Helmerich and Payne Inc (HP) 2005 Q3 法說會逐字稿

Good morning. Welcome to today’s Helmerich & Payne conference call. All sites are online and in a listen-only mode. Later there will be an opportunity to ask questions during our Q&A session. I would now like to turn the program over to Vice President and CFO Mr. Doug Fears. Please go ahead.

Thank you and good morning, everyone. Welcome to H&P’s conference call and webcast for the third quarter earnings and recently announced contracts. With us today are Hans Helmerich, President and CEO; George Dotson, President of the Company's wholly owned subsidiary, Helmerich & Payne International Drilling Company. I'm Doug Fears, Vice President and CFO.

As always there will be forward-looking statements and estimates made today. We will be rounding numbers in hopes of adding some clarity to our comments. We attempt to be as accurate as possible in our comments and information we provide. But it is important for you to know that much of the information provided involves risks and uncertainties that could significantly impact expected results. There's further discussion about these risks and uncertainties in our public filings, the most recent of which is the 10K filed December 13th, 2004. You may obtain this filing, along with a copy of today's press release on our website.

This morning the Company was pleased to report net income for its third fiscal year ended June 30 of 29,825,000 or $0.57 per diluted share from operating revenues of a little over 207 million. That compares with net income of 4,347,000 or $0.09 per diluted share from operating revenues of over 147 million during last year’s third fiscal quarter ended June 30. For the nine months ended June 30, the company reported net income of slightly over 91 million or $1.77 per diluted share from operating revenues of over $567 million compared with net income for last year’s nine months of 16,983,000 or $0.33 per diluted share from operating revenues of almost $425 million.

In the financials included in the announcement, please note that our cash balance was $236 million at June 30. I might note that the market value of the stock portfolio at June 30 was approximately 237 million on a pre-tax basis, but if it were sold and the tax were paid on it, it would have an after-tax value of 158 million or almost $3 per share. Presently it’s up a little bit from those figures to slightly over 250 million on a pre-tax basis and an after-tax liquidation value of about $168 million.

Capital spending for the nine months was about 54 million. At this time our guesstimate for the total fiscal year 2005 capital spending is $115 million. As you know, we’ve announced that – we’ve had projects announced – six of them with 22 rigs. Our total estimate of capital spending from those announced project is approximately $236 million. We’re estimating that about $50 million of that will be spent during fiscal 2005 and 186 million will be spent in 2006.

You will also notice on page 3 of the consolidated statement of income, that our general and administrative expenses rose by about $2.1 million for the quarter compared to last year’s third quarter, which happened to be about the same number that we did for this year’s second quarter. The cause for the increase is an accrual for about 75% of the estimated bonus projected to be earned for the entire fiscal year 2005, although payment will not actually be made until December after the close of the fiscal year. The accrual was made because it is very likely that performance hurdles will be met for 2005 that will trigger pre-determined bonus levels. The accrual was 2.5 million during the third quarter and will be about 800,000 for G&A-related bonuses in the fourth quarter. As you may know, there were no bonuses earned in 2003 and total G&A-related bonuses of about 800,000 earned for fiscal year 2004. As was the practice until this year, the bonus figure was booked in December of that year.

Just another note, as you may compare day-rate acceleration among land drillers, I want to remind you that H&P does not include in its revenue-per-day numbers, the portion of US land operating revenue that are called reimbursables. Reimbursables are really pass-throughs, but are included in other land-driller day-rates – or I should say, some other land-driller day-rates or revenues-per-day in their disclosures. For example, in the quarter just ended, including reimbursables in our revenue-per-day number would have added another $1,133 per day to our revenue-per-day, making it $17,791 per day instead of the $16,658 reported in our operating statistics.

Now with that, I’d like to turn the call over to Hans Helmerich, President and CEO. After he and George have made their comments, we will open the call for questions. Hans.

Thanks Doug. Our third quarter performance continued to show improvement for the overall business, especially in our land US segment that represents over 70% of our fleet. As we look toward 2006 and beyond, we’re encouraged by our customers’ interest and endorsement of the Company’s FlexRig effort as evidenced by nine new build orders since our last webcast. Beginning March of this year, we’ve announced 22 new-builds, all of which feature three-year term contracts and attractive financial returns for our shareholders.

