National Oilwell Varco Q4 2007 Earnings Call Transcript

Feb. 6.08 | About: National Oilwell (NOV)

National Oilwell Varco Inc. (NYSE:NOV)

Q4 2007 Earnings Call

February 6, 2008 10:00 am ET

Executives

Pete Miller - Chairman, President, CEO

Clary Williams - CFO

Analysts

Michael LaMotte - J.P. Morgan

Robin Shoemaker - Bear Stearns

Marshall Adkins - Raymond James

Scott Gill - Simmons & Company

Kurt Hallead - RBC Capital Markets

Dan Pickering - Tudor Pickering Holt

Chuck Minervino - Goldman Sachs

Operator

Good morning, ladies and gentlemen, and thank you for standing by. Welcome to the 2007 Annual Earnings Call.

During today's presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be open for questions. (Operator Instructions) As a reminder this call is being recorded today, Wednesday, February 6, 2008.

I would now like to turn the conference over to our host Mr. Pete Miller, Chairman and CEO. Please go ahead.

Pete Miller

Thank you [Sean]. Welcome to the fourth quarter and full year conference call for National Oilwell Varco.

I'm Pete Miller, CEO and with me today is Clary Williams, our Chief Financial Officer. Earlier today, we announced fourth quarter earnings of $377 million, or a $1.05 per fully diluted share, on revenue of $2.66 billion, and we announced full year earnings of $1.34 billion, or $3.76 per fully diluted share, on revenues of $9.79 billion.

These are both record results for us and we are very pleased with them. In a moment, I will turn it over to Clay and he will provide more color on the numbers and our results.

In addition to our earnings, we announced a quarter ending backlog of $9 billion. During the quarter, we took in a record $2.2 billion of new orders. I will expand upon this backlog or these backlog numbers a little later in this call.

I am very pleased with both our financial results and our backlog growth. We appreciate the confidence our customers have shown in us and the tremendous efforts of our 30,000 employees to achieve these results, as well as the continued support of our worldwide network of supplier partners.

At this time, I'd like to turn it over to Clay to give you some comments regarding our financials.

Clay Williams

Thanks Pete. Before we begin this discussion of National Oilwell Varco's financial results for its fourth quarter and full year ended December 31, 2007, 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're subject to risks 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'll refer you to the latest Form 10-K, Form S-4 and Form 10-Q National Oilwell Varco has on filed with the Securities and Exchange Commission for 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 in this call, Pete and I will answer your questions, we ask that you to limit your questions to two in order to permit more participation.

National Oilwell Varco generated earnings of $377 million or $1.05 per fully diluted share, in its fourth quarter ended December 31, 2007, on revenues of $2.659 billion. Earnings per share rose 3% sequentially and rose 54% from the fourth quarter of 2006.

NOV's fourth quarter revenues improved 3% sequentially and 28% year-over-year. Operating profit was $575 million in the fourth quarter, or 21.6% of sales, an increase of 5% sequentially and an increase of 51% year-over-year.

Flow-through or operating leverage was 37% sequentially, and 33% year-over-year. For the full year 2007 National Oilwell Varco earned $1.3 billion or $3.76 per fully diluted share or $9.8 billion in revenue. Earnings per share adjusted for the stock split improved 95%, on 39% higher revenues year-over-year.

Operating profit was $2 billion up 84%, operating margins for the year expanded 510 basis points to 20.9% and year-over-year operating leverage or flow-through was a very strong 34%. All three of our operating segments produced record revenues in 2007.

National Oilwell Varco and Grant Prideco announced on December 17, 2007 that the companies have entered into a definitive merger agreement. Pursuant to which National Oilwell Varco would acquire all of the outstanding shares of Grant Prideco for combination of cash and NOV stock.

The transaction remained subject to various conditions including approval by regulatory authorities and approval by majority of Grant Prideco's stock holders.

On January 7th, we filed our application with the US Department of Justice under the Hart-Scott-Rodino Antitrust improvements Act of 1976. And have been in discussions with the DOJ regarding the proposed transactions since the filing.

At this time, a few minor questions still are outstanding. These questions do not merit a second request. However, the DOJ does need more time to answer its questions, therefore this morning in order to give the DOJ more time to evaluate the transaction we have pulled and are re-filing our application under Hart-Scott-Rodino.

This will restart the HSR waiting period and facilitate the DOJ's desire to better understand the transaction. We are confident that these issues will be resolved shortly and that the transaction will be approved given the NOV does not compete with Grant Prideco in its businesses.

On January 28, National Oilwell Varco filed an S-4 registration statement for the NOV shares to be issued together with the proxy statement and prospectus for Grant Prideco shareholders. We do not know precisely when the SEC will permit these to become effective but we nevertheless expect the transaction to close sometime in April 2008 and remain very enthusiastic about the prospects for the combined business, as we enter the new year.

We urge shareholders to read our public filings for more information about the transaction. Turning back to NOV's fourth quarter performance, we continue to execute well, efficiently fabricating highly sophisticated drilling rigs, delivering great service and technology and pressing forward into new promising international markets.

We're pleased to once again announce a record level of new rig orders and backlog and we are glad that the drilling contractors we serve continue to trust NOV with their critical rig building projects.

They channel National Oilwell Varco to deliver safer, cleaner, more efficient ways of finding and developing new sources of oil and gas. Our secret weapon in this effort, the factor that convinces Pete and I that we will continue to succeed in this endeavor, are the dedicated NOV professionals, who keep the oil patch running smoothly around the world. I noted many are listening to this call today and I want all of you to know, how grateful we are for the super job that you did in 2007.

