國民油井華高 (NOV) 2004 Q3 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the National Oilwell third quarter earnings conference call. At this time all participants are on a listen-only mode. Following today's presentation, instructions will be given for the question-and-answer session. If anyone needs assistance at any time during the conference please press the star, followed by the 0. As a reminder, this conference is being recorded Friday, October 29, 2004.

I would now like to turn the conference over to Mr. Pete Miller, Chairman and President. Please go ahead, sir.

Thank you. I'd like to welcome everybody to the National Oilwell third quarter earnings conference call. With me in the room today is Steve Krablin, our Chief Financial Officer.

Earlier today, we announced third quarter earnings of 27.8 million or 32 cents a share on revenues of $619 million. This compares to second quarter earnings of $21.4 million, or 25 cents a share on revenues of $534 million.

In just a moment, I'm going to turn the call over to Steve, who will give you a greater breakdown of those numbers, and also will give you an update on our merger with Varco. In addition to the earnings announcement that we made this morning, we also announced our backlog at a record level of $575 million. This surpasses the record that -- backlog that we had in the fourth quarter of 2001 of 453 million. And compares to 440 million at the end of the last quarter and 339 million at the end of 2003. It's a very healthy backlog. It's a backlog I'll discuss in more detail later.

But at this time what I'd like to do is turn it over to Steve, so he can give you a little more of an overview of our numbers, then he'll turn it back to me and I'll give you an operational overview, with some geographic data, so you can see the trends that we're seeing in the business.

So at this point, Steve, if you'd like to discuss the numbers further.

Thanks, Pete.

During this call, some of our statements may be forward-looking statements within the meaning of the exchange act. I refer you to our press release and our SEC filings for a full explanation of that term and our risk factor disclosures. If you're on our mailing list, you've received a quarterly selected financial data sheet, that provides not only the third quarter results, but also an easy reference to the results and trends by quarter for 2003 and 2004. This sheet is also available on our website which is natoil.com. That's N-A-T-O-I-L.com. And you can contact investor relations through the website to be added to our email list. Our website is also a source for replay of this call.

Our consolidated results were good. With increasing revenues and operating profits in both groups. Last February, we described our initiatives within the distribution group, and we've accomplished what we said and more.

In April, we addressed lower than expected base margins in our products and technology group, and we're continuing to see improvement in line with what we said we would do. We still need to do more along those lines and get more margin improvement, and we continue to address this issue with each addition and deletion from our backlog.

The revenue and distribution increased to 233 million in the third quarter, that's up from 218 million in each of the first and second quarters of this year. We saw a large increase from the seasonally down second quarter in Canada, but also saw meaningful increases from the United States and international operations in line with industry activity.

There's been no change from the general range of Canada and international operations, each representing about 25 percent of the total distribution revenues, with the remaining 50 percent coming from the U.S. Our operating income and distribution continues to improve, increasing to 3.6 percent of revenues in the third quarter. That compares to 2.5 percent in the first quarter and 3.1 percent in the second quarter, so we're very please with that trend.

As to return on capital, with the third quarter results, the distribution group is now at 13 percent return on capital for the quarter.

In the products and technology group, revenues of 418 million are up 20 percent from the second quarter, with about two-thirds of the 70 million increase coming from capital equipment revenues. Specifically, the revenues from capital equipment from backlog, increased 43 million to 199 million compared to 156 million in the second quarter.

For the first time, our revenues have broken out of the 150 millionish range that's existed on a pro forma basis for the Hydrolift acquisition ever since the first quarter of 2002. Based on our backlog and the quoting activity that we're seeing right now, we expect quarterly capital equipment revenues to be in the 200 to 250 million range through the end of 2005.

Our noncapital products and technology revenues also increased 27 million on a sequential basis, and that's up about 14 percent over the prior quarter , with about half the increase coming from low margin pass-through items. Operating income for products and technology totaled 45 million. A continued improvement of our reported results in each of the -- each quarter of 2004.

As we mentioned on our last call, the up market is allowing us to recover some of the margin lost during the prolonged soft market of 2002 and 2003, and the increasing volume of activity is allowing us to improve our manufacturing efficiencies. Specifically, we are continuing to work through lower margin jobs that we bid in 2003 and even early in 2004. And as old backlog is replaced with new, we're continuing to move our margins back to the more historical levels that we've experienced.

Some of our progress in this area is hidden by the larger amount of pass-through items that are included in some of the larger projects, and we expect these pass-throughs to have a lessened effect on the flow through and sequential margins in 2005. In the second quarter, on the conference call, we mentioned 2 areas that would blow our internal expectations and those were China and the Downhole Group.

China's revenues doubled in the third quarter as compared to the second or even the first quarter, and operating profit out of that operation tripled against those periods. The fourth quarter should be similar to the third quarter. Likewise, the Downhole Group bounced back to our expectation, and that was led by a resurgence in the Canadian market in the third over the second quarter.

With all of these improving situations, I think you can see why we expect margins to improve, and be noticeably higher in 2005 compared to 2004.

Our corporate expense was just over $4 million or about a million higher than our typical run rate. A large portion of this overage is due to compliance costs associated with Sarbanes-Oxley and the audit fees. The fourth quarter should be a similar amount, bringing our full-year to just over $15 million.

Interest expense in the third quarter was about the same as the second and the first. Our current blended borrowing rate is 5.7 percent. Upward movement of interest rates in the third quarter offset our lower average outstanding balances. The same results, in other words, higher rates and lower balances will -- are expected in the fourth quarter, so I don't really expect any change in interest expense in that period.

