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National Oilwell Varco (NYSE:NOV)

Q1 2011 Earnings Call

April 27, 2011 9:00 am ET

Executives

Clay Williams - Chief Financial Officer and Executive Vice President

Merrill Miller - Chairman, Chief Executive Officer and President

Loren Singletary - President

Analysts

Roger Read

William Sanchez - Howard Weil Incorporated

Brad Handler - Crédit Suisse AG

Tom Curran - Wells Fargo Securities, LLC

James Crandell - Dahlman Rose & Company, LLC

Jeffrey Spittel - Madison Williams and Company LLC

Joseph Triepke - Guggenheim Securities, LLC

Operator

Welcome to the National Oilwell Varco First Quarter 2011 Earnings Call. My name is Matt, and I'll be your operator for today's call. [Operator Instructions] I will now turn the call over to Vice President, Global Accounts and Investor Relations, Loren Singletary. Mr. Singletary, you may begin.

Loren Singletary

Thank you, Matt, and welcome, everyone, to the National Oilwell Varco First Quarter 2011 Earnings Conference Call. With me today is Pete Miller, Chairman, CEO and President of National Oilwell Varco; and Clay Williams, Chief Financial Officer.

Before we begin this discussion of National Oilwell Varco's financial results for its first quarter ended March 31, 2010, please note that some of the statements we make during this call may contain forecast, projections and estimates, including but not limited to comments about our outlook for the company's business. These are forward-looking statements within the meaning of the federal securities laws based on limited information as of today, which is subject to change. They are subject to risk and uncertainties, and actual results may differ materially. No one should assume that these forward-looking statements remain valid later in the quarter or later in the year.

I refer you to the latest Forms 10-K and 10-Q National Oilwell Varco has on file with the Securities and Exchange Commission for a more detailed discussion of the major risk factors affecting our business. Further information regarding these, as well as supplemental financial and operating information may be found within our press release, on our website at www.nov.com or in our filings with the SEC. Later on this call, we will answer your questions, which we ask you to limit to two in order to permit more participation.

Now I will turn the call over to Pete for his opening comments.

Merrill Miller

Thanks, Loren, and good morning. Earlier today, National Oilwell Varco announced first quarter 2011 earnings of $407 million or $0.96 per fully diluted share. These results include $0.04 a share of charges related to our APL acquisition and write-offs that we took in Libya. Without these charges, our net income was $420 million or $1 per fully diluted share on revenues of $3.15 billion. Clay will expand on these results in just a moment.

Additionally, we announced new orders that fulfill our backlog criteria of approximately $2.3 billion. This is the second best quarter of new orders in the history of National Oilwell Varco. Quarter ending backlog expanded to $6.16 billion, a 23% increase from the end of 2011. I will comment -- or I should say 2010. I will comment further on the backlog during this call.

We are very pleased with the results of this quarter and believe it further substantiates the efficacy of our business model and our product mix. I want to thank all of the NOV employees worldwide for their continued efforts and dedication directed toward our success.

At this time, I'll turn the call over to Clay.

Clay Williams

Thanks, Pete, and good morning, everyone. Our company generated solid results in the first quarter, posting revenues of $3.1 billion and earnings of $0.96 per fully diluted share. Our quarter was impacted by unrest in North Africa and the Middle East. And included in the reported results were $17 million in Libyan asset impairments, mostly related to accounts receivable affected by sanctions enacted in March, along with some inventory and fixed assets in country. These charges, along with $2 million in APL transaction costs, reduced reported GAAP earnings by $19 million pretax or $0.04 per share after tax. Excluding these, earnings were $1 per fully diluted share.

Apart from the asset impairments, we estimate unrest across the region reduced revenues about $8 million through the first quarter, mostly within Libya and Egypt, with the majority of the impact within our Petroleum Services & Supplies group. Most importantly of all, our employees are safe, and thankfully, Egyptian operations are largely back to normal. We continue to monitor the situation closely with the safety of our people of paramount importance.

First quarter consolidated revenues for National Oilwell Varco were down modestly from the fourth quarter and up 4% year-over-year. Consolidated Q1 operating profit excluding transaction and Libyan charges was $628 million or 20% of sales, in line with the fourth quarter of 2010 and down slightly year-over-year. Within the results, we experienced a major mix shift, as long-expected declines in Rig Technology revenues and operating profit were almost completely offset by strong gains within Petroleum Services & Supplies, instructive with regards to the cyclical financial endurance of our consolidated business mix.

Petroleum Services & Supplies had an exceptionally strong quarter, with higher sales across almost all products we provide helped by slowly improving pricing and cooperative North American rig counts. Within all the PS&S -- while all the PS&S businesses performed well sequentially, drill pipe was a notable standout. Ever-higher levels of horizontal extended reach drilling appear to be accelerating the shift towards premium drill pipe, which accounted for a record 82% of our mix this quarter. Our book-to-bill handily exceeded 100% for this product, and we foresee continued strong demand as drillers and rental companies restock with better, more efficient drill pipe tools. Our 4-inch XT drill pipe continues to sweep the shale drilling field across North America, performing favorably through the challenging curve and lateral sections of these wells.

We also foresee rising demand for drill pipe for new offshore rig builds on a horizon moving steadily closer. Over 50 new offshore new builds are expected to order large-diameter, mostly premium strings within the next 1.5 year or so. Along the way, we are continuing to invest in our substantial technical lead for larger, stronger, tougher pipe, with higher torsional strength connections, which we continue to innovate in our recently opened drill pipe research facility. We also increased research and development investment in our proprietary IntelliServ wire drill pipe products this quarter, where we have a joint venture with Schlumberger to improve the range of services we provide and achieve 98% operational uptime this quarter. IntelliServ has maintained 95% operational uptime globally since mid-2010.

