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Executives

Michael Mino - Vice President and Chief Financial Officer

Gus Halas - President, Chairman, and Chief Executive Officer

Analysts

Robin Shoemaker - Bear Stearns

Bo McKenzie - Pritchard Capital

David Dowel - Simmons and Company

Bill Gaenland - Cunningham

Tom Escott - Pritchard Capital Partners

David Cohen - SIMA Capital Management

T-3 Energy Services, Inc. (TTES) Q3 2007 Earnings Call November 5, 2007 3:00 PM ET

Operator

Please standby, we are about to begin. Good day, everyone, and welcome to the Third Quarter 2007 Release Conference Call for T-3 Energy Services Inc. Today's call is being recorded.

Now, for opening remarks and introductions, I would like to turn the call over to Mr. Michael Mino, Vice President and Chief Financial Officer. Please go ahead, sir.

Michael Mino

Thank you. Good afternoon and welcome to our review of the financial results for the third quarter of 2007. A copy of the press release and the quarterly report on Form 10-Q covering our financial results are posted on the Company's web site at www.t-3 energy.com.

Mr. Gus Halas, President, Chairman, and Chief Executive Officer, will be joining me for this afternoon's conference call. We will begin with some opening comments and details regarding the third quarter's financial performance, followed by a question-and-answer period.

Before we begin discussing the financial details, please remember that during the course of this conference call, participants may make certain forward-looking statements regarding various matters related to our business and company that are not historical facts, including future financial performance, operating results, and the prospects for the oil and gas services business.

As you know, and it's difficult to make projections or other forward-looking statements in a cyclical industry such as the risks, assumptions, and uncertainties involved in these forward-looking statements, including the level of crude oil and natural gas prices, rig demand, and operational other risks which are described in the Company's most recent Form 10-Q and other filings with the U.S. Securities and Exchange Commission.

The forward-looking statements are based upon management's expectations and believes and although these statements are based upon reasonable assumptions, actual results might differ materially from expected results due to a variety of factors.

The Company assumes no obligation to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise.

For a discussion of additional risks and uncertainties that could impact the Company's results, please review the T-3 Energy Services, Inc. quarterly report on Form 10-Q for the period ending September 30, 2007.

Also note that certain information discussed in news releases is considered non-GAAP financial measures. Non-GAAP financial measures should be viewed in addition to and not as an alternative for the Company's reported results.

That concludes the preliminary details of the call. I will now turn it over to Gus.

Gus Halas

Thank you, Mike. As you have seen from our press release dated November 5, 2007, we had a good quarter with earnings from continuing operations of $0.58 per diluted share. These earnings compare favorably with continuing operations earnings of $0.46 per diluted share for the same period ending September 30, 2006.

While our Q3 results were good, we believe that these earnings would have been slightly higher, if not for three mitigating factors. Specifically, a lack luster Canadian market, inadequate product pricing on two large orders shipped with mid 2006 pricing structures, and one shipment with inefficient machine tool utilization.

This situation will be remedied upon completion of the expansion at our Cyprus facility and the installation of a 6-inch bar horizontal boring machine, which will be operational January '08.

As of September 30th, 2007, backlog was at $58.7 million. While achieving a Q3 period over period revenue increase of 20%. Outstanding quotes in the pressure control group are at $201 million as of November 2nd, 2007.

Based on historical hit rates, the outstanding quota activity should yield favorable results. T-3 believes backlog volumes will continue to fluctuate due to the growing international sales.

International orders tend to be more complex, due to several factors, including financing, legal arrangements, agent structures, engineering demands, and delivery logistics. Our strategy has been and continues to better position ourselves to capitalize on the strong drilling activity in the oil and gas industry and developing international markets.

Our customers continue to validate our business strategy to develop as a major original equipment manufacturer.

T-3 Energy's original equipment product revenues accounted for approximately 76% of total revenues for the third quarter of 2007 as compared to 65% of total revenues for the third quarter 2006. This 11% increase of OEM products sold demonstrates T-3's energy commitment toward developing an install base in order to increase long-term shareholder value.

We also continue to develop new products. Since April 2003, we have introduced 86 new products, up from the 64 that I mentioned in our last quarter's conference call. To support this effort, we have recently designed and manufactured our T-3 diamond series model 6012 sub C double ram blowout preventer.

This proprietary BOP will enhance our offerings in the marketplace by adding an additional sub C line of products to our traditional surface drilling products.