We also offer our thanks to our vendors for their excellent performance this past year, and we want our employees, suppliers, and customers alike to know just how excited we are about 2008.

Here is why we are excited. The world needs to build a lot of rigs and we have just the team to build them, and it's a growing team. We are pleased to announce that we have opened the first of three innovative training programs, the NOV Technical College in Norway to support our rig technology group.

We expect to open two more, one in Houston and one in Singapore, later this year at a total cost of nearly $30 million. All three will emerge bright energetic students in an intense 6 to 12-month course in the science of maintaining, repairing, installing, and commissioning the sophisticated equipment and technology, NOV provides.

Our goal is to expand the number of rig service technicians available to keep the growing number of hi-tech rigs working efficiently.

At the time of the merger between National Oilwell and Varco, we had a little over 400 service technicians available to service equipment, and in the three years since, this workforce has grown to nearly 1000.

Over the next year or so, we expect to recruit and train new technicians to bring our workforce up to about 1400 and the NOV Technical College will help us to do this along with institutionalizing of means to steadily improve the skill set of all of our technicians.

NOV is committed to developing the skills of its valued employees and customers alike. In 2007, we trained nearly 1700 drilling contractor personnel including 150 US land contractor employees. They received training in our new state-of-the-art mobile training lab, which brings NOV instructors to the field.

These initiatives represent a sustained, systematic commitment to grow and enhance our already deep pool of talent. This April, they will also help us to manage the rising demand for installation and commissioning work associated with 165 offshore new builds underway.

So far our track record on getting these rigs out of the shipyards to spud has been very good. We have completed the installation and commissioning of 22 rigs since the merger, including the first loader, the Stena DrillMAX I, which was delivered early.

We are presently performing INC operations on another 23 rigs and 13 different shipyards with 180 NOV technicians. Once these new rigs spud they will need ongoing maintenance and refurbishment support.

2007 marked the year that we opened a 400,000-square-foot aftermarket service centre in Houston. To keep this rig supply with critical spare parts and efficiently refurbished the hi-tech equipment they employ.

This initiative began to pay dividend this quarter as we saw significant growth and aftermarket revenues in rig technology which contributed significantly to the margin expansion and high flow-throughs for the group.

Total non-backlog revenue for rig technology grew 11% sequentially entirely due to higher aftermarket sales. Our Houston aftermarket facility also served to concentrate our equipment refurbishment businesses and extract them from operations where we manufactured new equipment.

This has freed up force based machine tools and other resources in our new equipment manufacturing plants, effectively increasing capacity there and making them more efficient by accelerating our cellular manufacturing and quick response manufacturing initiatives, which are underway in about a dozen locations.

The margin expansion you have seen in our rig technology financial statements over the past several quarters demonstrate the success of these manufacturing initiatives. We are expanding elsewhere around the globe too. This quarter, we invested in additional manufacturing space in the Middle East, completed a number of expansion projects in domestic manufacturing plants, and opened a new assembly facility in Norway.

Looking forward, we expect to open another aftermarket support facility in Singapore later this year. NOV also continue to invest a new and better ways of drilling in 2007.

We are launching new rigs for high-end and the temperature desert drilling conditions, and a specialized rig design for Latin America where our ideal rigs and rapid rigs continue to gain acceptance.

We are lucky to have some of the best most experienced drilling technology mines in the business on the NOV team. And our rig technology engineers and scientist applied for or won 49-patch for their innovations last year.

Rig technology group won $2.2 billion in new orders during Q4, including major packages for four deepwater floaters. Orders eclipse last quarter's record levels by nearly 13% and lifted backlog through a record $9 billion. A little over $5 billion is on schedule to flow out as revenue in 2008, and most of the rest in 2009.

The backlog is 88% international and 12% domestic, and 85% offshore and 15% land reflecting strong interest in building offshore rigs in promising new deepwater basins like Brazil Santos basins. There Petrobras has announced two major discoveries in as many months.

We think this news together with recent advancements and reliably seeing through salt for seismic processes and drilling through salt with [rubber stirables] and oil base mud will fuel further industry interest in deepwater new builds. As a result our bid activity remains brisk and it has for 12 straight quarters.

Last quarter, we spoke about declining demand for new land rigs in North America where our land rig backlog has fallen by about half from peak 2006 levels. This quarter the domestic land backlog stabilized and we are seeing and hearing of a lower level of stealth building. Land contractors are acknowledging the success of high-tech fit-for-purpose rigs in the domestic market.

All tired iron must and will be replaced even at day rates that show considerably less erosion than those seen in 2006. Contractors are responding to competition from better rigs that consistently post meaningfully higher day rates and utilization, and NOV is there to help.

Demand for land rigs for international market is exceptionally strong and we are seeing considerably higher interest in hi-tech rigs for these markets. We believe operator experience with higher technology rigs these of the old mechanical rigs will continue to pull more of these into the marketplace.

Q4 saw 22% growth in our international land rig backlog at several international customers placed firm commitments.

The recap, we expect to continue to sell into three important trends in the rig fleet worldwide. The secular build out of additional deepwater capabilities, the retooling of the jack-up fleet with newer more capable rigs, and the replacement of tired old land rigs both here and abroad with smart new technology.

And as a reminder, 73% of the world fleet of floating rigs are more than 20 years old and 84% of the world's jack-up fleet is more than 20 years old. As the great old rocker, Neil Young put it, rest never sleeps.

Now let's turn to operating results for Q4. Rig technology generated $1.594 billion in revenue and $411 million in operating profit in the fourth quarter, yielding an operating margin of 25.8%. The good generated sequential flow-through of 51% and year-over-year flow-through of 40%.

