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Key Energy Services (NYSE:KEG)

Q3 2012 Earnings Call

November 01, 2012 11:00 am ET

Executives

Gary L. Russell - Vice President of Investor Relations

Richard J. Alario - Chairman, Chief Executive Officer, President, Chairman of Equity Award Committee and Member of Executive Committee

T. M. Whichard - Chief Financial Officer and Senior Vice President

Newton W. Wilson - Chief Operating Officer, Executive Vice President and Assistant Secretary

Analysts

Robert MacKenzie - FBR Capital Markets & Co., Research Division

Neal Dingmann - SunTrust Robinson Humphrey, Inc., Research Division

Joe Hill - Tudor, Pickering, Holt & Co. Securities, Inc., Research Division

Brian Uhlmer - Global Hunter Securities, LLC, Research Division

John M. Daniel - Simmons & Company International, Research Division

Trey Cowan - Clarkson Capital Markets, Research Division

Operator

Good morning. My name is Stephanie, and I will be your conference operator today. At this time, I would like to welcome everyone to Key Energy Services' Third Quarter 2012 Earnings Conference Call. [Operator Instructions]

Gary Russell, Vice President of Investor Relations, you may begin your conference.

Gary L. Russell

Thank you, Stephanie, and thank you, everyone, for joining Key Energy Services for our Third Quarter 2012 Financial Results Conference Call. I'm Gary Russell, Vice President of Investor Relations.

This call includes forward-looking statements. A number of factors could cause actual results to differ materially from the expectations expressed in this call, including risk factors discussed in our 2011 Form 10-K and other reports most recently filed with the SEC that are available on our website.

This call may also include references to non-GAAP financial measures. Please refer to our website for a reconciliation of any non-GAAP financial measures provided in this call to the comparable GAAP financial measures. For reference, our general investor presentation is available on Key's website at keyenergy.com under the Investor Relations tab.

Now I'll turn the call over to Dick Alario, Key's Chairman, President and CEO.

Richard J. Alario

Thank you, Gary, and good morning, everyone. Before we get into our commentary, we want our friends and employees and customers on the Eastern seaboard that have been affected by the super storm to know that our thoughts and prayers are with them all, and we hope for a speedy and full recovery.

After my introductory comments this morning, Trey Whichard, our CFO, will summarize our financial results and provide our fourth quarter financial guidance. And then Trey Wilson, our COO, will provide an operational review, and then I'll come back to close before we take some questions.

For the third quarter, Key generated earnings from continuing operations of $0.15 per share, down about 29% from last quarter. The sequential decline in our earnings was caused by challenging business conditions in the U.S. that deteriorated quickly during the quarter. Low commodity prices drove continued activity declines in natural gas markets and an oversupply of service capacity in our oil markets led to incremental pricing pressure. We also began to experience customer spending reductions in the oil markets due to capital and cash flow constraints as operators focused on improving operational and cost efficiencies.

As for our individual lines of business, in U.S. fluid management and frac stack and well testing services, because of their higher exposure to natural gas markets, we saw continued rapid decline in customer activity. Coiled Tubing Services also saw utilization drop albeit at a slower rate and experienced additional transitory cost as we continue to move equipment and crews to higher demand regions. These results were partially offset by U.S. Rig Services and our legacy Fishing & Rental Services businesses, excluding Edge, which performed relatively well during the quarter.

Outside the U.S., we achieved revenue growth with improved operating margins exceeding 20%. This was mostly driven by our Mexico operation and aided by an improved result in the Middle East, Russia and Colombia. Also during the third quarter, we opened a new operation in Oman.

And finally, we're pleased to have completed the sale of our Argentina business despite a very challenging environment, and I want to congratulate and thank our international and finance teams whose persistence resulted in the close of that transaction.

I'll now turn the call over to Trey Whichard for the financial review.

T. M. Whichard

Okay, Dick. Our consolidated revenue of $490.9 million, down 4.9% sequentially, driven by a 7.8% decline in the U.S. Our international revenue was up 10.3% from the second quarter.

Consolidated operating income margins of 9.9% were down 200 basis points from the second quarter as a result of the 400 basis point decline in U.S. operating income margins. International margins increased 170 basis points during the quarter, and functional support costs were roughly $6 million lower sequentially from a reversal in the third quarter of incentive bonus accruals that we had recorded earlier in the year.