Further, we have received commitments for our new T-3 well head system, which incorporates our new diamond series production gate valve technology and our new under balanced drilling down hole deployment valve well head system.

These new product introductions come as T-3 commences on research and development programs related to nonmetallic sealing technology, commonly referred to elastomers. A newly formulated elastomer compound has been recently developed for use in harsh drilling conditions that is now under physical testing by a third party analytical firm.

In the past year and a half, we have also expanded our manufacturing capacity to increase the volume of products manufactured, with a primary emphasis on our pressure and flow control product line.

We invested approximately $7.6 million during the first nine months of 2007 and during 2006 on this expansion effort, which includes increasing our BOP manufacturing capacity, expanding our BOP repair capabilities, and the opening of new facilities.

The effects of our BOP repair expansion project should begin to show favorable results in the first quarter of 2008.

To support our manufacturing capacity expansion efforts, we intend to continue to expand our geographic areas of operation, with particular focus on field services and repairs for our wellhead and pipeline valve product lines.

We are expanding our wellhead and pipeline valve repair and manufacturing services by establishing facilities in areas we believe will have high drilling activity, such as the Barnett Shale, Cotton Valley, Fayetteville Shale and the Rocky Mountain, along with Appalachian regions.

Specific domestic growth opportunities under evaluation include Oklahoma, Colorado, Georgia, Pennsylvania, or West Virginia. International opportunities include South America, Middle East and the former Soviet Union.

To provide the highest level of growth potential, manufacturing capacity improvements and geographic expansions must be coupled with strategic acquisitions. As I have stated in the past, our acquisition strategy focuses on three key considerations.

Existing product growth, expansion of our product lines through complimentary products, and/or geographic expansion. To support this effort, we have recently completed the acquisitions of Energy Equipment Corporation and HPT Products.

These acquisitions not only validate our growth strategy, but also support our commitment to developing as an original equipment manufacturer. T-3 will recognize the combined financial results of EEC and HP&T for both November and December of 2007.

These acquisitions should also promise to create both financial and operational synergies. Potential synergies that should be realized include marketing, operational rationalization, engineering and product design, financial, and support services.

EEC's Houston-based operation provides as a best in class production facility that T-3 hopes to leverage for all premium valve manufacturing. As part of this effort, after-market services and remanufacturing activities will be rationalized through T-3's existing manifold valve service operation.

In addition to the domestic rationalization efforts, the acquisition of HP&T brings to T-3 an opportunity to extend its international manufacturing presence to India.

EEC and HP&T bring to the T-3 family of products patented and proprietary technologies that further solidify our position as an original equipment manufacturer focused on both drilling and sub C applications.

These new products include EEC's patented, HP&T gate valve technology and HXC choke technology, of which both have been successfully incorporated into EEC under balanced drilling manifolds, flow back manifolds and well servicing manifolds.

Additionally, EEC's proprietary technologies provide opportunity for technology transfer within T-3's wellhead and drilling products. Specifically, EEC's patented HP&T 15,000 PSI drilling gate valve should provide a technological platform for the development of T-3's new 15,000, PSI production gate valve.

Conversely, T-3 anticipates that EEC will benefit from T-3 products, particularly product pull-through and packaging opportunities that will now be created with significant expanded product catalog, as well as opportunities to incorporate T-3's programmable logic controllers and manifold control panel applications.

EEC has experienced success in penetrating international markets, with its patented and proprietary products. Combined with T-3's current international sales efforts and the expanding product offerings created by the combined company, T-3 believes it will accelerate its international sales growth potential.

The combined efforts of both EEC and T-3's international sourcing efforts should also yield favorable results with respect to product margins due to improved leverage with suppliers. Other sources of EEC product margin improvements have been identified related to the consolidation of support efforts. T-3 will focus on the integration activities throughout the remainder of 2007 so that synergy effects may be realized in 2008.

With that, we conclude with a management discussion portion of this call and I'll turn it over to Mike Mino for the financial results.

Michael Mino

Thank you, Gus. As outlined in our earnings release, income from continuing operations was $7.2 million, or $0.58 per diluted share, up 41% and 26% respectively from $5.1 million, or $0.46 per diluted share for the third quarter of 2006. Year-to-date 2007 income from continuing operations was $18 million, or $1.52 per diluted share.

This was up 35% and 24% respectively from $13.4 million, or $1.23 per diluted share reported in 2006. Revenues for the third quarter of 2007 increased 20% to $53.2 million from $44.2 million for the same period in 2006. Year-to-date 2007 revenues increased 30% to $153.1 million from $117.9 million for the same period in 2006.

