Nabors Industries Ltd (NBR) 2003 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the Nabors Industries first quarter 2003 earnings conference call. During the presentation all participants will be in a listen only mode. Afterwards, we will conduct a question and answer session. At that time if you have a question please press the one followed by the 4 on your telephone. As a reminder this conference is being recorded Tuesday, April 29, 2003.

I would now like to turn the conference over to Dennis Smith, director of Corporate Development with Nabors Industries. Please go ahead, sir.

Good morning, ladies and gentlemen, thank you for joining our call this quarter. The format today will be as we usually do, Eugene Isenberg our Chairman and CEO will make about 20 minutes of overview of the quarter's results as well as how we see the outlook for the rest of the year.

Of course, as usual, those are forward-looking statements as defined in the SEC we want to caution everybody to make sure you take them as much and they are a best estimate of the outlook but are subject to changes were conditions.

With us today is, of course, Gene Isenberg, our Chairman and CEO, Tony Petrello our President and COO, Bruce Koch, our Chief Financial Officer, Bruce Staten (ph), our General Counsel and a multitude of people that head up our various business units. With that I'll turn the call over to Gene.

Thank you, and thanks for tuning in. First quarter of 2003 was solid in terms of increased sequential sales, operating income, EPS, but even more importantly, the first quarter also established a firm foundation for what I firmly believe is a sustainable period of growth in earnings and in related profitability metrics for Nabors.

Before I get into the operating unit by operating unit discussion of Q1 versus Q4 and some prospects for the future, let me give you a basis if I can for this optimism.

We now have included in our financials data by with respect to reporting segments and we also added December 31 and March this year versus March quarter ending March last year. So we have sequential as well as year over year numbers.

And if you go to the middle of the page the GAAP verbiage means cash flow from operating entities, that's where it has footnote nine where we went from 39.3 million operating income cash flow from -- no this is straight operating income, excuse me. 39.3 in the fourth quarter to 56 million in the first quarter.

Also, on that same page, if you go up a little bit, you can see that in Canada, the cash flow from operations in this case, not the operating income, the cash flow from operations went to 33 million, 33.3 million from 13.million.

And that's in spite of the fact that first quarter got off to a slow start because of really a standing start in the fourth quarter of '02. I think it's still validates the timeliness of our increased exposure to Canada, and I think this is clear indication that Canada will be a major contributor to Nabors in the future.

Specifically, I'll go out on a limb and say I think the fourth quarter of-first quarter of '04 will be materially better than the first quarter of '03. And with our outlook for north American gas retail (ph) we feel this will continue pour some years ahead.

Also Canada will, I believe, continue to be a proven lead indicator for the lower 48. Which is obviously the rest of the North American land gas story. Although the lower 48 operating cash flow is down slightly Q4 to Q1, 6.2 to 14.1, the recount has gone from 96-units in Q4 to 109 in Q1 and the count recount 136, 139.

Special for this meeting we went up 3. I believe that the lower 48 count will continue to go up probably dilute end of the year and beyond, and I think, you know, the rate will be one and maybe more than one on average increase rig for Nabors per week and I think that will have all the attendant good things that go with an increased percentage utilization.

Anyway, I do want to emphasize or at least point out there's a short-term down side to this really bullish story and this pertains to seasonality. First, Canada has had a steep seasonal pattern for some period of time and I don't think that will continue. Typically, over the last five years, the second quarter calendar quarter has averaged 40 percent of the activity of the first calendar quarter and if the break-up is bullish and all of that stuff that might be modestly high, but whatever the story is it's a marked decrease in activity. That's point one.

The second point is Canada is much more important for Nabors now than it will be in the future despite the fact that Canada will increase, Canada is sort of leading north America in this up cycle so that in the future when the Nabors lower 48 rig count becomes more important and all the other factors, business units participate more fully in the upturn, Canada, even though it's more important, will have a smaller impact on our seasonality for the whole year.

So in spite of what we're projecting will be a drop in the second quarter earnings overall because of hopefully what I've explained, we remain extremely bullish both for the year and increasingly so for the future generally.

My other basis for operational optimism is in our international operations. If you look at the numbers again on this chart in terms of operating cash flow it looks like we're essentially standing still. However, the actualty in terms of what's happening in the field and what will be manifest in our income statements in the near future are a total different story.