Roughly 95% of our sequential revenue decline in the U.S. came from the Haynesville and the Bakken markets. Our Haynesville-related revenue was down 50% in the quarter, with our frac stack and well testing businesses accounting for more than half of this decline. And roughly 2/3 of the sequential revenue decline in Coiled Tubing revenue came from the Haynesville market.

Fees revenue from the Bakken market declined 25% sequentially, with our fluids management business accounting for about half of the decline. The Bakken accounts for 60% of the third quarter revenue decline in our fluids management business.

Substantially, all of Rig Services third quarter revenue decline was from the Bakken market and was specific to customers reducing their level of spend for the remainder of 2012. And on the whole, despite their revenue being down of 3.5%, Rig Services profit margins improved sequentially as a result of favorable work mix and cost management efforts. Their pricing remains stable during the quarter.

And we've instituted some cost reduction efforts in our fluids management, frac stack and well testing in coiled tubing business which will begin showing up in the fourth quarter.

Internationally, although we're recognizing healthy activity increases in our Colombian and Middle East markets, the activity improvements in Mexico continue to account for a majority of the sequential gains in international revenue and profitability. Revenue in Mexico was up 17% in the quarter. Their margins increased 170 basis points as a result of continued improvement in our operating efficiency in Mexico.

Our third quarter G&A was $53.6 million, down $4.5 million sequentially as a result of the incentive bonus reversal mentioned earlier, which is reflected in our functional support segment. We expect fourth quarter G&A expense to approximate $55 million because we won't have the benefit of this reversal in Q4.

Depreciation expense was $52.9 million in the third quarter. It should approximate $55 million in Q4. Interest and other income of $12.4 million were roughly flat sequentially. Our full year tax rate should come in around 36%.

CapEx in the quarter was $90.4 million, bringing the year-to-date total to nearly $400 million through Q3. Our full year CapEx is going to approximate $450 million, with 40% of this invested in international growth opportunities, which is just about double our original international CapEx budget.

Q4 guidance. We expect consolidated revenue -- consolidated revenue will be down approximately 4% to 6% compared to the third quarter, with operating income margins declining another 150 basis points to 250 basis points. International revenue is projected to increase by approximately 5% sequentially, with operating income margins expected to improve around 100 to 200 basis points. In the U.S., revenue is projected to decline 6% to 8%, with margins down another 200 to 250 basis points.

And with that, I'll turn it over to Trey Wilson.

Newton W. Wilson

Okay. Thanks, Trey. In the current U.S. market cycle, labor and other personnel-related costs, especially in less mature shale markets, are far less variable than what has traditionally been the case. We've been reducing our labor costs as effectively as possible without compromising our ability to address current activity, as well as to meet potential medium-term demand increases. We've also focused our assets into the larger, more active markets where we can maximize our efficiencies and utilization.

Due to the declining natural gas drilling rig counts, our drilling and completion-related services have weakened the most, particularly in East Texas and North Louisiana where we have a large presence. This has adversely affected demand for our fluid services, coil tubing, frac stacks and well testing. Meanwhile, demand for our production-maintenance-related services has remained strong throughout the year, which has benefited our Rig Services and our traditional fishing & rental businesses.

I'll turn out to a review of our lines of businesses. In Rig Services, we continue to perform well due to the ongoing shift to higher-end work and our meaningful exposure to the majors and larger independents, whose bigger work programs lend themselves to a greater operating efficiency for Key, especially in core oil markets.

We began to see reductions this quarter in our customer spending, including less weekend activity and reduced work hours per day. We expect this muted activity to continue through the fourth quarter with seasonal slowdowns, potentially extended holiday slowdowns and limited funds remaining in customer budgets.

Our legacy Fishing & Rental Services business, which does not include frac stack and well testing services, has also performed well with revenue growth and margin improvement during the third quarter. We've invested in rental equipment, including drill pipe, tubing strings, blowout preventers, closing units and reverse units. And demand for all this equipment remains favorable.