The year-to-date 2007 financial results include a nonrecurring charge net of tax of $1.9 million associated with the change in control payment and the immediate vesting of previously unvested stock options and restricted stocks held by Mr. Halas, the company's Chairman, President and CEO pursuant to the terms of his then-existing employment agreement.

The year-to-date 2006 financial results include a charge net of tax of 300,000 related to terminated public offering costs. Excluding the impact of these change of control and public offering costs, the company's year-to-date 2007 income from continuing operations and diluted earnings per share increased 47% and 34% respectively from $13.6 million and $1.25 per diluted share in 2006 to $20 million and $1.68per diluted share in 2007.

For the third quarter of 2007 and year-to-date 2007, T-3 reported adjusted EBITDA defined as income from continuing operations, excluding the change of control compensation charge and public offering costs, plus interest expense, net of interest income, provision for income taxes and depreciation and amortization of $12 million, and $33.9 million respectively, a 25% and 37% increase over the same periods for 2006.

The third quarter revenue increase was primarily due to increased customer orders at higher prices, attributable to improved demand for our pressure and flow control products. This increase is also the result of our increased customer orders for our pipeline and wellhead product lines, due to geographic expansion and original equipment product sales.

T-3 original product revenues increased approximately 39% at three months ended September 30th, 2007, as compared to the three months ended September 30th, 2006. The increased revenue was facilitated through T-3's 2007 manufacturing capacity expansion plan and process improvements.

Gross profit as a percentage of revenues was 36.4% in the three months ended September 30th, 2007 compared to 38.1% in the three months ended September 30th, 2006. Q3 2007 gross profit margins were primarily affected by three key factors.

Three large product orders shipped with low margins, increased depreciation costs associated with expanded manufacturing capacity, and inefficient machine tool utilization for the production of large pressure control products.

The three product orders were shipped with mid 2006 pricing and included cost overruns resulting in unfavorable product margins. Operating expenses as a percentage of revenues were 16.5% in the three months ended September 30th, 2007 compared to 19.7% for the same period in 2006.

This decrease in operating expenses as a percentage of revenues is primarily due to operating expenses consisting primarily of fixed costs, along with variable costs, such as payroll and benefits, not increasing proportionately with the revenues. This decrease is also due to 400,000 of public offering costs incurred in the three months ended September 30th, 2006.

This is partially offset by increased general insurance costs and engineering costs. Income tax expense for the three months ended September 30th, 2007 was $4 million as compared to $3 million in the three months ended September 30th, 2006. The increase was primarily due to an increase in income before taxes.

Our effective tax rate was 35.6% in the three months ended September 30th, 2007 compared to 36.8% in the three months ended September 30th, 2006. The lower rate in 2007 period resulted primarily from higher deductions for certain expenses related to production activities and the increased availability of foreign tax credits, partially offset by the increase in our federal statutory tax rate from 34% to 35%, and certain compensation expenses being nondeductible under section 162-M during the three months ended September 30th, 2007.

As you have seen in our recent filings, the EEC and HPT acquisitions generated revenues in EBITDA in excess of $33.5 million, and $7.1 million respectively for the six months ended June 30th, 2007. On an annualized basis, revenues were in excess of $67 million and EBITDA is in excess of $14.2 million.

The pro forma effect on T-3's diluted earnings per share for the six months ended June 30th, 2007 is accretive by approximately $0.29 or $0.58 on an annualized basis. Going forward, the company believes there are various positive effects of the financial and operational synergies that exist between T-3 and these acquisitions.

Such synergies include, among others, improved product offering and pull-through with enhanced product reputation, expanded customer base and middle east representation, immediate accessibility to premium valve market and sub C market, immediate accessibility to premium valve technology, reductions in efficiencies in SG&A overhead expenses, operational efficiencies through facility rationalization and or restructuring and improved leverage with suppliers and improved in-house load cost country sourcing throughout T-3 products.

The company's integration initiative has already commenced last week, with the expectation that it will incur minimum integration costs and the aforementioned synergy affects will be realized in 2008.

With that, we conclude the financial discussion portion of this call and I'll turn it back over to Gus for concluding comments.

Gus Halas

Q3 financial results continued to demonstrate strong performance by T-3. Product engineering activities continue to develop T-3 as an original equipment manufacturer of oil and gas products. Our stable backlog and strong quoting activities demonstrate that oil and gas equipment customers find value in our products and services.

