Nabors Industries Ltd (NBR) 2015 Q2 法說會逐字稿

Good morning, and welcome to the Nabors Industries second-quarter 2015 earnings conference call.

(Operator Instructions)

I would now like to turn the conference over to Denny Smith. Please go ahead, sir.

Good morning, everyone, and thank you for joining Nabors earnings teleconference. Today we will follow our customary format, with Chairman, President and Chief Executive Officer, Tony Petrello; and William Restrepo, our Chief Financial Officer, providing our perspectives on the quarter's results, along with some insight into what we are seeing in our markets, and how we expect Nabors to perform in these markets.

In support of these remarks, we have posted some slides to our website, which you can access to follow along with the presentation, if you desire. They are accessible in two ways. One, if your participating in our webcast, they are available as a download within the webcast. Alternatively, you can download the slides from within the investor relations section of Nabors.com, under the events calendar submenu, where you will find them listed in supporting materials under the conference file listing. Instructions for the replay are posted on the website.

With us today in addition to Tony, William, and myself are Laura Doerre, our General Counsel; Siggi Meissner, our Head of Global Drilling Operations; and Chris Papouras, our President of the newly-formed Nabors Drilling Solutions.

Since much of our commentary today will concern our expectations of the future, they may constitute forward-looking statements within the meaning of the Securities and Exchange Act of 1933, and the Securities Exchange Act of 1934. Such forward-looking statements are subject to certain risk and uncertainties, as disclosed by Nabors from time to time in its filings with the Securities and Exchange Commission. As a result of these factors, our actual results may differ materially from those indicated or implied by such forward-looking statements.

Also during the call, we will discuss certain non-GAAP financial measures, such as adjusted EBITDA and adjusted income. We have posted to the investor relations website a reconciliation of these non-GAAP financial measures to the most recently-comparable GAAP measures.

Now, I will turn the call over to Tony to begin.

Good morning, everyone. Welcome to the call.

We appreciate your participation as we review our results for the second quarter of 2015. As Denny mentioned, we have posted the accompanying presentation slides on our website. I will begin with a brief summary, and then comment on our performance in the quarter. William will follow with the financial review of the second quarter. I will then wrap up and take some questions.

For the second quarter, Nabors reported revenue of $862 million, adjusted EBITDA for the quarter was $288 million, and income before taxes was $25 million. Fully diluted earnings per share from continuing operations was a loss of $0.14, which included income tax expense of $0.23 per share. The income tax rate in the second quarter is not representative of our estimated full-year effective rates. William will discuss the income taxes in his remarks.

Moving to C&J, C&J filed a registration statement for the shares Nabors received as consideration. That was a pro forma filing required pursuant to the merger agreement. These shares are subject to a lock-up through September. As for our intentions beyond the lock-up period, we entered the transaction with C&J with the intent of realizing the full value of our C&P assets over the long-term through our ownership of C&J shares.

Since the close of the merger, the C&J management team has focused intently on realizing synergies from the transaction. We are fully supportive of these efforts during this transition period. We continue to believe the merger will unlock real value, and create a new leader in this space. We are committed to helping C&J realize that goal, and to realize long-term value for our shareholders.

Now to the details, our segment results for the quarter demonstrate the value of our portfolio. Although declining from the record-setting performance in the first quarter, the EBITDA in our international business exceeded that of the rest of the segments combined. I think it is noteworthy that second-quarter EBITDA for that unit was still higher than in any quarter during 2014.

The results in US drilling, especially in the lower 48, reflected the downturn in the US rig count. Our Alaska business was resilient, even though it was down seasonally. The Canadian market remains exceedingly challenged, as our results illustrate. Finally, decreased demand and lower pricing impacted numbers in other rig services.

Before I detail each segment, I will mention a few significant points. Since the last conference call, we have deployed the first of the previously-announced -X rigs into Columbia. All three new rigs for Saudi Arabia are now in country. These new build programs are on time and on budget, a testament to our expertise in large scale new build programs. The -X rigs and the rigs in the Kingdom should generate revenue and income in the second half of the year. The remaining new build rigs destined for Kazakhstan and the rig for Alaska are still under construction, again, on time and on budget.

The testing of our new rotary steerable tool is progressing well. We anticipate the first field test in the US will commence by the end of the third quarter. We remain excited about the potential for this tool, as we broaden our capabilities in downhole technology. Toward the end of the second quarter, we purchased our partner's interest in our joint venture in Saudi Arabia for $106 million. This transaction demonstrates our sustained long-term commitment to the Kingdom of Saudi Arabia, as well as to our relationship with Saudi Aramco.

