability to respond to market conditions or restrict its growth strategy.
Loews Hotels proportion of owned and leased properties, compared to the number of properties that it manages for
third-party owners, is larger than that of some of its competitors. Real estate ownership and leasing is subject to risks not applicable to managed or franchised properties, including:
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governmental regulations relating to real estate ownership;
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real estate, insurance, zoning, tax, environmental and eminent domain laws;
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the ongoing need for owner-funded capital improvements and expenditures to maintain or upgrade properties;
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risks associated with mortgage debt, including the possibility of default, fluctuating interest rate levels
and the availability of replacement financing;
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risks associated with the possibility that cost increases will outpace revenue increases and that, in the
event of an economic slowdown, a high proportion of fixed costs will make it difficult to reduce costs to the extent required to offset declining revenues;
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risks associated with real estate leases, including the possibility of rent increases and the inability to
renew or extend upon favorable terms;
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fluctuations in real estate values and potential impairments in the value of Loews Hotels assets; and
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the relative illiquidity of real estate compared to some other assets.
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The hospitality industry is subject to seasonal and cyclical volatility.
The hospitality industry is seasonal in nature. The periods during which Loews Hotels properties experience higher
revenues vary from property to property, depending principally upon location and the consumer base served. Loews Hotels generally expects revenues to be lower in the first quarter of each year than in each of the three subsequent quarters. In
addition, the hospitality industry is cyclical and demand generally follows the general economy on a lagged basis. The seasonality and cyclicality of its industry may contribute to fluctuation in Loews Hotels results of operations and
financial condition.
Loews Hotels operates in a highly competitive industry, both for customers and for acquisitions of new
properties.
The lodging industry is highly competitive. Loews Hotels properties compete with other hotels
and alternative accommodations based on a number of factors, including room rates, quality of accommodations, service levels and amenities, location, brand affiliation, reputation and reservation systems. New hotels may be constructed and these
additions to supply create new competitors, in some cases without corresponding increases in demand for hotel rooms. Some of its competitors also have greater financial and marketing resources than Loews Hotels, which could allow them to reduce
their rates, offer greater convenience, services or amenities, build new hotels in direct competition with Loews Hotels existing hotels, improve their properties, expand and improve their marketing efforts, all of which could adversely affect
the ability of Loews Hotels properties to attract prospective guests as well as limit or slow future growth. In addition, travelers can book stays on websites that facilitate the short-term rental of homes and apartments from owners, thereby
providing an alternative to hotel rooms.
Loews Hotels also competes for hotel acquisitions with entities that have
similar investment objectives as it does. This competition could limit the number of suitable investment opportunities. It may also increase the bargaining power of property owners seeking to sell to Loews Hotels, making it more difficult for Loews
Hotels to acquire new properties on attractive terms or on the terms contemplated in its business plan.
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Any deterioration in the quality or reputation of Loews Hotels brands could have an
adverse effect on its reputation and business.
Loews Hotels brands and its reputation are among its most
important assets. Its ability to attract and retain guests depends, in part, on the public recognition of its brands and their associated reputation. If its brands become obsolete or consumers view them as unfashionable or lacking in consistency and
quality, Loews Hotels may be unable to attract guests to its properties, and may further be unable to attract or retain joint venture partners or hotel owners.
The occurrence of accidents or injuries, natural disasters, crime, individual guest notoriety or similar events at Loews
Hotels properties can harm its reputation, create adverse publicity and cause a loss of consumer confidence in its business. Because of the broad expanse of Loews Hotels business and hotel locations, events occurring in one location
could negatively affect the reputation and operations of otherwise successful individual locations. In addition, the recent expansion of social media has compounded the potential scope of negative publicity.
Loews Hotels properties are geographically concentrated, which exposes its business to the effects of regional events and
occurrences.