We are pretty confident that we'll be up perhaps 50 percent over this quarter in operating cash flow within the year and probably maybe even by the third quarter, fourth quarter and I think up 30 percent by the second quarter and I'll get into that in a little bit more detail when I talk about the international operation.

The second broad point I would like to make is that the Nabors tax situation, I think is clarified a little bit such that we're at the point where we're using GAAP accounting terms without super qualifications. Basically I think that the situation is with respect to conversion is that retroactive legislation, while still possible, is increasingly unlikely.

Although I do believe that there will be legislation making inversion almost impossible prospectively and I also believe there will be legislation probably affecting the ability of an inverted company or a foreign owned company to affect U.S. taxes. But I think when that's done, it will be done and applied to everybody whether it's Daimler Chrysler, BP or Nabors and we're perfectly prepared to work with that. I think basically, this move and the movements put us in a competitive position.

Let me now go to our unit by unit discussion. Also, I think I should tell you that we're going to have to reclassify the operating cash flows that we give you. In other words, there's no point in continuing to combine Alaska and lower 48 we'll separate it for you. Also, the Alaska I'm going to give you includes our previous presentation which includes peak and AIC and you can see that that's in manufacturing in the breakout that we have. And we'll, by the next report, Wheeling have all this clarify and explained.

Alaska had an extremely strong quarter as exploratory drilling and the attendant of high stroke building and other profitable buildings for peak and AIC hit a very high note.

Alaska, a however, is becoming a more seasonable market with strong winter explanation and relatively less year-round development drilling. For example, I'll give you the rig count for the fourth quarter first quarter and what we see immediately ahead anyway, and that isn't even beginning to explain what the variation in profitability. Q4 we had 7.7 rigs Q1 8.7 rigs and as far as we can see for the next quarter we'll be about the same as the first quarter.

However, the operating cash flow and this case as we told you includes peak oil field service and AIC, went from 10 million dollars in the fourth quarter to 23.3 million dollars in the first quarter and I think that that's going to be not I can tell you that that's going to be seasonably lower in the second quarter.

I think the points to mention here of potential interest, the big upside I see here or we see is that there's almost no activity on the viscous oil (ph) front and there's tremendous potential there for three, four, five rigs activity on this viscous is shallow, heavy crude oil which is viscous, and it's all over the North Slope.

And I think it's very economical. It's a little tougher to do when for example, BP told us they're using 16 dollar oil and 270 gas for their worldwide E&P budgets, but even under those circumstance, once the players figure out the optimum way to complete these goals, there will be a lot more drilling.

But apart from that we see nothing super optimistic in the near-term.

Canada, the situation is totally different. Q4 we went from 30 rigs to 59 rigs in Q1. At the risk of making a prediction that we don't generally do or my guess is that Q1 '04 we're up to 65, 70 rigs. This is out of a fleet of 80, which we will augment by internal growth.

The gross margins in the fourth quarter were 4400 per day, this is U.S. dollars per day and in the first quarter were 5100. This compares with a number that was as high as I believe 57 hundred in the best quarter in 2002, same in the first quarter, 2002. And I think it will get higher, part of the reason was that we had such exposed -- we trying to go from 20 rigs from 70 rig, actually got up to a peak of I think 64 rigs. But the whole industry and Nabors as well were into the winter season with unutilized rigs and there was summer and fall pricing for those rigs which hopefully won't be case next time and I think next time is the sequential quarters to come. The servicing business is also doing pretty well.

We went from Q4 of 71,000 well servicing hours to 93,000 in the first quarter. And I think there's a good shot that those numbers get over a hundred. I don't know that I mentioned, I mentioned earlier the operating income, the operating income, operating cash flow. I'll repeat it here. Went from 13.9 to 33.3.

Some of the other things that are worth mentioning, are in the overall timing I think we were lucky. We actually have a gain that goes directly to our net worth in terms of the value of our Canadian assets, $43 million gain on our books. Most of it in the last three months. And we're, we have internally grown our recount there. We have two new rigs, an AC rig, rig 69 which has been operating for Sun Corp (ph), very satisfactory, that's a big rig 2,000 horsepower plus and it's under a four year contract and operator is very pleased and one or two operators who could have had it are not happy that they didn't get it. And we've got a small rig, i.e, a big double and 8,000 horsepower rig which is also going to be a state-of-the-(inaudible) rig.

