Precision Drilling Corporation
Q2 2012 Earnings Call Transcript

Published: 26 Jul 2012

[Operator:]

Good afternoon, ladies and gentlemen, and welcome to the Precision Drilling Corporation's Second Quarter 2012 Results Conference Call and Webcast. I will now like to turn the meeting over to Mr. Carey Ford, Vice President, Finance and Investor Relations. Mr. Ford, please go ahead, sir.

[Carey Thomas Ford:]

Thanks, Jasmine. Good afternoon, everyone. I'd also like to welcome you to Precision Drilling Corporation's 2012 Second Quarter Earnings Conference Call and Webcast. Participating today on the call with me are Kevin Neveu, our President and Chief Executive Officer; and Rob McNally, our Executive Vice President and Chief Financial Officer. Also present are Gene Stahl, President of Drilling Operations; and Doug Strong, President of Completion and Production Services. Through a news release earlier today, Precision Drilling Corporation reported on the 2012 second quarter results. Please note that the financial figures are in Canadian dollars, unless otherwise indicated. Some of our comments today will refer to financial measures, such as EBITDA and operating earnings. Please see our press release for additional disclosure on these financial measures. Our comments today will also include statements reflecting Precision's views about events and the potential impact on the corporation's business, operations, structure, rig fleet, balance sheet and financial results, which are forward-looking statements. There are risks and uncertainties that could cause actual results to materially differ from those indicated by such forward-looking information and statements. Please see our press release and other regulatory filings for more information on forward-looking statements and these risk factors. Rob McNally will begin the call with a brief discussion of the second quarter and operating results and a financial overview. Kevin Neveu will then provide a brief business operations update and our outlook. Rob, over to you.

[Robert J. McNally:]

Thanks, Carey. Precision had a very solid second quarter, notwithstanding the headwinds from lower oil prices and continued weak gas prices and a wet spring in Canada. We reported revenues of $382 million and net earnings of $18 million, or $0.06 per diluted share. Earnings per share were positively impacted by $0.01 by a foreign exchange gain. Second quarter 2012 EBITDA was $97 million, which is the highest level of EBITDA the company has ever achieved in the seasonally slow second quarter. The improved Q2 results primarily reflect stronger pricing, both in Canada and the U.S., versus the second quarter of 2011. EBITDA margins were 25% this quarter versus 27% in the second quarter of 2011. Margins were impacted by international start-up costs, increased maintenance costs in the U.S. and costs associated with directional drilling in Canada. We did not generate positive EBITDA in our International business in Q2 because of the start-up cost associated with mobilizing 5 additional rigs. But we are optimistic about the outlook for our International business in Q3 and going forward, with 8 rigs currently running. In the U.S., during the second quarter of 2012, drilling revenue improved by over $1,000 per day versus the second quarter of 2011. Year-over-year margins declined by 400 per day, largely driven by a wage increase in late 2011, a higher percentage of rigs working at high cost basins like the Bakken, and higher maintenance costs. Versus the first quarter of 2012, U.S. drilling day rates were essentially flat. In Canada, in the second quarter of 2012, drilling revenues improved by over $2,000 per day year-over-year and margins improved by almost 1,300 per day. Drilling days in Canada were down 5% in the second quarter of 2012 versus 2011 due to an earlier spring breakup and wetter spring than we had in 2011, which was somewhat offset by higher pricing. Our Completion and Production segment also had a strong quarter, with revenues increasing to $52 million or 10% above the second quarter of 2011. EBITDA in the second quarter of 2012 improved to $9 million, which is a 9% increase above the second quarter of 2011. Service rig revenue per hour increased by 13% to $728 per hour versus Q2 of 2011, and well-servicing activity was up 9% in the second quarter. In December, we announced our 2012 capital spending plan totaling $1.14 billion. Due to industry conditions, our expectations for the remainder of 2012, we are reducing our capital spending to approximately $875 million, of which $443 million has been spent in the first half of the year. This reduction in capital spending is indicative of our expectation of lower-than-expected second half activity and demonstrates our ability to adjust capital spending to market conditions. We expect our capital expenditures to consist of $613 million for expansion capital, $130 million for rig upgrades and long lead time items and $132 million of maintenance and infrastructure spending. We expect approximately $751 million of the capital to be spent in Contract Drilling and $124 million to be spent in the Completion and Production segment. The revised CapEx forecast still includes all announced and fully contracted new build drilling rigs. Turning to the balance sheet, we are very pleased with the financial strength, stability and flexibility that it provides. As of June 30, total debt was approximately $1.25 billion and net debt was approximately $850 million. Our blended interest rate is just over 6.5% and our earliest debt maturity is in 2019. Precision's liquidity is more than adequate, with cash, operating facilities and our undrawn revolving credit facility totaling over $900 million of availability. The tax rate for the first half of the year was 18%, and we expect the tax rate to be in the low 20s, 20% to 22% for the year. As a reminder, this year we started depreciating our Tier 3 rigs that are not expected to be upgraded on a straight-line basis over 4 years. This increased our depreciation expense by approximately $8 million during the quarter over what the current unit of production method would've provided. This depreciation policy is consistent with our belief that the industry will continue to migrate towards Tier 1 and Tier 2 rigs that are capable of reliably, repeatedly and efficiently drilling horizontal wells. Our expectation is that in 4 years time, we will have a fleet entirely comprised of Tier 1 and Tier 2 rigs, and that our current Tier 3 rigs will be upgraded or retired. Our drilling fleet is currently comprised of 160 Tier 1 rigs, 131 Tier 2 rigs and 62 Tier 3 rigs. After completing the announced new builds and upgrades, we expect to have 181 Tier 1, 136 Tier 2 and 57 Tier 3 rigs. Currently, we have an average of 122 rigs committed under term contracts for the third quarter of 2012 and 113 under contract for the fourth quarter. That concludes my comments, so I'll turn it over to Kevin.

