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Parker Drilling (NYSE:PKD)

Q1 2014 Results Earnings Conference Call

May 8, 2014, 11:00 a.m. ET

Executives

Richard Bajenski – Director, IR

Gary Rich – President & CEO

Christopher Weber – SVP & CFO

Analysts

Jeff Spittel - Clarkson Capital Markets

Klayton Kovac - Tudor, Pickering, Holt

Matt Marietta - Stephens

Pike Howard - Johnson Rice

Operator

Good day, ladies and gentlemen, and thank you for standing by. Welcome to the Parker Drilling first quarter 2014 conference call. [Operator Instructions] I would now like to turn the conference over to our host, Mr. Richard Bajenski, director, investor relations. Please go ahead, sir.

Richard Bajenski

Thank you, operator. Good morning, and thank you for joining the Parker Drilling 2014 first quarter conference call. This is Richard Bajenski, director of investor relations. Joining me today are Gary Rich, chairman, president and CEO; and Chris Weber, senior vice president and chief financial officer.

In the course of our comments today, we may make statements regarding management's expectations for the company's future performance we believe will be informative to our shareholders. These statements are considered forward-looking statements within the meaning of U.S. securities laws.

Each forward-looking statement speaks only as of the date of this call, and actual results may differ materially due to various factors we referenced in our public filings and other factors addressed during this call, including changes in market conditions affecting our industry.

We will also refer to non-GAAP financial measures such as adjusted EBITDA, non-routine items, and segment operating gross margin, excluding depreciation and amortization, which we will refer to as segment gross margin in this call. Please refer to the table in our current press release or on the company's website for a definition of adjusted EBITDA and a reconciliation of this measure to the comparable GAAP measure and for further information regarding non-routine items.

I ask you to take note of this caution about forward looking statements as we make our comments today. Our first comments are from Gary Rich. Gary?

Gary Rich

Thank you, Rich. Before getting into our first quarter results, I want to share with you some news on recent awards we have received from our customers, recognizing Parker performance. The crew of Parker rig 221 operating in southern Mexico has been recognized by our customer, Slumberger as the best rig in its Mesozoic project for meeting and exceeding key performance indicators for quality, health, safety, and environmental efforts during the third and fourth quarters of 2013.

[unintelligible], an affiliate of Parker Drilling in Indonesia, was presented with a best contractor [HSC] award by our customer Energi Mega Persada for the 2012 to 2013 period. Our Papua New Guinea operation received an [unintelligible] safety award for onshore operations in 2013.

And most recently, our O&M crews on the Harmony platform offshore California were honored to be named Rig of the Month by Exxon Mobile for their outstanding record as a spill-free, [unintelligible] free, and incident-free operation.

We are very proud of these awards. They tell us our focus on innovative, reliable, and efficient performance is aligned with our customers’ objectives. They also tell us our customers value the Parker safety culture that delivers those results. I congratulate all the Parker employees who work directly in the operation that were recognized, and I commend Parker employees everywhere for their continuing commitment to work safely and efficiently. They have a direct impact on the quality of the results we deliver.

Now, let’s review the first quarter. We expected a challenging start to the year. We successfully navigated through the quarter and delivered results in line with what we expected. Here are some of the highlights.

At our U.S. barge drilling operation, our average day rate increased by 7%. Our average utilization was 74% for the quarter, down from the fourth quarter level due to the effects of winter weather conditions. However, we were at full utilization by the end of the quarter, and just completed the month of April at 100% utilization.

This business is in great shape, and we recently added to is capabilities with the completion of Rig 55B, a deep drilling barge. The rig departs this week after having been surveyed and inspected by the U.S. Coast Guard and the Bureau of Safety and Environmental Enforcement. It is the first drilling barge to go to work in federal waters since the Macondo incident in 2010.

We continue to focus on strengthening our international rig fleet utilization, which remained at 73% this quarter. Recently, we contracted rig 122 in Mexico for startup in the 2014 third quarter. This rig has been idle since late 2010. We are in the process of securing work for several other rigs that will contribute to building utilization in both our Latin America and eastern hemisphere regions.

Our U.S. drilling operations turned in another solid quarter as the two arctic class rigs on the north slope and an O&M project offshore California continued to perform at high levels. With a little more than a year’s operating experience, the Alaska rigs are performing well, delivering the operating performance they were designed for and producing reliable results.

