National Oilwell Varco's CEO Discusses Q1 2013 Results - Earnings Call Transcript

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National Oilwell Varco, Inc. (NOV)

Q1 2013 Earnings Call

April 26 2013 9:00 am ET

Executives

Loren Singletary – VP, IR and Industry Relations

Merrill A. Miller Jr. – Chairman, President, Chief Executive Officer

Clay C. Williams – President, Chief Operating Officer

Jeremy D. Thigpen – Senior Vice President and Chief Financial Officer

Analysts

Marshall Adkins – Raymond James

James Crandell – Dahlman Rose & Co.

Robin Shoemaker – Citigroup

Kurt Hallead – RBC Capital Markets

Bill Sanchez – Howard Weil

Presentation

Operator

Welcome to the National Oilwell Varco First Quarter Financial Results Earnings Call. My name is Don and I will be your operator for today’s call. At this time all participants are in a listen-only mode later we will conduct a question-and-answer session. Please note that this conference is being recorded.

I will now turn the call over to Loren Singletary, Vice President of Investor and Industry Relations. Mr. Singletary you may begin.

Loren Singletary

Thank you, Don, and welcome everyone to the National Oilwell Varco first quarter 2013 earnings conference call, with me today is Pete Miller, Chairman and Chief Executive Officer of National Oilwell Varco, Clay Williams, President and Chief Operating Officer and Jeremy Thigpen, Senior Vice President and Chief Financial Officer. Before we begin this discussion on National Oilwell Varco’s financial results for its first quarter ended March 31, 2013.

Please note that some of the statements we make during this call may contain forecasts, projections and estimates including but not limited to comments about our outlook for the company’s business. These are forward-looking statements within the meaning of the Federal Securities laws, based on limited information as of today, which is subject to change. They are subject to risk and uncertainties and actual results may differ materially. No one should assume that these forward-looking statements remain valid later in the quarter or later in the year.

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

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

Merrill A. Miller Jr.

Thank you, Loren. Earlier today National Oilwell Varco announced first quarter 2013 earnings of $1.17 per share on revenues $5.31 billion. Included in this there is a pre-tax charge of $73 million per transaction expenses and the Venezuela Boulevard devaluation. Excluding these charges, earnings were $533 million or $1.29 per fully diluted share.

Operating profits for the quarter was $816 million, or 15.4% of sales. Additionally, we announced new capital equipment orders of $3.04 billion, bringing our backlog to a record of $12.9 billion, signifying the industry’s continued preference for National-Oilwell Varco products. The total exceeds our record backlog in Q3 2008 by over $1 billion. I would like to thank all of our customers for their continued confidence in National-Oilwell Varco and to all of our 63,000 employees worldwide for their excellent efforts to meet our customers’ expectations. I would also like to welcome all of the former Robbins & Myers employees to the National-Oilwell Varco family.

Now, I will turn the call over to Clay and Jeremy to expand on our results. Clay?

Clay C. Williams

Thank you, Pete. National-Oilwell Varco faced a challenging quarter in the first quarter. They came in a little softer than we expected. Despite a choppy market in North America, broadly speaking, we remain bullish on demand for offshore rigs, for floating production systems, and for products and services we sell into international land markets including fledgling unconventional shale developments. We had a traffic quarter for new orders for our Rig Technology segment and expect more in the second quarter. However, we’re very cautious about North America and continue to see headwinds here as pricing and volumes remain under pressure, as demand for pressure pumping and drilling equipment remains weak and operators defer expenditures for consumables.

Rig Technology capital equipment orders totaled $3 billion, our second highest quarterly total ever. We received orders for 17 drilling equipment packages for jack-up rigs and 8 drilling equipment packages for floating rigs including 3 for Brazil in the first quarter. We also had a significant increase in orders for FPSO equipment. Our outlook for the second quarter orders remains very strong as well as we expect even more FPSO orders, plus another great quarter for jack-ups. There also remain a half dozen floating rigs for Brazil that we have not yet booked as we away down payments for these. And we see rising interest in land rigs for international markets as new modern rig design are steadily gaining expectance overseas.

Through the first quarter, our very capable teams continue to manage their businesses for the long haul, while keeping an eye on our cost structures and view of near-term softness, it’s an usual time. We have some operations facing declining backlog and P&L pressures brought on by low volumes other safety opposite problem we are overflowing with work and losing efficiency due to congestion and expansion.