Despite rig count declines, we continue to experience high utilization of drill pipe and utilization of our pressure control equipment has continued to be high as well. And our fishing revenue has also been steady.

Our frac stack and well testing business had a poor quarter as our East Texas and North Louisiana or Haynesville revenue fell sharply. Revenues expected from less mature shale play areas, like the Utica, did not materialize. So we are rightsizing our operations to improve the profitability of the business. We're also concentrating equipment and efforts in the best markets, like the Eagle Ford, where we are experiencing growth.

In our Coiled Tubing Services business, lower completion activity and increased competition led to slightly lower fleet utilization in the second quarter. In response to these changing market conditions, we exited the Bakken market, and we've reduced our labor costs in a few areas to better balance our costs with expected activity.

Accordingly, while we still expect continued moderate activity declines in the fourth quarter, we are encouraged by customer inquiries regarding incremental activity increases in the first quarter.

In our Fluids Management business, activity reductions and aggressive competition in all markets have impacted results, with the Bakken and the East Texas and Louisiana markets being hit the hardest, the Bakken more recently and gas markets all year. We've taken steps to consolidate some facilities in natural gas markets to improve our financial performance. Our fluids business in the Bakken is also suffering from less demand and much increased competition, and we are aggressively addressing our cost structure there with regard to labor arrangements and housing in an effort to be more cost efficient.

Overall, our fluids business is faced with lower market demand and excess equipment, and we're addressing that imbalance market by market.

Turning now to international. We've had a very strong performance so far this year and believe that if we continue to execute on our international strategy, meaningful growth opportunities remain. For the third quarter of 2012, we saw our revenues outside the U.S. increase 10% on quarter -- quarter-on-quarter to over $9 million, and our operating income increase 20%.

Today, Key operates over 60 rigs in 5 international countries, up from 24 rigs in 4 countries a year ago, excluding Argentina. We've seen our business grow in the Middle East, where we expect to end 2012 with twice the number of rigs in the region than we started with. But our most meaningful growth has been in Mexico.

We've enjoyed success in Mexico primarily because PEMEX recognizes the value we deliver in terms of tangible production improvements. We started operations in Mexico in 2007 with 3 rigs in the ATG asset of PEMEX's northern region. Today, we are operating over 40 rigs largely in that same asset, and we have recently begun broadening our presence.

While many may perceive Mexico to be one customer and one region, in practical terms, the opportunity set is much more than that. PEMEX operates in several regions and has distinct assets in each region, each of which operate as almost independent entities in contracting for services.

In addition to our strong presence in the ATG asset, we have just begun to penetrate some of PEMEX's other assets this year, including the Veracruz area in the north region and the Villahermosa area in the southern region of Mexico. Our growth to date in Mexico has been primarily with rigs, almost exclusively our premium 550-horsepower heavy workover rig, but that's no longer our only offering in the country. Our strong rig service performance has led our efforts to bring in additional services, including slickline services, Coiled Tubing Services and consulting services. We are now deploying a broader range of rig classes into the country, from smaller pulling units to 1,000-horsepower rigs for new well drilling, completion and more complex workover opportunities.

The Mexican market is also evolving. PEMEX is now letting incentivized blocks to service companies, and they're beginning to sanction the well-publicized field laboratory projects. Each of these new projects represents additional opportunities and customers for Key as we expand our service line and geographic presence in the country and deliver additional rigs into the country this quarter.

We see continued profitable growth opportunity for Key as we build on our existing presence in Latin America, the Middle East and Russia.

Now I'll turn the call back over to Dick for his concluding remarks.

Richard J. Alario

Thank you, Trey. Uncertainty regarding certain aspects of customer spending in the U.S. makes it difficult to project the next couple of quarters. We do, however, believe that an $80-per-barrel oil environment provides our customers with returns supportive of higher activity in the U.S. oil markets than we're experiencing today, which we would expect to continue to benefit our core production services.

Even with some operators hinting that spending for the next full year is expected to rise from current levels, our hesitation comes from the lack of visibility surrounding the timing of that increase. I will note that we do expect to see the normal pickup at least by Q2 once winter weather interruptions subside.

The upside for Key is that when the spending patterns do improve, our investments to date should afford us the opportunity to grow U.S. revenues in excess of 20% without spending very much in the way of new capital over the next few quarters.