Now to the performance review, for the entire Company, second-quarter revenue of $862 million declined sequentially by approximately $193 million. This comparison excludes the impact of our completion of production services segment in the March quarter. Most of our businesses posted lower results, due primarily to the rapid decline in North American rig counts.

Adjusted EBITDA in the second quarter totaled $288 million. This was down from $379 million in the first quarter, again without the CMP business. EBITDA in each segment declined in the quarter. Pricing and volume declines, along with seasonality, impacted second-quarter profitability.

I will now cover the key performance metrics in the second quarter, and then focus on our outlook. First, the US drilling business. The quarterly average Baker Hughes land rig count declined by 472 rigs, or 35%. Our lower 48 rig years declined to 103, or 31%. Daily gross margin in the lower 48 increased to $11,205 from $11,134 in Q1.

Both of these figures included some level of lump sum early termination revenue attributable to future periods. Normalized, there was a sequential decline in daily rig margin of $334. Results in the US offshore in Alaska businesses declined seasonally. Compared to the same quarter last year, we picked up almost two full rig years in Alaska. In our offshore business, the second quarter benefited from higher than expected day rates and lower operating expenses.

Utilization in the lower 48 varies significantly by rig type, with the highest utilization in our most capable rigs. At the end of the second quarter, over 90% of our PACE-X rigs were working or stacked on rate. For our B rigs, which were the immediate predecessor to the -X rig utilization was 55%. All of our B rigs are located in the Bakken or Rockies. Among our major classes of AC rigs, utilization is most challenged in our F rigs. Utilization in our FCR fleet, which had the lowest contractual coverage entering the downturn, remains quite low.

In Canada, the normal seasonal decline was exacerbated by the severe contraction in drilling overall. EBITDA in this segment was nominally positive. That result was better than we expected entering the quarter. In our international segment, the increase in revenue is largely to be to both to the inclusion of revenue associated with the Saudi JV.

On our previous earnings call, we telegraphed and expected the decline in utilization; however, the three-unit contraction in rig years was a bit smaller than we expected. In some instances, we are seeing customers retain rigs after notifying us of their intent to release, or they are extending rigs on a short-term basis. Average daily cash margin in the international business narrowed by approximately $1,600, principally reflecting the initial impact of rig release.

In our rig services segment, which consists of Canrig and the Ryan directional business, results were down as drilling activity and the industry's new build activity both declined. Canrig third party top drive shipments dropped by almost 40%, while internal top drive revenues were down by a third.

Now, I will focus on our outlook. For some time I have used the profile of a bathtub to describe the slope of the expected recovery in drilling activity and rig count. At this point, I see no reason to change that outlook. The run-up in WTI toward $60 offered some hope for increases in oilfield activity in the second half, and in fact, the lower 48 rig count is now some 24 rigs above its June bottom. WTI has recently retreated back below $50. Assuming it remains at these levels, a second-half activity increase now seems less likely.

I will start my segment outlook comments with US drilling. In the lower 48, we exited the quarter with 97 rigs on revenue, including 10 rigs stacked on rate. Those counts now stand at 91 total, including 7 stacked on rate. At this point, we see third-quarter rig years somewhere between the current level and the second-quarter exit point.

Looking at daily rig margin, we do not see as big a decline as expected in the second quarter, due mainly to favorable mix and decisive action on direct cost management. For the third quarter, we could see a decline of more than $1500 per day. The market picture remains disparate. We see a lot of variation in contract terms across customers, and in their particular requirements.

Recently, the deterioration in rates and demand had shown signs of moderating. This could change with recent drops in commodity prices, if sustained. Some of the improvement we have seen in the market has come at the lower end, both among rig types and customer size. We typically do not focus on this segment of the market.

Notwithstanding this view, our posture towards new builds for the lower 48 market is unchanged. We deployed two -X rigs in the quarter, including one for Colombia. We plan to deploy six -X rigs in the third quarter, including five for Colombia. In the fourth quarter, we have one more contracted -X rig scheduled to deploy. Our build plan includes two units to be completed during 2015 that do not currently have contracts.

In addition, we will likely continue building approximately one rig per month, into the early part of 2016. At this point we are comfortable with this plan, especially considering the long lead time component inventory, which we procured late last year. As you would expect, we reevaluate this regularly.

Let me address the offshore business. As you know, the platform for the Bigfoot project floated out in March. At this time, we expected the rig to commence its full day rate before the end of 2015. In light of the issues with the platform's tendance, we now anticipate an extended delay before the rig is on location. We are in discussions with our customer about the ramifications of this event. Aside from this project, we expect normal seasonality in this business through the hurricane season.