Sales grows 5% sequentially and 40% year-over-year. Sales out of backlog increased 3% and non-backlog revenues increased 11% sequentially. Both were up in margin with revenue from backlog coming through at higher margins due to big cost control on offshore or new builds, and non-backlog revenue benefiting from favorable mix of significantly higher sales of spare parts and repair services. This was offset by lower component sales into the Western Hemisphere land market.

Looking forward to the first quarter of 2008, we expect to see rig technology revenues grow in a mid-single digit range, but at more typical flow-throughs in the mid-to-high 20% range, resulting in margins comparable to Q4. We also expect another good quarter for bookings particularly for offshore rigs, but are unlikely to surpass the $2.2 billion in orders one in Q4.

The Petroleum Services & Supply segment generated $818 million in revenues in the fourth quarter, an increase of 2% from the third quarter and a 22% increase from the fourth quarter of 2006.

Operating profit was $189 million down $4.4 million from the third quarter, and operating margins were 23.1%, down 90 basis points from the third quarter. Year-over-year flow-throughs were 17%, below the group's average of the past few years.

Several factors contributed to the lower margins including a softer North American service market, where drilling contractors are reducing purchases and applying more pressure on pricing, which laid the lower purchases of expendables and services across the number of product lines.

We also see US drilling contractors pulling expendables and spares off older stake rigs and reducing their major rig refurbishment projects resulting in a decline in overall US sales for the group in Q4.

NOV benefited from modest seasonal improvement but pricing remains under pressure which limited flow-throughs for the group there. International sales growth was strong but at lower margins due to costs associated with several international expansion initiatives. These include the cost associated with two new Tuboscope plants that opened in China, and the opening of a 2000-square-foot manufacturing facility for Downhole Tools in the Middle East. Also, a new motor service and reline facilities were opened in the Far East.

Additionally, flooding in Mexico, higher cost in our European inspection operations and unfavorable mix of fiber glass pipe and new equipment sales, and modestly lower coil tubing sales, were only partly offset by higher sales.

Moving into the first quarter, we expect continued broad international growth to offset a modestly weakening North America picture. Specifically, we foresee higher sales of power sections and rotors and stators for Downhole drilling motors, to be offset by inspection and coding declines due to rolling off some large riser line pipe and mill equipment projects.

Also fiberglass pipe and fishing tool sales were forecast to be down resulting in overall Petroleum Services & Supplies revenues and margins that we expect to be roughly flat with the fourth quarter.

Our Distribution Services segment also faced margin challenges in the North American market in Q4. Group revenues were $366 million up about 1% from the third quarter due to international growth and some seasonal improvement in Canada, which were partly offset by lower US sales.

Year-over-year sales were down modestly as international growth failed to fully offset declines in North America. Operating profit was $20.9 million and operating margins declined to 5.7% down 120 basis points from the third quarter.

The fourth quarter saw higher severance and restructuring cost in Canada, and US business saw lower margins on a combination of mix and price and volume. Domestic drilling contractors are beating out more of their MRO contracts broadly, and pricing appears to be weighing more heavily on their purchasing decisions.

International growth was solid from Q3 to Q4, but flow-throughs were low as NOV expanded its Middle East operation and invested in new expansion locations in Thailand, Egypt, India and Goa.

Overall, for the full year 2007, Distribution Services grew international business 22%. The Canadian declines completely offset this. Nevertheless the group did a great job building out the foundation for future international growth.

Looking into the first quarter, we expect the Distribution Group to post modest margin improvements on roughly flat revenue, as international growth, and seasonal and cost improvements in Canada, are expected to offset continuing pressure in the US.

Turning back to National Oilwell Varco's consolidated fourth quarter income statement, SG&A increased $21.5 million from the third quarter and rose as a percentage of revenue from 7.6% to 8.1%. This was due to higher incentive compensation accruals and IT expenses and the reclassification of certain expenses from cost to good sold.

Higher interest expense was more than offset by higher interest income driven by higher cash balances. Other income declined $17.7 million sequentially due primarily to FX losses on the revaluation of unhedged accrued liability balances on projects in Norway.

For the full year National Oilwell Varco had FX losses $7 million down from $21 million in 2006 despite dramatically higher volumes, as we improved our systematic hedging of FX exposures.

Other income was also affected by higher banking fees associated with letters of credit on customer deposits. The fourth quarter tax rate rose slightly from the third quarter the 32.7% and we ended the year at 33.3% slightly below our expected rate of 34% do mostly to favorable manufacturing tax credits in the US.

We expect our rate-to-run in the range of about 33% in 2008, as benefits of lower statutory rates in a handful of countries will be partly offset by higher income tax rates from our Chinese operations.

Allocated expenses and eliminations on our supplemental schedule was $45.9 million, down modestly from the third quarter. Depreciation and amortization was $58.5 million in Q4, up $2.1 million sequentially, due to higher CapEx and full quarter impact of Q3 acquisitions.

Our December 31st, balance sheet employed working capital, excluding cash and debt, of $1.878 billion at the end of the fourth quarter, up $68 million or 4% from the third quarter and about 17.7% of annualized fourth quarter sales.

Inventory rose $323 million and cost and excess of billings rose $150 million but these were partly offset by higher crude liabilities and billings and excess of cost. Customer financing of our rig projects and the former pre-payments in billings and excess of cost totaled $1.9 billion at December 31, up over 800 million from the prior year.

Cash flow from operations was $437 million in the fourth quarter, and $1.165 billion for the full year. CapEx was $74 million in Q4 bringing a full year CapEx to $252 million for 2007. CapEx increased sequentially due to largely to the Middle East and China expansion initiatives discussed earlier.

