Annual Reports

 
Other

DryShips 20-F 2011
Form 20-F
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

 

 

FORM 20-F

 

 

 

¨ REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR 12(g) OF THE SECURITIES EXCHANGE ACT OF 1934

OR

 

x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2010

OR

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from              to             

OR

 

¨ SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Date of event requiring this shell company report: Not applicable

Commission file number 001-33922

 

 

DRYSHIPS INC.

(Exact name of Registrant as specified in its charter)

 

 

 

(Translation of Registrant’s name into English)

Republic of the Marshall Islands

(Jurisdiction of incorporation or organization)

80 Kifissias Avenue

GR 15125 Amaroussion

Greece

(Address of principal executive offices)

Mr. George Economou

Tel: + 011 30 210-80 90-570, Fax: + 011 30 210 80 90 585

(Name, Telephone, E-mail and/or Facsimile number and Address of Company Contact Person)

Securities registered or to be registered pursuant to Section 12(b) of the Act:

 

Title of class

      

Name of exchange on which registered

Common stock, $0.01 par value      The Nasdaq Stock Market LLC
Preferred Stock Purchase Rights      The Nasdaq Stock Market LLC

Securities registered or to be registered pursuant to Section 12(g) of the Act: None

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act: None

Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report: As of December 31, 2010, there were 369,649,777 shares of the registrant’s common stock, $0.01 par value, outstanding.

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    x  Yes    ¨  No

If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.    ¨  Yes    x  No

Note—Checking the box above will not relieve any registrant required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 from their obligations under those Sections.

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    x  Yes    ¨  No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    ¨  Yes    ¨  No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See the definitions of accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer  x                    Accelerated filer  ¨                    Non-accelerated filer  ¨

Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:

 

US GAAP  x   

International Financial Reporting Standards as issued

by the International Accounting Standards Board  ¨

   Other  ¨

If “Other” has been checked in response to the previous question, indicate by check mark which financial statement item the registrant has elected to follow.    ¨   Item 17    ¨  Item 18

If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    ¨  Yes    x  No

 

 

 


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FORWARD-LOOKING STATEMENTS

DryShips Inc. (“DryShips” or the “Company”) desires to take advantage of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 and is including this cautionary statement in connection therewith. This document and any other written or oral statements made by the Company or on its behalf may include forward-looking statements, which reflect its current views with respect to future events and financial performance. This document includes assumptions, expectations, projections, intentions and beliefs about future events. These statements are intended as “forward-looking statements.” We caution that assumptions, expectations, projections, intentions and beliefs about future events may and often do vary from actual results and the differences can be material. When used in this document, the words “anticipate,” “estimate,” “project,” “forecast,” “plan,” “potential,” “may,” “should,” and “expect” reflect forward-looking statements.

Please note in this annual report, “we,” “us,” “our,” “DryShips” and “the Company,” all refer to DryShips Inc. and its subsidiaries, unless otherwise stated.

All statements in this document that are not statements of historical fact are forward-looking statements. Forward-looking statements include, but are not limited to, such matters as:

 

   

future operating or financial results;

 

   

statements about planned, pending or recent acquisitions, business strategy and expected capital spending or operating expenses, including drydocking and insurance costs;

 

   

our ability to enter into new contracts for our drilling rigs and drillships and future utilization rates and contract rates for drilling rigs and drillships;

 

   

future capital expenditures and investments in the construction, acquisition and refurbishment of drilling rigs and drillships (including the amount and nature thereof and the timing of completion thereof);

 

   

statements about drybulk shipping market trends, including charter rates and factors affecting supply and demand;

 

   

our ability to obtain additional financing;

 

   

expectations regarding the availability of vessel acquisitions; and

 

   

anticipated developments with respect to pending litigation.

The forward-looking statements in this document are based upon various assumptions, many of which are based, in turn, upon further assumptions, including without limitation, management’s examination of historical operating trends, data contained in our records and other data available from third parties. Although we believe that these assumptions were reasonable when made, because these assumptions are inherently subject to significant uncertainties and contingencies which are difficult or impossible to predict and are beyond our control, we cannot assure you that it will achieve or accomplish these expectations, beliefs or projections described in the forward-looking statements contained in this annual report.

Important factors that, in our view, could cause actual results to differ materially from those discussed in the forward-looking statements include the strength of world economies and currencies, general market conditions, including changes in charter rates and drybulk vessel, drilling rig, drillship and tanker values, failure of a seller to deliver one or more drilling rigs, drillships, drybulk or tanker vessels, failure of a buyer to accept delivery of a drilling rig, drillship, or vessel, inability to procure acquisition financing, default by one or more charterers of our ships, changes in demand for drybulk commodities, oil or petroleum products, changes in demand that may affect attitudes of time charterers, scheduled and unscheduled drydocking, changes in our voyage and operating expenses, including bunker prices, dry-docking and insurance costs, changes in governmental rules and regulations, potential liability from pending or future litigation, domestic and international political conditions, potential disruption of shipping routes due to accidents, international hostilities and political events or acts by terrorists.

 

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TABLE OF CONTENTS

 

PART I       
Item 1    Identity of Directors, Senior Management and Advisers      1   
Item 2    Offer Statistics and Expected Timetable      1   
Item 3    Key Information      1   
Item 4    Information on the Company      40   
Item 4A    Unresolved Staff Comments      66   
Item 5    Operating and Financial Review and Prospects      66   
Item 6    Directors and Senior Management      104   
Item 7    Major Shareholders and Related Party Transactions      110   
Item 8    Financial Information      115   
Item 9    The Offer and Listing      117   
Item 10    Additional Information      118   
Item 11    Quantitative and Qualitative Disclosures about Market Risk      127   
Item 12    Description of Securities Other than Equity Securities      129   
PART II      
Item 13    Defaults, Dividend Arrearages and Delinquencies      129   
Item 14    Material Modifications to the Rights of Security Holders and Use of Proceeds      129   
Item 15    Controls and Procedures      129   
Item 16A    Audit Committee Financial Expert      130   
Item 16B    Code of Ethics      131   
Item 16C    Principal Accountant Fees and Services      131   
Item 16D    Exemptions from the Listing Standards for Audit Committees      131   
Item 16E    Purchases of Equity Securities by the Issuer and Affiliated Purchasers      131   
Item 16F    Changes in Registrant’s Certifying Accountant      131   
Item 16G    Corporate Governance      132   
PART III      
Item 17    Financial Statements      132   
Item 18    Financial Statements      132   
Item 19    Exhibits      133   

 

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PART I.

 

Item 1. Identity of Directors, Senior Management and Advisers

Not Applicable.

 

Item 2. Offer Statistics and Expected Timetable

Not Applicable.

 

Item 3. Key Information

A. Selected Financial Data

The following table sets forth our selected consolidated financial data and other operating data as of and for the years ended December 31, 2006, 2007, 2008, 2009 and 2010. The following information should be read in conjunction with “Item 5. Operating and Financial Review and Prospects” and the consolidated financial statements and related notes included herein. The following selected consolidated financial data is derived from our audited consolidated financial statements and the notes thereto which have been prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”). As a result of the restatement, interest and finance costs, loss before income taxes and equity in loss of investee, net loss, net loss attributable to Dryships Inc., net loss attributable to common stockholders, loss per common share attributable to Dryships Inc. common stockholders, basic and diluted, total assets, stockholders’ equity, net cash provided by operating activities, net cash used in investing activities have been restated. See Note 1b to the consolidated financial statements.

3. A (i) STATEMENT OF OPERATIONS

 

(In thousands of Dollars   Year Ended December 31,  
except per share and share data)   2006     2007     2008     2009     2010  
                      (As restated)        

STATEMENT OF OPERATIONS

         

Revenues

  $ 248,431      $ 582,561      $ 1,080,702      $ 819,834      $ 859,745   

Loss on forward freight agreements

    22,473        —          —          —       

Voyage expenses

    15,965        31,647        53,172        28,779        27,433   

Vessels and drilling rigs operating expenses

    54,164        63,225        165,891        201,887        190,614   

Depreciation and amortization

    58,011        76,511        157,979        196,309        192,891   

Gain on sale of assets, net

    (8,845     (137,694     (223,022     (2,045     (9,435

Gain on contract cancellation

    —          —          (9,098     (15,270     —     

Contract termination fees and forfeiture of vessels deposits

    —          —          160,000        259,459        —     

Vessel impairment charge

    —          —          —          1,578        3,588   

Goodwill impairment charge

    —          —          700,457        —          —     

General and administrative expenses - cash(1)

    12,540        17,072        57,856        52,753        63,064   

General and administrative expenses - non-cash

    —          —          31,502        38,070        24,200   
                                       

Operating income/(loss)

    94,123        531,800        (14,035     58,314        367,390   

Interest and finance costs

    (42,392     (51,231     (113,194     (84,430     (67,825

Interest income

    1,691        5,073        13,085        10,414        21,866   

Gain/(loss) on interest rate swaps

    676        (3,981     (207,936     23,160        (120,505

Other, net

    214        (3,037     (12,640     (6,692     9,960   
                                       

Income/(loss) before income taxes and equity in loss of investee

    54,312        478,624        (334,720     766        210,866   

Income taxes

    —          —          (2,844     (12,797     (20,436

Equity in loss of investee

    —          (299     (6,893     —       
                                       

Net Income/(loss)

    54,312        478,325        (344,457     (12,031     190,450   

Less: Net income attribute to non controlling interests

    —          —          (16,825     (7,178     (2,123
                                       

Net income/(Loss) attributable to Dryships Inc.

    54,312        478,325        (361,282     (19,209     188,327   
                                       

Net Income/ (Loss) attributable to common stockholders

    54,312        478,325        (361,809     (26,706     172,564   

Earnings/(loss) per common share attributable to Dryships Inc. common stockholders, basic

  $ 1.68      $ 13.40      $ (8.11   $ (0.13   $ 0.64   
                                       

Weighted average number of common shares, basic

    32,348,194        35,700,182        44,598,585        209,331,737        268,858,688   

Earning / (loss) per common share attributable to Dryships Inc. common stockholders, diluted

  $ 1.68      $ 13.40      $ (8.11   $ (0.13   $ 0.61   

Weighted average number at common shares, diluted

    32,348,194        35,700,182        44,598,585        209,331,737        305,425,852   

Dividends declared per share

  $ 0.80      $ 0.80      $ 0.80      $ —          —     

 

(1) Cash compensation to members of our senior management and our directors amounted to $1.4 million, $1.5 million, $9.7 million, $5.3 million and $11.8 million for the years ended December 31, 2006, 2007, 2008, 2009 and 2010, respectively.

 

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3.A.(ii) BALANCE SHEET AND OTHER FINANCIAL DATA

 

(In thousands of Dollars   As of and for the
Year Ended December 31,
 
except per share and share data and fleet data)   2006     2007     2008     2009     2010  
                      (As restated)        

Current assets

  $ 25,875      $ 153,035      $ 720,427      $ 1,180,650      $ 1,065,110   

Total assets

    1,161,973        2,344,432        4,842,680        5,806,995        6,984,494   

Current liabilities, including current portion of long-term debt

    129,344        239,304        2,525,048        1,896,023        935,435   

Total long-term debt, including current portion

    658,742        1,243,778        3,158,870        2,684,684        2,719,692   

Common stock

    355        367        706        2,803        3,696   

Number of shares outstanding

    35,490,097        36,681,097        70,600,000        280,326,271        369,649,777   

Stockholders’ equity

    444,692        1,021,729        1,291,572        2,812,542        3,363,253   

OTHER FINANCIAL DATA

         

Net cash provided by operating activities

    99,082        407,899        540,129        294,124        477,801   

Net cash used in investing activities

    (287,512     (955,749     (2,110,852     (169,950     (1,680,748

Net cash provided by financing activities

    185,783        656,381        1,762,769        265,881        901,308   

EBITDA (1)

    153,024        600,994        (100,350     263,913        447,613   

DRYBULK FLEET DATA:

         

Average number of vessels (2)

    29.76        33.67        38.56        38.12        37.21   

Total voyage days for drybulk carrier fleet (3)

    10,606        12,130        13,896        13,660        13,372   

Total calendar days for drybulk carrier fleet (4)

    10,859        12,288        14,114        13,914        13,583   

Drybulk carrier fleet utilization (5)

    97.70     98.71     98.46     98.17     98.45

(In Dollars)

         

AVERAGE DAILY RESULTS

         

Time charter equivalent (6)

    21,918        45,417        58,155        30,425        32,184   

Vessel operating expenses (7)

    4,988        5,145        5,644        5,434        5,245   

DRILLING RIG FLEET DATA:

         

Average number of drilling rigs (2)

    —          —          2.0        2.0        2.0   

Total voyage days for drilling rig fleet (3)

    —          —          410        695        677   

Total calendar days for drilling rig fleet (4)

    —          —          462        730        730   

 

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(In thousands of Dollars    As of and for the
Year Ended December 31,
 
except per share and share data and fleet data)    2006      2007      2008     2009     2010  

Drilling rig fleet utilization (5)

     —          —          88.66     95.25     92.72

(In Dollars)

            

AVERAGE DAILY RESULTS

            

Rig operating expenses (7)

     —           —           181,821        192,988        177,361   

 

(1) EBITDA represents net income before interest, taxes, depreciation and amortization. EBITDA does not represent and should not be considered as an alternative to net income or cash flow from operations, as determined by U.S. GAAP and our calculation of EBITDA may not be comparable to that reported by other companies. EBITDA is included herein because it is a basis upon which the Company measures its operations and efficiency.
(2) Average number of vessels is the number of vessels that constituted the respective fleet for the relevant period, as measured by the sum of the number of days each vessel in that fleet was a part of the fleet during the period divided by the number of calendar days in that period.
(3) Total voyage days for the respective fleet are the total days the vessels in that fleet were in the Company’s possession for the relevant period net of off-hire days associated with major repairs, drydockings or special or intermediate surveys.
(4) Calendar days are the total days the vessels in that fleet were in the Company’s possession for the relevant period including off-hire days associated with major repairs, drydockings or special or intermediate surveys.
(5) Fleet utilization is the percentage of time that the vessels in that fleet were available for revenue-generating voyage days, and is determined by dividing voyage days by fleet calendar days for the relevant period.
(6) Time charter equivalent (“TCE”) is a measure of the average daily revenue performance of a vessel on a per voyage basis. The Company’s method of calculating TCE is determined by dividing voyage revenues (net of voyage expenses) by voyage days for the relevant time period. Voyage expenses primarily consist of port, canal and fuel costs that are unique to a particular voyage, which would otherwise be paid by the charterer under a time charter contract, as well as commissions. TCE revenues, a non-U.S. GAAP measure, provides additional meaningful information in conjunction with revenues from our vessels, the most directly comparable U.S. GAAP measure, because it assists Company’s management in making decisions regarding the deployment and use of its vessels and in evaluating their financial performance. TCE is also a standard shipping industry performance measure used primarily to compare period-to-period changes in a shipping company’s performance despite changes in the mix of charter types (i.e., spot charters, time charters and bareboat charters) under which the vessels may be employed between the periods. The following table reflects the calculation of our TCE rates for the periods presented.
(7) Daily vessel/rig operating expenses, which includes crew costs, provisions, deck and engine stores, lubricating oil, insurance, maintenance and repairs, is calculated by dividing vessel/rig operating expenses by drybulk carrier/drilling rig fleet calendar days for the relevant time period.

 

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     For the
Year Ended December 31,
 
(Dollars in thousands)    2006     2007     2008     2009     2010  
                       (As restated)        

Net income/(loss) attributable to Dryships Inc.

     54,312        478,325        (361,282     (19,209     188,327   

Add: Net interest expense

     40,701        46,158        100,109        74,016        45,959   

Add: Depreciation and amortization

     58,011        76,511        157,979        196,309        192,891   

Add: Income taxes

     —          —          2,844        12,797        20,436   

EBITDA

     153,024        600,994        (100,350     263,913        447,613   
Drybulk Carrier Segment    Year Ended December 31,  
(In thousands of Dollars, except for TCE rates, which are expressed in Dollars and voyage
days)
   2006     2007     2008     2009     2010  

Voyage revenues

     248,431        582,561        861,296        444,385        457,804   

Voyage expenses

     (15,965     (31,647     (53,172     (28,779     (27,433
                                        

Time charter equivalent revenues

     232,466        550,914        808,124        415,606        430,371   
                                        

Total voyage days for drybulk fleet

     10,606        12,130        13,896        13,660        13,372   
                                        

Time charter equivalent (TCE) rate

     21,918        45,417        58,155        30,425        32,184   
                                        

 

Drilling Rig Carrier Segment    Year Ended December 31,  
(In thousands of Dollars)    2008     2009     2010  

Revenue from drilling contracts

     219,406        375,449        401,941   

Drilling rig operating expenses

     (86,180     (126,282     (119,369
                        
     133,226        249,167        282,572   
                        

Total employment days for drilling rigs

     410        695        677   

B. Capitalization and Indebtedness

Not Applicable.

C. Reasons for the Offer and Use of Proceeds

Not Applicable.

D. Risk factors

Some of the following risks relate principally to the industries in which we operate and our business in general. Other risks relate principally to the securities market and ownership of our common stock. The occurrence of any of the events described in this section could significantly and negatively affect our business, financial condition, operating results, cash flows or our ability to pay dividends, if any, in the future, or the trading price of our common stock.

 

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International Drybulk Shipping Industry Specific Risk Factors

While the drybulk carrier charter market has recently strengthened, it remains significantly below the high in 2008, which has adversely affected our revenues, earnings and profitability and our ability to comply with our loan covenants.

The drybulk shipping industry is cyclical with attendant volatility in charter hire rates and profitability. For example, the degree of charter hire rate volatility among different types of drybulk carriers has varied widely. The Baltic Drybulk Index, or BDI, declined from a high of 11,793 in May 2008 to a low of 663 in December 2008, which represents a decline of 94%. Over the comparable period of May through December 2008, the high and low of the Baltic Panamax Index and the Baltic Capesize Index represent a decline of 96% and 99%, respectively. During 2009 the BDI increased from a low of 772 and reached a high of 4,661 in November of 2009. In 2010, the BDI increased from 3,235 in January 2010 to a high of 4,209 in May 2010 and subsequently decreased to a low of 1,700 in July 2010. Following a short period of increase in the third quarter of 2010, the BDI fell to near July 2010 levels at the end of 2010. The BDI has further decreased in 2011 to 1,376 , as of April 12, 2011. The decline and volatility in charter rates has been due to various factors, including the lack of trade financing for purchases of commodities carried by sea, which had resulted in a significant decline in cargo shipments. In 2009 Chinese iron ore imports increased by 41% compared to 2008 and coal imports rose by 210% in the same period. The decline and volatility in charter rates in the drybulk market also affects the value of our drybulk vessels, which follows the trends of drybulk charter rates, and earnings on our charters, and similarly, affects our cash flows, liquidity and compliance with the covenants contained in our loan agreements.

We employed 30 of the 35 vessels in our drybulk carrier fleet on time charters and one vessel on bareboat charter at fixed rates and five vessels in the spot market as of April 12, 2011. Three of our drybulk carriers are employed on short term (spot) charters to Korea Lines Corporation, which has entered into a rehabilitation proceeding under the protection of the Korean Courts. See Item 4.B “Business Overview - Recent Developments.” If low charter rates in the drybulk market decline further for any significant period, this would have an adverse effect on our vessel values and our ability to comply with the financial covenants in our loan agreements. In such a situation, unless our lenders were willing to provide waivers of covenant compliance or modifications to our covenants, our lenders could accelerate our debt and we could face the loss of our vessels.

We may not be able to successfully charter our vessels in the future or renew existing charters at rates sufficient to allow us to meet our obligations. Because the factors affecting the supply and demand for vessels are outside of our control and are unpredictable, the nature, timing, direction and degree of changes in industry conditions are also unpredictable.

Factors that influence demand for vessel capacity include:

 

   

supply and demand for energy resources, commodities, semi-finished and finished consumer and industrial products;

 

   

changes in the exploration or production of energy resources, commodities, semi-finished and finished consumer and industrial products;

 

   

the location of regional and global exploration, production and manufacturing facilities;

 

   

the location of consuming regions for energy resources, commodities, semi-finished and finished consumer and industrial products;

 

   

the globalization of production and manufacturing;

 

   

global and regional economic and political conditions, including armed conflicts, terrorist activities, embargoes and strikes;

 

   

developments in international trade;

 

   

changes in seaborne and other transportation patterns, including the distance cargo is transported by sea;

 

   

environmental and other regulatory developments;

 

   

currency exchange rates; and

 

   

weather.

 

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The factors that influence the supply of vessel capacity include:

 

   

the number of newbuilding deliveries;

 

   

port and canal congestion;

 

   

the scrapping rate of older vessels;

 

   

vessel casualties; and

 

   

the number of vessels that are out of service.

We anticipate that the future demand for our drybulk carriers will be dependent upon continued economic growth in the world’s economies, including China and India, seasonal and regional changes in demand, changes in the capacity of the global drybulk carrier fleet and the sources and supply of drybulk cargoes to be transported by sea. The capacity of the global drybulk carrier fleet seems likely to increase and economic growth may not continue. Adverse economic, political, social or other developments could have a material adverse effect on our business and operating results.

An over-supply of drybulk carrier capacity may lead to reductions in charter hire rates and profitability.

The market supply of drybulk carriers has been increasing, and the number of drybulk carriers on order is near historic highs. These newbuildings were delivered in significant numbers starting at the beginning of 2006 and through 2009. As of April 12, 2011, newbuilding orders had been placed for an aggregate of more than 49.4% of the existing global drybulk fleet, with deliveries expected during the next three years. An over-supply of drybulk carrier capacity may result in a reduction of charter hire rates. If such a reduction occurs, upon the expiration or termination of our vessels’ current charters we may only be able to re-charter our vessels at reduced or unprofitable rates or we may not be able to charter these vessels at all.

The market values of our vessels may decrease, which could limit the amount of funds that we can borrow or trigger certain financial covenants under our current or future credit facilities and or we may incur a loss if we sell vessels following a decline in their market value.

The fair market values of our vessels are related to prevailing freight charter rates. While the fair market value of vessels and the freight charter market have a very close relationship as the charter market moves from trough to peak, the time lag between the effect of charter rates on market values of ships can vary.

The fair market value of our vessels may increase and decrease depending on a number of factors including:

 

   

prevailing level of charter rates;

 

   

general economic and market conditions affecting the shipping industry;

 

   

types and sizes of vessels;

 

   

supply and demand for vessels;

 

   

other modes of transportation;

 

   

cost of newbuildings;

 

   

governmental and other regulations; and

 

   

technological advances.

In addition, as vessels grow older, they generally decline in value. If the fair market value of our vessels declines, we may not be in compliance with certain provisions of our credit facilities, and our lenders could accelerate our indebtedness or require us to pay down our indebtedness to a level where we are again in compliance with our loan covenants. If our indebtedness is accelerated, we may not be able to refinance our debt or obtain additional financing. In addition, if we sell one or more of our vessels at a time when vessel prices have fallen and before we have recorded an impairment adjustment to our consolidated financial statements, the sale may be less than the vessel’s carrying value on our consolidated financial statements, resulting in a loss and a reduction in earnings. Furthermore, if vessel values fall significantly we may have to record an impairment adjustment in our financial statements which could adversely affect our financial results.

 

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An economic slowdown in the Asia Pacific region could exacerbate the effect of recent slowdowns in the economies of the European Union and may have a material adverse effect on our business, financial condition and results of operations.

We anticipate a significant number of the port calls made by our vessels will continue to involve the loading or discharging of drybulk commodities in ports in the Asia Pacific region. As a result, any negative changes in economic conditions in any Asia Pacific country, particularly in China, may exacerbate the effect of recent slowdowns in the economies of the European Union and may have a material adverse effect on our business, financial condition and results of operations, as well as our future prospects. Before the global economic financial crisis that began in 2008, China had one of the world’s fastest growing economies in terms of gross domestic product (“GDP”) which had a significant impact on shipping demand. While the growth rate of China’s GDP increased to approximately 10.3% for the year ended December 31, 2010, as compared to approximately 9.1% for the year ended December 31, 2009, the Chinese GDP growth rate remains below pre-2008 levels. China has recently imposed measures to restrain lending, which may further contribute to a slowdown in its economic growth. It is possible that China and other countries in the Asia Pacific region will continue to experience slowed or even negative economic growth in the near future. Moreover, the current economic slowdown in the economies of the European Union and other Asian countries may further adversely affect economic growth in China and elsewhere. Our business, financial condition and results of operations, ability to pay dividends as well as our future prospects, will likely be materially and adversely affected by a further economic downturn in any of these countries.

The earthquake and resulting tsunami and nuclear power plant crisis that struck Japan in March 2011 could, in the near term, reduce drybulk trade to and from Japan, affect global charter rates and adversely affect our business.

In March 2011, a severe earthquake struck northern Japan. The earthquake created a severe tsunami, the effects of which were felt in Japan and other countries along the eastern cost of Asia and across the Pacific Ocean. In addition, the earthquake and resulting tsunami have caused several nuclear power plants located in Japan to fail and emit radiation which possibly could result in meltdowns that could have catastrophic effects. The full effect of these disasters, both on the Japanese and global economies and the environment, are not currently known, and may not be known for a significant period of time. These disasters will likely result in less drybulk trade to and from Japan, in the short term, and could reduce charter rates globally in the short term. In addition, there can be no assurances that vessels trading in the Pacific may not be impacted by the possible effects of spreading radiation. These disasters and the resulting economic effects, both in the region and globally, could have an adverse effect on our business and results of operations.

Changes in the economic and political environment in China and policies adopted by the government to regulate its economy may have a material adverse effect on our business, financial condition and results of operations.

The Chinese economy differs from the economies of most countries belonging to the Organization for Economic Cooperation and Development in such respects as structure, government involvement, level of development, growth rate, capital reinvestment, allocation of resources, rate of inflation and balance of payments position. Prior to 1978, the Chinese economy was a planned economy. Since 1978, increasing emphasis has been placed on the utilization of market forces in the development of the Chinese economy. Annual and five-year state plans are adopted by the Chinese government in connection with the development of the economy. Although state-owned enterprises still account for a substantial portion of the Chinese industrial output, in general, the Chinese government is reducing the level of direct control that it exercises over the economy through state plans and other measures. There is an increasing level of freedom and autonomy in areas such as allocation of resources, production, pricing and management and a gradual shift in emphasis to a “market economy” and enterprise reform. Limited price reforms were undertaken with the result that prices for certain commodities are principally determined by market forces. Many of the reforms are unprecedented or experimental and may be subject to revision, change or abolition based upon the outcome of such experiments. If the Chinese government does not continue to pursue a policy of economic reform, the level of imports to and exports from China could be adversely affected by changes to these economic reforms by the Chinese government, as well as by changes in political, economic and social conditions or other relevant policies of the Chinese government, such as changes in laws, regulations or export and import restrictions, all of which could adversely affect our business, operating results and financial condition.

Disruptions in world financial markets and the resulting governmental action in the United States and in other parts of the world could have a further material adverse impact on our results of operations, financial condition and cash flows, and could cause the market price of our common stock to further decline.

Recently, the United States and other parts of the world have exhibited weak economic conditions and were in a recession. For example, the credit markets in the United States have experienced significant contraction, de-leveraging and reduced liquidity, and the

 

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United States federal government and state governments have implemented and are considering a broad variety of governmental action and/or new regulation of the financial markets. Securities and futures markets and the credit markets are subject to comprehensive statutes, regulations and other requirements. The U.S. Securities and Exchange Commission (the “SEC”), other regulators, self-regulatory organizations and exchanges are authorized to take extraordinary actions in the event of market emergencies, and may effect changes in law or interpretations of existing laws.

The uncertainty surrounding the future of the credit markets in the United States and the rest of the world has resulted in reduced access to credit worldwide. As of December 31, 2010, we had total long term gross debt outstanding of $2.9 billion, of which $2.2 billion represents secured bank debt and $0.7 billion represents unsecured convertible bonds.

We face risks attendant to changes in economic environments, changes in interest rates, and instability in the banking and securities markets around the world, among other factors. Major market disruptions and the current adverse changes in market conditions and regulatory climate in the United States and worldwide may adversely affect our business or impair our ability to borrow amounts under our credit facilities or any future financial arrangements. We cannot predict how long the current market conditions will last. However, these recent and developing economic and governmental factors, together with the concurrent decline in charter rates and vessel values, may have a material adverse effect on our results of operations, financial condition or cash flows, have caused the price of our common stock on the NASDAQ Global Select Market to decline and could cause the price of our common stock to decline further.

Acts of piracy on ocean-going vessels have recently increased in frequency, which could adversely affect our business.

Acts of piracy have historically affected ocean-going vessels trading in regions of the world such as the South China Sea and in the Gulf of Aden off the coast of Somalia. Throughout 2008 and 2009, the frequency of piracy incidents increased significantly, particularly in the Gulf of Aden. For example, in November 2008, the MV Sirius Star, a tanker vessel not affiliated with us, was captured by pirates in the Indian Ocean while carrying crude oil estimated to be worth $100 million and was released in January 2009 upon a ransom payment of $3 million. In February 2009, the vessel MV Saldanha, which is owned by our subsidiary, Team-Up Owning Company Limited, was seized by pirates while transporting coal through the Gulf of Aden. In April 2009, the Maersk Alabama, a 17,000-ton containership not affiliated with us, was seized by Somali pirates. Both of these ships were later released. If these piracy attacks result in regions in which our vessels are deployed being characterized by insurers as “war risk” zones, as the Gulf of Aden temporarily was in May 2008, or Joint War Committee “war and strikes” listed areas, premiums payable for such insurance coverage could increase significantly and such insurance coverage may be more difficult to obtain. Crew costs, including those due to employing onboard security guards, could increase in such circumstances. In addition, while we believe the charterer remains liable for charter payments when a vessel is seized by pirates, the charterer may dispute this and withhold charter hire until the vessel is released. A charterer may also claim that a vessel seized by pirates was not “on-hire” for a certain number of days and it is therefore entitled to cancel the charter party, a claim that we would dispute. We may not be adequately insured to cover losses from these incidents, which could have a material adverse effect on us. In addition, detention hijacking as a result of an act of piracy against our vessels, or an increase in cost, or unavailability of insurance for our vessels, could have a material adverse impact on our business, financial condition, results of operations and cash flows.

The U.S. government recently imposed legislation concerning the deteriorating situation in Somalia, including acts of piracy offshore Somalia. On April 13, 2010, the President of the United States issued an Executive Order, which we refer to as the Order, prohibiting, among other things, the payment of monies to or for the benefit of individuals and entities on the list of Specially Designated Nationals (“SDNs”) published by U.S. Department of the Treasury’s Office of Foreign Assets Control. Certain individuals associated with piracy offshore Somalia are currently designated persons under the SDN list. The Order is applicable only to payments by U.S. persons and not by foreign entities such as DryShips Inc. Notwithstanding this fact, it is possible that the Order, and the regulations promulgated thereunder, may affect foreign private issuers to the extent that such foreign private issuers provide monies, such as ransom payments to secure the release of crews and ships in the event of detention hijackings, to any SDN for which they seek reimbursement from a U.S. insurance carrier. While additional regulations relating to the Order may be promulgated by the U.S. government in the future, we cannot predict what effect these regulations may have on our operations.

World events could affect our results of operations and financial condition.

Terrorist attacks such as those in New York on September 11, 2001, in Spain on March 11, 2004, in London on July 7, 2005 and in Mumbai in 2008 and the continuing response of the United States to these attacks, as well as the threat of future terrorist attacks in the United States or elsewhere, continues to cause uncertainty in the world’s financial markets and may affect our business, operating results and financial condition. The continuing conflicts in Afghanistan and Iraq may lead to additional acts of terrorism and armed conflict around the world, which may contribute to further economic instability in the global financial markets. These

 

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uncertainties could also adversely affect our ability to obtain additional financing on terms acceptable to us or at all. In the past, political conflicts have also resulted in attacks on vessels, mining of waterways and other efforts to disrupt international shipping, particularly in the Arabian Gulf region. Acts of terrorism and piracy have also affected vessels trading in regions such as the South China Sea. Any of these occurrences could have a material adverse impact on our operating results, revenues and costs.

Terrorist attacks on vessels, such as the October 2002 attack on the VLCC Limburg, a vessel not related to us, may in the future also negatively affect our operations and financial condition and directly impact our vessels or our customers. Future terrorist attacks could result in increased volatility of the financial markets in the United States and globally and may impact the economic recession in the United States and other countries. Any of these occurrences could have a material adverse impact on our revenues and costs.

Our revenues are subject to seasonal fluctuations, which could affect our operating results and our ability to pay dividends, if any, in the future.

We operate our vessels in markets that have historically exhibited seasonal variations in demand and, as a result, in charter hire rates. This seasonality may result in quarter-to-quarter volatility in our operating results, which could affect our ability to pay dividends, if any, in the future from quarter to quarter. The drybulk carrier market is typically stronger in the fall and winter months in anticipation of increased consumption of coal and other raw materials in the northern hemisphere during the winter months. In addition, unpredictable weather patterns in these months tend to disrupt vessel scheduling and supplies of certain commodities. As a result, our revenues have historically been weaker during the fiscal quarters ended June 30 and September 30, and, conversely, our revenues have historically been stronger in fiscal quarters ended December 31 and March 31. This seasonality may adversely affect our operating results and our ability to pay dividends, if any, in the future.

Rising fuel prices may adversely affect our profits.

While we do not directly bear the cost of fuel or bunkers under our time and bareboat charters, fuel is a significant, if not the largest, expense in our shipping operations when vessels are under spot charter. Changes in the price of fuel may adversely affect our profitability. The price and supply of fuel is unpredictable and fluctuates based on events outside our control, including geopolitical developments, supply and demand for oil and gas, actions by the Organization of Petroleum Exporting Countries (“OPEC”) and other oil and gas producers, war and unrest in oil producing countries and regions, regional production patterns and environmental concerns. Further, fuel may become much more expensive in the future, which may reduce the profitability and competitiveness of our business versus other forms of transportation, such as truck or rail.

We are subject to international safety regulations and the failure to comply with these regulations may subject us to increased liability, may adversely affect our insurance coverage and may result in our vessels being denied access to, or detained in, certain ports.

Our business and the operation of our drybulk vessels and tankers are materially affected by government regulation in the form of international conventions, national, state and local laws and regulations in force in the jurisdictions in which the vessels operate, as well as in the country or countries of their registration. Because such conventions, laws, and regulations are often revised, we cannot predict the ultimate cost of complying with such conventions, laws and regulations or the impact thereof on the resale prices or useful lives of our vessels. Additional conventions, laws and regulations may be adopted which could limit our ability to do business or increase the cost of our doing business and which may materially adversely affect our operations. We are required by various governmental and quasi governmental agencies to obtain certain permits, licenses, certificates, and financial assurances with respect to our operations.

In addition, vessel classification societies also impose significant safety and other requirements on our vessels. In complying with current and future environmental requirements, vessel-owners and operators may also incur significant additional costs in meeting new maintenance and inspection requirements, in developing contingency arrangements for potential spills and in obtaining insurance coverage. Government regulation of vessels, particularly in the areas of safety and environmental requirements, can be expected to become stricter in the future and require us to incur significant capital expenditures on our vessels to keep them in compliance.