In our Alaska operations, the third quarter is normally seasonally the weakest. This should be the case this year, as well. Our new rig currently under discussion for work on the North Slope is scheduled to deploy in the second half of 2016.

Our Canada business should ramp up seasonally in the third quarter. We are currently running 18 rigs in this market. As additional rigs return to work, we expect margin to erode somewhat. The Canadian drilling market remains depressed. We see limited prospects for a meaningful improvement until commodity prices improve.

For our international segment, the decline in utilization we have been expecting has lagged. It is likely to show over the next two quarters. In the third quarter, rig start-ups in Libya and Saudi Arabia will likely be offset by the completion of contracts in several markets. Notably, the conclusion of these projects allows us to exit smaller markets, including Australia, Bahrain, Romania, and Yemen, and enhance our focus on long-term, stable markets.

In the immediate future, we expect third-quarter daily rig margins to remain roughly flat. The full effect of rig concessions is reflected in our third-quarter expectations. The full-quarter impact of the previously-mentioned start-ups should support increased activity and margins in the fourth quarter.

In our rig services segment, revenue should hold flat. The margin profile of both businesses in this segment continues to deteriorate, leading to sequentially lower operating income. Canrig's third-quarter results will be helped by some equipment shipments that slipped into the third quarter. Recently, we have seen an increase in inquiries and bidding activity; however, the decline in drilling activity and a lack of new builds on top of the reduced backlog will likely to continue to pressure margins.

To summarize, several factors could impact further our results in coming quarters. Even though rig counts appear to be stabilizing, rig revenues are likely to deteriorate. We have entered the phase of the cycle where average rig margins are resetting rapidly toward current spot market pricing and term contracts expire. The drilling market in Canada remains depressed, along with commodity prices. We expect modest seasonal improvement later this year; however, we expect negative year-over-year results throughout 2015.

Our rig on the Bigfoot platform in the US Gulf of Mexico remains on a mobile rate. We cannot currently predict when the rig will commence its full day rate. With half of the year under our belts, in our international segment, we still expect an improvement in full-year results over the prior year. We expect income will decline in the third quarter, with the potential for improvement in 2016. Finally, we remain committed to maintaining breakeven or better free cash flow.

We continuously scale our cost structure to the size of our operations. Our approach to capital spending is highly disciplined. These strategies should dampen the impact of the activity downturn, and better position the Company for an eventual upturn. This concludes my comments. Now, I will turn the call over to William, who will detail our financial results.

Thank you Tony, and thanks everybody, for joining us today.

Net income from continuing operations for the second quarter was a loss of $41.9 million, or $0.14 per diluted share. The quarter included income tax expense of $66.4 million, or $0.23 per share. The majority of this tax expense was the result of a change to our full-year forecast, that resulted in a $0.20 per share catch-up for the prior quarter.

Before further discussing the Company's second-quarter results, I would like to highlight three issues which impact distorts comparability of the operational trends of the Company. During my discussion, I will attempt more material to explain or remove the impact of these items. They include the following:

First, during the quarter, we bought out our partners in a previously non-consolidated joint venture in Saudi Arabia. Until now, we have reported our portion of the JV's net income under earnings from unconsolidated affiliates. This quarter, we have started to report all of our Saudi results on a consolidated basis. Consequently for the last month of the quarter, we have included both revenue and cost, in place of our share of the JV's net income.

Second, because C&J is currently dealing with the complexity of integrating accounting and IT for the NCPS business, we believe their reporting cycle is likely to be longer than ours during this transition. So, for the time being, we have decided to report C&J results with a one-quarter lag. In our second quarter, we booked a loss of $800,000 in earnings from unconsolidated affiliates on our income statement. This relates to our ownership stake on the earnings of C&J for the first-quarter period, following the closing of the transaction.

Similarly, our third-quarter results will include our proportionate share of C&J's second-quarter net income. Third, while the first quarter included revenue and cost for our completion and production business through the date of the transaction, the second quarter has no revenue cost from these segments.

Moving on to our results, revenue for the quarter of $862 million decreased by $192.4 million or 18.2%, as compared to the first quarter, excluding the impact of NCPS revenue. Although international revenue continued to increase sequentially by 2.9%, the increase was essentially a result of the full consolidation of our Saudi activity, and masks the impact of price concessions to several customers, as well as a 2.3% average reduction in active rigs.

Our revenue in the North American drilling market fell by 33%, driven by the current downturn, as well as seasonal factors in Canada, Alaska, and the Gulf of Mexico. Revenue for other rig services decreased by 30.2%, as building of new rigs has slowed considerably, and our Ryan services continue to trend down with a decrease in drilling activity in the lower 48.

