哈里伯頓 (HAL) 2011 Q3 法說會逐字稿

Good day, ladies and gentlemen and welcome to the Halliburton third-quarter 2011 earnings call. At this time, all lines are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. (Operator Instructions). As a reminder, this conference is being recorded. I would now like to turn the conference over to your host today, Kelly Youngblood, Senior Director, Investor Relations. Please begin.

Good morning and welcome to the Halliburton third-quarter 2011 conference call. Today's call is being webcast and a replay will be available from Halliburton's website for seven days. The press release announcing the third-quarter results is available on the Halliburton website.

Joining me today are Dave Lesar, CEO; Mark McCollum, CFO; and Tim Probert, President, Strategy and Corporate Development.

I would like to remind our audience that some of today's comments may include forward-looking statements reflecting Halliburton's views about future events and their potential impact on performance. These matters involve risks and uncertainties that could impact operations and financial results and cause our actual results to differ from our forward-looking statements. These risks are discussed in Halliburton's Form 10-K for the year ended December 31, 2010, Form 10-Q for the quarter ended June 30, 2011 and recent current reports on Form 8-K.

Our comments include non-GAAP financial measures. Reconciliation to the most directly comparable GAAP financial measures is included in the press release announcing the third-quarter results, which, as I mentioned, can be found on our website. We will welcome questions after we complete our prepared remarks. Dave?

Thank you, Kelly and good morning to everyone. I am very pleased with the overall performance of our business in the third quarter. Total revenues of $6.5 billion and operating income of $1.3 billion are both Company records, representing sequential growth of 10% and 15%, respectively.

We achieved record revenue levels in our North America, Latin America and Middle East/Asia regions. In North America, revenue and operating income grew sequentially by 13% and 14%, respectively, compared to a US rig count growth of only 6% and we exceeded $1 billion in operating income for the first time ever.

Our international revenue and operating income grew 7% and 23%, respectively, compared to a rig count growth of 2%, driven by a 17% revenue growth in Latin America and more modest growth in the Eastern Hemisphere.

Let me talk about North America in a little more detail. Strong activity in the Bakken, Eagle Ford and Permian Basin drove the sequential growth for the quarter, along with the seasonal recovery from the Canadian spring break-up. Sequential incremental operating margin for the third quarter was 32%, which was lower than the elevated level we saw in the second quarter.

The second quarter was favorably impacted by the typical spring seasonal rebound, as well as very high level of Gulf of Mexico incrementals. Incremental operating margins in the third quarter were negatively influenced by cost increases for materials, logistics and labor. Incremental margins were also negatively impacted by weather stoppages in the Marcellus due to flooding in Pennsylvania and by water shortages in the Mid-Continent due to drought restrictions.

We anticipate continued inflation on various cost items like labor, freight, chemicals and proppants, which we plan to offset through targeted pricing improvements. Historically, the pricing offset of these costs may not be realized in every case and can sometimes have a one to two-month lag before cost increases can be fully recovered.

Leveraging our market position, serving the customers we cannot get to at this time and the provision of integrated services offerings to customers will be the primary drivers of revenue growth going forward. We also continue to work on efficiency gains and cost structure improvements as outlined in our Analyst Day in November 2010. We are making good progress on the implementation of our Frac of the Future, for example and since January, we have seen a 10% reduction in our average crew size.

So while gas drilling remained basically flat from the second quarter, we continue to believe that there is a risk of decreased gas-directed activity. Gas demand for power generation increased this year due to the substitution of natural gas for coal and the harsh summer temperatures we experienced in various regions in the US.

However, if this demand were to moderate next year, we would expect that the gas rig count could as well. We anticipate that if there is a decline, at least a portion of the rigs would be redeployed to the liquids-rich plays. We have already seen this to a degree as rigs have left the Haynesville for other liquids basins. Such shifts can impact our efficiency and financial performance.

In the Gulf of Mexico, we are pleased to see a higher level of permit approval in recent months and we believe more deepwater rigs will be arriving in the Gulf over the next few quarters. While this is a positive trend, we remain cautiously optimistic as we need to see a sustained higher level of permit applications and approvals to get us back to pre-Macondo activity levels.

We believe that our customers now have a better understanding of how the permitting requirements work and this should help expedite the process moving forward.

As activity increases, we believe we will continue to benefit as our share of new deepwater work awards under rigs that are deploying to the Gulf is approaching 40%. This is higher than our typical historical marketshare.

Now let's look at some of our international results. Latin America had a record revenue quarter and posted excellent sequential revenue and operating income growth of 17% and 69%, respectively, compared to a rig count growth of just 5%.

Increases in deepwater activity in Brazil, higher drilling activity and software sales in Colombia and higher consulting and software sales in Mexico were the primary drivers of the strong sequential results. Compared to the third quarter of 2010, these three countries grew significantly with Brazil registering revenue growth approaching 50%.