Internationally, we remain confident that customers in our existing markets will continue to exploit Asian oilfields, calling upon Key to provide solutions for production problems we can solve. Thus, we believe that the capital we've deployed to our international franchisers will deliver strong returns on the back of a healthy growth curve.

So while 2013 CapEx in the U.S. will likely be limited to mostly maintenance, we expect to continue to deploy new growth capital into our international markets next year.

Operator, those conclude our prepared remarks. We'll now open the call up for some questions.

Question-and-Answer Session

Operator

[Operator Instructions] Your first question comes from Robert Mackenzie with FBR Capital Markets.

Robert MacKenzie - FBR Capital Markets & Co., Research Division

Question for you, Dick. One of your competitors in the coiled tubing business said on their call that the strongest part of that market they were seeing was in the small diameter coil. I know you've talked about that some point in the past as well in California. Can you comment on the relative profitability for you guys, the small versus large coil at this point?

Richard J. Alario

Well, the small coil production remedial business, which we do have in a nice footprint in California with, has been very consistent. It has grown. We continue to slightly grow it in terms of asset capacity. And it is -- I would say, it is at the high end of our overall profitability. I don't want to get into market-by-market comparisons, but it's a good market for that. Customers out there are sophisticated, and they require very high levels of sophistication with regard to the technology that's deployed and the work that's done in terms of measuring the quality of the work. So we think we're able to continue to drive good margins in that business. And the variability of the revenues there has been muted, so we like it. And we continue to make deliberate growth attempts in that business, and we've been pretty successful with it. So we're very happy. By the way, I'll also add, over the last couple of quarters, we did retool a couple or a few of our large diameter coil units to smaller pipe in order to take advantage of remedial opportunities that exist not only in California, but some other places. And I think you'll see some of that continue to go on.

Robert MacKenzie - FBR Capital Markets & Co., Research Division

And that actually plays right into my second question. What have you seen in terms of capacity adds in large versus smaller diameter coil for yourselves and for your competitors? Because we know that the large coil capacity adds for the frac-ing market were pretty massive. How did that translate in the smaller coil market? And are others doing as you did in converting some?

Richard J. Alario

Well, I don't know too much about what others are doing with regard to conversions. But you're right, the focus over the last few years by all of us in the business or most of us in the business has been to drive capacity up in the large diameter extended reach coil category because that was the market demand growth. And we participated in that along with everybody else. I don't have any numbers from a manufacturing standpoint with regard to small diameter units, although I seem to remember about a year ago seeing some information from one of the industry organizations that suggested that about half the equipment that was being built on a global basis was large diameter product. And I also remember seeing that most of what was not large diameter was being delivered outside the U.S. So I would say that it feels like the small diameter market wasn't grown nearly as quickly as the extended reach market was, but that's to be expected. And that's where the new well completion growth was, and that's what was driving the capital flow.

Robert MacKenzie - FBR Capital Markets & Co., Research Division

Okay. And I guess my last question on this topic would be -- you mentioned trying to grow the business. How much of that are you looking potentially through acquisitions? Or is most of that organic?

Richard J. Alario

Are you talking about the small diameter fleet?

Robert MacKenzie - FBR Capital Markets & Co., Research Division

Yes.

Richard J. Alario

Oh, it's organic at this point. We don't -- it's organic.

Operator

Your next question comes from Neal Dingmann with SunTrust.

Neal Dingmann - SunTrust Robinson Humphrey, Inc., Research Division

Say, Dick, just wondering how big or I guess how -- I guess, I was a little surprised on how big the frac stack and testing business. I mean , what kind of percentage do you -- has that been recently as far as just total U.S. percentage? And then what are you all kind of seeing as you enter next year? I mean, obviously, that looks like that's going to be quite a bit smaller part of the business.

Richard J. Alario

You're asking what percentage of our fishing & rental group is to frac stack and...

Neal Dingmann - SunTrust Robinson Humphrey, Inc., Research Division

Correct.