Utilization in our U.S. rental tools operation increased in each of the last four months. As a result, the first quarter’s utilization was 5 percentage points higher than in the fourth quarter, and the March level was the highest it has been since July of 2012. Though price discounting is still a factor, the Quail Tools management team continues to do a great job of securing a strong market position while also providing solid financial results.

We had a difficult first quarter in our international rental tools business. While we incurred planned cost increases for expanding and relocating facilities and crewing up for new contracts, several rental and service jobs ended earlier than expected. In addition, we experienced delays in the receipt and deployment of new capital equipment that, along with customer delays, negatively impacted operating results.

Nevertheless, conditions are improving. Our facility moves are nearly complete, inflows of capital equipment are growing, the legwork is expected to restart later this quarter and next, and we recently secured several contracts for new business.

On the corporate side, we refinanced our 9.0125% notes with 6.75% notes in January. As a result, today we have less debt and our overall debt portfolio carries a lower rate and our maturity schedule has been extended. This should contribute to moving our leverage metrics to stronger levels this year.

Those are the key points I wanted to make. Chris will provide more detail in his financial review, and then I’ll come back to offer some thoughts regarding our outlook. Chris?

Christopher Weber

Thanks, Gary. For the first quarter, we reported revenues of $229.2 million, adjusted EBITDA of $54.1 million, or 23.6% of revenues, and a net loss of $12.5 million. Included in the quarter’s results was $29.7 million pretax of debt extinguishment expense associated with the first quarter refinancing. Excluding this expense, net income was $5.5 million or $0.04 per diluted share.

The rental tools segment reported first quarter revenues of $80.5 million, down 1% from the 2013 fourth quarter. Segment gross margin declined 19% to $28.8 million, or 35.7% of revenues, from the prior quarter’s $35.6 million or 43.8% of revenues.

The decline in segment revenues and gross margins is primarily due to lower activity and higher costs in our international rental tools business. In several of our international markets, we had rental and service jobs that ended earlier than anticipated.

At the same time, we experienced delays in the start of new contracts due to the deferral of customer projects and slower than expected receipt and deployment of new capital equipment. Our costs were higher in the first quarter as we continued to prepare for increased inflows of new capital and due to $2.6 million of cost associated with an increase in our allowance for [doubtful] accounts and a change in our corporate allocation.

As a result, international rental tools revenue was down 9% to $27.8 million, and gross margin declined to $1.4 million. In our U.S. rental tools business, revenues were up 4% to $52.7 million, due to increased activity, while gross margin declined by 2% to $27.4 million, due to increased price competition.

Our U.S. barge drilling segment reported first quarter revenues of $30.5 million, 12% lower than the 2013 fourth quarter. Segment gross margin declined 32% to $11.8 million or 38.8% of revenues from the prior quarter’s $17.4 million, or 49.9% of revenues.

The decreases in revenues and earnings were primarily the result of a decline in average utilization, 74% in the 2014 first quarter, from 89% in the 2013 fourth quarter, offset by a 7% increase in average day rate. Gross margin was further impacted by a $1.7 million increase in our reserve for worker’s compensation expense.

Our U.S. drilling segment reported first quarter revenues of $19.4 million, up 4% from the 2013 fourth quarter. Segment gross margin rose 38% to $5.6 million, or 28.7% of revenues. The increases in revenues and earnings were primarily due to improved operating performance of our two arctic class rigs on the north slope of Alaska and our recent increase in day rate. In addition, gross margin benefited from a reduction in our allowance for [doubtful] accounts by approximately $1 million.

Our international drilling segment reported first quarter revenue of $85.5 million, a decrease of 12% from the prior quarter. Segment gross margin declined 24% to $16.4 million or 19.2% of revenues, from the prior quarter’s $21.7 million or 22.2% of revenues. A significant portion of the decrease in segment revenues was due to an expected $6.7 million reduction in reimbursables this quarter, following an increase of approximately the same amount in the prior quarter.

Excluding reimbursables, revenues declined approximately 7%. The decline in revenues excluding reimbursables and gross margin was primarily the result of lower realized day rates due to an increased number of days on standby and moving rates, a change in the mix of active rigs, and a full quarter of startup costs for our two rigs in the Kurdistan region of Iraq.

That covers the operating segment. First quarter G&A expense was $9 million, down from $18.7 million for the 2013 fourth quarter, primarily due to certain expenses that did not recur in the first quarter. We expect G&A expenses for the remainder of the year will be approximately $10 million to $12 million per quarter on a normalized basis.