Operationally, the Eastern Hemisphere also improved, but to a lesser degree. The rig count was flat from the second quarter, but we still achieved modest revenue growth. Last quarter, we discussed five specific markets that negatively impacted our margins. We still believe the future potential in these markets is well worth any short-term profit impact.

Let me give you a quick update on each of these markets. Iraq continues to weigh on our near-term results, but I am pleased to say that we started operating three rigs near the end of the quarter and expect to be at six rigs by year-end. We anticipate that we will return to profitability in Iraq in 2012 as activity increases, but we will continue to incur mobilization costs in Q4. We remain enthusiastic about the future potential of our Iraq operations and despite current challenges believe it will be one of the fastest-growing countries in our operations going forward.

The conflict in Libya appears to be winding down, but we continue to lose a significant amount of money each month maintaining our local workforce and infrastructure. We have sent staff in the country to work with our local team to survey facilities and equipment and we have already completed a cement job in the past several weeks. I am happy to report that most of our facilities did not experience any significant damage and we anticipate being operational over the next few quarters. This will obviously depend on how quickly our customers get reestablished and resume work. Restoring our operations in Libya, however, will require us to incur some recovery costs as activity resumes.

In Sub-Saharan Africa, we saw improvements in Angola, Congo and Nigeria while startup costs continued to negatively impact operating margins in Tanzania, Uganda and Mozambique. As mentioned last quarter, we continue to take action to improve the profitability of our UK North Sea. As part of this effort, we incurred some additional restructuring costs in our UK operations this quarter by impairing an asset we are now holding for sale. We expect that these restructuring costs will continue in the fourth quarter, but will be completed by the end of the year.

And lastly, in Algeria, it appears that the administrative challenges that impacted the industry in the second quarter are slowly showing signs of improvement. Despite a decline in rig count from the second quarter, our revenue and profitability improved sequentially.

So our outlook for the international operations remain unchanged. We expect to see a gradual near-term margin progression as new project activities continue to ramp up, we introduce new technologies and the negative impact of these five areas begins to abate.

While we have seen pockets of price improvement, international pricing as a whole remains pressured in several key markets where our competitors continue to be quite aggressive in their bidding. With the continuing competitive environment, we do not expect any significant improvement in pricing this year. However, our margins should continue to gradually improve.

Now I will briefly comment on the recent volatility in the equity and commodity markets. While this, of course, has been very unsettling to investors, it has not yet translated into any meaningful changes in customer behavior. We are monitoring our customers' capital spending plans closely and while they do not cause us any concern at this point, we will respond appropriately to any changes we see. Despite the current uncertainty, these short-term macroeconomic issues have not dampened our enthusiasm for the long-term prospects of our business.

In North America, despite the fact that oil and liquids-rich plays have very robust economics, it is likely that some E&Ps who have been outspending their cash flows could reduce their capital spending, especially among those private operators. If this occurs, the industry could see a moderation of growth or even a decrease in rig count. We do not, however, expect to see a dramatic decline like the levels seen in the 2008 downturn. In fact, I believe it is a big mistake to make any direct comparison between recent market events and the 2008 cycle as there are several significant differences.

First, North America is now a two-commodity market for the first time in well over a decade. During the last few cycles, natural gas was the sole driver of activity. Oil and gas have fundamentally different drivers and today, our customers have developed balanced portfolios that allows them to shift activity as needed.

Second, our customers appear to have broad access to the capital markets with record low interest rates. In the previous cycle, constrained capital halted investment, which in turn caused the abrupt reduction in activity levels.

Third is Halliburton's customer mix in North America. We have aligned ourselves with the larger customers who have more stable activity levels and are not as vulnerable to short-term fluctuations in commodity prices. We believe that this strategy will help temper any impact of a potential slowdown to our business. This is partly driven by the reemergence of the IOCs and NOCs into the US land market.

Fourth, contract structures in North America now look more and more like those of the international markets. Today, the majority of our equipment and services are tied to long-term utilization-based contracts where, in the past, the majority of our work was performed through pricing agreements without volume commitments. The majority of our frac crews, for instance, are contracted with minimum volume or efficiency commitments through the duration of the contract and virtually all of our new fleets are deployed with similar contracts. We are currently engaged in discussions with some customers about a new type of contract that gives them more flexibility, but assures us of a contracted volume of work and efficiency level.

And finally, looking at pressure pumping specifically, there is still a large undersupply of capacity in the market today due to the continued increase in rig count that is weighted more toward the service-intensive oil-directed activity.

All of these factors provide me with continued confidence in the resiliency of the North American market. However, if activity were to decline, one significant advantage we have over most of our competitors is that we build our own equipment and therefore control its flow into the marketplace. If we see the market tightening to any great extent, we would look at immediately curtailing our build program.

We also can't forget about the rapidly growing interest and business opportunities in the development of unconventional resources in the international markets. In contrast to North America, international unconventional resources are highly undercapitalized from an equipment standpoint and we can accelerate and transfer equipment to these international markets. We believe that Halliburton will meaningfully benefit from the emergence of these resources going forward and Tim will talk about them in a few minutes.