Hopefully this one can move in 24 to 36 hours with all the advantages of an AC with a small AC top drive, et cetera. And this one going to go on a two year if it has not already been signed with one of our major customers who is also a U.S. customer.

Canada, is also not only growing but growing in profitability in leading the U.S., but also it's developing a market for its sister technology customers. We are developing and have one at OTC right now, 175 ton AC (inaudible) which will go to Canada and ultimately we could have significant number of applications right there.

Nabors Sterling USA, first I'll give you the operating cash flow and again we'll square away the numbers I'm giving you with what's reported now where Canada -- excuse me, NBUSA (ph) and Alaska combined and peak oil services are not combined in this part. NBUSA operating cash flow went from 16.2 to 14.1 quarter to quarter and the increase in activity just about offset the decrease in margin per rig per day.

And that margin went from 2200 to 1800 dollars per day. That includes a little bit of extra cost but those are real costs that are associated with increasing the number of rigs working. And I think, at least I hope, and I have a basis for thinking, that will prove to be our low per day margin. Even though we are now up to 139 rigs.

The summary story is that the good customers are drilling more and will drill more. We have a long-term contract with a couple of state-of-the-art rigs. I think the best in the United States, the most sophisticated, the most economical with one of our best customers and those two rigs will go to work in the rockies, one next month and one a couple of months thereafter.

Our overall efficiency is in improving. I think, for example, in, we're a day-and-a-half to two days off our rig moves. So this recession with its competition has done us some long-term good in my view. We're also really upgrading two areas. One, our top end rigs are getting more to the state-of-the-art, not only in rig moves, but in every other aspect. And we're emphasizing increased marketing on the smaller operators where we don't traditionally have as good a position as we do with the bigger interactives.

I think I'll mention safety, although we had one bad accident, we only had two accidents, lost time accidents in the whole year. And we have had excellent records with -- and we have in NBUSA and also our work over company have ten, 2000 U.S. block hours and when you get down to one or two and hopefully zero lost time accidents with that many million hours it's we're doing something right.

On a well servicing side, we continue to do pretty well. Cash flow from operations went from 13.2 million dollars to 15.1. The rig hours went from 250 to 274. We have modestly improving --have modestly improving rates in that period and I think there's every reason to believe we'll continue to grow in profitability and all the other metrics here are pretty good as far as returns on assets around that sort of thing.

Here again, I mentioned a second ago, the safety record is mainly good. We had essentially ten 200,000 power units almost 2 million hours. We had five lost times accidents for a total of 17 incidents. .5 LTA rate (inaudible), I.7 which is getting to where we like to.

As I mentioned earlier international much better shape than quarter resales indicate. I think the rig count doesn't even come close to explaining what's going on there, but you know, the rig count we gave you at Q4 was 28.8, Q1 was 28.1.

But as I said earlier, we're committed to the -- and we'll be embarrassed if we don't deliver at least a 30 percent increase next quarter in operating cash flow and a 60 percent increase by couple of quarters thereafter.

Some of the things that occurred were we had a couple of bad tropical storms in the, I guess it was fourth quarter and first quarter which pretty severely delayed our operations in Mexico.

Whatever that hit was, we've taken it, and the operations in Mexico will get $4 million operating income better next quarter and $5 million in the subsequent quarters just in terms of rigs that are already in most cases, five of the rigs are working now and fifth one what about working within a month.

We've also done really well in Trinidad, where we bought a rig (inaudible) We bought a Jackup that we thought was ideally suited for the Persian Gulf, Arabian Gulf and the HP I guess Saudi Arabia the rig and they liked it so much they moved it to Trinidad on a two year contract at pretty good rates.

And I guess with all the rigs that were idle in the Gulf at the time the guys must have done something pretty right. That's manifesting itself as we go down the road. In Qatar we have the deal on 8 and fortunately during quarter that not only had some down time but on very low rates in a workover mode. I think that will change.