EEC, HP&T bring with them seasoned manufacturing teams with best in class engineering organization that is maintaining a long history of introducing innovative and industry leading technologies. The combination of their proprietary products and extensive service capabilities promise to yield great opportunities for the future T-3 Energy's customers.

The acquisition of EEC and HP&T and an expanded senior credit facility of 180 million confirms T-3's intentions of fostering increased product and service growth through geographic expansion, product growth, and acquisitions.

Before I turn it over to any questions, one that may have come up would be the issue of what the impact was on the three items that I spoke about, specifically the lack luster Canadian market, the product pricing and two large orders, and the inefficient machine tool utilization.

We are calculating that number to be somewhere between $0.04 and $0.05 per share on the earnings per share basis. So I know that, that had been a question that was raised, so I wanted to bring that forward.

We'll now be happy to answer any questions you may have.

Question-and-Answer Session

Operator

(Operator Instructions) We will go first to Robin Shoemaker with Bear Stearns.

Robin Shoemaker - Bear Stearns

Good afternoon, Gus.

Gus Halas

Good afternoon, Robin.

Robin Shoemaker - Bear Stearns

Thank you. Wanted to talk a little bit about the acquisitions, the accretion on a pro forma basis that you mentioned is quite impressive. Can you tell us how much debt you will have in '08 that's related to the acquisition and a rough level of interest expense associated with that debt?

Gus Halas

I think the debt will be somewhere around $55 million to $65 million and the interest, we will get you in just one second. $2.6 million for the year.

Robin Shoemaker - Bear Stearns

$2.6 million of interest expense is what you're anticipating?

Gus Halas

Correct.

Robin Shoemaker - Bear Stearns

Okay, and so you will draw down on your cash reserves as well as the $55 million, $65 million of debt?

Gus Halas

Yes.

Robin Shoemaker - Bear Stearns

Okay.

Gus Halas

Yes, that's how we will finding it.

Robin Shoemaker - Bear Stearns

Okay. Also, related to the acquisition is the good will, I'm sorry, will this be good will associated with this, or will there be a step up in the assets EEC or HP&T?

Gus Halas

It will be both, good will and a step up, Robin.

Robin Shoemaker - Bear Stearns

Okay. And also the G&A expense that EEC has appears to be quite a bit lower than as a percent of revenues than T-3. I guess part of that is explained by the fact that it was a private company, but do you have any guidance on SG&A expense as a percent of revenues for the combined company?

Gus Halas

I don't have any guidance on that.

Robin Shoemaker - Bear Stearns

Okay.

Gus Halas

It will be, let me just give you enough to say that we are planning to be a little bit lower than where we are now, because a lot of the Sarbanes-Oxley costs are going to go away, since we were going to be fully compliant by the end of the year.

And last year, as I have mentioned on numerous occasions, is costing us over $1 million just to get to this point. So some of that cost will go away and only the public company costs will be staying put.

Robin Shoemaker - Bear Stearns

Okay. So the roughly 18% SG&A as a percent of revenues this year should decline a little bit?

Gus Halas

Slightly.

Robin Shoemaker - Bear Stearns

Yes.

Michael Mino

Robin, also bear in mind that in the second quarter of '07, we had that 123 comp charge of $2.5 million.

Robin Shoemaker - Bear Stearns

Oh, yes, I know that. That, added to it, so exactly. Okay. Well, I will just stop there and let somebody else ask questions. Thank you.

Gus Halas

Okay. Thank you.

Operator

Thank you. We will go next to Bo McKenzie with Pritchard Capital.

Bo McKenzie - Pritchard Capital

Hi, guys. I'm going to follow along behind Robin on a couple of things here. I got the 8-K here in front of me. You talked about $0.29 accretion, and I guess Mike did, in the first six months. Is there, is there any reason that we would be either conservative or aggressive in annualizing that first six months results?

And to kind of back that question up, if we were to look at the results through 12 months of 2006 through the results of six months of 2007, the revenues are up just under, well, for the six months average almost as much as the 12 months. What's driving that, and is any of that that's going to fall off during 2008?

Gus Halas

It shouldn't. Let me answer the last part first, and there really isn't anything that we see that should be dropping the growth. They're primarily playing in the areas, their business model is pretty much where we want to go, primarily sub C, more specialized, proprietary products, higher engineer products.

So it is, that's what they have built their reputation on. Their patented valve is really the marquis product that they have.

Bo McKenzie - Pritchard Capital

That's the HP&T valve that you are talking about?

Gus Halas

Exactly.