Richard J. Alario

Yes, we don't break it out in hard numbers. It's less than half, more than a quarter. What's going on in that business, Neal, is that when we bought that -- the Edge company, it was -- it derived all of its revenue from one market the Haynesville, which happens to be the most high demand market in the U.S., possibly in the world, with regard to the style of equipment and the pressure ratings that are required. So it -- that market develops the greatest need in terms of technical competency and size of equipment and, therefore, generates the highest day rates. Immediately after acquiring Edge, you know as well as I do, we began to see a deterioration in the rig count and the completion activity in the Haynesville. So we've had to rebuild the business unit completely, opening up in several markets in this -- in which the strongest to be in the Eagle Ford. None of those markets that we operate in today -- and we still operate the Haynesville. But none of the new markets that we operate in use the same type of equipment in terms of pressure control and flow size that the Haynesville did. So not only have we had to replace the revenue stream completely, almost completely, we've had to do it at unit day rates that are lower. And so I mentioned a couple of quarters ago that we were complementary and still feel that way about the work that our Edge group or the, what we now call, frac stack and well testing group has done in rebuilding their business model. That will continue on next year. And the hope is that as the gas price picture gets better as depletion takes its toll on production and the Haynesville market comes back. And we're, as you know, hearing some talk about $3.50 gas, at least spurring some operators to add a few rigs there, then we have an opportunity to put some of that high-end equipment back to work. So that's the -- that's sort of how -- the read, we expect to continue to spread the footprint and focus the business on the best opportunities. You heard Trey Wilson mention in his prepared remarks that markets, like the Permian, where Key has a great footprint and customer activity is high are places that we'll focus on with all our businesses. I think the same is true for our frac stack and well testing business.

T. M. Whichard

Neal, this is Trey Whichard. I'll give you a little color. Compare Q3 to Q1 in our Edge-related business, their revenue is down about 40% in the third quarter relative to what they generated in the first quarter this year.

Neal Dingmann - SunTrust Robinson Humphrey, Inc., Research Division

Okay, okay. I see the degree. That helps a lot, Trey. And then 2 quick ones. One, Dick, just on the workover rigs. Now when you see it, it looks like demand still is holding there. Will you bring out some rigs? Or just kind of wondering, any idea of how many rigs are still being stacked and if you'll bring any of those out?

Richard J. Alario

Well, it depends on what happens next year. Certainly, we're not going to bring any additional rigs out of stack this quarter and more than likely next quarter. But as the seasonal effects begin to wane at the end of Q1, we'll see what the demand level is and react accordingly. I will tell you that some context around that question is that we will continue next year to build the -- what we call the franchise rig here at Key, the 550-horsepower tall derrick rigs that are -- the ones that are in demand now as the number of horizontal wells continues to grow with inventory and the demand from horizontal wells for our larger equipment that's capable of doing a lot more inside a wellbore continues to grow. So you should expect to see the continued sort of changing of our footprint toward the high-end equipment that generates the best utilization, highest number of hours per day and highest rate per hour. That will continue to go on because that's the direction the market is pushing us in.

Neal Dingmann - SunTrust Robinson Humphrey, Inc., Research Division

Great color. And then last one, Dick. Just wondering, you mentioned about the frac stack the Utica not materializing and wondered, again, how big that area could be. Are you still targeting that area for some of your other segments?

Richard J. Alario

Sure. In relative terms, at this point, the market is telling us that as the Utica operators continue to expand their footprint, we saw some good news from a couple of operators this week and last week about well productivity, areas where they're drilling that weren't so conventional in that marketplace. We will continue to deploy capacity there, particularly in the area of coil. We're looking at some opportunities in coil there at this time. And then I believe as that market develops, it will become better for services, like frac stack and well testing. But frankly, we don't look at the Utica as being a 200-rig market such as the Eagle Ford or Bakken. We look at the Utica at this point in time with a near- to medium-term view as being a 35- to 50-rig market. So again, one of the strategies that we're deploying in our self-help program is to really stay focused on putting people and assets in the markets where the volume of opportunity is greatest, Key has a good footprint and reputation. And the facilities and employees in places, like the Permian, are places that fit those attributes better than some of the emerging markets. But we will keep our eye on emerging markets for opportunity.

Operator

Your next question comes from Joe Hill with Tudor, Pickering, Holt.