The operation of our vessels is also affected by the requirements set forth in the United Nations’ International Maritime Organization’s (the “IMO’s”) International Management Code for the Safe Operation of Ships and Pollution Prevention (the “ISM Code”). The ISM Code requires shipowners, ship managers and bareboat charterers to develop and maintain an extensive “Safety Management System” that includes the adoption of a safety and environmental protection policy setting forth instructions and procedures for safe operation and describing procedures for dealing with emergencies. Each of the vessels that has been delivered to us is ISM Code-certified and we expect that any vessels that we acquire in the future will be ISM Code-certified when delivered to us. The failure of a shipowner or bareboat charterer to comply with the ISM Code may subject it to increased liability, may invalidate

 

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existing insurance or decrease available insurance coverage for the affected vessels and may result in a denial of access to, or detention in, certain ports. If we are subject to increased liability for non-compliance or if our insurance coverage is adversely impacted as a result of non-compliance, it may negatively affect our ability to pay dividends, if any, in the future. If any of our vessels are denied access to, or are detained in, certain ports, this may decrease our revenues.

We are subject to complex laws and regulations, including environmental regulations that can adversely affect the cost, manner or feasibility of doing business.

Our operations are subject to numerous laws and regulations in the form of international conventions and treaties, national, state and local laws and national and international regulations in force in the jurisdictions in which our drybulk and tanker vessels operate or are registered, which can significantly affect the ownership and operation of those vessels. These requirements include, but are not limited to, the International Convention on Civil Liability for Oil Pollution Damage of 1969, the International Convention for the Prevention of Pollution from Ships of 1975, the International Convention for the Prevention of Marine Pollution of 1973, the International Convention for the Safety of Life at Sea of 1974, the International Convention on Load Lines of 1966, the U.S. Oil Pollution Act of 1990 (“OPA”) the U.S. Clean Air Act, the U.S. Clean Water Act and the U.S. Marine Transportation Security Act of 2002. Compliance with such laws, regulations and standards, where applicable, may require installation of costly equipment or operational changes and may affect the resale value or useful lives of our vessels. We may also incur additional costs in order to comply with other existing and future regulatory obligations, including, but not limited to, costs relating to air emissions, the management of ballast waters, maintenance and inspection, elimination of tin-based paint, development and implementation of emergency procedures and insurance coverage or other financial assurance of our ability to address pollution incidents. These costs could have a material adverse effect on our business, results of operations, cash flows and financial condition. A failure to comply with applicable laws and regulations may result in administrative and civil penalties, criminal sanctions or the suspension or termination of our operations. Environmental laws often impose strict liability for remediation of spills and releases of oil and hazardous substances, which could subject us to liability without regard to whether we were negligent or at fault. Under OPA, for example, owners, operators and bareboat charterers are jointly and severally strictly liable for the discharge of oil within the 200-mile exclusive economic zone around the United States. An oil spill could result in significant liability, including fines, penalties and criminal liability and remediation costs for natural resource damages under other federal, state and local laws, as well as third-party damages. The April 2010 Deepwater Horizon oil spill in the Gulf of Mexico may also result in additional laws or regulatory initiatives, including the raising of liability caps under OPA that may affect our operations or require us to incur additional expenses to comply with such regulatory initiatives. We are required to satisfy insurance and financial responsibility requirements for potential oil (including marine fuel) spills and other pollution incidents.

TMS Bulkers Ltd. (“TMS Bulkers”), managers of the MV Oliva, one of our Panamax drybulk carriers, reported that on March 16, 2011, the vessel ran aground at Nightingale Island, which is part of the “Tristan Da Cunha” group of islands in the South Atlantic Ocean. At the time of the incident the vessel was on its way from Santos, Brazil to China, loaded with 65,266 metric tons of soya beans. The following day the vessel broke in two. Both the vessel and the cargo are lost and are considered to be actual total losses for insurance purposes. In addition, bunkers leaked from the damaged hull, which has affected the local birdlife and marine environment. There were no injuries to the 22 crew members on board.

TMS Bulkers activated its Emergency Response Plan and has deployed all appropriate resources in close cooperation with the local authorities to mitigate the damage arising from this accident. That response has included the attendance of a large local vessel, which was joined a few days later by a salvage tug with appropriate equipment for bird rehabilitation and oil clean-up operations, as well as salvage operations. A second tug and a small general cargo vessel also have been chartered to deliver additional equipment and a team of specialists from The Southern African Foundation for the Conservation of Coastal Birds (the “SANCCOB”). Oil pollution experts International Tanker Operators Pollution Federation (“ITOPF”) have been coordinating the response to the casualty, in conjunction with TMS Bulkers and the vessel’s Protection & Indemnity liability insurers (Gard). The vessel’s hull was fully insured and the Hull & Machinery insurers were notified of the loss.

We and our liability insurers are in the process of determining the potential liabilities arising from the accident and the amounts involved. We anticipate that the majority of its costs and losses will be covered by our insurance.

Although we have arranged insurance to cover certain environmental risks, such insurance may not be sufficient to cover all such risks. As a result, claims against us, including claims that may be made against us as a result of the grounding of the vessel MV Oliva described above, could result in a material adverse effect on our business, results of operations, cash flows and financial condition and our ability to pay dividends, if any, in the future.

Increased inspection procedures and tighter import and export controls could increase costs and disrupt our business.

International shipping is subject to various security and customs inspections and related procedures in countries of origin, destination and trans-shipment points. Inspection procedures may result in the seizure of the contents of our vessels, delays in the loading, offloading or delivery of our vessels and the levying of customs duties, fines or other penalties against us.

 

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It is possible that changes to inspection procedures could impose additional financial and legal obligations on us. Changes to inspection procedures could also impose additional costs and obligations on our customers and may, in certain cases, render the shipment of certain types of cargo uneconomical or impractical. Any such changes or developments may have a material adverse effect on our business, financial condition and results of operations.

Maritime claimants could arrest one or more of our vessels, which could interrupt our cash flow.

Crew members, suppliers of goods and services to a vessel, shippers of cargo and other parties may be entitled to a maritime lien against a vessel for unsatisfied debts, claims or damages. In many jurisdictions, a claimant may seek to obtain security for its claim by arresting a vessel through foreclosure proceedings. The arrest or attachment of one or more of our vessels could interrupt our cash flow and require us to pay large sums of money to have the arrest or attachment lifted. In addition, in some jurisdictions, such as South Africa, under the “sister ship” theory of liability, a claimant may arrest both the vessel which is subject to the claimant’s maritime lien and any “associated” vessel, which is any vessel owned or controlled by the same owner. Claimants could attempt to assert “sister ship” liability against a vessel in our fleet for claims relating to another of our vessels.

Governments could requisition our vessels during a period of war or emergency, resulting in a loss of earnings.

A government could requisition one or more of our vessels for title or for hire. Requisition for title occurs when a government takes control of a vessel and becomes her owner, while requisition for hire occurs when a government takes control of a vessel and effectively becomes her charterer at dictated charter rates. Generally, requisitions occur during periods of war or emergency, although governments may elect to requisition vessels in other circumstances. Although we would be entitled to compensation in the event of a requisition of one or more of our vessels, the amount and timing of payment would be uncertain. Government requisition of one or more of our vessels may negatively impact our revenues and reduce the amount of dividends, if any, in the future.

In the highly competitive international shipping industry, we may not be able to compete for charters with new entrants or established companies with greater resources and, as a result, we may be unable to employ our vessels profitably.

We employ our vessels in a highly competitive market that is capital intensive and highly fragmented. Competition arises primarily from other vessel owners, some of whom have substantially greater resources than we do. Competition for the transportation of drybulk cargo by sea is intense and depends on price, location, size, age, condition and the acceptability of the vessel and its operators to the charterers. Due in part to the highly fragmented market, competitors with greater resources could enter the drybulk shipping industry and operate larger fleets through consolidations or acquisitions and may be able to offer lower charter rates and higher quality vessels than we are able to offer. If we are unable to successfully compete with other drybulk shipping companies, this would have an adverse impact on our results of operations.

Risks associated with operating ocean-going vessels could affect our business and reputation, which could adversely affect our revenues and stock price.

The operation of ocean-going vessels carries inherent risks. These risks include the possibility of:

 

   

marine disaster;

 

   

environmental accidents;

 

   

cargo and property losses or damage;

 

   

business interruptions caused by mechanical failure, human error, war, terrorism, political action in various countries, labor strikes or adverse weather conditions; and

 

   

piracy.

The involvement of our vessels in an environmental disaster may harm our reputation as a safe and reliable vessel owner and operator. Any of these circumstances or events could increase our costs or lower our revenues.

The shipping industry has inherent operational risks that may not be adequately covered by our insurance.

We procure insurance for our fleet against risks commonly insured against by vessel owners and operators. Our current insurance includes hull and machinery insurance, war risks insurance and protection and indemnity insurance (which includes environmental damage and pollution insurance). We may not be adequately insured against all risks or our insurers may not pay a particular claim. Even if our insurance coverage is adequate to cover our losses, we may not be able to timely obtain a replacement vessel in the event of a loss. Furthermore, in the future, we may not be able to obtain adequate insurance coverage at reasonable rates for our fleet. We may also be subject to calls, or premiums, in amounts based not only on our own claim records but also the claim records of all other members of the protection and indemnity associations through which we receive indemnity insurance coverage for tort liability. Our insurance policies also contain deductibles, limitations and exclusions which, although we believe are standard in the shipping industry, may nevertheless increase our costs.

 

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The operation of drybulk carriers has certain unique operational risks.

The operation of certain ship types, such as drybulk carriers, has certain unique risks. With a drybulk carrier, the cargo itself and its interaction with the ship can be a risk factor. By their nature, drybulk cargoes are often heavy, dense, easily shifted, and react badly to water exposure. In addition, drybulk carriers are often subjected to battering treatment during unloading operations with grabs, jackhammers (to pry encrusted cargoes out of the hold), and small bulldozers. This treatment may cause damage to the vessel. Vessels damaged due to treatment during unloading procedures may be more susceptible to breach to the sea. Furthermore, any defects or flaws in the design of a drybulk carrier may contribute to vessel damage. Hull breaches in drybulk carriers may lead to the flooding of the vessels holds. If a drybulk carrier suffers flooding in its forward holds, the bulk cargo may become so dense and waterlogged that its pressure may buckle the vessel’s bulkheads, leading to the loss of a vessel. If we are unable to adequately maintain our vessels we may be unable to prevent these events. Any of these circumstances or events could negatively impact our business, financial condition, results of operations and our ability to pay dividends, if any, in the future. In addition, the loss of any of our vessels could harm our reputation as a safe and reliable vessel owner and operator.

Offshore Drilling Industry—Specific Risk Factors

Our business in the offshore drilling sector depends on the level of activity in the offshore oil and gas industry, which is significantly affected by, among other things, volatile oil and gas prices and may be materially and adversely affected by a decline in the offshore oil and gas industry.

The offshore contract drilling industry is cyclical and volatile. Our business in the offshore drilling sector depends on the level of activity in oil and gas exploration, development and production in offshore areas worldwide. The availability of quality drilling prospects, exploration success, relative production costs, the stage of reservoir development and political and regulatory environments affect customers’ drilling programs. Oil and gas prices and market expectations of potential changes in these prices also significantly affect this level of activity and demand for drilling units.

Oil and gas prices are extremely volatile and are affected by numerous factors beyond our control, including the following:

 

   

worldwide production and demand for oil and gas;

 

   

the cost of exploring for, developing, producing and delivering oil and gas;

 

   

expectations regarding future energy prices;

 

   

advances in exploration, development and production technology;

 

   

the ability of OPEC to set and maintain levels and pricing;

 

   

the level of production in non-OPEC countries;

 

   

government regulations;

 

   

local and international political, economic and weather conditions;

 

   

domestic and foreign tax policies;

 

   

development and exploitation of alternative fuels;

 

   

the policies of various governments regarding exploration and development of their oil and gas reserves; and

 

   

the worldwide military and political environment, including uncertainty or instability resulting from an escalation or additional outbreak of armed hostilities or other crises in the Middle East or other geographic areas or further acts of terrorism in the United States, or elsewhere.

Declines in oil and gas prices for an extended period of time, or market expectations of potential decreases in these prices, could negatively affect our business in the offshore drilling sector. Crude oil inventories remain at high levels compared to historical levels, which may place downward pressure on the price of crude oil and demand for offshore drilling units. Sustained periods of low

 

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oil prices typically result in reduced exploration and drilling because oil and gas companies’ capital expenditure budgets are subject to their cash flow and are therefore sensitive to changes in energy prices. These changes in commodity prices can have a dramatic effect on rig demand, and periods of low demand can cause excess rig supply and intensify the competition in the industry which often results in drilling units, particularly lower specification drilling units, being idle for long periods of time. We cannot predict the future level of demand for our services or future conditions of the oil and gas industry. Any decrease in exploration, development or production expenditures by oil and gas companies could reduce our revenues and materially harm our business and results of operations.

In addition to oil and gas prices, the offshore drilling industry is influenced by additional factors, including:

 

   

the availability of competing offshore drilling vessels;

 

   

the level of costs for associated offshore oilfield and construction services;

 

   

oil and gas transportation costs;

 

   

the discovery of new oil and gas reserves;

 

   

the cost of non-conventional hydrocarbons, such as the exploitation of oil sands; and

 

   

regulatory restrictions on offshore drilling.

Any of these factors could reduce demand for our services and adversely affect our business and results of operations.

Any renewal of the recent worldwide economic downturn could have a material adverse effect on our revenue, profitability and financial position.

Although there are signs that the economic recession has abated in many countries, there is still considerable instability in the world economy and in the economies of countries such as Greece, Spain, Portugal and Italy which could initiate a new economic downturn, or introduce volatility in the global markets. A decrease in global economic activity would likely reduce worldwide demand for energy and result in an extended period of lower crude oil and natural gas prices. In addition, continued hostilities in the Middle East, recent tensions in the Middle East and North Africa following the protests in Egypt and the occurrence or threat of terrorist attacks against the United States or other countries could adversely affect the economies of the United States and those of other countries. Any prolonged reduction in crude oil and natural gas prices would depress the levels of exploration, development and production activity. Moreover, even during periods of high commodity prices, customers may cancel or curtail their drilling programs, or reduce their levels of capital expenditures for exploration and production for a variety of reasons, including their lack of success in exploration efforts. These factors could cause our revenues and margins to decline, decrease daily rates and utilization of our drilling units and limit our future growth prospects. Any significant decrease in daily rates or utilization of our drilling units could materially reduce our revenues and profitability. In addition, any instability in the financial and insurance markets, as experienced in the recent financial and credit crisis, could make it more difficult for us to access capital and to obtain insurance coverage that we consider adequate or are otherwise required by our contracts.

The offshore drilling industry is highly competitive and there is intense price competition, and as a result, we may be unable to compete successfully with other providers of contract drilling services that have greater resources than we have.

The offshore contract drilling industry is highly competitive with several industry participants, none of which has a dominant market share, and is characterized by high capital and maintenance requirements. Drilling contracts are traditionally awarded on a competitive bid basis. Price competition is often the primary factor in determining which qualified contractor is awarded the drilling contract, although drilling unit availability, location and suitability, the quality and technical capability of service and equipment, reputation and industry standing are key factors which are considered. Mergers among oil and natural gas exploration and production companies have reduced, and may from time to time further reduce the number of available customers, which would increase the ability of potential customers to achieve pricing terms favorable to them.

Many of our competitors in the offshore drilling industry are significantly larger than we are and have more diverse drilling assets and significantly greater financial and other resources than we have. In addition, because of the relatively small size of our drilling segment, we may be unable to take advantage of economies of scale to the same extent as some of our larger competitors. Given the high capital requirements that are inherent in the offshore drilling industry, we may also be unable to invest in new technologies or expand our drilling segment in the future as may be necessary for us to succeed in this industry, while our larger competitors with superior financial resources, and in many cases less leverage than we have, may be able to respond more rapidly to

 

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changing market demands and compete more efficiently on price for drillship and drilling rig employment. We may not be able to maintain our competitive position, and we believe that competition for contracts will continue to be intense in the future. Our inability to compete successfully may reduce our revenues and profitability.

An over-supply of drilling units may lead to a reduction in dayrates and therefore may materially impact our profitability in our offshore drilling segment.

During the recent period of high utilization and high dayrates, industry participants have increased the supply of drilling units by ordering the construction of new drilling units. Historically, this has resulted in an over-supply of drilling units and has caused a subsequent decline in utilization and dayrates when the drilling units enter the market, sometimes for extended periods of time until the units have been absorbed into the active fleet. According to industry sources, the worldwide fleet of ultra-deepwater drilling units as of April 2011 consisted of 79 units, comprised of 42 semi-submersible rigs and 37 drillships. An additional 17 semi-submersible rigs and 40 drillships are under construction or on order as of April 2011, which would bring the total fleet to 136 drilling units by mid 2014. The entry into service of these new, upgraded or reactivated drilling units will increase supply and has already led to a reduction in dayrates as drilling units are absorbed into the active fleet. In addition, the new construction of high-specification rigs, as well as changes in our competitors’ drilling rig fleets, could require us to make material additional capital investments to keep our fleet competitive. Lower utilization and dayrates could adversely affect our revenues and profitability. Prolonged periods of low utilization and dayrates could also result in the recognition of impairment charges on our drilling units if future cash flow estimates, based upon information available to management at the time, indicate that the carrying value of these drilling units may not be recoverable.

The market value of our current drilling units and drilling units we may acquire in the future may decrease, which could cause us to incur losses if we decide to sell them following a decline in their market values.

If the offshore contract drilling industry suffers adverse developments in the future, the fair market value of our drilling units may decline. The fair market value of the drilling units we currently own or may acquire in the future may increase or decrease depending on a number of factors, including:

 

   

prevailing level of drilling services contract dayrates;

 

   

general economic and market conditions affecting the offshore contract drilling industry, including competition from other offshore contract drilling companies;

 

   

types, sizes and ages of drilling units;

 

   

supply and demand for drilling units;

 

   

costs of newbuildings;

 

   

governmental or other regulations; and

 

   

technological advances.

If we sell any drilling units when drilling unit prices have fallen and before we have recorded an impairment adjustment to our financial statements, the sale may be at less than the drilling unit’s carrying amount on our financial statements, resulting in a loss. Additionally, our lenders may accelerate loan repayments should there be a loss in the market value of our drilling units. Such loss or repayment could materially and adversely affect our business prospects, financial condition, liquidity, results of operations, and our ability to pay dividends to our shareholders.

Consolidation of suppliers may increase the cost of obtaining supplies, which may have a material adverse effect on our results of operations and financial condition.

We rely on certain third parties to provide supplies and services necessary for our offshore drilling operations, including but not limited to drilling equipment suppliers, catering and machinery suppliers. Recent mergers have reduced the number of available suppliers, resulting in fewer alternatives for sourcing key supplies. Such consolidation, combined with a high volume of drilling units under construction, may result in a shortage of supplies and services thereby increasing the cost of supplies and/or potentially inhibiting the ability of suppliers to deliver on time. These cost increases or delays could have a material adverse effect on our results of operations and result in rig downtime, and delays in the repair and maintenance of our drilling units.

 

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Our international operations in the offshore drilling sector involve additional risks, including acts of piracy, which could adversely affect our business.

We operate in various regions throughout the world. Our two existing drilling rigs, the Leiv Eiriksson and the Eirik Raude, are currently demobilizing from operations in the Black Sea and operating offshore of Ghana, respectively, and our drillships, the Ocean Rig Corcovado and the Ocean Rig Olympia, are scheduled to commence drilling and related operations in Greenland in May 2011 and offshore of Ghana and Cote d’Ivoire in the second quarter of 2011, respectively. In addition, our drillship, the Ocean Rig Poseidon, which is currently under construction, is scheduled to commence a contract in the third quarter of 2011 for drilling offshore of Tanzania and West Africa. In the past we have operated the Eirik Raude in the Gulf of Mexico, offshore of Canada, Norway, the U.K., and Ghana, while the Leiv Eiriksson has operated offshore of West Africa, Turkey, Ireland, west of the Shetland Islands and in the North Sea. Acts of piracy have historically affected ocean-going vessels trading in regions of the world such as the South China Sea and in the Gulf of Aden off the coast of Somalia. Throughout 2008 and 2009, the frequency of piracy incidents increased significantly, particularly in the Gulf of Aden. As a result of our international operations, we may be exposed to political and other uncertainties, including risks of:

 

   

terrorist acts, war and civil disturbances;

 

   

piracy;

 

   

seizure, nationalization or expropriation of property or equipment;

 

   

repudiation, nullification, indemnification or reregulation of contracts;

 

   

limitations on insurance coverage, such as war risk coverage, in certain areas;

 

   

political unrest;

 

   

foreign and U.S. monetary policy and foreign currency fluctuations and devaluations;

 

   

the inability to repatriate income or capital;

 

   

complications associated with repairing and replacing equipment in remote locations;

 

   

import-export quotas, wage and price controls, imposition of trade barriers;

 

   

regulatory or financial requirements to comply with foreign bureaucratic actions;

 

   

changing taxation policies;

 

   

other forms of government regulation and economic conditions that are beyond our control; and

 

   

governmental corruption.

We are indemnified to some extent against loss of capital assets, but generally not loss of revenue, from certain of these risks through provisions in our drilling contracts. In addition, international contract drilling operations are subject to various laws and regulations in countries in which we operate, including laws and regulations relating to:

 

   

the equipping and operation of drilling units;

 

   

repatriation of foreign earnings;

 

   

oil and gas exploration and development;

 

   

taxation of offshore earnings and earnings of expatriate personnel; and

 

   

use and compensation of local employees and suppliers by foreign contractors.

Some foreign governments favor or effectively require (i) the awarding of drilling contracts to local contractors or to drilling units owned by their own citizens, (ii) the use of a local agent or (iii) foreign contractors to employ citizens of, or purchase supplies from, a particular jurisdiction. These practices may adversely affect our 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 drilling industry. The actions of foreign governments, including initiatives by OPEC, may adversely affect our ability to compete. Failure to comply with applicable laws and regulations, including those relating to sanctions and export restrictions, may subject us to criminal sanctions or civil remedies, including fines, denial of export privileges, injunctions or seizures of our assets.

 

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Our business and operations involve numerous operating hazards.

Our offshore drilling operations are subject to hazards inherent in the drilling industry, such as blowouts, reservoir damage, loss of production, loss of well control, lost or stuck drill strings, equipment defects, punch throughs, craterings, fires, explosions and pollution, including spills similar to the events on April 20, 2010 related to the Deepwater Horizon, in which we were not involved. Contract drilling and well servicing require the use of heavy equipment and exposure to hazardous conditions, which may subject us to liability claims by employees, customers and third parties. These hazards can cause personal injury or loss of life, severe damage to or destruction of property and equipment, pollution or environmental damage, claims by third parties or customers and suspension of operations. Our offshore drilling segment is also subject to hazards inherent in marine operations, either while on-site or during mobilization, such as capsizing, sinking, grounding, collision, damage from severe weather and marine life infestations. Operations may also be suspended because of machinery breakdowns, abnormal drilling conditions, and failure of subcontractors to perform or supply goods or services, or personnel shortages. We customarily provide contract indemnity to our customers for claims that could be asserted by us relating to damage to or loss of our equipment, including rigs and claims that could be asserted by us or our employees relating to personal injury or loss of life.

Damage to the environment could also result from our operations, particularly through spillage of fuel, lubricants or other chemicals and substances used in drilling operations, leaks and blowouts or extensive uncontrolled fires. We may also be subject to property, environmental and other damage claims by oil and gas companies. Our insurance policies and contractual indemnity rights with our customers may not adequately cover losses, and we do not have insurance coverage or rights to indemnity for all risks. Consistent with standard industry practice, our clients generally assume, and indemnify us against, well control and subsurface risks under dayrate contracts. These are risks associated with the loss of control of a well, such as blowout or cratering, the cost to regain control of or re-drill a well and associated pollution. However, there can be no assurance that these clients will be willing or financially able to indemnify us against all these risks. We have no insurance coverage for named storms in the Gulf of Mexico and war risk worldwide. Furthermore, pollution and environmental risks generally are not totally insurable.

Our insurance coverage may not adequately protect us from certain operational risks inherent in the drilling industry.

We maintain insurance for our drilling units in accordance with industry standards. Our insurance is intended to cover normal risks in our current operations, including insurance against property damage, occupational injury and illness, loss of hire, certain war risk and third-party liability, including pollution liability.

Although we have obtained insurance for the full assessed market value of our drilling units, insurance coverage may not, under certain circumstances, be available, and if available, may not provide sufficient funds to protect us from all losses and liabilities that could result from our operations. We have also obtained loss of hire insurance which becomes effective after 45 days of downtime with coverage that extends for approximately one year. We received insurance payments under this policy when, in the first quarter of 2007, the Eirik Raude experienced 62 days of downtime operating offshore Newfoundland due to drilling equipment failure and hull structure repair that were the result of design issues. The principal risks which may not be insurable are various environmental liabilities and liabilities resulting from reservoir damage caused by our gross negligence. Moreover, our insurance provides for premium adjustments based on claims and is subject to deductibles and aggregate recovery limits. In the case of pollution liabilities, our deductible is $10,000 per event and $250,000 for protection and indemnity claims brought before any U.S. jurisdiction. Our aggregate recovery limits are $625 million for oil pollution and $500 million for all other claims under our protection and indemnity insurance which is provided by mutual protection and indemnity associations. Our deductible is $1.5 million per hull and machinery insurance claim. In addition, insurance policies covering physical damage claims due to a named windstorm in the Gulf of Mexico generally impose strict recovery limits, which may result in losses on any damage to our drilling units that may be operated in that region in the future. Our insurance coverage may not protect fully against losses resulting from a required cessation of rig operations for environmental or other reasons. Insurance may not be available to us at all or on terms acceptable to us, we may not maintain insurance or, if we are so insured, our policy may not be adequate to cover our loss or liability in all cases. The occurrence of a casualty, loss or liability against which we may not be fully insured could significantly reduce our revenues, make it financially impossible for us to obtain a replacement rig or to repair a damaged rig, cause us to pay fines or damages which are generally not insurable and that may have priority over the payment obligations under our indebtedness or otherwise impair our ability to meet our obligations under our indebtedness and to operate profitably.

Governmental laws and regulations, including environmental laws and regulations, may add to our costs or limit our drilling activity.

Our business in the offshore drilling industry is affected by laws and regulations relating to the energy industry and the environment in the geographic areas where we operate. The offshore drilling industry is dependent on demand for services from the oil and gas exploration and production industry, and, accordingly, we are directly affected by the adoption of laws and regulations that, for economic, environmental or other policy reasons, curtail exploration and development drilling for oil and gas. We may be

 

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required to make significant capital expenditures to comply with governmental laws and regulations. It is also possible that these laws and regulations may, in the future, add significantly to our operating costs or significantly limit drilling activity. Our ability to compete in international contract drilling markets may be limited by foreign governmental regulations that favor or require the awarding of contracts to local contractors or by regulations requiring foreign contractors to employ citizens of, or purchase supplies from, a particular jurisdiction. 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 industries. Offshore drilling in certain areas has been curtailed and, in certain cases, prohibited because of concerns over protection of the environment. Operations in less developed countries can be subject to legal systems that are not as mature or predictable as those in more developed countries, which can lead to greater uncertainty in legal matters and proceedings.

To the extent new laws are enacted or other governmental actions are taken that prohibit or restrict offshore drilling or impose additional environmental protection requirements that result in increased costs to the oil and gas industry, in general, or the offshore drilling industry, in particular, our business or prospects could be materially adversely affected. The operation of our drilling units will require certain governmental approvals, the number and prerequisites of which cannot be determined until we identify the jurisdictions in which we will operate on securing contracts for the drilling units. Depending on the jurisdiction, these governmental approvals may involve public hearings and costly undertakings on our part. We may not obtain such approvals or such approvals may not be obtained in a timely manner. If we fail to timely secure the necessary approvals or permits, our customers may have the right to terminate or seek to renegotiate their drilling contracts to our detriment. The amendment or modification of existing laws and regulations or the adoption of new laws and regulations curtailing or further regulating exploratory or development drilling and production of oil and gas could have a material adverse effect on our business, operating results or financial condition. Future earnings may be negatively affected by compliance with any such new legislation or regulations.

We are subject to complex laws and regulations, including environmental laws and regulations that can adversely affect the cost, manner or feasibility of doing business.

Our operations are subject to numerous laws and regulations in the form of international conventions and treaties, national, state and local laws and national and international regulations in force in the jurisdictions in which our vessels operate or are registered, which can significantly affect the ownership and operation of our vessels. These requirements include, but are not limited to, the International Convention on Civil Liability for Oil Pollution Damage of 1969, the Convention on the Prevention of Marine Pollution by Dumping of Wastes and Other Matter of 1975, the International Convention for the Prevention of Marine Pollution of 1973, the International Convention for the Safety of Life at Sea of 1974, the International Convention on Load Lines of 1966, the U.S. Oil Pollution Act of 1990, or OPA, the U.S. Clean Air Act, U.S. Clean Water Act and the U.S. Maritime Transportation Security Act of 2002. Compliance with such laws, regulations and standards, where applicable, may require installation of costly equipment or operational changes and may affect the resale value or useful lives of our vessels. We may also incur additional costs in order to comply with other existing and future regulatory obligations, including, but not limited to, costs relating to air emissions, including greenhouse gases, the management of ballast waters, maintenance and inspection, development and implementation of emergency procedures and insurance coverage or other financial assurance of our ability to address pollution incidents. These costs could have a material adverse effect on our business, results of operations, cash flows and financial condition. A failure to comply with applicable laws and regulations may result in administrative and civil penalties, criminal sanctions or the suspension or termination of our operations. Environmental laws often impose strict liability for remediation of spills and releases of oil and hazardous substances, which could subject us to liability without regard to whether we were negligent or at fault. Under OPA, for example, owners, operators and bareboat charterers are jointly and severally strictly liable for the discharge of oil in U.S. waters, including the 200-nautical mile exclusive economic zone around the United States. An oil spill could result in significant liability, including fines, penalties and criminal liability and remediation costs for natural resource damages under other international and U.S. federal, state and local laws, as well as third-party damages. We are required to satisfy insurance and financial responsibility requirements for potential oil (including marine fuel) spills and other pollution incidents. Although we have arranged insurance to cover certain environmental risks, such insurance may not be sufficient to cover all such risks. As a result, claims against us could result in a material adverse effect on our business, results of operations, cash flows and financial condition.

Although our drilling units are separately owned by our subsidiaries, under certain circumstances a parent company and all of the ship-owning affiliates in a group under common control engaged in a joint venture could be held liable for damages or debts owed by one of the affiliates, including liabilities for oil spills under OPA or other environmental laws. Therefore, it is possible that we could be subject to liability upon a judgment against us or any one of our subsidiaries.

While we conduct planned and systematic maintenance on our drilling rigs in an effort to prevent the release of oil, waste and other pollutants into the sea and into protected areas, our predecessor caused the release of less than one cubic meter of hydraulic oil in the Barents Sea on April 12, 2005, and future releases could occur, especially as our drilling rigs age. Any releases may be large in quantity, above our permitted limits or occur in protected or sensitive areas where public interest groups or governmental authorities have special interests. No sanctions were imposed as a result of the Barents Sea release, but future releases could result in fines and

 

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other costs to us, such as costs to upgrade our drilling rigs, clean up the releases, and comply with more stringent requirements in our discharge permits. Moreover, these releases may result in our customers or governmental authorities suspending or terminating our operations in the affected area, which could have a material adverse effect on our business, results of operation and financial condition.

We expect that we will be able to obtain from our customers some degree of contractual indemnification against pollution and environmental damages in most of our contracts. But, such indemnification may not be enforceable in all instances or the customer may not be financially able to comply with its indemnity obligations in all cases. And, we may not be able to obtain such indemnification agreements in the future.

We currently maintain insurance coverage against certain environmental liabilities, including pollution caused by sudden and accidental oil spills. However, such insurance coverage may not be available in the future or we may not obtain the coverage. If it is available and we have the coverage, it may not be adequate to cover our liabilities. Any of these scenarios could have a material adverse effect on our business, operating results and financial condition.

Regulation of greenhouse gases and climate change could have a negative impact on our business.

In 2005, the Kyoto Protocol to the 1992 United Nations Framework Convention on Climate Change, which establishes a binding set of targets for reduction of greenhouse gas emissions, became binding on all those countries that had ratified it. International discussions are currently underway to develop a treaty to replace the Kyoto Protocol after its expiration in 2012. Although the United States is not a party to the Kyoto Protocol, it has taken a number of steps to limit emissions of greenhouse gas emissions, including imposing reporting and permitting requirements on certain categories of sources.

Because our business depends on the level of activity in the offshore oil and gas industry, existing or future laws, regulations, treaties or international agreements related to greenhouse gases and climate change, including incentives to conserve energy or use alternative energy sources, could have a negative impact on our business if such laws, regulations, treaties or international agreements reduce the worldwide demand for oil and gas. In addition, such laws, regulations, treaties or international agreements could result in increased compliance costs or additional operating restrictions, which may have a negative impact on our business.

The Deepwater Horizon oil spill in the Gulf of Mexico may result in more stringent laws and regulations governing deepwater drilling, which could have a material adverse effect on our business, operating results or financial condition.

On April 20, 2010, there was an explosion and a related fire on the Deepwater Horizon, an ultra-deepwater semi-submersible drilling unit that is not connected to us, while it was servicing a well in the Gulf of Mexico. This catastrophic event resulted in the death of 11 workers and the total loss of that drilling unit, as well as the release of large amounts of oil into the Gulf of Mexico, severely impacting the environment and the region’s key industries. This event is being investigated by several federal agencies, including the U.S. Department of Justice and the U.S. Congress and is also the subject of numerous lawsuits. On May 30, 2010, the U.S. Department of the Interior issued a six-month moratorium on all deepwater drilling in the outer continental shelf regions of the Gulf of Mexico and the Pacific Ocean. On July 12, 2010, the Department of the Interior issued a revised moratorium (for the same six-month period) keyed more to drilling configuration and technology rather than a specific drilling depth. In Norway, a moratorium on new drilling was issued on June 8, 2010. Norway’s energy minister has also indicated that Norway will not allow deepwater oil or gas drilling in new areas until the completion of the investigation into the explosion and oil release in the Gulf of Mexico.

On October 12, 2010, the U.S. government lifted the drilling moratorium, subject to compliance with enhanced safety requirements, including those set forth in Notices to Lessees 2010-N05 and 2010-N06, both of which were implemented during the drilling ban. Additionally, all drilling in the Gulf of Mexico will be required to comply with the Interim Final Rule to Enhance Safety Measures for Energy Development on the Outer Continental Shelf (Drilling Safety Rule) and the Workplace Safety Rule on Safety and Environmental Management Systems, both of which were issued on September 30, 2010.

Although we do not currently operate our drilling rigs in these regions, we may do so in the future. In any event, those developments could have a substantial impact on the offshore oil and gas industry worldwide. The ongoing investigations and proceedings may result in significant changes to existing laws and regulations and substantially stricter governmental regulation of our drilling units. For example, BP plc, the rig operator of the Deepwater Horizon, has reached an agreement with the U.S. government to establish a claims fund of $20 billion, which far exceeds the $75 million strict liability limit set forth under OPA. Amendments to existing laws and regulations or the adoption of new laws and regulations curtailing or further regulating exploratory or development drilling and production of oil and gas, may restrict our drilling activities or require costly compliance measures that could have a material adverse effect on our business, operating results or financial condition. Future earnings may be negatively affected by compliance with any such amended or new legislation or regulations.

 

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Acts of terrorism and political and social unrest could affect the markets for drilling services, which may have a material adverse effect on our results of operations.