The tough market conditions, which affected both volume and pricing, resulted in a $82 million sequential reduction in consolidated operating income for the quarter, excluding the CMP impact. Operating income margins for the Company of 8.1% fell by 630 basis points sequentially, of which an estimated 38 basis points came from the impact of the Saudi consolidation. Decremental margins adjusted for the Saudi JV and the CMP impact were approximately 37%. Targeted overhead reductions and direct cost management helped mitigate the impact of price and activity deterioration on margin erosion.

Now, I would like to comment on the initiatives we have in place to maintain our cash flow generation while staying free cash flow positive. First, we continue to apply strict controls on our capital expenditures. We remain on track to our 2015 capital expenditures of just over $900 million in our drilling-related businesses. For the second quarter, capital spending totaled just over $200 million.

Second, our efforts to contain our SG&A expenses remain in place. Through the first half of the year, we have already reduced our SG&A by about $43 million versus a six-month run rate of a 2014 fourth quarter. These cuts exclude the favorable impact of the C&J transaction, year-to-date severance costs, and the additional SG&A we have consolidated from the recent Saudi transaction. We anticipate the full-year impact of our reductions to exceed $80 million as compared to the Q4 2014 annualized run rate.

Third, our largest reductions in activity have occurred in the lower 48 and Canadian markets. A key component of our downturn management has been the alignment of our direct operating costs to the falling activity levels. Since the end of December, we have reduced our lower 48 staffing by 50%. During the second quarter, on a sequential basis, we reduced our direct costs in this market, including field support by 31.8%, in line with our average rig reduction of 30.6%.

In Canada, we reduced the rig cost sequentially by 58.3%, while rigs have dropped by 62.1%. The Canadian cost reductions were achieved despite the seasonal nature of this market, which is already building back up quickly, after the low point of the spring breakup. Finally, we have launched a second round of discussions with our vendors, as well as internal initiatives that together target a $120 million cost reduction over the next 12 months. This includes more centralized management of our spares inventories, now possible under our new organizational structure.

Given the uncertainty in the current environment, as well as potential opportunities to enhance our debt profile, and attractive investment opportunities that may arise, we recently upsized the revolving credit facility a second time to $2.2 billion. The facility has been upsized by a total of $700 million since the end of 2014. At the same time, we extended the expiration of the facility to 2020, and a narrower spread. We're very pleased to have closed on the revolver in the current environment. This transaction highlights our strong relationships with our banking group, as well as the confidence of our lenders in our future prospects.

I would now like to focus on the key metrics for our segments. Within the US drilling segment, our lower 48 daily operating margin increased by $71 to $11,205 per rig. That amount included $510 per rig in early termination payments for revenue that would have been earned in future periods.

Although we experienced sequential day rate erosion during the quarter, it was partially offset by direct cost management. Daily operating expenses for the fleet improved by nearly $400, a 3% reduction. While our EBITDA margins for the US drilling business actually improved by 110 basis points to 42.5%, operating income margins for our US business fell by 700 basis points to 10%, as segment HQ overhead and depreciation and idle assets continued to erode operating income.

In our international drilling business, a specific item weighed on our results. Customer bankruptcy cost the Company $5 million. Operating margins fell by 540 basis points to 18.2%, with the above bankruptcy costing us 110 basis points of the total. The remaining deterioration was driven mainly by the consolidation of the Saudi JV, with an estimated impact of 160 basis points, as well as by reduced pricing and a slightly lower rig count.

Our Canadian business entered its worst quarter of the year on a seasonal basis, and had negative operating income for the quarter, with our rig count averaging just below 10 rigs. EBITDA margins were at 17%. We expect results to recover sharply as our rig count moves up from a seasonal low. The rig services segment revenue fell by 30%, as land drilling activity slowed in the lower 48.

Canrig's equipment sales declined for both third-party customers and for Nabors, as rig building activity contracted. Although gross margins for both Canrig and Ryan held up, with segment gross margin falling only 370 basis points to 26%, the much lower volume, coupled with relatively stable R&D and other overhead expenses, resulted in slightly negative operating income.

Looking forward to Nabors as a whole, I would like to make a couple of comments on our future outlook. Our full-year effective income tax rate is now estimated at a low to mid-single-digit benefit on normalized pretax earnings, as the mix of our profitability has continued to shift from high tax locations towards lower tax jurisdictions. We thus expect to essentially reverse the first-half income tax expense during the second half. In terms of lower 48 activity, currently, the rig count is some 24 rigs above the low point, as for the rig data count.