Our Tuboscope unit also benefits from drill pipe demand through its drill pipe coating, hard banding, threading and drill pipe repair services, which we are expanding in the U.S., Mexico, Brazil and the Middle East. The group also provides pipe inspection services worldwide for all forms of OCTG, casing, tubing, line pipe and drill pipe, and benefited from high pipe mill and processor activity during the first quarter. Demand for tubing and line pipe coating services increased most strongly in North America for all the oil drilling underway, because oil wells often produce lots of water, corrosives to steel, for which our coatings are an excellent antidote.

Rope Access inspection services for rigs, another Tuboscope specialty, is seeing good demand from rigs both new and old. Our Conductor Pipe business -- our Conductor Pipe Connection business, XL Systems, generated solid results as well in the first quarter, owing to renewed focus on conductor pipe pressure integrity following the Gulf blowout. As a result, we are expanding our XL Systems business to better serve our Eastern Hemisphere customers as they move into new deepwater areas.

Our Star Fiberglass pipe sales improved sharply despite higher resin costs, benefiting from higher oil drilling and associated produced water volumes across North America. Fiberglass composite piping is impervious to saltwater, sour gas and CO2, and demand for this technology has prompted us to undertake significant expansion projects in the U.S., Brazil and Oman. Star also benefited from stronger industrial demand in the United States.

Our Well Site Services unit posted higher sales of shale shaker screens, a consumable used to separate drill solids from drilling mud, along with higher demand for solids control rental equipment and waste management services across North America, the North Sea and West Africa.

Our largest product line within PS&S, downhole tools, posted higher sequential results throughout the Western Hemisphere on strong demand for drilling motors, bits, agitators and coring equipment. We are particularly excited about new bit and borehole enlargement technologies we are working on in this group, and continue to invest in new technologies to improve drilling efficiencies.

The Mission Pump and Expendables business enjoyed another solid quarter of demand for valves, seats, full-line equipment and other consumables we provide into drilling and pressure pumping operations, along with higher demand for lease transfer and well stimulation multiplex pumps. Overall, the group posted good sequential and year-over-year gains and margin expansion. We continue to expand Mission through a combination of acquisition and investment in new technologies.

Finally, within PS&S, our quality tubing unit, which manufactures the coil tubing going into well completion and stimulation operations, continues to run at maximum capacity which, as we've discussed on previous calls, prompted us to add additional milling capacity to our plant. Large diameter coiled tubing, 2-inch and above, increased to nearly 1/2 our mix in the first quarter with strong demand out of Canada, across the U.S. and from the Middle East. We expect to bring to the new mill online late in the third quarter.

Overall, strong performance across the board increased Petroleum Services & Supplies' consolidated operating margins 440 basis points sequentially to 19.4%. And the many expansion projects underway for the group, expected to drive the results higher of the next 24 months or so, underscore the strong outlook we have for the markets we serve and the high confidence we have in the teams running these businesses.

Broadly speaking, the unconventional shale model, driving drilling activity across North America and expanding now into other markets, can be characterized as low geologic risk but highly drilling and completions intensive. It is utterly unlike drilling a generation ago, which saw fleeting glimpses of precious Darcy reservoir rock here or there, elusive four-way closure, a rare and fortuitous geologic ancestry which bestowed the structure with charge. When the stars aligned for the lucky explorer, it was elegance. Shale drilling is not elegance. Shale drilling is a brute-force enterprise. It hurls massive iron and horsepower at a plentiful, fairly pedestrian rock, in exchange for a secure and protected production volume. It is underground shock and awe that makes oil and gas give up and surrender. That's the trade-off, certainty of production volumes in exchange for oilfield iron eaten with voracity.

Our PS&S segment is composed of roughly 70% sales of manufactured consumables and short-lived capital equipment like drill pipe, solids control equipment, drilling motors, bits, coil tubing and many, many more NOV products that are consumed in large quantities to make the economics of unconventional shales work for the industry we serve.

Distribution Services also benefited from sustained high levels of shale drilling and posted solid results in the first quarter, demonstrated by its 6.8% operating margins. Its modest 3% sequential sales decline reflect a couple of large fourth quarter drilling spare sales, which did not repeat. In particular, Canada posted very strong results and high margins due to cost reductions and good market conditions there, with a late onset of breakup. Likewise, the U.S. continued to benefit from high levels of rig activity. Artificial lift sales are increasing with renewed North American emphasis on oil shale wells and rising sales in Latin America, and the group is seeing increasing sales into Iraq. Within the U.S., Distribution Services continues to open new stores and shale plays like the Utica, Marcellus and Eagle Ford.

Rig Technology delivered 7 new offshore rigs this quarter, bringing our total to well over 100 since 2005, all characterized by exceptionally skillful execution. NOV's track record in this regard, both among drillers, drilling contractors and shipyards, is unmatched and has positioned us well to benefit from new orders, as evidenced by $2.3 billion in new orders received this quarter, including 6 new drill ships and more than a dozen jack-ups. The retooling of the rig fleet is well underway. For a more impassioned, colorful exploration of this topic, I refer you to our last 25 conference call transcripts.

Q1 orders for the Rig Technology also benefited from increased demand for land rigs, coil tubing units and frac spreads. Within our new FPSO Turret business, orders were slow, but we are working on numerous feed studies for new projects, and our integration of APL is proceeding well. Overall Rig Technology book-to-bill was 203%. Orders totaled $2,277,000,000, up 62% sequentially, offset by revenue out of backlog of $1,124,000,000, down 12% sequentially. Backlog at March 31 was $6,163,000,000, 23% higher than year-end 2010.