Acts of terrorism and political and social unrest, brought about by world political events or otherwise, have caused instability in the world’s financial and insurance markets in the past and may occur in the future. Such acts could be directed against companies such as ours. Our drilling operations could also be targeted by acts of piracy. In addition, acts of terrorism and social unrest could lead to increased volatility in prices for crude oil and natural gas and could affect the markets for drilling services and result in lower dayrates. Insurance premiums could increase and coverage may be unavailable in the future. U.S. government regulations may effectively preclude us from actively engaging in business activities in certain countries. These regulations could be amended to cover countries where we currently operate or where we may wish to operate in the future. Increased insurance costs or increased cost of compliance with applicable regulations may have a material adverse effect on our results of operations.

Hurricanes may impact our ability to operate our drilling units in the Gulf of Mexico or other U.S. coastal waters, which could reduce our revenues and profitability.

Hurricanes Ivan, Katrina, Rita, Gustav and Ike caused damage to a number of drilling units in the Gulf of Mexico. Drilling units that were moved off their locations during the hurricanes damaged platforms, pipelines, wellheads and other drilling units. The Minerals Management Service of the U.S. Department of the Interior, now known as the Bureau of Ocean Energy Management, Regulation and Enforcement (“BOEMRE”), issued guidelines for tie-downs on drilling units and permanent equipment and facilities attached to outer continental shelf production platforms, and moored drilling rig fitness that apply through the 2013 hurricane season. These guidelines effectively impose new requirements on the offshore oil and natural gas industry in an attempt to improve the stations that house the moored units and increase the likelihood of survival of offshore drilling units during a hurricane. The guidelines also provide for enhanced information and data requirements from oil and natural gas companies operating properties in the Gulf of Mexico. BOEMRE may issue similar guidelines for future hurricane seasons and may take other steps that could increase the cost of operations or reduce the area of operations for our ultra-deepwater drilling units, thus reducing their marketability. Implementation of new BOEMRE guidelines or regulations that may apply to ultra-deepwater drilling units may subject us to increased costs and limit the operational capabilities of our drilling units. The Company’s drilling units do not currently operate in the Gulf of Mexico or other U.S. Coastal waters but may do so in the future.

Any failure to comply with the complex laws and regulations governing international trade could adversely affect our operations.

The shipment of goods, services and technology across international borders subjects our offshore drilling segment to extensive trade laws and regulations. Import activities are governed by unique customs laws and regulations in each of the countries of operation. Moreover, many countries, including the United States, control the export and re-export of certain goods, services and technology and impose related export recordkeeping and reporting obligations. Governments also may impose economic sanctions against certain countries, persons and other entities that may restrict or prohibit transactions involving such countries, persons and entities.

The laws and regulations concerning import activity, export recordkeeping and reporting, export control and economic sanctions are complex and constantly changing. These laws and regulations may be enacted, amended, enforced or interpreted in a manner materially impacting our operations. Shipments can be delayed and denied export or entry for a variety of reasons, some of which are outside our control and some of which may result from failure to comply with existing legal and regulatory regimes. Shipping delays or denials could cause unscheduled operational downtime. Any failure to comply with applicable legal and regulatory trading obligations also could result in criminal and civil penalties and sanctions, such as fines, imprisonment, debarment from government contracts, seizure of shipments and loss of import and export privileges.

New technologies may cause our current drilling methods to become obsolete, resulting in an adverse effect on our business.

The offshore contract drilling industry is subject to the introduction of new drilling techniques and services using new technologies, some of which may be subject to patent protection. As competitors and others use or develop new technologies, we may be placed at a competitive disadvantage and competitive pressures may force us to implement new technologies at substantial cost. In addition, competitors may have greater financial, technical and personnel resources that allow them to benefit from technological advantages and implement new technologies before we can. We may not be able to implement technologies on a timely basis or at a cost that is acceptable to us.

 

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Tanker Industry—Specific Risk Factors

If the tanker industry, which historically has been cyclical and volatile, continues to be depressed or declines further in the future, our revenues, earnings and available cash flow may be adversely affected once our newbuilding tankers are delivered to us.

The tanker industry is both cyclical and volatile in terms of charter rates and profitability. After reaching highs during the summer of 2008, charter rates for crude oil carriers fell dramatically thereafter. While the rates have improved somewhat, they remain significantly below those high levels. The recent global financial crisis may adversely affect our ability to charter our newbuilding tankers upon their delivery to us and any charters that we enter into in the future may not be sufficient to allow us to operate our vessels profitably. Fluctuations in charter rates and tanker values result from changes in the supply and demand for tanker capacity and changes in the supply and demand for oil and oil products. The factors affecting the supply and demand for tankers are outside of our control, and the nature, timing and degree of changes in industry conditions are unpredictable.

The factors that influence demand for tanker capacity include:

 

   

demand for oil and oil products;

 

   

supply of oil and oil products;

 

   

regional availability of refining capacity;

 

   

global and regional economic and political conditions;

 

   

actions taken by OPEC and major oil producers and refiners;

 

   

the distance oil and oil products are to be moved by sea;

 

   

changes in seaborne and other transportation patterns;

 

   

environmental and other legal and regulatory developments;

 

   

currency exchange rates;

 

   

weather and climate conditions;

 

   

competition from alternative sources of energy; and

 

   

international sanctions, embargoes, import and export restrictions, nationalizations and wars.

The factors that influence the supply of oil tanker capacity include:

 

   

the number of newbuilding deliveries;

 

   

the scrapping rate of older vessels;

 

   

conversion of tankers to other uses;

 

   

the price of steel;

 

   

the number of vessels that are out of service; and

 

   

environmental concerns and regulations.

Historically, the tanker markets have been volatile as a result of the many conditions and factors that can affect the price, supply and demand for tanker capacity. The recent global economic crisis may further reduce demand for transportation of oil over longer distances and supply of tankers to carry that oil, which may materially affect our revenues, profitability and cash flows.

 

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Changes in the crude oil and petroleum products markets could result in decreased demand for our vessels and services.

Demand for our vessels and services in transporting crude oil and petroleum products will depend upon world and regional crude oil and petroleum products markets. Any decrease in shipments of crude oil or petroleum products in those markets could have a material adverse effect on our business, financial condition and results of operations. Historically, those markets have been volatile as a result of the many conditions and events that affect the price, production and transport of crude oil and petroleum products, including competition from alternative energy sources. In the long-term it is possible that crude oil and petroleum products demand may be reduced by an increased reliance on alternative energy sources, by a drive for increased efficiency in the use of crude oil and petroleum products as a result of environmental concerns, or by high oil prices. The current recession affecting the U.S. and world economies may result in protracted reduced consumption of crude oil and petroleum products and a decreased demand for our vessels and lower charter rates, which could have a material adverse effect on our business, results of operations, cash flows, financial condition and ability to pay dividends.

An over-supply of tanker capacity may prolong currently low charter rates and vessel values or lead to further reductions in charter rates, vessel values, and profitability.

The market supply of tankers is affected by a number of factors such as demand for energy resources, oil, and petroleum products, as well as strong overall economic growth in parts of the world economy including Asia. If the capacity of new ships delivered exceeds the capacity of tankers being scrapped and lost, tanker capacity will increase. In addition, the tanker newbuilding order book which extends to 2014 equaled approximately 25.9% of the existing world oil tanker fleet as of April 12, 2011, according to industry sources and the order book may increase further in proportion to the existing fleet. If the supply of tanker capacity increases and if the demand for tanker capacity does not increase correspondingly, charter rates could materially decline. A reduction in charter rates and the value of our vessels may have a material adverse effect on our results of operations and available cash once we take delivery of our newbuilding tankers.

The tanker sector is highly competitive, and we may not be able to compete successfully for charters with new entrants or established companies with greater resources.

The tanker industry is highly competitive, capital intensive and highly fragmented. Competition arises primarily from other vessel owners, some of whom have substantially greater resources than we do. Competition for the transportation of petroleum products and oil can be intense and depends on price, location, size, age, condition and the acceptability of the vessel and its operators to the charterers. Due in part to the highly fragmented market, competitors with greater resources than we have could operate larger fleets than our tanker fleet will be once our newbuilding tankers are delivered to us and, thus, may be able to offer lower charter rates and higher quality vessels than we are able to offer. If this were to occur, we may be unable to attract new customers, which could adversely affect our business and operations.

Changes in fuel, or bunkers, prices may adversely affect profits.

With respect to our vessels we intend to employ on time charter, the charterer is generally responsible for the cost of fuel, or bunkers, however such cost may affect the charter rates for those vessels we intend on employing on voyage charters where the owner is responsible for the cost of fuel. Changes in the price of fuel may adversely affect our profitability. The price and supply of fuel is unpredictable and fluctuates based on events outside our control, including geopolitical developments, supply and demand for oil and gas, actions by OPEC and other oil and gas producers, war and unrest in oil producing countries and regions, regional production patterns and environmental concerns. Further, fuel may become much more expensive in the future, which may reduce the profitability and competitiveness of our business versus other forms of transportation, such as truck or rail.

Our operating results may be adversely affected by seasonal fluctuations in the tanker industry.

The tanker sector has historically exhibited seasonal variations in demand and, as a result, in charter rates. This seasonality may result in quarter-to-quarter volatility in our operating results. The tanker sector is typically stronger in the fall and winter months in anticipation of increased consumption of oil and petroleum products in the northern hemisphere during the winter months. As a result, our revenues from our tankers may be weaker during the fiscal quarters ended June 30 and September 30, and, conversely, revenues may be stronger in fiscal quarters ended December 31 and March 31. This seasonality could materially affect our operating results and cash available for dividends in the future.

Company Specific Risk Factors

We may not be in compliance with financial covenants contained in our credit facilities.

Our credit facilities, which are secured by mortgages on our vessels, require us to maintain specified financial ratios, mainly to ensure that the market value of the mortgaged vessels or drilling units under the applicable credit facility, determined in accordance

 

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with the terms of that facility, does not fall below a certain percentage of the outstanding amount of the loan, which we refer to as a value maintenance clause, and to satisfy certain other financial covenants. In general, these financial covenants require us to maintain (i) minimum liquidity; (ii) a minimum market adjusted equity ratio; (iii) a minimum interest coverage ratio; (iv) a minimum market adjusted net worth and (v) a minimum debt service coverage ratio. As of December 31, 2008, we were in breach of certain financial covenants, mainly the loan-to-value ratios (also known as value maintenance clauses), contained in our loan agreements relating to $1.8 billion of our debt. A violation of these covenants, if not cured by providing additional collateral within specified grace periods constitutes an event of default under our credit facilities and provides our lenders with the right to increase our interest payments, pay down our indebtedness to a level where we are in compliance with our loan covenants, sell vessels in our fleet, reclassify our indebtedness as current liabilities and accelerate our indebtedness and foreclose their liens on our vessels, which would impair our ability to continue to conduct our business. Even though none of the lenders declared an event of default under the loan agreements, these breaches constituted potential events of default and could have resulted in the lenders requiring immediate repayment of the loans. As of September 30, 2010, we had either regained compliance with these financial covenants or obtained waivers from our lenders resolving all of the above-mentioned breaches and, accordingly, we were in compliance with the loan-to-value ratios and other financial covenants applicable under our loan agreements as of that date. As of December 31, 2010, we were either in compliance with our financial covenants or had the ability to remedy shortfalls within specified grace periods. Some of our waiver agreements expire in 2011 and 2012, at which time the original covenants come back into effect. Prevailing charter rates, which are a principal factor impacting vessel values, have been extremely volatile in recent years and are largely dependent on global economic activity, particularly in China. Charter rates and vessel values, particularly in the drybulk sector, may remain at low levels for an extended period of time, in which case it may be difficult for us to comply with the financial and other covenants in our loan agreements absent extensions of the existing waivers. There can be no assurance that our lenders will extend these waivers, if we are not in compliance with our secured loan agreements, as they expire.

If our indebtedness is accelerated, it would be very difficult in the current financing environment for us to refinance our debt or obtain additional financing and we could lose our vessels if our lenders foreclose their liens. In addition, if the fair value of our vessels, deteriorates significantly from their currently depressed levels, we may have to record a further impairment adjustment to our financial statements, which would adversely affect our financial results and further hinder our ability to raise capital.

We expect that the lenders will not demand payment of the loans before their maturity, provided that we pay loan installments and accumulated or accrued interest as they fall due under the existing credit facilities. We plan to settle the loan interest and scheduled loan repayments with cash generated from operations.

Our credit facilities and waivers impose operating and financial restrictions on us, and if we receive additional waivers and/or amendments to our loan agreements, our lenders may impose additional operating and financial restrictions on us and/or modify the terms of our existing loan agreements.

In addition to certain financial covenants relating to our financial position, operating performance and liquidity, the restrictions contained in our loan agreements limit our ability to, among other things:

 

   

pay dividends to investors or make capital expenditures if we do not repay amounts drawn under the credit facilities, if there is a default under the credit facilities or if the payment of the dividend or capital expenditure would result in a default or breach of a loan covenant;

 

   

incur additional indebtedness, including through the issuance of guarantees;

 

   

change the flag, class or management of our vessels;

 

   

create liens on our assets;

 

   

sell or otherwise change the ownership of our vessels;

 

   

merge or consolidate with, or transfer all or substantially all our assets to, another person; and

 

   

drop below certain minimum cash deposits, as defined in our credit facilities.

In addition, certain subsidiaries may be restricted from paying dividends to us.

See “Item 5. Operating and Financial Review and Prospects—B. Liquidity and Capital Resources—Breach of Loan Covenants.” In connection with future waivers or amendments, lenders may impose additional restrictions on us.

 

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Therefore, we will need to seek permission from our lenders in order to engage in certain corporate and commercial actions that we believe would be in the best interest of our business, and a denial of permission may make it difficult for us to successfully execute our business strategy or effectively compete with companies that are not similarly restricted. Our lenders’ interests may be different from our interests, and we cannot guarantee that we will be able to obtain our lenders’ permission when needed. In addition to the above restrictions, our lenders may require the payment of additional fees, require prepayment of a portion of our indebtedness to them, accelerate the amortization schedule for our indebtedness and increase the interest rates they charge us on our outstanding indebtedness. These potential restrictions and requirements may limit our ability to pay dividends, if any, in the future to you, finance our future operations, make acquisitions or pursue business opportunities.

Our ability to comply with the covenants and restrictions contained in our credit facilities may be affected by economic, financial and industry conditions and other factors beyond our control. Any default under the agreements governing our indebtedness, including a default under our credit facilities, that is not waived by the required lenders, and the remedies sought by the holders of such indebtedness, could prevent us from paying dividends in the future. If we are unable to repay indebtedness the lenders under our credit facilities could proceed against the collateral securing that indebtedness. In any such case, we may be unable to repay the amounts due under our credit facilities. This could have serious consequences to our financial condition and results of operations and could cause us to become bankrupt or insolvent. Our ability to comply with these covenants in future periods will also depend substantially on the value of our assets, our charter rates and dayrates, our ability to obtain charters and drilling contracts, our success at keeping our costs low and our ability to successfully implement our overall business strategy. Any future credit agreement or amendment or debt instrument may contain similar or more restrictive covenants.

The failure of our counterparties to meet their obligations under our time charter agreements could cause us to suffer losses or otherwise adversely affect our business.

Thirty of our drybulk vessels are currently employed under time charters and one of our drybulk vessels is currently employed on bareboat charter. In addition, we employ five vessels in the spot market. The ability and willingness of each of our counterparties to perform its obligations under a time charter agreement with us will depend on a number of factors that are beyond our control and may include, among other things, general economic conditions, the condition of the drybulk shipping industry and the overall financial condition of the counterparties. In addition, in challenging market conditions, there have been reports of charterers, including some of our charterers, renegotiating their charters or defaulting on their obligations under charters and our customers may fail to pay charter hire or attempt to renegotiate charter rates.

Three of our drybulk vessels, the MV Capri, MV Samatan and MV Capitola are currently on short term (spot) charters to Korea Line Corp. (“KLC”), a South Korean shipping company that announced on January 25, 2011 it had filed a petition for the rehabilitation proceeding for court receivership in the Seoul Central District Court, and the court had issued a preservation order. We were entitled to a rate of $61,000, $39,500 and $39,500 per day under our charters with KLC for the MV Capri, MV Samatan and MV Capitola, respectively, which were scheduled to expire between May 2013 and June 2018. On February 15, 2011 KLC’s application was approved by the Seoul Court, and Joint Receivers of KLC were appointed. Upon and with effect from March 14, 2011 the shipowning companies’ original charter agreements with KLC were terminated by the Joint Receivers, and the shipowning companies entered into new short term charter agreements with the Joint Receivers at reduced rates of hire and others terms, with the approval of the Seoul Court. On April 1, 2011 the shipowning companies filed claims in the corporate rehabilitation of KLC for (i) outstanding hire due under the original charter agreements, and (ii) damages and loss caused by the early termination of the original charter agreements. There can be no assurance that KLC will make the required payments due to us under the new charter agreements.

As is the case with the MV Capri, MV Samatan and MV Capitola, some of the charters on which we deploy 18 of the other vessels in our fleet provide for charter rates that are significantly above current market rates. Should any other counterparty fail to honor its obligations under our charter agreements, it may be difficult to secure substitute employment for such vessel, and any new charter arrangements we secure in the spot market or on time charters could be at lower rates given currently decreased charter rate levels, particularly in the drybulk carrier market. If our charterers fail to meet their obligations to us or attempt to renegotiate our charter agreements, we could sustain significant losses which could have a material adverse effect on our business, financial condition, results of operations and cash flows, as well as our ability to pay dividends, if any, in the future, and comply with covenants in our credit facilities.

We are subject to certain risks with respect to our counterparties on drilling contracts, newbuilding contracts and hedging agreements, and failure of such counterparties to meet their obligations could cause us to suffer losses or otherwise adversely affect our business.

We enter into drilling services contracts with our customers, newbuilding contracts with shipyards, interest rate swap agreements and forward exchange contracts, and have employed and may employ our drilling units on fixed-term and well contracts. Our drilling contracts, newbuilding contracts, and hedging agreements subject us to counterparty risks. The ability of each of our counterparties to perform its obligations under a contract with us will depend on a number of factors that are beyond our control and may include, among other things, general economic conditions, the condition of the offshore contract drilling industry, the overall

 

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financial condition of the counterparty, the dayrates received for specific types of drilling rigs and drillships and various expenses. In addition, in depressed market conditions, our customers may no longer need a drilling unit that is currently under contract or may be able to obtain a comparable drilling unit at a lower dayrate. As a result, customers may seek to renegotiate the terms of their existing drilling contracts or avoid their obligations under those contracts. Should a counterparty fail to honor its obligations under an agreement with us, we could sustain significant losses which could have a material adverse effect on our business, financial condition, results of operations and cash flows.

Our customers may seek to cancel or renegotiate some of our drilling contracts during periods of depressed market conditions or if we experience downtime, operational difficulties, or safety-related issues.

Currently, our contracts with customers are dayrate contracts, where we charge a fixed charge per day regardless of the number of days needed to drill the well. During depressed market conditions, a customer may no longer need a unit that is currently under contract or may be able to obtain a comparable unit at a lower daily rate. As a result, customers may seek to renegotiate the terms of their existing drilling contracts or avoid their obligations under those contracts. None of our customers has attempted to renegotiate their contracts with us. In addition, our customers may have the right to terminate, or may seek to renegotiate, existing contracts if we experience downtime or operational problems above the contractual limit or in the case of specified safety-related issues, if the unit is a total loss, if the unit is not delivered to the customer or, in certain circumstances, does not pass acceptance testing within the period specified in the contract or in other specified circumstances, which include events beyond the control of either party. Our contracts with our customers may include terms allowing them to terminate contracts with little or no prior notice and without penalty or early termination payments.

In addition, we could be required to pay penalties, which could be material, if some of our contracts with our customers are terminated due to downtime, operational problems or failure to deliver. Some of our other contracts with customers may be cancelable at the option of the customer upon payment of a penalty, which may not fully compensate us for the loss of the contract. In addition, a customer that is the subject of a bankruptcy filing may elect to reject its drilling contract. Early termination of a contract may result in a unit being idle for an extended period of time. The likelihood that a customer may seek to terminate a contract is increased during periods of market weakness. If our customers cancel some of our significant contracts and we are unable to secure new contracts on substantially similar terms, or at all, we may not ultimately realize our current backlog of contracted drilling revenue and our revenues and profitability could be materially reduced.

We have a substantial amount of debt, and we may lose the ability to obtain future financing and suffer competitive disadvantages.

We had outstanding indebtedness of $2.9 billion as of December 31, 2010. In addition, in January 2011, we drew down the full amount of our $325.0 million short-term facility in connection with the delivery of the Ocean Rig Corcovado and we repaid a short-term overdraft credit facility of $300.0 million. In March 2011, we repaid the remaining $115.0 million outstanding under our $230.0 million credit facility in connection with the delivery of the Ocean Rig Olympia.

We expect to incur substantial additional indebtedness in order to fund the aggregate remaining total construction costs and construction related expenses for our two newbuilding drillships, the Ocean Rig Poseidon and the Ocean Rig Mykonos, in the aggregate amount of approximately $766.0 million as of December 31, 2010 and any further growth of our fleet. We recently received the consent of our lenders to restructure the two $562.5 million credit facilities we have entered into with Deutsche Bank, which we refer to as the Deutsche Bank credit facilities, which is subject to completion of definitive documentation. In order to draw down the facility for the construction of the Ocean Rig Mykonos, we are required to secure suitable employment for the drillship, as required under the loan agreement, no later than August 2011. In the event we are unable to secure suitable employment for the Ocean Rig Mykonos by that date, our lenders are not required to fund certain drawdowns by us under the loan agreement unless we fully cash collateralize such borrowings; and we would be required to repay all outstanding amounts under the agreement. Further, we recently received a commitment letter from Nordea Bank Finland plc for a new $800 million secured term loan facility, which is subject to completion of definitive documentation, a portion of which we intend to draw down to prepay our $325 million short term loan agreement. In addition, in February 2011, we entered into a new $70 million secured term loan facility with an international lender to partially finance the construction costs of the newbuilding tankers Saga and Vilamoura. As of March 30, 2011, we drew down the full amount of this facility. In addition, we recently received a commitment letter, which is subject to completion of definitive documentation, from an international lender for a new $32.3 million secured term loan facility to partially finance the construction costs of the newbuilding tanker Daytona, which is scheduled to be delivered in April 2011.

This substantial level of debt and other obligations could have significant adverse consequences on our business and future prospects, including the following:

 

   

we may not be able to obtain financing in the future for working capital, capital expenditures, acquisitions, debt service requirements or other purposes;

 

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we may not be able to use operating cash flow in other areas of our business because we must dedicate a substantial portion of these funds to service the debt;

 

   

we could become more vulnerable to general adverse economic and industry conditions, including increases in interest rates, particularly given our substantial indebtedness, some of which bears interest at variable rates;

 

   

we may not be able to meet financial ratios included in our loan agreements due to market conditions or other events beyond our control, which could result in a default under these agreements and trigger cross-default provisions in our other loan agreements and debt instruments;

 

   

less leveraged competitors could have a competitive advantage because they have lower debt service requirements; and

 

   

we may be less able to take advantage of significant business opportunities and to react to changes in market or industry conditions than our competitors.

Our ability to service our debt will depend upon, among other things, our future financial and operating performance, which will be affected by prevailing economic conditions and financial, business, regulatory and other factors, some of which are beyond our control. If our operating income is not sufficient to service our current or future indebtedness, we will be forced to take actions such as reducing or delaying our business activities, acquisitions, investments or capital expenditures, selling assets, restructuring or refinancing our debt or seeking additional equity capital. We may not be able to effect any of these remedies on satisfactory terms, or at all. In addition, a lack of liquidity in the debt and equity markets could hinder our ability to refinance our debt or obtain additional financing on favorable terms in the future.

We recently expanded into and have limited experience with respect to the oil tanker sector, which sector is currently at depressed levels and could have an adverse effect on our business, results of operation and financial condition.

In November 2010, we expanded into the oil tanker sector with our entry into construction contracts for six Aframax and six Suezmax high specification tankers. We took delivery of two of our newbuilding Aframax tankers, Saga, in January 2011 one of our newbuilding Suezmax tankers, Vilamoura, in March 2011, and the remaining tankers under construction are scheduled to be delivered to us between April 2011 and December 2013. The charter markets for crude oil carriers and product tankers have deteriorated significantly since summer 2008 and are currently at depressed levels. These markets may be further depressed through 2011 given the significant number of newbuilding vessels scheduled to be delivered. Attractive investment opportunities in these sectors may reflect these depressed conditions, however, the return on any such investment is highly uncertain in this extremely challenging operating environment.

We have not previously operated vessels in these sectors, which are intensely competitive, have unique operational risks and are highly dependent on the availability of and demand for crude oil and petroleum products as well as being significantly impacted by the availability of modern tanker capacity and the scrapping, conversion or loss of older vessels. An inability to successfully execute an expansion into any of these sectors could be costly, distract us from our drybulk and offshore drilling business and divert management resources, each of which could have an adverse effect on our business, results of operation and financial condition.

Our ability to establish oil tanker industry relationships and a reputation for customer service and safety, as well as to acquire and renew charters, will depend on a number of factors, including our ability to man our vessels with experienced oil tanker crews and the ability to manage such risks. Given our limited experience with respect to the oil tanker industry, there is no assurance that we will be able to address the variety of vessel management risks in the oil tanker sector or to develop and maintain commercial relationships with leading charter companies, which could adversely affect our expansion into the oil tanker sector.

We will need to procure significant additional financing, which may be difficult to obtain on acceptable terms, in order to complete the construction of any of the four additional newbuilding drillships for which we exercise our option as well as our ten remaining newbuilding oil tankers.

We, through our majority-owned subsidiary, Ocean Rig UDW Inc. (“Ocean Rig UDW”), have entered into contracts with Samsung Heavy Industries Co. Ltd. (“Samsung”) for the construction of two ultra-deepwater newbuilding drillships, the Ocean Rig Poseidon and the Ocean Rig Mykonos. As of December 31, 2010, and after giving effect to the payments we made in connection with the delivery of the drillship Ocean Rig Corcovado, our newbuilding drillship that was delivered to us on January 3, 2011, and the Ocean Rig Olympia, our newbuilding drillship that was delivered to us on March 30, 2011, we had remaining yard installments of $766.0 million, all of which is payable in 2011 for the construction of the Ocean Rig Poseidon and the Ocean Rig Mykonos, which are scheduled to be delivered to us in July 2011 and September 2011, respectively.

 

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In December 2010, we completed the sale of 28,571,428 common shares of Ocean Rig UDW in an offering made to both non-United States persons in Norway in reliance on Regulation S under the Securities Act and to qualified institutional buyers in the United States in reliance on Rule 144A under the Securities Act (the “Private Placement”). We received net proceeds of $488.3 million from the Private Placement, $99.0 million of which was used to purchase an option contract with Samsung for the construction of up to four additional ultra-deepwater drillships, which would be “sister-ships” to the Ocean Rig Corcovado, the Ocean Rig Olympia and the two drillships currently under construction and would have the same specifications as the Ocean Rig Poseidon, one of our two drillships under construction.

We intend to apply the remaining proceeds of the Private Placement of approximately $389.3 million to partially fund remaining installment payments for our newbuilding drillships and for general corporate purposes. We intend to fund the balance of the remaining installments for our newbuilding drillships with borrowings under the two Deutsche Bank credit facilities following the restructuring of these facilities for which we have received consent from our lenders, subject to completion of definitive documentation which we expect to occur in April 2011. In addition, we intend to prepay our $325.0 million short term loan agreement with borrowings under a new $800 million secured term loan facility for which we have received a commitment letter.

In order to draw down the facility for the construction of the Ocean Rig Mykonos, we are required to secure suitable employment for the drillship, as required under the loan agreement, no later than August 2011. In the event we are unable to secure suitable employment for the Ocean Rig Mykonos by that date; and we would be required to repay all outstanding amounts under the agreement. Due to competition for drilling contracts, we may find it difficult to secure employment meeting these requirements.

In addition, as described above, we have entered into an option contract with Samsung to construct up to four additional ultra-deepwater drillships, with an estimated construction cost of $600.0 million each, which would be “sister-ships” to our current drillships and would have the same specifications as the Ocean Rig Poseidon. Each of the four options to build a drillship may be exercised by November 2011, with vessel deliveries ranging from 2013 to 2014 depending on when the options are exercised. We paid a non-refundable deposit of approximately $99.0 million in the aggregate to secure this contract. To the extent we exercise any of the options we have with Samsung for the construction of four additional newbuilding drillships, with an estimated cost of $2.4 billion in the aggregate, we will incur additional payment obligations for which we have not arranged financing. If, on the other hand, we do not exercise any of these options, we will sacrifice the corresponding deposits, for which we paid approximately $99.0 million in the aggregate.

Pursuant to the Drillship Master Agreement dated November 22, 2010, on February 25, 2011 and on March 18, 2011 the Company made additional payments to Samsung totaling $20 million in exchange for certain amendments to the originally agreed terms and conditions.

Furthermore, on November 22, 2010 and November 29, 2010, we entered into agreements with Samsung for the construction of six Aframax and six Suezmax oil tankers. We took delivery of one of our newbuilding Aframax tankers, Saga, on January 18, 2011 and one of our Suezmax tankers, Vilamoura, on March 23, 2011. The remaining tankers under construction are scheduled to be delivered to us between April 2011 and December 2013. As of March 30, 2011, we drew down the full amount of our $70 million secured term loan facility to partially finance the delivery of the newbuilding tankers Saga and Vilamoura and we have received a commitment letter for a new $32.3 million secured term loan facility to partially finance the construction cost of our newbuilding tanker Daytona. We have not secured financing for the remaining construction costs of this vessel or for our other nine remaining newbuilding tankers. We have remaining construction and construction-related costs with respect to our tankers under construction of $548.3 million in the aggregate, which amounts to approximately 71.11% of the total construction cost, $159.0 million of which is payable during 2011. In the current challenging financing environment, it may be difficult to obtain secured debt to finance these purchases or raise debt or equity in the capital markets.

The restructuring of the two Deutsche Bank credit facilities, the new $800 million secured term loan facility and the new $32.3 million term loan facility are subject to completion of definitive documentation. Furthermore, the draw down under Deutsche Bank credit facility to finance the construction of the Ocean Rig Mykonos is subject to our obtaining suitable employment for the drillship by August 2011. If we are unable to draw down under our loan agreements, we may not be able to obtain additional financing at all or on terms acceptable to us and unless we are successful in obtaining debt financing, or raising additional equity capital, we may not be able to complete these transactions. If for any reason we fail to take delivery of our two newbuilding drillships or our 10 newbuilding oil tankers, we would be prevented from realizing potential revenues from these projects and we could also lose our deposit money, which as of December 31, 2010, amounted to $697.6 million and $122.8 million, respectively, and incur additional costs and liability to the shipyards, which may pursue claims against us under our newbuilding construction contracts and retain and sell to third parties those newbuildings to the extent completed.

Construction of vessels is subject to risks, including delays and cost overruns, which could have an adverse impact on our available cash resources and results of operations.

We have entered into contracts with an established Chinese shipyard for the construction of two Panamax drybulk carriers, which we expect to take delivery of in November 2011 and January 2012, respectively. We, through our majority-owned subsidiary, Ocean Rig UDW, have also entered into contracts with Samsung for the construction of two ultra-deepwater drillships, which we

 

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expect to take delivery of in July 2011 and September 2011, respectively. In addition, we have also entered into contracts with Samsung for the construction of five Aframax and five Suezmax high specification tankers, which we expect to take delivery of between April 2011 and December 2013. Currently, each of our newbuilding vessels is expected to be delivered to us on time.

From time to time in the future, we may undertake new construction projects and conversion projects. In addition, we make significant upgrade, refurbishment, conversion and repair expenditures for our fleet from time to time, particularly as our vessels become older. Some of these expenditures are unplanned. These projects together with our existing construction projects and other efforts of this type are subject to risks of cost overruns or delays inherent in any large construction project as a result of numerous factors, including the following:

 

   

shipyard unavailability;

 

   

shortages of equipment, materials or skilled labor;

 

   

unscheduled delays in the delivery of ordered materials and equipment;

 

   

local customs strikes or related work slowdowns that could delay importation of equipment or materials;

 

   

engineering problems, including those relating to the commissioning of newly designed equipment;

 

   

latent damages or deterioration to the hull, equipment and machinery in excess of engineering estimates and assumptions;

 

   

work stoppages;

 

   

client acceptance delays;

 

   

weather interference or storm damage;

 

   

disputes with shipyards and suppliers;

 

   

shipyard failures and difficulties;

 

   

failure or delay of third-party equipment vendors or service providers;

 

   

unanticipated cost increases; and

 

   

difficulty in obtaining necessary permits or approvals or in meeting permit or approval conditions.

These factors may contribute to cost variations and delays in the delivery of our newbuilding vessels. Delays in the delivery of these newbuilding vessels or the inability to complete construction in accordance with their design specifications may, in some circumstances, result in a delay in contract commencement, resulting in a loss of revenue to us, and may also cause customers to renegotiate, terminate or shorten the term of a drilling contract or charter agreement, pursuant to applicable late delivery clauses. In the event of termination of one of these contracts, we may not be able to secure a replacement contract on as favorable terms. Additionally, capital expenditures for vessel upgrades, refurbishment and construction projects could materially exceed our planned capital expenditures. Moreover, our vessels that may undergo upgrade, refurbishment and repair may not earn a dayrate or charter hire, respectively, during the periods they are out of service. In addition, in the event of a shipyard failure or other difficulty, we may be unable to enforce certain provisions under our newbuilding contracts such as our refund guarantee, to recover amounts paid as installments under such contracts. The occurrence of any of these events may have a material adverse effect on our results of operations, financial condition or cash flows.

In the event our counterparties do not perform under their agreements with us for the construction of our newbuilding vessels and we are unable to enforce certain refund guarantees, we may lose all or part of our investment, which would have a material adverse effect on our results of operations, financial condition and cash flows.

We took delivery of our newbuilding drillships, the Ocean Rig Corcovado and the Ocean Rig Olympia, on January 3, 2011 and March 30, 2011, respectively, from Samsung, which is located in South Korea. Currently, we have newbuilding contracts with Samsung for the construction of two sixth generation, advanced capability ultra-deepwater drillships, which are scheduled to be delivered in July 2011 and September 2011, respectively. As of December 31, 2010, we have made total yard payments in the amount of approximately $697.6 million for these two drillships and we have remaining yard installments in the amount of $766 million billion before we take possession of these drillships.

 

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In addition, we have entered into an option contract with Samsung to construct up to four additional ultra-deepwater drillships, with an estimated construction cost of $600.0 million each, which would be “sister-ships” to our current drillships and would have the same specifications as the Ocean Rig Poseidon, one of our two drillships under construction. Each of the four options to build a drillship may be exercised by November 2011, with vessel deliveries ranging from 2013 to 2014 depending on when the options are exercised. We paid a non-refundable deposit of $99.0 million in the aggregate to secure this contract. Pursuant to the Drillship Master Agreement dated November 22, 2010, on February 25, 2011 and on March 18, 2011 the Company made additional payments to Samsung totaling $20 million in exchange for certain amendments to the originally agreed terms and conditions.

We took delivery of our newbuilding tankers, Saga and Vilamoura on January 18, 2011 and March 23, 2011, respectively, from Samsung. We have newbuilding contracts with Samsung for the construction of an additional 10 high-specification tankers, consisting of five Aframax and five Suezmax tankers, which are scheduled to be delivered to us between April 2011 and December 2013. As of December 31, 2010, we have made total yard payments in the amount of approximately $94.3 million for these ten tankers and we have remaining yard installments in the amount of $548.3 million before we take possession of these tankers.