As we continue to discuss further interest from customers, we’re trying to understand better the dynamics of this current up-cycle and the opportunities it may afford the Company. Without guessing where future commodity prices might go or picking some market top, let me mention two or three things we are hearing from our customers.

First, they have been busy building robust, multi-year drilling inventories that reflect a step change in energy price assumptions. These multi-year drilling programs are reflected in the new long-term contracts, which assure them – assure the customer the right equipment and the people necessary for the project. The customer further recognizes a steady, sustained drilling effort is particularly well-suited to the drilling efficiencies, fast move-times, and reliability of the FlexRigs.

Secondly, while rig availability is clearly an issue, the customer is not interested in some old rig that has been dragged out of the weeds after years of inactivity and neglect. They’ve seen that movie before, most recently in 2001 when they paid increasing day-rates for so-called refurbished rigs that delivered declining efficiencies and performance. That is why the customer is willing to sponsor our new-builds. It’s not just an order to secure an available unit in a tight market, but it’s because the FlexRig provides real well-cost savings, reduced cycle times, and increased reliability in a market with higher day-rates all of which help hold the line for the customer’s F&D costs. In light of today’s tight market, we would fully expect going forward to see other contractors begin to follow with some version of new-builds. We believe our efforts and commitment to the FlexRig program since 1998 has afforded us not only a clear early lead, but also important forward momentum. Our challenge is to build on that advantage.

Here are some reasons that we like our chances. First, our people and their experience. We have 50 FlexRigs on the ground and they have executed well in the field. Secondly, the strong customer relationships. That is going to be particularly important going forward. We want to not only be the customer’s first choice, but we want our customer responsiveness to be the best and our customer retention to be the best. Thirdly, we offer a differentiated product that is field-tested and established as the performance leader. Finally, an organizational competency where our strategic focus, experience, and learning center on new-build design, construction, and field execution.

It’s been over 20 years since the last major cycle. We remember well that before the crash, the industry was churning out 100 rigs per month pushing the fleet to over 5,600 rigs. Today industry observers are able to only identify 150 rigs being added to an active fleet of around 1,400 during the next 18 months. During the long dry spell that followed the 1981 crash, we were the only contractor that I know that consistently invested capital and new ideas on any scale back into its fleet. The lingering over-capacity drove a consolidation strategy that worked well. But now the business has changed and the motto, “yes our rigs are old, but they’re cheap” should now be just, our rigs are old. We’re better positioned for this new industry cycle. Our rigs are not old. In fact, 75% of our fleet has been built since 1995 and we are the clear leaders for innovative new-builds going forward.

With those comments, I’d like to turn it over to George Dotson.

Thank you Hans. It was a very satisfying third quarter for each of our operating areas. Beginning with our US land operations, revenues were up $15.9 million or 14% compared to the second quarter while operating income rose 32% to 47.2 million.

We announced new three-year term contracts for four new-build FlexRig4s and one new-build FlexRig3 during the quarter. Last week we announced an additional four new-build FlexRig4s. As Hans mentioned, our customers have now placed orders for 22 new FlexRigs on three-year term contracts. The timing and size of our commitments to new technology have moved the Company and given the Company substantial leverage in this up-cycle. The 50 FlexRigs worked in US land operations at an average daily revenue and margin of $17,618 and $9,205 during the third quarter while the 22 new FlexRigs and three-year term contracts give visibility to robust earnings in the future.

As expected, our US land operating costs increased by $365 per rig-day or 4.4% during the quarter. Daily maintenance and supply cost declined $231 a day due to good field practices and supply chain management. As forecast in our last webcast, however, daily labor cost increased significantly by $543. Other daily costs increased $53. Labor supply remains tight. We now foresee steady and significant increases in field wages during this up-cycle.

In addition to the new FlexRig contracts during the quarter, we added four existing rigs on two-year term contracts. Of the total 14 rigs now on two-year term contracts, the day-rates averaged slightly over $17,000. While there continues to be a demand for two-year contracts on our existing rigs, we have suspended entering into additional term contracts. Pending a review of demand and pricing we will decide on the appropriate mix of long-term and short-term contracts for our existing rigs.