Joe Hill - Tudor, Pickering, Holt & Co. Securities, Inc., Research Division

Trey, you talked a little bit about the improvement we've seen in functional support. And your SG&A guidance implies maybe that functional support ought to pick up about $1 million in Q4. Is that accurate?

T. M. Whichard

Joe, the -- we had begun accruing bonuses in accordance with our business plans in the first quarter of 2012 and accrued some more in the second quarter. And we're over accrued in the third quarter, and we adjusted that accrual down. And we won't have the benefit of that adjustment in Q4. We will benefit, however, from not having the accrual in Q4 that we've had. So on the whole, the functional support will be down relative to the quarterly accrual. But it's going to increase next quarter just simply because we won't have the benefit of that reversal from the first 2 quarters.

Joe Hill - Tudor, Pickering, Holt & Co. Securities, Inc., Research Division

Okay. And then how should I expect it to behave into next year as maybe you guys start accruing bonuses again, just kind of a modest quarterly creep?

T. M. Whichard

We wouldn't expect our G&A to range outside of that 11% to 12% of our revenue target that we've been tracking too all year.

Joe Hill - Tudor, Pickering, Holt & Co. Securities, Inc., Research Division

Okay, sounds good. Are you guys seeing any sign of a slowdown in Colombia? I noticed the rig count there is a pretty hard year-to-date, and I was just -- I've heard from some other contracts that things are slowing down. I didn't know how much of your business there would be related to actual drilling activity, like perforating, or what you guys are doing is largely immune to that.

Newton W. Wilson

This is Trey Wilson. The work that we're doing is really production related, and our current plan is to add a few rigs here in the near term to Colombia to meet customer demands. So it's not affecting our business so far.

Joe Hill - Tudor, Pickering, Holt & Co. Securities, Inc., Research Division

Okay. That's very helpful. And then finally in that same vein, how should we think about improvements in margins internationally given the recovery we've seen in Mexican work for you guys? I would imagine Mexico's got higher incrementals than some of your other countries simply due to the fact that you've probably got a little bit bigger fixed cost base there. Is that accurate?

T. M. Whichard

Yes. This is Trey Whichard. Yes, it is. The volume there is so much greater. And in fact, if you -- as we think about the full year 2012, just to put in perspective, our Mexico revenue will be about 120% or so of -- or greater than 120% of our entire international revenue base in 2011, excluding Argentina.

Joe Hill - Tudor, Pickering, Holt & Co. Securities, Inc., Research Division

Okay. So Trey, it sounds like we could pick maybe 400 basis points of margin up next year, just based on that uplift.

T. M. Whichard

Yes, pretty healthy?

Joe Hill - Tudor, Pickering, Holt & Co. Securities, Inc., Research Division

Yes, okay.

Operator

Your next question comes from Brian Uhlmer with Global Hunter.

Brian Uhlmer - Global Hunter Securities, LLC, Research Division

Yes, I just wanted to touch base a little bit more on the international developments and talk about that in a little more detail. You mentioned some opportunities down in Mexico. I'm just trying to rectify what you said. You've got about 40 rigs running. I know you talked about CT, slickline and some other opportunities. Do you have currently in-country? Or did you recognize any revenues from anything outside of the 40 rigs in this quarter? And when would we expect this ramp to -- some of the other services to ramp back -- to ramp up?

Richard J. Alario

Yes, Brian, it's Dick. Yes, we've been recognizing revenue from our slickline business for several quarters. It's not big, but we've been in the business there for quite some time. Our tube -- coil tubing units, which we mentioned early in the year, did get delayed. The 2 that were shipping from the U.S. market, they didn't arrive at the last quarter as we thought there. But they're on the way there now. We expect to generate revenue from those this quarter. So that will be new revenue or revenue from a new service line. Trey mentioned in his prepared remarks, Trey Wilson did, that we have some revenue coming from the small consulting business that we have down there assisting our customer with some well work, candidate selection, things like that. That's been in place for a couple of quarters. And I think the message that we were trying to convey is that we see opportunities not only for additions to some of those other service lines that I've just mentioned in the ATG asset that we've been working in, but even possibly outside the ATG asset in some of the other regions that we're just started to penetrate. So you do have a compounding effect with respect to us being able to start to fill out the footprint and the customer to be able to depend on Key more fully to provide solutions to well problems using a toolbox approach, which is kind of what we've been after in that market for some time. It's starting to come to fruition now.