Given the sustained reduction in drilling activity, we have also seen lower 48 production start to roll over. However, recent international events have had a negative impact on oil prices. We believe that stronger oil prices are required for rig count in the lower 48 to move materially upwards from its current level. Unless oil prices head back up towards the $60 mark, we would expect rig count to remain weak for the remainder of the year.

In this near-term unfavorable US environment, we have taken steps to protect our more sustainable international markets, as well as our Alaska and offshore activities. We also continue to enhance our financial flexibility. We continue to preserve our free cash flow through targeted cost management and CapEx reductions to restructure our Company in order to more efficiently meet our future challenges, to modernize our fleet with industry-leading pad-capable rigs, and to improve our technology in order to firmly position ourselves as leaders in drilling performance and drilling automation.

With that, I will turn the call back to Tony for his concluding remarks.

Thank you, William. I want to conclude my remarks this morning with a review of the four pillars that form the foundation of our operational strategy. We believe they are valid over the entire cycle, and in a wide variety of markets.

First, capitalize on the existing asset base. Nabors has a worldwide fleet of over 500 rigs. Our goal is to increase the returns on our existing assets, and we will do that. A prime example is our use of mass and substructures from idle high horsepower rigs, and higher specification units we have built for the Middle East.

Second, differentiate our service offering. We are realizing early success as we add more services to our rig offering. In addition, we are developing new model rigs for applications where we see the opportunity.

Third, improve operational excellence. I will give you two examples here. One, our safety record continues to progress. Thus far this year, we have improved on the record performance we set last year. Second, we continued to shorten our rig moving times between pads with our new -X rig, and we are replicating that across the fleet.

Finally, enhance our financial flexibility: as mentioned earlier we extended and upsized our revolver this quarter. This is just the latest in a series of steps we have taken over the past couple of years. We will focus on additional opportunities to increase the Company's cash generation and meaningfully impact our financial flexibility.

That concludes our remarks this morning. Thank you for your time. With that, I will take your questions.

(Operator Instructions)

Marshall Adkins, Raymond James.

Thanks for the thorough overview. I want to hear more about the Saudi situation. It seems like that's a big deal. It's in a really hot area, and you are apparently increasing your stake there. Tell us what it means for you, and how that came about, if you would.

Well, we are a long-term player there, as you know, for a long time. And the rules over the years have changed, where local partners are no longer necessary for your operating in the country, and it just came that we wanted to gain greater control over our local operation, and that was the motivation. We obviously see continued ramp up of activity over there. It's no secret about their ambitions on gas rates. As I've mentioned before, oil production, and I think internal consumption in the country is the big untold story, with the amount of oil that they are consuming internally, which then drives the need for gas, and their ambition on the gas rig increase in rig count over the next couple of years, we think is real. And therefore, we wanted to position ourselves to take advantage of that.

Okay. So it sounds like a pretty good deal. Some quick follow-up, unrelated. We're modeling a pretty big reduction in SG&A largely due to the C&J thing, and William, you gave some details on that. But you're clearly -- had a greater reduction in SG&A than we thought. Did I hear you correct that excluding the C&J, we're looking for an $80 million annualized type reduction in SG&A outside of, or in addition to what the C&J transaction would've given? Did I hear that correctly?

You heard that correctly, and I think we are on target, and we actually have ambitions of hopefully doing at least that well, if not better.

That pushes the fourth-quarter annualized rate.

Pushes the fourth quarter annualized rate, absolutely.

Right. Got it. Thanks.

That's been a high priority of ours, as you can see from the results, operationally, the past two quarters.

That certainly was upside surprise for us. Thanks.

Byron Pope, Tudor, Pickering & Holt.

I wasn't writing quite fast enough, but Tony and William, I think I heard one of you say that Q3 rig margin per day, as well as maybe in Q4 as well, flattish internationally. Is that what I heard?

Maybe a little down in third quarter, and fourth quarter, we think, once the deployments are fully operational, we should be back up. It's basically between contracts.

And then in thinking about rig years you mentioned, thinking about international rig years being down sequentially in Q3, but given your new builds coming on stream, it doesn't feel like that's going to be a dramatic fall-off as we think about the next couple of quarters. Is that fair?

Yes, our expectations, hopefully the balance, obviously, we can't project yet -- we have so little visibility on what we've been seeing in terms of -- anticipating in terms of the drop-off in international current rig years; but we think that what's been in the pipeline provides pretty good offset to it, so it should be a soft landing, no matter what happens.

Okay. And then last question for me, just on the US lower 48, in an environment where none of us has any good visibility on the back half of the year, could you just frame for us how many of your rigs are in term contracts, maybe in the back half of the year, and then order of magnitude following on into 2016?