Of four previously uncommitted rigs, two are now committed. A 3,000 horsepower rig has a letter-of-intent for a two-year contract in Argentina. Preparations are underway in Houston and the rig should spud its first location in early December. A 1,000 hp rig will be upgraded for a long-term contract in the US. One 2,000 hp rig and one 3,000 hp rig remain idle in our Houston facility.

Today, on July 27, H&P has 98% activity for 90 land rigs available in the US with 88 rigs committed. Our average day-rate for all US land rigs today is $17,962, an increase of $2,118 when compared to $15,844 on April 27 the date of our last webcast.

Our platform rig operation also improved its performance in the third quarter. Five platform rigs remain contracted during the third quarter. A sixth rig has just commenced operations and a seventh rig is contracted to start operations late in the fourth quarter. Four rigs are presently idle without contracts. We expect to contract one of these idle rigs to start late in the fourth quarter.

International operations also had a satisfying quarter. Nine rigs worked in Venezuela during the quarter, one 3,000 hp and two 2,000 hp rigs are idle and bid on new drilling opportunities in the country. All 8 rigs in Ecuador and 2 rigs in Colombia were at 100% activity during the quarter. The outlook for activity improved in the southern cone of South America. Argentina will have three rigs. One is operating. The second rig is on day-rate and moving from Bolivia to Argentina. The third rig, as mentioned earlier, has a letter-of-intent for a two-year term contract starting early December. One rig is contracted in Bolivia and should start early in the first quarter of fiscal ’06. Another rig is moving from Bolivia to southern Chile on a one-well contract.

The 32 FlexRig3s are continuing to set industry standards for field performance and strong pricing with an average daily revenue and margin in the third quarter of $18,054 and $9,760 respectively. Further, 10 of the 32 FlexRig3 rigs are presently working at day-rates of $20,000 per day or higher.

Managing new rig construction is a strength at H&P. With the assistance of our engineering and field organizations, fabricators, suppliers, and leading manufacturing consultants we previously delivered two new FlexRig3 rigs per month. We are now starting to load our assembly line for FlexRig4. We will assemble, test, and deliver the first new FlexRig4 in November this year and thereafter produce the new rigs at the rate of two per month. We plan to increase the production rate to three per month in the spring of 2006. As was the case with FlexRig3 construction program, H&P will not invest in owning manufacturing equipment or facilities. All facilities are leased. H&P will sub contract all manufacturing personnel, inspectors, and consultants. H&P will furnish its own engineers and supervisors to manage the construction process.

Our strategy has minimal financial risk and maximum flexibility while delivering the best value and most reliable rig to our customers and the drilling operation. We expect prices for drilling machinery will increase and deliveries will lengthen. We are fortunate to have 50 rigs in the field today and an early start on the next 22 FlexRig4s. Managing some of our own construction and all of our assembly operation gives us good control over total cost, delivery schedule, and field performance. We believe we are well-positioned to take full advantage of this up-cycle.

Thank you Doug.

Thank you George. We would now like to open the call to questions.

(OPERATOR INSTRUCTIONS) Arun Jayaram with Credit Suisse.

Good morning gentlemen. Nice quarter. George, in terms of the new-build program, you are going to be increasing your domestic fleet by about 24% over the next 12 to 15 months. Can you talk about how many people you are going to hire. Should we be modeling in increases in operating costs for the training associated with increasing the fleet by a pretty substantial margin?

We’ve handled our costs a little differently this time. On FlexRig3, we established a lump-sum budget and H&P bore that cost. We handled it – announced it at the time. In this particular building cycle, we have allocated that money up-front. It’s in our price. It’s in our contract. We’ve provided for it so the funds are there. It is going to be a major effort with 22 rigs. Today we’re going to have probably 20 men – we’re talking about roughly 500 men that will be added to H&P. We will be out recruiting for those people and assessing them. More importantly we will repeat the training program that we had for FlexRig3. We found that with that training program, we were able to take new rigs, new leadership on the rig, and new crews and go out and drill record wells. We know it works. We will remain committed to that. Again, I think that as time goes on we will see that those costs have been provided for, but more importantly we will see the results in the field.