The land backlog jumped more than $300 million sequentially, to total 17% of the backlog, and offshore equipment 83%. Equipment bound for international markets totaled 87%, domestic 13%. Through the remaining three quarters of 2011, we expect revenue of $3.7 billion to flow out of the backlog on the books as of March 31 and $2 billion to flow out in 2012. The exceptional financing and pricing for new offshore rigs out of Asian shipyards is drawing to a close, as overall quoted rig prices inch up against rising steel costs and inflationary concerns. And aggressive payment terms offered by the yards are shifting to higher progress billing models. Yards have replenished their backlogs and are holding out for a little better economics.

We are also pursuing better pricing on leading edge bids into numerous projects and have dialed in escalators into options we have awarded. Between options and other announced projects, we expect second quarter orders to again be strong. Also within Rig Technology, we are seeing solid interest in BOP upgrade projects and fleet spares, and are delivering our new low-force actuator configuration. We began a new realtime BOP monitoring service, backed up by a rugged black box recorder for subsea stacks through the IMO business within Rig during the first quarter.

A new land-based eHawk realtime equipment monitoring service, new drilling optimization services and activity-driven demand for instrumentation in drift services all contributed to great results for IMO this quarter. Onshore rental companies are also replacing many old BOPs, further driving up demand for pressure control equipment. Late this summer, we expect to open our new BOP test facility in Houston, which will have the unique capability to test designs through a wide range of temperatures and operating conditions.

Cost inflation remains a concern for us. Steel is beginning to inch up, as are resins and polymers, and we are experiencing labor pressure in certain areas. Numerous buy-ins like chassis, trailers, hydraulic fittings, gear boxes, et cetera, are very tight with long lead times. So far, we have been able to stay ahead of these with pricing, but we continue to monitor the situation closely. We also continue to improve efficiency, continually shifting our manufacturing footprint, processes and designs to drive down costs of products, like our power swivels, pipe caps and mud pumps. We've begun manufacturing of drilling riser in Korea through our Hochang operation to improve freight costs and efficiencies.

Since the 2009 downturn, we have in-sourced 2 million man-hours at 7% savings. This has kept NOV machinist and assemblers employed through the downturn, improved absorption on machines that would have otherwise been idle, and positioned us well for the upturn that we are now seeing. Next week, we will launch our inaugural NOV University Manufacturing Leadership Program in collaboration with Rice University to collaborate on cutting edge manufacturing techniques across NOV.

To summarize, our first quarter saw lower revenues from new build rig projects, largely offset by higher sales and our activity-driven PS&S group, illustrating well the thoughtful financial construct of NOV. In past cycles, our Rig Technology segment has lagged our PS&S and Distribution segments about 2 years or so. All 3 are tied to oil and gas, and all 3 segments are cyclical. But the later-cycle nature of Rig Technology, juxtaposed against the others, provides NOV with a healthy diversification producing stable results through the cyclical downturns. Now let me turn to our operating segment results.

NOV's Rig Technology segment generated revenues of $1,608,000,000 in the first quarter, down 8% sequentially and down 15% compared to the first quarter of 2010. Operating profit was $422 million, yielding operating margins for the group of 26.2%, down from 28.5% in Q4 and 30.8% in Q1 of last year. Lower sales and margins both sequentially and year-over-year reflect the expected winding up of the many offshore new build projects won during the order ramp from 2005 to 2008, and comparatively low levels of order seen during 2009 and 2010, owing to the credit crisis. In essence, the revenues are now following the downturn seen in our backlog through the last 2 years, which will continue to weigh on the segment's margins through the remainder of the year. Recent orders will help reverse the declines but will also bring a near-term mix shift towards lower margin land equipment, which turns more quickly, and lower priced offshore equipment. Nevertheless, we believe 2012 will begin to see margin improvements owing to more deepwater new builds and slowly improving pricing.

Sequential decremental operating leverage or flow-through for the group was 53%, and year-over-year first quarter flow-through was 57, reflecting this mix shift towards modestly lower pricing and generally more land business carrying lower margins than the offshore. Aftermarket increased about 5% sequentially and increased 17% year-over-year led by higher service and parts revenues, but small capital equipment sales that don't qualify for our backlog declined sequentially, leading to slightly lower non-backlog revenue overall for the first quarter compared to the fourth quarter.

Well stimulation equipment sales fell sequentially, following large international shipments in Q4 that did not repeat, but is expected to rebound in the second quarter following strong orders during the first quarter. Coil Tubing and frac fleet demand led us to initiate expansion projects in our Hydra Rig, Rolligon and Texas oil tool plants this quarter. Demand for land rigs led to a land rig backlog north of $1 billion for Q1. And we expect to continue to see strong land rig sales for both international and domestic customers responding to rising demand for high-technology rigs and frac fleet equipment.

Looking into the second quarter of 2011, we expect Rig Technology revenues to improve slightly but for operating margins to continue their drift downward. The Petroleum Services & Supplies segment generated total sales of $1,265,000,000 in the first quarter of 2011, up 11% sequentially and up 37% year-over-year. Operating profit was $246 million, and operating margins were 19.4%. Compared to the fourth quarter of 2010, the $128 million revenue increase produced 59% operating leverage or flow-through. And year-over-year flow-through was 39%, both helped by higher volumes, drill pipe mix and generally improving pricing. U.S. revenues grew 18%, Canada improved 23%, and international revenues declined 3%, leading to an overall mix of 60% North America and 40% international for the first quarter.

Looking into the second quarter of 2011, we expect Petroleum Services & Supplies segment sales to be roughly flat with Q1 at comparable margins, as growth and pricing improvements in many markets are offset by seasonal declines in Canada due to breakup and continuing headwinds in the Middle East and North Africa due to political unrest.

Turning to Distribution Services, first quarter sales in the segment were $410 million, down 3% sequentially and up 23% year-over-year. Operating profit was $28 million or 6.8% of sales. And sequential decremental flow-through was 15% on the small revenue change. Year-over-year, the group generated a very strong 22% flow-through on the additional $76 million in sales, led by the improved market conditions across North America. Mix for the group's first quarter was about 76% North American and 24% international.