We recorded a tax rate of 27 percent in the third quarter, slightly lower than our first 2 quarters due to a small one-time tax adjustment. The fourth quarter should be back to about 29 percent, and the 2005 rate will be no more than 29 percent with a good chance of it even being less. We'll be able to better refine the 2005 estimate on our next call.

On the balance sheet. Our receivables are up from June, due to the higher revenues, but our inventories and costs in excess of billings are down by almost as much. And, with the larger accounts payable, again, due to the increased activity, our debt at quarter end was down to $525 million. Substantially down from the 579 million at June 30 and the 610 at year end.

This gives us a debt-to-cap ratio of 30.8 percent, or no, the cash balance on our balance sheet is 73 million, the ratio would be under 28 percent. This puts us right in the mid point of our targeted 20 to 40 percent debt-to-cash ration -- debt-to-capital ratio.

The capital expenditures in the quarter were 9.3 million, still well below our depreciation and amortization. Year-to-date, we've spent less than 24 million and still expect to reach that 30 to 32 million that we said last conference call. The full year depreciation and amortization should be about 42 to 43 million.

Diluted shares in the quarter of 86.7 million should be about the same in the fourth quarter as well. In summary, on our projections and, of course, we did have a number of them in the press release on the revenue side for next year, fourth quarter, the distribution, we're expecting it to be about the same as the third quarter, with the offset of -- little bit of a higher activity being offset by the holidays.

In the capital equipment, out of backlog ,we still expect that to be around 200 million, very similar to the third quarter, but we do expect to get a bit more improvement in the margins from that piece.

The revenues from noncapital, we're expecting that to be up a few percentage points as well. And that will depend on the acceleration of the offshore market which is just now beginning in some of the areas. Overall, then, the fourth quarter should still be exactly what we've said all year long in the mid-30s.

Regarding 2005, the revenues we identified in the press release that we believe should occur along, with the rebounded margins that we're expecting, should make 2005 a significantly improved year over 2004, and thus achieving the record annual earnings per share in that year.

Briefly on the merger, as to the status, we did receive a fairly broad second request requiring us to pull a great deal of information about our products. I had hoped that the second request wouldn't be required. But our originally announced timeline when we announced the merger did anticipate the possibility. We're well into the process, and other than the time and money involved, have not identified any new areas of concern that we didn't expect.

It's impossible to predict an exact date for when we'll be able to comply with the request to get information back to the Justice Department. But we believe that that will be by the end of November or just early December. After compliance, the government has 30 days to consider the merger.

Again, nothing in this process has been a surprise, and we remain confident that the merger as a whole will be approved. We'll close as soon as possible after approval and any and all updates regarding the status of this will be made through press releases or 8-K filings, not through individual or group question and answers. Pete?

Thanks, Steve.

What I'd like to do now is go through a little bit of an overview on our operations and what we're seeing. And, what I'd like to start with are the noncapital businesses -- distribution, Downhole and Mission.

As Steve mentioned earlier, we've been very pleased with the distribution group, they've made good margin improvements where possible, an awful lot of our business in that arena is done on contracts with fixed prices, but the guys have been able to do a very good job of being able to move the business, become more efficient and really create some value for us.

The big areas for us right now are the Rocky Mountains, it's very hot in the lower 48 especially. Canada came on strong after a little bit of a slow start in the first part of the third quarter. And in the international opportunities, again, that's where we see a lot of growth for this business. Specifically in Mexico, Latin America and some other areas there, so again, it's really a story of trying to drive efficiencies and margin improvement, I think our guys have done a very good job of doing that.

In our Mission business, again, it's going to continue on with following the Worldwide Rig count. We're helped a little bit, especially in the centrifugal pump area, when you look at some of the construction projects that are going on, and a lot of the refurbishments, I'll talk about that in just a moment, when I talk about the capital. But that really flows over a lot to Mission. And also, one of the things, and again, I'll talk more on this and the capital, but we've continued to really introduce new products.

Mission's done things like introduce new products that make the ceiling of liners and the replacement of liners a much easier process. And that's really helping the Mission business, and I think it's one that we're committed to continuing to offer new products and find a way for our customers to be able to do things easier.

Finally, in our Downhole tools business, as Steve mentioned earlier, we brought that back a little bit more into our historical lines. And one of the good things as we look into the future, there's a lot more international opportunity in this business. And that really is -- international opportunity for sales as opposed to rentals, which is primarily what we do domestically, so, we think as the international arena continues to show the exuberance that it has, that we will see some improvements in that particular area.

Now what I'd like to do is concentrate on the capital and then talk about some of the different areas that we feel are really going to be positive over the next year or so. Right now I want to talk about the trends. Basically we're seeing 2 or 3 different trend in the capital side. First off, our customers have more money. Their cashflow's improving, I think you've all listened to the conference calls for both contractors and operators, certainly the cash consideration, their day rates, the price of oil, don't need to talk about that to anybody in this call, the price of gas, it's all creating cashflow positive situations for the customer base. And they've got to do some things with this.

In many cases, what we're seeing, and this is one of the bigger trends, is upgrades and refurbishments. This is really starting to pick up steam, and it's picking up steam worldwide. We're starting to see the operations where we've talked an awful lot about third pumps and there has been a continuing process by a lot of contractors to do it. But what you're seeing today is more of the steam picking up. Now they've -- they're doing it before they move rigs into international arenas, they're doing if before they move out into some more difficult jobs. And what's pushing the upgrades and refurb, really has been technology.

I've talked an awful lot about advanced technology, the things we can add to the rig. Those are starting to really push themselves. The other trend, new builds. And this is new builds -- when I go back to the '90s, the mid '90s, essentially what we had there was new build of deep water offshore.