Furthermore, we currently have newbuilding contracts with an established Chinese shipyard for the construction of two Panamax drybulk vessels scheduled to be delivered to us in November 2011 and January 2012. As of December 31, 2010, we have made total yard payments in the amount of approximately $13.2 million for these two vessels and we have remaining yard installments in the amount of $52.9 million before we take possession of these vessels.

In the event our counterparties under the construction contracts discussed above do not perform under their agreements with us and we are unable to enforce certain refund guarantees with third party banks due to an outbreak of war, bankruptcy or otherwise, we may lose all or part of our investment, which would have a material adverse effect on our results of operations, financial condition and cash flows.

Our loan agreement for the Ocean Rig Mykonos requires us to secure employment for that drillship by August 2011 at a minimum specified dayrate and for a minimum specified term, which we have not yet satisfied.

Our ability to borrow amounts under our current credit facilities, including our cash requirements relating to the purchase of our two newbuilding ultra-deepwater drillships, is subject to the satisfaction of certain conditions precedent and compliance with terms and conditions included therein. In particular, our lenders under our $562.5 million loan agreement for financing of the Ocean Rig Mykonos are not required to fund drawdowns by us under such loan agreement and we will be required to repay all outstanding amounts in the event we do not obtain, by August 2011 an employment contract for the drillship at minimum dayrates of $545,000 for a two year contract, $550,000 for a three year contract and $510,000 for a five year contract and with charterers that are satisfactory to such lenders. Due to competition for drilling contracts, we may find it difficult to secure employment meeting these requirements. We have not secured employment for the Ocean Rig Mykonos. Prior to each drawdown of the two Deutsche Bank credit facilities, we will be required, among other things, to satisfy minimum security value requirements, and, prior to our entry into suitable employment contracts, as required by the loan agreement, we are required to meet such minimum security value requirement with additional cash collateral. To the extent that we are not able to satisfy these requirements, which may also occur if the value of our drilling units declines, we will not be able to draw down any amount under our credit facilities without obtaining a waiver or consent from the lender, which may be withheld by the lender.

If for any reason we fail to take this delivery of the Ocean Rig Mykonos, we would be prevented from realizing potential revenues from these newbuilding projects, we could also lose our deposit money, which as of December 31, 2010 amounted to $ 322.8 million in the aggregate for the Ocean Rig Mykonos, and we could incur additional costs and liability to Samsung, which may pursue claims against us under our newbuilding construction contracts and retain and sell to third parties such newbuildings to the extent completed.

We may be unable to secure ongoing drilling contracts, including for our one uncontracted drillship under construction, due to strong competition, and the contracts that we enter into may not provide sufficient cash flow to meet our cash flow obligations with respect to our indebtedness.

We have not yet secured drilling contracts for one of our newbuilding drillships, the Ocean Rig Mykonos, scheduled to be delivered to us during the third quarter of 2011. The existing drilling contracts for our drilling units currently employed are scheduled to expire from the fourth quarter of 2011 through the first quarter of 2013. We cannot guarantee that we will be able to obtain contracts for our one uncontracted newbuilding drillship or, upon the expiration or termination of the current contracts, for our drilling units currently employed or that there will not be a gap in employment between current contracts and subsequent contracts. In

 

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particular, if the price of crude oil is low, or it is expected that the price of crude oil will decrease in the future, at a time when we are seeking to arrange employment contracts for our drilling units, we may not be able to obtain employment contracts at attractive rates or at all.

If the rates which we receive for the reemployment of our current drilling units are reduced, we will recognize less revenue from their operations. In addition, delays under existing contracts could cause us to lose future contracts if a drilling unit is not available to start work at the agreed date. Our ability to meet our cash flow obligations will depend on our ability to consistently secure drilling contracts for our drilling units at sufficiently high dayrates. We cannot predict the future level of demand for our services or future conditions in the oil and gas industry. If the oil and gas companies do not continue to increase exploration, development and production expenditures, we may have difficulty securing drilling contracts, including for the two newbuilding drillships we have agreed to acquire, or we may be forced to enter into contracts at unattractive dayrates. Either of these events could impair our ability to generate sufficient cash flow to make principal and interest payments under our indebtedness and meet our capital expenditure and other obligations.

We will depend upon the spot market in our tanker segment and any decrease in spot charter rates may adversely affect our financial condition and results of operations.

We currently employ our two operating tankers in spot market pools managed by Heidmar Inc., a company related to our Chairman and Chief Executive Officer. We intend to employ our remaining 10 newbuilding tankers, three of which are scheduled to be delivered to us in 2011, in spot market pools and as a result, our results of operations in our tanker segment will be significantly affected by conditions in the oil tanker spot market. The spot market is highly volatile and fluctuates based on tanker and oil supply and demand. The successful operation of our tankers in spot market pools depends on, among other things, our pool manager’s ability to obtain profitable charters and minimizing, to the extent possible, time spent waiting for charters and traveling unladen to pick up cargo. In the past, there have been periods when spot rates have declined below operating costs of vessels. Future spot rates may decline significantly and may not be sufficient for us to operate our tankers profitably, which would have an adverse impact on our financial condition and results of operations.

The removal of any tanker vessels from the Sigma or Blue Fin tanker pools or any other pooling arrangement may adversely affect our operating results.

We currently employ our two operating tankers in spot market pools managed by Heidmar Inc., a related party, and we intend to employ our remaining 10 newbuilding tankers, three of which are scheduled to be delivered to us in 2011, in spot market pools. If we remove any tankers vessels from our pooling arrangements to operate under longer-term time charters, the benefits to us of the pooling arrangements could diminish. If for any reason our tanker vessels or any third party vessels cease to participate in the Sigma tanker pool or the Blue Fin tanker pool or another pooling arrangement, or if the pooling arrangements are significantly restricted, we may not achieve the benefits intended by pool participation and our results of operations could be harmed.

Purchasing and operating secondhand vessels may result in increased operating costs and reduced fleet utilization.

While we have the right to inspect previously owned vessels prior to our purchase of them and we intend to inspect all secondhand vessels that we acquire in the future, such an inspection does not provide us with the same knowledge about their condition that we would have if these vessels had been built for and operated exclusively by us. A secondhand vessel may have conditions or defects that we were not aware of when we bought the vessel and which may require us to incur costly repairs to the vessel. These repairs may require us to put a vessel into dry dock which would reduce our fleet utilization. Furthermore, we usually do not receive the benefit of warranties on secondhand vessels.

Our earnings may be adversely affected if we are not able to take advantage of favorable charter rates for our drybulk vessels.

We charter our drybulk carriers to customers primarily pursuant to long-term or short-term time charters, which generally last from several days to several weeks, and long-term time charters, which can last up to several years. As of April 12, 2011, 34 of our drybulk vessels were employed under time charters with an average duration of two years. We may in the future extend the charter periods for additional vessels in our fleet. Our vessels that are committed to longer-term charters may not be available for employment on short-term charters during periods of increasing short-term charter hire rates when these charters may be more profitable than long-term charters.

Our board of directors has determined to suspend the payment of cash dividends as a result of market conditions in the international shipping industry, and until such market conditions improve, it is unlikely that we will reinstate the payment of dividends.

In light of a lower freight rate environment and a highly challenged financing environment, our board of directors, beginning with the fourth quarter of 2008, has suspended our common share dividend. Our dividend policy will be assessed by the board of

 

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directors from time to time. The suspension allows us to preserve capital and use the preserved capital to capitalize on market opportunities as they may arise. Until market conditions improve, it is unlikely that we will reinstate the payment of dividends. In addition, other external factors, such as our lenders imposing restrictions on our ability to pay dividends under the terms of our loan agreements, may limit our ability to pay dividends. Further, we may not be permitted to pay dividends if we are in breach of the covenants contained in our loan agreements. The waivers of our non-compliance with the covenants in our loan agreements that we received from our lenders prohibit us from paying dividends.

Investment in derivative instruments such as freight forward agreements could result in losses.

From time to time, we may take positions in derivative instruments including freight forward agreements (“FFAs”). FFAs and other derivative instruments may be used to hedge a vessel owner’s exposure to the charter market by providing for the sale of a contracted charter rate along a specified route and period of time. Upon settlement, if the contracted charter rate is less than the average of the rates, as reported by an identified index, for the specified route and period, the seller of the FFA is required to pay the buyer an amount equal to the difference between the contracted rate and the settlement rate, multiplied by the number of days in the specified period. Conversely, if the contracted rate is greater than the settlement rate, the buyer is required to pay the seller the settlement sum. If we take positions in FFAs or other derivative instruments and do not correctly anticipate charter rate movements over the specified route and time period, we could suffer losses in the settling or termination of the FFA. This could adversely affect our results of operations and cash flows.

The derivative contracts we have entered into to hedge our exposure to fluctuations in interest rates could result in higher than market interest rates and charges against our income.

We have entered into 34 interest rate swaps for purposes of managing our exposure to fluctuations in interest rates applicable to indebtedness under our credit facilities, which were advanced at a floating rate based on LIBOR. Our hedging strategies, however, may not be effective and we may incur substantial losses if interest rates move materially differently from our expectations. Most of our existing interest rate swaps do not, and future derivative contracts may not, qualify for treatment as hedges for accounting purposes. We recognize fluctuations in the fair value of these contracts in our statement of operations. In addition, our financial condition could be materially adversely affected to the extent we do not hedge our exposure to interest rate fluctuations under our financing arrangements, under which loans have been advanced at a floating rate based on LIBOR and for which we have not entered into an interest rate swap or other hedging arrangement. Any hedging activities we engage in may not effectively manage our interest rate exposure or have the desired impact on our financial conditions or results of operations. At December 31, 2010, the fair value of our interest rate swaps was a liability of $231 million.

We depend entirely on TMS Bulkers and TMS Tankers to manage and charter our drybulk fleet and our tankers under construction, respectively.

With respect to our operations in the drybulk and tanker shipping sectors, we currently have five employees, our Chief Executive Officer, our Chief Operating Officer, our Chief Financial Officer, our Senior Vice President Head of Accounting and Reporting and our Internal Auditor. As of January 1, 2011, we subcontract the commercial and technical management of our drybulk fleet and tankers under construction, including crewing, maintenance and repair to TMS Bulkers and TMS Tankers Ltd. (“TMS Tankers”), respectively. TMS Bulkers and TMS Tankers are beneficially majority-owned by our Chairman and Chief Executive Officer, Mr. George Economou and members of his immediate family. The remaining capital stock of TMS Bulkers and TMS Tankers is beneficially owned by the sister of Mr. Economou, Ms. Chryssoula Kandylidis, who serves on our board of directors. The loss of the services or TMS Bulkers or TMS Tankers or their failure to perform their obligations to us could materially and adversely affect the results of our operations. Although we may have rights against TMS Bulkers and TMS Tankers if they default on their obligations to us, you will have no recourse against either of them. Further, we are required to seek approval from our lenders to change our manager.

Under our management agreements with TMS Bulkers and TMS Tankers, TMS Bulkers and TMS Tankers shall not be liable to us for any losses or damages arising in the course of its performance under the agreement unless such loss or damage is proved to have resulted from the negligence, gross negligence or willful default by TMS Bulkers and TMS Tankers, its employees or agents and in such case TMS Bulkers’s and TMS Tankers’s liability per incident or series of incidents is limited to a total of ten times the annual management fee payable under the relevant agreement. The management agreements further provide that TMS Bulkers and TMS Tankers shall not be liable for any of the actions of the crew, even if such actions are negligent, grossly negligent or willful, except to the extent that they are shown to have resulted from a failure by TMS Bulkers and TMS Tankers to perform their obligations with respect to management of the crew. Except to the extent of the liability cap described above, we have agreed to indemnify TMS Bulkers and TMS Tankers and their employees and agents against any losses incurred in the course of the performance of the agreement.

 

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TMS Bulkers and TMS Tankers are privately held company and there is little or no publicly available information about them.

The ability of TMS Bulkers and TMS Tankers to continue providing services for our benefit will depend in part on their own financial strength. Circumstances beyond our control could impair TMS Bulkers’s and TMS Tankers’s financial strength, and because it is privately held it is unlikely that information about its financial strength would become public unless TMS Bulkers or TMS Tankers began to default on their obligations. As a result, an investor in our shares might have little advance warning of problems affecting TMS Bulkers and TMS Tankers, even though these problems could have a material adverse effect on us.

We are dependent upon key management personnel, particularly our Chairman and Chief Executive Officer Mr. George Economou.

Our continued operations depend to a significant extent upon the abilities and efforts of our Chairman and Chief Executive Officer, Mr. George Economou. The loss of Mr. Economou’s services to our Company could adversely affect our discussions with our lenders and management of our fleet during this difficult economic period and, therefore, could adversely affect our business prospects, financial condition and results of operations. We do not currently, nor do we intend to, maintain “key man” life insurance on any of our personnel, including Mr. Economou.

Our Chairman, Chief Executive Officer has affiliations with TMS Bulkers and TMS Tankers which could create conflicts of interest.

Our major shareholder is controlled by Mr. George Economou, who controls four entities that, in the aggregate, are deemed to beneficially own, directly or indirectly, approximately 13.9% of our outstanding common shares as of April 12, 2011 and a majority of the capital stock of TMS Bulkers and TMS Tankers. Mr. Economou is also our Chairman, Chief Executive Officer and a director of our Company. These responsibilities and relationships could create conflicts of interest between us, on the one hand, and TMS Bulkers and TMS Tankers, on the other hand. These conflicts may arise in connection with the chartering, purchase, sale and operations of the vessels in our fleet versus drybulk carriers and tankers managed by other companies affiliated with TMS Bulkers or TMS Tankers and Mr. Economou.

In particular, TMS Bulkers or TMS Tankers may give preferential treatment to vessels that are beneficially owned by related parties because Mr. Economou and members of his family may receive greater economic benefits.

We may have difficulty managing our planned growth properly.

We intend to continue to grow our fleet. Our future growth will primarily depend on our ability to:

 

   

locate and acquire suitable vessels;

 

   

identify and consummate acquisitions or joint ventures;

 

   

enhance our customer base;

 

   

manage our expansion; and

 

   

obtain required financing on acceptable terms.

Growing any business by acquisition presents numerous risks, such as undisclosed liabilities and obligations, the possibility that indemnification agreements will be unenforceable or insufficient to cover potential losses and difficulties associated with imposing common standards, controls, procedures and policies, obtaining additional qualified personnel, managing relationships with customers and integrating newly acquired assets and operations into existing infrastructure. We may be unable to successfully execute our growth plans or we may incur significant expenses and losses in connection with our future growth which would have an adverse impact on our financial condition and results of operations.

If any of our vessels fail to maintain their class certification and/or fail any annual survey, intermediate survey, dry docking or special survey, that vessel or unit would be unable to carry cargo or operate, thereby reducing our revenues and profitability and violating certain covenants under our credit facilities.

The hull and machinery of every commercial drybulk vessel, tanker and drilling unit must be classed by a classification society authorized by its country of registry. The classification society certifies that a vessel is safe and seaworthy in accordance with the applicable rules and regulations of the country of registry of the vessel and the Safety of Life at Sea Convention (“SOLAS”). All of our drybulk vessels are certified as being “in class” by all the major Classification Societies (e.g., American Bureau of Shipping, Lloyd’s Register of Shipping). Both our drilling rigs are certified as being “in class” by De Norske Veritas (DNV). The Leiv Eiriksson completed the 5-year class in 2006 and the Eirik Raude in 2007. The Leiv Eiriksson and the Eirik Raude are due for their next Special Periodic Survey in the first quarter of 2011 and 2012, respectively, while the Ocean Rig Corcovado, the Ocean Rig Olympia, and our drillships under construction are due for their first Special Periodical Survey in 2016. Saga, our tanker that was delivered to us in January 2011, Vilamoura, the tanker delivered to us in March 2011 are due for their first Special Periodical Survey in January 2016.

 

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A vessel must undergo annual surveys, intermediate surveys, dry dockings and special surveys. In lieu of a special survey, a vessel’s machinery may be on a continuous survey cycle, under which the machinery would be surveyed periodically over a five-year period. Every vessel is also required to be dry docked every two to three years for inspection of the underwater parts of such vessel.

If any vessel or drilling unit does not maintain its class and/or fails any annual survey, intermediate survey, dry docking or special survey, the vessel will be unable to carry cargo between ports, or operate, and will be unemployable and uninsurable which could cause us to be in violation of certain covenants in our credit facilities. Any such inability to carry cargo or be employed, or operate, or any such violation of covenants, could have a material adverse impact on our financial condition and results of operations.

The aging of our drybulk carrier fleet may result in increased operating costs or loss of hire in the future, which could adversely affect our earnings.

In general, the cost of maintaining a vessel in good operating condition increases with the age of the vessel. As of April 12, 2011, the 35 vessels in our drybulk carrier fleet had an average age of 8.1 years. As our fleet ages we will incur increased costs. Older vessels are typically less fuel efficient and more costly to maintain than more recently constructed vessels due to improvements in engine technology. Cargo insurance rates increase with the age of a vessel, making older vessels less desirable to charterers. Governmental regulations and safety or other equipment standards related to the age of vessels may also require expenditures for alterations or the addition of new equipment to our vessels and may restrict the type of activities in which our vessels may engage. As our vessels age, market conditions may not justify those expenditures or enable us to operate our vessels profitably during the remainder of their useful lives.

In addition, charterers actively discriminate against hiring older vessels. For example, Rightship, the ship vetting service founded by Rio Tinto and BHP-Billiton which has become the major vetting service in the drybulk shipping industry, ranks the suitability of vessels based on a scale of one to five stars. Most major carriers will not charter a vessel that Rightship has vetted with fewer than three stars. Rightship automatically downgrades any vessel over 18 years of age to two stars, which significantly decreases its chances of entering into a charter. Therefore, as our vessels approach and exceed 18 years of age, we may not be able to operate these vessels profitably during the remainder of their useful lives.

Our vessels and drilling units may suffer damage and we may face unexpected dry docking costs, which could adversely affect our cash flow and financial condition.

If our drybulk vessels or tankers suffer damage, they may need to be repaired at a dry docking facility. The costs of dry dock repairs are unpredictable and can be substantial. The loss of earnings while our vessels are being repaired and repositioned, as well as the actual cost of these repairs, would decrease our earnings and reduce the amount of dividends, if any, in the future. We may not have insurance that is sufficient to cover all or any of these costs or losses and may have to pay dry docking costs not covered by our insurance.

If our drilling units suffer damage, they may need to be repaired at a yard facility. The costs of discontinued operations due to repairs are unpredictable and can be substantial. The loss of earnings while our rigs are being repaired and repositioned, as well as the actual cost of these repairs, would decrease our earnings and reduce the amount of dividends, if any, in the future. We may not have insurance that is sufficient to cover all or any of these costs or losses and may have to pay repair costs not covered by our insurance.

We may not be able to maintain or replace our drilling units as they age.

The capital associated with the repair and maintenance of our fleet increases with age. We may not be able to maintain our existing drilling units to compete effectively in the market, and our financial resources may not be sufficient to enable us to make expenditures necessary for these purposes or to acquire or build replacement drilling units.

Currently, our revenues in our offshore drilling segment depend on two drilling rigs and two drillships, which are designed to operate in harsh environments. The damage or loss of either of these drilling rigs could have a material adverse effect on our results of operations and financial condition.

Our revenues in our offshore drilling segment are dependent on two drilling rigs, the Eirik Raude, which is currently operating offshore of Ghana, and the Leiv Eiriksson, which is currently operating in the Black Sea, and the drillship Ocean Rig Corcovado, which is currently earning mobilization and winterization fees under its contract with Cairn Energy plc (“Cairn”) and is scheduled to commence drilling and related operations in Greenland in May 2011. The Ocean Rig Olympia is scheduled to commence in the second quarter of 2011 contracts to drill a total of five wells with Vanco Cote d’Ivoire Ltd. and Vanco Ghana Ltd. (collectively, “Vanco”) for exploration drilling offshore of Ghana and Cote d’Ivoire. Our drilling units may be exposed to risks inherent in deepwater drilling and operating in harsh environments that may cause damage or loss. The drilling of oil and gas wells, particularly exploratory wells where

 

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little is known of the subsurface formations involves risks, such as extreme pressure and temperature, blowouts, reservoir damage, loss of production, loss of well control, lost or stuck drill strings, equipment defects, punch throughs, craterings, fires, explosions, pollution and natural disasters such as hurricanes and tropical storms. In addition, offshore drilling operations are subject to perils peculiar to marine operations, either while on-site or during mobilization, including capsizing, sinking, grounding, collision, marine life infestations, and loss or damage from severe weather. The replacement or repair of a rig or drillship could take a significant amount of time, and we may not have any right to compensation for lost revenues during that time, despite our comprehensive loss of hire insurance policy. As long as we have only three drilling units in operation, loss of or serious damage to one of the drilling units could materially reduce our revenues in our offshore drilling segment for the time that a rig or drillship is out of operation. In view of the sophisticated design of the drilling units, we may be unable to obtain a replacement unit that could perform under the conditions that our drilling units are expected to operate, which could have a material adverse effect on our results of operations and financial condition.

We are exposed to U.S. Dollar and foreign currency fluctuations and devaluations that could harm our reported revenue and results of operations.

We generate all of our revenues in U.S. Dollars but currently incur approximately 50% of our operating expenses and the majority of our general and administrative expenses in currencies other than the U.S. Dollar, primarily the Euro. Our principal currency for our operations and financing for the offshore drilling sector is the U.S. Dollar. The dayrates for our two drilling rigs, the Leiv Eiriksson and the Eirik Raude, and our drillships, the Ocean Rig Corcovado and the Ocean Rig Olympia, our principal source of revenues in the offshore drilling sector, are quoted and received in U.S. Dollars. The principal currency for operating expenses in the offshore drilling sector is also the U.S. Dollar; however, a significant portion of employee salaries and administration expenses, as well as parts of the consumables and repair and maintenance expenses are paid in Norwegian Kroner (NOK), Great British Pound (GBP), Canadian dollar (CAD) and Euro (EUR). Because a significant portion of our expenses are incurred in currencies other than the U.S. Dollar, our expenses may from time to time increase relative to our revenues as a result of fluctuations in exchange rates, particularly between the U.S. Dollar and the Euro, which could affect the amount of net income that we report in future periods. We use financial derivatives to operationally hedge some of our currency exposure. Our use of financial derivatives involves certain risks, including the risk that losses on a hedged position could exceed the nominal amount invested in the instrument and the risk that the counterparty to the derivative transaction may be unable or unwilling to satisfy its contractual obligations, which could have an adverse effect on our results.

If the recent volatility in LIBOR continues, it could affect our profitability, earnings and cash flow.

LIBOR has recently been volatile, with the spread between LIBOR and the prime lending rate widening significantly at times. These conditions are the result of the recent disruptions in the international credit markets. Because the interest rates borne by our outstanding indebtedness fluctuate with changes in LIBOR, if this volatility were to continue, it would affect the amount of interest payable on our debt, which in turn, could have an adverse effect on our profitability, earnings and cash flow.

Furthermore, interest in most loan agreements in our industry has been based on published LIBOR rates. Recently, however, lenders have insisted on provisions that entitle the lenders, in their discretion, to replace published LIBOR as the base for the interest calculation with their cost-of-funds rate. If we are required to agree to such a provision in future loan agreements, our lending costs could increase significantly, which would have an adverse effect on our profitability, earnings and cash flow.

We are a holding company, and we depend on the ability of our subsidiaries to distribute funds to us in order to satisfy our financial obligations or pay dividends, if any, in the future.

We are a holding company and our subsidiaries conduct all of our operations and own all of our operating assets. We have no significant assets other than the equity interests in our subsidiaries. As a result, our ability to make dividend payments, if any, in the future depends on our subsidiaries and their ability to distribute funds to us. Under the waivers of our non-compliance with covenants in our loan agreements, we are prohibited from paying dividends during the waiver period. Furthermore, certain of our subsidiaries are obligated to use their surplus cash to prepay the balance on their long-term loans. If we are unable to obtain funds from our subsidiaries, our board of directors may not exercise its discretion to pay dividends in the future. We do not intend to obtain funds from other sources to pay dividends, if any, in the future. In addition, the declaration and payment of dividends, if any, in the future will depend on the provisions of Marshall Islands law affecting the payment of dividends. Marshall Islands law generally prohibits the payment of dividends if the company is insolvent or would be rendered insolvent upon payment of such dividend and dividends may be declared and paid out of our operating surplus; but in this case, there is no such surplus. Dividends may be declared or paid out of net profits for the fiscal year in which the dividend is declared and for the preceding fiscal year. Our ability to pay dividends, if any, in the future will also be subject to our satisfaction of certain financial covenants contained in our credit facilities and certain waivers related thereto. We may be unable to pay dividends in the anticipated amounts or at all.

 

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As we expand our business, we may need to improve our operating and financial systems and will need to recruit suitable employees and crew for our vessels.

Our current operating and financial systems may not be adequate as we expand the size of our fleet and our attempts to improve those systems may be ineffective. In addition, as we expand our fleet, we will need to recruit suitable additional seafarers and shoreside administrative and management personnel. We may be unable to hire suitable employees as we expand our fleet. If we or our crewing agent encounters business or financial difficulties, we may not be able to adequately staff our vessels. If we are unable to grow our financial and operating systems or to recruit suitable employees as we expand our fleet, our financial performance and our ability to pay dividends, if any, in the future may be adversely affected.

U.S. tax authorities could treat us as a “passive foreign investment company,” which could have adverse U.S. federal income tax consequences to U.S. shareholders.

A foreign corporation will be treated as a “passive foreign investment company” (“PFIC”) for U.S. federal income tax purposes if either (1) at least 75% of its gross income for any taxable year consists of certain types of “passive income” or (2) at least 50% of the average value of the corporation’s assets produce or are held for the production of those types of “passive income.” For purposes of these tests, “passive income” includes dividends, interest, and gains from the sale or exchange of investment property and rents and royalties other than rents and royalties which are received from unrelated parties in connection with the active conduct of a trade or business. For purposes of these tests, income derived from the performance of services does not constitute “passive income.” U.S. shareholders of a PFIC are subject to a disadvantageous U.S. federal income tax regime with respect to the income derived by the PFIC, the distributions they receive from the PFIC and the gain, if any, they derive from the sale or other disposition of their shares in the PFIC.

Based on our method of operation, we do not believe that we are, have been or will be a PFIC with respect to any taxable year. In this regard, we intend to treat the gross income we derive or are deemed to derive from our time and voyage chartering activities as services income, rather than rental income. Accordingly, we believe that our income from our time and voyage chartering activities does not constitute passive income, and the assets that we own and operate in connection with the production of that income do not constitute assets that produce or are held for production of passive income.

There is substantial legal authority supporting this position consisting of case law and U.S. Internal Revenue Service, or IRS, pronouncements concerning the characterization of income derived from time charters and voyage charters as services income for other tax purposes. However, it should be noted that there is also authority which characterizes time charter income as rental income rather than services income for other tax purposes. Accordingly, no assurance can be given that the IRS or a court of law will accept this position, and there is a risk that the IRS or a court of law could determine that we are a PFIC. Moreover, no assurance can be given that we would not constitute a PFIC for any future taxable year if the nature and extent of our operations changed.

If the IRS were to find that we are or have been a PFIC for any taxable year, our U.S. shareholders will face adverse U.S. federal income tax consequences and information reporting obligations. Under the PFIC rules, unless those shareholders make an election available under the Code (which election could itself have adverse consequences for such shareholders), such shareholders would be subject to U.S. federal income tax at the then prevailing income tax rates on ordinary income plus interest upon excess distributions and upon any gain from the disposition of our common shares, as if the excess distribution or gain had been recognized ratably over the U.S. shareholder’s holding period of our common shares. See “Item 10.E Taxation” for a more comprehensive discussion of the U.S. federal income tax consequences to U.S. shareholders if we are treated as a PFIC.

We may have to pay tax on United States source shipping income, which would reduce our earnings.

Under the U.S. Internal Revenue Code of 1986 (the “Code”), 50% of the gross shipping income of a vessel-owning or -chartering corporation, such as ourselves and certain of our subsidiaries, that is attributable to transportation that begins or ends, but that does not both begin and end, in the United States may be subject to a 4% U.S. federal income tax without allowance for any deductions, unless that corporation qualifies for exemption from tax under Section 883 of the Code and the Treasury Regulations promulgated thereunder.

We expect that we and each of our vessel-owning subsidiaries qualify for this statutory tax exemption and we have taken and intend to continue to take this position for U.S. federal income tax return reporting purposes. However, there are factual circumstances beyond our control that could cause us to lose the benefit of this tax exemption and thereby become subject to U.S. federal income tax on our U.S. source shipping income. For example, we would no longer qualify for exemption under Section 883 of the Code for a particular taxable year if shareholders with a five percent or greater interest in our common stock owned, in the aggregate, 50% or more of our outstanding common stock for more than half of the days during the taxable year. Due to the factual nature of the issues involved, it is possible that our tax-exempt status or that of any of our subsidiaries may change.

If we or our vessel-owning subsidiaries are not entitled to this exemption under Section 883 for any taxable year, we or our subsidiaries could be subject for those years to an effective 2% (i.e., 50% of 4%) U.S. federal income tax on our gross shipping

 

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income attributable to transportation that begins or ends, but that does not both begin and end, in the United States. The imposition of this taxation could have a negative effect on our business and would result in decreased earnings available for distribution to our shareholders.

The preferential tax rates applicable to qualified dividend income are temporary, and the enactment of proposed legislation could affect whether dividends paid by us constitute qualified dividend income eligible for the preferential rate.

Certain of our distributions may be treated as qualified dividend income eligible for preferential rates of U.S. federal income tax to non-corporate U.S. shareholders. In the absence of legislation extending the term for these preferential tax rates, all dividends received by such U.S. taxpayers in tax years beginning on January 1, 2013 or later will be taxed at graduated tax rates applicable to ordinary income.

In addition, legislation has been previously proposed in the U.S. Congress that would, if enacted, deny the preferential rate of U.S. federal income tax currently imposed on qualified dividend income with respect to dividends received from a non-U.S. corporation if the non-U.S. corporation is created or organized under the laws of a jurisdiction that does not have a comprehensive income tax system. Because the Marshall Islands imposes only limited taxes on entities organized under its laws, it is likely that if this legislation were enacted, the preferential tax rates of federal income tax may no longer be applicable to distributions received from us. As of the date of this prospectus, it is not possible to predict with certainty whether this proposed legislation will be enacted.

A change in tax laws, treaties or regulations, or their interpretation, of any country in which we operate our drilling units could result in a high tax rate on our worldwide earnings, which could result in a significant negative impact on our earnings and cash flows from operations.

We conduct our worldwide drilling operations through various subsidiaries. Tax laws and regulations are highly complex and subject to interpretation. Consequently, we are subject to changing tax laws, treaties and regulations in and between countries in which we operate. Our income tax expense is based upon our interpretation of tax laws in effect in various countries at the time that the expense was incurred. A change in these tax laws, treaties or regulations, or in the interpretation thereof, or in the valuation of our deferred tax assets, could result in a materially higher tax expense or a higher effective tax rate on our worldwide earnings in our offshore drilling segment, and such change could be significant to our financial results. If any tax authority successfully challenges our operational structure, inter-company pricing policies or the taxable presence of our key subsidiaries in certain countries; or if the terms of certain income tax treaties are interpreted in a manner that is adverse to our structure; or if we lose a material tax dispute in any country, particularly in the United States, Canada, the United Kingdom, or Norway, our effective tax rate on our worldwide earnings from our offshore drilling operations could increase substantially and our earnings and cash flows from these operations could be materially adversely affected.

Our subsidiaries that provide services relating to drilling may be subject to taxation in the jurisdictions in which such activities are conducted. Such taxation would result in decreased earnings available to our shareholders. Ocean Rig ASA has transferred the domicile of its subsidiaries that own, directly or indirectly, the Leiv Eiriksson and the Eirik Raude to the Republic of the Marshall Islands. The Leiv Eiriksson and the Eirik Raude were transferred to the Marshall Island entities in December 2008 and the remainder of the rig-owning structure has been reorganized under Marshall Island entities during 2009.

Investors are encouraged to consult their own tax advisors concerning the overall tax consequences of the ownership of our common stock arising in an investor’s particular situation under U.S. federal, state, local and foreign law.

A spin-off of our offshore drilling or tanker segment may have adverse tax consequences to shareholders.

Sometime in 2011, we may distribute, or spin-off, a voting and economic interest in our majority-owned subsidiary, Ocean Rig UDW, formerly known as Primelead Shareholders Inc., which owns and operates our drilling units. Also in 2011, we may spin-off our wholly-owned subsidiary, Olympian Heracles Holding Inc. (“Olympian Heracles Holding”), which owns our existing tanker Vessel and the construction contracts for our newbuilding tanker vessels. A spin-off of Ocean Rig UDW or Olympian Heracles Holding may be a taxable transaction to our shareholders depending upon their country of residence. A shareholder may recognize taxable gain and be subject to tax as a result of receiving shares of Ocean Rig UDW or Olympian Heracles Holding in the spin-off, notwithstanding that cash had not been received. In addition, after the spin-off, Ocean Rig UDW or Olympian Heracles Holding may be treated as a PFIC, which would have adverse U.S. federal income tax consequences to a U.S. shareholder of Ocean Rig UDW or Olympian Heracles Holding. Under the PFIC rules, unless those shareholders make an election available under the Code (which election could itself have adverse consequences for such shareholders), such U.S. shareholders would be subject to U.S. federal income tax at the then prevailing income tax rates on ordinary income plus interest upon excess distributions and upon any gain from the disposition of shares of Ocean Rig UDW or Olympian Heracles Holding, as if the excess distribution or gain had been recognized ratably over the shareholder’s holding period in such shares. In the alternative, Ocean Rig UDW or Olympian Heracles Holding may

 

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issue shares of its common stock in a public offering. If as a result of such issuance, our ownership of Ocean Rig UDW or Olympian Heracles Holding was reduced to less than 25% (but more than 0%) of the outstanding capital stock of such entity, our ownership of Ocean Rig UDW or Olympian Heracles Holding common stock could be treated as a passive asset for purposes of determining whether we are a PFIC for U.S. federal income tax purposes.

If our vessels call on ports located in countries that are subject to restrictions imposed by the U.S. or other governments, that could adversely affect our reputation and the market for our common stock.

From time to time on charterers’ instructions, our vessels may call on ports located in countries subject to sanctions and embargoes imposed by the United States government and countries identified by the U.S. government as state sponsors of terrorism. The U.S. sanctions and embargo laws and regulations vary in their application, as they do not all apply to the same covered persons or proscribe the same activities, and such sanctions and embargo laws and regulations may be amended or strengthened over time. In 2010, the U.S. enacted the Comprehensive Iran Sanctions Accountability and Divestment Act (“CISADA”), which expanded the scope of the former Iran Sanctions Act. Among other things, CISADA expands the application of the prohibitions to non-U.S. companies and introduces limits on the ability of companies and persons to do business or trade with Iran when such activities relate to the investment, supply or export of refined petroleum or petroleum products. Although we believe that we are in compliance with all applicable sanctions and embargo laws and regulations, and intend to maintain such compliance, there can be no assurance that we will be in compliance in the future, particularly as the scope of certain laws may be unclear and may be subject to changing interpretations. Any such violation could result in fines or other penalties and could result in some investors deciding, or being required, to divest their interest, or not to invest, in our company. Additionally, some investors may decide to divest their interest, or not to invest, in our company simply because we do business with companies that do business in sanctioned countries. Moreover, our charterers may violate applicable sanctions and embargo laws and regulations as a result of actions that do not involve us or our vessels, and those violations could in turn negatively affect our reputation. Investor perception of the value of our common stock may also be adversely affected by the consequences of war, the effects of terrorism, civil unrest and governmental actions in these and surrounding countries.