Our leaders are doing the heavy listing require to reallocate resources, expand capacity in certain areas, right size others and integrate many new acquisitions making good progress on a solid foundation for future NOV earnings growth and by solid foundation for future earnings growth, I specifically mean we are investing in a combination of CapEx and acquisition capital to further distance ourselves from our competition. Fundamentally, we believe that leading market positions and technology the largest most economically efficient capacity within a particular sector and a deep organizational commitment to the highest levels of service to our customers is a winning formula. That is the vision they and we pursue daily.

Since the beginning of 2009, we had generated $6.9 billion in cash from operations, and raised $3.4 billion in debt financing totaling $10.3 billion in capital generated were raised. We have paid $1.1 billion or 11% to our shareholders in dividends, invested $1.7 billion or 17% internally in capital expenditures and invested $7.4 billion or 72% in acquisitions.

The largest of our acquisition since 2009 is Robbins & Myers which finally closed in the first quarter, it’s strengthened our position in a number of key technologies progressing cavity pumps, flow line, artificial lift and downhole drilling motors just a name of few. This acquisition makes NOV the largest provider of worldwide of enabling required for the drilling and completion of horizontal wells and has a very busy four year period as far as closed 51 acquisitions. We are excited about this aggregate addition of new businesses to NOV including the talented teams that have joined our own.

We’ve expanded our substantial offering into the growing floating production systems world strengthened our market leading oil fuel distribution franchise added leading franchises in the supply technology into unconventional shale developments and strengthened our offering into new technology such as composite Tubulars. Mostly businesses that we are in before is just that now we are bigger and stronger and more capable.

In the near-term however we continue to face market headwinds, all three segments saw sales fall from the fourth quarter as U.S. rig counts drifted down another 3% sequentially and Canadian spending on consumables and production equipment decline even in the face of seasonal increases in rig activity.

North America weighed most heavily on NOVs activity driven businesses, petroleum services and supplies and distribution and transmission with 57% and 83% of sales mix coming from North America respectively.

Sales were down in a low single-digit range for both at high detrimental due to the combination of price discounting and lower volumes which diminish margins. The Rig Technology segment was not immune from North America either as sales of drilling, wire line and stimulation equipment into North America remain low and left our infrastructure of these products come from under absorbed.

Broadly speaking demand across North America is soft and price pressures for products and services continues to intensify. Gradually slowing North American rig counts and scattered reports of falling land rig day rates have some good spending, even high growth regions like the Permian and Eagle Ford are becoming more competitive as labor and assets from competitors slowly migrate into these regions.

However overseas, the picture is much better, demand is up and we are expanding in places like Abu Dhabi, Oman, Dubai, South Africa, Russia, Angola, Brazil and Mexico. Continued deepwater development, application of horizontal drilling and hydraulic fracture stimulation to conventional prospects and unconventional shale technologies will provide the basis for future growth overseas and NOV is exceptionally well positioned to capitalize on these opportunities. Our Rig Technologies segment is working through an extraordinarily busy delivery schedule now with offshore rigs, tight the faster hull construction schedules and shipyards and much higher BOP demand Post Macondo. Think replacement BOPs for old stacks that could not be recertified, second BOPs rigs and fleets spare BOP demand, all up sharply since 2010.

To handle the volumes, we have added a fifth and a sixth and now a seventh subsea stack rig up pad in the past couple of years, along with many new machine tools to our primary pressure control product plan. The expansion caused us to have to rearrange what we make where as we poured concrete as to temporarily increase outsourcing, which has been disruptive but necessary to meet the needs of our customers. To put it in perspective, we will nearly double output from our Houston BOP manufacturing plant in 2013. Shipments are expected to be up 83% year-on-year.

This expansion and tight delivery scheduling affected the first quarter in two ways. First, higher over time freight and expediting cost drove unfavorable manufacturing variances for a couple of major components that are included in most rig projects. A cost role across these along with drawworks, mud pumps, late in the first quarter together with higher expediting and INC costs, resulted in a net $32 million and aggregate cost being pushed through our rig construction projects. All of this was booked in the first quarter pursuant to our percentage-of-completion accounting on projects.