[Kevin A. Neveu:]

Thank you, Rob. Good afternoon. As Rob mentioned, despite headwinds in our core markets and flattening customer demand, Precision delivered the strongest EBITDA cash flow performance in the second quarter in our history, and not surprisingly, our highest revenue following the mid-2000s divestiture of the Technology Services' international drilling rigs. So as we look back in the second quarter, there are some important takeaways that speak to the effectiveness of Precision's growth strategy. Resilience and continued demand for Precision's growing Tier 1 rig fleet was validated during the quarter. And I'll speak more on that in a few moments. Precision's enhanced ability to reduce capital spending in light of an abrupt market change was demonstrated well in 2009's downturn, and again, the first half of this year. And most importantly, the sustainable shifts in Precision's second quarter cash flow versus Precision's historic Q2 cash flow are the direct result of our strategic growth outside Canada. So before I move to our regional performance update, let me speak to these takeaways and help you understand how our growth initiatives are delivering results of Precision. So first of all, regarding the Q2 seasonality in Canada. Operating solely in Canada is a serious challenge for oil service companies. For Precision, our Canadian activity took great plunges, between 60% and 70% for the first quarter peaks to second quarter troughs, while our cash flow reduction were even more severe. This abrupt seasonal cycle in activity drop has taught Precision's people to develop systems to deal with the rapid abrupt changes in customer demand. Following breakup, our forward visibility often remains cloudy and subject to the vagaries of rainy Canadian spring and summer weather. As a result, our Canadian-based activity is often handicapped by 2 quarters of seasonally depressed and unpredictable activity. With our recent and evolving, and now well-established, U.S. market presence, combined with the sustained demand for Precision's Super Series rigs in our emerging and international footprint, we've achieved great strides in mitigating the seasonal Canadian plunge while retaining the flexibility and responsiveness to Canadian seasonal cycles that tell us over the past the decades. Now despite the market uncertainty and flattening over our rig activity, customer demand for Precision's new Super Series rigs remains encouraging, with the additional 5 new builds, Super Triples, contracted during the second quarter. It's important to note that Precision's traditional fiscal discipline for developing rigs remains unchanged. We're not lacking margin, contract turn or fiscal expectation to book these rigs. These further exemplify Precision's flexibility and responsiveness. Including the addition of these 5 new rigs, we've reduced are expected 2012 spending by $270 million from our original announced budget. Now I'm particularly pleased to have the flexibility both financially and operationally to ensure we seize good investment opportunities at all points of the business cycle as we continue to build on Precision's long-term strategy. Now moving to our market update, I'll begin with Canada. And what began as an early and possibly shorter spring breakup was extended by heavy rains throughout June and now into July, severely impacting our expected summer ramp-up. Throughout late May, June and now into July, we've had anywhere from 15 to 25 rigs constantly waiting on weather or waiting on location construction. So I don't believe our second quarter activity accurately reflects total customer demand. However, let me be clear about the outlook. With WTI dropping momentarily below [indiscernible] dollars during the quarter and the continued economic uncertainty, we expect our customer spending will be under close scrutiny and certainly lower than our earlier expectations. Now currently activity levels as of this morning are at 84 rigs, up a couple from yesterday, with 8 rigs waiting on weather. This is versus about 98 rigs this time last year, which puts our activity, off about 6 rigs. From a pricing perspective, spot market rates are under pressure. We get to realize that about 80% of Precision's Q3 Canadian activity was covered by fixed pricing agreements, and those prices should stay firm through the fall and against 2013 customer negotiations. During the quarter, we delivered 5 new builds for the Canadian market and a further 2 in early July. Four of the recently announced new build rigs are in the Canadian markets, with delivery schedules for 2 in Q4 and 2 in Q1 2013. While we remain cautious regarding further commodity price softness, I will point out that WTI price remaining stable near 90 will prove very constructive for activity later in the year and certainly for 2013 budget planning by our customers. Now for those of you who don't follow Canada as closely as some, you need to understand that due to oil transportation constraints, Canada, like the U.S. Bakken, suffers a price [ph] WTI, but it's our view that WTI prices in the range of $85 to $90 provide solid returns for our Canadian customers drilling both light sweet crude and heavy oil targets. Turning to the U.S., Precision's sequential rig count has underperformed the industry, particularly, as the Marcellus has pulled back more than we expected, artificial drilling activity in the Gulf Coast and in the Rockies is a little softer than we expected. But some of our new builds to the Bakken are replacing or displacing some of our lower tier rigs operating those areas. Finally, some of the industry growth this year has been in regions where Precision is a relative newcomer, such as Kansas, Oklahoma and West Texas. Now with that said, we have several rigs mobilizing in Kansas