The fundamentals of our industry remain very strong. Despite challenges in various economies around the world, the IEA and others who forecast energy demand, have only been modestly impacted. Even with relatively high commodity prices over the past few years leading to increased capital spending, the industry has not invested sufficiently to impact spare production capacity. This suggests that the industry may struggle to keep pace with demand growth in an environment where development with new resources continues to grow more technically complex.

Our confidence in the near and long-term future of our business is reflected in our increasing headcount and the number of jobs that we have created in 2011. We are on track to hire 17,000 people into our organization in 2011. About 12,000 of these jobs will be in the United States. In addition to the people already hired, we currently have 5,000 job openings in the US. The fact that we are continuing to hire should be an indication to you of our positive view of the continuation of this cycle.

So whether we will experience another major global recession has yet to be seen, but I am confident that regardless of the market environment, we are very well-positioned to outperform our competition in growth and returns just as we did through the last cycle. As always, we will remain focused on delivering superior quality service and bringing technologies to our customers to enable both us and them to achieve their financial goals. Let me turn it over to Mark now.

Thanks, Dave and good morning, everyone. Let me provide you with our third-quarter financial highlights. Revenue and operating income grew 10% and 15%, respectively, from the second quarter. Our results in the third quarter included an impairment charge of $25 million on an asset we are holding for sale as a part of our continuing efforts to rightsize our business in the UK sector of the North Sea. As a reminder, our second-quarter results included a charge of approximately $11 million in employee separation costs, which is primarily related to our Europe/Africa/CIS region.

I will be comparing our third-quarter results sequentially to the second quarter, excluding both the third-quarter asset impairment charge and the second-quarter employee separation costs. North America revenue and operating income grew 13% and 14%, respectively, well exceeding the US rig count increase as we continue to benefit from higher activity levels from capacity additions, increases in service intensity and rig additions, particularly in the oil and liquids-rich basins.

We also saw the usual rebound in this quarter from Canada coming out of their seasonal spring break-up. As Dave mentioned, we continue to expect targeted price increases to help offset cost inflation. As in prior years, we expect to see a moderation of our US land results in the fourth quarter due to the holidays and lower efficiency levels experienced in the winter months, particularly across the Rockies and northern US. And as a reminder, the third quarter has historically been our strongest quarter of the year, so it is typical to see a slight sequential revenue and margin decline in the fourth quarter.

For international operations, our outlook is unchanged. We believe that margins will continue to slowly improve from the third-quarter levels due to gradual increases in activity. But while we have seen pockets of price increases, we are not anticipating any material upside in international pricing near term given recent competitor behavior and the overall negative market sentiment. We expect the usual sequential improvement in the fourth quarter driven by landmark software sales, increased completion tool deliveries and direct sales of wireline and other equipment.

Typically, international revenues and margins have increased by low single digits from the third to the fourth quarter related to these year-end activities. Similarly, we would then expect to see a sequential decline in international revenues and margins in the first quarter of 2012 as these activities subside coupled with weather-related seasonality.

In terms of the segment results, Completion and Production revenue increased $407 million, or 11%, while operating income grew by 18%. The sequential incremental operating margin for the division was 42%, primarily driven by higher activity in both North America and Latin America.

Looking at Completion and Production on a geographic basis, North America revenue increased by 14% while operating income grew by 16%, due primarily to higher activity, especially in oil and liquids-rich basins. Canada's return from the seasonal spring break-up also contributed to the growth. In Latin America, Completion and Production revenue increased 11% while operating income grew 48% primarily due to higher activity levels in cementing and completion tool sales in Brazil and overall improved activity in Argentina and Trinidad, partially offset by lower pressure pumping activity in Mexico due to contract mobilization cost and vessel drydock repairs.

In Europe/Africa/CIS, Completion and Production revenue increased 4% and operating income doubled as we saw activity increase in our Boots & Coots productline in Norway, Algeria, and Azerbaijan while production enhancement saw increased activity in Angola and Algeria. These increases were partially offset by lower completion dual sales in the North Sea and the shutdown in Libya.

In the Middle East-Asia region, Completion and Production revenue was flat sequentially while profit grew by 4% as increases in activity in Indonesia, Malaysia and the United Arab Emirates was partially offset by declines in Oman, Kuwait, Qatar and China.

In our Drilling and Evaluation division, revenue and operating income increased by 9% and 12%, respectively, led by activity increases in North America and Latin America. In North America, Drilling and Evaluation revenue increased 8% and operating income improved by 3% as a result of Canada coming out of spring break-up and strong directional drilling activity in the Gulf of Mexico. Incremental margins were negatively impacted by the mix of business and some earnings variability associated with some oil and gas properties we are invested in.

Drilling and Evaluation's Latin America revenue and operating income increased 21% and 81%, respectively, due to higher drilling and fluid services and software sales in Mexico and Colombia, along with increased testing in sub-sea activity in Brazil.