Today we're seeing new builds in the offshore arena. In the 90s -- mid 90s, we didn't have much land new build going on, that really came on at about 2000 and 2001. But there wasn't any offshore building going on. Today you have both. The trends are really picking up, so that now we're starting to see land rigs in the international arena, and offshore rigs basically all over the world, new being ordered, being bid and being contemplated.

I think it really has -- that -- that trend is one I believe is going to continue on for a good period of time. In addition to that, you have the FPSO's, the floating production systems that we've talked about. Those continue to be built. So today, we're really entering in an era in which we're seeing a lot more being done consecutively. Again, in the past it's been kind of one leg of that stool has been going on, but today we're starting to see the 3 come in together.

What's also being created there is the demand for safer rigs, rigs with different capabilities, rigs with advanced technology, and rigs with enhanced mobility. Over the past 2 or 3 years, we've continued to invest in R&D to be able to address each one of these areas.

Things like our Millenium Workover Rig, our Ideal Drilling Rig, the things that we've done on a lot of the offshore rigs, with things like our Safety Brick and control systems, have really allowed us to be in a great position to be able to offer these products to our customers. Those are the trends that we're seeing driving this business, it's refurbs, it's new builds, it's wanting new technology and enhanced capabilities.

Now I'd like to talk a little bit about the geographic areas that we see being very positive. Specifically there are 3 that I want to go into detail. And that's Russia, the Middle East and China. In Russia, I think the UCO situation is finally coming into its final act. I don't know if Gazprom, Conoco, whomever ends up with that, I think it will also then, provide a little more stability in that business, and I think you'll start to see some of the prognostications on the orders finally come into fruition.

The people there obviously, with the oil price, have money in hand. They're ready to spend and again, when you go back and think of the trends that I just talked about, there's a couple different things happening in Russia. One of the first ones is they're drilling differently today. They kind of skimmed off the cream and a lot of exploitation in the fields. And, as the government gets more involved, they're requesting that the companies start to really show an enhancement in the revenue base -- I'm sorry, in the reserve base. And so, they're starting to do a different type of drilling, deeper drilling, looking more exploratory drills, things that are really going to add to the reserves as a country.

And, interestingly enough, they don't have a lot of the equipment to be able to do that today. So, they're doing 2 things. First one, is looking at buying new rigs. We've shipped new rigs in there the last few years, I've always talked in terms of 50 to $75 million in Russia. My belief in 2005 we'll be talking north of $100 million.

Another interesting thing is they're also starting to talk about upgrades. Recently, we signed a contract for $15 million to upgrade the mud systems on some existing drilling rigs. They knew they had to have better mud because of the types of changes and drilling that I'm talking about, and we've been able to move into that. So, it's not just the new build environment now. It also is an environment where we can actually enhance the equipment that's there.

Other places, when I talk about Russia, and you can combine the former Soviet Union, you also have Kazakhstan, which is really showing a tremendous potential. Those of you that were on the last conference call, we talked about our Agip bid there, in which we were awarded the 2 drilling rigs that are going on in Ireland and the Caspian sea. We think there will be more opportunities in Kazakhstan as we push into 2005, both for land rigs and rigs typical to this that are going on offshore islands.

Azerbaijan, we've opened an office in Baku and there we're starting to do a lot of things on the service basis and a repair and maintenance basis. But it opens up more opportunities for more capital sales. We believe Russia, over the next 2 to 3 years is going to be a very exciting arena, and again, we would expect revenues there to surpass $100 million.

The other area that's very exciting right now is the Middle East. We expect the Saudi Arabian rig count to go from 36 currently up to 60, and with that, you'll also see about 8 offshore rigs working in that arena, some of those rigs are available, some aren't. There are -- we've actually sold some new rigs in this past quarter that will go into Saudi Arabia, we anticipate there's going to be a demand for even more rigs.

And, again, comes back to the trends that I'm talking about -- different type of drilling. They're not going just necessarily for shallow oil at this point. In some cases they're drilling for deep gas. But, in many cases they're even having to go much deeper to get to the oil, that takes a different type of rig.

They want the technology, they want the iron roughnecks, they want the enhanced pumping capability. Those things that were put on the offshore rig,s are starting to demand those in the Middle East because of the complexities of the drilling. Kuwait is an area where they expect to increase the rig count by 8 rigs here in the foreseeable future.

So, again, we all know the situation with the oil supply in the world, and you're starting to see people like Saudi Arabia and Kuwait, countries like Saudi Arabia and Kuwait, want to increase the rig count so they can expand their capabilities of being able to produce. We feel we're very, very well positioned to be able to take advantage of that.

We sold a new rig into Kuwait this past quarter and we'll have some opportunities for refurbishments as we push into the next year. All throughout the Middle East, I think those are the 2 big players, but in Qatar you have a new drilling company, Gulf Drilling, they bought a new land rig. They're looking at some offshore rigs. They're going to expand their operations there.

Algeria, we've sold new rigs into there recently. They continue to have a demand for more rigs. In Egypt, we have shipped some workover rigs into that arena. They continue to have demand for more rigs. And then, Libya is opening up, and we believe that probably Libya will need as many as 4 new rigs next year. And probably over the foreseeable future in 2006 and 2007 will need as many as 4 or 5 each one of those years.

As you can you see, the Middle East again is a very, very exciting arena for us, and we think it's one that's going to continue to demand new equipment and demand different types of equipment.