Second, discrete start-up costs around this expansion along with start-up cost associated with a huge new flexible pipe plant in Brazil, the expansion of our Bammel road aftermarket facility, top drive manufacturing facility, and other build-outs added and estimated $10 million in start-up cost this quarter, related to the hiring and training of new workforces and operational disruptions. These will continue for a couple of more quarters, but excluding these as well as the effects of the adverse cost role margins for Rig Technology would have been in the mid 22% range, consistent with the fourth quarter of last year.

I know that no better equipment manufacturing team in the world than our professionals who managed this business. They’re always working diligently to reduce costs. For instance, we have concrete steps underway that will reduce BOP costs including design changes for ease of manufacturing and new transportation logistics to cut cost. Elsewhere we are moving other products to lower cost manufacturing geographies in Asia and Latin America.

Finally, Rig Technology first quarter margins were also affected by double digit sequential declines in aftermarket spares and services, following a very busy Q4 last year. We see this as a temporary pause and a strong long-term growth trajectory. In fact, year-over-year aftermarket spares and services for the group increased 11% benefiting from the growing installed base in the NOV rig equipment particularly in the offshore and recent expansion of our aftermarket infrastructure through build outs and acquisitions.

With that let me turn it over to Jeremy.

Jeremy D. Thigpen

Thanks, Clay. National Oilwell Varco generated earnings of $1.17 for fully diluted share in its first quarter of 2013 on $5.3 billion in revenues. Excluding $73 million in pre-tax transaction and devaluation charges, first quarter 2013 earnings were $1.29 per fully diluted share has down 20% or $0.20 per share or 13% from the fourth quarter of 2012 and down $0.15 per share or 10% from the first quarter of 2012. Sales of $5.3 billion declined 7% sequentially that grew 23% year-over-year, despite the fact that the average U.S. rig count declined by almost 12% from Q1 2012 and the worldwide rig count dropped over 5% during that same period.

Excluding transaction charges from all periods, operating profit for the quarter was $816 million down 14% sequentially and down 7% from the first quarter of last year. Operating margins on this basis were 15.4% for the first quarter of 2013 compared to 16.8% for the first quarter of 2012 and 20.5% for the first quarter of last year.

Although the rig count in the U.S. continued to decline and margins for the quarter were somewhat longer than we had initially hoped we’re proud of the work that was done in the first quarter of 2013 and we remain extremely excited about the future prospects for the company.

Turning to our segment operating results. The Rig Technology Group generated revenues of $2.6 billion in the first quarter down 9% sequentially, but up 16% compared to the first quarter of 2012. Operating profit for the segment was $557 million and operating margins were 21.2%, down a 120 basis points from the prior quarter and 320 basis points from the first quarter of 2012.

As you will remember from the Q4 conference call, we indicated that we expected Rig Tech revenues to decline in the 10% range following flush year end shipments and very little demand for pressure pumping and coiled tubing equipment in the U.S, as expected revenues from backlog were down 10% sequentially, and revenues from our pressure pumping and coiled tubing equipment businesses were 46% and 41% respectively. As well service firms continue to utilize existing assets and we’re reluctant to send equipment in for repairs.

Aftermarket revenues also decreased by 12% sequentially with higher revenues from training and installation and commissioning and relative flat spare part sales being more than offset by declines in repair and service revenues which posted exceptionally strong fourth quarter results.

Overall non-backlog revenues declined 6% sequentially. Still we were pleased to receive a partial quarter’s contribution from the Robbins & Myers acquisition, which added $11 million of incremental revenues to Rig Tech, and we were excited to see some material improvement out of our FPSO business which proved revenues 22% sequentially. You’ll also remember from the Q4 conference call that we stated that margins would be challenged to move meaningfully from the 22.4% that we posted in the fourth quarter of 2012, because of three issues. First a relatively soft North American land environment which curtailed capital spending for new well stimulation equipment, which by the way represented 16% of total Rig Tech revenues in Q4 and produces margins that are accretive to overall Rig Tech margins.

Second a growing percentage of FPSO related revenue which generates margins that are currently diluted to overall Rig Tech margins. And third incremental expenses associated with longer term strategic growth initiatives and capacity expansion. Well, issues one and two, which I will describe as product mix, impacted us about as expected, with revenues from well intervention stimulation equipment is declining overall 39% sequentially. And FPSO related revenues increasing 22% over that same period.