from the Marcellus, and we believe that our Super Single rigs will prove to be a winner at the Mississippian Lime play matures and evolves to developing throughout long-term development [indiscernible]. I am also pleased with our position in West Texas, as we have over 20 rigs operating in the Permian Basin. Looking forward, we expect modest utilization improvements due to our new builds, deployments and redeployment of some of our idle rigs in Kansas and West Texas. For the quarter we delivered 3 new builds to the Bakken. And since, delivered a further 2 new builds, 1 to the Bakken, 1 to the Eagle Ford. Now in the U.S., while we expect to see pressure on day rates, and particularly, for the lower tier rigs. You should expect that Precision will resist the urge to prop up our utilization by aggressively cutting day rates. As always we remain focused on maximizing long-term cash flow margin, while putting less emphasis on short-term utilization. We are confident that the combination of rig performance and contract coverage for our Tier 1 fleet will continue to sustain strong day rates and margins throughout the balance of the year. Our international operations are starting to hit strides in the third quarter. I'm personally thrilled to have 8 rigs running by mid-year as I previously suggested aspirations of 8 new rigs by year end. As Rob discussed earlier through the start-up costs, this business did not generate any EBITDA during the third quarter -- during the second quarter. However, most of the startup and commissioning issues are behind us. In the latter half of the year, we expect to deliver results as planned. I'm surprised by international customer interest and the strong rig activity we're experiencing. You should expect further developments from Precision this important growth initiative. However, as we've said in the past, our international growth will proceed at a measured rate as we prudently grow this presence, and as in other areas, we'll focus on cash flow and margin growth, not utilization. Now turning to our directional drilling business for a moment. I think Canada in general is in for a bumpy period, which couldn't factor in a very good proposition for all involved. A large portion of the Canadian directional activity is executed by small independent threshold drilling contractors, who often demonstrate little pricing discipline and down cycles, but generally [indiscernible] costs from the larger players. While this creates short-term pricing pressure, expect our low-cost integrated model to be a sustainable solution for our customers over the longer haul. In the U.S., our directional activity was strong for the quarter, with West Texas being a particular bright spot for us. We expect to open our Midland water repair facility later this quarter and show optimized our repair costs and reduce our freight costs on those 2 [indiscernible] in that sector. Directional drilling, integrated drilling are being the key growth initiatives for Precision, although softening market conditions dictate lower growth. The expectations that we committed earlier this year is a key focus for us going forward. Now as Rob mentioned earlier, despite a wet spring, our Completion and Production business actually showed increased activity when compared to 2011. This was driven by our U.S. deployment of snubbing service equipment and well service rigs being deployed in the United States, Canadian coiled tubing rig deployments, and then locally drier weather than last year's [indiscernible] conditions in the Canadian Bakken. Pricing is up over last year, but labor costs remain a concern for this business unit. Looking forward, pricing over a very sensitive commodity prices, but our customers understand the cost pressures we face, and have been cooperative in this regard. I remain optimistic that the positive momentum of this business will continue at a stable oil price environment. Later this year, we'll deploy additional 4 coiled tubing units to Canada and 2 more in the U.S. We remain very encouraged by the potential of that [indiscernible]. As the outlook for Precision, there are some macro issues worthy of consideration. First of all, the U.S. gas rig count continues to whittle itself down even as gas prices have somewhat stabilized. I'm sure we can all agree that current gas and gas liquids drilling appears to be undersupplying a rising gas demand. However, it will take several quarters to work off this severe gas storage glut. Long-term, we expect to see more rigs drilling for gas than are today. Yet, short term, we expect continued easing in gas activity. More importantly, Precision has carefully monitored the remarkable growth in unconvetional oil activity. We were not surprised that a momentary oil price dip below $80 at WTI halted the growth profile. However with oil prices seemingly resilient despite persistent European debt concerns and global uncertainty, our customers are still benefiting with strong cash flows and excellent returns. Our business outlook remains encouraging, with prices hovering closer to $90. Demand for our High Performance, High Value service continues. We remained poised to seize opportunities for long-term growth, while maintaining the capability to immediately dial back operations at a distance and the short-term concerns lead to a meaningful pull back. We based our view, Precision's High Performance, High Value service provides safety, the predictability, the consistency and cost efficiency our customers seek to exploit resource opportunities globally. Now before I conclude, I'll take a moment to thank the employees of Precision once again for their hard work and dedication to results and their impressive focus on safety. On that note, I'll turn the call back to the operator for questions.