Finally, the third place I want to talk about in detail is China. Obviously, those of you that have been following China , saw that a couple days ago they raised their discount rate for the first time in 10 years, obviously in an attempt to cool down the economy somewhat. Certainly, we're keeping an eye on that, but we don't believe that's going to have a material impact on their demand for oil and gas equipment, and their demand for oil and gas, period.

We're keeping our eye on it to see if, in fact they raise that discount rate any more. But, certainly the Chinese authorities are concerned about the overheated part of their economy. But we think that they'll -- the demand for our products and for oil and gas will continue to escalate.

Both CNPC and Sinopec, the 2 arms, have reorganized completely. They've been doing this for about the past year which has created, probably, a situation there where they weren't ordering as much as we had anticipated. these reorganizations are complete. They're really back into the marketplace, and we expect, in China this year, there will be opportunities, when I say this year, meaning the last half of 2004 and into 2005, probably 10 land rigs will be ordered, additional platform rigs in the south China sea. We're currently building a jackup rig and I think there will be activity around there to look at some more offshore type rigs. We expect China to continue this way for the next year or 2, at the minimum.

And again, as Steve mentioned, our Chinese manufacturing operation has rebounded well this quarter, and we anticipate that to continue on as we look to the future.

The rest of the world, again appears to be very positive. The Asia Pacific and Singapore area, the shipyards down there are full, they're -- with the jackups that they're building, almost all of them have follow-on jackups coming up. Right now, we believe there are probably 14 jackups out there that are being contemplated, and we think are probably real deals. And that's on top of the ones that are currently being built.

We think those shipyards are going to stay full for the foreseeable future, we think the Chinese shipyards which are currently full of cargo ships will start to shift more and more to the drilling rig side. So, there will be an opportunity for more drilling rigs to be built there.

One of the more interesting areas of the world is Latin America. In Venezuela, we're starting to see some renewed activity with the Chavez election being behind them. I think that they're starting to reinvest money into the oilfields. Obviously, we watch it very carefully, and make sure we get prepays. But, the opportunities there for new rig equipment and refurbishments are very positive.

Same thing with Mexico, you -- there's activity down there with a lot of turnkey that's being done for Pemex by the Western (ph) Companies that need additional equipment, and then the things that are being done directly by Pemex themselves.

Finally, in Brazil, most of the activity down there is on the floating production systems. They're -- really the refurbishment and the new builds total about 4 different projects that are going on there. Those projects will be awarded over the next couple of quarters and we feel very good about the -- our ability to participate in that.

You're starting to see some signs of the domestic lower 48 rig business picking up. It's now -- I don't think it's to the point yet where you're going to see much new build, but what you are seeing are refurbishments, upgrades of electronic systems, upgrade of mud pit systems, upgrade of mud pumps, and we'll be there to participate in that particular market.

Finally, I'll just talk a moment on the backlog. As I mentioned earlier, it's 575 million. We feel this is a better backlog, better quality. Steve mentioned that in his presentation. What we've -- what we've been able to do is -- as we unload some of the things that were taking a lower margin in and impacted very significantly by steel prices, we've been able to put in what we believe is a higher quality.

One thing I might mention on steel, what we have seen, if you go back to August of '03, the per ton price of cold-rolled steel was about $350 per ton. When we hit the first part of the year, that one, that surpassed $750 a ton. It's our feeling that it's peaked right now, and we're starting to -- we believe we're going to see a little bit of a fall, but it's not going to be a fall that will probably go much below about 650. And as we look out into '05, we think there's even an opportunity that that could jump up some.

We're keeping our eye on that very, very closely, because we expect, as we take a look at that, we want to ensure that we're following our pricing and the things that we do with the raw material costs. But again, there was such a dramatic increase over about 4-month period it jumped up basically over -- well over 100 percent, it caught a lot of people unawares. But this is something now that stays on the top of everybody's list, I think throughout the industry. And that's one of the reasons that we feel much more confident about the backlog that we've brought in.

Anyway, that's kind of a quick overview. At this point in time, I'd like to turn it back over to Jeff and he'll take any questions that you might have.

Thank you, sir. Ladies and gentlemen, at this time we will begin the question-and-answer session.

(OPERATOR INSTRUCTIONS)

Scott Gill, Please state your company, followed by your question.

Simmons & Co.

Two questions, first Pete, we're hearing from some of the land rig contractors about long lead times on Tri-Plex pumps, and certainly your commentary is very optimistic for increased capital equipment sales and the international markets.

Talk to us a little bit about what type of pricing environment that means for National Oilwell, and translate that into kind of the flow-through for the capital equipment side of the business.

Scott, w're -- as we take a look at the capital, the big issues for us, obviously, are on the cost side, that's what's impacted us a little bit over the last couple of quarters, and getting the efficiencies down in the plants. Obviously, we're looking at pricing, almost on a daily basis. And we're looking at where we have the opportunity. It's still a very, very competitive market.

When you start talking about individual component items, there are many, many competitors out there, and it's become a very much of a global competitive environment. You know, we're seeing situations where there are Chinese pumps in the domestic market. You have many, many different pump manufacturers in the domestic market that have different return requirements than we might have, so it's still a pretty competitive environment. Our position and most of our efforts right now are going into cost efficiencies, and if there are long lead times being able to reduce those lead times for our customers.

Okay, Pete. In that environment, I think, historically, I know there's been a big change and mix for your businesses, the flow-through has been 25 percent. Is that still kind of a realistic expectation, looking into '05 for capital equipment sales?