Basically about, in this quarter I would say, of our current rig years about two-thirds are on contracts and by the second quarter of next year, it drops down to about 25%.

Great. Thanks, I appreciate it.

Robin Shoemaker, KeyBanc Capital Markets.

Thank you. Tony, I just wanted to get your sense of US rig demand from your customers. Obviously, you mentioned it was looking a little better, we're up 24 from the lowest point. But we've heard some other companies suggesting that with this recent drop in oil prices, we may not actually have seen the bottom on the US rig count. So from your interactions with the customers and what you are seeing on the horizon, do you think that we see a stable rig count at current levels, or a slight decrease or increase, just through the end of the year?

Right. I think obviously, this is grasping at straws here. If you go back in mid-May, I think there had been some expectation, maybe I think, starting to bounce a little bit by the end of the year. In fact, at that, point the oil price was about $57, and we actually had some customers coming to us, telling us they had plans to have a steady rollout of some progression of increase in rigs. Our most recent conversation the past week and updating for this conference call has been most of the operators talked about flat, and those people that had actually told us about some plans to increase are now going back, saying they need to reconfirm, given oil prices. Some other customers are talking about taking a couple of rigs down, so that is the latest feel for it.

So I would say we haven't heard yet a dramatic drop in rigs. I think some people are fine-tuning now in light of the reduction oil prices, and I think it's roughly a function of how long we would say in this $40 range. If so, I think there will be some dropping. As I said, we haven't heard about a wholesale change in plans, and most of the operators have basically posted, they're looking at flat right now. But again, all these things, every operator we know of, whatever their plans are, they're all being revisited regularly. So that's the latest story.

Right. Okay. So I wanted to just ask about your initial reads on -- you had an idea that C&J would perhaps have some greater international set of opportunities, that might be helped along by Nabors. And of course, you are doing pretty well internationally, especially in the Middle East. Is that process, not necessarily results, probably not much yet but is that process underway from the Nabors side of things?

Right now, I think C&J has been consumed with this market, first of all, getting this integration up and not losing a beat there, and lowering their cost structures, but that is part of our plan, and it's on our agenda to help support them. And as you rightly pointed out, there's a few countries that we are in, where I think we can actually get value, and we really believe, Josh and his management and asset base, is ideal for some of these markets, and we're committed to helping that happen, making that happen. So I would say so far, given where we are, it's only a few months since the merger, there's been a lot more higher things to do.

Besides that Tony, we actually have made progress on some of the core markets, directly support this effort to get people established.

Yes. In fact, I think we are actually supporting them getting registered for bids in certain countries, for example. Things like that.

Right. Good. Okay. Thank you.

Scott Gruber, Citigroup.

Given prevailing commodity prices, is it reasonable to assume that the rate relief you provided to customers abroad is likely to stick around next year? Is that fair?

I'm sorry, could you repeat the question?

The rate relief that you provided customers abroad for 2015, if the forward curve prevails, which is about $55 on Brent, should we expect those relief rates to stick around in 2016?

I think we have to deal with that when the time comes. Right now, those were made given the current environment, and the international market, you have to bear in mind, it's not a perfectly substitutable market. The difference is in the US today, there's a bunch of AC rigs stacked, even amongst the top four guys. In the international market today, there is virtually zero incremental utilization of rigs available, and that's a big difference. So in the Saudi market, if you want a deep gas rig, a new gas rig to do the deep gas drilling, it doesn't exist today. So that is a fact you have to take into account. That's why I don't think it's clear, the answer to your question right now.

Got it. Have you entered into any agreements in the US, to provide rate relief? One of your peers had entered a few of those.

We had some rollovers of contracts in the second quarter. We didn't have many really long-term contracts. I think maybe six months to a year on the extensions. And the extension rates were somewhere in the low 20s for AC rigs in second quarter, and around 20 on legacy rigs in the second quarter.

And just in terms of the third and fourth quarter having a reduced demand outlook versus expectations three months ago, as you think about rigs rolling into the spot market, are you a believer that you can maintain that rate structure? Are you willing to sideline rigs versus putting them to work at lower rates?

We're going to meet the market. Our strategy is meet the market. We're not going to operate at cash flow negative margins, or margins that just tear up our equipment, we're not going to do that. I think the rates I refer to in the second quarter are obviously down in the third quarter and fourth quarter, but we're going to meet the market.

The net cash flow comment includes maintenance CapEx?

Yes.

Got it. That's all for me. Thanks.

Jim Wicklund, Credit Suisse.