In the Europe/Africa/CIS region, Drilling and Evaluation revenue was flat and operating income decreased by 11% due to reduced directional drilling activity in both the North Sea and Egypt, which was partially offset by increased drilling activity in Eurasia, Angola and Nigeria.

Drilling and Evaluation's Middle East-Asia revenue was up 9% while operating income declined 2% as the project delays in Iraq offset improvements from increased activity in Malaysia, improved results on the Ghawar project in Saudi Arabia and some direct sales to China.

Now let me address some additional financial items. Our corporate and other expense ran higher than we have historically experienced. We incurred some additional costs this quarter for legal and some environmental matters. Additionally, we spent about $18 million for continued investment in our initiative to reinvent our service delivery platform in North America and to reposition our supply chain, manufacturing and technology infrastructure to better support our projected international growth. These activities will continue through the fourth quarter and into 2012 and we currently expect the impact of these investments to be about $0.02 per share in the fourth quarter.

In addition, we recorded a $163 million charge in discontinued operations related to an indemnity provided as a part of our separation from KBR for work performed by KBR on the Barracuda Caratinga project. We are pursuing all possible avenues to appeal the ruling, but, at this point, we reserved the full amount awarded by the arbitration panel.

The effective tax rate for the third quarter came in just below 33%, which was in line with our guidance. For the fourth quarter, we are projecting that our effective tax rate will be approximately 33%.

We will be presenting our 2012 capital expenditure plan to the Board at the end of the year and therefore, we will be waiting to provide guidance on next year's capital plan until our fourth-quarter call. As Dave said earlier, depending on market demand, we can adjust our capital expenditures as needed. Tim?

Well, thanks, Mark and good morning, everyone. As Dave mentioned, we continue to be bullish on the development of unconventional resources outside North America. We have reported previously on exploration and appraisal activities, but the pace of transfer of our technology and capabilities from North America is now more aggressively underway. For example, we have just completed the first multistage horizontal shale well for Apache in Argentina. Ongoing unconventional operations are also underway in Poland, Australia, New Mexico and Saudi. We are in the process of mobilizing horsepower to our Europe/Africa/CIS, Middle East-Asia and Latin America regions in support of these developments.

Dave also commented on the outstanding growth in Brazil in the third quarter. This underscores our evolving strength in the deepwater segment. With 51 new deepwater rigs scheduled to arrive between now and the end of 2013, we have continued to build infrastructure to support recent wins, not just in the Golden Triangle, but in emerging frontier markets with four new bases supporting deepwater in East and West Africa, Tanzania, Mozambique, Ivory Coast and Ghana scheduled for completion in the coming quarters.

We have also spoken to you about our mature asset strategy and our focus on growth and technology positioning in this segment. The recently closed acquisition of Multi-Chem, a leading provider of oilfield production and completion chemicals, is a key step forward in this effort. Multi-Chem has experienced tremendous growth over the last decade and we are excited to have them as part of the team.

As the reservoirs we work in become more complex and improved recovery factors are a stronger focus, a comprehensive approach to production optimization will help us deliver improved well productivity to our customers. Dave?

Thanks, Tim. Just a quick summary then. Despite the turmoil in the equity markets, we continue to have confidence in our North America business and there are key differences in both the market and our business compared to prior cycles.

Two, pricing in international markets remains competitive, but we expect that our results will continue to show gradual improvement as a result of volume increases. And three, we remain focused on the high-growth markets of deepwater, unconventionals and mature assets to enable continued delivery of strong financial results. So with that, let's open it up for questions.

(Operator Instructions). Brad Handler, Credit Suisse.

Thanks, good morning, all. Could you please speak to -- I guess let's -- maybe let's just stick with the quarter in terms of my questioning. Just speak a little bit more to the North American Drilling and Evaluation results if you would. You mentioned mix and a little bit of variability in your oil and gas properties, but maybe you can help us quantify kind of the impact in the Gulf of Mexico. I'm just trying to get a sense for that operating income result and then try to bleed through for what it may or may not mean for the fourth quarter.

Okay, Brad, this is Mark. I think we are going to not probably get too granular on it, but I think if you think in terms of the Gulf of Mexico, obviously, we had very strong incrementals in the second quarter from the Gulf of Mexico driven by sort of a return or a large surge in activity between Q1 and Q2. Between Q2 and Q3, not as many rigs came on the market. The margins already there are fairly strong and so the incrementals weren't quite as large. But from Drilling and Evaluation's results from the Gulf of Mexico, they are actually quite good.

We talked about the variability of earnings from some of the oil and gas properties. That was a big factor in the quarter. We do make investments with certain strategic customers and certain strategic properties in a way to not only learn the reservoirs, but also test new technologies and techniques and there is some cost associated with that.

If you pulled that out of the numbers, D&E's margins would have been double-digit in the quarter. The incrementals wouldn't have been -- the incrementals would've been double-digit. They wouldn't have been as high as C&P's incrementals, but they would have been quite nice. Hopefully that helps you.