This shift in mix is a current drag on Rig Tech margins. But we believe it to be a transient issue. Demand for complete frac spread and coil tubing and it will return in the U.S. And we remain convinced that other countries around the world will ultimately require our technology to access and benefit from their own shale reserves. We also believe that FPSO margins will increase with both volume and our continued migration from a project to a product focus. It’s important to note that the incremental flow through on the 22% sequential increase in this group was 56%.

So while we are not where we want to be at, we feel confident that we are heading in the right direction. Issue three, which I’ll describe as capacity expansion had a greater impact on us than we anticipated. As Clay mentioned, we knew that we would incur some additional expense associated with the start of the new facilities. However, $10 million was a bit higher than we expected. And it’s now clear that we did not fully appreciate the incremental costs tied to the expansion of some of our existing facilities, especially our Houston BOP manufacturing plant, which along with increases in a couple of other major components and higher expediting in I&C cost resulted in the $32 million increase in cost in Q1.

So much like product mix we also believe this to be a transient issue. As many of our expansion projects will be completed this year, enabling us to replace start up cost with efficiency gains. However until those projects are completed we are sticking with our previous guidance for Rig Tech margins to remain in the 22% to 23% range for most of this year.

Now let’s transition to our backlog. As evidenced by the $3 billion in new orders, demand for our technology remains very strong. For the quarter we booked 8 drillships and 17 jackups. We also had a solid quarter of FPSO related orders. And while the overall sentiment for new land rig and pressure pumping and coil tubing equipment in the U.S. seems somewhat muted, we are encouraged by the fact that we still manage to sell several complete land rigs in to the U.S. market as well as some of the fair pieces of equipment to upgrade our customer’s existing fleet.

We also managed to increase our new order booking for well stimulation equipment by 10% sequentially. All of these new orders were partly offset by revenues out of backlog of almost $2 billion and led to a record quarter ending backlog of $12.9 billion, up 9% sequentially and up 25% year-over-year.

Of the total backlog approximately 92% of this is offshore and 92% of this is destined for international markets. We expect for almost $2 billion of revenue to flow at a backlog in the second quarter of 2013 and an additional $3.7 to flow at over Q3 and Q4. Looking into the second quarter of 2013, we expect our orders for new drilling equipment packages for both drillships and jackups to remain strong. We also anticipated strong bookings quarter for our FPSO equipment and we continue to see strong demand for new land rigs in Latin America and in the Middle East that could materialized into order in the quarter.

As of now we are planning for Rig Technology revenues to increase in the low single-digit percentage range. As continued declines in our pressure pumping and coil tubing equipment businesses will more than offset by a full quarter contribution from Robbins & Myers and continued growth in our offshore and aftermarket businesses.

Speaking of aftermarket, its important to remember that the first floaters constructed this cycle are turning five years old this year, which means that they will be returning to the shipyards for their five years surveys. While in the shipyards drillers will use this time to perform major maintenance and upgrade activities and NOV will be there to help.

In fact we’re uniquely positioned to support our customers during this time as we’ve been actively deploying capital into facilities and inventory and investing heavily in our service technicians, to make sure that we can meet the needs of our customers as their rigs come in for their surveys. We’ve also been working on front end to understand our customers various requirements, such that we make the equipment and the personal available as needed by our customers and compress as much as possible the time that their vessels are in the yards.

We will also see aftermarket gains associated with the recent acquisition of Robbins & Myers, which brought us a larger installed base of land BOPs as well as the service infrastructure to repair test and certified existing equipment, need us to say we’re excited about the aftermarket prospects. The petroleum services and supplied segment posted revenues of $1.7 billion which is down 4% sequentially and essentially flat year-over-year.

Operating profit declined 12% sequentially to $311 million and operating margins were 18.3% down a 180 basis points from the fourth quarter of 2012 and down 450 basis points from the first quarter of last year, compared to the fourth quarter of 2012, the $69 million revenue decline carried 64% decremental operating leverage.