Okay, so just to clarify, you’ll be capitalizing those costs and depreciating those over time? Is that right – the training costs?

No, we will not. We have provided for that in the economics. We will – there could be a timing issue. But at this point, we’re not going to capitalize that. We’re going to write it off.

What kind of increases – you talked about operating costs – should we be modeling in over the next two to four quarters? Is this $300 per rig-day – something in that nature?

As I reported this morning, our maintenance and supply costs are down. We can’t count on that always being down. We have been very pleased with our performance over the last two years in terms of repair and maintenance costs. Our biggest source of cost going forward is going to be labor. There is intense pressure in the business, intense pressure on labor rates. Also, we are paying more to retain our people like many contractors are. We are going to see those costs come through. I think that $300 per month could be on the low side as we look ahead. (multiple speakers) I’m sorry, it’s $300 per quarter could be low. It’ll be lumpy. But I think that a year from today when we look back over the last four quarters, we will see that it will probably average more than $300 per quarter.

Okay, that’s helpful. Second question on the labor contracts. It looks like the domestic labor contract revenue, at least on my calculations, was down about $1.5 million sequentially. Was there anything unusual there?

One less day in the quarter. We have one of those units – one of our major producers was on a stand-by contract at lower margin.

Last quick question. You talked about moving a rig to Argentina. What is the cash margin on that rig for that term contract?

Rates – day-rates, mid 20s. Margins – I hate to tell you. They were very attractive.

Okay. Thanks a lot.

Mike Drickamer with Morgan Keegan.

Morning gentlemen. George, you just commented that you are going to be increasing your manufacturing capacity to three rigs a month in the spring. What steps are you actually taking to increase capacity since you are not owning any manufacturing facilities yourself?

We have just increased the size of our manufacturing space. Fortunately we have a manufacturing staff that has been through this before. We’ve talked about it, planned what the requirements will be. Really, the only thing has been to add the space and to make sure that we have the components in order. So we believe that we’re set for that.

So you are actually just leasing more space, is what you’re saying.

Yes. And we are fortunate. Where we’re working does have space available and it is immediately adjacent to where we are. So we will actually improve the layout of the production line.

What would it take for you to increase your capacity to four rigs a month?

We’ve talked about that. What we need is a little more strength in demand. We think it could be out there. We’ve begun to plan for that contingency.

So if the demand were out there, you could increase your capacity to four rigs a month?

There would be some hurdles for us. Again, access to the components that we need. But in terms of the personnel to operate that, we feel comfortable with that. Of course, it would put a strain on hiring and training people. I think the major issue for H&P is making sure that we maintain quality in the field for the customer on the drill site. That is going to be in the back of our minds as we consider increasing the manufacturing rate.

I have got to question your thinking on moving a rig from the US to Argentina. Was it purely that the day-rate was that good? Or that rig was not suitable to work in the US? With so many rigs (indiscernible).

It was about rates. It’s about a good customer that we’ve worked for steadily in that area since 1997-1998. About rates, it was a better rate than we can get in this country. A long-term contract – a two-year term contract with the prospect of continued work. Argentina needs gas. They are going to need gas going forward. This rig is well-suited for that. It’s a 3,000 hp rig. We do see some increased demand for large rigs in this country. But not at the kinds of terms that we got on this contract.

Finally, just to follow-up with one more. We haven’t seen a lot of consolidation recently in the industry. What are your thoughts on consolidation at this point in the industry. Would you be looking to buy some rigs or building the rigs? What are your thoughts?

I think we continue to be committed to building rigs. I think for someone to go out and consolidate any other contractor today, you are going to pay prices in the end that are going to approach new-build prices. If you are comfortable with new-build – and this Company is – and we have an entire organization that is attuned to supporting new equipment in the field. I think that is no choice at H&P.

Remember that you are out there competing, as George said, for 25-year-old average rigs. Those prices have gone up. I like our strategy better than that.

One other thing I would add. When we talk to our customers about their desire to get new rigs, they continue to tell us, look we have – we can pick up other rigs. In fact, we’re using other rigs right now. We know what we want. We want better rigs, newer rigs, new technology, and the ability to deliver better quality in the field. We think the way to do that is with the strategy that we have.