For the second quarter of 2011, we expect Distribution Services revenues to come in about flat with the first quarter at comparable margins, as seasonal declines in Canada due to breakup are offset by modest gains in the U.S. and international markets including Iraq.

Turning to National Oilwell Varco's consolidated first quarter income statement. SG&A decreased $7 million due to lower incentive compensation accruals and lower bad debt accruals, as compared to the fourth quarter of 2010. SG&A as a percent of sales was roughly flat with the fourth quarter. Equity income in our Voest-Alpine JV was $13 million, down slightly from the fourth quarter. And we expect similar profitability in the second quarter of 2011. Other expense was $19 million in Q1, reflecting an unfavorable $13 million sequential move related to adverse FX movements, mostly with the Norwegian kroner, and the retirement of some debt at APL. The tax rate for the first quarter was 31.9%, up from our average 2010 rate of 30.8%. And we expect the tax rate for the remainder of the year will be in the 32% range, owing to a slightly higher mix of domestic income than we were previously forecasting.

Unallocated expenses and eliminations on our supplemental schedule was $68 million in the first quarter, down $8 million from the fourth quarter due mostly to lower legal expenses, incentive compensation accruals and inter-segment eliminations. Depreciation and amortization was $135 million, up $6 million from the fourth quarter. EBITDA, excluding transaction and Libyan devaluation charges was down $4 million sequentially to $764 million or 24.3% of sales.

National Oilwell Varco's March 31, 2011, balance sheet employed working capital, excluding cash and debt, of $3.8 billion or 29.8% of annualized sales, up $711 million from the fourth quarter due to several factors. Generally, we saw rising sales through each of the 3 months of the quarter, January to February to March, and issued a large volume of milestone invoices from Rig Technology late in the quarter, both of which led to back-end loading of our accounts receivable. This accounted for about 1/2 the growth of our working capital. We also made incentive compensation payments and large tax payments during the quarter reducing accrued liabilities. And we invested in inventory against higher orders for Rig Technology and rising business levels for Petroleum Services & Supplies. We also picked up nearly $50 million in receivables and inventory from acquisitions.

Working capital employed in Distribution Services was comparatively stable, sequentially. Total customer financing of projects in the form of prepayments and billings in excess of costs, less costs in excess of billings was $261 million at March 31, representing a sequential improvement of about $236 million. Cash flow from operations was negative $25 million through the first quarter due to the increase in working capital items I just described.

CapEx declined $13 million sequentially to $79 million, and we expect CapEx for the full year 2011 to be in the $400 million range as we pursue a number of expansion opportunities. NOV's cash balance was $3.1 billion at March 31, 2011. Now let me turn it back to Pete.

Merrill Miller

Okay. Thanks, Clay. And what I want to do right now is just make a couple of brief comments about some of the themes, again, that we're seeing and what we think is going to probably drive the entire industry throughout 2011 and into 2012. And obviously, the first one is, as Clay so eloquently pointed out, are the shales. The one thing, though, I want to point out, on the shales today, you're starting to see a shift to oil. And that's an important shift because I think that's going to give the rig count a continued life.

As a matter of fact, I believe it was this past week, for the first time since 1995, more rigs in the United States are drilling for oil than are drilling for gas. I think that's going to continue. From our vantage point, that continues to be a wonderful business opportunity for PS&S and our distribution group. As a matter of fact, I would argue that oil drilling probably provides us more opportunity especially in the completion phase of the wells. Additionally, our drilling side is going to continue to see business for fit-for-purpose rigs. They need the best rigs out there. I think you're seeing that throughout the time frame here that we've been looking at over the last couple of years. You've seen the folks with the best rigs like H&P, Nabors and others are continuing to have the best utilization rates.

The other theme, I think, on shales that will probably start to manifest itself a little bit is the international shale arena. That's going to be a slower growth because of the infrastructure aspect of things. However, we build infrastructure so we feel pretty good about that. And we're starting to see some things happen. In particular, like in China, we've sold some coil tubing units into China recently, as well as some top drives. And the reasons for that, we've always sold a lot of top drives into China, but I think right now, it's more kind of positioning themselves for the advancement of the shale play in those areas. And if you look at a map on the shale plays around the world, you'll see that there's a lot of very, very good-looking shale opportunities. So I think that's going to be a continuing theme as we look into 2012.

The rig bifurcation, something that you've probably heard us talk about, as Clay also so eloquently pointed out about 25x in a row, is going along very, very rapidly. I think that's part of the reason you're looking at a $2.3 billion intake of new orders. That will continue. As you've heard us say before, rust never sleeps and technology advances. And I think as you get these technology advances, you're going to see more and more folks that are going to want these new rigs.

And we're very excited about it. As we look at the projects that are coming across our desk, we feel like there's going to be a lot of pretty cool things happening in this area.

The third theme, again, you've heard me talk a lot about this, is technology. And I think as we talk about the advancing technology that we're putting out there, it really raises the bar. When you look at the things that we're able to do in these new rigs that we weren't able to do in the past, it really makes the operators want to have these sorts of rigs out there. They have enhanced flexibility and they also have the ability to drill deeper, drill faster, drill longer extended reach and the likes. So we think that's going to continue on, and this technology is going to drive it.

I would also remind all of you that the Offshore Technology Conference is next week. I think you're going to see a lot of neat technology for the entire industry. This is obviously about NOV here, but I also think -- I'm very proud of this industry on the amount of technology that we're advancing. And there's really a lot of cutting-edge stuff. And I think if you come to Houston next week for the OTC, you'll see a lot of that.