[Operator:]

[Operator Instructions] The first question is from John Tasdemir of Canaccord Genuity.

[John Tasdemir:]

I guess I just have a couple of questions. Couple of crosscurrents in the U.S., you kind of said that you do expect some modest utilization improvement as some of those rigs get redeployed from the Marcellus. But you also said that spot rates are coming down a bit. How do you -- how should we think about margins kind of progression from second to third quarter? I mean, same? Get better? Help me out.

[Robert J. McNally:]

John, this is Rob. Yes, I think you really have to think about it in terms of the tier of rigs and where they are. I think the Tier 1 rigs are going to hold up better than others, although there may still be some pressure. But the Tier 2 and Tier 3 rigs is where we would expect to have the greatest pressure. And then I think it's going to also vary by basin. My overall sense is it's going to be flat to down-ish for blended margins and not likely that we're going to see it move up.

[John Tasdemir:]

Okay. And ultimately that, I guess, persists until activity starts to pick up and utilization across the board for drilling activity improves?

[Kevin A. Neveu:]

Yes. I think that's a safe assumption. I'll tell you that every customer call we make these days when eventually the oil price is getting below $80. So it's a great opportunity for the customers to work hard on leveraging down prices, and Precision will maintain discipline and focus on our margins, focus on our margins and returns, with less emphasis on utilization.

[John Tasdemir:]

Okay. Would you -- I think one of your competitors said they were kind of saying, say, 10-ish percentage kind of drops the spot pricing on the Tier 1s and maybe 15% on the lower end. Is that consistent, or is there a difference between Canada and the U.S.?

[Kevin A. Neveu:]

John, I think it does become quite regional. You can expect pretty firm markets in places like Bakken, West Texas, a little more softness in the Eagle Ford as you look at prices, certainly anything that's remotely gassy will be under more pressure. Spot market in Canada, uncontracted. I gave some guidance on that, but we've got a pretty good lock on Canadian prices through the third quarter right now. I'll fall short of giving you a clear guidance on what we think the drops are going to be, but I do think our Tier 1 ratio will look quite well.

[John Tasdemir:]

Okay. And then, I guess, just one other question, and I'll turn it to someone else, just would you remind me on the International day rates, working internationally, when they show up in your results, are they counted in the U.S. operating days and operating cost per day, or is that other?

[Robert J. McNally:]

It falls into the other category, John.

[Operator:]

The next question is from Jeff Spittel of Global Hunter Securities.

[Jeffrey Spittel:]

I want to ask a little bit about your repricing exposure as contracts are set to expire. Are there any particular areas given the different dynamics, regionally, where you have a disproportionate concentration of rigs that are set to expire in either a basin where things are holding up a little bit better, or an area where things are a little weaker?

[Kevin A. Neveu:]

Jeff, good question. I think we've come through the quarter where our Marcellus rigs were mainly set to roll off. And then we're pretty well balanced around the U.S. and Canada right now. Fairly equally balanced among all the areas.

[John D. Lawrence:]

Good to hear. And then switching over to the new build, too, can you just maybe give us a little refresher on the progression of what's left to deliver and the disposition between Canada and the U.S. the next few quarters?

[Robert J. McNally:]

Yes so far, year-to-date, we've delivered 11 out of 20 of the rigs that are going to Canada. And we've delivered -- just to make sure I get the number right, 8 out of 15 that are going to the U.S. And then we'll have 2 additional rigs delivered early 2013 in Canada and 1 in the U.S.

[Operator:]

The next question is from John Daniel of Simmons.

[John M. Daniel:]

Just wanted to see if I can get some color on the components of the sequential U.S. cash margin decline. Was there any one-off increases for things like workers comp or the like?

[Robert J. McNally:]

No, John. It's a combination of things. It was the increase in wages. It went through at the end of last year. We have a higher percentage of our rigs now working in higher cost basins like the Bakken. And then it's more extended reach horizontal drilling that drives up costs. It's harder on the equipment than some of the simpler wells. So it's nothing that I would characterize as a one-time item that's going to come out next quarter.

[John M. Daniel:]

Okay. All right. And then although you've not given financial guidance in the past, the last couple of quarters, as you talked about your CapEx, you would make the comments generally speaking that the CapEx spend wouldn't be significantly higher than cash flow in terms of you are now offset significantly. Now that CapEx has dialed back to 875, same logic holds, I presume?

[Robert J. McNally:]

Yes, John. Were conscious of trying to keep CapEx within a reasonable distance of what we think cash flow or EBITDA will be.