First quarter results include $29.7 million of debt extinguishment costs associated with our January debt refinancing. We issued $360 million of 6.75% notes due 2022 and used the proceeds, along with available cash and a $40 million reborrow of our term loan to tender for $425 million of 9.125% notes due 2018. 98% of the bonds were tendered. The remaining bonds were called on April 1 this year.

As part of the refinancing, we reduced outstanding debt by approximately $25 million from 2013 year-end levels, lowered our annual interest expense by approximately $13 million, and extended our maturity schedule.

First quarter interest expense was $12 million. This reflects the benefit from the refinancing. For the 2014 first quarter, we reported an income tax benefit of $8.6 million or 41% of pretax income. We expect our full year tax rate to be around the mid-40s, though variations may occur, depending on the mix of earnings among tax jurisdictions and our ability to utilize tax offsets.

At the end of the quarter, we had $631 million of debt outstanding and a cash balance of $93 million, for a net debt position of $538 million or 46% of net capitalization. Measured as a multiple of EBITDA, total debt was 2.5x the trailing four quarters adjusted EBITDA, down from 2.8x at the end of 2013.

Our total liquidity at the end of the quarter was approximately $167 million, including our cash balance and approximately $74 million available under our credit facility. Capital spending in the first quarter was $37.4 million. We estimate 2014 capital spending will be approximately $190 million.

Before I finish, allow me to anticipate what may be a question and outline the extent of our business presence in Russia. Our only direct activities in Russia are related to operations on Sakhalin Island, off the east coast of Russia. There, we provide drilling services for the Sakhalin-1 project, led by Exxon Neftegas Ltd., or ENL.

Our activities there include an O&M project using drilling equipment owned by ENL and operated and maintained by Parker and a separate drilling contract using the Parker-owned Rig 270. The revenue stream for this work, excluding reimbursables, accounted for approximately 10% of our consolidated first quarter revenues and segment gross margin.

To date, we have had no disruptions in our operations there, nor do we anticipate any. That ends the financial review. I’ll turn this back to Gary for comments on the outlook. Gary?

Gary Rich

Thanks, Chris. As I noted earlier, our first quarter consolidated results are in line with our expectations. In addition, we continue to make good progress on delivering reliable operating performance and predictable financial results, improving our profitability, strengthening our strategic position, and developing paths for future growth.

Industry forecasts appear encouraging, including expectations for expanded drilling activity in the U.S. and international markets. Our recent increases in U.S. rental tools utilization position us to benefit from this growth in the U.S. land drilling market expected by the industry forecast for later this year. We also expect to further expand our rental tools participation in the growing Gulf of Mexico offshore drilling market.

The performance of our international rental tools operation is expected to progressively improve as new work and delayed jobs get started and we benefit from the deployment of new capital equipment. We expect our U.S. Gulf of Mexico barge rig fleet will maintain a high utilization and benefit from the addition of Rig 55B.

We expect drilling demand in our key international markets to provide sufficient tender activity and contract renewal opportunities to maintain our international rig fleet utilization near current levels without any significant breaks.

We believe we are on track to achieve our 2014 revenue and earnings projections. After navigating the expected challenges of the first quarter, I believe we will achieve improving results in the upcoming quarters.

For the second quarter, we are expecting revenues of between $230 million and $250 million, and EBITDA as a percentage of revenue in the upper 20% range. As a company, our attention remains focused on developing strong, durable, and competitive operations, capable of providing our customers with innovative, reliable, and efficient business solutions to bring value to them and produce higher returns and continued growth for Parker. I believe all our businesses are very capable of converting the business opportunities this will produce into sustainable, profitable results.

That concludes my comments. Operator, we’re ready to take questions from the audience.

Question-and-Answer Session

Operator

[Operator instructions.] Our first question comes from the line of Jeff Spittel with Clarkson Capital Markets.

Jeff Spittel - Clarkson Capital Markets

You mentioned the price competition for Quail in the U.S. onshore markets during the first quarter, and I’m sure an element of that related to the challenging weather conditions. How have things been toward the exit rate in March, and as we progress through April, have there been any signs of some stabilization on the pricing front?