We expect 2008 CapEx to run in the range of $320 million, NOV spend $324 million in cash for acquisitions during the year closing eight acquisitions. Our cash balance was $1.842 billion at December 31st, up $356 million from the third quarter and our debt totaled $891 million up about $45 million due to debt incurred by an international joint venture in which own a majority interest used to finance international acquisitions.

Now, let me turn it over to Pete for his comments.

Pete Miller

Thanks Clay, what I'd like to do at this point is just kind of give you a little bit an overview of what we are saying operationally, and I take you to some of the spots around the world where we think that the business is going to be very nice over the next year.

When you really talk about 2008 gross operationally, it's going to be a story of about five things, and the first one is a lot of continuing repositioning of assets. As Clay pointed out earlier, we have moved a lot of international distribution systems out. We've done something with Downhole Tools to reposition tools, and that's going to continue because these are going to be secular growth areas that we don't see declining anytime soon.

Continuing on, we'll be continuing to prep for our deepwater operations. We are building most of the deepwater rigs in the world today, and the neat thing is that we are going to be supporting those rigs for the next 20 years.

And as we look to the future, we are making sure that we have the assets in place that can take advantage of doing that. We are going to continue new product offerings. We have many new arrows in our quiver and we think that this was going to help us to expand operations as we go throughout the year.

We are going to continue making our operations more efficient. Our QRM process, the things that we have done lot of the improvement that you see, especially in the drilling area, while some of it is pricing, a lot of that is the efficiency that we have created. As we have said before, we'd like to have that efficiency because that's the gift that keeps on giving.

And then finally, we are going to continue to deliver the rigs on time that we have committed to our customers. So that really, those are the five things that we are emphasizing operationally this year.

In our distribution area, Clay kind of pointed out that we are following our customers. We are going international. I think, while in the short-term that incurred some expenses that you see. In the long-term it really positions us to be able to take care of our customers in a much better way.

In distribution, we are also leveraging off of our new build. Much of the backlog that we have, those rigs are going to need support in the future. We are able to do things with these customers, and really create a new business model.

You heard us in the past, talking about what we have done with Scorpion, and we see the opportunity to do that with many of the drilling contractors that are coming out with shipyards today. We believe that really is going to be a positive area for us. And again we are going to be emphasizing the deepwater areas. Clay mentioned Angola and other areas where we're opening up distribution facilities to be able to take care of the rigs that we are building for those areas.

In our Petroleum Services & Supplies area, it is going to be a lot of about new products. Things like our MdTotco rig sets 2.2 that helps our customers be able to really develop and get information on a much more timely basis and to be able to have much more efficient operations. Our Brandt operations will continue to emphasize our support of deepwater. As we look at the deepwater rigs coming into the Gulf of Mexico, we expect to be able to put much of our Brandt equipment and services on those rigs and to take care of them in the future.

In our mission operation, a lot of emphasis is going to be placed on efficiency, continuing to push out our QRM, and continuing to drive down our costs. In addition to that, many of our new mud pumps are going out, our Hex pumps on these offshore rigs, and as that happens we will have the products out of mission to be able to support those.

And our Tuboscope operations will continue to expand internationally. Clay has mentioned our facilities in China. Also what we do with riser, as you look at the riser that will be coming out in '08,'09 and '10 that will be associated with much of the deepwater that we are seeing.

Lots of operational efficiencies but also lots of positive things that we see out there for both Distribution, and Petroleum Services & Supplies.

In our drilling operation, as we mentioned earlier, we took in over $2.2 billion worth of new orders. We think that reflects the confidence that our customers have in us as well as the continued secular increase and especially the deepwater rigs.

In particular, as I go around the world, one of the things I'd like to talk about is Russia. Those of you that have been on these conference calls before, have heard me talk a lot about Russia. My excitement about Russia and in particular the Stockman field. Well, I am happy to say, we took our first orders for two semi submersible rigs that are going to go into the Stockman field.

They are in the fourth quarter backlog, it will be north of $400 million, and I think they are going to want many more of these. We are positioned with our very good partner, Samsung, to be able to expand our operations there. One of the neat things about that, to go back to distribution for a moment, as we put these rigs in places like the Stockman field, we are going to open up some facilities to be able to support to those rigs, both on a maintenance basis, and on MRO supply basis.

So, we are excited about it. After this call in a couple of days I am leaving for Russia, so I can thank our Russian partners and customers for the opportunity to do this. But I think this is kind of the opening of the flood gates of the things that we think that are going to happen in Russia. We are excited about it, I think a lot of land contractors are starting to expand in Russia. I know, [Weather Ford] is going over there, neighbors says rigs going in, and we are going to be there to support them.

We are also going to be selling new rigs into Russia. When people talked to me and they asked which area I am most excited about, I always said prospectively, Russia. Now I am going to say its there. We are starting to see it and you are going to see our revenues increase in that arena.

The Middle East and North Africa continue to be very, very good places for us, Clay mentioned the increase in the international land rig business that we have, and a lot of that is going into both the Middle East and North Africa. We are opening up facilities in those areas to support these rigs both in our distribution while it really, in many more ways our Downhole Tools, our Tuboscope, our Brandt, everybody really is moving into these areas quite aggressively so that we can take advantage of things. We've been there for long time, what we are doing now is expanding our opportunities in these areas.

I think the Middle East will continue to be a solid arena for us well into the future and I am not talking well into the next decade. One of the more interesting areas for us right now is South America. Seismic rig counts in South America went up about 43% last year, and I think seismic goals drillings are going to follow.