We may be subject to premium payment calls because we obtain some of our insurance through protection and indemnity associations.

For our drybulk vessels, we may be subject to increased premium payments, or calls, in amounts based on our claim records as well as the claim records of other members of the protection and indemnity associations in the International Group, which is comprised of 13 mutual protection and indemnity associations and insures approximately 90% of the world’s commercial tonnage and through which we receive insurance coverage for tort liability, including pollution-related liability, as well as actual claims. Although there is no cap to the amount of such supplemental calls, historically, supplemental calls for our fleet have ranged from 0% to 40% of the annual insurance premiums, and in no year were such amounts material to the results of our operations. For the drilling units, we may be subject to increased premium payments, or calls, in amounts based on our claim records.

Our customers may be involved in the handling of environmentally hazardous substances and if discharged into the ocean may subject us to pollution liability which could have a negative impact on our cash flows, results of operations and ability to pay dividends, if any, in the future.

Our operations may involve the use or handling of materials that may be classified as environmentally hazardous substances. Environmental laws and regulations applicable in the countries in which we conduct operations have generally become more stringent. Such laws and regulations may expose us to liability for the conduct of or for conditions caused by others, or for our acts that were in compliance with all applicable laws at the time such actions were taken.

During our drilling operations in the past, we, through our subsidiary Ocean Rig UDW, have caused the release of oil, waste and other pollutants into the sea and into protected areas, such as the Barents Sea where on April 12, 2005, we discharged less than one cubic meter of hydraulic oil. While we conduct maintenance on our drilling units in an effort to prevent such releases, future releases could occur, especially as our rigs age. Such releases may be large in quantity, above our permitted limits or in protected or other areas in which public interest groups or governmental authorities have an interest. These releases could result in fines and other costs to us, such as costs to upgrade our drilling units, costs to clean up the pollution, and costs to comply with more stringent requirements in our discharge permits. Moreover, these releases may result in our customers or governmental authorities suspending or terminating our operations in the affected area, which could have a material adverse effect on our business, results of operation and financial condition.

We expect that we will be able to obtain some degree of contractual indemnification from our customers in most of our drilling contracts against pollution and environmental damages. But such indemnification may not be enforceable in all instances, the customer may not be financially capable in all cases of complying with its indemnity obligations or we may not be able to obtain such indemnification agreements in the future.

 

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Failure to attract or retain key personnel, labor disruptions or an increase in labor costs could hurt our operations in the offshore drilling sector.

We require highly skilled personnel to operate and provide technical services and support for our business in the offshore drilling sector worldwide. As of December 31, 2010, we had approximately 564 employees, the majority of whom are permanent crew employed on the Leiv Eiriksson, the Eirik Raude and the Ocean Rig Corcovado. We will need to recruit additional qualified personnel as we take delivery of our newbuilding drillships. Competition for the labor required for drilling operations has intensified as the number of rigs activated, added to worldwide fleets or under construction has increased, leading to shortages of qualified personnel in the industry and creating upward pressure on wages and higher turnover. If turnover increases, we could see a reduction in the experience level of our personnel, which could lead to higher downtime, more operating incidents and personal injury and other claims, which in turn could decrease revenues and increase costs. In response to these labor market conditions, we are increasing efforts in our recruitment, training, development and retention programs as required to meet our anticipated personnel needs. If these labor trends continue, we may experience further increases in costs or limits on our offshore drilling operations. If we choose to cease operations in one of those countries or if market conditions reduce the demand for our drilling services in such a country, we would incur costs, which may be material, associated with workforce reductions.

Currently, none of our employees are covered by collective bargaining agreements. In the future, some of our employees or contracted labor may be covered by collective bargaining agreements in certain jurisdictions such as Brazil, Nigeria, Norway and the U.K. As part of the legal obligations in some of these agreements, we may be required to contribute certain amounts to retirement funds and pension plans and have restricted ability to dismiss employees. In addition, many of these represented individuals could be working under agreements that are subject to salary negotiation. These negotiations could result in higher personnel costs, other increased costs or increased operating restrictions that could adversely affect our financial performance. Labor disruptions could hinder our operations from being carried out normally and if not resolved in a timely cost-effective manner, could have a material impact our business.

Our operating and maintenance costs with respect to our offshore drilling units will not necessarily fluctuate in proportion to changes in operating revenues, which may have a material adverse effect on our results of operations, financial condition and cash flows.

Operating revenues may fluctuate as a function of changes in dayrates. However, costs for operating a drilling unit are generally fixed regardless of the dayrate being earned. Therefore, our operating and maintenance costs with respect to our offshore drilling units will not necessarily fluctuate in proportion to changes in operating revenues. In addition, should our drilling units incur idle time between contracts, we typically will not de-man those drilling units but rather use the crew to prepare the rig for its next contract. During times of reduced activity, reductions in costs may not be immediate, as portions of the crew may be required to prepare rigs for stacking, after which time the crew members are assigned to active rigs or dismissed. In addition, as our drilling units are mobilized from one geographic location to another, labor and other operating and maintenance costs can vary significantly. In general, labor costs increase primarily due to higher salary levels and inflation. Equipment maintenance expenses fluctuate depending upon the type of activity the unit is performing and the age and condition of the equipment. Contract preparation expenses vary based on the scope and length of contract preparation required and the duration of the firm contractual period over which such expenditures are incurred. If we experience increased operating costs without a corresponding increase in earnings, this may have a material adverse effect on our results of operations, financial condition and cash flows.

We may be subject to litigation that, if not resolved in our favor and not sufficiently insured against, could have a material adverse effect on us.

We have been and may be, from time to time, involved in various litigation matters. These matters may include, among other things, contract disputes, personal injury claims, environmental claims or proceedings, asbestos and other toxic tort claims, employment matters, governmental claims for taxes or duties, and other litigation that arises in the ordinary course of our business. Although we intend to defend these matters vigorously, we cannot predict with certainty the outcome or effect of any claim or other litigation matter, and the ultimate outcome of any litigation or the potential costs to resolve them may have a material adverse effect on us. Insurance may not be applicable or sufficient in all cases and/or insurers may not remain solvent which may have a material adverse effect on our financial condition.

 

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Failure to comply with the U.S. Foreign Corrupt Practices Act could result in fines, criminal penalties, drilling contract terminations and an adverse effect on our business.

We may operate in a number of countries throughout the world, including countries known to have a reputation for corruption. We are committed to doing business in accordance with applicable anti-corruption laws and have adopted a code of business conduct and ethics which is consistent and in full compliance with the U.S. Foreign Corrupt Practices Act of 1977. We are subject, however, to the risk that we, our affiliated entities or our or their respective officers, directors, employees and agents may take actions determined to be in violation of such anti-corruption laws, including the U.S. Foreign Corrupt Practices Act. Any such violation could result in substantial fines, sanctions, civil and/or criminal penalties, curtailment of operations in certain jurisdictions, and might adversely affect our business, results of operations or financial condition. In addition, actual or alleged violations could damage our reputation and ability to do business. Furthermore, detecting, investigating, and resolving actual or alleged violations is expensive and can consume significant time and attention of our senior management.

Risks Relating to Our Common Stock

We are incorporated in the Republic of the Marshall Islands, which does not have a well-developed body of corporate law, and as a result, shareholders may have fewer rights and protections under Marshall Islands law than under a typical jurisdiction in the United States.

Our corporate affairs are governed by our amended and restated articles of incorporation and bylaws and by the Marshall Islands Business Corporations Act (the “BCA”). The provisions of the BCA resemble provisions of the corporation laws of a number of states in the United States. However, there have been few judicial cases in the Republic of the Marshall Islands interpreting the BCA. The rights and fiduciary responsibilities of directors under the law of the Republic of the Marshall Islands are not as clearly established as the rights and fiduciary responsibilities of directors under statutes or judicial precedent in existence in certain United States jurisdictions. Shareholder rights may differ as well. While the BCA does specifically incorporate the non-statutory law, or judicial case law, of the State of Delaware and other states with substantially similar legislative provisions, our public shareholders may have more difficulty in protecting their interests in the face of actions by management, directors or controlling shareholders than would shareholders of a corporation incorporated in a United States jurisdiction.

Our Chairman and Chief Executive Officer, who may be deemed to beneficially own, directly or indirectly, approximately 13.9% of our common stock, may have the power to exert control over us, which may limit your ability to influence our actions.

As of April 12, 2011, our Chairman and Chief Executive Officer, Mr. George Economou, may be deemed to beneficially own, directly or indirectly, approximately 13.9% of the outstanding shares of our common stock and therefore may have the power to exert considerable influence over our actions. The interests of our Chairman and Chief Executive Officer may be different from your interests.

Future sales of our common stock could cause the market price of our common stock to decline.

The market price of our common stock could decline due to sales, or the announcements of proposed sales, of a large number of common stock in the market, including sales of common stock by our large shareholders, or the perception that these sales could occur. These sales, or the perception that these sales could occur, could also make it more difficult or impossible for us to sell equity securities in the future at a time and price that we deem appropriate to raise funds through future offerings of common stock.

Our amended and restated articles of incorporation authorize our board of directors to, among other things, issue additional shares of common or preferred stock or securities convertible or exchangeable into equity securities, without shareholder approval. We may issue such additional equity or convertible securities to raise additional capital. The issuance of any additional shares of common or preferred stock or convertible securities could be substantially dilutive to our shareholders. Moreover, to the extent that we issue restricted stock units, stock appreciation rights, options or warrants to purchase our common shares in the future and those stock appreciation rights, options or warrants are exercised or as the restricted stock units vest, our shareholders may experience further dilution. Holders of shares of our common stock have no preemptive rights that entitle such holders to purchase their pro rata share of any offering of shares of any class or series and, therefore, such sales or offerings could result in increased dilution to our shareholders.

There is no guarantee of a continuing public market for you to resell our common stock.

Our common shares commenced trading on the NASDAQ National Market, now the NASDAQ Global Market, in February 2005. Our common shares now trade on the NASDAQ Global Select Market. We cannot assure you that an active and liquid public market for our common shares will continue. The price of our common stock may be volatile and may fluctuate due to factors such as:

 

   

actual or anticipated fluctuations in our quarterly and annual results and those of other public companies in our industry;

 

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mergers and strategic alliances in the drybulk shipping industry;

 

   

market conditions in the drybulk shipping industry and the general state of the securities markets;

 

   

changes in government regulation;

 

   

shortfalls in our operating results from levels forecast by securities analysts; and

 

   

announcements concerning us or our competitors.

Recently, the trading price of our common stock has fallen below $5.00 and if it remains below that level, under stock exchange rules, our stockholders will not be able to use such shares as collateral for borrowing in margin accounts. This inability to use our common shares as collateral may depress demand as certain institutional investors are restricted from investing in shares priced below $5.00 and lead to sales of such shares creating downward pressure on and increased volatility in the market price of our common shares.

You may not be able to sell your shares of our common stock in the future at the price that you paid for them or at all.

Anti-takeover provisions in our organizational documents could make it difficult for our stockholders to replace or remove our current board of directors or have the effect of discouraging, delaying or preventing a merger or acquisition, which could adversely affect the market price of our common stock.

Several provisions of our amended and restated articles of incorporation and bylaws could make it difficult for our stockholders to change the composition of our board of directors in any one year, preventing them from changing the composition of management. In addition, the same provisions may discourage, delay or prevent a merger or acquisition that stockholders may consider favorable.

These provisions include:

 

   

prior to the date of the transaction that resulted in the shareholder becoming an interested shareholder, our board of directors approved either the business combination or the transaction that resulted in the shareholder becoming an interested shareholder;

 

   

authorizing our board of directors to issue “blank check” preferred stock without stockholder approval;

 

   

providing for a classified board of directors with staggered, three-year terms;

 

   

prohibiting cumulative voting in the election of directors;

 

   

authorizing the removal of directors only for cause and only upon the affirmative vote of the holders of a majority of the outstanding shares of our common stock entitled to vote for the directors;

 

   

prohibiting stockholder action by written consent;

 

   

limiting the persons who may call special meetings of stockholders; and

 

   

establishing advance notice requirements for nominations for election to our board of directors or for proposing matters that can be acted on by stockholders at stockholder meetings.

Under our stockholders’ rights plan adopted in 2008, amended in 2009 and further amended in 2010, our board of directors declared a dividend of one preferred share purchase right, or a right, to purchase one one-thousandth of a share of our Series A Participating Preferred Stock for each outstanding common share. Each right entitles the registered holder, upon the occurrence of certain events, to purchase from us one one-thousandth of a share of Series A Participating Preferred Stock. The rights may have anti-takeover effects. The rights will cause substantial dilution to any person or group that attempts to acquire us without the approval of our board of directors. As a result, the overall effect of the rights may be to render more difficult or discourage any attempt to acquire us. Because our board of directors can approve a redemption of the rights or a permitted offer, the rights should not interfere with a merger or other business combination approved by our board of directors. The adoption of the rights agreement was approved by our existing stockholders prior to the offering.

Although the Marshall Islands Business Corporation Act does not contain specific provisions regarding “business combinations” between corporations organized under the laws of the Republic of Marshall Islands and “interested shareholders,” we have included provisions regarding such combinations in our articles of incorporation.

 

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Our articles of incorporation contain provisions which prohibit us from engaging in a business combination with an interested shareholder for a period of three years after the date of the transaction in which the person became an interested shareholder, unless:

 

   

authorizing our board of directors to issue “blank check” preferred stock without stockholder approval;

 

   

upon consummation of the transaction that resulted in the shareholder becoming an interested shareholder, the interested shareholder owned at least 85% of our voting stock outstanding at the time the transaction commenced;

 

   

at or subsequent to the date of the transaction that resulted in the shareholder becoming an interested shareholder, the business combination is approved by the board of directors and authorized at an annual or special meeting of shareholders by the affirmative vote of at least 66  2/3% of the outstanding voting stock that is not owned by the interested shareholder; or

 

   

the shareholder became an interested shareholder prior to the consummation of the Initial Public Offering.

For purposes of these provisions, a “business combination” includes mergers, consolidations, exchanges, asset sales, leases and other transactions resulting in a financial benefit to the interested shareholder and an “interested shareholder” is any person or entity that beneficially owns 15% or more of our outstanding voting stock and any person or entity affiliated with or controlling or controlled by that person or entity. Further, the term “business combination”, when used in reference to us and any “interested shareholder” does not include any transactions for which definitive agreements were entered into prior to the date the articles were filed with the Republic of the Marshall Islands.

 

Item 4. Information on the Company

A. History and development of the Company

DryShips Inc., a corporation organized under the laws of the Republic of the Marshall Islands, was formed in September 2004. Our executive offices are located at Omega Building, 80 Kifissias Avenue, Amaroussion GR 151 25 Greece. Our telephone number is 011-30-210-809-0570.

Business Development and Capital Expenditures

On January 28, 2009, we entered into an ATM Equity Sales Agreement with Merrill Lynch, Pierce, Fenner & Smith Incorporated relating to the offer and sale of up to $500,000,000 of our common shares.

On March 19, 2009, we issued a total of 11,990,405 common shares to the nominees of Central Mare Inc. in connection with the disposal of three newbuilding Capesize vessels. See “Item 4. Information on the Company – Business Overview – Recent Developments in Our Drybulk Carrier Operations – Disposal of Three Capesize Newbuildings.”

On January 28, 2009 and on April 2, 2009, we filed two prospectus supplements pursuant to our controlled equity offering and issued 71,265,000 and 24,404,595 common shares, respectively. The net proceeds of these offerings amounted to $487.5 million after commissions.

On May 7, 2009, we entered into another ATM Equity Sales Agreement with Merrill Lynch, Pierce, Fenner & Smith Incorporated and filed a prospectus supplement for the sale of up to $475.0 million of common shares, pursuant to which we sold 69,385,000 shares. The net proceeds of this offering amounted to $464.9 million after commissions.

On July 9, 2009, we entered into an agreement with entities affiliated with our Chairman and Chief Executive Officer to acquire the remaining 25% of the total issued and outstanding capital stock of Ocean Rig UDW. The consideration paid for the 25% interest in Ocean Rig UDW consisted of a one-time $50.0 million cash payment upon the closing of the transaction, and the issuance of 52,238,806 shares of Series A Convertible Preferred Stock with an aggregate face value of $280.0 million. The holders of our Series A Convertible Preferred Stock have demand Registration Rights exercisable at any time.

In November 2009, we offered $460 million aggregate principal amount of our 5% convertible senior notes due December 1, 2014 (the “Notes”) resulting in net proceeds of $447.8 million. Concurrently with the offering of the Notes, we offered up to 26,100,000 common shares to loan to Deutsche Bank AG, London Branch pursuant to a share lending agreement.

 

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In April 2010, we issued $240 million aggregate principal amount of Notes, resulting in net proceeds of $237.2 million, after commissions. Concurrently with that offering, we offered up to 10,000,000 common shares to loan to Deutsche Bank AG, London Branch pursuant to a share lending agreement.

In September 2010, we filed a registration statement on Form F-3ASR (Registration No. 333-169235) and a prospectus supplement pursuant to Rule 424(b) relating to the offer and sale of up to $350.0 million shares of common stock, pursuant to a sales agreement that we entered into with Deutsche Bank Securities Inc. From September 2010 through December 2010, we issued an aggregate of 74,818,706 common shares. The net proceeds, after deducting underwriting commissions of 2.0% and other issuance fees, amounted to $342.3 million.

In December 2010, Ocean Rig UDW, our majority-owned subsidiary, completed the Private Placement, in which it offered and sold an aggregate of 28,571,428 of its common shares (representing approximately 22% of the outstanding common stock of Ocean Rig UDW) in an offering made to both non-U.S. persons in Norway in reliance on Regulation S under the Securities Act and to qualified institutional buyers in the United States in reliance on Rule 144A under the Securities Act at a price of $17.50 per share. A company controlled by our Chairman and Chief Executive Officer, Mr. George Economou, purchased 2,869,428 common shares, or 2.38% of the outstanding capital stock of Ocean Rig UDW, in the Private Placement. We received approximately $488.3 million in net proceeds from the Private Placement. Following the Private Placement, we own approximately 78% of the total issued and outstanding common stock of Ocean Rig UDW.

Also in December 2010, we entered into a share purchase program for the purchase of up to a total of $25.0 million of common stock of Ocean Rig UDW, which we may purchase from time to time through March 31, 2011 for cash in open market transactions on the Norwegian OTC market at prevailing market prices or in privately negotiated transactions at a maximum price of $17.50 per share. As of April 8, 2011, no share purchases have been made under this program.

In January 2011, pursuant to the terms of the Securities Purchase Agreement dated July 9, 2009 and the Certificate of Designations of Rights, Preferences and Privileges of Series A Convertible Preferred Stock of the Company (the “Certificate of Designations”), all of the conditions for the mandatory conversion of 25% of our 52,238,806 shares of Series A Convertible Preferred Stock into 10,242,903 shares of common stock were met on December 31, 2010, the contractual delivery date of the Ocean Rig Corcovado. In connection with the delivery of the newbuilding drillship Ocean Rig Olympia on March 30, 2011, all of the conditions for the mandatory conversion of an additional 13,059,701 shares of Series A Convertible Preferred Stock into an additional 10,242,903 shares of common stock were met on March 31, 2011, the contractual delivery date of the drillship. Following the mandatory conversion of such shares as described above, we had 31,923,010 shares of Series A Convertible Preferred Stock outstanding as of April 12, 2011, of which 26,119,404 shares represent the remaining 50% of the shares of Series A Convertible Preferred Stock issued on July 9, 2009 under the Securities Purchase Agreement and 5,803,606 shares represent accrued stock dividends issuable in connection with the conversion of the 26,119,402 shares or 50% of the shares of Series A Convertible Preferred Stock into shares of common stock, as set forth under the Certificate of Designations.

As of April 12, 2011, we had 399,136,033 common shares issued and outstanding.

During the year ended December 31, 2008, we purchased a total of seven drybulk carriers for an aggregate purchase price of $779.4 million, and sold seven vessels for an aggregate sale price of $401.1 million. In addition, as discussed further below, we, through our acquisition of Ocean Rig ASA, acquired two ultra-deep water semi-submersible drilling rigs. We also exercised a purchase option to acquire two newbuilding ultra-deepwater advanced capability drillships for an aggregate purchase price of $1.40 billion of which $766.0 million was outstanding as of December 31, 2010, which we expect to finance with borrowings under the two Deutsche Bank credit facilities following the restructuring of these facilities, which is subject to completion of definitive documentation. The draw down under the loan agreement to finance the construction cost of the Ocean Rig Mykonos is further subject to our obtaining suitable employment for the drillship, as required under the loan agreement.

During 2009 we: (i) took delivery of two newbuilding drybulk vessels, which we purchased for an aggregate price of $70.5 million; (ii) concluded the sale of one drybulk vessel for a sale price of $30.8 million which was contracted during 2008; (iii) contracted for the sale of two drybulk vessels during 2009 for an aggregate sale price of $43.5 million which were both delivered in 2010; (iv) cancelled the remaining of the fourteen contracts which we had entered into in 2008 and incurred a cancellation fee of $49.2 million, including the contracts for the construction of five Capesize newbuilding vessels; (v) acquired construction contracts for two newbuilding ultra-deepwater drillships for an aggregate purchase price of $1.38 billion a portion of which we financed with borrowings under our $325.0 million short-term facility and of which $576.5 million was outstanding as of December 31, 2010,; (vi) concluded the sale of three Capesize newbuildings, which were contracted in 2007 and 2008 and incurred a cancellation fee of $80.0 million; (vii) concluded the sale of the subsidiary that had previously contracted for the purchase of newbuilding drybulk carrier H2089 and incurred a cancellation fee of $20.0 million; and (viii) cancelled the acquisition of two newbuilding hulls, for which we entered into construction contracts in 2007 for an aggregate purchase price of $108.5. In addition, we also we issued a total of 11,990,405 common shares to the nominees of Central Mare Inc. in connection with the disposal of three newbuilding Capesize vessels.

 

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During 2010, we (i) contracted for the construction of two newbuilding drybulk vessels scheduled to be delivered to us in 2011 and 2012, respectively, for a purchase price of $66.1 million, of which $52.9 million was outstanding as of December 31, 2010; (ii) contracted for the acquisition of one drybulk vessel for a purchase price of $43.0 million, which was delivered to us in 2010; (iii) completed the sale of three drybulk vessels for an aggregate sales price of $77.2 million, of which two vessels were contracted in 2009 and one vessel was contracted in 2010; (iv) entered into and subsequently novated to Ocean Rig UDW, our majority-owned subsidiary, a contract for the option to construct of up to four additional newbuilding drillships, in connection with which we paid an aggregate of $99.0 million in non-refundable slot-reservation fees upon our entry into the contract; and (v) entered into contracts for the construction of six Aframax and six Suezmax tankers scheduled to be delivered to us between 2011 and 2013 for an aggregate purchase price of $771.0 million of which $648.3 million is outstanding as of December 31, 2010, which we have financed in part with borrowings under our $70.0 million and $32.3 million loan facilities.

In January and March 2011, we took delivery of two of our four drillships under construction and two of our twelve tanker vessels under construction.

On April 12, 2011, Ocean Rig UDW announced the pricing of $500 million aggregate principal amount of 9.5% Senior Unsecured Bonds Due 2016 offered in a private placement. The proceeds of the offering are expected to be used to finance Ocean Rig’s newbuilding drillships program and general corporate purposes. The offering is scheduled to close on April 27, 2011, subject to customary closing conditions.

We are engaged in the ocean transportation services of drybulk cargoes and crude oil worldwide through the ownership and operation of drybulk carrier vessels and oil tankers and offshore drilling services through the ownership and operation of ultra-deepwater drilling units.

As of the year ended December 31, 2010, our operating fleet consisted of 37 drybulk carriers, comprised of seven Capesize, 28 Panamax and two Supramax vessels, and two drilling rigs. In addition, as of December 31, 2010, we had under construction two Panamax drybulk vessels, four advanced capability, ultra-deepwater drillships and 12 oil tankers, comprised of six Aframax and six Suezmax vessels. In addition, in November 2010, the Company entered into an option contract for the construction of up to four additional drillships. In December 2010 this contract was novated to Ocean Rig UDW.

B. Business Overview

We are a Marshall Islands corporation with our principal executive offices in Athens, Greece. We were incorporated in September 2004. As of April 12, 2011, we owned, through our subsidiaries, a fleet of 35 drybulk carriers comprised of seven Capesize, 26 Panamax and two Supramax vessels, which have a combined deadweight tonnage of approximately 3.2 million dwt, and had contracts for two Panamax newbuilding drybulk carriers of 76,000 dwt each scheduled for delivery in the fourth quarter of 2011 and the first quarter of 2012, respectively. In May 2010, we agreed to acquire a Panamax vessel, the MV Amalfi (ex Gemini S), which was delivered to us in August 2010, and agreed to sell one of our Panamax vessels, the MV Xanadu, which we delivered to the new owner in September 2010. In addition, we sold our Panamax vessel, the MV Primera, which was delivered to the new owner on April 4, 2011. Our drybulk fleet principally carries a variety of drybulk commodities including major bulk items such as coal, iron ore, and grains, and minor bulk items such as bauxite, phosphate, fertilizers and steel products. As of April 12, 2011, the average age of the vessels in our drybulk fleet was 8.1 years. We are also an owner and operator of two ultra-deepwater semi-submersible drilling rigs and two ultra-deepwater drillships and have contracted for the construction of two additional ultra-deepwater drillships, which are discussed below in more detail. In addition, we have entered into an option contract to construct up to four additional ultra-deepwater drillships, which may be exercised at any time on or prior to November 22, 2011, with vessel deliveries ranging from 2013 to 2014, depending on when the options are exercised. Furthermore, we have contracted with Samsung for the construction of 12 high specification tankers, comprised of six Aframax and six Suezmax tankers, two of which were delivered to us in January and March 2011, respectively, and the remaining tankers under construction are scheduled to be delivered to us between April 2011 and December 2013.

Our Drybulk Vessels

As of April 12, 2011, thirty-four of our vessels are currently employed under time charters, with an average remaining duration of two years, and one of our vessels is currently employed on bareboat charter. Five of our vessels are currently employed on the spot market.

As of January 1, 2011, all of our drybulk carriers are managed by TMS Bulkers under separate ship management agreements. Mr. George Economou, our Chairman and Chief Executive Officer, has been active in shipping since 1976 and formed TMS Bulkers

 

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in 2010, a successor to its affiliate, Cardiff Marine Inc. (“Cardiff”), which was formed in 1991. We are related with TMS Bulkers, a Marshall Islands corporation with offices in Greece, which is responsible for all technical and commercial management functions of our drybulk fleet. We believe that TMS Bulkers, as a successor to Cardiff, which was in the business of providing commercial and technical management for over 22 years, has established a reputation in the international shipping industry for operating and maintaining a fleet with high standards of performance, reliability and safety. TMS Bulkers is beneficially majority-owned by our Chairman and Chief Executive Officer, Mr. Economou, and members of his immediate family. The remaining capital stock of TMS Bulkers is beneficially owned by Ms. Chryssoula Kandylidis, who serves on our board of directors.

TMS Bulkers provides comprehensive ship management services, including technical supervision, such as repairs, maintenance and inspections, safety and quality, crewing and training, as well as supply provisioning. TMS Bulker’s commercial management services include operations, chartering, sale and purchase, post-fixture administration, accounting, freight invoicing and insurance. TMS Bulkers, through Cardiff, its predecessor, completed early implementation of the IMO and ISM Code, in 1996. TMS Bulkers has obtained documents of compliance for its office and safety management certificates for its vessels as required by the ISM Code and is ISO 14001 certified in recognition of its commitment to overall quality.

Our Drilling Units

We currently own and operate two modern, fifth generation ultra-deepwater semi-submersible offshore drilling rigs, the Leiv Eiriksson and the Eirik Raude, and two sixth generation, advanced capability ultra-deepwater drillships, the Ocean Rig Corcovado, which we took delivery of on January 3, 2011 and the Ocean Rig Olympia, which we took delivery of on March 30, 2011. We have newbuilding contracts with Samsung for the construction of two sixth generation, advanced capability ultra-deepwater drillships, the Ocean Rig Poseidon and the Ocean Rig Mykonos. These newbuilding drillships are currently scheduled for delivery in July 2011 and September 2011, respectively. These newbuilding drillships, the Ocean Rig Corcovado and the Ocean Rig Olympia are “sister-ships” constructed by the same shipyard to the same high-quality design and vessel specifications.

In November 2010, we entered into a contract with Samsung that granted us options for the construction of up to four additional ultra-deepwater drillships, which would be “sister-ships” to the Ocean Rig Corcovado, the Ocean Rig Olympia and the two drillships currently under construction and would have the same specifications as the Ocean Rig Poseidon, one of our two drillships under construction. Each of the four options may be exercised at any time on or prior to November 22, 2011, with vessel deliveries ranging from 2013 to 2014 depending on when the options are exercised. We estimate the total construction cost to be $600.0 million per drillship. We paid a non-refundable slot reservation fee of $24.8 million per drillship, which fee will be applied towards the drillship contract price if the options are exercised. In December 2010, we novated the option agreement to Ocean Rig UDW, at a cost of $99.0 million. As of March 25, 2011, no options have been exercised under the contract. Pursuant to the Drillship Master Agreement dated November 22, 2010, on February 25, 2011 and on March 18, 2011 the Company made additional payments to Samsung totaling $20 million in exchange for certain amendments to the originally agreed terms and conditions.

We acquired our two drilling rigs, the Leiv Eiriksson and the Eirik Raude, through our acquisition of Ocean Rig ASA, a Norwegian offshore drilling services company whose shares were listed on the Oslo Stock Exchange, in a series of transactions from December 2007 to July 2008. In April 2008, we, through our subsidiary, DrillShips Investment Inc., exercised an option to acquire the Ocean Rig Poseidon and the Ocean Rig Mykonos. In May 2009, we acquired Drillships Holdings Inc., from certain unrelated parties and certain entities affiliated with our Chairman and Chief Executive Officer, which owned the construction contracts for the Ocean Rig Corcovado and the Ocean Rig Olympia.

Our existing drilling rigs, the Leiv Eiriksson and the Eirik Raude, are managed by Ocean Rig AS, our majority-owned subsidiary. Ocean Rig AS also provides supervisory management services, including onshore management, to the Ocean Rig Corcovado and our newbuilding drillships pursuant to separate management agreements entered into with each of the drillship-owning subsidiaries. As of December 2010, we terminated our management agreements with Cardiff for supervisory services in connection with the construction of the Ocean Rig Corcovado and the Ocean Rig Olympia.

The Leiv Eiriksson is employed under a contract with Petrobras Oil & Gas B.V. (“Petrobras Oil & Gas”), which we refer to as the Petrobras contract, for exploration drilling in the Black Sea at a maximum dayrate rate of $583,000. Under the Petrobras contract, the rig has had an earnings efficiency of 90% from the commencement of drilling operations on February 24, 2010 through December 31, 2010. The Petrobras contract was scheduled to expire in October 2012; however, the Company has entered into an agreement whereby the Petrobras contract will terminate and the rig will be released on or about May 1, 2011, following which the rig is scheduled to commence a contract with a term of approximately six months with Cairn for drilling operations in Greenland at a maximum operating dayrate of $550,000 and a mobilization fee of $7.0 million plus fuel costs. The contract period is scheduled to expire on October 31, 2011, subject to our customer’s option to extend the contract period through November 30, 2011. Pursuant to the agreement discussed above, following the delivery of the Ocean Rig Poseidon from the shipyard, the Ocean Rig Poseidon is scheduled to commence a contract with Petrobras Tanzania Limited (“Petrobras Tanzania”), which is a company related to Petrobras Oil & Gas, for exploration drilling in Tanzania and West Africa, described below.

 

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The Eirik Raude is employed under a contract with Tullow Oil plc (“Tullow Oil”), which we refer to as the Tullow Oil contract, for development drilling offshore of Ghana at a weighted average dayrate of $637,000, based upon 100% utilization. On February 15, 2011, the dayrate will increase to a maximum of $665,000, which rate will be effective until expiration of the contract in October 2011, following which the rig is scheduled to commence a two-well contract with Borders & Southern plc (“Borders & Southern”) for drilling operations offshore the Falkland Islands at a maximum operating dayrate of $540,000 and a mobilization/demobilization fee of $28.0 million, including fuel costs. Our customer has an option to extend this contract to drill up to an additional three wells, in which case the dayrate would be reduced to between $540,000 and $530,000, depending on whether the option is exercised for one to three wells and the timing of such exercise. The estimated duration for the two-well program, including mobilization/demobilization periods, is approximately 140 days, and we estimate that the optional period to drill an additional three wells would extend the contract term by approximately 135 days.

The Ocean Rig Corcovado is employed under a contract with Cairn for a period of approximately ten months, under which the drillship is scheduled to commence drilling and related operations in Greenland in May 2011 at a maximum operating dayrate of $560,000. In addition, we are entitled to a mobilization fee of $17.0 million, plus fuel costs, and winterization upgrading costs of $12.0 million, plus coverage of yard stay costs at $200,000 per day during the winterization upgrade. The contract period is scheduled to expire on October 31, 2011, subject to our customer’s option to extend the contract period through November 30, 2011.

The Ocean Rig Olympia is scheduled to commence in the second quarter of 2011 contracts to drill a total of five wells with Vanco, for exploration drilling offshore of Ghana and Cote d’Ivoire at a maximum operating dayrate of $415,000 and a daily mobilization rate of $180,000, plus fuel costs. The aggregate contract term is for approximately one year, subject to our customer’s option to extend the term for (i) one additional well, (ii) one additional year, or (iii) one additional well plus one additional year. Vanco is required to exercise the option no later than the date on which the second well in the five well program reaches its target depth.

The Ocean Rig Poseidon is scheduled to commence a contract with Petrobras Tanzania in the third quarter of 2011 for a period of 544 days, plus a mobilization period, at a maximum dayrate of $632,000, including a bonus of up to $46,000. In addition, we are entitled to receive a separate dayrate of $422,500 for up to 60 days during relocation and a mobilization dayrate of $317,000, plus the cost of fuel.

We may sell a minority voting and economic interest in our majority-owned subsidiary, Ocean Rig UDW, in a public offering sometime in 2011. Alternatively, we may distribute, or spin-off, a minority voting and economic interest in Ocean Rig UDW to holders of our voting stock (including holders of our preferred shares), or complete some combination of a public offering and distribution to holders of our voting stock. Ocean Rig UDW comprises our entire offshore drilling segment, which represented approximately 62.6% of our total assets as of December 31, 2010 and 46.8% of our total revenues for the year ended December 31, 2010. There can be no assurance, however, that we will complete any such transaction, which, among other things, will be subject to market conditions.

Our Tankers

We currently own and operate one Aframax tanker, Saga, which we took delivery of on January 18, 2011 and one Suezmax tanker, Vilamoura, which we took delivery of on March 23, 2011. We have contracts with Samsung for the construction of an additional five high specification Aframax tankers and five high specification Suezmax tankers, scheduled to be delivered to us between April 2011 and December 2013.

We currently operate our two existing tankers under pooling arrangements that are managed by Heidmar Inc., a company related to our Chairman and Chief Executive Officer. See “Item 7.B Related Party Transactions — Pooling Arrangements.”