Great. Thanks for the answers.

Robert Ford with Sterne, Agee.

Thanks. Morning. International costs continue to be the toughest variable for me to get my arms around. They are still jumping around quite a bit. Could you talk about the driver for the $1,000 sequential increase and what I should be looking for going forward.

You’ve described it the same way we feel about it. They have jumped around. In this past quarter, our operating cost driven principally by our maintenance and supply cost in two countries – Venezuela and Ecuador – and they are also our most active countries. That represents a total of 17 operating rigs. Maintenance and supply costs were higher. Those do tend to be a little lumpy. It was bigger than we had planned on. There is some labor increase in that also.

(multiple speakers) come down sequentially a little bit?

We do. As we talked in preparation for this meeting, we continue to say that we expect until we get better pricing driven through all of our international operations – and there is progress in that. But until we see that, we still think that $6,000 a day is a good number going forward. Yet we did not deliver that in this past quarter. So that has got a lot of our attention.

The first two numbers you put out, could you repeat those, George? The very first two numbers you mentioned when you got on. I missed those. What were they?

I think you are probably referring to the average numbers for all 50 FlexRigs. The average daily revenue during the quarter was $17,618 and the average margin was $9,205.

So the numbers you gave later 18,054, that’s as of today.

The 18,054 was FlexRig3 only. That is 32 FlexRig3s. The average was 18,054. Margin was 9,760.

So the first number was all 50 FlexRigs.

All 50 FlexRigs. The second set of numbers was for 32 FlexRig3s.

Okay, got it. The rate we’re moving inter-regionally into South America and the rig moving from the US to South America, mo (ph) costs – how are those being handled? Is the customer paying for those? When do they hit, if you are expensing them?

Today’s market is strong enough that we are paid fully for mobilization.

Last question. Or I guess the last one, just a comment. Average day-rate today 17,962, up $2,118 versus the last conference call. Did I hear that right?

That’s correct.

That’s amazing. Make sure – I guess Shane’s got – was that big increase in bonus for Shane, I guess – the increase in accrual?

That’s still out there.

Those guys are doing a great job. I guess one more question. The training costs that you’ve already incorporated into the cost of your rigs, can you quantify that? How much is that per rig to train the crew that is already in the economics?

I think I’ll pass on that one, if you don’t mind.

That’s fine. I understand. That’s all I had. Thanks.

Waqar Syed with Petrie Parkman & Co.

Good quarter gentlemen. Most of my questions have been answered. I joined the call a little bit later, so excuse me if you’ve already answered this question. What is the guidance for G&A going forward?

As I mentioned, we had – the accrual in this quarter was $2.5 million for bonuses. In the fourth quarter it will be 800,000. So we’ll be 1.7 million down to start with for fourth quarter versus this quarter. To my knowledge, I don’t think that there are any other anticipated major ups or downs for fourth quarter that I can think of. We are coping (ph) a little bit with Sarbanes-Oxley expenses, but we’re attempting accrue those. As we sit today, I think you start off with knocking third quarter down by 1.7 million.

Let’s say for ’06 just thinking out loud, would you be accruing these bonuses on a quarterly basis? Or it’s going to be all second half fiscal year. How does that work?

That’s an excellent question. This is the first year because of some changes in accounting approaches that we’ve dealt with this. It boils down to being in a position to estimate what the probable expense is going to be. It wasn’t until this quarter that we were certain enough to go ahead and accrue. My guess would be we would not accrue in that first quarter. But in that December quarter, there will probably be some adjustments to whatever accrual that we made. So in the December quarter there could be some sort of expense shown. Hopefully by our second quarter, the March quarter, we can begin to accrue something. I can’t promise you. I don’t know right now. It’s a tough call.

George, could you talk about opportunities for sending FlexRigs into international markets, maybe Middle East or some other markets.