We've been very successful and getting some new land rigs into Mexico, into Argentina into other areas in South America, and I think its going to be a pretty neat place for us. Of course I don't need to speak regarding Brazil, in this call, but with the things going on in the Santos basin, Brazil will continue to be quite an exciting area for us as we go into the future.

India and China both continue to be very good. In India we've taken some jack-up orders in the past quarter, and China we continue to utilize as a base not only of manufacturing, but also making the products going in continues to be a wonderful arena for many of the shipyards and the new rigs being built there, as well as our hi-tech equipment, for example, top drives.

So, I think those will continue to be great areas. And then finally, I want to talk for just a moment about North America. Clearly, there are some challenges there, but North America has always, in the long-term, provided good things for us. I think, you will continue to see a lot of technological advances made when you're looking at things like the Brandt and Fayetteville Shale they'll continue to do things for us that will enable us to learn a lot here, have good business here, and then take those learnings into the international arena.

We continue to be very bullish, I think, in the long-term in North America. There are some headwinds short-term but we’ll get through those. I think, those of us who have been in this industry for long time, unfortunately know how to handle these headwinds, and we'll do that well. I think in the long-term North America will turn up and be a very positive arena both in development of new products and for our businesses that we can expand and make scalable worldwide.

So that's kind of a quick tour, Clay did a very good job of telling you some of the other things that we're seeing around the world. At this point what I'd like to do is open the floor for questions that some of the callers might have.

Question-and-Answer Session

Operator

Thank you, Mr. Miller. (Operator Instructions) Our first question comes from the line of Michael LaMotte with JP Morgan.

Michael LaMotte - J.P. Morgan

Thanks, good morning guys

Pete Miller

Good morning, Michael.

Michael LaMotte - J.P. Morgan

Quick question on supporting the new bill, is there anyway that you can quantify what you think that the aftermarket opportunity is for each of these new bills on the support mode?

Pete Miller

Michael, that's a great question, and it's a one that we've had a lot recently, and my commitment is, I am going to try to do that over about the next six months. And let me tell you, why I am saying that. In the past, we built some of these rigs, but we don't quite have the same data, because things were done a little differently, and the equipment in many cases wasn't as advanced as what we are putting out there today. As we quite pointed out earlier, we delivered the first big new floater, which was the Stena DrillMAX, and that was delivered a little early. As a matter of fact it was delivered in December, it's a great looking rig, and we are going to try to use that a little bit, as a proxy, so that we can give a little bit more detailed data on what that support is. I will tell you that it's going to be good.

Michael LaMotte - J.P. Morgan

Okay.

Pete Miller

And it's one that's going to be positive, but I hate to quantify it right now.

Michael LaMotte - J.P. Morgan

Okay.

Clay Williams

Michael, I might add to this, there are bunch of offshore rigs that were build in the very late 1990s, and then in 2000, that went into the field, and what we are seeing on some of that generation's technology introduced with those new rigs, is that they are now starting to come back for refurbishment. They have been out working six, seven, eight years, and so we have some major rebuilds that we're seeing rising now for, things like pipe racking systems, and other components that went out. So, that's another good indicator that there are good things ahead with these new rigs.

Michael LaMotte - J.P. Morgan

Are those global replacement components or is that just as a refurb on spare parts?

Pete Miller

No, it's a refurb, so there are lot of spare parts and repair services that go into it. These are multi-million dollar refurbishment techniques.

Michael LaMotte - J.P. Morgan

And then, first Pete said four deepwater floaters are going in bounds in the fourth quarter, versus five in Q3, and orders were up obviously that's, I assume that the desert rigs for the international market is a big component of that? What's the value now of the desert rig?

Pete Miller

Yeah those things kind of will bounce around a little bit Michael, but in some cases it's going to be well north of $30 million. It just kind of depends, each one of the desert rigs is kind of rig of it's own, and so depending on what the customer wants, we have like a higher floor in some cases. As you know, it might be go from being a 30-foot floor to a 40-foot floor, which adds to the cost and they do that because of different pressure control issues. In some cases, the mast is longer, it goes from 152 to 156-feet, but I would say that $30 million, $35 million in there for a typical desert rig is a pretty good number.

Michael LaMotte - J.P. Morgan

Pretty good number. Okay and last one from me, Steel prices appear to be back on the rise a little bit, do you have any sort of cost inflator protection in -- the contracts were in backlog any thoughts on?

Clay Williams

The primary, we do in some of our contracts, but the primary way we manage that Michael, is to place orders for the steel very early on after we get the customer signed up on our contract. So, we sort of try to do back-to-back contracts as quickly as we can. But yes, we are hearing talk about higher steel prices in 2008, and there has been some flooding in Australia that impacted supplies of coking coal, there are some concerns about supplies of iron ore and the cost of iron ore. With a weak US dollar, I am pretty sure it going to conspire to raise steel prices in the coming year. What we are hearing is any where from 5% on up to 15% or depending on the grade.

Michael LaMotte - J.P. Morgan

Okay, great. Thanks guys.

Pete Miller

Thanks, Michael.

Operator

Our next question comes from the line of Robin Shoemaker with Bear Stearns

Robin Shoemaker - Bear Stearns

Hi good morning, Pete and Clay.

Pete Miller

Good morning Robin, how are you doing?

Robin Shoemaker - Bear Stearns

Good. You have done a good job in recent times of keeping us abreast of your quoting activity, and you have continued to say that it's quite brisk. And I just wondered if you could update us on the deepwater, the jack-up, and the land rig arenas with regard to your quoting activity and what you are seeing in early '08?