[John M. Daniel:]

Okay. And then just the last one from me, it's housekeeping more than anything, but you provided a contract coverage for all of the rigs for the next 3 quarters. Can you share with us the break down between the Canada U.S. and international?

[Carey Thomas Ford:]

I'll go through all of them as I repeat what Rob said. So in Q3 2012, we'll have a total of 122 rigs, 66 in the U.S., 48 in Canada and then 8 internationally. In Q4, it's 113 total, 57 in the U.S., 48 in Canada and 8 internationally. And then full year for 2012 will be 129 total, 70 U.S., 54 Canada and 5 internationally. And then for full year of 2013, it's 84 total, 31 U.S., 45 in Canada and 8 internationally.

[Kevin A. Neveu:]

I want to add on a small point here. We still see customers renewing contracts, renewing those contracts on terms. So we're not expecting that, that contract falloff to falloff at that rate.

[Operator:]

The next question is from Dan McDonald of RBC Capital Markets.

[Dan MacDonald:]

I've got Kurt here with me as well. Just wondering when we look at the new build schedule here and the upgrades, what portion of those you think might be at risk to display some of your existing equipment as you've alluded to has been seen in the Bakken versus likely, or your expectations to be incremental to your rig count here in the back half of the year?

[Kevin A. Neveu:]

Dan, [indiscernible] in my prepared comments around we expect a modest increase in utilization. I'd be surprised if we see a lot more attrition to the current fleet. So I think most of it should go to the market to add on to what's going on now. Now, let me qualify that, in you see further pricing softness, I'm wrong.

[Robert J. McNally:]

Yes. I think if we get -- if we're kind of in a $80 or sub-$80 oil world, then I think that it's likely that we see the existing rig fleet continue -- the utilization continue to deteriorate some. If pricing is more robust, then I think Kevin's comment is right that we're likely to kind of have seen the attrition that were going through on our current rig fleet.

[Kevin A. Neveu:]

But I am really quite certain that we're not very good at forecasting forward energy prices, so we we're quite good at responding to them.

[Dan MacDonald:]

You and us, both. And then just looking at the new build market, given the 4 or the 5 that you just announced being in Canada versus the U.S., can we read through that the appetite perhaps for contracted new build is a little bit healthier up here in Canada or was it just a matter of customer mix, and it's more or less equal on both sides?

[Kevin A. Neveu:]

Dan, that's a good question. It might just be timing more than anything. If you're here in Canada you want a rig for winter 2013, you can order it right now. So we're kind of at a point in time when it's really important to hear orders in from Canada so you can have rigs for the next winter. So that may be the issue there. We have kind of a party list for our customers discussing new builds, and I've always been giving that information, the fast, the most. I didn't give it out today. But I'll give it right now. We still have a bunch of customers, I think it's 8 or 12 customers looking at somewhere right at 25 new builds. Now my expectation is probably we're going to skip up until the third quarter, but -- and maybe some of those are converted into upgrades or things like that, but the discussion on new builds has not gone to 0. And the large shot customers, you're looking at long-term plans. Still intending to use Tier 1 rigs. If they can get them in the other market they will build them.

[Operator:]

The next question is from Dana Benner of AltaCorp Capital.

[Dana Benner:]

Perhaps, I missed it, but with respect to the 5 new builds that have been added to the tally. Can you give us a sense as to when those ultimately will hit the field, and is there any portion of the $875 million that -- I would imagine there is some long lead time items, et cetera. But is that mostly an '13 spend?

[Carey Thomas Ford:]

So, Dana, this is Carey. We expect that 2 of those rigs be delivered in the back half of 2012 and the remaining 3 should be delivered in the first part of 2013. And the cost associated with that are split about the same way, where the majority of the new build costs for the 3 rigs that are delivered in 2000 -- that the 2 rigs that are delivered in 2012 will be captured in the $875 million, and there'll be a carryover cost to complete those additional 3 rigs in 2013.

[Robert J. McNally:]

I think actually, Dana, the number is about $40 or $45 million that's going to carryover into 2013 to finish those rigs.

[Dana Benner:]

Right. One of the interesting stats you've given on prior calls is you've talked about the counter-party risk or lack thereof, with respect to the E&P client signing these contracts up. Is there any -- and I've seen on your call $25 billion market cap was the average counter-party market cap. In any case, is -- does that number change materially with these 5 new builds, or are the clients who are signing these up still very much in that vein.

[Kevin A. Neveu:]

Well, the first part of the answer is with the oil price pulled back, the market cap had shrunken a little bit. But go ahead.

[Robert J. McNally:]

Yes. So, Dana, they wouldn't -- this wouldn't move the needle on the size of our average customer deciding new builds. These are right the sweet spot.

[Dana Benner:]

So no material change?

[Robert J. McNally:]

No.