As we mention on the Q4 call because we were entering the year with diminished backlogs and U.S. customer base that seemed reluctant to release orders we expected PS&S segment sales to decline in the low-to-mid single-digit percentage range. And for operating margins to tick down into the high teens. We also said that were hopeful that the U.S. rig count will remain relatively flat through most of Q1 and actually start to improve as entered Q2 and at the winner drilling season in Canada which got us to a late start would last a little longer than normal. Unfortunately, the average U.S. rig count declined an additional 3% sequentially and in Canada spring breakup came earlier than anticipated.

As a result revenues from PS&S excluding the $15 million contribution from Robbins & Myers in the first quarter actually declined by almost 7% sequentially with every business with a notable exception of fiberglass pipe, which benefited from a full quarters contribution from the Fiberspar acquisition experiencing a decline.

While the lack of activity in the U.S. and Canada were somewhat discouraging the group continues to benefit from our recent investments in the international arena. Over the past few years, we have built new and/or added two existing manufacturing capacity across all of our PS&S businesses. With new downhole manufacturing capacity in Brazil, the UAE, and Singapore NOV Grant Prideco drill pipe manufacturing and Tuboscope inspection and coating facilities in both Mexico and the UAE and new fiberglass pipe manufacturing facilities in Oman and Brazil just a name of few. These investments have enabled us to move products, service and people closer to our customers and the final point of consumption and are enabling us to capture a larger share of key markets.

As we enter the second quarter of 2013, we expect PS&S segment sales to be relatively flat, as the negative impact of spring break up in Canada should be offset by a full quarter of contribution from Robbins & Myers and continued growth international markets. And although we cut cost including reductions in force and facility consolidations and a number of businesses in Q1 we are currently forecasting margins for the segment to tick down a bit more as mounting pricing pressures on several products under absorption in a number of our facilities and incremental expenses associated with both rightsizing our existing businesses and integrating recently acquired companies will all put pressure on our margins in the near-term.

Still we are excited about the future prospects for this segment. Our international business remain strong, our U.S. customer seem to be more optimistic and candidly even if the U.S. rig count remains in the 1,750 range for the foreseeable future our customers will ultimately consume their inventories and begin placing more orders for more of our products and services and when they do its important to remember that the flow through on that incremental revenue in this segment is usually north of 35%.

The Distribution & Transmission segment posted revenues of $1.2 billion down 3% sequentially that up 118% as compared to Q1 of last year. Do largely to the acquisitions of Wilson and CE Franklin in mid 2012. Operating profit declined 17% sequentially to 65 million but improved 51% as compared to Q1 of 2012 and operating margins declined to 5.3% which represented a 90 basis point drop from Q4, 2012.

On the Q4, call we indicated that revenues within the D&T segment should move up in the low single-digit percentage range as slightly lower margins. However even with the $49 million contribution from Robbins & Myers in the quarter, the 3% sequential decline in the U.S. rig count coupled with a shortened winner drilling season, let to the shortfall against expectation, its important to remember that 83% of this segments revenues have generated in the U.S. and Canada.

Looking into the second quarter of 2013 we expect Distribution & Transmission group revenues to be relatively flat as a negative impact of spring break up in Canada should be offset by a full quarter of contributions from Robbins & Myers. And we are currently forecasting flat to down margins as we battle pricing pressure and incur incremental costs associated with right sizing existing businesses and integrating recently acquired companies.

On the topic of integration the group has done an exceptional job of combining NOVs legacy distribution group with both Wilson and CE Franklin. At this point we believe that we’ve captured most of the low hanging fruit we have reorganized the team consolidated over 20 facilities in the U.S. and Canada aligned pricing with key customer accounts leveraged spending with key suppliers and rolled out field level incentive plan to reward margin enhancement. We are not down to the heavy lifting which includes implementing a common ERP platform across the business and consolidating our Houston area facilities into a single building.

The group intends to begin the ERP implementation in Q4 and as planned and relocate it to the New Houston facility in Q3. Once completed both of these initials will result in margin expansion for the segment, so as we review the first quarter for all of NOV, I think it would be fair to say that we were disappointed that the U.S. market experience get another drop, that the winner of drilling in Canada were shorter than hoped and that the cost on some of our products resulted in rebase lining of projects that negative impacted our Rig Tech margins to the tune of 122 basis points.