We're really -- Steve and I are spending a lot of time reworking on that right now. Because, I'll tell you what's happening a lot. Steve made mention of it a little bit in his presentation. If you historically look at what we've done, an awful lot that we sold were components. We sold our drawworks, we sold our mud pumps, we sold our derricks. Those were situations where the 25 percent flow-through flowed very easily. Today, we're selling many more projects. To to give you an example, when we sell a drilling rig, let's say it's a $13 million drilling rig. Well, as much as 1.5 million, $2 million of that can be a buyout. By buyout, I mean something that we don't manufacture.

Caterpillar engines is a good example. When we bring in the Cat engines, we're liable to -- we get a very small markup on that, but, in fact, it's really almost just a brokerage fee, because we don't pay Cat until we get paid, it's not like it's costing us anything there. But what it has a tendency to do because we report the full value of it on the revenue stream it does depress a little bit what the flow-through is.

As we're looking at these bigger projects, I'm not prepared today to tell you to move it down, but I think we're liable to come out in the near future and say that instead of 25, it very well be 22 percent as an example. I can't give you the solid answer on that right now..

And, Steve, in your commentary you were talking about on the noncapital equipment side, of P&T about half the gain being pass-through items. Can you be a little more specific? What are those pass-through items, and what's your forecast for that business being up again in the fourth quarter? I'm assuming that we're going to see more pass-through items in Q4, is that right?

I'm not sure the pass-through items will be up very much. I was really talking about the up and non-pass-through part. But, I think the pass-through in those areas -- any smaller piece of the capital equipment -- remember we, if you recall, when we're talking about capital equipment revenues, we're talking about capital equipment coming out of backlog. So if we have smaller pieces of equipment that are typically stocked by us, or don't require long lead times, we just have to consider that normal -- normal business. That might include anywhere from -- I mean items that the customer might capitalize, a rotary table, elevators, things of that type. But they are items that we typically don't custom build for them. And those are the types of items that may go through, in addition to the Cat engines or the BOP's or other things that may be going on on projects.

So really, that thing moves around so much just depending on the timing of other things, it's hard to predict that one in particular. But I -- absent any other information, assuming that piece of it is flat wouldn't be unreasonable at this point.

Jeff Eberts (ph). Please state your company name, followed by your question.

Smith Barney. A couple questions, Pete. You talked a little bit about new build and talked about from 14 jackups at UP from visibility on -- in addition to what's in the yard right now. That's kind of continuing the pace of building that we've seen for a while here, it seems to me, are you meaning to suggest that that's picking up?

And secondly, are you starting to see any discussion going on about floaters?

Yeah, the answer to both of those, Jeff, is yes. When I talked, for instance about 2 quarters ago, we talked about 10 jackup projects out there. Today we're talking about 14. We're seeing some pickup in that arena, and we all -- we are discussing floaters, there are some people in the marketplace today that are talking about floaters. And I would believe, maybe not next quarter, but probably the quarter after, I'll be talking about actual contract awards in the floater arena.

I think there will be some demand out there for those, and when you're talking about a floater, basically, from start to finish, it's kind of a 3-year process. And I think that some folks are looking out in 3 years and seeing there might be some tightness in some of that deep water market.

Shifting to the backlog, I wanted to clarify something. I understand that you're shipping out of backlog some work that was booked when the market environment was not as strong. And as a consequence, the -- I guess the margin in the backlog is rising.

But then on the other hand, you made the comment regarding the shift from components to more project work, which would include the higher component of pass-through. Can you -- I mean, net-net, do those 2 competing factors still lead to a net increase in the margin in the backlog?

Yes, we fully expect it will. We expect that -- where we want the to be, at least in the foreseeable future, is back to where we've traditionally been, and we're still about 100 basis points off of that, which is in the operating profit of 12 to 13 percent in the products and technology area.

That's -- a lot of that is driven by what's in the backlog, we expect to see an improvement in that. And obviously, as we go into 2005, we expect to see improvements that go past those numbers, that's certainly our push right now.

In terms of the nature of the customer mix that's in that backlog, let's say 9, 12 months ago there was a pretty high percentage of what we might call nontraditional customers in the backlog. Is that changing to the more traditional customer base?

Kind of, but I mean, it's really a backlog that probably still has a tremendous tilt toward the international arena, and more of our traditional customers in the international arena. I think a year ago, you probably had a backlog that was more in the -- like a crane type situation where we're selling to some of the nontraditional customers. Where today you're more into the regular rig type of backlog, which is the Agips of the world, the rigs I talked about that we're selling into Saudi Arabia and Kuwait, so it really is more of a traditional type that we've had in the past.

Shifting once again, you mentioned you didn't see new builds yet on the horizon for the lower 48, but we did have one large contract driller indicate that they were going to add maybe 40 or so well-servicing rigs to their fleet. Were you excluding that in your comment?

Yes, I was remiss, I was talking in the comments really about the drilling rigs. But, in the workover arena, and of course, one of the things about National, we've got of the array of products from the small workover rigs all the way up to the largest deep water rig you could build. We're seeing some very, very positive signs and have sold some workover rigs into the marketplace.

And then just last question, you mentioned a couple times, steel costs, could you just remind us, what is your mechanism for being able to pass through changes in steel costs whether they're up or down, I guess? Do you have kind of a dual structure with a surcharge independent of your price list, or just exactly how are you handling that somewhat unpredictable steel cost fluctuation?

We've done a couple of things Jeff. One of the first things we've done is put a time limit on any quotation we have out there. Which hopefully -- when we put a time limit, say, for instance, 30 days, we can lock in steel prices at that point. We can actually preorder steel, if they come in and order at that point. So we lock in the price that we have. That's one mechanism.

Another mechanism, if there's been a bid that's out there for a longer period of time, we do put a surcharge on. We said that bid is going to have a 2.5 or 3 percent surcharge that's associated with the steel price. We're monitoring that situation extremely closely.