[Dana Benner:]

Moving to your service rig business, I guess, in one sense, a very pleasant surprise given the weather, but there may be some broader structural trends emerging with respect to the move to oil versus gas wells. So maybe you can address whether you think that this was simply -- or whether it was more a case of where the rigs were in relation to bad weather, or in fact this is part of the emergence of that structural trend of the move to oil and what it implies for the strength of your service rate business as part of the corporate whole.

[Kevin A. Neveu:]

Dana, Doug is smiling here, so I'll let him answer the question.

[Douglas J. Strong:]

I think it's a real good indicator. It's early, but a really good indicator of the underlying strength in the production work. Yes, we had good weather in Southern Saskatchewan that enabled it, but it really -- the quarter represented a shift where we had reduction in abandonments, completions and the nice increase in production work, consistent with the number of oil wells that are coming online continuously, so a good development.

[Dana Benner:]

And just finally, you've teased us a little bit more with respect to your International business. Obviously, a good progress moving to the 8. Should we conclude that it's more likely that we would see growth in current international areas, or could it just as likely be a move to perhaps a third country?

[Kevin A. Neveu:]

Dana, at this point, we'll be focusing on the areas we're currently in and try to build out larger base. We're really pleased with where Mexico's gone. I'd love to see our Middle Eastern Arabian Gulf footprint expand. But remember, that even if I signed a contract tomorrow, it's 6 months or 1 year before the rigs get deployed, just depending on the spec and the scope. So this will be a small growth story for us, but a very nice business. We're not out chasing rapid growth, we're not out chasing, let me call them, low-margin high utilization type jobs.

[Operator:]

The next question is from John Lawrence of Tudor, Pickering, Holt.

[John D. Lawrence:]

Kevin, maybe a bigger picture question for you, on outlook for the U.S. gas rig count, does it feel like we've seen the worst so far or do you think there's another leg down?

[Kevin A. Neveu:]

Well, it's been pretty done so far but my sense is it will just keep on whittling itself down a little bit further. I'm not surprised [ph] the bottom June, but I think we're close to the bottom.

[John D. Lawrence:]

Okay, okay. Good. And then on the Tier 1 assets that are rolling off contract in the back half of the year, would you expect all those to find work, or could some of those potentially go idle?

[Kevin A. Neveu:]

I think it's really sensitive to the commodity price. If price is staying closer to $90, I expect that all those go back to work. If we see another dip down into the $70s, and we all know the risk of that is, then some of those rigs go idle.

[John D. Lawrence:]

Sure. But you'd say in the current environment, most of them find work.

[Kevin A. Neveu:]

Those are very good rigs. They're doing a good job for our customers, most of those are on long-term drilling plans. I think they'll be just fine.

[John D. Lawrence:]

Okay, great. And then just last one, any customers trying to back out of contracts for Tier 1 assets?

[Kevin A. Neveu:]

No. [indiscernible] that's an early indicator we've always watched for. And last time in 2009, we didn't actually have any backouts. We kept all of our rigs going. I think we have one by '09 [ph], so what they do often is they're a little tight or breakdown [indiscernible] standby for the rig, the margins standby. There are no indications of that. In fact, the rigs, wherever they are, the customers are trying to promote the location.

[Operator:]

The next question is from Scott Treadwell of TD Securities.

[Scott Treadwell:]

Just a couple of maybe housekeeping questions. When I think about the rig fleet and the potential, as you've talked about the spot prices that continue to weaken, is it fair to say that the legacy contracts you've got today that maybe 1, 2 or 3 years old were probably signed at rates that are below where the spot prices today or has been for the last 6 months and then even if these things rollover over the next 18 months, it's going to take a while for the impact of that to be felt on the Tier 1 day rate. Is that a fair kind of broad assumption?

[Kevin A. Neveu:]

Well, you're kind of right, in that there's always some lag time between spot markets and contracts running lining the soft stock up again. So if we're early into a long-term soft period, it will take a while to wash itself through. But I wouldn't model in stable day rates, Q3, Q4, Q1 in a softening environment.

[Scott Treadwell:]

Okay. No, that's kind of what we've got. The other thing on the G&A side. I know you mentioned in the release that there was a reduction in stock-based compensation. It looked like the corporate kind of EBITDAR or G&A contribution was a $5 million drop. Was that all due to the stock base comp, or was there some sort of structural savings that we should be thinking about going forward?

[Robert J. McNally:]

The majority of that was based on the stock-based comp.

[Scott Treadwell:]

Okay. And just finally...

[Kevin A. Neveu:]

Scott, we hope that, that number reverses itself in Q3 for our investors.

[Scott Treadwell:]

Yes, perfect. Last one, the rigs that you've talked about having been displaced are seeing some noise in the Bakken. Those are all spot rigs, or are those contracted rigs that you're just -- the customer is waiting for a new location or a new play to get them back to work until you've got really strong visibility? Or are they spot rigs and you're just marketing them as we speak?