We continue to talk about the possibility of FlexRigs in South America. The rates and margins there have just not been strong enough to make that attractive. I think in the Middle East that is not an area that we are presently looking at with FlexRigs. I think it’s about rates and it’s about margins. There are some other areas that we are working on that are international. I think that those may prove to be very attractive and meaningful to H&P. I think I won’t comment further on those at this point. We do continue to look for ways to employ, not just the FlexRig the way it sits on the ground today because they are fit-for-purpose on what they are doing in this country. But the ideas that make up the technology and the value of FlexRig – that is what we want to employ outside this country.

It sounds great. Thank you very much.

Pierre Conner with Hibernia Southcoast.

Morning everybody. George, first just some mechanics on the day-rate questions. Currently the average cost of the entire fleet is 17,962. Then there are other, as mentioned – make sure I’m clear on this. There are two other components. One would be other revenues beyond the day-rate. Then of course, there are the reimbursables. Absent the reimbursables, what is the trend on other revenue per day for peripherals, I suppose extra night pusher, or something like that. Is it nominally $600 a day is what we should be thinking of incremental to this day rate?

I think going forward it would be flat.

So the other revenues, not the reimbursable, but the other revenues per day should maintain – the difference between day-rate and other revenues should stay about the same.

Yes. We don’t see any change in that. We don’t furnish much other equipment. It is very little and it does not change. We don’t furnish many other services. What you see is the way it’s going to be going forward.

Okay, fine. You mentioned your strategy to be a bit more in the spot right now. Could you remind us on – what you do have is on a longer-term, has been on contract awhile in terms of numbers. Is there anything much left?

Going forward, first of all you have to consider we’re going to add 22 rigs. That is our count today. Those are all on term contract. We have another 14 rigs that have two-year term contracts that are just now starting. We have another half dozen rigs, six rigs, that are shorter-term. They are less than two years. They are probably six months to one year. We haven’t counted those. That is 14 plus 22, 36 over our new total of 115. We’re probably looking at 30% of our rigs on term contract today.

Any of those six month to one year ones, those are recent contracts then?

No. Some of those are older. Some of those were two-year term when we started out. One was a five-year. It’s down to under one year left.

That is where I was getting to. How many of the older contracts are left. It’s less than six?

We have five to six rigs that are older, that are now under one-year. They were longer contracts to start. That is what’s left to run. We don’t describe them as long-term contracts in the same words that we describe the 14 plus the 22.

That’s helpful. A follow-up to Mike’s excellent question about expansion and new-build capabilities. You mentioned that you had ordered for the components. So my question is, to the extent that that might become a constraint in the system, if you went to even a higher number, is there really – you could order them. Is there capability on the components to get you what you need? Have you looked that far into it?

We are somewhat unique, and I believe fortunate in our components in that we have designed and we contract out the manufacturing of the mast, the substructure, the draw works, most of the fabrication, all of the wiring. What we’re in the market for are top-drives, pumps, engines, electrical ACVFD switch gear. We can see our way forward to get that to meet our schedule.

We think we have a – we can manage the acquisition of components to give us the schedule that we want.

Okay, that’s fair. My last one is for Hans in that it’s a bit conceptual about the new building and where the industry is absorbing it. Maybe one way to look at it is of the 22, some of those are clearly replacements. Some of those are – I don’t want to say necessarily fit-for-purpose. But they were built to meet a need that isn’t necessarily replacement. What percent of it is doing just that, is actually creating opportunities for the E&P (ph) companies by giving them a product that can develop these fields cheaper than otherwise?

To answer your question, just to clarify my understanding of the use replacements – because I think it’s going to be important as we go forward for the industry. When we have 22 new-build, they are not replacing anything in our fleet because we think it’s fully capable going forward. Those are providing opportunities and responding to the demand of customers. I want to say that because of the age of the average industry fleet, when you see some new builds, the question that we used to get – which was a fair one in terms of cannibalization. I think some new-builds that our competitors will roll out will very much be replacements of their own fleet in terms of the lower-end rigs. One of the issues is, of the 1,400 rigs working a day, what percentage on the bottom end should really be out there? And what percentage of those get replaced by new-builds? The other dynamic of replacement is because of the drilling efficiency we offer customers, we’re able to displace competitors’ rigs and we’re able to bring a performance that allows an operator to take a FlexRig and displace other working rigs he may have in his portfolio. I think that will be something that you will see continue as well.