To increase vessel utilization and thereby revenues, we participate in commercial pools with other like-minded shipowners of similar modern, well-maintained vessels. By operating a large number of vessels as an integrated transportation system, commercial pools offer customers greater flexibility and a higher level of service while achieving scheduling efficiencies. Pools consist of experienced commercial owners and operators, while technical management is performed by each shipowner. Pools negotiate charters with customers primarily in the spot market. Vessel pool arrangements provide the benefits of large-scale operating and chartering efficiencies that might not be available to smaller fleets. Under these pooling arrangements, the vessels operate under a spot charter agreement whereby the cost of bunkers and port expenses are borne by the pool and operating costs including crews, maintenance and insurance are typically paid by the owner of the vessel. Members of the pool share in the revenue generated by the entire group of vessels in the pool. When the vessel is off-hire, the vessel’s owner generally is not entitled to payment for the period of off-hire, unless the charterer of a vessel in the pool is responsible for the circumstances giving rise to the lack of availability.

We employ the Aframax tanker Saga in the Sigma tanker pool, which currently consists of 47 Aframax tankers, with twelve different pool partners, and we intend to employ our remaining five newbuilding Aframax tankers in the Sigma tanker pool.

 

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We employ the Suezmax tanker Vilamoura in the Blue Fin tanker pool, which currently consists of 18 Suezmax tankers with eight different pool partners, and we intend to employ our remaining five newbuilding Suezmax tankers in the Blue Fin tanker pool. We believe the Blue Fin tanker pool is the second largest spot-market related Suezmax tanker pool, based on number of vessels.

Each pool participant that commits vessels to the pool must be accepted into the pool in accordance with the terms and conditions of the pool agreements entered into by each of the other participants. Pool participants are responsible for, among other things:

 

   

maintaining their pool vessels in seaworthy condition and to the agreed technical and operational standards of the pool;

 

   

maintaining all required ISM certificates and keeping the pool vessel classed with a classification society that is a member of the International Association of Classification Societies, or IACS;

 

   

obtaining and maintaining a minimum number of agreed oil major approvals in accordance with the pool agreement;

 

   

providing for inspections to insure that ship inspection reports are obtained at least every six months;

 

   

obtaining, for its own account, in accordance with standards consistent with prudent first class owners of vessels, all relevant insurance policies for its pool vessels, including hull and machinery, protection and indemnity, or P&I, and war risk insurance policies; and

 

   

providing for the technical management of its pool vessels, including all matters related to vessel seaworthiness, crewing and crew administration, victualling, maintenance and repairs, drydocking, provisioning (lube oils, stores and spare parts), compliance with class requirements and compliance with the requirements of relevant authorities.

The pool manager is responsible for the commercial management of each pool vessel, which includes, among other things:

 

   

marketing the vessels;

 

   

trading pattern analysis;

 

   

handling of charters and employment contracts;

 

   

commercial operations and payment and collection of expenses and revenues relating to commercial operations;

 

   

handling of any post-fixture claims; and

 

   

budgeting, accounting and performance of the pool.

The pool manager has sole authority to fix employment for the pool vessels. The pool manager has the authority to commit each pool vessel to an employment contract, on a voyage basis or on a time charter that is consistent with the pool agreement. Pursuant to the Sigma Tankers pool agreement, Heidmar Inc., as pool manager, is entitled to receive an agency fee of $387 per day for the vessel and a commission of 1.25% of the freight or charter hire earned by the vessel on contracts or charter parties entered into by the pool during the term of the agreement; which increases to 1.50% of freight or charter hire in the event the pool consists of less than 20 vessels. Pursuant to the Blue Fin Tankers pool agreement, Heidmar Inc., as pool manager, is entitled to receive an agency fee of $387 per day for the vessel and a commission of 1.25% of the freight or charter hire earned by the vessel on contracts or charter parties entered into by the pool during the term of the agreement. The agency fees and commissions are deducted from our pool earnings. Each participant bears other expenses related to its vessel, including husbandry (launch, service, stores, crew changes, fresh water, and certain other expenses), environmental compliance, loss of hire insurance costs and vetting and customer compliance costs.

Effective January 1, 2011, each of our tanker ship-owning companies entered into new management agreements with TMS Tankers. We are related with TMS Tankers, a Marshall Islands corporation with offices in Greece, which is responsible for the technical and commercial management functions of tankers under construction. We believe that TMS Tankers, as a successor to Cardiff, which was in the business of providing commercial and technical management for over 22 years, has established a reputation in the international shipping industry for operating and maintaining a fleet with high standards of performance, reliability and safety. TMS Tankers is beneficially majority-owned by the Company’s Chief Executive Officer, Mr. Economou, and members of his immediate family. The remaining capital stock of TMS Tankers is beneficially owned by Ms. Chryssoula Kandylidis, who serves on our board of directors.

 

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We may sell a minority voting and economic interest in our wholly-owned subsidiary, Olympian Heracles Holding, in a public offering sometime in 2011. Alternatively, we may distribute, or spin-off, a minority voting and economic interest in Olympian Heracles Holding to holders of our voting stock (including holders of our preferred shares), or complete some combination of a public offering and distribution to holders of our voting stock. Olympian Heracles Holding owns our Aframax tankers, Saga and Vilamoura and the contracts for our tankers under construction. There can be no assurance, however, that we will complete any such transaction, which, among other things, will be subject to market conditions.

Our Fleet

As of April 12, 2011, our fleet was comprised of the following vessels, including the Oliva, which was grounded.

Drybulk Vessels

 

    

Year

Built

   DWT     

Type

  

Current
employment

   Gross
rate

per day
    Redelivery  
                   Earliest      Latest  

Capesize:

                   

Mystic

   2008      170,040       Capesize    T/C    $ 52,310        Aug-2018         Dec-2018   

Manasota

   2004      171,061       Capesize    T/C    $ 67,000        Feb-2013         Apr-2013   

Flecha

   2004      170,012       Capesize    T/C    $ 55,000        Jul-2018         Nov-2018   

Capri

   2001      172,579       Capesize    Spot      (1     Apr-2018         Jun-2018   

Alameda

   2001      170,662       Capesize    T/C    $ 27,500        Nov-2015         Jan-2016   

Samsara

   1996      150,393       Capesize    Spot        

Brisbane

   1995      151,066       Capesize    T/C    $ 25,000        Dec-2011         Apr-2012   

Average age based on year built/ Sum of DWT/ Total number of vessels

   8.7 years      1,155,813       7           

Panamax:

                   

Oliva (2)

   2009      75,208       Panamax    T/C    $ 17,850        Oct 2011         Dec-2011   

Rapallo

   2009      75,123       Panamax    T/C    $ 15,400        Aug-2011         Oct-2011   

Amalfi ex. Gemini S

   2009      75,000       Panamax    T/C    $ 39,750        Aug-2013         Dec-2013   

Catalina

   2005      74,432       Panamax    T/C    $ 40,000        Jun-2013         Aug-2013   

Majorca

   2005      74,747       Panamax    T/C    $ 43,750        Jun-2012         Aug-2012   

Sorrento

   2004      76,633       Panamax    T/C    $ 17,300        Sep-2011         Dec-2011   

Avoca

   2004      76,629       Panamax    T/C    $ 45,500        Sept-2013         Dec-2013   

Ligari

   2004      75,583       Panamax    T/C    $ 55,500        Jun-2012         Aug-2012   

Saldanha

   2004      75,707       Panamax    T/C    $ 52,500        Jun-2012         Sep-2012   

Padre

   2004      73,601       Panamax    T/C    $ 46,500        Sept-2012         Dec-2012   

Mendocino

   2002      76,623       Panamax    T/C    $ 56,500        Jun-2012         Sep-2012   

Bargara

   2002      74,832       Panamax    T/C    $ 43,750        May-2012         Jul-2012   

 

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Oregon

   2002      74,204       Panamax    T/C    $ 16,350        Aug-2011         Oct-2011   

Maganari

   2001      75,941       Panamax    T/C    $ 14,500        Jul-2011         Sep-2011   

Capitola

   2001      74,816       Panamax    Spot      (1     Jun-2013         Aug-2013   

Samatan

   2001      74,823       Panamax    Spot      (1     May-2013         Jul-2013   

Sonoma

   2001      74,786       Panamax    T/C    $ 19,300        Sept-2011         Nov-2011   

Ecola

   2001      73,925       Panamax    T/C    $ 43,500        Jun-2012         Aug-2012   

Levanto

   2001      73,931       Panamax    T/C    $ 16,800        Sep-2011         Nov-2011   

Coronado

   2000      75,706       Panamax    T/C    $ 18,250        Sep-2011         Nov-2011   

Conquistador

   2000      75,607       Panamax    T/C    $ 17,750        Aug-2011         Nov-2011   

Redondo

   2000      74,716       Panamax    T/C    $ 34,500        Apr-2013         Jun-2013   

Positano

   2000      73,288       Panamax    T/C    $ 42,500        Sept-2013         Dec-2013   

Marbella

   2000      72,561       Panamax    T/C    $ 14,750        Aug-2011         Nov-2011   

Ocean Crystal

   1999      73,688       Panamax    T/C    $ 15,000        Aug-2011         Nov-2011   

La Jolla

   1997      72,126       Panamax    T/C    $ 14,750        Aug-2011         Nov-2011   

Toro

   1995      73,035       Panamax    T/C    $ 16,750        May-2011         Jul-2011   

Average age based on year built / Sum of DWT/ Total number of vessels

   7.8 years      2,017,271       27           

Supramax:

                   

Paros I (3)

   2003      51,201       Supramax    BB    $ 27,135        Oct-2011         May-2012   

Galveston ex. Pachino

   2002      51,201       Supramax    Spot        

Average age based on year built / Sum of DWT/ Total number of vessels

   7.5 years      102,402       2           

Totals (36)

                   

Average age based on year built / Sum of DWT/ Total number of vessels

   7.9 Years      3,275,486       36           

Under Construction

                   

Panamax 1

   2011      76,000       Panamax           

Panamax 2

   2012      76,000       Panamax           

Capesize 1

   2012      176,000       Capesize           

Capesize 2

   2012      176,000       Capesize           

 

(1) See “Recent Developments” below concerning the charters for these vessels with KLC, a South Korean shipping company that announced on January 25, 2011 it had filed a petition for the rehabilitation proceeding for court receivership in the Seoul Central District Court.
(2) See “Recent Developments” below concerning the recent grounding of this vessel.
(3) The MV Paros I is employed under a bareboat charter.

 

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Drilling Units

 

    Year Built or
Scheduled
Delivery /
Generation
    Design / Type     Water Depth to
the Wellhead (ft)
    Drilling Depth
to the Oil Field
(ft)
    Customer     Contract Term     Maximum
Dayrate
    Drilling
Location
 

Drilling Rigs:

               

Leiv Eiriksson

    2001 / 5th       
 
Trosvik
Bingo 9000
  
  
    7,500        30,000       
 
Petrobras Oil
& Gas
  
  
   
 
Q4 2009 –
Q2 2011
  
  
  $ 583,000        Black Sea   
            Cairn       
 
Q2 2011 –
Q4 2011
  
  
  $ 550,000        Greenland   

Eirik Raude

    2002 / 5th       
 
Trosvik
Bingo 9000
  
  
    10,000        30,000        Tullow Oil       
 
Q4 2008 –
Q4 2011
  
  
  $ 647,000        Ghana   
           
 
Borders &
Southern
  
  
   
 
Q42011 –
Q2 2012
  
  
  $
540,000
  
   
 
Falkland
Islands
  
  

Drillships:

               

Ocean Rig Corcovado

   
 
January
2011 / 6th
  
  
   
 
S10000E /
D8
  
  
    10,000        35,000        Cairn       
 
Q1 2011 –
Q4 2011
  
  
  $ 560,000        Greenland   

Ocean Rig Olympia

   
 
March 2011
/ 6th
  
  
   
 
S10000E /
D8
  
  
    10,000        35,000        Vanco       
 
Q2 2011 –
Q2 2012
  
  
  $ 415,000        West Africa   

Ocean Rig Poseidon (Hull 1865)*

   
 
Q3 2011 /
6th
  
  
   
 
S10000E /
D8
  
  
    10,000        35,000       
 
Petrobras
Tanzania
  
  
   
 
Q3 2011 –
Q1 2013
  
  
  $ 632,000       
 
Tanzania and
West Africa
  
  

Ocean Rig Mykonos (Hull 1866)*

   
 
Q3 2011 /
6th
  
  
   
 
S10000E /
D8
  
  
    10,000        35,000           

 

* Under construction.

Tankers

 

     Year
Built
   DWT      Type    Current
employment
   Gross
rate
per  day
   Redelivery
                    Earliest    Latest

Saga

   2011      115,200       Aframax    Sigma Pool    N/A    N/A    N/A

Vilamoura

   2011      158,300       Suezmax    Blue Fin Pool    N/A    N/A    N/A

 

     Year
Built
     DWT      Type  

Under construction:

        

Daytona

     2011         115,200         Aframax   

Belmar

     2011         115,200         Aframax   

Calida

     2011         115,200         Aframax   

Alicante

     2012         115,200         Aframax   

Mareta

     2012         115,200         Aframax   

Petalidi

     2012         158,300         Suemax   

Lipari

     2012         158,300         Suezmax   

Bordeira

     2013         158,300         Suezmax   

Esperona

     2013         158,300         Suezmax   

Blanca

     2013         158,300         Suezmax   

 

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We actively manage the deployment of our drybulk fleet between long-term and short-term time charters, which generally last from several days to several weeks, and long-term time charters and bareboat charters, which can last up to several years. A time charter is generally a contract to charter a vessel for a fixed period of time at a set daily rate. Under time charters, the charterer pays voyage expenses such as port, canal and fuel costs. A voyage charter is generally a contract to carry a specific cargo from a load port to a discharge port for a specified total price. Under spot market voyage charters, we pay voyage expenses such as port, canal and fuel costs. Under both types of charters, we pay for vessel operating expenses, which include crew costs, provisions, deck and engine stores, lubricating oil, insurance, maintenance and repairs, as well as for commissions. We are also responsible for the drydocking costs relating to each vessel. Under a bareboat charter, the vessel is chartered for a stipulated period of time which gives the charterer possession and control of the vessel, including the right to appoint the master and the crew. Under bareboat charters, all voyage costs are paid by the Company’s customers.

We deploy our drilling units on long-term charters, or drilling contracts that provide for a dayrate to be paid to us by the charterer. Under the drilling contracts, the customer typically pays us a fixed daily rate, depending on the activity and up-time of the rig. The customer bears all fuel costs and logistics costs related to transport to/from the rig. We remain responsible for paying the operating expenses for the rigs, including the cost of crewing, catering, insuring, repairing and maintaining the rig, the costs of spares and consumable stores and other miscellaneous expenses. The lease element of revenue is recognized to the statement of operations on a straight line basis. The drilling services element of mobilization revenues, contributions from customers and the direct incremental expenses of mobilization are deferred and recognized over the estimated duration of the drilling contracts. To the extent that deferred expenses exceed revenue to be recognized, it is expensed as incurred. Demobilization fees and expenses are recognized over the demobilization period.

Our drybulk vessels and drilling units operate worldwide within the trading limits imposed by our insurance terms and do not operate in areas where United States, European Union or United Nations sanctions have been imposed.

Tankers operating on time charters may be chartered for several months or years whereas tankers operating in the spot market typically are chartered for a single voyage that may last up to several weeks. Vessels on period employment at variable rates related to the market are either in a pool or operating under contract of affreightment for a specific charterer. Tankers operating in the spot market may generate increased profit margins during improvements in tanker rates, while tankers operating on time charters generally provide more predictable cash flows. Accordingly, we actively monitor macroeconomic trends and governmental rules and regulations that may affect tanker rates in an attempt to optimize the deployment of our fleet. We employ our two operating tankers in pooling arrangements and we intend to employ our ten remaining newbuilding tankers in tanker pools as these vessels are delivered to us.

Recent Developments

On January 3, 2011, we took delivery of our newbuilding drillship, the Ocean Rig Corcovado, the first to be delivered of the four sister drillship vessels constructed by Samsung. In connection with the delivery of Ocean Rig Corcovado, the final yard installment of $289.0 million was paid and the pre-delivery loan of $115.0 million relating to the Ocean Rig Corcovado under our $230.0 million credit facility was repaid in full.

On January 4, 2011, our majority-owned subsidiary, Ocean Rig UDW, entered into contracts with Cairn for the Leiv Eiriksson and the Ocean Rig Corcovado for a drilling period of approximately six months each plus mobilization. The total contract value, including mobilization, is approximately $95.0 million for the Leiv Eiriksson and $142.0 million for the Ocean Rig Corcovado.

On January 4, 2011 the Company announced that it had entered into a firm contract with Petrobras Tanzania for its 3rd drillship newbuilding the “Ocean Rig Poseidon”. As part of this agreement the Leiv Eiriksson will be released early from the existing contract and will be made available in second quarter 2011. The firm contract period is for about 600 days plus a mobilization period. The total contract value including mobilization is $353 million.

On January 5, 2011 the Company drew down the full amount of the $325 million Deutsche Bank term loan facility, with its subsidiary Drillships Hydra Owners Inc. as borrower, for the purpose of (i) meeting the ongoing working capital needs of Drillships Hydra Owners Inc, (ii) financing the partial repayment of existing debt in relation to the purchase of the drillship identified as Samsung Hull 1837, or “Ocean Rig Corcovado”, and (iii) financing the payment of the final installment associated with the purchase of said drillship. Dry Ships Inc., Drillships Holdings Inc and Ocean Rig UDW Inc. are joint guarantors and guarantee all obligations and liabilities of Drillships Hydra Owners Inc

 

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On January 18, 2011, we took delivery of our newbuilding Aframax tanker, Saga, the first to be delivered of the six Aframax and six Suezmax tankers to be constructed by Samsung. In connection with the delivery of Saga, we paid construction and construction-related costs of $46.6 million.

The vessels Capri, Capitola and Samatan, were on long term time charter to KLC pursuant to charterparties respectively dated May 6, 2008, March 3, 2008 and March 3, 2008. On January 25, 2011 KLC filed with the 4th Bankruptcy Division of the Seoul Central District Court an application for rehabilitation pursuant to the Debtor Rehabilitation & Bankruptcy Act. On February 15, 2011 KLC’s application was approved by the Seoul Court, and Joint Receivers of KLC were appointed. Upon and with effect from March 14, 2011 the shipowning companies’ original charter agreements with KLC were terminated by the Joint Receivers, and the shipowning companies entered into new short term charter agreements with the Joint Receivers at reduced rates of hire and others terms, with the approval of the Seoul Court. On April 1, 2011 the shipowning companies filed claims in the corporate rehabilitation of KLC for (i) outstanding hire due under the original charter agreements, and (ii) damages and loss caused by the early termination of the original charter agreements.

On February 7, 2011, the Company executed definitive documentation for a $70 million secured term loan facility with an international lender to partially finance the construction costs of the newbuilding tankers, Saga and Vilamoura. As of March 30, 2011, the Company has drawn the full amount available under this facility.

On February 14, 2011 and April 12, 2011 and upon the delivery of Drillship Hull 1837 and Hull 1838, 50% of the shares of Series A Convertible Preferred Stock issued in July 2009 held by each holder, amounting to 26,119,402 were converted, at the conversion price, into 20,485,806 shares of common stock.

TMS Bulkers Ltd., managers of the MV Oliva, one of our Panamax drybulk carriers, reported that on March 16, 2011, the vessel run aground at Nightingale Island, which is part of the “Tristan Da Cunha” group of islands in the South Atlantic Ocean. At the time of the incident the vessel was on its way from Santos, Brazil to China, loaded with 65,266 metric tons of soya beans. The following day the vessel broke in two. Both the vessel and the cargo are lost and are considered to be actual total losses for insurance purposes. In addition, bunkers leaked from the damaged hull, which has affected the local birdlife and marine environment. There were no injuries to the 22 crew members on board.

TMS Bulkers activated its Emergency Response Plan and has deployed all appropriate resources in close cooperation with the local authorities to mitigate the damage arising from this accident. That response has included the attendance of a large local vessel, which was joined a few days later by a salvage tug with appropriate equipment for bird rehabilitation and oil clean-up operations, as well as salvage operations. A second tug and a small general cargo vessel also have been chartered to deliver additional equipment and a team of specialists from SANCCOB. Oil pollution experts ITOPF have been coordinating the response to the casualty, in conjunction with TMS Bulkers and the vessel’s Protection & Indemnity liability insurers (Gard). The vessel’s hull was fully insured and the Hull & Machinery insurers were notified of the loss.

We and our liability insurers are in the process of determining the potential liabilities arising from the accident and the amounts involved. We anticipate that the majority of its costs and losses will be covered by our insurance.

Pursuant to the Drillship Master Agreement dated November 22, 2010, on February 25, 2011 and on March 18, 2011 the Company made additional payments to Samsung totaling $20 million in exchange for certain amendments to the originally agreed terms and conditions.

On March 23, 2011, we took delivery of our newbuilding Suezmax tanker, Vilamoura, the second to be delivered of the six Aframax and six Suezmax tankers to be constructed by Samsung. In connection with the delivery of Vilamoura, we paid construction and construction-related costs of approximately $71.0 million.

On March 25, 2011, the Company received a commitment letter and term sheet for a new $800.0 million secured term loan facility to partially finance the construction costs of the Ocean Rig Corcovado and Ocean Rig Olympia. The new secured term loan facility is subject to completion of definitive documentation and the Company intends to use a portion of the new facility to refinance its $325.0 million short term loan facility, dated December 21, 2010.

On March 28, 2011, the Company received approval from the facility agent on behalf of all lenders to restructure the two $562.5 million credit facilities, which we refer to herein as the Deutsche Bank credit facilities. The restructuring is subject to

 

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completion of definitive documentation. The main terms of the restructuring are as follows: (i) the maximum amount permitted to be drawn will be reduced from $562.5 million to $495.0 million under each facility; (ii) in addition to the guarantee already provided by Dryships, our majority-owned subsidiary, Ocean Rig UDW Inc. will provide an unlimited recourse guarantee that will include certain financial covenants that will apply quarterly to Ocean Rig UDW Inc.; (iii) the Company will be permitted to draw under the facility with respect to the Ocean Rig Poseidon based upon the fixture of the drillship under its drilling contract with Petrobras Tanzania, and cash collateral deposited for this vessel will be released; and (iv) the Company will be permitted to draw under the facility with respect to the Ocean Rig Mykonos provided the Company has obtained suitable employment for such drillship no later than August 2011.

On March 30, 2011, we took delivery of our newbuilding drillship, the Ocean Rig Olympia. In connection with the delivery of Ocean Rig Olympia, the final yard installment of $288.4 million was paid and on March 18, 2011, the pre-delivery loan of $115.0 million relating to the Ocean Rig Olympia under our $230.0 million credit facility was prepaid in full.

On March 30, 2011, the Company received a firm commitment from an international lender for a $32.3 million secured term loan facility to partially finance the construction cost of the newbuilding tanker, Daytona, which is scheduled to be delivered in April 2011. This facility is subject to completion of definitive documentation, which the Company expects to occur in April 2011.

In March 2011, A U.S. District Court in Maryland resolved a case in which Cardiff, the former manager of the Company’s vessel, MV Capitola, entered into a comprehensive settlement with the U.S. Department of Justice in connection with an investigation into MARPOL violations involving that vessel. The court applied a fine of approximately $2.4 million and instructed Cardiff to implement an Environmental Compliance Plan, or ECP, which the vessels’ current operator, TMS Bulkers, will carry out.

On April 4, 2011, we delivered our Panamax drybulk carrier, the MV Primera, to her new owners.

On April 12, 2011 the Company concluded an order for two Capesize 176,000 dwt dry bulk vessels, with an established Chinese shipyard, for a price of $54.16 million each. The vessels are expected to be delivered in the third and the fourth quarter of 2012, respectively.

Our Drybulk Operations

Competition

Demand for drybulk carriers fluctuates in line with the main patterns of trade of the major drybulk cargoes and varies according to changes in the supply and demand for these items. We compete with other owners of drybulk carriers in the Capesize, Panamax and Supramax size sectors. Ownership of drybulk carriers is highly fragmented and is divided among approximately 1,500 independent drybulk carrier owners. We compete for charters on the basis of price, vessel location, size, age and condition of the vessel, as well as on our reputation as an owner and operator.

Customers

During the year ended December 31, 2010, four of our customers accounted for more than ten percent of our voyage revenue: Customer A (16%), Customer B (15%), Customer C (11%) and Customer D (10%). During the year ended December 31, 2009, four of our customers accounted for more than ten percent of our voyage revenue: Customer E (17%), Customer F (15%), Customer G (11%) and Customer H (10%). During the year ended December 31, 2008, two of our customers accounted for more than ten percent of our voyage revenue: Costumer I (20%) and Customer J (11%). Given our exposure to, and focus on, the long-term and short-term, or spot, time charter markets, we do not foresee any one client providing a significant percentage of our income over an extended period of time.

Management of our Drybulk Vessels

We do not employ personnel to run our vessel operating and chartering business on a day-to-day basis. Prior to January 1, 2011, Cardiff, a company affiliated with our Chairman and Chief Executive Officer, Mr. George Economou, served as our technical and commercial manager pursuant to separate management agreements with each of our drybulk vessel-owning subsidiaries. Effective January 1, 2011, we entered into new management agreements that replaced our management agreements with Cardiff, on the same terms as our management agreements with Cardiff, with TMS Bulkers, a related party, as a result of an internal restructuring of Cardiff for the purpose of enhancing its efficiency and the quality of its ship-management services.

TMS Bulkers utilizes the same experienced personnel utilized by Cardiff in providing us with comprehensive ship management services, including technical supervision, such as repairs, maintenance and inspections, safety and quality, crewing and training as well as supply provisioning. TMS Bulkers’s commercial management services include operations, chartering, sale and purchase, post-fixture administration, accounting, freight invoicing and insurance.

TMS Bulkers is beneficially majority-owned by our Chairman and Chief Executive Officer, Mr. George Economou, and members of his immediate family. The remaining capital stock of TMS Bulkers is beneficially owned by Ms. Chryssoula Kandylidis,

 

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who serves on our board of directors. Mr. Economou, under the guidance of our board of directors, manages our business as a holding company, including our own administrative functions, and we monitor TMS Bulkers’s performance under the management agreements.

Management Agreements

Under our management agreements with TMS Bulkers, TMS Bulkers is entitled to a fixed management fee of Euro 1,500 (or $2,000 based on the Euro/U.S. Dollar exchange rate at December 31, 2010) per vessel per day, payable in equal monthly installments in advance and automatically adjusted each year to the Greek Consumer Price Index for the previous year by not less than 3% and not more than 5%. If we request that TMS Bulkers supervise the construction of a newbuilding vessel then in lieu of the fixed management fee, we will pay TMS Bulkers an upfront fee equal to 10% of the supervision cost budget for such vessel as approved by us. For any additional attendance above the budgeted superintendent expenses, the Company will be charged extra at a standard rate in Euro 500 ($700 based on the Euro/U.S. Dollar exchange rate as of December 31, 2010) per day.

In addition, TMS Bulkers is entitled to a commission of 1.25% of all monies earned by the vessel, which survives the termination of the management agreement until the termination of the charter agreement then in effect or the termination of any other employment arranged prior to such termination. TMS Bulkers also receives a sale and purchase commission of 1%. Under the management agreements, we may award TMS Bulkers an annual performance incentive fee.

From September 1, 2010 through January 1, 2011, Cardiff served as our technical and commercial manager pursuant to management agreements with the terms described above. Prior to September 1, 2010, we paid management fees to Cardiff that varied according to type of management service, including chartering, technical management, accounting and financial reporting services. Moreover, effective September 1, 2010, we terminated our agreement with Cardiff, according to which a quarterly fee of $250,000 was payable to Cardiff for services in relation to financial reporting requirements and monitoring of internal controls.

See “Item 7.B Related Party Transactions—Agreements with Cardiff, TMS Bulkers and TMS Tankers—Management Agreements—Drybulk Vessels.”

Consultancy Agreement—Drybulk carrier, offshore drilling and tanker segments

On September 1, 2010, we entered into a consultancy agreement with Vivid Finance Limited (“Vivid Finance”), a company controlled by our Chairman and Chief Executive Officer, Mr. George Economou, pursuant to which Vivid Finance provides consulting services relating to (i) the identification, sourcing, negotiation and arrangement of new loan and credit facilities, interest swap agreements, foreign currency contracts and forward exchange contracts; (ii) the raising of equity or debt in the public capital markets; and (iii) the renegotiation of existing loan facilities and other debt instruments. In consideration for these services, Vivid Finance is entitled to a fee of twenty basis points, or 0.20%, on the total transaction amount. The consultancy agreement has a term of five years and may be terminated (i) at the end of its term unless extended by mutual agreement of the parties; (ii) at any time by the mutual agreement of the parties; and (iii) by us after providing written notice to Vivid Finance at least 30 days prior to the actual termination date.

Crewing and Employees

As of December 31, 2010, TMS Bulkers and TMS Tankers, employed approximately 150 people, all of whom are shore-based. In addition, TMS Bulkers and TMS Tankers] are responsible for recruiting, either directly or through a crewing agent, the senior officers and all other crew members for our vessels. We believe the streamlining of crewing arrangements will ensure that all our vessels will be crewed with experienced seamen that have the qualifications and licenses required by international regulations and shipping conventions.

Charter hire Rates

Charter hire rates paid for drybulk carriers are primarily a function of the underlying balance between vessel supply and demand, although at times other factors may play a role. Furthermore, the pattern seen in charter rates is broadly mirrored across the different charter types and between the different drybulk carrier categories. However, because demand for larger drybulk carriers is affected by the volume and pattern of trade in a relatively small number of commodities, charter hire rates (and vessel values) of larger ships tend to be more volatile than those for smaller vessels.

In the time charter market, rates vary depending on the length of the charter period and vessel specific factors such as age, speed and fuel consumption. In the voyage charter market, rates are influenced by cargo size, commodity, port dues and canal transit fees, as well as delivery and redelivery regions. In general, a larger cargo size is quoted at a lower rate per ton than a smaller cargo size. Routes with costly ports or canals generally command higher rates than routes with low port dues and no canals to transit.

 

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Voyages with a load port within a region that includes ports where vessels usually discharge cargo or a discharge port within a region with ports where vessels load cargo also are generally quoted at lower rates, because such voyages generally increase vessel utilization by reducing the unloaded portion (or ballast leg) that is included in the calculation of the return charter to a loading area.

Within the drybulk shipping industry, the charter hire rate references most likely to be monitored are the freight rate indices issued by the Baltic Exchange. These references are based on actual charter hire rates under charter entered into by market participants as well as daily assessments provided to the Baltic Exchange by a panel of major shipbrokers. The Baltic Panamax Index is the index with the longest history. The Baltic Capesize Index and Baltic Handymax Index are of more recent origin. In 2008, the BDI declined from a high of 11,793 in May 2008 to a low of 663 in December 2008, which represents a decline of 94%. Over the comparable period of May through December 2008, the high and low of the Baltic Panamax Index and the Baltic Capesize Index represent a decline of 96% and 99%, respectively. During 2009, the BDI increased from a low of 772 and reached a high of 4,661 in November of 2009. In 2010, the BDI increased from 3,235 in January 2010 to a high of 4,209 in May 2010 and subsequently decreased to a low of 1,700 in July 2010. Following a short period of increase in the third quarter of 2010, the BDI fell to near July 2010 levels at the end of 2010. The BDI has further decreased in 2011 to 1,376 as of April 12, 2011.

Vessel Prices

Drybulk vessel prices, both for new-buildings and secondhand vessels, have decreased significantly since the year ended 2008 as a result of the weakening of the drybulk shipping industry. The vessel values have also declined as a result of a slowdown in the availability of global credit. The lack of credit has resulted in the restriction to fund both vessel purchases and purchases of commodities carried by sea. There can be no assurance as to how long charter hire rates and vessel values will remain depressed or whether they will drop any further. Should the charter hire rates remain at these depressed levels for some time our revenue and profitability will be adversely affected.

The International Drybulk Shipping Industry

Drybulk cargo is cargo that is shipped in quantities and can be easily stowed in a single hold with little risk of cargo damage. According to industry sources, in 2010, approximately 2,496.6 million tons of drybulk cargo was transported by sea, including iron ore, coal and grains representing 40.9%, 37.8% and 8.0% of the total drybulk trade, respectively.

The demand for drybulk carrier capacity is determined by the underlying demand for commodities transported in drybulk carriers, which in turn is influenced by trends in the global economy. Between 2001 and 2007, trade in all drybulk commodities increased from 2,108 million tons to 2,961 million tons, an increase of 40.46%. One of the main reasons for that increase in drybulk trade was the growth in imports by China of iron ore, coal and steel products during the last eight years. Chinese imports of iron ore alone increased from 92.2 million tons in 2001 to approximately 382 million tons in 2007. In 2008, seaborne trade in all drybulk commodities increased to 2,202 million tons. However, demand for drybulk shipping decreased dramatically in the second quarter of 2008 evidenced by the decrease in Chinese iron ore imports which decreased from a high of 119.5 million tons in the second quarter of 2008 to a low of 96.2 million tons during the fourth quarter of 2008 representing a decrease of 19.5%. In 2009, seaborne trade in all drybulk commodities increased to 2,255.8 million tons as demand for drybulk shipping picked up following mainly an increase in Chinese iron ore imports from 443.7 million tons in 2008 to 628.1 million tons in 2009. In 2010, seaborne trade in all drybulk commodities increased to 2,496.6, representing a 10.7% increase from 2009. At the current time, seaborne trade is expected to increase by 6.9% in 2011 while Chinese iron ore imports are expected to rise by 12.0%.

The global drybulk carrier fleet may be divided into four categories based on a vessel’s carrying capacity. These categories consist of:

 

   

Capesize vessels, which have carrying capacities of more than 85,000 dwt. These vessels generally operate along long-haul iron ore and coal trade routes. There are relatively few ports around the world with the infrastructure to accommodate vessels of this size.

 

   

Panamax vessels, which have a carrying capacity of between 60,000 and 85,000 dwt. These vessels carry coal, grains, and, to a lesser extent, minor bulks, including steel products, forest products and fertilizers. Panamax vessels are able to pass through the Panama Canal making them more versatile than larger vessels.

 

   

Handymax vessels, which have a carrying capacity of between 35,000 and 60,000 dwt. The subcategory of vessels that have a carrying capacity of between 45,000 and 60,000 dwt called Supramax. These vessels operate along a

 

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large number of geographically dispersed global trade routes mainly carrying grains and minor bulks. Vessels below 60,000 dwt are sometimes built with on-board cranes enabling them to load and discharge cargo in countries and ports with limited infrastructure.

 

   

Handysize vessels, which have a carrying capacity of up to 35,000 dwt. These vessels carry exclusively minor bulk cargo. Increasingly, these vessels have operated along regional trading routes. Handysize vessels are well suited for small ports with length and draft restrictions that may lack the infrastructure for cargo loading and unloading.

The supply of drybulk carriers is dependent on the delivery of new vessels and the removal of vessels from the global fleet, either through scrapping or loss. The orderbook of new drybulk vessels scheduled to be delivered in 2011 represents approximately 22.5% of the world drybulk fleet. The level of scrapping activity is generally a function of scrapping prices in relation to current and prospective charter market conditions, as well as operating, repair and survey costs. Drybulk carriers at or over 25 years old are considered to be scrapping candidate vessels.

The Effect of Recent Developments in the International Drybulk Shipping Industry on Our Business

The BDI, a daily average of charter rates in 26 shipping routes measured on a time charter and voyage basis and covering Supramax, Panamax and Capesize drybulk carriers, declined from a high of 11,793 in May 2008 to a low of 663 in December 2008, which represents a decline of 94%. Over the comparable period of May through December 2008, the high and low of the Baltic Panamax Index and the Baltic Capesize Index represent a decline of 96% and 99%, respectively. During 2009, the BDI increased from a low of 772 and reached a high of 4,661 in November of 2009. In 2010, the BDI increased from 3,235 in January 2010 to a high of 4,209 in May 2010 and subsequently decreased to a low of 1,700 in July 2010. Following a short period of increase in the third quarter of 2010, the BDI fell to near July 2010 levels at the end of 2010. The BDI has further decreased in 2011 to 1,376 as of April 12, 2011.