Gary Rich

There’s certainly signs the market is conducive to having more stabilization on price rather than the price pressure we’ve experienced over the last several quarters. So I think it should start to firm up. And if we continue to see the improvements in activity that we’ve seen, I suspect toward the latter part of this year you might actually get the curve to flip back in the other direction.

Jeff Spittel - Clarkson Capital Markets

And then it sounded like you’re pretty confident about some of the exposure that you have later in the year in Latin America in terms of contract renewals. For right now, fair to say that we would just expect those rigs to continue to work where they’re working, with a similar set of customers in Latin America?

Gary Rich

Certainly the rigs in Mexico that’s the case. Of course we do have Rig 122, which is a new contract that we’ll be starting up late this quarter into Q3. And we’re pleased with that, because that’s a rig that’s been idle for several years and we’re putting it back onstream. And so it will be a new addition to revenue.

Colombia, things are a little more unsettled. We see some really good prospects for activity as we go through the remainder of the year. But there’s some elections going on right now. I was just down there in Colombia last week visiting with several of the clients, just to try to get an assessment of the situation, and it sounds like there’s a little bit of a let’s wait and see how these elections turn out.

There’s not too much uncertainty. They feel pretty good about it, but they just want to make sure there’s not a 180 on them in terms of the environment. And then we’ll see activity pick up as we go throughout the remainder of the year.

Operator

Our next question comes from the line of Klayton Kovac with Tudor, Pickering, Holt.

Klayton Kovac - Tudor, Pickering, Holt

Staying with the international drilling theme, what are you guys seeing as far as contract opportunities are concerned for the two rigs in Tunisia?

Gary Rich

Those two rigs, we continue to focus our primary attention on Kurdistan in northern Iraq. And we remain very optimistic about the activity there. But similar to Colombia, there’s an election process over there that’s causing operators to just make sure that things are going to continue down the path they’ve continued down. And barring any significant changes in direction as a result of the elections, we anticipate some really good contracts for those two rigs that are in Tunisia.

The other rig that’s over there in that area is the Rig 216 that we have in Kazakhstan, and I’m very optimistic that in the near future we’ll have some good message on that rig going back to work. That’s, again, another one that’s been idle for several years as well. So we’re excited about that.

Klayton Kovac - Tudor, Pickering, Holt

And then as a follow up, any change in outlook for your international rental tools business, just given the delays?

Gary Rich

This is a tough one, as we continue to work through that business and get tools deployed and people in the right place, and that sort of thing. But I can tell you that as we look through the remainder of this year we’re very optimistic. We don’t think that our outlook has changed much with respect to that business. And that’s a positive outlook.

We had some activity that was delayed on some contracts we expected to start up in Q1, and we think that latter end of Q2 into Q3, we will still see those contracts start up. Some of them were related to activity in southern Iraq, and you know several of the large integrated services have talked about some of the activity in southern Iraq and how that’s been delayed a little bit.

But we expect that to go on. We’ve got a nice contract that we’ve picked up in Mexico, providing BOPs to Pemex. Pemex’s activity has been a little soft, but we feel good about that contract as it kicks in. And we have some other projects elsewhere that we feel very good about too. So all in all, when we look at it, we think that we’ll see a good, growing trend in that business as we go throughout the remainder of the year, as we have expected it to do.

Operator

Our next question comes from the line of Matt Marietta with Stephens.

Matt Marietta - Stephens

The first question I wanted to hit on is looking at the barge business, obviously 100% utilization is a real positive, especially the outlook for that to maintain for some time, or remain high. But could you provide maybe a little more color on what’s driving that market? Is it purely commodity or are your customers indicating that they’re having some success in drilling, and what it looks like overall with your competitors as well? Is this a market share capture? Is this just a stronger environment?

Gary Rich

You know, that’s kind of a complex question. There’s a lot of moving pieces going on, but generally, that market has been more of a gas-driven market than an oil driven market, but with the way commodity prices have been over the last couple of years, it’s turned to be more of an oil-directed activity level. And we haven’t seen much change there, even with gas coming back the way that it has.

So for right now, it remains an oil-driven market. As far as our utilization is concerned, Q1 was a little softer than we anticipated. That was largely due to the weather effect of some of the storms coming out of the north that blew the water out of the bays and water depth is a big issue when you’re moving rigs onto location, in that shallow environment.