One of the things that we've done and the theme for us in the downturn a little bit has been expansion. When you go into a little bit of a downturn, which we were in the PS&S and Distribution area, you want to utilize the financial strength that you have so that you can expand both through M&A and organic expansion. So that when you're coming out, you can accelerate faster. And I think our margins kind of dictated that or presented that this particular quarter. We're building a lot of new facilities around the world, different coating plants, different fiberglass plants. And I think this expansion is going to allow us to see higher highs as we move into 2012 and on into 2013.

Let me just, real quickly, got to give you a little bit of the view of the world that we see. Obviously, Brazil is still very, very important for us. The projects down there are moving along well. Today, we have over 1,000 employees in Brazil. We're building some new facilities down there, coating plants and a fiberglass plant, as well as putting up a new service and repair facility, and kind of on all-purpose facility. So we're investing heavily in Brazil. And we think as 2011 goes on, we'll have very good news coming out of Brazil and the opportunity there.

Middle East and North Africa, still a lot of geopolitical problems. We're watching those closely. A lot of potential there, though. I think when you think about Saudi Arabia and what they're talking about doing in some of the drilling, and I think there's an opportunity that's going to present itself as long as the, I think, the geopolitical storm kind of can subside a little bit.

Russia has been very nice for us. We're selling new coil tubing units, workover rigs into Russia. We're building some new facilities. Most recently, the Odoptu Well was completed by Exxon. It was a world-record well, I think 7.13 miles of extended reach. And National Oilwell Varco hands were all over that. We had ReedHycalog bits in the hole. It was Grant Prideco pipe that was able to drill it. And a lot of the service equipment was all NOV stuff. So we're real proud of the performance on that when you take a look at that. I think that's really going to be a bellwether-type operation for the future in a lot of other areas.

China, I mentioned some of the things we're doing there recently. I think, China will probably be one to keep an eye on, on the shale play. I think the Chinese, they've obviously invested in the Eagle Ford and the Niobrara. I think they're trying to learn from that and be able to take that home.

Mexico looks to be an area that's improving well. You're seeing a lot of the drilling contractors putting some jack-ups to work down there. Seadrill is going to put the West Pegasus Deepwater rig to work later in the summer. And we think there's some good opportunity down there. We've expanded our manufacturing footprint in Mexico, which has helped us on our logistics lines in the United States. So we think there's a lot of good things happening there.

And then finally, Korea and Singapore, going to be very, very busy for us. When you look a look at the shipyards and the activity that you're seeing with this recent flurry of orders, there's going to be areas that are going to be very, very important to us over the next 2 or 3 years.

So that's kind of a quick overview of the things that we're doing. We're bullish on the business. We think that the business model, as Clay pointed out in his comments -- he was kind of showing you that you've got the early and mid-cycle things that are coming onstream now. And then we're also starting to reload the backlogs. So we like where we are. And Matt, at this time, I would like to open it up for any questions that our listeners might have.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Jim Crandell with Dahlman Rose.

James Crandell - Dahlman Rose & Company, LLC

My first question has to do with your incoming water rate and, Pete, and the rate that you're booking these new rigs. I think there've been 31 or so new deepwater rigs ordered since October 1. You booked 6 in the quarter. And assuming that you won your usual strong market share of these, it appears that given this and the other trends of the business that this $2.3 billion order rate cannot only be sustained here as we go forward but maybe can even be an increase going forward.

Merrill Miller

Well, Jim, you know us well enough to know that we don't opine much on where the backlog and the order intake's going. But I think that, without a doubt, there's a lot of activity out there. And we kind of pointed this out on the last call, I think when we announced, I think last quarter, we were about 1.3 something of new orders. And people said, "Well, there are a lot of orders that have been announced." But as we've always explained, just because an order has been announced by a contractor doesn't mean that we've been able to negotiate the proper contract and everything with the folks yet. And as we've pointed out a lot of times, we don't do anything on a notional basis. So I think without getting into an exact number, Jim, I will tell you, we're very bullish on the amount of orders potentially that are out there. And I think as you hear of the contractors announcing that they've worked deals with the shipyards and they've got options, I think you can extrapolate that we're going to do quite well in being successful in being able to monetize those deals.

James Crandell - Dahlman Rose & Company, LLC

Okay. And then, Pete, a question about Brazil. We've been looking for another package of drill ships ordered this year, maybe another 5 to 7 drill ships and another couple semi-submersibles. Do you see that happening in Brazil this year?

Merrill Miller

Yes. I do, Jim. I think -- as a matter of fact, I was in Brazil last week, kind of talking to different folks down there and visiting with our people as well as Petrobas and some other customers down there. And they're moving ahead. They've got their holding company essentially set up. There's been some articles on that in the Upstream Oil and Gas Magazine, I believe. And there's a lot of good things that are happening. But as we've kind of pointed out over the -- I guess I was going to say last few months, but I'll say years now, things move a little bit more slowly down there. But we're very optimistic that, that's going to come pass down there. And I will say this, in the $2.3 billion that we announced today, there's nothing from Brazil. I don't think there's anything material at all in there. So anyway, I think that's going to come to pass, Jim. And it will happen, I believe, in this year.

Operator

And our next question comes from Bill Sanchez with Howard Weil.

William Sanchez - Howard Weil Incorporated

Clay, I know for a number of quarters, you've talked about ultimately Rig Technology margins I guess moving down into kind of the mid 20s here. And you guys have had good success in achieving better than that. And we finally saw that dip in 1Q. You talked it, and you're guiding down lower to 2Q here from there. Is that what we should still be thinking, is kind of mid 20s kind of troughing there and then maybe staying there a bit through the balance of 2011? Or how do we think about Rig Tech margins progressing?