The general decline in the drybulk carrier charter market is due to various factors, including the lack of trade financing for purchases of commodities carried by sea, which has resulted in a significant decline in cargo shipments, and the excess supply of iron ore in China, which has resulted in falling iron ore prices and increased stockpiles in Chinese ports.

The general decline in the drybulk carrier charter market has resulted in lower charter rates for our time charters and bareboat charters linked to the BDI.

In addition, the general decline in the drybulk carrier charter market has resulted in lower drybulk vessel values. We previously entered into contracts for the sale of MV La Jolla, MV Paragon, MV Delray and MV Toro for an aggregate purchase price of $245.4 million. As further discussed below, we agreed with the buyers of the MV La Jolla to retain the vessel in exchange for aggregate compensation of $9.0 million and we employ the vessel under time charter employment. Further, the sale of MV Delray will not close due to the buyer’s repudiation of its obligations under the memorandum of agreement. A deposit on the vessel in the amount of $5.6 million was made by the buyer we are pursuing all legal remedies against the buyer. In addition, we reached an agreement with the buyers of the MV Paragon to sell the vessel for a reduced price of $30.8 million. With respect to the MV Toro, we entered into an agreement with Samsun, the buyers of the MV Toro, to sell the vessel at a reduced price of $36 million. As part of the agreement, the buyers released the deposit of $6.3 million to the Company immediately and were required to make a new deposit of $1.5 million towards the revised purchase price. On February 13, 2009, the Company proceeded with the cancellation of the sale agreement due to the buyer’s failure to pay the new deposit of $1.5 million. In February 2009, Samsun was placed in corporate rehabilitation and its plan of reorganization was approved by its creditors. As part of this plan, we will recoup a certain percentage of the agreed-upon purchase price.

Our Offshore Drilling Operations

Competition

Our competition in the contract drilling industry ranges from large multinational companies to smaller, locally-owned companies. We believe we are competitive in terms of safety, pricing, performance, equipment, availability of equipment to meet customer needs and availability of experienced, skilled personnel. However, industry-wide shortages of supplies, services, skilled personnel and equipment necessary to conduct our business can occur. Competition for offshore drilling rigs and drillships is usually on a global basis, as these drilling rigs and drillships are highly mobile and may be moved, at a cost that may sometimes be substantial, from one region to another in response to customers’ drilling programs and demand.

 

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Customers

Our drilling customers generally fall within three categories: national oil companies, large integrated major oil companies and medium to smaller independent exploration and production companies. The customers that have contracted our drilling units are predominantly the large integrated major oil companies. During 2010, our contract with Customer A accounted for 43% of our total drilling revenues, and our contract with Customer B accounted for 57% of our total drilling revenues. During 2009, our contract with Customer A accounted for 38% of our total drilling revenues, and our contract with Customer B accounted for 62% of our total drilling revenues. During 2008, our contract with Customer A accounted for 54% of our total offshore drilling revenues, our contract with Customer B accounted for 26% of our total offshore drilling revenues and our contract with Customer C accounted for 20% of our total offshore drilling revenues.

Management of Our Offshore Drilling Operations

Management Agreement

Ocean Rig AS and various other subsidiaries of Ocean Rig UDW directly manage our two drill rigs, the Leiv Eiriksson and the Eirik Raude. In April 2008, we entered into management agreements with Ocean Rig AS for the supervision of the construction of the Ocean Rig Poseidon and the Ocean Rig Mykonos, scheduled to be delivered to us in July 2011 and September 2011, respectively, In addition, the owning companies of the Ocean Rig Corcovado and the Ocean Rig Olympia, which we subsequently acquired in 2009, also entered into management agreements with Ocean Rig AS for the supervision of the construction of the two drillships on the same terms as the management agreements for the Ocean Rig Poseidon and the Ocean Rig Mykonos. The Ocean Rig Corcovado was delivered to us in January 2011 and the Ocean Rig Olympia was delivered to us in March 2011.

Under the terms of the management agreements, Ocean Rig AS, is among other things, responsible for (i) assisting in technical negotiations of construction contracts, (ii) securing contracts for the future employment the drillships, and (iii) providing commercial, technical and operational management for the drillships. Ocean Rig AS is entitled to fees of: (i) $250 per day until steel cutting; (ii) $2,500 per day from the date of steel cutting until the date of delivery of the applicable drillship to its owner; and (iii) $8,000 per day thereafter. The management fees are subject to an increase based on the U.S. Consumer Price Index for the preceding 12 months. Ocean Rig AS is also entitled to a commission fee equal to 0.75% of gross hire and charter hire for contracts or charter parties entered into during the term of the management agreement, payable on the date that the gross or charter hire money is collected. The agreements terminate on December 31, 2020, unless earlier terminated by Ocean Rig AS for non-payment within fifteen working days of request.

Effective December 21, 2010, we terminated our management agreements with Cardiff, pursuant to which Cardiff provided supervisory services in connection with the construction of the Ocean Rig Corcovado and the Ocean Rig Olympia. Under the management agreements, we paid Cardiff a management fee of $40,000 per month per drillship. The management agreements also provided for: (i) a chartering commission of 1.25% on all freight, hire and demurrage revenues; (ii) a commission of 1% on all gross sale proceeds or purchase price paid for drillships; (iii) a commission of 1% on loan financing or refinancing; and (iv) a commission of 2% on insurance premiums. See “Item 7.B. Related Party Transactions—Agreements with Cardiff, TMS Bulkers and TMS Tankers—Management Agreements—Drilling Units.” These agreements were replaced with the Global Services Agreement described below.

Until December 31, 2010, the management of the drilling rigs Leiv Eiriksson and Eirik Raude was performed by Ocean Rig UDW and its subsidiaries under the Global Service Agreement described below. With effect from January 1, 2011, the Global Service Agreement was discontinued with respect to these two drill rigs and replaced by a management agreement between Ocean Rig AS, as manager, and Ocean Rig 1 Inc. and Ocean Rig 2 Inc. as the owners of Leiv Eiriksson and Eirik Raude, respectively. The management agreement is based on cost plus principles whereby the charges to the relevant drilling units are dependant primarily upon the cost base of Ocean Rig AS and the number and type of management agreements with regard to other drilling units owned and operated by Ocean Rig UDW.

With effect from January 3, 2011, the date Ocean Rig UDW took delivery of Ocean Rig Corcovado, Drillship Hydra Owners Inc., the owner of the Ocean Rig Corcovado, entered into a management agreement with Ocean Rig AS on similar terms as the management agreement between Ocean Rig AS and the owning companies of our two drilling rigs. The management agreement originally entered into for the Ocean Rig Corcovado described above was discontinued from the same date. Ocean Rig AS entered into new management agreements for each of the Ocean Rig Olympia, Ocean Rig Poseidon and Ocean Rig Mykonos effective from delivery of the respective drillship.

 

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Global Services Agreement

Effective December 21, 2010, we entered into a global services agreement (the “Global Services Agreement”) with Cardiff, a company controlled by our Chairman and Chief Executive Officer, Mr. George Economou, pursuant to which we have engaged Cardiff to act as consultant on matters of chartering and sale and purchase transactions for our offshore drilling units. Under the Global Services Agreement, Cardiff, or its subcontractor, (i) provides consulting services related to identifying, sourcing, negotiating and arranging new employment for our offshore assets, including our drilling units; and (ii) identifies, sources, negotiates and arranges the sale or purchase of our offshore assets, including our drilling units. In consideration of such services, Cardiff is entitled to a fee of 1.0% in connection with employment arrangements and 0.75% in connection with sale and purchase activities.

Crewing and Employees

As of December 31, 2010, our majority-owned subsidiary, Ocean Rig UDW and its management subsidiaries (collectively, the “Ocean Rig Group”), had approximately 564 employees, compared to 432 at year end 2009, with 445 employees directly employed by Ocean Rig Group and the balance of 119 employees representing permanent crew engaged through third party crewing agencies. The increase in the number of employees is due to the build up of the newbuild drillship project team in Korea and Norway and more local employees in Turkey Ghana. Of the total number of employees, approximately 160 were assigned to the Eirik Raude, approximately 143 were assigned to the Leiv Eiriksson and approximately 139 were assigned to our newbuild drillships. These numbers include shore-based support teams in Turkey and Ghana. The newbuild drillship project team, located in Korea and Norway, employed 50 employees, while the management and staff positions at the Stavanger office consisted of 59 employees. In addition, there were four employees based at the London office and two employees based in other locations.

Insurance for Our Offshore Drilling Rigs

We maintain insurance for our drilling units in accordance with industry standards. Our insurance is intended to cover normal risks in our current operations, including insurance against property damage, loss of hire, war risk and third-party liability, including pollution liability.

We have obtained insurance for the full assessed market value of our drilling units, as assessed by rig brokers. Our insurance provides for premium adjustments based on claims and is subject to deductibles and aggregate recovery limits. In the case of pollution liabilities, our deductible is $10,000 per event and in the case of other hull and machinery claims, our deductible is $1.5 million per event. Our insurance coverage may not protect fully against losses resulting from a required cessation of rig operations for environmental or other reasons.

We also have loss of hire insurance which becomes effective after 45 days of off-hire and coverage extends for approximately one year.

The principal risks which may not be insurable are various environmental liabilities and liabilities resulting from reservoir damage caused by our negligence. In addition, insurance may not be available to us at all or on terms acceptable to us, and there is no guarantee that even if we are insured, our policy will be adequate to cover our loss or liability in all cases.

The Offshore Drilling Industry

The international offshore drilling market has seen an increased trend towards deepwater and ultra deepwater exploration and subsequent development drilling. Due to the BP Macondo/Deepwater Horizon incident, there will be an increased focus on technical and operational issues due to the inherent risk of developing offshore fields in ultra deepwater. This may result in oil companies showing a higher preference for modern, more technologically advanced units capable of drilling in these environments.

Exploration and production (“E&P”) spending by the oil and gas companies generally creates the demand for the oil service companies, of which offshore drilling contracting is a significant part. There is a strong relationship between E&P spending and oil companies’ earnings, where the oil price is the most important parameter. Crude oil prices have maintained a trading range in excess of $60 per barrel since August 2009 and averaged approximately $80 per barrel in 2010. Crude oil prices fell to $34 per barrel in February 2009 following the onset of the global financial crisis, deteriorating global economic fundamentals and the resulting drop in crude oil demand in a number of the world’s largest oil consuming nations. These factors had a negative impact on customer demand for offshore rigs throughout 2009. While the initial months of 2010 were characterized by a cautious pattern from many operators toward new exploration and production spending commitments similar to what was experienced in 2009, evidence was present that supported increased spending with a number of new drilling programs commencing in 2011 and beyond, largely supported by operators’ increasing confidence in the re-establishment of global economic growth and the sustainability of crude oil prices. However, following the April 2010 Macondo well incident and subsequent government actions, a new level of uncertainty among operators developed, with many choosing to delay the commencement of certain projects in the U.S. Gulf of Mexico and other regions pending further clarity on a number of industry issues. Worldwide offshore fleet utilization remained flat at approximately 73% at December 31, 2010 compared to 74% at December 31, 2009. Utilization for the industry’s deepwater fleet has historically been less

 

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sensitive to the extreme fluctuations experienced within the shallow water market even during market downturns. The timing of potentially higher spending patterns, especially in deepwater, is expected to remain uncertain until operators have gained more clarity concerning the long-term implications of the Macondo well incident, including an understanding of the impact of new operating regulations and government oversight. We believe that sustained oil prices above $60 per barrel since mid-2009 have contributed to increased confidence among operators and should lead to increased exploration and production spending, especially in international locations. However, operators will need to be confident in stronger oil market fundamentals supported by broadening global economic improvement, leading to increased crude oil demand, especially among member countries of the Organization for Economic Cooperation and Development.

Geological successes in exploratory markets, such as the numerous discoveries to date in the pre-salt formation offshore Brazil, the lower tertiary trend in the U.S. Gulf of Mexico and deeper waters offshore Angola, along with the continued development of a number of deepwater projects in each of these regions, are expected to produce long-term growing demand from clients for deepwater rigs. Following a record 25 deepwater discoveries in 2009, operators announced a record 31 deepwater discoveries in 2010 covering an expanding number of offshore basins, such as Ghana, the pre-salt formation offshore Brazil and Sierra Leone, further supporting the long-term sustainability of deepwater drilling demand. Announced discoveries in 2010 included discoveries along East Africa offshore Mozambique and Tanzania, representing the initial deepwater wells drilled offshore in this vast, emerging province. Additional exploration drilling opportunities offshore East Africa are expected to develop in the future with client interest expressed offshore Kenya and Madagascar. In addition, international oil companies are experiencing greater access to other promising areas offshore, such as India, Malaysia, Brunei, Australia, Sao Tomé, Príncipe, Liberia, Gabon, Greenland and the Black Sea. We anticipate that the combination of drilling successes, greater access to offshore basins, enhanced hydrocarbon recovery methods and continued advances in offshore drilling technology, which support increased efficiency in field development efforts like parallel drilling activities, will support the long-term outlook for deepwater rig demand. However, the increase in deepwater drilling capacity, particularly in 2011 and 2012 when as many as 12 uncommitted new deepwater rigs are expected to complete construction programs and enter the active global fleet, could place dayrates for these rigs under additional pressure. In addition, delays in the U.S. Gulf of Mexico could lead to an imbalance of supply, leading to a more challenging environment in the short-term.

Longer-term, we believe the fundamentals are strong, growth in demand will likely return once the economic woes recede and the supply of oil and gas will remain constrained, with deepwater basins being the primary source of incremental supply.

Our Tanker Operations

Seasonality

Historically, oil trade and therefore charter rates increased in the winter months and eased in the summer months as demand for oil in the Northern Hemisphere rose in colder weather and fell in warmer weather. The tanker industry in general is less dependent on the seasonal transport of heating oil than a decade ago as new uses for oil and oil products have developed, spreading consumption more evenly over the year. Most apparent is a higher seasonal demand during the summer months due to energy requirements for air conditioning and motor vehicles.

Competition

The market for international seaborne crude oil transportation services is highly fragmented and competitive. Seaborne crude oil transportation services generally are provided by two main types of operators: major oil company captive fleets (both private and state-owned) and independent ship-owner fleets. In addition, several owners and operators pool their vessels together on an ongoing basis, and such pools are available to customers to the same extent as independently owned and operated fleets. Many major oil companies and other oil trading companies, the primary charterers of the vessels owned or controlled by us, also operate their own vessels and use such vessels not only to transport their own crude oil but also to transport crude oil for third party charterers in direct competition with independent owners and operators in the tanker charter market. Competition for charters is intense and is based upon price, location, size, age, condition and acceptability of the vessel and its manager. Competition is also affected by the availability of other size vessels to compete in the trades in which the Company engages. Charters are to a large extent brokered through international independent brokerage houses that specialize in finding the optimal ship for any particular cargo based on the aforementioned criteria. Brokers may be appointed by the cargo shipper or the ship owner.

Management of our Tankers under Construction

Management Agreements

Effective January 1, 2011, we entered into separate management agreements with TMS Tankers, a company controlled by our Chairman and Chief Executive Officer, Mr. George Economou, for each of our tankers under construction, which we amended on

 

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January 13, 2011. Each management agreement provides for a construction supervisory fee of 10% of the budget for the vessel under construction, payable up front in lieu of a fixed management fee. Once the vessel is operating, TMS Tankers is entitled to a management fee of Euro 1,700 (or $2,300 based on the Euro/U.S. Dollar exchange rate as of December 31, 2010) per vessel per day, payable in equal monthly installments in advance and automatically adjusted each year to the Greek Consumer Price Index for the previous year by not less than 3% and not more than 5%.

In addition, under the management agreements, TMS Tankers is entitled to a chartering commission of 1.25% of all monies earned by the vessel and a vessel sale and purchase commission of 1%. The management agreements further provide that in our discretion, we may pay TMS Tankers an annual performance incentive fee.

Each management agreement has a term of five years and is automatically renewed for successive five-year periods unless we provide notice of termination in the fourth quarter of the year immediately preceding the end of the respective term.

The International Tanker Market

International seaborne oil and petroleum products transportation services are mainly provided by two types of operators: major oil company captive fleets (both private and state-owned) and independent shipowner fleets. Both types of operators transport oil under short-term contracts (including single-voyage “spot charters”) and long-term time charters with oil companies, oil traders, large oil consumers, petroleum product producers and government agencies. The oil companies own, or control through long-term time charters, approximately one third of the current world tanker capacity, while independent companies own or control the balance of the fleet. The oil companies use their fleets not only to transport their own oil, but also to transport oil for third-party charterers in direct competition with independent owners and operators in the tanker charter market.

Average crude tanker spot freight rates were weaker during the third and fourth quarters of 2010. An oversupply of vessels relative to tanker demand was the main factor which weighed upon tanker rates. The oversupply is attributed to a relatively high number of new tanker deliveries over the course of 2010 coupled with the return to the fleet of vessels that were previously being used for floating storage. Some strength in spot tanker rates was seen towards the end of the year when cold winter weather in Europe and North America led to an increase in both oil demand and weather-related transit delays. Rates subsequently weakened, however, in January 2011 upon easing of weather-related seasonal factors.

The oil transportation industry has historically been subject to regulation by national authorities and through international conventions. Over recent years, however, an environmental protection regime has evolved which has a significant impact on the operations of participants in the industry in the form of increasingly more stringent inspection requirements, closer monitoring of pollution-related events, and generally higher costs and potential liabilities for the owners and operators of tankers.

In order to benefit from economies of scale, tanker charterers will typically charter the largest possible vessel to transport oil or products, consistent with port and canal dimensional restrictions and optimal cargo lot sizes. A tanker’s carrying capacity is measured in deadweight tons, or dwt, which is the amount of crude oil measured in metric tons that the vessel is capable of loading. The oil tanker fleet is generally divided into the following five major types of vessels, based on vessel carrying capacity: (i) Ultra Large Crude Carrier, or ULCC, with a size range of approximately 320,000 to 450,000 dwt; (ii) Very Large Crude Carrier, or VLCC, with a size range of approximately 200,000 to 320,000 dwt; (iii) Suezmax-size range of approximately 120,000 to 200,000 dwt; (iv) Aframax-size range of approximately 80,000 to 120,000 dwt; (v) Panamax-size range of approximately 60,000 to 80,000 dwt; and (v) small tankers of less than approximately 60,000 dwt. ULCCs and VLCCs typically transport crude oil in long-haul trades, such as from the Arabian Gulf to China via the Cape of Good Hope. Suezmax tankers also engage in long-haul crude oil trades as well as in medium-haul crude oil trades, such as from West Africa to the East Coast of the United States. Aframax-size vessels generally engage in both medium-and short-haul trades of less than 1,500 miles and carry crude oil or petroleum products. Smaller tankers mostly transport petroleum products in short-haul to medium-haul trades.

Environmental and Other Regulations in the Shipping Industry

Government regulation and laws significantly affect the ownership and operation of our fleet. We are subject to international conventions and treaties, national, state and local laws and regulations in force in the countries in which our vessels may operate or are registered relating to safety and health and environmental protection including the storage, handling, emission, transportation and discharge of hazardous and non-hazardous materials, and the remediation of contamination and liability for damage to natural resources. Compliance with such laws, regulations and other requirements entails significant expense, including vessel modifications and implementation of certain operating procedures.

A variety of government and private entities subject our vessels to both scheduled and unscheduled inspections. These entities include the local port authorities (applicable national authorities such as the United States Coast Guard, harbor master or

 

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equivalent), classification societies, flag state administrations (countries of registry) and charterers, particularly terminal operators. Certain of these entities require us to obtain permits, licenses, certificates and other authorizations for the operation of our vessels. Failure to maintain necessary permits or approvals could require us to incur substantial costs or result in the temporary suspension of the operation of one or more of our vessels.

We believe that the heightened level of environmental and quality concerns among insurance underwriters, regulators and charterers is leading to greater inspection and safety requirements on all vessels and may accelerate the scrapping of older vessels throughout the industry. Increasing environmental concerns have created a demand for vessels that conform to the stricter environmental standards. We are required to maintain operating standards for all of our vessels that emphasize operational safety, quality maintenance, continuous training of our officers and crews and compliance with United States and international regulations. We believe that the operation of our vessels is in substantial compliance with applicable environmental laws and regulations and that our vessels have all material permits, licenses, certificates or other authorizations necessary for the conduct of our operations. However, because such laws and regulations are frequently changed and may impose increasingly stricter requirements, we cannot predict the ultimate cost of complying with these requirements, or the impact of these requirements on the resale value or useful lives of our vessels. In addition, a future serious marine incident that causes significant adverse environmental impact could result in additional legislation or regulation that could negatively affect our profitability.

International Maritime Organization

The IMO, the United Nations agency for maritime safety and the prevention of pollution by ships adopted the International Convention for the Prevention of Marine Pollution, 1973, as modified by the related Protocol of 1978 relating thereto, which has been updated through various amendments, or the MARPOL Convention. The MARPOL Convention establishes environmental standards relating to oil leakage or spilling, garbage management, sewage, air emissions, handling and disposal of noxious liquids and the handling of harmful substances in packaged forms.

In September 1997, the IMO adopted Annex VI to the MARPOL Convention, Regulations for the Prevention of Pollution from Ships, to address air pollution from ships. Effective May 2005, Annex VI sets limits on sulfur oxide and nitrogen oxide emissions from all commercial vessel exhausts and prohibits deliberate emissions of ozone depleting substances (such as chlorofluorocarbons), emissions of volatile compounds from cargo tanks, and the shipboard incineration of specific substances. Annex VI also includes a global cap on the sulfur content of fuel oil and allows for special areas to be established with more stringent controls on sulfur emissions. We believe that all our vessels are currently compliant in all material respects with these regulations. In October 2008, the IMO adopted amendments to Annex VI regarding particulate matter, nitrogen oxide and sulfur oxide emissions standards which entered into force on July 1, 2010. The amended Annex VI would reduce air pollution from vessels by establishing a series of progressive standards to further limit the sulfur content in fuel oil, which would be phased in by 2020, and by establishing new tiers of nitrogen oxide emission standards for new marine diesel engines, depending on their date of installation. Additionally, more stringent emission standards could apply in coastal areas designated as Emission Control Areas, such as the United States and Canadian coastal areas recently designated by the IMO’s Marine Environment Protection Committee. U.S. air emissions standards are now equivalent to these amended Annex VI requirements. We may incur costs to comply with these revised standards. Additional or new conventions, laws and regulations may be adopted that could require the installation of expensive emission control systems and could adversely affect our business, results of operations, cash flows and financial condition.

Safety Management System Requirements

IMO also adopted the International Convention for the Safety of Life at Sea, or SOLAS, and the International Convention on Load Lines, or the LL Convention, which impose a variety of standards that regulate the design and operational features of ships. The IMO periodically revises the SOLAS and LL Convention standards. We believe that all our vessels are in substantial compliance with SOLAS and LL Convention standards.

Under Chapter IX of SOLAS, the International Safety Management Code for the Safe Operation of Ships and for Pollution Prevention, or ISM Code, our operations are also subject to environmental standards and requirements contained in the ISM Code promulgated by the IMO. The ISM Code requires the party with operational control of a vessel to develop an extensive safety management system that includes, among other things, the adoption of a safety and environmental protection policy setting forth instructions and procedures for operating its vessels safely and describing procedures for responding to emergencies. We rely upon the safety management system that we and our technical manager have developed for compliance with the ISM Code. The failure of a shipowner or bareboat charterer to comply with the ISM Code may subject such party to increased liability, may decrease available insurance coverage for the affected vessels and may result in a denial of access to, or detention in, certain ports.

 

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The ISM Code requires that vessel operators obtain a safety management certificate for each vessel they operate. This certificate evidences compliance by a vessel’s management with the ISM Code requirements for a safety management system. No vessel can obtain a safety management certificate unless its manager has been awarded a document of compliance, issued by each flag state, under the ISM Code. We have obtained documents of compliance for our offices and safety management certificates for all of our vessels for which the certificates are required by the IMO. The document of compliance, or the DOC, and safety management certificate, or the SMC, are renewed as required.

Pollution Control and Liability Requirements

The IMO has negotiated international conventions that impose liability for pollution in international waters and the territorial waters of the signatory to such conventions. For example, the IMO adopted an International Convention for the Control and Management of Ships’ Ballast Water and Sediments in February 2004, or the BWM Convention. The BWM Convention’s implementing regulations call for a phased introduction of mandatory ballast water exchange requirements, to be replaced in time with mandatory concentration limits. The BWM Convention will not enter into force until 12 months after it has been adopted by 30 states, the combined merchant fleets of which represent not less than 35% of the gross tonnage of the world’s merchant shipping. The BWM Convention has not yet entered into force because a sufficient number of states have failed to adopt it. However, the IMO’s Marine Environment Protection Committee passed a resolution in March 2010 encouraging the ratification of the Convention and calling upon those countries that have already ratified to encourage the installation of ballast water management systems. If mid-ocean ballast exchange or ballast water treatment requirements become mandatory, the cost of compliance could be significant.

Although the United States is not a party, many countries have ratified the International Convention on Civil Liability for Oil Pollution Damage of 1969, as amended in 2000, or the CLC. Under this convention and depending on whether the country in which the damage results is a party to the 1992 Protocol to the CLC, a vessel’s registered owner is strictly liable for pollution damage caused in the territorial waters of a contracting state by discharge of persistent oil, subject to certain defenses and limitations. Vessels trading with states that are parties to these conventions must provide evidence of insurance covering the liability of the owner. In jurisdictions where the CLC has not been adopted, various legislative schemes or common law govern, and liability is imposed either on the basis of fault or in a manner similar to the CLC.

The IMO also has adopted the International Convention on Civil Liability for Bunker Oil Pollution Damage, or the Bunker Convention, which imposes strict liability on ship owners for pollution damage in jurisdictional waters of ratifying states caused by discharges of bunker fuel and requires registered owners of ships over 1,000 gross tons to maintain insurance for pollution damage in an amount equal to the limits of liability under the applicable national or international limitation regime.

Compliance Enforcement

Noncompliance with the ISM Code or other IMO regulations may subject the shipowner or bareboat charterer to increased liability, may lead to decreases in available insurance coverage for affected vessels and may result in the denial of access to, or detention in, some ports. The U.S. Coast Guard and European Union authorities have indicated that vessels not in compliance with the ISM Code by the applicable deadlines will be prohibited from trading in U.S. and European Union ports, respectively. As of the date of this report, each of our vessels is ISM Code certified. However, there can be no assurance that such certificates will be maintained in the future.

The IMO continues to review and introduce new regulations. It is impossible to predict what additional regulations, if any, may be passed by the IMO and what effect, if any, such regulations might have on our operations.

The U.S. Oil Pollution Act of 1990 and Comprehensive Environmental Response, Compensation and Liability Act

The U.S. Oil Pollution Act of 1990, or OPA, established an extensive regulatory and liability regime for the protection and cleanup of the environment from oil spills. OPA affects all owners and operators whose vessels trade in the United States, its territories and possessions or whose vessels operate in United States waters, which includes the United States’ territorial sea and its 200 nautical mile exclusive economic zone. The United States has also enacted the Comprehensive Environmental Response, Compensation and Liability Act, or CERCLA, which applies to the discharge of hazardous substances other than oil, whether on land or at sea. Both OPA and CERCLA impact our operations.

Under OPA, vessel owners, operators and bareboat charterers are responsible parties who are jointly, severally and strictly liable (unless the spill results solely from the act or omission of a third party, an act of God or an act of war) for all containment and clean-up costs and other damages arising from oil spills from their vessels. OPA limits the liability of responsible parties with respect to tankers over 3,000 gross tons to the greater of $2,000 per gross ton or $17,088,000 per double hull tanker, and with respect to non-tank vessels, the greater of $1,000 per gross ton or $854,400 for any non-tank vessel, respectively, and permits individual states to impose their own liability regimes with regard to oil

 

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pollution incidents occurring within their boundaries. CERCLA, which applies to owners and operators of vessels, contains a similar liability regime and provides for cleanup, removal and natural resource damages. Liability under CERCLA is limited to the greater of $300 per gross ton or $5.0 million for vessels carrying a hazardous substance as cargo and the greater of $300 per gross ton or $0.5 million for any other vessel.

These limits of liability do not apply, however, where the incident is caused by violation of applicable U.S. federal safety, construction or operating regulations, or by the responsible party’s gross negligence or willful misconduct. These limits also do not apply if the responsible party fails or refuses to report the incident or to cooperate and assist in connection with the substance removal activities. OPA and CERCLA each preserve the right to recover damages under existing law, including maritime tort law.

OPA also requires owners and operators of vessels to establish and maintain with the U.S. Coast Guard evidence of financial responsibility sufficient to meet the limit of their potential liability under OPA and CERCLA. Vessel owners and operators may satisfy their financial responsibility obligations by providing a proof of insurance, a surety bond, self-insurance or a guaranty. We have complied with the U.S. Coast Guard’s financial responsibility regulations by providing a certificate of responsibility evidencing sufficient self-insurance.

We currently maintain pollution liability coverage insurance in the amount of $625 million per incident for each of our vessels. If the damages from a catastrophic spill were to exceed our insurance coverage it could have an adverse effect on our business and results of operation.

OPA specifically permits U.S. coastal states to impose their own liability regimes with regard to oil pollution incidents occurring within their boundaries, and some states have enacted legislation providing for unlimited liability for oil spills. In some cases, states, which have enacted such legislation, have not yet issued implementing regulations defining vessels owners’ responsibilities under these laws. We intend to comply with all applicable state regulations in the ports where our vessels call. We believe that we are in substantial compliance with all applicable existing state requirements. In addition, we intend to comply with all future applicable state regulations in the ports where our vessels call.

Other Environmental Initiatives

The U.S. Clean Water Act, or CWA, prohibits the discharge of oil, hazardous substances or ballast water in U.S. navigable waters unless authorized by a duly-issued permit or exemption, and imposes strict liability in the form of penalties for any unauthorized discharges. The CWA also imposes substantial liability for the costs of removal, remediation and damages and complements the remedies available under OPA and CERCLA. In addition, most U.S. states that border a navigable waterway have enacted environmental pollution laws that impose strict liability on a person for removal costs and damages resulting from a discharge of oil or a release of a hazardous substance. These laws may be more stringent than U.S. federal law.

The United States Environmental Protection Agency, or EPA, has enacted rules requiring a permit regulating ballast water discharges and other discharges incidental to the normal operation of certain vessels within United States waters under the Vessel General Permit for Discharges Incidental to the Normal Operation of Vessels, or VGP. To be covered by the VGP, owners of certain vessels must submit a Notice of Intent, or NOI, at least 30 days before the vessel operates in United States waters. Compliance with the VGP could require the installation of equipment on our vessels to treat ballast water before it is discharged or the implementation of other disposal arrangements, and/or otherwise restrict our vessels from entering United States waters. In addition, certain states have enacted more stringent discharge standards as conditions to their required certification of the VGP. As part of a settlement of litigation challenging the VGP, EPA has recently agreed to propose a new VGP with numerical restrictions on ballast water organisms by November 2011. We have submitted NOIs for our vessels where required and do not believe that the costs associated with obtaining and complying with the VGP will have a material impact on our operations.

The U.S. Clean Air Act of 1970, as amended by the Clean Air Act Amendments of 1977 and 1990, or the CAA, requires the EPA to promulgate standards applicable to emissions of volatile organic compounds and other air contaminants. Our vessels are subject to vapor control and recovery requirements for certain cargoes when loading, unloading, ballasting, cleaning and conducting other operations in regulated port areas. Our vessels that operate in such port areas with restricted cargoes are equipped with vapor recovery systems that satisfy these requirements. The CAA also requires states to draft State Implementation Plans, or SIPs, designed to attain national health-based air quality standards in primarily major metropolitan and/or industrial areas. Several SIPs regulate emissions resulting from vessel loading and unloading operations by requiring the installation of vapor control equipment. As indicated above, our vessels operating in covered port areas are already equipped with vapor recovery systems that satisfy these existing requirements.

 

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European Union Regulations

The European Union has adopted legislation that would: (1) ban manifestly sub-standard vessels (defined as those over 15 years old that have been detained by port authorities at least twice in a six month period) from European waters and create an obligation of port states to inspect vessels posing a high risk to maritime safety or the marine environment; and (2) provide the European Union with greater authority and control over classification societies, including the ability to seek to suspend or revoke the authority of negligent societies.

In October 2009, the European Union amended a previously adopted directive to impose criminal sanctions for illicit ship-source discharges of polluting substances, including minor discharges, if committed with intent, recklessly or with serious negligence and the discharges individually or in the aggregate result in deterioration of the quality of water. Criminal liability for pollution may result in substantial penalties or fines and increased civil liability claims.

Greenhouse Gas Regulation

The IMO is evaluating mandatory measures to reduce greenhouse gas emissions from international shipping, which include market-based instruments and energy efficiency standards. The European Union has indicated that it intends to propose an expansion of the existing European Union emissions trading scheme to include emissions of greenhouse gases from marine vessel. In the United States, the EPA has issued a proposed finding that greenhouse gases endanger the public health and safety and has adopted regulations relating to the control of greenhouse gas emissions from certain mobile and large stationary sources. Although the EPA findings and regulations do not extend to vessels and vessel engines, EPA is separately considering a petition from the California Attorney General and environmental groups to regulate greenhouse gas emissions from ocean-going vessels under the CAA. In addition, climate change initiatives are being considered in the U.S. Congress. Any passage of climate control legislation or other regulatory initiatives by the IMO, EU, the U.S. or other countries where we operate, or any treaty adopted at the international level to succeed the Kyoto Protocol, that restrict emissions of greenhouse gases could require us to make significant financial expenditures that we cannot predict with certainty at this time.

Environmental and Other Regulations in the Offshore Drilling Industry

Our offshore drilling operations include activities that are subject to numerous international, federal, state and local laws and regulations, including the International Convention for the Prevention of Pollution from Ships, or MARPOL, the International Convention on Civil Liability for Oil Pollution Damage of 1969, generally referred to as CLC, the International Convention on Civil Liability for Bunker Oil Pollution Damage, or Bunker Convention, the U.S. Oil Pollution Act of 1990, or OPA, the Comprehensive Environmental Response, Compensation and Liability Act, or CERCLA, the U.S. Outer Continental Shelf Lands Act, and Brazil’s National Environmental Policy Law (6938/81), Environmental Crimes Law (9605/98) and Law 9966/2000 relating to pollution in Brazilian waters. These laws govern the discharge of materials into the environment or otherwise relate to environmental protection. In certain circumstances, these laws may impose strict liability, rendering the Company liable for environmental and natural resource damages without regard to negligence or fault on its part.

For example, the United Nations’ International Maritime Organization, or IMO, adopted MARPOL and Annex VI to MARPOL to regulate the discharge of harmful air emissions from ships, which include rigs and drillships. Rigs and drillships must comply with MARPOL limits on sulfur oxide and nitrogen oxide emissions, chlorofluorocarbons, and the discharge of other air pollutants, except that the MARPOL limits do not apply to emissions that are directly related to drilling, production, or processing activities.