Pete Miller

It's quite brisk. What we are seeing Robin is, really still a very active quoting arena, it's quite been interesting because as you look at land we could have gone back a couple years ago, and there was probably much more quoting going on, in North America then versus international, today that's kind of flip. However, having said that there is still quoting going on in North America, we continue to sell more component oriented type things and the lower 48 is an example.

The deepwater business continues to be very good we continue to have quoting activity the probably is not to somewhere what we have add in the last six months. And I have continued to say that on the jack-up market, I have said all along that when the jack-ups get delivered there will be more jack-ups order almost on a one-to-one basis and I think if you look over the past quarter, it's been like that we took some jack-up orders in this quarter and we continue to have very good inquiries into the jack-up arena.

So, I feel very comfortable that the quoting activity is positive, that the issue you always have is quoting and determining what might be a science project and what's real but for the most part, I think, we are pretty good of figuring that out. And then, the other thing on quoting is ultimately especially in the international arena takes a little longer and so what quarter does some of the orders fall and might make a difference and I think you are looking a third quarter we did 1.9 and the fourth quarter we did 2.2, if you look at in the second quarter, we did less than that, but that really we were quoting stuff in that second quarter that really fell into this. So, a long winded answer to say that we still feel very good about quoting activity.

Robin Shoemaker - Bear Stearns

Yes, okay. So, I assume that this quotes for jack-ups and deepwater or for the 2011 rig delivery timeframe?

Pete Miller

Well, actually the jack-ups would be earlier than that Robin, most part, I think, the jack-ups are really in a round of two year timeframe and may in some cases less depending on the shipyard but for the floaters for sure you are looking out into 2011.

Robin Shoemaker - Bear Stearns

Yes, okay. And just currently your back -- your composition of backlog as between international, domestic, I am not sure, I think you have given a sense, figured it previously?

Clay Williams

Yes 88% international, 12% domestic Robin, and it's 85% offshore and 15% land unchanged from the last quarter because of the surge in international land buying that we saw onward.

Robin Shoemaker - Bear Stearns

Okay. Great, thank you.

Pete Miller

You bet, thank you, Robin.

Operator

And our next question comes from the line of Marshall Adkins of the Raymond James.

Marshall Adkins - Raymond James

Good morning guys, let me drill down a little bit more on the flow to market, last quarter we had -- you discussed some of the announced new bills and kind of the ones that hadn't been booked can you give us an update Pete on what we are looking at there in terms of what's been announced relative to what's been booked?

Pete Miller

At this time Marshall, I would probably assume that about -- I don't have the exact number but I would say the majority of the announced had been booked. There's still some of the announced that have not been booked yet and I think again that kind of comes down to a timing issue clearly if you heard something announced in the first quarter, it wouldn't have fallen into our $2.2 billion that really was a cut-off on a 31st of December. So, I would say the majority have been booked but there are still a lot out there and there is also some out there that have not been announced. And those are ones that we work on everyday.

Marshall Adkins - Raymond James

Sure. So of the amount forms -- I am just kind of on ballpark maybe four or five that has not been booked. Is that just a favorable part number?

Pete Miller

I think that's fair, yeah.

Marshall Adkins - Raymond James

Okay. Clay, give me -- you have talked about backlog next quarter, these bookings being down modestly. You also talked about spare parts business, really improving. Can you give me a little more color on the spare parts business, talk about the trends there going forward, should we expect this spare parts business to continue become a bigger part of the overall business?

Clay Williams

Yes, absolutely. That's our plan and that is way we invested in this big facility in Houston and then have follow on investments overseas as well in that. And we pulled in spare parts from around the Houston area, from probably half of dozen locations into that facility and that has been underway since last summer, and I think what we saw in Q4 was the impact of kind of getting that squared away.

And then, we increased our shipments out of that facility to just better service our customers. We also saw higher spare parts shipments out of our Norwegian operations, a lot of those have to do with initial stocking of some of the new rigs going to work and as you are aware, there is going to be more and more rigs delivered in '08 and '09, and so we'll continue to see that favorably impact our spare part shipments.

But I think the longer term kind of secular trend here is that the nature of equipment going to work on these new rigs is different and require a little more OEM, care and feeding, and participation and at the offshore drillers, in that the owners and operators, it is more sophisticated, bigger land rigs are more likely to come back to the OEM for help on this.

And that's in contrast to many of the 25 and 30-year old rigs across North America and elsewhere in the US, where they are not necessarily going to come back to the OEM but go to machine shop some where. This new stuff you just can't do that. There's embedded chips and PLC chips and networks and technology there. It's also much more highly engineered and the nature of the new wells of these rigs are drilling are way more complex and they seem to get more complex every day. And so, these equipments being pushed harder. So, all of those things we think are pointing to a spare parts business that should continue to move up into the right.

Marshall Adkins - Raymond James

Very insightful, I will, now you surprise follow directions in -- I'll limit it two. Good bye.

Pete Miller

Thanks Marshall.

Operator

Thank you. Our next question comes from line of Scott Gill with Simmons & Company.

Scott Gill - Simmons & Company

Yes, good morning gentlemen.

Pete Miller

Good morning Scott.

Scott Gill - Simmons & Company

I guess, kind of along the same line, Clay, would you talking about the non-capital equipment sales out of the Rig Technology segment up 11% sequentially. How much of that is kind of considered secular or organic growth and how much of that you think is, was just due to seasonality in the quarter?