A follow-on to the last question. You had said that the contract rollovers were in the low 20s. My question was going to be, what is the spot market? So should I assume that's the current spot market?

I just said that was the second quarter, the average in the second quarter. I said now, I think it's obviously somewhere at least 10% below that, and obviously, it varies widely. There's frankly very little, we're talking about very few data points here, maybe 50 data points. So you really can't say there's a single rate on anything. It obviously depends on the class of rig, it depends on the market, and right now with operators' issues, it also depends on other things that are being negotiated. I think it's very difficult for any of us to say what the leading edge rate is right now.

Devon just announced that they can grow production next year with half of the CapEx they spent this year. We need to get the E&P companies to shut up, and we'll be okay. What are your cash operating costs for a new PACE rig? A PACE-X rig.

$11,000 plus a day.

Okay. That's very helpful. Tony, you had said in your remarks, a focus on the more sustainable international market. Clearly, it's not as hyper cyclical as the US market, and you've made some significant inroads into South America and the Middle East. Should we see that as a dedication to continue that effort? I know you're going to build one rig a year. And I assume that was -- assumed that was going to be for the US market. That may not be a correct assumption. Will you continue to aggressively grow your international presence over the next few years?

I think we will and you will see the benefit in our results from having a diversified asset base and portfolio. We think that's the right strategy, and we think actually the market hasn't really understood the amount of cash generation that we actually have for our international operation, and the durability of it. So we're committed to that. When you look at the macro, in terms of gas prospects in these countries, I think there is also a real pretty good opportunity there for us, so that's the reason why we're so committed to it.

And last one if I could, everybody had talked couple of months, maybe ar quarter or two ago about Saudi Arabia saying, if you want to keep working for us you have to take a 20% price cut. It didn't hit land rigs as much, because they are not just as substitutable as some of the other services. And then you make the acquisition of your partner. Have you seen, or has the acquisition of your partner's relationship protected you from pricing pressure in Saudi, and can you give us a broad idea of what that pricing pressure looks like today?

First of all the person that we took out was not an active partner at all. He was a passive partner, a historical partner from actually be time of the Pool acquisition. So that's point one. Point two, I think is a big different between the rate reduction on land versus offshore, for the reasons you have said, and we have some rate reductions on land, but the order of magnitude is obvious, and you can see in our numbers, nowhere near what has happened offshore.

Okay. I figured as much, I just needed to hear you say it. Tony, thanks much. I appreciate it.

Brad Handler, Jefferies.

Couple of questions, maybe starting on the US market also, but starting with clarification. I'm just not sure that I heard your color around the US land margin progression in the second half. I thought I heard it might fall $1,500 a day, but I just wanted to confirm that.

William?

We said $1,600 per day. Basically, that's not really that the leading spot rates are falling. That's not the only factor, but we're rolling into the new spot rate, a lot of our term contracts. That will have an impact. We expect to continue working on our direct costs, but it won't be enough to mitigate the drop in the average day rate, for the contracted rigs.

Okay. And that was a third quarter comment specifically, or does it take a couple quarters to roll into? What were you referring to?

I think we will see it already in the third quarter.

In third. Right. And presumably, that pressure continues as more rolls onto the spot market through the middle of next year?

That would be correct.

That's your location, beside what you can do on the costs offsetting front. Okay.

Correct.

I guess as a related follow-up, what are you -- I understand the macro issues around clients pulling back on whatever incremental rigs they might have been thinking about. Is there a high-grading process that is at all relevant in your customer base? Are you seeing some opportunities stem from, okay, (inaudible) -- I don't have to explain high grading. Are you seeing any of that in the interactions with your customers today?

Siggi, do you want to comment?

I didn't understand the question.

The high-grade of opportunities. I think the way you see the market today, it does show high-grade in force. And as people with term contracts expire, when an operator has a choice for a rig, I think all things being equal, if they can get an AC rig as opposed to a legacy rig, they are going to high-grade to the AC rig. I think the way the numbers look today, it supports that the high-grading has been active.

Our mission today, frankly, is to try to make money in an environment that is not growing, so we have to do a few things. We have to figure out how to operate more cost-effectively. We have to figure out how to make sure we execute, performance matters. And the third thing is, we need to construct a value proposition around those AC rigs to differentiate ourselves against everybody else that has them. One of the theses is that there is high-grading of rigs.

Sure. You just made an interesting observation, which I think we've also seen elsewhere, which is that some of the incremental rigs have been at the lower end of the spectrum, coming off the bottom.

Exactly. If you look at the bump in the rig count, we mentioned, actually, you look at the participants, it's actually the textbook thriller that work more quickly to rebound, and the big boys don't necessarily participate equally in that segment.