And so that really hindered some of the activity early on in Q1. But as we go throughout the remainder of the year, we feel optimistic about it. I don’t know if 100% utilization is a realistic projection for every quarter going forward, but for right now, we feel pretty good about it and we’re really excited about this rig 55B, the addition to the fleet going forward too, and where that’s at. Of course, as you know, that’s already contracted, so that looks pretty positive for us as well.

As for the competition, I think we obviously have some pretty good competitors in that market and as far as their activity and stuff, I’d leave that for you to ask them.

Matt Marietta - Stephens

Switching back to the rental tools business, specifically Quail, as you look at utilization, steadily going up now for a handful of quarters. When do you look to add to inventory and invest more into Quail? And to what degree? And what kind of drives that decision? Is it based on utilization or is there something else going on that may influence that?

Gary Rich

We’ve continued to invest in Quail through the entire cycle here, even when activity was going south and prices were going south. And that was largely because of mix of some of the business. We’ve talked for a long time about the progress in the offshore market and the kit that you use to service the land business is not necessarily the same kit that you use to service the offshore business.

So we’ve continued to make investments to feed that offshore piece. The land business, we still see that we’ve got a little excess inventory in some cases, but you see our utilization is up as high as it’s been in almost 18 months. And so we’re quite pleased with the progress we’ve made there, and again, I think it’s a tribute to the seasoned team that we have over there leading that business.

Matt Marietta - Stephens

I’m sorry if I missed this, but did you hit on what the O&M component of revenue and margin was in the international drilling business?

Gary Rich

Not specifically.

Matt Marietta - Stephens

Would you mind providing that?

Gary Rich

That’s not really a number that we’ve shared in that level of detail in the past, but we did tell you that, as Chris talked about the Russia component, that roughly 10% of our business is exposed to that Russia, and that’s largely an O&M business, so I think you can come reasonably close using those numbers.

Operator

Our next question comes from the line of Pike Howard with Johnson Rice.

Pike Howard - Johnson Rice

I wanted to make sure, that $2.6 million in doubtful accounts, was that allocated to ITS specifically, or both ITS and Quail?

Christopher Weber

About $1.6 million of that amount was the increase in doubtful accounts, and that was all for ITS.

Pike Howard - Johnson Rice

And then I don’t want to harp too much, because there’s been a few questions about it, but in regards to the international rental tools business, just trying to think here, given kind of where the margin fell this quarter, do you guys have any more commentary on just helping us understand how we can progress through the remainder of 2014 to getting those margins back up to kind of where we had been before, closer to 20%?

Gary Rich

Q2, it will be an improvement. Q3 and Q4, you should see margins back in the area that we had seen recently with that business. And we expect all the margins need to go beyond there. We won’t be satisfied with those margins. We feel like there’s still some pretty good upside as we move beyond 2014 into 2015.

Pike Howard - Johnson Rice

And those costs in regard to those rigs in Kurdistan, should we expect those to abate here? Just trying to get a feel for how that flows through.

Christopher Weber

Those are going to be in place for the remainder of 2014 for the most part. You’ll see a little bit of abatement as we continue to work out some of the expat crews and replace with local nationals, but the bigger piece is the net [mobe] expense that we’re amortizing over the initial contract, and those will persist through the end of this year.

Operator

Mr. Bajenski, there are no further questions at this time. Please continue with your closing remarks.

Gary Rich

I wanted to just take a second here and express appreciation to the employees of the organization for all they do. You know, now I’ve been here a year and a half, and I really appreciate the progress that we’ve made as an organization. Sometimes, when we look at these quarter to quarter walks, we get so focused on the details of those quarters.

And as I was sitting and preparing things this morning and trying to look at some of the information in that, one of the things that really jumped out to me is the fact that our revenue, if you go year over year comparison, our revenue is up 37% as an organization and EBITDA is up 32% from where we were a year ago at this time.

And I think that’s just representative of the great progress we’re making as an organization. And yeah, there’s some things that maybe in the short term don’t always turn out exactly the way we want, although we did anticipate this quarter as it has turned out. But I just like the progress that we’re making as an organization and all the efforts of the employees, I appreciate that. I appreciate the support of the investment community out there as well.

Richard Bajenski

Thank you, Gary. We will end our call. Thank you and our audience for spending time with us today. If you have questions about the material that we covered in the call, or about progress at Parker, please feel free to contact me by phone or email. Goodbye, and have a good afternoon.

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Source: Parker Drilling's (PKD) CEO Gary Rich on Q1 2014 Results - Earnings Call Transcript

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