However we feel really good about our overall Q1 performance our market position and our industry leading margins and we remain as bullish as ever on the growth prospects for each of our three operating segments. In Rig Tech, we continue to see strong demand for on-shore, offshore drilling equipment packages, but floaters and jackups, we were encouraged by the solid sequential growth with high flow through in our offshore floating production equipment business, despite the challenging market we continue to see U.S. land drillers upgrading their respective fleets and we are starting to see far more interest for new land rigs in the Middle East and Latin America.

We know that orders for complete (inaudible) will ultimately return and we will be even better position than before due to our 2012 acquisition of Interflow. And perhaps most importantly, we know that our aftermarket business will continue to grow as we deliver more and more rigs to the marketplace. In PS&S once our U.S. based customers worked through their inventories we believe that our recent acquisitions of companies like Robbins & Myers, Fiberspar coupled with our expansion of capacity and international will lead to very nice growth with tremendous flow through.

And in D&T we are excited about the margin enhancement that will result from the integration initiatives that are currently underway within our NOV Wilson Distribution Group and our mono-artificial [ph] lift in industrial pump group.

Turning to National Oilwell Varco’s consolidated first quarter 2013 income statement. Gross margin declined 50 basis points sequentially due to all of the reasons that I already discussed. SG&A increased $15 million sequentially, due to the full quarter effect of the four acquisitions that we closed in the fourth quarter of last year, plus the partial quarter of Robbins & Myers. Overall, SG&A, as a percentage of sales, was 8.9% in Q1, as compared to 8% in Q4 and 9.1% in Q1 of last year.

Transaction cost primarily related to the Robbins & Myers acquisition and Venezuela currency devaluation charges combined for $73 million in pretax cost. Interest expense rose $7 million to $28 million, reflecting a full quarter of interest expense on the $3 billion in bonds that were issued in mid-November of last year. Equity income in our Voestalpine JV was $19 million, this was up $4 million sequentially due to improved product mix and an end of year credit from our billet supplier. We expect our income from the JV to decline in Q2 as demand for drill pipe and therefore the green tube in the U.S. is limited.

Other expense decreased $15 million from Q4 to $13 million, due to lower FX expense and lower bank charges. And the effective tax rate for the first quarter was 30.9%, which was lower than our historical and expected rate of 32%, due to a higher mix of overseas income at lower rates and higher U.S. manufacturing deductions. Unallocated expenses and eliminations on our supplemental segment schedule was $117 million in the first quarter, down $10 million sequentially. Depreciation and amortization was a $174 million, up $8 million from the fourth quarter and EBITDA excluding transaction charges was $1 billion marking the sixth consecutive quarter that the company generated over $1 billion in EBITDA. For the quarter, EBITDA was 18.9% of sales.

National-Oilwell Varco’s March 31, 2013 balance sheet employed working capital excluding cash and debt of $6.9 billion, up $204 million from the fourth quarter. Excluding the impact of Robbins & Myers, working capital was essentially neutral.

Total customer financing on projects in the form of pre-payments and billings in excess of costs, less cost in excess of billings, was $283 million, down $286 million from December 31st, as cost incurred on major projects continue to outpace milestone invoicing.

Current and long-term debt, net of cash was $1.9 billion at the end of the quarter, with $4.3 billion in debt offset by $2.4 billion in cash, of which only 10% resides in the U.S. Cash flow from operations was $506 million for the quarter. During the quarter, we acquired Robbins & Myers for $2.5 billion, which we funded using $1.1 billion of cash on hand and $1.4 billion of revolver debt borrowings, $185 million of which we repaid between the February 20th acquisition date and the end of the quarter owing to our strong cash flow from operations. We also spent $168 million in CapEx as we continue to invest substantially in major expansion efforts several of which we expect to be fully operational later this year. Cash tax payments were $171 million in the quarter and dividend payments totaled $56 million.

Now, let me turn it back to Pete.

Merrill A. Miller Jr.

Thanks, Jeremy. I think that Clay and Jeremy have really kind of covered everything very, very well and I’d just like to make a few brief comments before we open it up for questions. But spend a little bit of time in the last quarter traveling overseas and trying to get a sense of things that I think are pretty important. And I think some things that you need to keep an eye on for the folks on this call. Number one, I think is China. And I think as you take a look at the shipyards there, they’re becoming much more active, especially in the jackup arena. I think you’ll see some floaters and semis down there and we’re positioned very uniquely to be able to take advantage of that. While there has been some press recently about the slow moving on the China shales, I also believe one of the reasons for that is because of the lack of infrastructure and so I might just remind you we manufacture infrastructure.