I think in West Africa, we had some changeover problems which I think will be fixed by this quarter and the possibility of putting our concept of a tender in there which can enhance that.

I think while I'm on the subject of things that are going okay in changes, I think I should mention Saudi Arabia which we are by far the biggest driller and you know, our operating income there is very, very high. You know, it's like a 50 million dollar a year business for us and it has been good and our reputation is improving. While there are no dramatic changes there, it's worth mentioning.

India, we've got one rig coming up for sure which will be pretty attractive and another rig following thereafter where we in effect marketing super sundown to replace Jack ups in the market.

In Malaysia, we have the rig working successfully and another one will come shortly.

In general, there are lots of things cooking. We saw in the public that it was announced that we're competing with some other folks for some local business out in Russia. That's not the only thing we're competing for in Russia. One thing is an outfit like that might need a bunch of rigs, might need qualified crews, might look at a balance sheet and some other things to supply and support and move them from a century ago to the cutting edge of efficiency, we're a logical candidate.

That also might apply to Iraq, although whether it's workover or drilling, I think we're capable of doing both and I think we'll be in the picture there if as of when a picture evolves.

In the offshore, that was --pretty dramatic downturn Q4 versus Q1. Almost entirely related to the workover Jackups. We went from three rig to one rig in workover Jackups and we went from 12 million overall in the Nabors offshore corporation to 1.1 million. Part of that was fewer rig activities notice first quarter, mainly as Jackups and part of it was 6 million of business interruption proceeds or proceeds that we collected in the fourth quarter.

I think the short-term, I don't really vane great visibility about the shallow Gulf in terms of workover Jackups. A little bit of visibility on the sundowners and supersundowners, but where we look pretty decent is in the rigs that we have that will be work on Spars.

So we have three or four rigs that are under contract now that will go on Spars sometime in the relatively near future and we have at least two rigs which we will build from scratch for long-term contracts. And with respect to the former, they're, i.e., the contracts that are existing four outfits like, Exxon, Andocko (ph), Permgate (ph), good customers and good jobs, some of those, most of those collecting stand by right now. We're also talking about two new builds, mods (ph) which would go on Spars, 200 in 2001, one for Conco (ph), one for Americaki (ph), and the Americaki one is designed to work in Malaysia after the Gulf I won't quantify any of this, but I would say the Spar type activity is looking good and we'll do okay in that, all-(inaudible) will have capital with it.

Let me talk about C margins (ph) for just a second. It's doing pretty well, operating cash flow roughly 4 1/2 million dollars, essentially a little bit more than it was in the fourth quarter. And we think it might be a million dollars more. I think the important thing is the design vessels we have, the super 200s are really good because it's a pretty poor market we have 90 percent utilization, the other thing worth mentioning here is despite the fact that operating cash flows equals operating income cap-ex has been essentially .

You may recall in Mexico and other inter-company synergies.

I won't spend any time here on our manufacturing operations except to say that they're doing well in poor markets and the synergies among them is improving and synergies between them and units like I said Canada with the top drives, Canada also with the instrumentation using Ryan (ph) and things like that.

Depreciation and cap-ex will have $225 million depreciation this year. The cap-ex could be a million, a million and a quarter, or more. And part of that would be maybe 20 million for the new build platform rigs or even a little bit more for the U.S. Gulf that I mentioned a second ago.

We will be building a Jackup from a purchased hull and a lot of enhancement going into these international product projects that we talked about.

In the first quarter, we had cap-ex of 80 million working capital incremental of 70 million to fund the increased growth and we had sources of funds of $110 million so we only had to pull down cash of $40 million. The balance sheet still is very strong as of March 31st, when he $1.3 million some cash.

Subsequently, we paid off 42 million of I guess it's pool A to 5 A debt. There's a probability that we'll get put -- we have almost five hundred million, 490-something million dollars of putable (ph) convertible bonds that can be put to us in June of this year.

And you know, if the price is where it is now or higher, it's unlikely that it will all get put. And you know if it does get put it t will get put, but I think the market is such that we can easily replace, if it's put and we pay it off, which we will do if it's put in cash, we can easily replace those funds should we desire to do so.