Clay Williams

I think it was more, I don't think it was seasonal as much as we did have a help from stocking out new rigs going to work. That will coming out of shipyards and going to work and a big offshore rig will sock up $3, $4 million of spare parts. So, we had some of those coming in and certainly the outlook for more rigs coming out of the shipyard is good. So, we think that will continue.

Scott Gill - Simmons & Company

Okay. And then, my last question again when you look at the order flow for 2007 over $7 billion, of that, how much of that was attributable to deepwater rigs?

Pete Miller

I don't know that I have got that number at the top of my head Scott, I would say the majority of it is, as you take a look when we talk to folks about our potential, if you look at a land rig of course, depending on the type of land rig, it could be as much as $30 million, $35 million. If you look at the jack-ups we could put $190 million jack-up, we could put about $50 million on it, and of course when you look at the deepwater rigs today, if we go all-in-all, it could be almost $300 million. So, you kind of the majority of that number is in deepwater simply because of the size of new order that we are getting on those.

Scott Gill - Simmons & Company

And what I heard you say earlier your quote level is unchanged for deepwater and I guess what I am kind of wondering here, as we've seen each quarter you kinds that well, I don't expect to repeat that order size we saw Q4 $2.2 billion, Q1 at $1.9 billion what change between Q3 and Q4 that that cause at extra $300 million of orders to close there?

Pete Miller

Well, it might just been my natural conservatism, I am not sure, yes, Scott, I think what happens here and we try to explain there is a little bit a lot of what you are seeing out there is just order timing and quite frankly I was very pleased with the fourth quarter, I mean, sure I got to be but when you think about the fourth quarter on a normalized basis it's only about 9 or 10 week quarter.

Because you really have a lot of time offered Thanksgiving and Christmas and lot of these orders, these are fairly complex fields and we don't put them in our backlog until the contract sign. And so in some cases we don't know, if it's going to be in the first quarter or the second quarter, we are looking at some things today that I would hope would come in the first quarter, but I am not sure they will, the contracts could extend out and it might not sign in first week of April which means then it won't fall on Q1 or fall into Q2. So, we are reluctant to try to pin that number down simply because of the movement of that, and of course we've cut our backlog off very date specific. It's the last day of the quarter, if the orders are not in, it doesn't come in. So, that's one of the reasons that we kind of equivocate a little bit there and say here, in one hand, it's this; and on the other hand, it's this. And that's why like to just talk in context of the order. The flow of tenders and bidding is still pretty solid.

Scott Gill - Simmons & Company

Okay. Well, thanks, John. Great. Thanks, Pete.

Clay Williams

Thanks, Scott.

Operator

And our next question comes from the line of Kurt Hallead with RBC Capital Markets.

Kurt Hallead - RBC Capital Markets

Kurt Hallead here.

Pete Miller

Hi, Kurt.

Kurt Hallead - RBC Capital Markets

Hi, guys. A question I've got for you guys is you have been pretty consistent obviously with your comments on the jackup market. We've seen a big surge in orders here obviously over the last few years for offshore rigs in general.

Pete, in your estimation, do you think we're going to see more than, whatever it was, 180, 200 offshore rigs over the next three years? Is that pace going to continue? Is it going to trail off? And do you think in that context it's the dollar value per rig and it continued to increase, so even if the volumes come off a little bit, you're still going to be able to book very decent backlog in order value numbers?

Pete Miller

Kurt, it'd be very difficult to say that the next three years would equal the past three years on that that number of rigs. I think the real issue out there today is going to be what's really needed in the deepwater arena. And I think as you take a look around and you see some of these bigger discoveries like 2P and the things that are going down on the Santos basin and then what you see off of West Africa, continued discoveries in the Gulf of Mexico, I think the real question becomes how many deepwater rigs you really need. My guess is it's a lot more than we think.

I think the other side of the coin is on the jackups especially is the retooling of the industry and then the repositioning of jackups into places like the Persian Gulf, which I think is going to need lot more jackups as the drilling contractors, I am sure, probably told you.

So, I would be hesitant to go on the record with an absolute number. What I will say is we continue to expect that you'll see a very, very brisk activity in the offshore arena.

Kurt Hallead - RBC Capital Markets

Since you did reference it, in terms of the deepwater will be more than what we think. So, what are we thinking on the number of deepwater rigs that are going to be needed? What's the number that's out there that you have seen?

Pete Miller

Well, there is a lot of varying numbers. We kind of internally have our own proprietary expectations on that. And I think there have been a lot of people who have been all over the map on it. But I would say if you take a look at something like 2P -- I think that Petrobras has given a pretty significant number on the number of rigs they need just to develop that particular field.

And the thing about, lot of these deepwater wells is that they are the type of wells that you're just going to knock down the way you can knock down a Barnett or Fayetteville Shale well. They're going to take a lot of time, because it's not only the drilling as much as the blat on the casing running and everything else, it takes up so much of the time landing a BOP. So, we think the well is still going to need a significant number of deepwater rigs?

Kurt Hallead - RBC Capital Markets

You referenced Russia as kind of being here now. What kind of market opportunity, either in terms of number of rigs or dollar value, rig opportunity do you see in Russia, and how does that compare to maybe what happened here in the North American land rig market between '05 and the peak and later part of '06?

Pete Miller

Well, I think the Russian market is going to be really positive. I mentioned the two semisubmersibles. And the fact is that the two semisubmersibles going on to the sea beds are really deepwater rigs, because that's not a deepwater basin as much as it's a harsh environment basin. Really going to be some challenging drilling up there, but I think there will be a continued demand for rigs like that.

And again, that's more into our fairway, because you could be talking $150 million, $250 million, depending on the kit that would go on a rig like that from us. So, I think the offshore side of Russia will continue to look very good.