Yes, that is probably the term I should have used is displacement. I guess that some of this expansion is really, truly – I am thinking about the Williams in particular – that because of being unique in design and operation, that isn’t really a displacement from what I can see. I was looking for that – some of your fleet is doing that, I take it, right?

I think that – and you mentioned the Williams. They see the drilling program they have in front of them. As we talked before, we’re going to go onto a location, reduce that location size by half. Take a rig of a competitor’s that might be drilling five wells per pad and increase that to over 20. You are seeing real improvements that then allow them to execute on their well program in a way that makes that Flex4 attractive to them.

Okay. Thanks for the information and the feedback. Appreciate it.

Thad Vayda with First Albany Capital.

Morning gentlemen. Could you perhaps give me a little bit more insight into your evaluation of the term contract issue. First, could you remind me during the last cycle what was your codified (ph) policy, if there was any and the percentage of fleet that you had on term contracts, when you generally entered into them – in other words, when during the cycle, and the type of rig that you might have entered into a contract in more frequently than others? As far as the evaluation that you are going to be undertaking now, what is different versus the last cycle? What factors do you think are going to figure most importantly in your evaluation?

As you can appreciate, it’s a dynamic marketplace out there. I would have guessed nine months ago or so that it would be difficult to see long-term contracts as a big part of our future. But at the same time, when we saw the business improve, we could see the fundamentals in place that would give it longer legs and the cycle have considerably more longevity. We were reluctant to do six-month or year-type contracts. We wanted to see something two years or greater. Then, of course, on the new-builds, as you know, we’re getting three-year terms. I think it will be interesting to see in the industry, as other new-builds from competitors roll off, what kind of term contracts will they secure? Or will they be just on a spec basis?

Really, to your question, there is not a lot of science. It’s something that we watch and reflect on and that we’ll scrub going forward. We wanted to have and will continue to want to have a proportion of the fleet under term contract. It becomes a type of hedge. But then we also want a portion of the fleet to be exposed to the improving day-rates that we’ve seen including in this last quarter. We don’t have a formula I can roll out and say, here’s exactly what it is. It is something that we spend a lot of time watching week-by-week and we want some meaningful hedges in place. But then we also want some exposure to the improving conditions.

Okay, thanks. that’s helpful.

Mike Drickamer with Morgan Keegan.

I want to follow-up on your comments earlier that you see increasing lead times for some rig components as well as increasing rig costs. One of the things you talked about was one constraint on your own ability to increase your capacity is the ability to get components. I think there is a concern out there in the market that with these new Chinese rigs, and Chinese manufacturers offering components in the US, perhaps we will see incremental capacity. What are your thoughts on the Chinese rigs and the potential impact that we could see the Chinese have on the new-build cycle?

The Chinese influence, participation in the market was just a concept until the last 12 months or so. We see now that – at least we understand that rigs have been ordered and there will be Chinese-built components increasingly in our market. I think we’re going to consider that as we go forward. At the present time, I think that we probably will rely on our traditional suppliers because we’re a long way down this track. We’ve been able to get good purchases on what we have – maybe not priced as attractively as what we hear some of the Chinese components are. But the nevertheless, we know what we know and we get good service. We’re going to go with US-built components at this point.

I think the other issue for us is we’re looking for rigs that can do more. We want rigs that are AC-powered. We want rigs that are equipped with top-drives. We want rigs that are equipped with electronic drillers and other components. The Chinese will have these. Maybe they do at some level today. But it doesn’t meet the expectations at H&P. So for the time-being we’re going to go with what we’ve been working with. But we’ll always continue to consider Chinese equipment as an alternative in the future.

Does the prospect of Chinese rigs over-supplying the market keep you awake at night?

No. It doesn’t keep us awake at night yet. But we do think about it. I think more than anything what keeps us awake at night is being able to maintain quality in the field, to avoid train wrecks, to continue to drive down the cost of drilling a well. That is where I think the Chinese don’t give us a leg up on that right now. It’s about organizations. It’s about the commitment of all your people to deliver this better quality. Chinese equipment, a greater number of Chinese rigs does not threaten that at this point. So it remains to play out. But we feel very good about what we have. The real task is stay on course. Stay focused. And deliver.