In summary, and I'm sorry it's taken a little bit longer than I would have liked so I'll make my summary brief. We're as bullish as we can be. You've heard our story as a North American gas picture. I think what's actually happening is literally today confirming that in pretty strong terms I think our international operating united is going to provide the non North American gas growth that we've talked about and we'll start seeing it this year and I'm really pleased with the synergy between other operating units which I think is paying often for us and will do so in the future. That covers my prepared remarks. Doesn't leave any time for questions. Thank you guys, for showing up.

Actually, operator, we have a little time for questions. But if you could initiate the question and answer period. Thanks.

Thank you. Ladies and gentlemen, if you would like to register please press one, followed by the one on your touch tone telephone. If your question has been answered and you would like to withdraw your registration please hit the one followed by the three. If you're using a speaker phone, please lift the handset before asking your question.

Our first question comes from the line of James Wicklund with Banc of America Securities. Please go ahead with your question.

Good morning, Gene.

Hi, Jim.

You know, you're optimistic debt rates are moving up. Let's talk about cost because you live for margin, so were do we. We're hearing that insurance costs are going up a decent amount and personnel comforts are going up a decent amount. Can you talk about that for a minute?

The insurance costs you're exactly right, but I think it's more accurate to sat insurance costs have already gone up a pretty substantial amounts

So they're reflected in your numbers.

They're reflected on our numbers. On ongoing basis, ours is March 31 to April 1st. I think this year we'll be not much different and hopefully even a little better than last year. Last year was up, oh, about 30-odd percent compared to the previous year, so that's in the numbers. Not good, but we're working at it pretty diligently and I think this increase will be, if any this year, will be pretty small. On the labor, we've gone back up. We had come down during this down time in NBUSA's operations we're back up and we've essentially passed through the increased cost of those areas where we had in fact cut rates which wasn't every place, but a significant amount (inaudible). 485. Substantial increase and I guess that's through already and life will go on.

So the 485, that's not actually an increase really in day rates, that's a pass along cost but it does have an impact on the margins, is that right.

Yeah, but what I quoted for you is marches including that.

Right, okay.

In general, almost without exception our contracts provide for pass-through wage increases.

Okay. Thank you, Gene.

Thank you, Jim.

Our next question comes from the line of Scott Gill from Simmons and Company International.

Good morning, Gene.

Hi, Scott.

Gene, if you could talk a little bit about the lower 48 market with your optimistic outlook here for kind of increasing one rig per week, what we're seeing from some of your competition would lend some to believe that day rate improvement is just around the corner. Talk to us about how much you see day rates improving through the course of '03 and kind of the pace of those day rate improvements?

We actually are projecting that there will be some improvement, it won't be super dramatic, it won't be anything comparable to what happened at the last cycle comparable rig quantity utilization levels because there are a whole bunch maybe 250 rigs more available this time than there were a couple three years ago.

But we see the situation improving pretty gradually. We'll go on with it. We are not going to go on with, if you ask are we going to sacrifice price for quantity or quantity for price or any of that stuff? We'll go with the market. I think I've said elsewhere and I'll repeat it again, firstly, pretty obviously, price not going to go up as fast as they did last time because capacity is here now and it wasn't there last time.

Secondly, if it ever gets to the hallelujah day, I think there will be lower than they were at the peak last time because I think they got too high for anybody's good last time.

Okay. Gene, would you care to venture a guess where you think cash margins in the lower 48 might be in the fourth quarter of this year?

No, we do have internal projections, but it's kind of tough. And comparing apples and oranges. For example, some of our operators, some of our best operators, you know, they have special costs in terms of safety and productivity and various and sun dry things. That can be a thousand dollars a day difference among operators in terms of what they need. So you've got to measure productivity, but I would rather not project.

My last question, a follow up to Jim's question on labor costs, what are you seeing in terms of labor shortages in terms of the U.S. or Canadian markets as you have an outlook here to put more rigs to work?

I think the thing that, I'll go back to, is we went in the lower 48 from 73 rigs to 263 rigs last time and while we were doing that we improved our safety statistics which says something in terms of about the accruing, but I think the market works.