Yes, that -- no, that does help. Maybe -- as far as a follow-up, maybe I will just stick with the notion of the third-quarter impacts and I'll let people pursue the future. But could you just give us a feel for -- I was just a little surprised at some of the commentary about, for example, Libya being an incrementally worse impact. And perhaps Iraq things got incrementally worse as well. Could you go through the problem countries on the quarter and just suggest -- a couple of the Sub-Saharan countries looked like they got better -- but if you could just identify for us sort of where was there sequential decline still in the Eastern Hemisphere in the third quarter and a little bit of the drivers behind that.

I think looking at -- I don't believe that we -- if you took away that we were saying that Libya was incrementally worse or any of these other markets were incrementally worse, I wouldn't necessarily say that. Probably the one that might have been a little bit deeper was Iraq and that is only because, with the rigs coming in, there was more cost as we mobilized for that activity startup this quarter. But otherwise, I think we are making progress in each of those markets. Algeria was better, Sub-Saharan Africa was better. Libya was no worse and I think even the UK sector of the North Sea was kind of in line with where it was in the previous quarter.

Okay.

Okay. And we'd like to remind our audience to limit themselves to one question and one follow-up to accommodate as many callers as possible. Thank you.

Bill Herbert, Simmons & Co.

Thanks, good morning. Mark, a question for you here with regard to -- what I am trying to understand here is there was quite a few moving parts with regard to Marcellus and Mid-Con water shortages, etc. I am trying to get to sort of an understanding of normalized North American incrementals. Dave touched on some of the constraints -- not necessarily constraints on a structural basis, but timing issues with regard to passing through cost inflation items, chemical, fuel, proppants, etc. How should we think about normalized incrementals going forward? Had been thinking about those in the 40% to 45% range with regard to your volumetric incrementals, plus some ability to capture net pricing. Is that still the way to think about it going forward?

Well, I don't want to provide too much guidance on this one. I think that your averages on incrementals seems high. The way that I would normally think about it is, when you have capacity additions, those capacity additions come in at the variable margin, which essentially approximates what our gross margin would be, which is probably in the high 30%'s. But as Dave indicated, we always have, working against that, delays in the ability to pass through some incremental cost related to increases in chemicals and proppants and other things, which this quarter alone probably increased in the high single digits, as well as labor.

So we are constantly working against that. And of course, the other factor, which I think you're beginning to see, with the significant increase that we have seen in 24-hour operations across the US and being essentially sold out and fully utilized, anytime you have any delay whatsoever, whether it is weather-related or the availability of water or a customer delay because their schedule changes a little bit, it has an incrementally negative impact on the margins. And I think that is what you are seeing experienced.

We are certainly still being able to get price increases to cover cost inflation and our equipment rolling out is going out at higher pricing than -- as we recontract new equipment, it is just not the ability to drive significant net pricing increases. It is probably more muted today than it has been.

Understood. That is very fair. Thank you. And then, Dave, with regard to international pricing, I must say you have been consistent, probably more consistent than any of your peers, from day one with regard to how international has unfolded and consistent with regard to your prognosis of pricing and you continue to express that international pricing remains very competitive. Can you amplify on that, where is it competitive, is it predominately deepwater and what is the prognosis for anything on the improvement front?

Well, I think we have been, and I would say very pragmatic about where international pricing is. We live in that world every day, so I see the tender results and we have tried to call it like we see it. I would say that the way to think about international pricing, if it is deepwater or if it is a big project or if it's a multiple year project, that it is very, very competitive today. And so I think as opposed to look across the world geographically, I think if it falls into one of those buckets, it is going to be very sought after and very competitively bid.

So I think that as more projects start, and there are a lot of projects on the drawing board that are moving toward being sanctioned, that will absorb some of the capacity that is out there. I think that the pressure to bring margins internationally up instead of being applied by the management so the various service companies will start to create a bias toward higher pricing and I think just the general overall more positive economic outlook will get people feeling better about their businesses.

So at this point in time, like I said, it is still very competitive out there and I expect that folks' margins, albeit moving up, will move up relatively slowly.

Thanks very much.

Ole Slorer, Morgan Stanley.

Thank you very much. I wonder whether you could give us some color on what is likely to move the needle for you if we look at the Middle East-Asia region on one hand or Europe, West Africa, North Africa on the other hand. I mean how big of a deal is, let's say, the drag of Iraq and what is going on in North Africa? Is the key thing to get these things behind us before we can see a similar kind of progress to what you are now making in Latin America or is it the best -- is companies like BP becoming more active again and pulling volume through? Or how should we think about kind of the big factors that will impact your margins in those two regions?

Well, let me address the Middle East. I think there are a couple of things. The first thing I would say is that we obviously have been talking about activity increases in the Middle East, particularly in Saudi, for some time. So the announcement has been made for some time, but the reality is is that turning that into activity is only just now starting. So for example, here at the end of the quarter, [underneath] we are running on two rigs and we won't be up until full strength probably until the end of the first quarter, beginning of the second quarter next year. So I think just sort of thinking about the timing of some of these events is helpful and we certainly see some activity increases coming, which we like -- we feel very positively about.