Loews Hotels has a concentration of hotels in Florida. Specifically, as of December 31, 2016,
seven hotels, representing approximately 50% of rooms in its system, were located in Florida. The concentration of hotels in one region or a limited number of markets may expose Loews Hotels to risks of adverse economic and other developments that
are greater than if its portfolio were more geographically diverse. These developments include regional economic downturns, a decline in the popularity of or access to area tourist attractions, such as theme parks, significant increases in the
number of Loews Hotels competitors hotels in these markets and potentially higher local property, sales and income taxes in the geographic markets in which it is concentrated. In addition, Loews Hotels properties in Florida are
subject to the effects of adverse acts of nature, such as hurricanes, strong winds and flooding, which have in the past caused damage to its hotels in Florida, which may in the future be intensified as a result of climate change, as well as
outbreaks of pandemic or contagious diseases, such as Zika virus. Depending on the severity of these acts of nature, Loews Hotels could be required to close all or substantially all of its hotels in the Florida market for a period of time while the
necessary repairs and renovations, as applicable, are undertaken, or until the adverse condition has dissipated.
The growth and use
of alternative reservation channels adversely affects Loews Hotels business.
A significant percentage of
hotel rooms for guests at Loews Hotels properties is booked through internet travel and other intermediaries. In most cases, Loews Hotels has agreements with such intermediaries and pays them commissions and/or fees for sales of its rooms
through their systems. If such bookings increase, these intermediaries may be able to obtain higher commissions or fees, reduced room rates or other significant concessions from Loews Hotels. There can be no assurance that Loews Hotels will be able
to negotiate such agreements in the future with terms as favorable as those that exist today. Moreover, these intermediaries generally employ aggressive marketing strategies, including expending significant resources for online and television
advertising campaigns to drive consumers to their websites and other outlets. As a result, consumers may develop brand loyalties to the intermediaries offered brands, websites and reservations systems rather than to Loews Hotels brands.
Under certain circumstances, Loews Hotels insurance coverage may not cover all possible losses, and it may not be able to
renew its insurance policies on favorable terms, or at all.
Although Loews Hotels maintains various property,
casualty and other insurance policies, proceeds from such insurance coverage may not be adequate for all liabilities or expenses incurred or revenues lost. Moreover, such insurance may not be available in the future at commercially reasonable costs
and terms. The insurance coverage Loews Hotels does obtain may contain large deductibles or fail to cover certain events, hazards or all potential losses.
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Labor shortages could restrict Loews Hotels ability to operate its properties or grow
its business or result in increased labor costs that could reduce its profits.
Loews Hotels properties are
staffed 24 hours a day, seven days a week by thousands of employees. If it is unable to attract, retain, train and engage skilled employees, its ability to manage and staff its properties adequately could be impaired, which could reduce customer
satisfaction. Staffing shortages could also hinder its ability to grow and expand its business. Because payroll costs are a major component of the operating expenses at its properties, a shortage of skilled labor could also require higher wages that
would increase its labor costs.
Risks Related to Us and Our Subsidiaries Generally
In addition to the specific risks and uncertainties faced by our subsidiaries, as discussed above, we and all of our
subsidiaries face additional risks and uncertainties described below.
Acts of terrorism could harm us and our subsidiaries.
Terrorist attacks and the continued threat of terrorism in the United States or abroad, the continuation or
escalation of existing armed hostilities or the outbreak of additional hostilities, including military and other action by the United States and its allies, could have a significant impact on us and the assets and businesses of our subsidiaries. CNA
issues coverages that are exposed to risk of loss from an act of terrorism. Terrorist acts or the threat of terrorism could also result in increased political, economic and financial market instability, a decline in energy consumption and volatility
in the price of oil and gas, which could affect the market for Diamond Offshores drilling services and Boardwalk Pipelines transportation and storage services. In addition, future terrorist attacks could lead to reductions in business
travel and tourism which could harm Loews Hotels. While our subsidiaries take steps that they believe are appropriate to secure their assets, there is no assurance that they can completely secure them against a terrorist attack or obtain adequate
insurance coverage for terrorist acts at reasonable rates.
Changes in tax laws, regulations or treaties, or the interpretation or
enforcement thereof in jurisdictions in which we or our subsidiaries operate could adversely impact us.