Bo McKenzie - Pritchard Capital

Yes.

Gus Halas

And for the first time we will be, we have a negligible amount of weld service business and then 2008 and beyond, we are going to have just under 10% of the weld servicing work. So it's taking us not only to new products and new manufacturing and more into sub C, but also in weld servicing where we had a negligible amount of business there.

Bo McKenzie - Pritchard Capital

Gus, so then you're saying that well, let me try to interpret what you're saying.

Gus Halas

Okay.

Bo McKenzie - Pritchard Capital

2006-2007 showed a lot of growth. There's growth going again into 2008?

Gus Halas

Yes.

Bo McKenzie - Pritchard Capital

So that if there was $0.29 accretion as per the proxy or the 8-K, that number would be somewhat better if there's consolidation benefits times two?

Gus Halas

Well, if you're talking strictly, we have to look at it as a whole business, both.

Bo McKenzie - Pritchard Capital

Right.

Gus Halas

And you know that I'm going to be conservative no matter what.

Bo McKenzie - Pritchard Capital

Yes, I know, it's going to be dilutive by the time we are done with this. Just joking.

Gus Halas

No, I understand. We still have to look at the North American drilling activity, which is tapering off. We're trying to push as fast as we can internationally and sub C, but it's still a matter of recognition and it's still a matter of making our position well known in that arena.

Bo McKenzie - Pritchard Capital

Right.

Gus Halas

So while numerically, I suppose you could come up with that number, I have to look at the overall picture of what is the drilling activity do overall, and is 2008 going to be much different than 2007.

So you start putting the macro issues in there but numerically, what you are saying, I can't argue with that point.

Bo McKenzie - Pritchard Capital

All right. Then to round back, or before round back that, the other parts of what you guys had already been into before. Did you mentioned that drawing debt downs to, what did you say, 55, $55 to $65 million? But the 8-K, I thought it said 40.1. What is the rest of that, just for working capital?

What are you buying working capital with this? Where's the remainder of the debt going?

Gus Halas

In the 8-K, it was specifically for EEC, it didn't pick up any information for HPT.

Bo McKenzie - Pritchard Capital

Okay. Got you. Gus, could you or Mike break down for us on this quarter's revenues exactly what we have got for BOT versus wellhead versus pipeline?

Michael Mino

Yes. Hang on a second. Pipeline for the quarter was about $12 million. Okay.

Bo McKenzie - Pritchard Capital

Okay.

Michael Mino

Wellhead was about 7. I take that I'm sorry, on pipeline, I'm looking more at 7.5. Wellhead was about 8 and the rest would be pressure and flow control.

Bo McKenzie - Pritchard Capital

And of that wellhead, do you know how much was proprietary products versus the kind of legacy business?

Michael Mino

I don't have that information right now.

Gus Halas

On the wellhead?

Bo McKenzie - Pritchard Capital

Yes.

Gus Halas

It would be minimal.

Bo McKenzie - Pritchard Capital

Minimal proprietary products?

Gus Halas

Minimal proprietary products. If you remember, when we announced last quarter that we had just brought in our first shipments, it had not slowed; the flow has not been completely through the organization to the customer. So, it will be minimal amount of product, I guess is the answer.

Bo McKenzie - Pritchard Capital

Okay. I'm going to finish this line of question, then I'll go back and let somebody else ask. The press release is then for a couple large sales that came out several months ago, I guess would then be for revenue recognition in Q4?

Gus Halas

Yes, what we announced the purchase orders, and that well program may be over a certain number of months. And it will come out in either four or eight or 10 per month. It won't be all at once.

Bo McKenzie - Pritchard Capital

Okay. All right. I'll turn it back over.

Gus Halas

Thank you.

Operator

Next we'll go to David Dowel (ph) with Simmons and Company.

David Dowel - Simmons and Company

Hey, guys.

Gus Halas

Hello, Dave. How are you?

David Dowel - Simmons and Company

Good, good. Gus, I thought I heard you say in your opening commentary that you're facing some challenges with respect to international orders. Can you walk me through those challenges and what you're planning to do to overcome that?

Gus Halas

Well, the challenges are no different than anybody else's challenges. The contracts have to be a lot, very formalized. They are financing issues, there are logistics issues, and so we have to walk through that same process. If you remember, our organization primarily has dealt in the Gulf of Mexico area. So, we have to install controls and processes in order to insure that we're able to deal in the international arena.

And so, I think we have gotten most of that taken care of. It's just that for the most part that is and will always continue to be a challenge for us, to be honest with you.