Last time around people could say correctly that you know a guy gets paid more at Wal-Mart than working on our rigs, that's no longer true. I think we had difficulty in Canada, we being the industry, we Nabors because we went from a dead stop November to getting 100 percent utilization in January or February and we couldn't do that. But I think with ample lead time it's not going to be simple. I'm not going to say things happen automatically, but we pay guys a lot of money to handle these problems and I'm confident that not only the market works, but our guys will be able to cope with it.

Thank you.

Right.

Our next question comes from the line of Kevin Simpson with Miller Tabic (ph). Please go ahead with your question.

Hi.

Hi, Kevin.

Couple of questions. One just to get into the margins in the first quarter, Gene, you mentioned some incremental extra costs or you know being you know being absorbed being part of you know one of the factors there. Can you quantify what that meant? Was it minimal or was it enough to you know maybe average out 100 or up to 200 dollars a day?

I'll tell you what we tell our guys, you always have more rigs on, by definition, the incremental rigs are not going to be up, that's pretty obvious and obviously they're going to maintenance costs because they haven't been working for a while. That's no excuse. Our guys think that is deminimus (ph). I'm just saying for you it could have been a little bit higher, you know, on a steady state basis, that's all. There were other things we could have said in the first part of the year we paid some of the unemployment costs for the whole year, all those little things, the guys tell me, but we don't listen to it.

Okay. The other aspect of the U.S. I was wondering about is of the rigs going back to work is that miscued towards SCRs and is that going to be a factor in you know marches going forward in a positive way or is it more, you know, kind of skewed the other way towards the, you know, the mechanical side with rigs that are not really, where you don't necessarily have a comparative advantage?

No, I don't have the numbers right in front of me, but I think it's been a lot of that, i.e., the shallow stuff where we don't have a big competitive advantage, but I think you know, combination of I think and hope. I think industry wisdom is that we're going to have to be doing deeper more sophisticated rigs, wells, using more sophisticated rigs and I think if you look at the horizontal directional wells.

You look at what's happening Canada on the same story, I think it's going to move in our direction. And as you know, specifically, for example, in Canada, we have like a fraction of the percent of the singles. And we have 13 percent position overall right. We have maybe a third or a little bit more of the rigs capable of doing more than a 1200 feet, if I didn't mention it before, for example, I'll mention that we're introducing a new 175 horsepower AC top drive in Canada, we could maybe use ten of them on our rig, so that's a manifestation of the stuff other than the cookie cutter shallow rigs. Although a lot of it right now is and that's why some of our competitors who don't or at least one of them, large competitors who doesn't have the kind of fleet we vi SCR rigs and top fleet is doing pretty well right now.

On Canada, the there have been -- you talked, you know, your kind of out forecast for 1Q '04, there had been some speculation there would be a better seasonal trough. So far that doesn't look to be the case. I'm just wondering what you guys are seeing for the June quarter and then what kind of visibility do you have for you know this talked about ramp up in 3 Q and 4 Q.

Firstly, Kevin, we don't have any experience with seasonality in Canada. We looked a some industry data and the mean seasonal factor for the second quarter is 30 percent of the first quarter. That's the average but it has a lot of variation. 30 percent of what did we use 60 rigs, would be 18 rigs and I think our guys feel we're going to do much better than that. So whether or not it's you know easier transition to breakup or whether there's more demand or what, I think basically we're going to be doing better than the typical 30 percent of the first quarter in the second quarter and I think you know it will be increasingly --. The only reason I mentioned the first quarter is to point out I thought I thought we -- as good as the first quarter was this year I think it's going to get better next year, I think markedly so. I think the Canadian connection the seasonality is what led us to spend a little bit of time with you on why the second quarter will be lower.

Right. And one last question. Are you forecasting a 30 percent increase in international operating earnings for 2 Q.

Yes.

I just wanted to make sure I got it right. Thank you very much, that's it for me.

Operating cash flow, Kevin.

Operating cash flow, right. That's it for me.

Thanks.

Our next question comes from the line of Jeff Keebers (ph) with Smith Barn. Please go ahead with your question.

Good morning. Can we go back to U.S. a offshore, obviously the decline you mentioned is exacerbated by the business interruption settlement but still fairly steep. Were there any sort of unusual elements in that or is this what we should be looking for more as the baseline until visibility improves?