Our drilling units are subject not only to MARPOL regulation of air emissions, but also to the Bunker Convention’s strict liability for pollution damage caused by discharges of bunker fuel in ratifying states. We believe that all of our drilling units are currently compliant in all material respects with these regulations. In October 2008, IMO’s Maritime Environment Protection Committee, or MEPC, adopted amendments to the Annex VI regulations which entered into force on July 1, 2010, that will require a progressive reduction of sulfur oxide levels in heavy bunker fuels and create more stringent nitrogen oxide emissions standards for marine engines in the future. The Company may incur costs to comply with these revised standards.

Furthermore, any drillships that we may operate in United States waters, including the U.S. territorial sea and the 200 nautical mile exclusive economic zone around the United States, would have to comply with OPA and CERCLA requirements that impose liability (unless the spill results solely from the act or omission of a third party, an act of God or an act of war) for all containment and clean-up costs and other damages arising from discharges of oil or other hazardous substances, other than discharges related to drilling.

The U.S. BOEMRE periodically issues guidelines for rig fitness requirements in the Gulf of Mexico and may take other steps that could increase the cost of operations or reduce the area of operations for the Company’s units, thus reducing their marketability. Implementation of BOEMRE guidelines or regulations may subject the Company to increased costs or limit the operational capabilities of its units and could materially and adversely affect the Company’s operations and financial condition.

 

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Numerous governmental agencies issue regulations to implement and enforce the laws of the applicable jurisdiction, which often involve lengthy permitting procedures, impose difficult and costly compliance measures, particularly in ecologically sensitive areas, and subject operators to substantial administrative, civil and criminal penalties or may result in injunctive relief for failure to comply. Some of these laws contain criminal sanctions in addition to civil penalties. Changes in environmental laws and regulations occur frequently, and any changes that result in more stringent and costly compliance or limit contract drilling opportunities, including changes in response to a serious marine incident that results in significant oil pollution or otherwise causes significant adverse environmental impact, such as the April 2010 Deepwater Horizon oil spill in the Gulf of Mexico, could adversely affect the Company’s financial results. While the Company believes that it is in substantial compliance with the current laws and regulations, there is no assurance that compliance can be maintained in the future.

In addition to the MARPOL, OPA, and CERCLA requirements described above, our international operations in the offshore drilling segment are subject to various laws and regulations in countries in which we operate, including laws and regulations relating to the importation of and operation of drilling units and equipment, currency conversions and repatriation, oil and gas exploration and development, environmental protection, taxation of offshore earnings and earnings of expatriate personnel, the use of local employees and suppliers by foreign contractors and duties on the importation and exportation of drilling units and other equipment. New environmental or safety laws and regulations could be enacted, which could adversely affect our ability to operate in certain jurisdictions. Governments in some countries have become increasingly active in regulating and controlling the ownership of concessions and companies holding concessions, the exploration for oil and gas and other aspects of the oil and gas industries in their countries. In some areas of the world, this governmental activity has adversely affected the amount of exploration and development work done by major oil and gas companies and may continue to do so. Operations in less developed countries can be subject to legal systems that are not as mature or predictable as those in more developed countries, which can lead to greater uncertainty in legal matters and proceedings.

Implementation of new environmental laws or regulations that may apply to ultra-deepwater drilling units may subject us to increased costs or limit the operational capabilities of our drilling units and could materially and adversely affect our operations and financial condition.

Vessel Security Regulations

Since the terrorist attacks of September 11, 2001, there have been a variety of initiatives intended to enhance vessel security. On November 25, 2002, the U.S. Maritime Transportation Security Act of 2002, or the MTSA came into effect. To implement certain portions of the MTSA, in July 2003, the U.S. Coast Guard issued regulations requiring the implementation of certain security requirements aboard vessels operating in waters subject to the jurisdiction of the United States. Similarly, in December 2002, amendments to SOLAS created a new chapter of the convention dealing specifically with maritime security. The new chapter became effective in July 2004 and imposes various detailed security obligations on vessels and port authorities, most of which are contained in the newly created International Ship and Port Facility Security Code, or the ISPS Code. The ISPS Code is designed to protect ports and international shipping against terrorism. After July 1, 2004, to trade internationally, a vessel must attain an International Ship Security Certificate from a recognized security organization approved by the vessel’s flag state. Among the various requirements are:

 

   

on-board installation of automatic identification systems to provide a means for the automatic transmission of safety-related information from among similarly equipped ships and shore stations, including information on a ship’s identity, position, course, speed and navigational status;

 

   

on-board installation of ship security alert systems, which do not sound on the vessel but only alert the authorities on shore;

 

   

the development of a ship security plan;

 

   

ship identification number to be permanently marked on a vessel’s hull;

 

   

a continuous synopsis record kept onboard showing a vessel’s history including the name of the ship and of the state whose flag the ship is entitled to fly, the date on which the ship was registered with that state, the ship’s identification number, the port at which the ship is registered and the name of the registered owner(s) and their registered address; and

 

   

compliance with flag state security certification requirements, which are reviewed every five years and are subject to intermediate verification every 2.5 years.

 

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The U.S. Coast Guard regulations, intended to align with international maritime security standards, exempt from MTSA vessel security measures non-U.S. vessels that have on board, as of July 1, 2004, a valid International Ship Security Certificate attesting to the vessel’s compliance with SOLAS security requirements and the ISPS Code. Our managers intend to implement the various security measures addressed by MTSA, SOLAS and the ISPS Code, and we intend that our fleet will comply with applicable security requirements. We have implemented the various security measures addressed by the MTSA, SOLAS and the ISPS Code.

Inspection by Classification Societies

Every oceangoing vessel must be “classed” by a classification society. The classification society certifies that the vessel is “in class,” signifying that the vessel has been built and maintained in accordance with the rules of the classification society and complies with applicable rules and regulations of the vessel’s country of registry and the international conventions of which that country is a member. In addition, where surveys are required by international conventions and corresponding laws and ordinances of a flag state, the classification society will undertake them on application or by official order, acting on behalf of the authorities concerned.

The classification society also undertakes on request other surveys and checks that are required by regulations and requirements of the flag state. These surveys are subject to agreements made in each individual case and/or to the regulations of the country concerned.

For maintenance of the class certification, regular and extraordinary surveys of hull, machinery, including the electrical plant, and any special equipment classed are required to be performed as follows:

Annual Surveys. For seagoing ships, annual surveys are conducted for the hull and the machinery, including the electrical plant and where applicable for special equipment classed, at intervals of 12 months from the date of commencement of the class period indicated in the certificate.

Intermediate Surveys. Extended annual surveys are referred to as intermediate surveys and typically are conducted two and one-half years after commissioning and each class renewal. Intermediate surveys may be carried out on the occasion of the second or third annual survey.

Class Renewal Surveys. Class renewal surveys, also known as special surveys, are carried out for the ship’s hull, machinery, including the electrical plant, and for any special equipment classed, at the intervals indicated by the character of classification for the hull. At the special survey the vessel is thoroughly examined, including audio-gauging to determine the thickness of the steel structures. Should the thickness be found to be less than class requirements, the classification society would prescribe steel renewals. The classification society may grant a one-year grace period for completion of the special survey. Substantial amounts of money may have to be spent for steel renewals to pass a special survey if the vessel experiences excessive wear and tear. In lieu of the special survey every four or five years, depending on whether a grace period was granted, a shipowner has the option of arranging with the classification society for the vessel’s hull or machinery to be on a continuous survey cycle, in which every part of the vessel would be surveyed within a five-year cycle. Upon a shipowner’s request, the surveys required for class renewal may be split according to an agreed schedule to extend over the entire period of class. This process is referred to as continuous class renewal.

All areas subject to survey as defined by the classification society are required to be surveyed at least once per class period, unless shorter intervals between surveys are prescribed elsewhere. The period between two subsequent surveys of each area must not exceed five years. Vessels under five years of age can waive drydocking in order to increase available days and decrease capital expenditures, provided the vessel is inspected underwater.

Most vessels are also drydocked every 30 to 36 months for inspection of the underwater parts and for repairs related to inspections. If any defects are found, the classification surveyor will issue a “recommendation” which must be rectified by the shipowner within prescribed time limits.

For Mobile Offshore Drilling Unit’s plans are submitted to the Classification Society for inspections in lieu of dry docking.

Most insurance underwriters make it a condition for insurance coverage that a vessel be certified as “in class” by a classification society which is a member of the International Association of Classification Societies. All our vessels are certified as being “in class” by all the major Classification Societies (e.g., American Bureau of Shipping, Lloyd’s Register of Shipping). All new and secondhand vessels that we purchase must be certified prior to their delivery under our standard purchase contracts and memorandum of agreement. If the vessel is not certified on the date of closing, we have no obligation to take delivery of the vessel.

Class Surveys — mobile offshore drilling units. Class renewal surveys, also known as special surveys or class work, are carried out for the unit’s hull, machinery, drilling equipment, and for any special equipment classed, at the intervals indicated by the character of classification, normally every five years. At the special survey the unit is thoroughly examined. The classification society may grant a grace period for completion of the entire or parts of the special survey. This normally not more than 3 months.

 

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Substantial amounts of money have to be spent for renewals and repairs to pass a special survey, as several spares and components have a defined lifetime of 5 to 15 years. This is accelerated if the unit experiences excessive wear and tear.

All areas subject to survey as defined by the classification society are required to be surveyed at least once per class period, unless shorter intervals between surveys are prescribed elsewhere. The period between two subsequent surveys of each area must not exceed five years.

Most insurance underwriters make it a condition for insurance coverage that a vessel be certified as “in class” by a classification society which is a member of the International Association of Classification Societies. Both our drilling rigs are certified as being “in class” by De Norske Veritas (DNV). The Leiv Eiriksson completed the 5-year class in 2006 and the Eirik Raude in 2007. The Leiv Eiriksson and the Eirik Raude are due for their next Special Periodic Survey in the first quarter of 2011 and 2012, respectively, while the Ocean Rig Corcovado, the Ocean Rig Olympia and our drillships under construction are due for their first Special Periodical Survey in 2016.

Risk of Loss and Liability Insurance

The operation of any vessel includes risks such as mechanical failure, hull damage, collision, property loss and business interruption due to political circumstances in foreign countries, hostilities and labor strikes. In addition, there is always an inherent possibility of marine disaster, including oil spills and other environmental incidents, and the liabilities arising from owning and operating vessels in international trade. OPA, which imposes virtually unlimited liability upon owners, operators and demise charterers of vessels trading in the United States exclusive economic zone for certain oil pollution accidents in the United States, has made liability insurance more expensive for shipowners and operators trading in the United States market.

We maintain hull and machinery insurance, war risks insurance, protection and indemnity cover, and freight, demurrage and defense cover for our fleet in amounts that we believe to be prudent to cover normal risks in our operations. However, we may not be able to achieve or maintain this level of coverage throughout a vessel’s useful life. Furthermore, while we believe that the insurance coverage that we will obtain is adequate, not all risks can be insured, and there can be no guarantee that any specific claim will be paid, or that we will always be able to obtain adequate insurance coverage at reasonable rates.

Hull & Machinery and War Risks Insurance

We maintain marine hull and machinery and war risks insurance, which includes the risk of actual or constructive total loss, for all of our vessels. Our vessels are each covered up to at least fair market value with deductibles of $100,000—$150,000 per vessel per incident. We also maintain increased value coverage for most of our vessels. Under this increased value coverage, in the event of total loss of a vessel, we will be able to recover the sum insured under the increased value policy in addition to the sum insured under the hull and machinery policy. Increased value insurance also covers excess liabilities which are not recoverable under our hull and machinery policy by reason of under insurance.

Protection and Indemnity Insurance

Protection and indemnity insurance is provided by mutual protection and indemnity associations, or P&I Associations, which insure liabilities to third parties in connection with our shipping activities. This includes third-party liability and other related expenses resulting from the injury or death of crew, passengers and other third parties, the loss or damage to cargo, claims arising from collisions with other vessels, damage to other third-party property, pollution arising from oil or other substances and salvage, towing and other related costs, including wreck removal. Our P&I coverage is subject to and in accordance with the rules of the P&I Association in which the vessel is entered. Protection and indemnity insurance is a form of mutual indemnity insurance, extended by protection and indemnity mutual associations, or “clubs.” Our coverage is limited to approximately $4.25 billion, except for pollution which is limited to $1 billion and passenger and crew which is limited to $3 billion.

Our current protection and indemnity insurance coverage for pollution is $1 billion per vessel per incident. The fourteen P&I Associations that comprise the International Group insure approximately 90% of the world’s commercial tonnage and have entered into a pooling agreement to reinsure each association’s liabilities. Each P&I Association has capped its exposure to this pooling agreement at $4.25 billion. As a member of a P&I Association which is a member of the International Group, we are subject to calls payable to the associations based on the group’s claim records as well as the claim records of all other members of the individual associations and members of the pool of P&I Associations comprising the International Group.

 

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Insurance for our Offshore Drilling Units

We maintain insurance for our drilling units in accordance with industry standards. Our insurance is intended to cover normal risks in our current operations, including insurance against property damage, loss of hire, war risk and third-party liability, including pollution liability. The insurance coverage is established according to the Norwegian Marine Insurance Plan of 1996, version 2010, which together with the London Drilling Standard Form Plan is the industry standard. We have obtained insurance for the full assessed market value of our drilling units, as assessed by rig brokers. Our insurance provides for premium adjustments based on claims and is subject to deductibles and aggregate recovery limits. In the case of pollution liabilities, our deductible is $10,000 per event and in the case of other hull and machinery claims, our deductible is $1.5 million per event. Our insurance coverage may not protect fully against losses resulting from a required cessation of drilling unit operations for environmental or other reasons. We also have loss of hire insurance which becomes effective after 45 days of off-hire and coverage extends for approximately one year. The principal risks which may not be insurable are various environmental liabilities and liabilities resulting from reservoir damage caused by our negligence. In addition, insurance may not be available to us at all or on terms acceptable to us, and there is no guarantee that even if we are insured, our policy will be adequate to cover our loss or liability in all cases. Following the delivery to us of our newbuilding drillships, we plan to maintain insurance for those drillships in accordance with the Norwegian Marine Insurance Plan of 1996, version 2010. This insurance would also be intended to cover normal risks in our current operations, including insurance against property damage, loss of hire, war risk, third-party liability, including pollution liability and loss of hire.

Permits and Authorizations

We are required by various governmental and quasi-governmental agencies to obtain certain permits, licenses and certificates with respect to our vessels. The kinds of permits, licenses and certificates required depend upon several factors, including the commodity transported, the waters in which the vessel operates, the nationality of the vessel’s crew and the age of a vessel. We have been able to obtain all permits, licenses and certificates currently required to permit our vessels to operate. Additional laws and regulations, environmental or otherwise, may be adopted which could limit our ability to do business or increase the cost of us doing business.

C. Organizational Structure

As of December 31, 2010, we own all of our drybulk vessels through our wholly-owned subsidiaries. We own our drilling units through our majority-owned subsidiary, Ocean Rig UDW. We currently own approximately 78% of the outstanding capital stock of Ocean Rig UDW. We own our two existing tanker vessels and the newbuilding contracts for the remaining ten tanker vessels through wholly-owned subsidiaries. Please see Exhibit 8.1 to this Annual Report for a list of our significant subsidiaries.

D. Property, Plant and Equipment

We do not own any real property. We lease office space in Athens, Greece from a son of George Economou. Through our subsidiaries, we lease office space in Nicosia, Cyprus; Stavanger, Norway; London, UK; Taccoradi, Ghana; and Accra, Ghana. Our interests in the drybulk vessels, drilling units and tankers under construction in our fleet are our only material properties. See “Our Fleet” in this section.

 

Item 4A. Unresolved Staff Comments

None.

 

Item 5. Operating and Financial Review and Prospects

A. Operating Results

The following management’s discussion and analysis of our financial condition and results of operations should be read in conjunction with our historical consolidated financial statements and accompanying notes included elsewhere in this report. This discussion contains forward-looking statements that reflect our current views with respect to future events and financial performance. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of certain factors, such as those set forth in the section entitled “Risk Factors” and elsewhere in this report.

 

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Our Drybulk Carrier Segment

Factors Affecting Our Results of Operations – Drybulk Carrier Segment

We charter our drybulk carriers to customers primarily pursuant to time charters. Under our time charters, the charterer typically pays us a fixed daily charter hire rate and bears all voyage expenses, including the cost of bunkers (fuel oil) and port and canal charges. We remain responsible for paying the chartered vessel’s operating expenses, including the cost of crewing, insuring, repairing and maintaining the vessel, the costs of spares and consumable stores, tonnage taxes and other miscellaneous expenses, and we also pay commissions to one or more unaffiliated ship brokers and to in-house brokers associated with the charterer for the arrangement of the relevant charter. The vessels in our fleet are primarily employed on long-term time charters. We also charter one of our vessels on bareboat charters. Under a bareboat charter, the vessel is chartered for a stipulated period of time which gives the charterer possession and control of the vessel, including the right to appoint the master and the crew. Under bareboat charters all voyage costs are paid by our customers.

We believe that the important measures for analyzing trends in the results of our operations consist of the following:

 

   

Calendar days. We define calendar days as the total number of days in a period during which each vessel in our fleet was in our possession including off-hire days associated with major repairs, drydockings or special or intermediate surveys. Calendar days are an indicator of the size of our fleet over a period and affect both the amount of revenues and the amount of expenses that we record during that period.

 

   

Voyage days. We define voyage days as the total number of days in a period during which each vessel in our fleet was in our possession net of off-hire days associated with major repairs, drydockings or special or intermediate surveys. The shipping industry uses voyage days (also referred to as available days) to measure the number of days in a period during which vessels actually generate revenues.

 

   

Fleet utilization. We calculate fleet utilization by dividing the number of our voyage days during a period by the number of our calendar days during that period. The shipping industry uses fleet utilization to measure a company’s efficiency in finding suitable employment for its vessels and minimizing the amount of days that its vessels are off-hire for reasons such as scheduled repairs, vessel upgrades, drydockings or special or intermediate surveys.

 

   

Spot charter rates. Spot charter rates are volatile and fluctuate on a seasonal and year to year basis. Fluctuations are caused by imbalances in the availability of cargoes for shipment and the number of vessels available at any given time to transport these cargoes.

 

   

TCE rates. We define TCE rates as our voyage and time charter revenues less voyage expenses during a period divided by the number of our available days during the period, which is consistent with industry standards. TCE rate, a non-U.S. GAAP measure, provides additional meaningful information in conjunction with revenues from our drybulk carriers, the most directly comparable U.S. GAAP measure, because it assists Company management in making decisions regarding the deployment and use of its vessels and in evaluating their financial performance. TCE rate is also a standard shipping industry performance measure used primarily to compare daily earnings generated by vessels on time charters with daily earnings generated by vessels on voyage charters, because charter hire rates for vessels on voyage charters are generally not expressed in per day amounts while charter hire rates for vessels on time charters generally are expressed in such amounts.

 

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The following table reflects our voyage days, calendar days, fleet utilization and TCE rates for our drybulk carrier segment for the periods indicated.

(Dollars in thousands except

Average number of vessels)

 

     Year Ended December 31,  
     2006     2007     2008     2009     2010  

Average number of vessels

     29.76        33.67        38.56        38.12        37.21   

Total voyage days for fleet

     10,606        12,130        13,896        13,660        13,372   

Total calendar days for fleet

     10,859        12,288        14,114        13,914        13,583   

Fleet Utilization

     97.70     98.71     98.45     98.17     98.45

Time charter equivalent

     21,918        45,417        58,155        30,425        32,184   

Voyage Revenues

Our voyage revenues are driven primarily by the number of vessels in our fleet, the number of voyage days during which our vessels generate revenues and the amount of daily charter hire that our vessels earn under charters, which, in turn, are affected by a number of factors, including our decisions relating to vessel acquisitions and disposals, the amount of time that we spend positioning our vessels, the amount of time that our vessels spend in drydock undergoing repairs, maintenance and upgrade work, the age, condition and specifications of our vessels, levels of supply and demand in the drybulk transportation market and other factors affecting spot market charter rates for drybulk carriers.

Vessels operating on period time charters provide more predictable cash flows, but can yield lower profit margins than vessels operating in the short-term, or spot, charter market during periods characterized by favorable market conditions. Vessels operating in the spot charter market generate revenues that are less predictable but may enable us to capture increased profit margins during periods of improvements in charter rates although we are exposed to the risk of declining charter rates, which may have a materially adverse impact on our financial performance. If we employ vessels on period time charters, future spot market rates may be higher or lower than the rates at which we have employed our vessels on period time charters.

In 2010, we had one of our vessels in the Baumarine pool, which remained in the pool until January 12, 2010. We are paid a percentage of revenues generated by the pool calculated in accordance with a “pool point formula,” which is determined by points awarded to each vessel based on the vessel’s age, dwt, speed, fuel consumption and certain other factors. For example, a younger vessel with higher carrying capacity and greater fuel efficiency would earn higher pool points than an older vessel with lower carrying capacity and lesser fuel efficiency. Revenues are paid every 15 days in arrears based on the points earned by each vessel.

Revenue from these pooling arrangements is accounted for on the accrual basis and is recognized when the collectability has been reasonably assured. Revenue from the pooling arrangements for the years ended December 31, 2008, 2009 and 2010 accounted for 6%, 1% and 0% of our voyage revenues, respectively.

Voyage Expenses and Voyage Expenses—Related Party

Voyage expenses and voyage expenses—related party primarily consists of commissions paid.

Vessel Operating Expenses

Vessel operating expenses include crew wages and related costs, the cost of insurance, expenses relating to repairs and maintenance, the costs of spares and consumable stores, tonnage taxes and other miscellaneous expenses. Our vessel operating expenses, which generally represent fixed costs, have historically increased as a result of the increase in the size of our fleet. Other factors beyond our control, some of which may affect the shipping industry in general, including, for instance, developments relating to market prices for insurance, may also cause these expenses to increase.

Depreciation

We depreciate our vessels on a straight-line basis over their estimated useful lives determined to be 25 years from the date of their initial delivery from the shipyard. Depreciation is based on cost less the estimated residual value.

 

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Management Fees – Related Party

Management Agreements

Prior to January 1, 2011, Cardiff, a company controlled by our Chairman and Chief Executive Officer, Mr. George Economou, served as our technical and commercial manager pursuant to separate management agreements with each of our drybulk vessel-owning subsidiaries. Effective January 1, 2011, we entered into new management agreements that replaced our management agreements with Cardiff, on the same terms as our management agreements with Cardiff, with TMS Bulkers, a related party, as a result of an internal restructuring of Cardiff for the purpose of enhancing its efficiency and the quality of its ship-management services.

TMS Bulkers is beneficially majority-owned by our Chairman and Chief Executive Officer, Mr. George Economou, and members of his immediate family. The remaining capital stock of TMS Bulkers is beneficially owned by Ms. Chryssoula Kandylidis, who serves on our board of directors. Mr. Economou, under the guidance of our board of directors, manages our business as a holding company, including our own administrative functions, and we monitor TMS Bulkers’s performance under the management agreements.

Under our management agreements with TMS Bulkers, TMS Bulkers is entitled to a fixed management fee of Euro 1,500 (or $2,000 based on the Euro/U.S. Dollar exchange rate at December 31, 2010) per vessel per day, payable in equal monthly installments in advance and automatically adjusted each year to the Greek Consumer Price Index for the previous year by not less than 3% and not more than 5%. If we request that TMS Bulkers supervise the construction of a newbuilding vessel then in lieu of the fixed management fee, we will pay TMS Bulkers an upfront fee equal to 10% of the budget for such vessel as approved by us. For any additional attendance above the budgeted superintendent expenses, the Company will be charged extra at a standard rate in Euro 500 ($700 based on the Euro/U.S. Dollar exchange rate as of December 31, 2010) per day.

In addition, TMS Bulkers is entitled to a commission of 1.25% of all monies earned by the vessel, which survives the termination of the management agreement until the termination of the charter agreement then in effect or the termination of any other employment arranged prior to such termination. TMS Bulkers also receives a sale and purchase commission of 1%. Under the management agreements, we may award TMS Bulkers an annual performance incentive fee.

From September 1, 2010 through January 1, 2011, Cardiff served as our technical and commercial manager pursuant to management agreements with the terms described above. Prior to September 1, 2010, we paid management fees to Cardiff that varied according to type of management service, including chartering, technical management, accounting and financial reporting services. Moreover, effective September 1, 2010, we terminated our agreement with Cardiff, according to which a quarterly fee of $250,000 was payable to Cardiff for services in relation to financial reporting requirements and monitoring of internal controls.

See “Item 7.B. Related Party Transactions—Agreements with Cardiff, TMS Bulkers and TMS Tankers—Management Agreements—Drybulk Vessels.”

Consultancy Agreement—Drybulk carrier, offshore drilling and tanker segments

On September 1, 2010, we entered into a consultancy agreement with Vivid Finance, a company controlled by our Chairman and Chief Executive Officer, Mr. George Economou, pursuant to which Vivid Finance provides consulting services relating to (i) the identification, sourcing, negotiation and arrangement of new loan and credit facilities, interest swap agreements, foreign currency contracts and forward exchange contracts; (ii) the raising of equity or debt in the public capital markets; and (iii) the renegotiation of existing loan facilities and other debt instruments. In consideration for these services, Vivid Finance is entitled to a fee of twenty basis points, or 0.20%, on the total transaction amount. The consultancy agreement has a term of five years and may be terminated (i) at the end of its term unless extended by mutual agreement of the parties; (ii) at any time by the mutual agreement of the parties; and (iii) by us after providing written notice to Vivid Finance at least 30 days prior to the actual termination date.

Pooling Arrangements

We currently operate our two existing tankers under pooling arrangements that are managed by Heidmar Inc., a related party. Our Chairman and Chief Executive Officer is the Chairman of the Board of Directors of Heidmar Inc. and Heidmar Inc. is 49% owned by a company related to Mr. Economou. Pursuant to the Sigma Tankers pool agreement for the vessel Saga, Heidmar Inc., as pool manager, is entitled to receive an agency fee of $387 per day for the vessel and a commission of 1.25% of the freight or charter hire earned by the vessel on contracts or charter parties entered into by the pool during the term of the agreement, which increases to 1.50% of the freight or charter hire in the event the pool consists of less than 20 vessels. Pursuant to the Blue Fin Tankers pool

 

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agreement for the vessel Vilamoura, Heidmar Inc., as pool manager, is entitled to receive an agency fee of $387 per day for the vessel and a commission of 1.25% of the freight or charter hire earned by the vessel on contracts or charter parties entered into by the pool during the term of the agreement. The agency fees and commissions are deducted from our pool earnings. See “Item 7.B Related Party Transactions – Pooling Arrangements.”

General and Administrative Expenses

Our general and administrative expenses mainly include executive compensation and the fees paid to Fabiana Services S.A. (“Fabiana”), a related party entity incorporated in the Marshall Islands. Fabiana provides the services relating to our Chief Executive Officer and is beneficially owned by our Chief Executive Officer.

Interest and Finance Costs

We have historically incurred interest expense and financing costs in connection with vessel-specific debt of our subsidiaries. We used a portion of the proceeds of our initial public offering in February 2005 to repay all of our then-outstanding debt. We used a portion of the proceeds from our controlled equity offering through Cantor Fitzgerald, as sales agent, in 2006, 2007 and 2008 as well as a portion of the proceeds from our at the market offering through Merrill Lynch & Co., as sales agent, in 2009. In addition, we used a portion of the proceeds from our Notes offering in April 2010 and our 2010 at-the-market offering through Deutsche Bank Securities Inc., as sales agent, to repay existing indebtedness. We have incurred financing costs and we also expect to incur interest expenses under our credit facilities and convertible notes facility in connection with debt incurred to finance future acquisitions. However, we intend to limit the amount of these expenses and costs by repaying our outstanding indebtedness from time to time with the net proceeds of future equity issuances.

Inflation – Drybulk Carrier, Offshore Drilling and Tanker Segments

Inflation has not had a material effect on our expenses given current economic conditions. In the event that significant global inflationary pressures appear, these pressures could increase our operating, voyage, administrative and financing costs.

Our Offshore Drilling Segment

Factors Affecting Our Results of Operations – Offshore Drilling Segment

We charter our drilling units to customers primarily pursuant to long-term drilling contracts. Under the drilling contracts, the customer typically pays us a fixed daily rate, depending on the activity and up-time of the drilling unit. The customer bears all fuel costs and logistics costs related to transport to and from the unit. We remain responsible for paying the unit’s operating expenses, including the cost of crewing, catering, insuring, repairing and maintaining the unit, the costs of spares and consumable stores and other miscellaneous expenses.

We believe that the most important measures for analyzing trends in the results of our operations consist of the following:

 

   

Employment Days – We define employment days as the total number of days the drilling units are employed on a drilling contract.

 

   

Dayrates or maximum dayrates. We define drilling dayrates as the maximum rate in U.S. dollars possible to earn for drilling services for one 24 hour day at 100% efficiency under the drilling contract. Such dayrate may be measured by quarter-hour, half-hour or hourly basis and may be reduced depending on the activity performed according to the drilling contract.

 

   

Earning efficiency / earning efficiency on hire. Earning efficiency measures the effective earnings ratio, expressed as a percentage of the full earnings rate, after reducing for certain operations paid at reduced rate, non-productive time at zero rate, or off hire without dayrates. Earning efficiency on hire measures the earning efficiency only for the period during which the drilling unit is on contract and does not include off-hire periods.

 

   

Mobilization / demobilization fees: In connection with drilling contracts, we may receive revenues for preparation and mobilization of equipment and personnel or for capital improvements to the drilling vessels, dayrate or fixed price mobilization and demobilization fees.

 

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Revenue: For each contract, we determine whether the contract, for accounting purposes, is a multiple element arrangement, meaning it contains both a lease element and a drilling services element, and, if so, identify all deliverables (elements). For each element we determine how and when to recognize revenue.

 

   

Term contracts: These are contracts pursuant to which we agree to operate the unit for a specified period of time. For these types of contracts, we determine whether the arrangement is a multiple element arrangement. For revenues derived from contracts that contain a lease, the lease elements are recognized as “Leasing revenues” in the statement of operations on a basis approximating straight line over the lease period. The drilling services element is recognized as “Service revenues” in the period in which the services are rendered at fair value rates. Revenues related to the drilling element of mobilization and direct incremental expenses of drilling services are deferred and recognized over the estimated duration of the drilling period.

 

   

Well contracts: These are contracts pursuant to which we agree to drill a certain number of wells. Revenue from dayrate based compensation for drilling operations is recognized in the period during which the services are rendered at the rates established in the contracts. All mobilization revenues, direct incremental expenses of mobilization and contributions from customers for capital improvements are initially deferred and recognized as revenues over the estimated duration of the drilling period.

Revenue from Drilling Contracts

Our drilling revenues are driven primarily by the number of drilling units in our fleet, the contractual dayrates and the utilization of the drilling units. This, in turn, is affected by a number of factors, including the amount of time that our drilling units spend on planned off-hire class work, unplanned off-hire maintenance and repair, off-hire upgrade and modification work, reduced dayrates due to reduced efficiency or non-productive time, the age, condition and specifications of our drilling units, levels of supply and demand in the rig market, the price of oil and other factors affecting the market dayrates for drilling units. Historically, industry participants have increased supply of drilling units in periods of high utilization and dayrates. This has resulted in an oversupply and caused a decline in utilization dayrates. Therefore, dayrates have historically been very cyclical.

Rig Operating Expenses

Rig operating expenses include crew wages and related costs, catering, the cost of insurance, expenses relating to repairs and maintenance, the costs of spares and consumable stores, shore based costs and other miscellaneous expenses. Our rig operating expenses, which generally represent fixed costs, have historically increased as a result of the business climate in the offshore drilling sector. Specifically, wages and vendor supplied spares, parts and services have experienced a significant price increase over the previous two to three years. Other factors beyond our control, some of which may affect the offshore drilling industry in general, including developments relating to market prices for insurance, may also cause these expenses to increase. In addition, these rig operating expenses are higher when operating in harsh environments, though an increase in expenses is typically offset by the higher dayrates we receive when operating in these conditions.

Depreciation

We depreciate our drilling units on a straight-line basis over their estimated useful lives. Specifically, we depreciate bare-decks over 30 years and other asset parts over five to 15 years. We expense the costs associated with a five-year periodic class work.

Management Fees to Related Party

Management Agreements

Until December 21, 2010, we, through our wholly-owned subsidiaries Drillship Hydra Owners Inc. and Drillship Paros Owners Inc., were party to, with respect to the Ocean Rig Corcovado and the Ocean Rig Olympia, separate management agreements with Cardiff, a company controlled by our Chairman and Chief Executive Officer, Mr. George Economou, pursuant to which Cardiff provided additional supervisory services in connection with these drillships including, among other things: (i) assisting in securing the required equity for the construction; (ii) negotiating, reviewing and proposing finance terms; (iii) assisting in marketing towards potential contractors; (iv) assisting in arranging, reviewing and supervising all aspects of building, equipment, financing, accounting, record keeping, compliance with laws and regulations; (v) assisting in procuring consultancy services from specialists; and (vi) assisting in finding prospective joint-venture partners and negotiating any such agreements. Pursuant to the management agreements, we paid Cardiff a management fee of $40,000 per month per drillship plus (i) a chartering commission of 1.25% on revenue earned; (ii) a commission of 1.0% on the shipyard payments or purchase price paid for drillships; (iii) a commission of 1.0% on loan financing; and (iv) a commission of 2.0% on insurance premiums. These management agreements were replaced by the Global Services Agreement discussed below.

 

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See “Item 7.B Related Party Transactions—Agreements with Cardiff, TMS Bulkers and TMS Tankers—Management Agreements – Drilling Units.”

Global Services Agreement

On December 1, 2010, we entered into the Global Services Agreement with Cardiff, a company controlled by our Chairman and Chief Executive Officer, Mr. George Economou, effective December 21, 2010, pursuant to which we have engaged Cardiff to act as consultant on matters of chartering and sale and purchase transactions for our offshore drilling units. Under the Global Services Agreement, Cardiff, or its subcontractor, will (i) provide consulting services related to identifying, sourcing, negotiating and arranging new employment for our offshore assets, including our drilling units; and (ii) identify, source, negotiate and arrange the sale or purchase of our offshore assets, including our drilling units. In consideration of such services, Cardiff is entitled to a fee of 1.0% in connection with employment arrangements and 0.75% in connection with sale and purchase activities.

Management Fees from Related Party

In April 2008, we entered into management agreements with Ocean Rig AS for the supervision of the construction of the Ocean Rig Poseidon and the Ocean Rig Mykonos, scheduled to be delivered to us in July 2011 and September 2011, respectively, In addition, the owning companies of the Ocean Rig Corcovado and the Ocean Rig Olympia, which we subsequently acquired in 2009, also entered into management agreements with Ocean Rig AS for the supervision of the construction of the two drillships on the same terms as the management agreements for the Ocean Rig Poseidon and the Ocean Rig Mykonos.

Under the terms of the management agreements, Ocean Rig AS, is among other things, responsible for (i) assisting in technical negotiations of construction contracts, (ii) securing contracts for the future employment the drillships, and (iii) providing commercial, technical and operational management for the drillships. Ocean Rig AS is entitled to fees of: (i) $250 per day until steel cutting; (ii) $2,500 per day from the date of steel cutting until the date of delivery of the applicable drillship to its owner; and (iii) $8,000 per day thereafter. The management fees are subject to an increase based on the U.S. Consumer Price Index for the preceding 12 months. Ocean Rig AS is also entitled to a commission fee equal to 0.75% of gross hire and charter hire for contracts or charter parties entered into during the term of the management agreement, payable on the date that the gross or charter hire money is collected. The agreements terminate on December 31, 2020, unless earlier terminated by Ocean Rig AS for non-payment within fifteen working days of request.

Gene