[Kevin A. Neveu:]

The majority of those are on spot market now. we're looking for work form in the Bakken and other places, but they're typically Tier 2, good Tier 2 rigs that now that have been replaced by new Tier 1 assets. And so we'll find a home for those eventually because they are good rigs.

[Scott Treadwell:]

Okay. And on the CapEx reduction side, you talked about the lowering in terms of long lead items. Fair to say that with low appetite for new builds, the time for some of these large capital items is probably going to be shorter going forward than it is looking back.

[Kevin A. Neveu:]

Yes, a little bit. But actually the rig build is out of business right now. The disposition of the suppliers, is actually there's still quite backlog and we're busy. Another service lines I go to be think things like that, it might be slowing down a little more, but things like top drives and mud pumps are still quite busy. You get later in the year and our credit program winds down -- industry winds down a little bit, those lead times will shorten a little.

[Operator:]

The next question is from Tom Curran of Wells Fargo.

[Tom Curran:]

Kevin, how would you currently define Tier 1 in Canada, and based on that definition, what do estimate is the total industry-wide fleet?

[Kevin A. Neveu:]

We [indiscernible] definition is our Tier 1 rigs are the rigs that are designed for horizontal drilling with the control systems top drives and mud pumps to be highly efficient to drill horizontal wells, but they also have extremely high mobility, meaning they can relocate rig down, rig up and relocate and, typically in hours in Canada. I tell you that in Canada, a much larger component of the Canadian fleet is Tier 1. Many of our peers [indiscernible] raised to drill horizontal wells, we do. It's almost a result of the short winter season that requires so many wells to be drilled in such a short period of time. So I feel pretty good about the Canadian fleet being well-suited for its shallower drilling generally than U.S. drilling. Fast-moving, and deployable. But it is interesting that over the last 18 months, I'm running over this quarter, but then if you want I think we booked 55% of the new builds in Canada over about a 12-month period. Super Singles rig is just so well-suited for Canada that. Is there anything you can refresh me in our rig count in Canada for Super Singles? You check that, I'm just finishing up my comment here. 66 rigs. I think in that category, we have a very strong position on market share.

[Tom Curran:]

Would you estimate that it's roughly in line with what your win rate has been for new builds?

[Kevin A. Neveu:]

Probably a little less than that. Our win rate on new builds going to be less than our share of Tier 1 rigs. Because we've been so successful with that Super Single. But the last quarter for Canada are also for Super Triples, so we have a lot of work to show up here.

[Tom Curran:]

Right. That's helpful. Rob, please remind us. When it comes to your standby rates, how did those work, and what's the range? And then in Canada, how much flexibility do you have on labor-related cost between now and when you would renegotiate wages with the unions, and when is that next renegotiation period?

[Robert J. McNally:]

I'll answer the question backwards, Tom. And there aren't unions that we're dealing with in Canada. The wage rates are recommended by the CAODC, and that happens in the fall each year, I think it's in October. So that will be the next time that we look at wage rates, and that will move kind of coupled with what's happening in the market, both in the labor market, as well as for rigs. So that won't be addressed until the fall. And -- sorry, what's the first part of the question? Oh, standby, I'm sorry. It's, respectively, it's the margin. So if we're going to accept -- if they're going to accept the rig down, they'll pay us the margin and the costs essentially go away.

[Tom Curran:]

But it is 100% of the margin expected in the contract at full utilization?

[Robert J. McNally:]

That's correct.

[Tom Curran:]

Okay. And then last one for me, could you please give us an update on how your growth expectations for the directional drilling business over the balance of 2012 has changed, if at all, as a result of the second cut to your CapEx budget?

[Kevin A. Neveu:]

We've pulled that down to reflect the market conditions and also to show that we can be flexible on our capital spending. So it's a couple of important strategic moves for us. But, Carey, remind me, we began the year at about 70 kits?

[Carey Thomas Ford:]

A little shy of 70, now we're at 81.

[Kevin A. Neveu:]

81 now, and likely finish the year a little over 100 kits.

[Carey Thomas Ford:]

And, Tom, I just want to have one clarifying point. In Canada, our Tier 1 rig fleet is just shy of 90 rigs. So I think we're at 87 rigs today.

[Kevin A. Neveu:]

Including Tier 1, Tier 2 -- including Tier 1 and Super Singles.

[Carey Thomas Ford:]

Right. The Super Singles would be kind of in the low 70s, high 60s, low 70s.

[Tom Curran:]

So the total industry is probably at somewhere between 180 and 200?

[Kevin A. Neveu:]

I'd still go back and look but that's not a bad estimate.

[Robert J. McNally:]

I'd say use round numbers, 200 is probably is a good number.

[Operator:]

The next question is from Kevin Lo of FirstEnergy.

[Kevin C. H. Lo:]

In your commentary, you're talking about you have decent visibility into Q3 in just the pricing, can you kind of share with us what that is in Canada?