With respect to Iraq, it certainly has weighed heavily on our results. Great potential. I don't think anyone disputes that fact, Ole, but the fact of the matter is there are challenges and have been challenges in terms of getting things up and running on a timely basis for a variety of reasons.

At the end of the quarter, we were operating on three rigs. We expect to be operating on six rigs by the end of the year, at the end of the fourth quarter and we will see more activity in 2012. So it is really a question of timing and just, as I think was mentioned earlier, we have always been fairly pragmatic about it, but we do see these changes being very positive for us as we move into 2012.

So on the Middle East, you are seeing big volume increases in areas like Saudi and Iraq, (inaudible), but not yet at least, starting to happen though. But I am sensing from some of your competitors, let's say, that some of the work that they bid in Iraq was bid at a very tough time on the international cycle and that you sort of need to -- to what extent does the industry need to work through contracts at this time at the bad point in the cycle before you can see a real improvement in margin?

So Ole, are you -- I'm sorry -- just to sort of make sure I am responsive to your question, are you saying that you are asking the question around the timing of the bidding process and what it means in terms of (multiple speakers)?

Yes, I'm asking whether there is a backlog of work that needs to exit the portfolio before margins can move meaningfully higher or whether it is simply just getting going.

I think it is a combination of both in Iraq to be honest with you. I think clearly there were some aggressive bids in place to get up and running, get established and to really get a better understanding of costs and how efficiencies can be driven in Iraq. And clearly, I think we are all learning how to do that in Iraq. So I think there is scope for margin improvement both in terms of the existing portfolio of contracts and also obviously with the increased training of Iraqis, the lowering of overall cost infrastructure, the ability to generate improved margins arguably at a slightly lower price on contracts in the future.

Let me also remind folks, the nature of some of the contracts that we were awarded had a fairly high component of infrastructure investment that we were responsible for, as well as drilling because they were greenfield projects. Those are pass-through revenues for us, which we have to record on a gross basis, record the revenues and the cost. And essentially our margin in the deal relates to our management of the process, which is a lower margin. But it is a very, very high return because we are not having to make the investment itself in the capital equipment. And so while it reflects a lower margin for the project itself as these projects move on, they have a very, very high return component and as particularly we move into our product service line of work that we will provide, that those are bid at normalized or close to normalized margins, which are very good returns for us.

And on the Europe and North Africa, or northwest Africa, what is the key there to getting margins up?

I think we have talked about the UK sector of the North Sea at some length. Not going to belabor that particular point. I think as we all know, and particularly in West Africa, activity levels have been a little slow to return to Angola as it relates to rig count. That is coming up nicely. I think as we referred to in the call here, we are installing four new bases, which we have been incurring costs in over the course of the last quarter or so to support deepwater operations. The work that we won in both West and eastern Africa, that is stuff that really moves the needle for us. And of course, notwithstanding all that, we will see some stabilization, we are confident in Libya over the course of the next two quarters.

Security is still pretty rough in the West, but as things stabilize, we clearly have almost like a Gulf of Mexico type opportunity there because we are still incurring a significant cost. We have nothing to leverage that against at this point, but when we do, the incrementals, obviously, will be very positive.

Thank you very much.

Jeff Tillery, Tudor Pickering Holt.

Hi, good morning. Mark, could you talk a little bit about Latin America, where software sales were cited a couple of times as contributing to the margin strength? Just is that something we are going to see back off next quarter? Just curious how you think about the sustainability of the Q3 profit levels.

Actually Landmark's profits are actually a bit lumpy, but the fourth quarter of each year is always their best quarter. Just in the normal customer budgetary cycle, we always see a surge in software and consulting sales as they approach the end of the year, buying license agreements and things of that nature. So we do expect -- if you recall last quarter, we mentioned even on the call that Latin America's margins had been impacted in Q2 by a couple of one-off events in Argentina and Columbia, which did not recur this quarter. And so we saw not only just an increase in overall activity levels, but a jump to sort of our normalized margins.

And so as we look ahead, I think that we do feel that these margins are sustainable. There will be some seasonality as we go into Q1, but at least for the next quarter in Q4, we feel pretty good about where they stand right now.

And my second question, could you just talk qualitatively about the trends you see in the North America business for both 24-hour operations and the integrated services, kind of where are you as a rough percentage of total crews out in the field being applicable to either 24 hours or integrated services and how has that trended over the last six months?

We are well over 50% in terms of 24-hour crews in North America and I think that we have done a very good job in getting to that point. We will continue to push that up. What is the natural sort of endpoint for that? Not really sure, somewhere above 50%, somewhere below 75%. So that's I think an expectation you can look at. So continue to -- we continue to push that. And Jeff, what was your other second part of your question?