Changes
in federal, state or foreign tax laws, regulations or treaties applicable to us or our subsidiaries or changes in the interpretation or enforcement thereof could materially and adversely impact our and our subsidiaries tax liability, financial
condition, results of operations and cash flows, including the amount of cash our subsidiaries have available to distribute to their shareholders, including us. In particular, potential changes to tax laws relating to tax credits, the corporate tax
rate or the taxation of interest from municipal bonds (and thus the rate at which CNA discounts its long term care reserves), foreign earnings and publicly traded partnerships could have such material adverse effects.
Our subsidiaries face significant risks related to compliance with environmental laws.
Our subsidiaries have extensive obligations and financial exposure related to compliance with federal, state, local, foreign
and international environmental laws, including those relating to the discharge of substances into the environment, the disposal, removal or clean up of hazardous wastes and other activities relating to the protection of the environment. Many of
such laws have become increasingly stringent in recent years and may in some cases impose strict liability, which could be substantial, rendering a person liable for environmental damage without regard to negligence or fault on the part of that
person. For example, Diamond Offshore could be liable for damages and costs incurred in connection with oil spills related to its operations, including for conduct of or conditions caused by others. Boardwalk Pipeline is also subject to
environmental laws and regulations, including requiring the acquisition of permits or other approvals to conduct regulated activities, restricting the manner in which it disposes of waste, requiring remedial action to remove or mitigate
contamination resulting from a spill or other release and requiring capital expenditures to comply with pollution control requirements. Further, existing environmental laws or the interpretation or enforcement thereof may be amended and new laws may
be adopted in the future.
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Failures or interruptions in or breaches to our or our subsidiaries computer systems
could materially and adversely affect our or our subsidiaries operations.
We and our subsidiaries are
dependent upon information technologies, computer systems and networks to conduct operations and are reliant on technology to help increase efficiency in our businesses. We are dependent upon operational and financial computer systems to process the
data necessary to conduct almost all aspects of our businesses. Any failure of our or our subsidiaries computer systems, or those of our or their customers, vendors or others with whom we and they do business, could materially disrupt business
operations. Computer, telecommunications and other business facilities and systems could become unavailable or impaired from a variety of causes, including among others, storms and other natural disasters, terrorist attacks, fires, utility outages
theft, design defects, human error or complications encountered as existing systems are replaced or upgraded. In addition, it has been reported that unknown entities or groups have mounted
so-called
cyber attacks on businesses and other organizations solely to disable or disrupt computer systems, disrupt operations and, in some cases, steal data. In particular, the U.S. government has issued public warnings that indicate energy
assets may be specific targets of cyber attacks, which can have catastrophic consequences and there have also been reports that hotel chains, among other consumer facing businesses, have been subject to various cyber attacks targeting payment card
and other sensitive consumer information. Breaches of our computer security infrastructure can result from actions by our employees, vendors, third party administrators or by unknown third parties, and may disrupt our operations, cause damage to our
assets and surrounding areas and impact our data framework or cause a failure to protect personal information of customers or employees.
The foregoing risks relating to disruption of service, interruption of operations and data loss could impact our and our
subsidiaries ability to timely perform critical business functions, resulting in disruption or deterioration in our and our subsidiaries operations and business and expose us to monetary and reputational damages. In addition, potential
exposures include substantially increased compliance costs and required computer system upgrades and security related investments. The breach of confidential information also could give rise to legal liability and regulatory action under data
protection and privacy laws and regulations, both in the U.S. and foreign jurisdictions.
Loss of key vendor relationships or issues
relating to the transitioning of vendor relationships could result in a materially adverse effect on our and our subsidiaries operations.
We and our subsidiaries rely on products, equipment and services provided by many third party suppliers, manufacturers and
service providers in the United States and abroad, which exposes us and them to volatility in the quality, price and availability of such items. These include, for example, vendors of computer hardware, software and services, as well as other
critical materials and services (including, in the case of CNA, claims administrators performing significant claims administration and adjudication functions). Certain products, equipment and services may be available from a limited number of
sources. If one or more key vendors becomes unable to continue to provide products, equipment or services at the requisite level for any reason, or fails to protect our proprietary information, including in some cases personal information of
employees, customers or hotel guests, we and our subsidiaries may experience a material adverse effect on our or their business, operations and reputation.
We could incur impairment charges related to the carrying value of the long-lived assets and goodwill of our subsidiaries.