Great. Thanks again.

(OPERATOR INSTRUCTIONS) Jerry Hefferman (ph) with Lord Abbett.

Good afternoon everyone. In regards to the escalating costs, I want to make sure I understand your view on the ability for day-rates to move at a level to match and/or exceed the cost-creep as you see it now.

I think the evidence says that the increase in rates has certainly exceeded the increase in cost. In our term contracts we do have some provisions for escalation of day-rates to cover indexed increases in maintenance costs. We also have the ability to pass through labor increases in all of our term contracts. As a practical matter, we have the right the pass through all of our labor increases today, even on well-to-well contracts because no operator wants to believe that he is going to be vulnerable on the quality of people because he failed to approve a labor increase. We are able to pass through all of those costs today.

Going forward at some point, we may find a point where we can’t pass those costs on. But at the point, we will also not have the size of those costs to pass on.

Right. But for the time being, you see a continuation of basically of what we’re getting onto – a continuation of margin expansion?

Yes. And I think sometimes you say, how can that be when our margin may not be as much as we thought it would be. Last quarter we said we’re going to have labor increases. These are going to be reimbursed by the operator. In fact, revenues went up. We didn’t see the margins go up. That is because those increases did cover those cost increases.

If I may change topics to the new-builds. Forgive me if some of this is repetitive. Could you comment or reiterate the comments that you have made publicly regarding the return on investment that Helmerich & Payne expects to receive from this new-build program.

What we’ve said is that first of all, that all of the 22 rig contracts are generally down the same fairway when it comes to both a financially-computed return on invested capital – just net financial income divided by the average invested capital in these rigs as well as the tax computed after-tax cash payback on the rigs. Generally it goes like this. In the guaranteed or fixed day-rate portions of these contracts, the return on invested capital over that three-year averages in the 19 percent plus-or-minus 100 basis points and that the after-tax cash payback is in the mid-90s plus-or-minus, probably at the low end at 90% and the high end approaching 100%. Then in addition there are performance-based payments that push the return on invested capital to 20% plus and the payback to 100% plus-or-minus. That is a general fairway of all of these contracts.

I appreciate the review. Now looking forward, listening to the program that you have with pretty good specificity laid out as to the hiring of people, the leasing of space, the engineers, the lean manufacturing – talking delivery beginning November – two rigs a month, then moving to three in the spring. For 22 rigs, simple math gets you to delivering 22 rigs in about nine months. This seems like a very large undertaking, a lot of management time, a lot of capital for what will be, start to finish, a 15-month project or a nine-month looking just at the delivery period. It doesn’t seem to me that you’d be doing all this work for a project that would only be of limited duration.

Am I correct in my thinking? If so, can you elaborate a little bit on how far you see this project going. Do we get to the point where we’re at 91 working rigs in the US today, 22 on order. Do we see an increase to the fleet of 50% in the next two years?

I don’t know that we can see that clearly. One of the reasons that we want to be able to deliver these rigs as quickly as practical is that some operators have said to us, we want to get started on our project and if you can commit to this, then we’ll commit to that. So, one might say your best strategy is to build one per month for the next 22 months. What we’ve found is that the customers at number 22 don’t want to wait 22 months. They would like to get it in eight or nine months. That is what – if it goes no further than 22, that is why we are doing it the way we are. We know we can do that and it does not disrupt or distract the Company from its normal business because we did this only three years ago with the same people. We committed – we never built more than one per month. We committed to build two per month for a total of 25 in one year. We did that. What we found out was that we got better as we went along. It was easily and well managed.

Going to the future, it’s all about timing. We think our timing is absolutely right on. If we have the opportunity to build more rigs – and we believe we will – then we’re going to able to promise delivery of those rigs. If you order today, you can get it a year from today. We think that that is still attractive in the market.

I hope I’ve given you a feel for both short-term thinking on our part and if it evolves into something that is even better for us in long-term thinking.

Thank you very much gentlemen.

Thank you. It appears we have no further questions at this time.

Thank you very much for joining us. If there are no other questions, have a good day.