Same question for integrated services. (multiple speakers)

Integrated services, obviously, we -- I guess the thing that I would say is changing about integrated services is that I think it was said sometimes with a wry smile that we were in a great position to push integrated services because we had some leverage particularly from pressure pumping in some cases from drilling and evaluation but mainly from pressure pumping.

But I think the reality is today that whilst we continue to do an increasing amount of integrated services, the response from our customer base is incrementally positive about the benefits that they are seeing. So what I think we are doing right now is seeing a shift from perhaps shall I say contractor led integrated projects to those projects by which the customers are really seeing some incremental value. That is very positive because what it means is it will be -- it's a sustainable model which will prevail over any ups and downs in the market.

Great, thank you for the color.

Jim Crandell, Dahlman Rose.

Good morning. I think this one is for Tim. Tim, Schlumberger said at one of our events recently that there is now some element of performance-based pricing on some 40% or more of integrated and rotary steerable jobs. Can we get your sense on performance-based pricing, how you see it as a differentiator and maybe how much of your work it might account for in those areas?

Performance-based pricing has been around for obviously for a long time both in terms of using motors or rotary steerables or any kind of drilling technology and it is an important tool in our toolkit. I am not going to disclose what percentage of our contracts are under some sort of performance arrangement, but quite a few. And really what the issue is is you have got to have the confidence obviously in these positions to be able to stand by your ability to drill a certain footage in a certain time. And we are very confident to do that. We believe we have got the technology to stand behind those kind of commitments and obviously then generate the returns and the margins that we need as a company.

So yes, it is an important trend. I think, Jim, in general, I would say that we will expect to see greater degrees of performance-related contracting going forward than we have as we kind of look back into the rearview mirror.

Okay. And second one is just a follow-up for Mark. Mark, I understand sort of the contract position of your US fracturing business, but could you characterize what you think are supply/demand conditions in some of the most important domestic basins in the supply/demand and what you see as the trend in spot prices for fracking today?

Jim, let me take that one, if you don't mind. On Baja, Bakken undersupplied, Eagle Ford undersupplied, Permian undersupplied, Marcellus undersupplied, Haynesville probably oversupplied, Mid-Con gas, dry gas probably oversupplied and Rocky Mountain dry gas probably at neutral.

So, Dave, do you hear these -- I'm sure you have heard these stories about companies pricing maybe at small discounts, [digging] into Range Resources or Carrizo's business in the Marcellus and Goodrich claiming lower frac prices in the Eagle Ford. As far as you are concerned, you really just see these as competitive situations and not really indicative of any sort of balancing or softness in the market.

No, absolutely not, Jim. And we hear about these things anecdotally and try to turn the anecdote into what are the facts. And in many cases, it is a small pumping-only service company that has a frac spread that has been cut loose by some other customer and they are going around looking for work. That is one situation you run into.

Another is when a company that has decided to take a crew from the spot market to the contract market, typically, you do give a discount if a customer is willing to tie it up for a longer period of time at a guaranteed level of efficiency. And I think so a lot of what we are seeing is spot to contract market or the one-off frac crew that has been cut loose and is just looking for a new home. But, in general, no, the customer base we are looking at and the people that want to use our equipment, we are just not seeing any softening in pricing at all.

That's great color. Thank you, Dave.

James West, Barclays Capital.

Hey, good morning, guys. A quick question about your CapEx as we think about for 2012, and Mark, understanding that you may not want to talk about the overall size of the budget, but how are you guys thinking about the allocation between North America where it seems like we still have a pretty robust market for at least the near term and then international where volumes are growing? And I know Tim talked about and Dave talked about undercapitalized unconventional resources internationally. So how are you guys thinking about the difference between those two markets?

No, James, I think that is fine to answer. As we -- just sort of a reminder, really until this past year, over the last five years or so, we had biased our capital spend toward international markets, particularly the Eastern Hemisphere as we were growing our business and we are talking about shades of -- it's not 90/10; it has been more like 55/45 or 60/40 depending on what projects we were invested in.

This past year, that bias had shifted toward the US. As we look ahead to 2012, it really appears to us right now that we are going to be biasing our spend toward the Eastern Hemisphere again. We do anticipate international growth will be coming, particularly, as Dave alluded to, for pressure pumping as we begin to focus on unconventional resource development in earnest. Also with regard to deepwater spend and some of the activities there for the work that we will do.

So as we are thinking about it today, it is going to be internationally flavored, at least the majority of it will be and I would say with a bias toward Eastern Hemisphere.

Okay and then --

We are maintaining flexibility and of course, being an integrated manufacturer of a significant portion of our equipment, that gives us a lot of flexibility.

Sure. Fair enough. And is the, I guess, the bias of the overall budget higher or lower compared to this year?

It is not going to be any less than this year I think, but the question is do we maintain a line. We had been continuing to operate within our cash flows, being we are very return-focused and you are not going to see us abandoning that return -- balancing growth and returns focus that we have maintained as we go into '12.

Okay, fair enough. Thanks, Mark.

David Anderson, JPMorgan.