Quite honestly ,as we look at steel, it had really moved sideways for the past 3 or 4 years and then when it shot up, caught a lot of folks unaware in the industry, not just in the company, so -- but we do have very discrete systems in place to monitor that.

Our next question comes from Robin Shoemaker, state your company name followed by your question.

Bear Stearns, thanks. Pete, I was -- wanted to ask you about your comment on Saudi Arabia. Baker Hughes shows the current rig count there 31 in September, and you were talking about 60 rigs. What -- where is kind of the data that -- that you're getting that suggests that it will go that high and over what kind of time frame are we talking about?

I think the -- obviously we're getting the data from, as we go through the area, and we have our people on the ground there, you know, these are -- it's -- you know, it's -- I say 60, it could go to 58. It's just what the plans are right now, we think that could happen probably over the next year. And we think that the players will be both the internal players that are there, with existing rigs, and there will be a demand for some new rigs that will have to move into the arena to be able to fulfill that.

So that 60, that's certainly what they're projecting where they want to get. If they -- by the next conference call they'll be partway there, but I don't know that I can put an end date as to when they'll say they have 60.

This is all with one, I mean, this is all Saudi Aramco, right?

Yes, this is Saudi Arabia that I'm talking about specifically. They would expect that they're going to almost double that -- not double it, but increase that rig count by about 70 percent.

I wanted to ask you for an update on the Hex pump, the initial success in the early deployment of that, and who -- what is kind of the feedback from the customer?

It's real positive. As a matter of fact, I checked on that this morning, we currently have 3 (ph) of the pumps installed and operating. Things have been very, very positive. We're in the process, Robin, I think we've got another 10 that are being manufactured right now that will be delivered. Not sure that we'll get any out in Q4, certainly those will go out in the first quarter of 2005.

But customers that have bought the pumps are coming back to buy more. We anticipate that, I think at this point in time that we have about 20 that we've got on order to manufacture. We expect those to continue to move out through 2005. But the operations at this point have been very positive.

The are the new orders with customers who already bought one or used it? I mean, it's kind of repeat orders?

Yeah, in some cases, there's some new, but there certainly are repeat orders.

Next question comes from Terry Darling, please state your company name followed by your question.

Goldman Sachs, Thanks.

Pete, I didn't hear you talk about Iraq, some headlines today that we may see some contracts with oil companies next week. Can you give us an update on your thoughts there?

Yeah, that's a good question, Terry. We haven't talked about it too much because it really has been moving at a snail's pace. There are going to be some contracts that are signed with both the northern drilling and the southern drilling. We expect that there will be some wells drilled around Kurkut. We're actually talking with contractors today, doing some work on refurbishing some rigs that will be doing some activity in Iraq.

I didn't mention it too much, simply because I think at this point the amount of business that we get in there will still be reasonably -- I mean, it's not going to be extremely material at this point. I think, obviously it will be in the future. That's why I mean, today we're a little more excited about what's going on in Libya, simply because it's a market that's much more open and secure than what you have in Iraq.

There are things going on in Iraq, I think the potential for us in the near term is more on a repair and maintenance and component basis as opposed to a complete rig basis.

And then a couple follow-ups on some points that Steve made and you made, the opportunity for a floater in early '05. Can you tell us how long have you had visibility on that opportunity? Is that something that's come up relatively recently, or something that was -- you've been talking about for a while now?

It's something we've been talking about for a while, and when I say Q1 '05, it could very easily move to Q 2 as an example. Those are dates uncertain, but it -- what I will say is that there will be some floaters that will be done, and again, I would believe they'll be done within the next -- or orders will be made within the next 6 months.

Steve, you had mentioned revenue out of capital equipment , 200 to 250 million per quarter type of range as we go into '05. Wondering if you could talk a little bit about the order rate, looking out the next couple quarters that that would imply given where the backlog is now, and I guess it's implicitly a question about what percentage of the backlog is for product to be delivered in '05 versus '06 versus the balance of '04.

I think what we're hoping to see in 2005 is, our -- of course, we'd like to see the backlog keep growing some, but we're not really expecting these huge rampups in backlog. We'd like to think that it's -- that our revenues are going to follow closely behind the backlog, as it did in the last quarter, where, I think -- was it last quarter we had roughly a couple hundred million or so in the orders coming in, and then within a quarter or so, we're getting out that number. So, it's not around -- all of a sudden the backlog should be 800 million, it's around our revenues, and we need to start keeping pace with that and keep regressing, in that same general area, we haven't really had, we've kind of talked about the feel of the backlog order.

And, it's -- we've said it felt like around 200 million or so per quarter, it's feeling that or better right now. So ,we're expecting that to be in that same area as the revenue, and we'll just have to kind of update you as we see these orders coming in.

Could you remind us, the revenue opportunity on a floater, I know is multiples that of a land rig, but can you remind us where that number is today based on your content?

Yeah, what we usually say, Terry, is if you take a look at a jackup rig, we're going to be around 31, $32 million. And on a floater, that should be as much as 50 to $55 million.

And then lastly, you're looking at the revenue change Q3 versus Q2, you mentioned that about two-thirds of that was obviously the capital equipment piece, I was wondering if you give us a sense on the other third split between Downhole and the noncapital piece of that side of the business. Was it roughly even or was the Downhole side particularly stronger than the noncapital piece coming out of backlog, where were we on that?

It was roughly even. Both the -- Pete talks about the Mission, that's the expendible products going into mud pumps, that was good, Downhole was good, spares also good, so, 3 identifiable pieces, all in pretty good shape.