David Dowel - Simmons and Company

Okay. I guess along that same line, do you know how much of your backlog at the end of the quarter was related to international sales?

Gus Halas

I think it was about 63% international.

David Dowel - Simmons and Company

Okay.

Gus Halas

And by the way, I believe, and we haven't broken down, but on a year-to-date basis, I think EEC's backlog or shipments have been predominantly international sales to the tune of about 65%. The trend is almost the same.

David Dowel - Simmons and Company

And then also when you looking, I guess the composition of your backlog in terms of product or margin mix, what are you seeing there?

Gus Halas

Actually, I'm fairly encouraged by the margin mix. I'm hoping that one unique job that created a problem for us that wasn't international job that, we were challenged with, we have no recurrence. I've been assured that that's been the case, so we should have a fairly constant margin, targeted margin in what we're going to be shipping in the future.

David Dowel - Simmons and Company

Great. That's all I've got for you now. Thanks.

Gus Halas

Thank you.

Operator

Thank you. We'll go next to Bill Gaenland (ph) with Cunningham.

Bill Gaenland - Cunningham

Yes, thanks. If you could just take a look how a factor out some of the issues you mentioned at the beginning dealing with the pricing and some of the inefficient machine tools, going forward, with some of those factors taken care of, what's sort of a normalized gross margin would you be able to achieve?

Gus Halas

We're trying to make sure that we're at a minimum of 40% margin, gross margin. That's our target. Whether or not we achieve it is going to be based on market factors, operational issues and I feel pretty good about, but unless something changes drastically in the marketplace we are seen, our margins seem to be holding up fairly well, and as of right now, we're getting some favorable terms.

I'm fairly comfortable with that level of margins. I don't think, whether we hit 40 or not is up for debate, but that's our targeted margins.

Bill Gaenland - Cunningham

And is there going to be any continued drag from, you mentioned the 2006 pricing issue?

Gus Halas

No. Well, there it shouldn't be. I would suggest there better not be. Because we have combed our backlog to make sure that there were no issues. So, we're going down the path feeling pretty good that there's not anything like that.

We knew about the other jobs we just at the last minute, it was actually a change from what the customer would or would not accept and that's what really drove our margin down. We almost had that as a decent margin job going out up until the last minute.

Bill Gaenland - Cunningham

Okay, thanks.

Gus Halas

All right.

Operator

Thank you. We'll go next to Penny Alexandra with Pritchard Capital Partners.

Tom Escott - Pritchard Capital Partners

This is actually Tom Escott, Gus.

Gus Halas

Hi, Tom.

Tom Escott - Pritchard Capital Partners

You touched on one of these three issues. Of the three things that you said impacted the profitability in the first, in this recent quarter, you've just said that the old pricing, or the cost overruns on a shipment, but that will not be repeated.

What about the other two issues, the machine tool, whatever inefficiencies, and then Canada running very slow? I imagine Canada's not probably changing any. Can you touch on how this other things will be impacted in this period?

Gus Halas

Okay. Canada, we had already, should have baked into our numbers. We were not as concerned. But it was, it was a factor that, it was a bit softer. But there is a shift in the marketplace to bigger BOPs and the Subsea BOPs that we're working now.

Until we install the 6-inch horizontal boring machine, 6-inch horizontal boring machine that we talked about, we have to do with our existing equipment, which our biggest is 5-inch and that may not sound like a lot of difference, but there is in terms of efficiency.

So the piece of equipment should be installed and fully operational by January 1. So that should be eliminated at that point. And Canada's going to be what it is as far as the pricing and how the review that has become a lot more rigid and also we've combed our backlog, we feel fairly comfortably that that should not reoccur.

Tom Escott - Pritchard Capital Partners

So, these three items that caused $0.04 or $0.05 shortfall, I guess two out of the three are probably going to continue to drag through the December period and then improve after that?

Gus Halas

The one may, the Canadian issue, if you look at it, if Canada was $0.01 to $0.02 that we would have improved, and the others were the rest, then really, the only one that I'm concerned is the other two, which are the ones that we should be taking care of is the inefficiency of the equipment that we have right now.

Tom Escott - Pritchard Capital Partners

Okay.

Gus Halas

And we're trying to mitigate that factor.

Tom Escott - Pritchard Capital Partners

All right, and then lastly, it wasn't clear to me. I know you touched on this, but were there some shipments of well head equipment that had been booked, or not booked, but orders in process that didn't ship at the end of the quarter that kind of got pushed forward, or did I misunderstand that?