Brian Uhlmer - Global Hunter Securities, LLC, Research Division

Outstanding. And as you expand into regions, will you need to be adding new equipment, bringing it down from the U.S.? Or are we thinking that's where some of the international CapEx you talked about is going to come from, it's going to be brand-new equipment?

Richard J. Alario

It's going to be some or both, depending on the demand level in the U.S. It's our hope that we don't have any spare equipment from the U.S. market to send down there. But if we do, that's an option. It's one of the reasons that we strategized to get into, for example, the coil tubing business because we felt all along that, that was a service we could deploy assets from the U.S. into other markets. Again, we'll have to purchase new equipment. That's why we did make the comment in the prepared remarks that next year, as we think about it today, we haven't done our budget yet. But as we think about next year today, our general plan is to deploy some additional capital outside the U.S. And presumably given the demand levels and the opportunities, Mexico will be a significant recipient of that additional growth cap.

Brian Uhlmer - Global Hunter Securities, LLC, Research Division

Okay, great. Now shifting up to the Bakken. You're talking about rightsizing and working on some cost initiatives. What specifically do you think has to get done up there? And how long is the process to start to see maybe some margin improvement? Or is it in the face of declining pricing environment that that's just going to help you kind of stay stable up there? And how do you view the outlook over the next 6 months with kind of rig count decline that we're seeing there and how that may progress back upwards?

T. M. Whichard

Joe -- or Brian, rather, I'm sorry. This is Trey Whichard. You asked really a bunch of questions. And in relation to the fluids management business, cost reduction efforts are already in place, and we'll begin recognizing those in the fourth quarter. With anticipated seasonal slowdown, it might be hard to see how that plays out, but it's going to be there. And as we sit here today, those guys have taken -- based on current activity levels, they've taken roughly $24 million a year of cost out. And again, those initiatives are just recent. Now one of the other effects there in our fluids business and as we think about it as a whole is that their pricing -- the pricing is down this quarter somewhere in the range of 4% sequentially but more impactful is the mix of -- or at least just as impactful is the mix of work. Our SWD-related revenue on a whole is down 20% sequentially. Our frac-tank-related revenue is down 15% sequentially. And together, those 2 subsegments within fluids accounts for roughly 25% of our sequential revenue decline and that has the effect of price. So a lot of the cost comes on the trucking side. Whenever we start losing revenue in this high-margin opportunities such as the disposal revenue and frac tank rental, it's hard to catch that falling knife. But our guys are on top of how they're structured up there and looking for improved opportunities and better mix.

Operator

[Operator Instructions] Your next question comes from John Daniel with Simmons & Company.

John M. Daniel - Simmons & Company International, Research Division

Good color on the call today. Just a quick one first for Trey Whichard. Trey, you mentioned a number of the cost reduction initiatives that are going on. Should any of that show up in terms of restructuring charges in Q4? Or is that already built into the guidance?

T. M. Whichard

That's already factored in. And honestly, there's not a lot of restructuring cost associated with the savings initiatives that we've taken. It's -- a lot of it is around labor efficiency, and that's coming in a couple of different ways. So again, not a lot of cost associated with it, John.

John M. Daniel - Simmons & Company International, Research Division

Okay. And then Hurricane Sandy, does that have -- has that type of impact at all been factored in? I just want to actually see what the weather assumptions are in the guidance.

T. M. Whichard

You don't expect this kind of weather interruption, but we do expect weather interruption in this quarter. And yes, our guidance does contemplate that in total.

John M. Daniel - Simmons & Company International, Research Division

Okay. The well service pricing seems to be holding up quite well. Are you seeing any signs at all from customers or from emerging competition that, that could be -- that could come under pressure sometime next year? Or do you think that the demand is sufficiently strong to keep it where it is?