And then on the land business today, you are seeing some of the western contractors move rigs in. As those go in, some of them are new; some of them may have to be heavily refurbished. I know both neighbors in Weatherford are moving rigs in there. And I think that potentially, you could clearly see that equaling what we have seen in the lower 48.

I mean just look at the base numbers. The United States is four times zones-wide. Russian is eleven times zones-wide. And you look at just the land that could ultimately be explored, and I think that can potentially be an exciting market for land rigs.

Kurt Hallead - RBC Capital Markets

Is that dollar value for Russian land rig in a $30 million to $35 million range more? Is it more? Is it less?

Pete Miller

No, it'd be a lot less. If you look at a Rocky Mountain type rig, just [winterization], the actual type of rig itself wouldn't be dissimilar to a typical US rig, with the exception being the winterization. So that's more in the $10 million to $12 million to $14 million range.

Kurt Hallead - RBC Capital Markets

Okay, great. Thanks, Steve.

Pete Miller

Okay, Kurt, thank you.

Operator

And our next question comes from the lines of Dan Pickering with Tudor Pickering Holt. Please go ahead with your question, sir.

Dan Pickering - Tudor Pickering Holt

Good morning.

Pete Miller

Good morning, Dan.

Dan Pickering - Tudor Pickering Holt

Pete, during 2007, in the rig technology business, you showed a consistent ramp in terms of your ability to deliver product. The revenues grew each quarter through the year. You are consolidating facilities. You are doing a lot of things on the manufacturing side. Should we expect that we just continue to see a steady quarterly progression on the topline for you guys in '08?

Pete Miller

I think you'll certainly see a progression, Dan, but you can't get the big numbers here. I mean we've done a lot of awfully good work. Initially, you have some low hanging recruit. And then now, the iterations get smaller and smaller. I think our people continue to do a fantastic job, and I think you'll continue to see growth. However, I think that the growth would be similar to what it's been in the past would be tough to do, because when you double up on something, it's tough to double it up again.

Dan Pickering - Tudor Pickering Holt

Sure. And I tend to think about moving already to think about '09 for you guys. You had orders for the year averaged at about $1.07 billion per quarter on average in '07. I mean can we manufacture and deliver at that rate by the end of this year?

Pete Miller

Yeah, I am not going to commit that we'll be there by the end of this year, but we're getting pretty close.

Dan Pickering - Tudor Pickering Holt

So that's the right ballpark really in terms of that range. All right. And then, Clay, the question for you on margins. I want to make sure I understood your comment as it regards the non-backlog revenue, which we're kind of calling aftermarket, I realize it's not all aftermarket. But I understand the trend which is more, that was about 29% of the total segment this year. I guess what you are saying is that's probably at least the same amount in '08 and that has a positive margin impact as we move forward. Is that right?

Clay Williams

Yeah, the aftermarket business generally is a little bit accretive to our margins.

Dan Pickering - Tudor Pickering Holt

Okay. So, in other words, Q4 margins weren't a fluke. They are sustainable in Q1, I heard you say that. But it sounds like they are sustainable as we step through '08?

Clay Williams

Yeah, but bear in mind, Dan, we have been guiding towards incremental flow-throughs in the high 20% range given an average mix of things that we sell, and we're not backing off that guidance.

Dan Pickering - Tudor Pickering Holt

Yes, okay. Thank you, guys.

Clay Williams

Thank you.

Pete Miller

Thanks, Dan.

Operator

And our final question comes from the line of Chuck Minervino with Goldman Sachs.

Chuck Minervino - Goldman Sachs

Hi, good morning.

Clay Williams

Hi, Chuck.

Pete Miller

Good morning.

Chuck Minervino - Goldman Sachs

Just another question on margins, this one more on the PSS segment, you talked a little bit about international expansion sources kind of holding back to margins there in the quarter. Is that something that will continue to carry forward here? You talked a little bit about one 1Q '08, but I guess longer than that? I mean is that something that really makes it difficult to grow margins going forward?

Pete Miller

On the specific projects if we talk about, yes, some of those items will drift a little bit into Q1. But remember, Chuck, we are committed to the international business and growing that business over long haul. So, we expect even more initiatives to get launched as we move further into 2008. And it is typical when you start up an operation in a foreign market, you typically experience headwind as you get that going. So, yes, I think we'll kind of continue to have some of that out there.

Chuck Minervino - Goldman Sachs

Okay. And then one, is it something that you expect this really in '08? I mean do you expect more expansions in '09 to better prepare yourself for the growth?

Pete Miller

We hope so, because that means we continue to be enthusiastic about the opportunities. Obviously, we're going through our '08 capital budgeting and planning exercises, and so we've paid a lot of close attention to our '08 opportunities, but we continue to do the same in '09. That means we're working well and we are still very, very optimistic. And frankly, where we sit here in early '08, that would be our view on '09 as well.

Chuck Minervino - Goldman Sachs

Okay. Thank you.

Pete Miller

Thanks, Chuck.

Clay William

Thanks, Chuck.

Operator

Mr. Miller, at this time, we have no additional questions. Please continue with any closing remarks.

Pete Miller

Thanks all, and I appreciate everybody listening here, and I look forward to talking to you at the end of our first quarter. Thank you very much.

Operator

Ladies and gentlemen, this concludes our 2007 annual earnings conference call.

If you'd like to listen to a replay of today's conference call, please dial 303-590-3000 and entering the access code of 11-10-6227 followed by the "pound" sign.

This does conclude our conference for today. Thank you for using ACT Teleconference. You may disconnect.

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