Eugene Isenberg I think really we're at least two categories. One is the shallow Gulf, our shallow Gulf which doesn't include the deep gas 25,000 deep below the shallow Gulf and the Spar stuff, which is the deep stuff that we're involved in which is spars and the later is going to be quite (inaudible) bluntly is not good. I think I almost would say Terry doesn't get offended that the best thing about the shallow Gulf so far has been we've moved eight of those rigs internationally, mostly rigs. But it could come, I hope it comes. Fortunately, it didn't affect us too much, Jeff, the shallow stuff. And I don't see we can get any lower. Venezuela can't get any lower for us either. So I just don't have an opinion. I hope it gets better, because I think it will improve the overall market perception of what's happening this cycle. Because people say if gas is the story what's happening with the Gulf and I don't know the answer to that.

The Spar, you gave some detail on the Spar contracts, when will those start to hit the income statement?

Some of them, there are four of them that are on standbys now and in the remainder of this year they go on full pay. In terms of the new builds. What are they likely -- first half next year, early next year.

Okay. Let's go over to a non-operating item. The taxes still have me completely baffled here. Could you maybe explain a little bit about what happened on the tax line this quarter?

Yeah. I mean, it's not in our interest to make a federal case out of this, because literally it has been a federal case. But basically, we're in a position now that you know every other company in, which is a foreign owned company is, and that includes a bunch of companies that inverted like weather fit Noble Transocean and other companies that are in fact foreign companies and one of the things that happens is you can reduce to some modest degree, I'll take the adjective out, to some degree (inaudible).

In our case we knocked out a bunch of deferred tax. Is that what happened? Because of the ability to incur interest costs that averted company can.

And is this going to keep going on in the -- just really thinking from a narrow modeling perspective, do we have this tax credit in the quarter as a kind of a catch-up or is there something that's going to keep going on?

I think, let me tell you this. As the U.S. income gets bigger, the amount of tax are going to go up.

Okay.

Because this is kind of a fixed benefit. As the international income away from Canada goes up, tax won't go up so much because we have those pretty low to start with and it's becoming a non U.S. company gives us protection against contingent U.S. taxes on foreign operations. And the Canadian operations are at a lower, but still high tax rate. In other words, the Canadians have lowered their federal and provincial taxes and we have some taxes that are advantageous tax wise and that's a problem. So incrementally this benefit is sort of a one-time thing. In other words, the inter-company transaction is going to change as U.S. earnings go up, we'll have more earnings and more incremental taxes in the U.S. that would be for example at 35 percent.

5 percent internationally --do you have a number. Yeah incremental tax rate. Canada is probably 30.

Okay. All right. That's helpful. And then I would like to come back to the comment you made about directing an increased amount of attention towards your smaller customers. And maybe elaborate on that a little bit, what actions are you taking, how might we see that manifest in the financial results going forward?

Yeah, well, I think what I said in connection Alaska for example for BP, you know, God bless them, I'm sure they're optimizing, but basically they're not really operating anywhere near as intensely in the lower 48 as they did before. And the same thing is true from Exxon. So they're doing less. I think Shell may be an exception. They look like they want to increase their exposure to North American gas. But away from that, the stuff is going down, it's going from the big majors to the big independents, even the big independents are doing a little less here. They have options in Canada, they have some options offshore. I think and a lot of the spending has been with the onesies (ph), twosies (ph), where cash flow can be converted pretty quickly to drilling and they've been doing it.

And I think the manifestation will be to the extent we suck said, two ways, the more important way for us to succeed is if the drilling gets deeper and more complicated rigs are needed and we have, we're in the sweet spot with respect to that when it happens. And that will be increased market position and probably increased margins and then on the side that you're talking about specifically, you know, it's got to be increased market position at not super high rates but you know, high enough rates so it won't kill our average margin.

Yeah, you're kind of touching on what I was trying to get a handle on is kind of what is --what does Nabors need to do to address that market that has not been such a focus in the past? Is it --.

I think more marketing.

Okay. To the point that it has an impact on your costs or -- I mean are we going to see -- I'm just trying to get an idea of if this is --.