Our subsidiaries regularly evaluate their long-lived assets and goodwill for impairment whenever events or changes in
circumstances indicate the carrying value of these assets may not be recoverable. Most notably, we could incur impairment charges related to the carrying value of offshore drilling equipment at Diamond Offshore, pipeline and storage assets at
Boardwalk Pipeline and hotel properties owned by Loews Hotels.
In particular, Diamond Offshore is currently experiencing
declining demand for certain offshore drilling rigs as a result of excess rig supply in the industry and depressed market conditions. As a result, Diamond Offshore may incur additional asset impairments, rig retirements and/or rigs being scrapped.
We also test goodwill for impairment on an annual basis or when events or changes in circumstances indicate that a
potential impairment exists. Asset impairment evaluations by us and our subsidiaries with respect to both long-lived assets and goodwill are, by nature, highly subjective. The use of different estimates and assumptions could
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result in materially different carrying values of our assets which could impact the need to record an impairment charge and the amount of any charge taken.
We are a holding company and derive substantially all of our income and cash flow from our subsidiaries.
We rely upon our invested cash balances and distributions from our subsidiaries to generate the funds necessary to meet our
obligations and to declare and pay any dividends to holders of our common stock. Our subsidiaries are separate and independent legal entities and have no obligation, contingent or otherwise, to make funds available to us, whether in the form of
loans, dividends or otherwise. The ability of our subsidiaries to pay dividends is subject to, among other things, the availability of sufficient earnings and funds in such subsidiaries, applicable state laws, including in the case of the insurance
subsidiaries of CNA, laws and rules governing the payment of dividends by regulated insurance companies, and their compliance with covenants in their respective loan agreements. Claims of creditors of our subsidiaries will generally have priority as
to the assets of such subsidiaries over our claims and those of our creditors and shareholders.
We and our subsidiaries face
competition for senior executives and qualified specialized talent.
We and our subsidiaries depend on the
services of our key personnel, who possess skills critical to the operation of our and their businesses. Our and our subsidiaries executive management teams are highly experienced and possess extensive skills in their relevant industries. The
ability to retain senior executives and to attract and retain highly skilled professionals and personnel with specialized industry and technical experience is important to our and our subsidiaries success and future growth. Competition for
this talent can be intense, and we and our subsidiaries may not be successful in our efforts. The unexpected loss of the services of these individuals could have a detrimental effect on us and our subsidiaries and could hinder our and their ability
to effectively compete in the various industries in which we and they operate.
We could have liability in the future for
tobacco-related lawsuits.
As a result of our ownership of Lorillard, Inc. (Lorillard) prior to the
separation of Lorillard from us in 2008 (the Separation), from time to time we have been named as a defendant in tobacco-related lawsuits and could be named as a defendant in additional tobacco-related suits, notwithstanding the
completion of the Separation. In the Separation Agreement entered into between us and Lorillard and its subsidiaries in connection with the Separation, Lorillard and each of its subsidiaries has agreed to indemnify us for liabilities related to
Lorillards tobacco business, including liabilities that we may incur for current and future tobacco-related litigation against us. While we do not believe that we have any liability for tobacco-related claims, and we have never been held
liable for any such claims, an adverse decision in a tobacco-related lawsuit against us could, if the indemnification is deemed for any reason to be unenforceable or any amounts owed to us thereunder are not collectible, in whole or in part, have a
material adverse effect on us.
From time to time we and our subsidiaries are subject to litigation, for which we and they may be
unable to accurately assess the level of exposure and which if adversely determined, may have a significant adverse effect on our or their consolidated financial condition or results of operations.
We and our subsidiaries are or may become parties to legal proceedings and disputes. These matters may include, among others,
contract disputes, claims disputes, reinsurance disputes, personal injury claims, environmental claims or proceedings, asbestos and other toxic tort claims, employment and tax matters and other litigation incidental to our or their businesses.
Although our current assessment is that, other than as disclosed in this Report, there is no pending litigation that could have a significant adverse impact, it is difficult to predict the outcome or effect of any litigation matters and if our
assessment proves to be in error, then the outcome of litigation could have a significant impact on our financial statements.
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