[Kevin A. Neveu:]

Kevin, I think the pricing status last fall will carry through this fall. Unless there were a dramatic reduction in the oil price, and I mean a real collapse. I think our pricing in our contracts stays firm through the October renegotiation. You may recall that in the past I generally think the activity and demand in Q3 is a good proxy for Q1, following winter. So that will help us understand what pricing looks like in October. So if we see that price stay stronger in the orders activity, slightly picks up a little bit and we have pretty good summer. That's a good proxy for the winter, which we forecast at strong winter all driven by commodity prices. And in that environment, you might see rates go up a little bit and day rates go up a little bit. [indiscernible] Certainly that will continue moving along with what we're seeing right now and likely flat labor increases in October and likely flat labor increases, if you're modeling in a structure on the price oil, that's your off.

[Kevin C. H. Lo:]

In terms of your day rates and expenses in the U.S. how much of that was attributed to R&M versus pricing or other cost issues?

[Robert J. McNally:]

Depending on if you look at it sequentially, from Q1 to Q2, the majority of that is R&M. If you look at it year-over-year, where it's a bigger increase than you have call it 1/2 or a little more is due to though wage increase that came through the end of 2011.

[Kevin C. H. Lo:]

In terms of utilization for the rigs in the Marcellus, and you're looking to deploy some of those rigs, how many of those rigs do you think you can deploy next few months here?

[Kevin A. Neveu:]

I think it will be a handful. Looks like on our current rig count, Marcellus, we have 7 rigs, and there are a couple of rigs are being deployed right now. So I think it should stay kind of single-digits, Kevin. But I think we might be wrong in reaching the trough in the Marcellus, it remains for lower cost basis in the U.S.

[Kevin C. H. Lo:]

And I apologize...

[Kevin A. Neveu:]

For our customers, that is.

[Kevin C. H. Lo:]

Okay. I apologize if you guys answered this already, because I was trying to go [ph] down. But how many of your rigs that you're building right now are not contracted?

[Robert J. McNally:]

0.

[Kevin C. H. Lo:]

So all the rigs that you're building right now are lapped contracts by the end of it.

[Robert J. McNally:]

We have been very consistent in not building any rigs on spec, so there's 0 rigs that are uncontracted.

[Kevin A. Neveu:]

Yes. We did have earlier those long lead type programs that are now closed down. And we did have a potential European spec rig that's out of the budget. But as far as our current rig program and our current capital budget, everything is contracted.

[Kevin C. H. Lo:]

Okay. So in your commentary and your MD&A when you were talking about you do still see new contracts available, so any of that you would have to increase your capital program yet again?

[Kevin A. Neveu:]

Well, I don't think any additions that we'll make. If we build 5 more rigs in Q3, for example, that's not impossible, but I don’t think it will happen. If that were to happen, it's not going to happen, that's likely 2013 capital, not 2012 capital.

[Operator:]

[Operator Instructions] The next question is from Dave Wilson of Howard Weil.

[David Wilson:]

Just wanted to follow up on the International and the 8 rigs working there. With the start-up cost behind you, can you share what level of EBITDA you expect to be generating from the International business?

[Robert J. McNally:]

I won't give you any specific numbers, but these are all good-sized rigs. Think of them like 1,500-horsepower North American rigs or a little more than that.

[David Wilson:]

Okay. And I know you kind of mentioned it earlier, but is it still too early to talk anything concrete about adding more rigs to either of those areas?

[Kevin A. Neveu:]

Well, we're seeing a very strong customer inquiry, interest right now. We're bidding a lot of things out. We're going to focus on kind of building out on our current places in Dubai and in Mexico. Unless something else came along, there was a serious concentration of activity that give us a third leg, but you expect to see some growth in areas we are in right now. Dave, it's going to be slow going even if we have something in 4 weeks time, likely it's months and months before it reach the point of start up.

[David Wilson:]

Right. Got you. And then one final one, maybe this one's for Doug. I know last quarter you mentioned some pricing traction on the Completion and Production Services side of things, and then today, you mentioned some cost pressures share as well. As we move forward, how should we think about margins in this business?

[Douglas J. Strong:]

I think that will tie in with Kevin and Rob's comments on commodity prices. Clearly, $80-plus, call it $80-plus, I think we're in a good stable environment. And we've shown some nice year-over-year increase. That's partly rig mix but there's a layer of profitably there that frankly reimburses us for a lot of the reinvestments that has come back into the fleet. So we're encouraged to keep the current pricing platform as it is, we'll see how commodity prices evolve.

[Operator:]

There are no further questions registered at this time. I would like to return the meeting back over to Mr. Ford.

[Carey Thomas Ford:]

I'd like to thank everybody for joining us today. That concludes our second quarter 2012 conference call.

[Operator:]

Thank you. The conference has now ended. Please disconnect your lines at this time, and we thank you for your participation.