Clay Williams

Bill, I really think we're probably going to dip down through the mid 20s into the low 20s through the remainder of the year, is kind of what we foresee. And again, you know well the story, but some of the other folks on the call may not. We took in a lot of very good orders at very high pricing back in '07 and 2008, and in a very inflationary environment. And we had sort of factored in an expectation of rising costs. We did much better than that in 2009 and 2010, largely because of the economic downturn. And so we were actually executing these projects in a deflationary environment. So they were very nicely priced, high-priced rigs that we were able to actually complete at much lower-than-expected cost. And it was a combination of a little deflation out there, plus the fact that our teams are just very, very good at applying the lessons that they learned through that build cycle. So margins got up into the low 30s through the first half of 2010, and we've been very -- tried to be very transparent with everyone about the margin downturn that we've expected. And so what you're seeing this quarter within Rig is that continuing at 26.2%. And our expectation's that it's going to continue to move down. The good news out there, though, is that the orders, as Pete just pointed out, very, very strong this quarter with sort of, I would say, modestly rising pricing through this trend of orders. Not in a big way, but we're kind of resetting the backlog and layering in a good foundation of work for 2012 and 2013. So I think the turn is out there, but this is going to be much more of a 2012 event.

William Sanchez - Howard Weil Incorporated

And I know you just addressed, Pete, I guess, perhaps expectations on when people look at what ODS at least reports as having been ordered by drilling contractors and what you've booked especially on the floater side. Still seems like there's a lot of fairway for you. I'm just curious as it relates to when you think about options to be exercised out there. And I know you made the comment, Clay, that shipyards, I guess, are going to be asking more to build these rigs. I know in some cases, we've got a lot of these options that have this fixed price economics. Anything there that you all could shed light on in terms of order or exercise rate getting done? And Clay, did I hear you right? Is there some concerns you had about shipyard financing maybe pulling down some of these options getting exercised?

Clay Williams

No, no. That's really more a comment on the market build. As shipyards get very aggressive -- a lot of these shipyards are huge employers in the Asian countries where they reside. And there's a lot of concern there as backlogs work their way down, they would potentially contribute to a big problem unemployment problem in those countries. And so, the shipyards work closely with their host governments, who have trade agencies, much like the U.S. Ex-Im Bank, to finance projects. And so back in a year ago or so, as they were getting increasingly nervous as the backlogs were winding down, they got very aggressive on financings. And were offering some of these projects at 20% down and 80% at completion, which is a very, very attractive set of payment terms. I want to stress, those are their terms, not NOV's terms. We've always been very good about demanding progress billings through the project to minimize our working capital investment and also minimize our risk in the project. So that comment really pertains to the shipyards. Our sense is that those sorts of payment terms are dwindling pretty quickly, and that's because the shipyards have been successful in reloading their backlogs. And they know that they're going to keep their employees busy here for the foreseeable future. So I think that's putting a little pressure on the situation. And then in addition, steel costs are moving up as we're seeing in our own business, and so I think that's also contributing to a little higher pricing that yards are demanding for projects overall.

Merrill Miller

And a lot of times too, Bill, on options, the customer'll go back in and they'll say, "Well, we know we have an option at the end of this month. Will you extend it a month?" Things like that. So it's a moving target. And a lot of times, the shipyards are going, "Yes. Okay. We'll going ahead and extend it for a little while longer." And so yes, it's all dependent upon money and things like that. But we -- so I think when you see something that's just written in stone that this is the option date, you might assume that stone is sand, because that's probably not written quite that hard.

Clay Williams

What we do, I can't speak for the shipyards, but we also take that as an opportunity to refresh our costs. And if we're going to extend an option, we kind of rerun economics and adjust the pricing and/or require a fee to extend the option.

Operator

And our next question comes from Michael Lamont with Guggenheim Securities.

Joseph Triepke - Guggenheim Securities, LLC

Joseph Triepke here on behalf of Michael. My question relates to the fact that the need for new top side equipment is largely enabled by advances downhole, which of course are linked to the rising complexity of drilling today's wells. I was wondering if you could speak to the fact that NOV provides components to the major service companies and has an integrated view of the reservoir and conveyance of it. How that might provide a competitive advantage for you when it comes to engineering new top side technologies?

Merrill Miller

Well, that's a good question and I think it gives us a tremendous advantage, because when you think about it, I think getting information from the bottom of the well is probably the most important thing you do. You don't drill wells for practice. You want to know what's down there, and you want to get that information back. Well, who basically has the wherewithal to be able to handle not only everything that's going on the surface but also downhole. And when you look at our control systems, this is exactly what we're integrating into. You'll be able to sit at the driller's panel where we have everything. Nobody else is building that. That's us doing it. Plus, we're building everything downhole, and we can integrate that completely into a seamless process that's going to allow the operator to have all of this. And then further to that, will be able to take that and beam it back to the shore. So I think it gives us a wonderful advantage, and it's something that we've got different engineering teams throughout the company working on every day to try to maximize that advantage.

Joseph Triepke - Guggenheim Securities, LLC

Thanks, great color. I'll turn it back.

Operator

And next, we have Roger Read with Morgan Keegan.

Roger Read

I guess, maybe Clay, just to get you a little more on the margin front for the Rig Tech business. I understand how margins were much better from the last big order issue, as business overall changed on the cost side. But as you compare the pricing or the margin that you've priced in today on this particular wave compared to the prior wave, any significant differences?

Clay Williams

Early on, Roger, we were, like everybody else, by the end of 2010, we were a little more aggressive on pricing, in all candor. But as these conversations started blossoming all over the place, I think we've become increasingly more aggressive. So I would say through this recent upturn, you're seeing gradually rising pricing being quoted by NOV. And it sort of gets up into the range where we were quoting, during the '06 through '08 time frame. Now the '06, '08 time frame, you also saw gradually rising margins through that. And these are -- and here I'm only speaking about target margins. As I pointed out earlier, we actually exceeded our target margins in '10. But if I compare target margins to target margins, we're kind of getting back up there to a pretty good level.

Roger Read

Okay. Great. And then on the PS&S business, you mentioned that pretty much everything was up in the Q1 performance. I'm looking specifically in my notes, I know on the revenue side, I don't remember if you also said on the margin side. Curious, other than the regional issues, what's not up here? What still has room to accelerate?