Gus Halas

No, no. These were as I mentioned in the past, we're bringing in our products, the T-3 brand of products from overseas. We're trying to fill the pipeline of our products. The large orders that we've received are going to be shipping at a pre-approved rate, whether it be four or eight or 10 months, depending on the order.

And the pipeline has not been filled, so our T-3 proprietary products, there's minimal impact in this quarter is the only thing that I was mentioning on that one.

Tom Escott - Pritchard Capital Partners

All right. But should that then be better than that, better than minimal in this December period, or are we going to see this same thing until sometime into '08?

Gus Halas

We've got most of our products now. That should be minimal, is what I'm, I mean if, unless something changes drastically, the impact of anything like that should be minimal because our pipeline is filling with our proprietary products.

Tom Escott - Pritchard Capital Partners

Okay. Thank you.

Gus Halas

But in terms of the shipments, just to clarify, Tom, in terms of the shipments, that doesn't effect it, because we will service our customers. We're just trying to service them with our proprietary T-3 products.

Tom Escott - Pritchard Capital Partners

Which carry higher margins, I suppose.

Gus Halas

I hope.

Tom Escott - Pritchard Capital Partners

Okay. Thank you.

Operator

(Operator Instructions) We go next to David Cohen with SIMA Capital Management (ph).

David Cohen - SIMA Capital Management

Good afternoon, guys.

Gus Halas

Good afternoon.

David Cohen - SIMA Capital Management

I had the same question about the discrepancy between the pro forma debt in the 8-K and what you said in your remarks. I understand your explanation. That leads to me to a follow-on question, which is, would you be willing to characterize the accretion or dilution that's coming from the HP&T acquisition?

Since the pro forma doesn't cover that, I have no way of really judging how that might effect 2007 and beyond. Thanks.

Michael Mino

Yes, I don't think the effect is, there's no dilution on the acquisition of HPT. And I say that because of the EEC had an arrangement with them to manufacture and sell the HPT products and that goes away with the acquisition of both.

Gus Halas

And just to further elaborate on that, HPT was the engineering arm of EEC, except for a small operation in India, which is used for sourcing. So there was in essence some double margins there, and that's what we hope will get clarified.

David Cohen - SIMA Capital Management

So, so the degree of accretion of the combined acquisitions should be similar to the accretion that's reflected in the 8-K?

Gus Halas

Exactly.

David Cohen - SIMA Capital Management

Thank you.

Operator

(Operator Instructions) Next, we'll take a follow-up from Bo McKenzie with Pritchard Capital.

Bo McKenzie - Pritchard Capital

Hi, Gus. When you put this big 6-inch machine in, how's that going to change your throughput?

Gus Halas

That's part of the overall Cyprus facility that we're trying to move from the 7 to the 11 stacks of repaired units per month.

Bo McKenzie - Pritchard Capital

But this will be part of the new equipment, is that right?

Gus Halas

It will be both, because most of, most of the sub C work that we're doing now is in repairs, but the same machine, you can process either repairs or new equipment. So it will be used for dual purpose.

Bo McKenzie - Pritchard Capital

Okay.

Gus Halas

This has obviously a lot of capacity because it can be run 24 hours a day. It's part of the repair facility, but up until this point, we've used the machines interchangeably in order to accommodate customer requests, be it a repair or a new piece of equipment.

Bo McKenzie - Pritchard Capital

All right.

Gus Halas

What we're trying to do is separate those two, but with the price tag of almost $2 million for a 6-inch bar, until that's justified, I won't spend the money.

Bo McKenzie - Pritchard Capital

Okay. Just kind of for record keeping, you guys have expanded up to 25 BOP equivalents a month kind of capacity. Where were you in Q3?

Michael Mino

Q3? The number, actually the number, we've always said $25 equivalents, but we shipped 34, but the average shipment was about $270,000.

Gus Halas

Bo, if you remember, and we discussed this, it's 25 equivalent units, when you get much bigger, or much smaller than the 15-inch unit that we base the equivalency on, and there's either going to be more of them or less of them being fully utilized, and we've had, such as the sub C units and the bigger repaired sub C units, the new sub C units, as well as the repair retro fit sub C units are much larger, so there's an equivalent amount.

Bo McKenzie - Pritchard Capital

Okay. In terms of, we've beaten this thing real hard about the choke order that was in there, but if you looked at the average price in your backlog, you don't know, you guys raised prices some during the course of last year, would it be fair to assume that the unit price is still trending up somewhat as you're delivering stuff from nine months ago backlog, six months ago backlog?