And so I think that that in China we’re actually going to see some pretty good things happening with the shales. I think Latin America, looks very positive I believe by the end of the year, you’re going to see PEMEX pick up and I think that has positive implications for all the services companies or manufacturers. And of course as Jeremy and Clay pointed, Brazil continues to be a very attractive arena for us. We’re the leader down there in the Drillship awards, but more importantly than that we’re also supporting everything else that’s happening down there through all of our drill operations. So I think Brazil will continue to be a linchpin of what we’re doing.

And then finally in Russia, this is a that earlier this quarter and I really think the Russians are just really almost begging for the technology that we have to be able to provide to them. We’re investing there I think over the next four, five years you’re going to see a complete transformation of the rig fleet and lot of the equipment that are working in Russia and again I think we’re very uniquely positioned to be able to take advantage of that. So I think if you really keep your on eye on Russia, China and Latin America, I think those are going to be very important things.

And then finally, I’d like to talk just for a moment about the fact that, lot of the domestic E&P people are getting a lot more free cash flow simply because of the price of the natural gas today. Okay, I don’t think that that means they’re going to necessarily drill for natural gas, but what I do believe it means as I’ll continue to invest in especially in the oily and liquid shales.

So and again everything that we have to offer positions ourselves for that. You’ve heard us to talk a little bit about some of the weaknesses in the frac spread, but you have to also remember those frac spreads will beat the crap of out of each other everyday that they’re out there working and eventually that then become something that’s going to produce more and more revenues for us.

So that’s really just kind of a quick overview of the things that I am seeing out there. I might also add that week for Monday is the start of OTC. As usual that will be is going to have a nice presence there with a lot of the new products that we have and I would invite anybody that’s on this call please stop by our booth and or go to our equipment shale on Holmes Road where our Tuboscope facility is and get an opportunity to see a lot of the exciting things that NOV is doing. So, at this point Don, I’d like to turn it over to any questions that our customers might or listeners might have.

Question-and-Answer Session

Operator

Thank you. We will now begin the question and answer session. (Operator Instructions). Our first question comes from Marshall Adkins from Raymond James. Please go ahead.

Marshall Adkins – Raymond James

Good morning guys, great overview as usual and Pete you might answer this first question I have a little bit in your summary there, but the biggest push back I get from investors on your story is the perception, the backlog this great backlog growth we’re seeing here right now, hits the wall next year and sometimes in 2014 we got good visibility obviously this year with the rigs that have been order, but in 2014 that falls off and then you are not going to be able to replace that. So, how do you respond to those investors that the growth rate in 2015 and 2016 goes away?

Merrill A. Miller Jr.

Great question Marshall, I might tell you the quote that I think of is Mark Twain and it was “The reports of my death have been greatly exaggerated” and if I could kind of go into how many times up and told that the backlog is dead, let’s go back to OA, if you are going to lose half of your backlog three quarters of your backlog and we lost about 3% when the financial crisis occurred. And we’ve been told numerous times about the fact that well people just not going to keep ordering, the fact of the matter is, we feel very good about the prospects as we look into the future.

I could talk that I’ll blew in the face and people are going to believe what they want to believe on that, but take look at the jackup market, how many times, if you are about the depth of the jackup market and this quarter, we just had a [plotter up] of jackups order. And we continued to see a very active area in that arena, and you also have to understand that lot of these shipyards in places like Korea, China and Singapore, the shipyards are in fact the driver of their economic growth and they are going to do everything they can to try keep those shipyards filled with things. And I think you are going to continue to see, very attractive prices that are drawn after for a lot of the deepwater drillers and if you take a look, the number of deepwater rigs out there, well it seems big on historical basis, it’s real a fraction of probably how many rigs are really need to be able to explore the deepwater basins all over the world.

And so, we again, couple back there with the fact that we are expanding in the FPSO arena and when you take a look at what has to happen with FPSOs I mean the approved solution for production on all these deepwater wells being drilled today is going to be FPSO arena and we positioned ourselves to be able take great advantage of that and we’ll continue to look at ways to find a different companies and also acquire things, so that we can expand that even further. So, we feel very comfortable that we are going to continue to have a solid backlog this going to lead to such a growth for NOV.