Clay Williams

I think, like a lot of our customers and our peers, the outperformance in PS&S was really a North American phenomenon. Internationally, it's going much more kind of steady as she goes. And we had some rising, some falling. We had a couple of countries in South America that were maybe a little more challenged in this quarter. So it was much more of an even kind of performance across a lot of international markets. But broadly speaking, Roger, the real kind of surge in business, the improvement in pricing this quarter was much more of a North American phenomenon, with Canada playing a much bigger role than it has in the past 3 or 4 years. Canada really became back this quarter.

Operator

And our next question comes from Jeff Spittel from Madison Williams.

Jeffrey Spittel - Madison Williams and Company LLC

Can I ask you guys to get your crystal ball out a little bit as we think about the pace of offshore rig announcements from here? And understanding we've got some crosscurrents going with the bifurcation in the offshore market. And then the financing terms probably starting to tighten up a little bit in the shipyards. Can you give us a sense of how you think this plays out, maybe a little longer term here? And do you think we just kind of hit a pause in terms of announcements, the market digests what they're trying to accomplish now and then we move forward from there?

Merrill Miller

Yes. I think, Jeff, that's probably -- as you kind of take a look at the way things have gone on from about 2005, you kind of hit a little bit of a runway. You get some announcements, and then there's a little bit of a pause. And then you kind of come back and get some more announcements. And I think what you have today, you had a pretty good flurry of folks that knew they needed to get in the game. They wanted to get some attractive pricing. They got in there with the shipyards, got that plus some options. But I think you also have a bunch of other folks now that are sitting back going, "Okay, we're taking a look at this and we know we need to build. But maybe we're going to let there be a pause here. Because obviously, if there's a little bit of a pause, maybe that will impact pricing a little bit." And some other things. And so I think you're going to see -- I think if you look on this 5 years from now, you're going to see a fairly continuous process. But I think on a quarter-by-quarter or even 6-month-by-6-month basis, you could see some choppiness in that.

Clay Williams

Yes. What really helps us in this -- I mean, when you look at the demographics of the rig fleet, out of the 476 jack-ups out there, more than 70% are more than 25 years old. There's a lot of building to come. The world had a pretty steady-state jack-up fleet in the 400-some-odd range, 450 jack-up unit range for decades. And many of these are nearly 3 quarters or ending -- near the end of their lives. So Jeff, I think, go out 5 years from now, there's going to have to be a lot of replacement. And then on the deepwater side, technology has just really opened up a lot of new deepwater basins around the globe that require a lot of iron to exploit.

Jeffrey Spittel - Madison Williams and Company LLC

Good to hear. And then switching over to the FPSO opportunity, understand that you're conducting some feed studies now. Can you give us a sense and I guess familiarize us with what the gestation period typically is in that business from feed to potential awards? And do you think we could start to see some traction there this year? Or is that more of a 2012 event potentially?

Clay Williams

I think we're optimistic that orders are going to come flowing in. I'm not sure if we're going to start to see that at the end of this year or if it is more of a 2012 event. But what we know is that these FPSOs undergo a lot more rigorous study before the projects actually start to cut steel and move forward. And that's a function of the operating conditions and the expected fluids coming out of the reservoirs that they're going to produce. And so they are much longer gestation periods, I think, than, for instance, drilling rigs where we have a lot more experience and are much more a kind of all purpose-type asset. So we're pleased. There's a lot of projects out there on the horizon around the globe. Fundamentally, the FPSOs are a very attractive way to develop remote fields that are a long way from existing pipeline infrastructure, and they're a way to avoid a lot of very expensive pipeline installation to get the operator first production. And so I think it's a much better way to develop these remote styles of deepwater drilling that's going forward. And the level of feed studies, the level of projects being considered out there I think really underscores that, that's very much an industry view as well. So we're excited about it and using the opportunity, it's actually in some ways a little easier to integrate the operation and kind of get a reset while we're not so busy. And so we're using this opportunity to integrate that business and make it much more comprehensive. There's a lot of products at NOV that we can add to what APL already does. And so we're pretty excited about the future.

Operator

And our next question comes from Brad Handler with Crédit Suisse.

Brad Handler - Crédit Suisse AG

I'm hoping I can draw you out a little bit on PS&S outlook in the second half of '11. Maybe give some more perspective. It sounds like, for example, it sounds like drill pipe was a strong contributor in Q1. Was there something unusual about that? Or barring the weather in Canada impact, which probably isn't drill pipe anyway. But how does that business -- how do you see that business progressing forward through the balance of the year? And then we'll come back and maybe just talk about margins more generally, please.

Clay Williams

Yes. First, within Q1, we always have some unusual puts and takes around the globe. And within drill pipe, for instance, we had a large shipment in Asia that we expected to half ship Q1, half ship Q2. It all went in Q1, and so that was a little bit of a pickup. But it didn't, that didn't -- that wasn't the reason for the outperformance. It was just across-the-board, really, really good work by that team there for making it happen. Going into the second half of 2011, once we kind of get past the Canadian breakup noise, and hopefully past some disruptions in North Africa, within drill pipe, assuming that we see continued strong demand for -- or continued strong drilling activity in the shales, that's certainly going to continue to consume a lot of drill pipe. And we're going to sell into that trend. But we're also expecting the additive impact of orders for new strings for a lot of these offshore rigs coming out of the shipyards. They're kind of month-by-month running out off runway to order a very large landing strings and very large, high-torque [ph], high-strength drill strings that tend to be used by those rigs. And so we're kind of positioning the business here as we move through 2011 in anticipation of that. So our outlook for this business for the remainder of the year is very, very good.