Richard J. Alario

John, it's Dick. As I said in the commentary, $80 oil is a very strong historical driver of -- with the exception of the beginning of the cycle that started in '03, and we all know that it was unusual in that it can -- that cycle consumed so much on the drilling side as the industry converted from drilling vertical wells to horizontal wells and spending all the money on big frac jobs and things like that. I think we're in more of a normal environment now, and I believe that the lack of volatility or the improved performance from the well service sector over this cycle bears it out, that anything $80 oil and north is very constructive with regards to our on-shore customers doing everything they can to keep production up. And so we've seen good response from the market. And as we said in the prepared remarks, we expect the oil environment to stay healthy and to continue to drive that kind of demand. Will we see some falloff between now and the end of the year? Possibly from certain customers due to overall budget constraints and maybe some concerns about winter weather and some extended holiday time off. We've seen in the past a couple of times where a group of operators will decide toward the end of the year to -- because the work has been so intense for most of the last 12 months to give the crews some extra time off. We've got some of that built into our guidance as well with a possibility but not an exorbitant amount. As far as competitors are concerned, in terms of what they might do to pricing, I guess the thing that gives us a reason to be fairly confident other than where we drove the guidance is the fact that we target to a great degree, not to an exclusive degree, but we are well set up this company to work for large operators, majors, mega majors and large independents. They tend not to be as variable. They tend to have thresholds for certain operating performance that doesn't allow for the level of competition to be what it is with other sorts of customers. So we feel good about that, and I like where we sit today with regard to our leadership role in the well service business, particularly on the rigs. And I think that who would have thought -- the way we like to think about it, who thought that the old, tired oil well service business will be the one to hold up with best margins and the lack of variability in revenue. So we're to very pleased where things are, a little uncertain about rest of this quarter and next. But as I said, once seasonality comes out of the first quarter, we fully expect that normal uplift in activity is going to return to business as long as we're still in the $80 oil price.

John M. Daniel - Simmons & Company International, Research Division

Okay. I just got one more question. It seems like the soup du jour is MLPs. The offshore drillers are getting questions about it. We've seen a sand company pursue that strategy. And over the past several weeks, we've got more calls and questions about whether or not SWDs can qualify for MLP status? And it sounds like from talking to industry guys, it can. Is this something that you guys have looked into? Is there -- what's the risk reward, if you will, pursuing a strategy like that?

T. M. Whichard

Yes, it's something that we have looked at and discussed. I don't -- from strategic standpoint, John, I'm not sure we would come at it from a strategic perspective. It's more from a financing perspective. But it's something that we'll continue to evaluate and keep our eye on if the market changes in that regard.

John M. Daniel - Simmons & Company International, Research Division

Is it a -- me and my ignorance, but is it a complicated process to do this switch, if you would? Or how do you do it? You just roll the business end of it, the tax status or what?

T. M. Whichard

Yes, you do. And yes, it is complicated. And you create a separate entity, and it's got to be separately managed and there's -- it's got to be pretty carefully evaluated, obviously, and there's enough companies that have done that. I think that there's a lot of information on it. But it's going to be one of those company-specific types of thoughts, John. I'm trying to dance on the fence here. It's something that we would have an understanding of it, and the market could more fully evolve in that way. And we won't be left behind, if you will.

John M. Daniel - Simmons & Company International, Research Division

Fair enough. Just it seems to be a popular topic these days. I wanted to hear your thoughts.

Operator

Your next question comes from Trey Cowan with Clarkson Capital.

Trey Cowan - Clarkson Capital Markets, Research Division

Real quick one. I believe Baker Hughes had talked about some issues down in Colombia on permitting. I was wondering though if you guys were seeing these similar things down there?

Richard J. Alario

Trey, thanks for the question. It's Dick. I asked that specific question when I saw that news. I asked that question in our business review about a week ago to our folks, and they told us that we have not experienced those kind of problems and didn't anticipate it. Thank you.

Okay, operator, we'll finalize the call now. I'll turn it back over to Gary Russell.

Gary L. Russell

Okay. Thank you, Stephanie. As a final note, as stated in our press release, we have posted on our website the schedule of certain prior period financial information pertaining to our continuing operations, which exclude our former Argentina operations, as well as posting our quarterly rig and truck hours. Also, a replay of this call can be accessed on the website at keyenergy.com under the Investor Relations tab.

Thank you for joining us today. This concludes our call.

Operator

Thank you. You may now disconnect.

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