Michael Mino

You're asking if the average cost per item?

Bo McKenzie - Pritchard Capital

The average selling price.

Michael Mino

I think it's going to be pretty comparable. It just depends on the size that we're selling or shipping out.

Gus Halas

And if it has any special metallurgy.

Bo McKenzie - Pritchard Capital

I guess the last one, if we look at the market being somewhat sideways, at least for where it currently stands right now in the United States, and you were to look at relative scope of the size of the well head equipment markets, what's a reasonable assumption about a first full year potential market penetration in that business?

On proprietary, on company-branded products, not on the after-market stuff.

Gus Halas

I don't know how to answer that.

Bo McKenzie - Pritchard Capital

How about, like $49.6 million at 23% margins or something …

Gus Halas

And.

Bo McKenzie - Pritchard Capital

If you're at a loss for words.

Gus Halas

And you know that I won't.

Bo McKenzie - Pritchard Capital

I know.

Gus Halas

I mean, we're still trying to carry our strategy. It's a growing market. If we get the statistics correctly, that should grow by about, it depends on what you read, anywhere between 20 to 35%, and we're trying, I mean we're still building facilities.

We're still hiring sales people. We're still manufacturing, I mean manufacturing and engineering products in order to meet that marketplace. There's just going to be a matter of how well we execute our strategy. And I'll keep making the announcements when we do execute well, and we do get jobs.

There's opportunities that we're working on our targeted accounts and as we close, and frankly, our acquisition with the EEC should help, so hopefully we can sit here and look back after the next quarter and say that we've done a fair job.

Bo McKenzie - Pritchard Capital

Then finally, back on the BOP side, I mean given what you see in backlog, given what you're picking up in the hit rate internationally, is there any reason to believe the next several quarters would be substantially different, other than the impact of the choke order that went through?

Gus Halas

Are you talking about in volume or in margin?

Bo McKenzie - Pritchard Capital

Volume and margins just well and excluding the, was it the new -- let me see if I can say this again, if I look on the T-3 branded BOP side of the business.

Gus Halas

Right.

Bo McKenzie - Pritchard Capital

And I look at your success rate that, I don't know what your success rate is, but I'm making assumption about your success rate internationally, given that you're still growing your international bids outstanding.

Is there any reason to believe that on the T-3 branded stuff, things would be any lower in the next several quarters from the BOP business?

Gus Halas

If it holds true the way that we've hit in the past and the way we're penetrating the market and with the combined agents for both EEC and T-3, I hope that we'll be doing better. But we still have to execute.

Bo McKenzie - Pritchard Capital

Right. All right. Thanks a lot.

Gus Halas

Okay.

Operator

Thank you. Next we'll take a follow-up from Robin Shoemaker with Bear Stearns.

Robin Shoemaker - Bear Stearns

Yes, just one more question, Guys. Do you have a ballpark figure for what T-3 and EEC, the combined company will spend on growth or capital spending for 2008 at this point?

Gus Halas

It's about $6.7 million.

Robin Shoemaker - Bear Stearns

Okay. Well, that would suggest a lot of free cash flow, so would you then apply that to take the $60 million debt down through the year?

Gus Halas

Yes.

Robin Shoemaker - Bear Stearns

Okay. Got it. That's all I have. Thank you.

Gus Halas

Yes, just to follow up on that, one of the main reasons we're only spending $6.7 million is there were a number of machines that were bought by EEC that, frankly, were not operational in 2007.

I think, if I'm not mistaken, I think they were only used for one month?

Michael Mino

If you look at the press release, we spent $4 million for capital equipment, which included four CNC machines in a building and some land. And they really didn't come on board until July '07.

Robin Shoemaker - Bear Stearns

Okay. So, in other words, then, you foresee relatively little need for capital investment on expansion, if you can apply this investment for the full year?

Gus Halas

Exactly and that, as we mentioned during the conference call, we're looking at that facility to be the valve facility for T-3 because they are very well tooled up to be able to handle all our valve work.

Robin Shoemaker - Bear Stearns

Okay. Thank you.

Gus Halas

Thank you.

Operator

Thank you and we do have no further questions at this time.

Gus Halas

Okay. Well, I want to thank everybody for participating and looking forward to talking to you at the end of next quarter.

Operator

That does conclude today's conference. You may disconnect your lines at this time.

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Source: T-3 Energy Services Q3 2007 Earnings Call Transcript
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