Brad Handler - Crédit Suisse AG

Terrific. So in the pipe business, I guess I'll stick with that and then we'll come back, can you give us some perspective on how sales volumes compared to kind of prior peak, maybe pre-acquisition Grant Prideco days?

Clay Williams

Yes, we're not to where the business was in 2008. I think 2008 was a record year for Drill Pipe business. And we closed on this business early in 2008. So we're not quite back there yet. But like I said, it's moving up and to the right. What's interesting, Brad, though, if you look at the sales mix this quarter versus the mix in 2008, with over 80% of the mix this quarter in premium pipe, that's huge. I think in '08 -- '07 and '08, the business was more like half and half. And what it speaks to is this continued secular shift, drillers towards more premium high-technology drill pipe instruments to tackle these tougher extended reach in horizontal wells.

Brad Handler - Crédit Suisse AG

Right. And so more of the XT product, it sounds like.

Clay Williams

Precisely.

Brad Handler - Crédit Suisse AG

For shale. Okay. Very good. And then more generally on PS&S, I guess, I -- folks that ask this question, I sometimes wonder how you guys can answer it but -- so peak margins, we look at mid 20s kind of before things fell apart here. As you see the shape of the business, as you see a couple of examples, right. Drill bits doesn't seem to have the same traction because it isn't as important a part of the shale development, just as -- it's a one illustration in the U.S. Are there some limiting factors that we should think about for PS&S as it relates to margins as you make your way through the cycle?

Clay Williams

Well, first, Brad, I'd clarify that. We actually think that bits are very critical to the shale plays, and our offering there does a great job. And we continue to invest in new and better bits. But yes, fundamentally, every cycle is a little different. When we look back at our PS&S business, reconstructed on a pro forma basis with things like purchase accounting and step-up BD&A for instance. We last saw mid-20 margins back in '01 with that cyclical peak. And then, when the business kind of participated in the oilfield upturn in '05 and '06, we saw mid-20% margins in '06 and again in '07 and '08. So we got a good we've spent a lot of time in -- at margins in the mid-20% range in preceding cyclical peaks over the last 10, 15 years. And so I feel pretty good. If anything, the continued investment in infrastructure, in the quality and technology that we offer new products, if anything, I think that, that's laid a foundation for very good performance as we continue into this cyclical upturn. I'm always hesitant to tell you very precisely what margins are going to be because we don't know. But we worked hard year in and year out to make our businesses better and more efficient, and ultimately generate higher returns and higher margins.

Brad Handler - Crédit Suisse AG

Makes sense. Thanks guys. I'll turn it back.

Operator

And our last question comes from Tom Curran from Wells Fargo.

Tom Curran - Wells Fargo Securities, LLC

Clay, as you're over a quarter into the integration of APL now, could you give us some indication as to where ultimately you think EBIT margin could rise to for that business and how long it seems like it's going to take you to get it there?

Clay Williams

Well, first, Tom, to be clear, it came in at a low -- at a very low margin. And that's partly because the way the business was organized. It's very engineering oriented, great group of folks who do a good job bringing a lot of technology to the FPSO world, but they tend to outsource everything. And we're much more vertically integrated and have a lot of machines and assembly and fabrication operations that we think we can bring to the combination to improve the margins. The nature of the transaction layered in purchase accounting step up as well. And so we're battling that headwind. So we have a long ways to go. I'm not going to be quantitative in my answer, other than to say we expect that as volumes pick up and we start to land some orders and really bring this more packaged concept to the FPSO world, we think the outlook's pretty bright. But we've also, I think, been very clear in saying that, that's -- it's a couple of years out.

Tom Curran - Wells Fargo Securities, LLC

Okay. And then, Pete, could you just give us an update on the M&A pipeline and specifically, how some of those other opportunities you thought were out there with regards to FPSO equipment have progressed?

Merrill Miller

Good question. And I think, again, we're still very bullish on the M&A situation right now. Obviously, we've got a lot dry powder, and we're capable of doing a lot of things with that. And as we -- there's a lot of things that we're looking at today. Some of it's small, some of it's fairly good sized. But I think as we go throughout the year, you'll see us make some moves in that arena. And I'm pretty positive about it. You're in an interesting time right now because I think there's enough uncertainty in the overall economic market around the world that people are kind of skittish, and if they think, well I've got a -- I've been making some pretty decent money in this area and I wonder if I want to stay in this or maybe if it's time to sell to somebody. So we think there's a real buying opportunity out there today. And we've got our business development group very, very active. Got them going all over the place, looking at deals. And I think as the year goes on, you'll see us do more and more deals. We did some deals this quarter. They were small-ish, did 2 deals. And I think as we go forward this year, you'll see some positive things.

Tom Curran - Wells Fargo Securities, LLC

Great. And is my understanding correct that when to comes to the FPSO front, you do see prospects similar to APL in that among the other FPSO specialists they have manufacturing-related subsidiaries that they're interested in disposing of?

Clay Williams

Well, Tom, I would say we have a pretty good offering right now. We don't have to add anybody. The turret is kind of the centerpiece of an FPSO, and that came in with APL and Prosafe's business that we brought in, in Q4. And that adds to the cranes, the hose reel systems, the riser pull systems, the mooring systems that NOV was already offering. And so we got a pretty good packaged offering already. When we look at opportunities to expand that offering, they're always gated by -- we look very closely at the financial returns in those transactions. With regards to the other FPSO, more vertically integrated folks who perhaps make their own turrets, we don't -- I'm not aware of what they're doing. We're very focused internally on the business that we have and offering that to the people who want to build FPSOs.

Tom Curran - Wells Fargo Securities, LLC

Thanks for the color guys. It was helpful. I'll turn it back.

Operator

And that was our final question. You may go ahead with any closing remarks.

Merrill Miller

Okay. Again, thank you, all. And we look forward to talking to you at end of the second quarter. Thank you very much.

Operator

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may now disconnect.

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