You know, we still haven't had the big kick in spares that you normally get -- that normally is more associated with the offshore markets, we're particularly watching the increase in that area worldwide.

And the flow-through on the Downhole side, is that where you want it to be or is that lagging as well a bit?

No, it's actually pretty good in the down hole side. You know, like I say, we're trying to -- we've tried not to give too specific guidance, because a lot of times we don't even know what some of these are going to be also. We're trying to evaluate how to better communicate to the street the expectations around margin and as we move forward, as we start getting more stability around this jump up in revenues and content, the -- we may or may not have to change the guidance type numbers. But it certainly isn't around Downhole products where we're having problems.

The next question comes from John Tasdemir. Please go ahead, sir.

Just following up on the -- on some margin questions of the products and technology segment. You said you do expect to see some improvement, better quality backlog. Any reason, any reason to believe that margins can't, in that business, can't get back to where we saw them in 2001, you know,in the 15 percent range, any mix issues, any reason that would prevent you from doing that?

I don't think so, no.

No, I think that's actually where we'd like to be, John, I think as things pick up, and we get the efficiencies out of our plants, we fully expect to be moving that number up.

And I know your backlog's improved, the quality of it, but with steel costs going up in the second to third quarter, will that still have a somewhat of a dampening impact on margins? In the fourth quarter, or is that behind you?

There's probably still a little bit in there, John, I can't quantify it for you right now, but there's probably some, because in some of these cases we're still moving some stuff out that might have been priced as long as 18 months ago. I don't believe it's going to be a significant number.

But we should see somewhat of an uptick there?

Absolutely.

You probably mentioned this already, but we got kicked off the first few minutes of the call. Can you talk about the tax rate that you're expecting next quarter or next year, and also, your CapEx plans over the next year?

Yes, the third quarter had a one-time adjustment that brought it down a little bit. We're still expecting about the 29 percent in the fourth quarter. I think the rate in 2005 will be less than 29 percent. But, I'd prefer to defer that until the next call and try to give better guidance at that time when we have a better feel for that. But certainly, if your model uses 29 percent, you won't be too low.

And Cap Ex plans for next year.

It's about the same as this year, in that low 30s type area. You know, there's no particular reason to expect anything out of that 30 or 35 million range in general.

The next question comes from Gary Russell, please state your company name followed by your question.

Good morning, everyone. Gary Russell, Stifel Nicolaus.

First, Steve, I'd like to go back to, or Pete, actually, back to the order rate commentary, second quarter 185 million, third quarter excluding Kazakhstan, 183 million. You commented about maybe getting to a $200 million run rate. Are you talking in terms of more down the road, or do you think you could see that in the fourth quarter?

Well, I consider us to be there, I don't think it's fair to eliminate all of the Kazakhstan project from normal. I mean I -- I think that's basically, we're at 200 million. When you're talking about those 2 numbers. I'm using round guidance there in those things. If it was 210, I'd still be saying it's around 200.

Fair enough. Moving on. Russia, I think it was you, Steve, mentioned -- well, you had mentioned previously, that business was around 80 million. Today you mentioned you could get that up to 100 million. Are you expecting that in 2005.

Yeah, Gary, this is Pete, I had talked about that. Historically we've been in that $75 million range. I'm actually leaving for Russia as -- at the end of the conference call, to get a good look for myself on the ground.

But we believe that with the cashflow that's been generated over there with the oil sales, and with the needs that they have for things, that next year you could see as much as $100 million out of there.

And then China, you had -- Pete, you ran through a laundry list of rigs out there, I think you said, correct me if I got it wrong, 10 land rigs, 1 platform and 1 jackup?

Yes, that's what I said. And that's pretty consistent with what we're seeing. It could be -- you might even want to bet the over on some of those. But, that's -- that's -- that's really the visibility that we have right now.

Those are just upcoming opportunities, none of that is something you already have in your backlog?

No, that's right.

And then the last question on the FPSO sides of the business, can you quantify for us, I know, obviously, that's going to be a lumpy business, but can you give us a sense for what roughly where your annual revenue run rate is there now, and where do you think that could go for '05 and '06?

What I'll do, Gary, it's like what I talked about earlier on the jackups, we're about 30 million plus on the jackups, if there's a floater out there, we're about 50 million plus. On something like an FPSO, our revenue potential on that is about 20 million.

And so, as we look out, we see some visibility out there , but it is a very lumpy business, we think our 3 or 4 projects out there right now, we could maximize 20, we could be less, it might come in at 10 to 15. But it looks like there's about 4 projects out there that could manifest themselves over the next 3 or 4 quarters.

Next question comes from Michael LaMotte, please state your company name followed by your question.

JP Morgan. Good morning, guys.

I don't mean to harp on this margin issue, at P&T, but I want to make sure I can break it down accordingly, Steve. About 50 percent, you said was pass-through? Is that correct?

Of the noncapital piece?

Of the noncapital piece.

Right.

Okay. If I look at sort of a breakdown assuming maybe 3 percent pass-through margin, it looks like the remaining revenue is actually already beginning to push up against that 15 percent level. Is that an appropriate way to look at it in terms of -- because on the surface, we're looking at record level of revenue margin that's two-thirds of where it's been at previous high, obviously the mix is the big issue.

Can we appropriately break it down? That way in terms of looking at what the profitability of the core products are at this point?

Well it can be done Michael, but we're not prepared to do it in a public forum or anything else. I understand --

let me ask it this way, is there any fault in sort of the logic or that approach in terms of mechanically trying to get the back of the envelope margin.