Right. So that dynamic presumably falls off, and maybe the high grading becomes a little bit more prevalent, in terms of at least incremental rig contracts?

Exactly.

All right. That's helpful. Thank you. I'll turn it back.

Mike Urban, Deutsche Bank.

I just wanted to follow-up on that high-grading question. Makes perfect sense from an efficiency perspective, the comment they made, as contracts roll off, all else equal, why wouldn't you take an AC. But the macro, or the overall data, hasn't really supported that yet, and then your anecdotal comments, and then just what we've seen off the bottom, suggesting that hasn't happened. Is that just a function of time and normalization in the market, or are we missing something where just operators are maybe just looking for flat-out cheap, and not necessarily making what in your mind is the correct assessment of value?

I think the latter point that you referred to, a lot of guys, when they're in the cash flow crisis, they just look at cheap, and that's what they're using to normalize. They are not looking at what the rig can actually do in terms of normalized productivity. And one of our missions is to try to make the value proposition clearer. The other point, I would say is the legacy rigs, although they are legacy rigs, they don't die immediately around here in this industry.

[CAT] Rigs have taken a long time to die, and the SCR rigs, in our view, as still going to be around, and on a price basis, they're going to set new marks of lows that it's not so easy necessarily to displace them. At least not at rates that you are really going to be happy with. But on the other hand, I think the issue is for the high-graded rigs to demonstrate the value proposition to the customer and make it attractive for him to think about displacing. That's the challenge here.

Okay. Got you. Very helpful. My other questions were answered. Thank you.

John Daniel, Simmons.

Thank you. Tony, give me your liquidity position today. Where do you see the greatest opportunities for acquisitions?

We, obviously, look at everything that's out there. The problem with acquisitions is, it has to reach a few hurdles for me. First of all, it has to at least be something that is as good as my internal growth opportunities. Secondly, if I'm looking at the rig business, the problem is the caliber and class of rigs I'm getting, there's not very many fleets out there that will improve the mix of my rig base, and so it's hard to see acquisition that actually do that.

And the third thing is, an acquisition I want to meaningfully improve my market position for my customers or something like that, in most of the markets we are in today. And so when you apply those limit tests, it has a pretty high standard for an acquisition. Notwithstanding that, we're obviously looking for acquisitions all the time, and we actually have the balance sheet now again that we think we're able to execute and do that. The hurdle is high right now.

Would you say that the majority of your time today is just being spent on just dealing with the current market turmoil versus trying to look at growth opportunities?

No, I would say we have a bunch of people doing everything right now. So we're looking at growth opportunities. It's fair to say that everything that's been on the market that you've heard about, we've looked at. And we continue to look at things.

Just one more for me. This might sound like a bit of naive question, but when I look at the Q2 international rig count, there were a number of countries where you're only operating one rig. And I presume those contracts must be good to have just one rig in country. But would those areas be the ones that might be most at risk, two or three quarters from now, if competitive pricing pressures escalate?

We don't like being in single stream operations long-term. So if we're there, it's hopefully because its a beachhead for further growth, or it's because the economics were so good it made up for the fact that the single strength. But like I said, I think we want to concentrate in areas that we can have real growth opportunities, and that's what the mission is today.

Okay. Thank you.

Dan, this is Denny. We're getting close to the one hour mark, so why don't we just take one more question and wind up the call, please?

Sean Meakim, JPMorgan.

Maybe just to follow-up on some of the previous conversation, but seeing that from a different end. For some of those customers who maybe haven't participated in the high spec market before, are you seeing any of those folks looking to take advantage of lower day rates or high spec rigs? Maybe there weren't any previously, but now looking to get in at a better price?

I think, given the change in price, I think people that hadn't thought about it before, it's topical discussion now. The telephone lines are open, so I think those kind of people are thinking about it. Absolutely. But it still a sales channel for people that haven't made that switch yet.

Okay. That's fair. And if you think about if the base outlook perhaps is a flattish rig count, kind of bouncing around for the next several quarters, we get into a substantial portion of 2016, and we're still in roughly the same levels, would you expect pressing pressure for even the upper end of the AC market to remain, for pricing pressure to remain intact? Or do you think that at some point here, in a flash rig count, you could see some stabilization in the upper end of the market?

I think if things could just bounce around at the same level, I think there will be continued pricing pressure.

All right. Fair enough. Thank you.

Thank you.

This concludes our question-and-answer session. I would like to turn the conference back over to Management for any closing remarks.

Ladies and gentlemen, we want to thank you for participating today, and if you have further questions or anything, as always, to feel free to reach out and call us or email us. Thank you again.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.