Thanks, good morning. Just a question about your customers in North America. Are they talking about their 2012 plans right now or is it a little bit too early? Are they just kind of focusing on where the oil price is at the end of the year?

Obviously, they are going to have -- their oil production is going to be up quite a bit. This isn't a credit crisis like you mentioned. I am just trying to get a sense as to where you think upstream spend in North America is going to be. Do you see it being up next year I guess is the question and I guess secondarily is it kind of just basically oil price-driven?

I think a couple of things. I think, first of all, our customers are obviously in the evaluation phase for their 2012 budgets right now and we are monitoring those very closely, Dave, so we can kind of get as much insight as we can into what they plan to do.

There are a couple of sort of themes, which seem to be running around. Obviously, one theme is the introduction of fresh capital from outside, which is still continuing. We are seeing that to happen. Secondly is the relative balance between drillbit spend and also lab acquisition. That seems to be shifting in terms of probably a greater allocation towards the drillbit in 2012 and away from land acquisition. At least that is the early returns from some of the inquiries that we have had.

And I guess that based on what we see today, I would say that spend next year in terms of drillbit spend, not necessarily overall CapEx, but drillbit spend looks to be up. But obviously, we are going to be monitoring that very carefully between now and the end of the year.

And then just to dig in a little bit more on your CapEx spend, but maybe just focus on North America, you talked about your flexibility and your ability -- you are manufacturing yourself so you can move things around. I guess a couple of questions on that. Have you shifted that spending mix from first half to second half yet? I mean, Mark, you have often talked about investing countercyclically in North America. So I guess what I'm wondering is are you guys already shifting kind of that spend kind of away from new additions right now? And I guess secondarily, are you starting to see that more broadly in the market? I mean everybody is worried about overcapacity in the market, but it seems to me that it is very possible you could see capacity additions slow down 6 to 12 months from now. Can you talk about that a little bit?

Dave, this is Dave. Let me handle that one again. The answer to your question, the first part of the question is yes. We have, in fact, biased our additions outside of the US in the back half of this year. And as I travel the world, there hardly is any place I go today that isn't asking for more horsepower. So we have been able to satisfy the horsepower needs and the horsepower requests by shifting some of our production and sending it into the Eastern Hemisphere markets because we are not going to end up in a situation where we don't have the horsepower that is needed in a location at the time that the customers are going to need it to drill their wells or complete the wells. And so that part of it is true.

The second part of your question with regard to people sort of slowing down, I know what we do and we have got basically a volume knob in our production and so we can turn it up, we can turn it down as fast as we can. I think a lot of our competitors, because they have got to put orders in and have long leadtimes on those, I am not sure that they can slow it down as fast, certainly can't slow it down as fast as we can. But I think that everybody is watching the market. And if their returns -- if the extraordinary returns we are getting today start to moderate a bit for some of those companies, I suspect that there will be less equipment coming into the market.

Thanks, Dave.

Sean, we have time for one more question.

Doug Becker, Bank of America-Merrill Lynch.

Thanks. You highlighted some of the cost inflation that you are seeing in North America. At the same time, you're making progress on the efficiency gains and the cost structure improvements. Is it realistic to keep North American margins flat maybe with some quarter-to-quarter volatility in a flat rig count environment in North America?

Yes, I think that it depends on whether you are asking short term or long term. Obviously, we are coming into the winter months now and so I think it is important to sort of separate the dynamics of the US market into a couple of buckets. One, if you looked at sort of how these cycles play out historically, you have good pricing power for a period of time, you run your margins up and then your input costs start to catch up with you and then you are in essentially a leapfrog game. Your labor goes up, your chemicals go up, your inputs go up and then you turn around and you get those recovered from your customers. Not as I said on a one-for-one basis and not always immediately. And then you sort of reach another plateau and then you move on from there.

And then I think we had sort of the one-offs in Q3 of the weather-related items. We will have weather items. I am not predicting where winter is going to go, other than we are starting to work in more northern climes, the Marcellus and the Bakken, for instance. But at the end of the day, I like the position that we have in North America. If you look at the fact that it is continuing to -- much more biased right now towards a liquids type of a market and then don't forget that we have got -- the goal out there is our Frac of the Future. We are reinventing our service platform. I think that as Mark has indicated, we are spending $0.02 or $0.02 plus a share per quarter reinventing how we are going to go to market in the US. Now that isn't going to pay off for a couple of years, but you take that reinvention of the platform, you take Frac of the Future, both of which we are making good progress on and I think any market that gets thrown at us, we will do as good as, if not better, than any of our competitors.

Fair enough. And actually you mentioned the reinvention. Just how far along in that process would you say you are? I know costs will continue into 2012, but just how far along are we?

I would say we are probably less than a third of the way into it at this point.

Okay, thank you.

Okay. So before we close, we would like to announce that our fourth-quarter earnings call will be held on Monday, January 23 at 8 a.m. Central, 9 a.m. Eastern time. Sean, you can go ahead and close out the call.

Thank you. Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the conference. You may now disconnect. Good day.