No, no problem. I mean, the -- you know, we tend to get better revenues on the noncapital pieces, other than the pass-through items, which tend to be very low. And, of course, on the larger projects, we would like to see those in the high teens, low 20s for that, that's what our expectations are.

When you go through a long period like 2002, 2003, you wind up giving away some of that. And then when you get caught by commodity prices, going against you hard, and very sharply and unexpectedly, you wind up giving away a little more of that. And we're not happy with the margins either that we've had over the last 2 or 3 quarters. We have seen improvements, we are seeing more, and as we -- hopefully as we move into 2005, it's not going to be overnight, it's going to be a continual process of continuing to fight back on those things, and at least my hope is we're as slow giving back those commodity prices as we were getting them, going this direction. So we'll -- we need some training sessions there on our sales guys.

I guess my point just being that I can appreciate that you're not happy with the margins, and on the surface they look like there's a lot of improvement still to come. But you've come a long way, I think in 2 quarters, already in terms of what you're doing on the core side, that mix is --

We like we've been. We wish we could fix it overnight. We do feel like we've made good progress, we got out of a detailed meeting on this the last couple days, going over it project by project, trying to emphasize this. It's something that gets emphasis and focus from the very top. And we're fighting back on those points.

Pete, you mentioned in the spring, at the end of the first quarter, a price book increase, I believe the number was 8 percent, there has been some discussion on other conference calls this earnings season about a second round of price increases this cycle.

Can you give us a sense as to where you are vis a vis the price book, your -- the uptake on the spring increase and maybe if another one's coming in the next 6 months or so.

Well, what we've done, Mike, is obviously we're reviewing prices all the time, I think in the published prices that we have, for instance in some of our noncapital business, in Mission and some of those, we did increase prices in the spring and we certainly are reviewing to see where we go, given the nature of the business today. That's -- and those are really on the published prices, on the capital, again, what we've done is on a component basis, we've pushed it up more to be in line with some of the increased costs that we've seen, but much of that is priced on a project-by-project basis.

Okay. Can you give us quickly what the onshore, offshore mix was in the backlog?

Yes, I did -- I kind of laugh a little bit, I'm not sure whether to classify the Agib rigs as onshore or offshore. About 150 million is a land rig offshore.

Right.

Based upon that, the rest of the mix is about, take that one there and then the rest of the mix is 60/40 offshore versus on.

Last question. On the cost savings, estimated cost savings associated with the merger, you've obviously had a lot of time now to work through a lot the organizational issues since making the announcement in August. And I was wondering if you had had any further thoughts on those cost savings estimates that were preliminary back in August.

Well. We had done a lot of work, a lot of planning in that area, and with teams from both groups, assessing the possibilities, and I think it has tended to verify the number as opposed to changes, so it's still in that expected 40 to 50 million area.

And then in terms of integration, you said that you have done some work along those lines. Assuming we can get closure sometime in the first quarter of '05, how quickly do you think we can start to see those numbers flow through the P&L as we move through next year? Any sense on change in timing since August?

No, let me -- I think it's -- it's probably the kind of situation where you can get a third to a half of those numbers within the first 3 to 4 months, I mean, the plans will be in the process and you should be able to react on those very quickly.

Getting the rest of them may take more in the 6 to 9 months before you're really fully there. But, I think by the end of 2005, you're certainly at a full run rate of that, and I think you'll get most of that in the first 3 to 6 months.

Our final question comes from Andy Hoffman, please state your company name followed by your question.

Smith Barney.

A couple questions. One, I wanted to go over the guidance that you gave for the noncapital equipment businesses. For one, in distribution, 850 to 950 implies basically about a flat year. In the noncapital equipment, the high end of that range would assume almost 20 percent growth. I wanted to know what kind of rig count assumptions you're making to get these kind of estimates.

It's -- the assumption is that most of the rigs that are going to work in the near time probably are working. So you're going to get some. In our minds you're going to get a strengthening, but it's going to be against the first couple quarters of the year, it's probably not going to be against the second half of the year, unless you start building a lot more rigs, drilling rigs, while servicing rigs, you're seeing the starts of that.

But it's going to depend on the capital spend to get some of this moving on an upward track to have much movement in there. Now, we're continuing to work in the international markets. And -- on the distribution side, and I think that's the one area where you have the potential, anyway, of having some market share growth in -- against the -- just a rig count.

In the noncapital -- when you said 850 to 950, if we were, say at 950, that's growth of almost 20 percent, and that's on top of a year where you've had a bunch of pass-throughs. What kind of -- what's going to drive what sounds like a well above rig count growth forecast?

It's -- a lot of that's been slow in the first half of the year, it's that comparison to the first half, and it's our expectation that you're going to see a spend in the industry of up 10 to 15 percent next year? And I think that's -- may turn out to be a conservative number. I think the estimates have been beaten over the last few years of those, and -- but I think that kind of number with the mix moving back offshore, which is important to us, can get there.

And the last question, you noted the corporate expense was up on some compliance, Sarbanes-Oxley. Is the 4 or 4.5 million kind of a permanent rate, or just near term and then it goes back down again.

You know, Andy, I'd like to say that that goes back down, but I think you're -- it may be down a little bit. It's probably not going to be down a lot. This is going to be an ongoing expense that's associated with that that you just can't get around.

Gentlemen, do you have any further closing remarks?

I'd like to thank everyone for calling in today, and I look forward to talking to you again in February when we announce our year-end results. Thank you very much.

Thank you. Ladies and gentlemen, this concludes the National Oilwell third quarter earnings conference call. Thank you for participating in today's conference. At this time you may now disconnect.