Let me tell you 600 horsepower mechanical rig if we pick up a few of these will not be the same margin as the 3,000 horsepower so the question is it's like -- it's what the incremental story is. If we're happy with 1500 dollars a day in a given market or 1800 whatever it is we'll do it regardless of what it does to the average and if we're not we won't.

Okay. And this is a reasonably new initiative on Nabors' part?

Relatively new, yes.

Okay. Great. Thanks very much.

All right.

Our next question comes from the line of Nell Jacobs (ph) with Boultry (ph) Capital. Please go head with your question.

My question has been answered thank you.

Next question comes from John Woodbury from Cobol Capital. Please go ahead with your question.

Hi, Gene. What are you using for maintenance cap-ex for this year? And can you talk a little bit about what you sort of anticipate you tend to use your free cash for? It looks like net that was up a little bit this quarter but it looks like that was seasonal.

Yeah, I think it was. I think basically we had business increases working capital went up in this first quarter went up 70 million. Cap-ex was 80 million, which is about 55 or 54 depreciation for the quarter and we had 100, 110 of cash available so we pulled down 40 million. I think the two things we don't really do big time projections on if things get really good there's going ton an incremental working capital which is the best way I would like to use cash or one of the better ways to use cash. The cap-ex as I told you the maintenance cap-ex is 60, 70 percent -- 60 percent of depreciation.

Then we have enhancement. Two kinds of enhancements, one of the kinds of enhancements is to get the rigs ready to work for Mexico which is 6, 7, 8 million a pop? That's enhancement. And you know, that's a pretty big number. That goes from putting top drives on the rigs or some of the things that Larry is putting on his state-of-the-art rigs for our top grade U.S. customers. And you know, basically, as I said, I think the worst case that I can -- well the present case that I can see which is a bad case in terms of using capital but a good case in terms of opportunities is that we would have about 125 million more cap-ex than our depreciation and that includes 55 million for a Jackup 300 put independent cantilever Jackup.

So for maintenance purposes assume about 120 and for the balance of the year using your capital as a driven response to the market place?

Except to be really 100 percent accurate, I think some part of that enhancing capital should be maintenance. Even though technically fits the category of enhancement, you know, to be a first rate driller you have to have some of these enhancements all the time. So I would say instead of 60, make it 80 or 85 percent. 80 percent of the depreciation again 223, 225 million in depreciation. Say 80 to 85 percent is maintenance plus enhancements we're going to make regardless of specific market conditions.

So 160 is pretty fair?

And the rest is you know strictly market driven. You know, generally the more in a stuff is provided it's not an overrun of budget the better we like.

Terrific. Thanks very much.

I am showing no further questions at this time. Please continue.

Well, operator if there's no further questions, we'll just wind the call up for today then.

Okay. Actually, we do have two questions. George Gaspar with R.W Baird. Please go ahead with your question.

George?

Yes, drop. In the gross margin in the U.S. from 2200 a day to 1800, what confuses me about it is you did pretty well in the fourth quarter if I recall, the margin deterioration in the fourth quarter was very narrow relative to the third quarter last year and the recount was hitting its low in the fourth quarter on quite frankly pretty weak going into the end of the year. And you're coming down through here with 400 dollar decline. Can you give us some more color on why that unfolded in that particular way? Was there something unusual about the March that influenced that that might not --.

: No, I think, I think that you can say that there was not a decrease in leading edge rates in the first quarter. I think, for example, we had a whole bunch of really attractive rates in California, which rigs contracts rolled over, you know, throughout the year, I don't know when they finally ended, but we had 3,000 horsepower rigs probably working in the part of the fourth quarter with day rates marches that were set probably 8 and 9 months ago with top drives and special DOTs and margins that probably six eight rigs in California right now equal so I think it was largely that, George. And I think in the long haul, the great hope is that someday that deeper stuff comes back, whether hopefully in California but any place will make us happy.

Okay. Thank you.

Thank you.

There are no further questions at this time. Please continue.

Well, operator, no further questions, we're about reaching our time limit anyway, so we'll just wind the call up. We want to thank everybody for participating today, as always, if you have any questions, please feel free to call us at any time

Ladies and gentlemen that does conclude your conference call for today. We thank you for your participation and ask that you please disconnect your line