Marshall Adkins

Excellent, that helps. One quick, somewhat (inaudible) a follow-up and really more clarification, is sound, the margins obviously in Rig Tech a little less than some of us thought, I think you detailed why pretty well, but it sounds as if you expect to rebound once we get pass these abnormal hot shot or transportation expenses and that the one time start up cost fade over the next couple quarters did it here that right?

Merrill A. Miller Jr.

That’s exactly correct Marshall. We have $32 million in net project expenses that hit this quarter and then $10 million and sort of start-up costs around the globe and the start up cost will linger for while but the $32 million cost roll was all half of this quarter. So we’re confident we’re going to end up in the 22%, 23% range going forward.

Marshall Adkins – Raymond James

Thanks guys.

Merrill A. Miller Jr.

Thanks Marshall

Robert Blanchard

Thanks Marshall

Operator

Thank you. Our next question comes from Jim Crandell from Dahlman. Please go ahead.

James Crandell – Dahlman Rose & Co.

Good morning guys.

Merrill A. Miller Jr.

Good morning, Jim.

Robert Blanchard

Good morning Jim

James Crandell – Dahlman Rose & Co.

First question concerns deepwater, I guess how many deepwater rigs did you book in the first quarter? And I assume by your comments that you booked the first three out of the nine in Brazil and there is another six to come. And also could you comment on China Pete. I know you had I guess three deepwater rigs in the fourth quarter on come out of the Chinese yards. Have there been anymore? And I guess over the course of this year, how many Chinese yards you think could become engaged in deepwater rig construction?

Merrill A. Miller Jr.

You’re correct, Jim. We booked a total of eight floaters, three of the floaters were for Brazil. And as I said in my comments, we’re hopeful that last six there will also flowing once we get down payments on those rigs. So that situation in Brazil the other five were elsewhere around the globe and we’re centered in the traditional shipyards. With regards to the Chinese yards, they’ve been very active on the jackup front and gaining share there on the jackup awards floaters they’re interested in, but that’s a little slower in developing.

James Crandell – Dahlman Rose & Co.

Okay. Pete I know you spent, as you said, you spent some time in Russia. My understanding and tell me if I am wrong here is that Russian companies have to retire the sub-basin that in Russia after 25 years and will operators do this or do you think a number of them that you are speaking with aren’t interested in upgrading their rigs but there will be new equipment hence your new facility over there?

Merrill A. Miller Jr.

Jim, actually yeah, they do need to, they need to redo their rigs after 25 years and I think that there is a tremendous interest level on getting new equipment and better technology. I think the Russians now that the effectively they’ve got 1980s [heritage] rigs and the difference between a 80s heritage rig and the line rig today day is [night day]. And so we’re confident that they are going to upgrade those rigs and I think that’s going to be a multi-year expansion that’s really going to play well into our hands.

I mean I just find every place we go, we like to have a lot of local content for a lot of reasons, but one of the main reasons is because your transportation charges are lower dramatically trying to get the rig to the end user, but we’ll have our new facility up and running by next year and that facility we’ll be building both rigs and lot of our other equipment, but the Russians really have a demand for that technology and we’re very bullish on what we’re going to see over there in the next couple of years. And I think they are going to have to retire a lot of those rigs not only by because of the law, but also because of just the need for better drilling efficiencies.

James Crandell – Dahlman Rose & Co.

Pete, but one quick last final question, is that I know you’ve been bullish on the outlook for FPSO orders and I know you’re not getting package orders and that’s coming in the way of individual products, but could you characterize the magnitude of the pickup that you are seeing in the last one or two quarters and then take us through maybe this calendar year into 2014 and in terms of the projected magnitude of the pickup?

Merrill A. Miller Jr.

Yeah, Jim, this quarter we had products, major sales or for Turret warning system, and (inaudible) products into four projects there, which is a very big pick up as we talked about on previous quarters. Orders have been pretty slow there in that business, despite a lot of feed study activity, a lot of conversations with customers throughout last year, and even come back into 2011. And so we are very pleased to see a sharp pick up in orders.

And then in Q2, we expect even more, and so the trajectory is finally moving in the right direction, the way we – we’re confident it would, so very, very pleased to see that pick up. But that again I’ll add to – that’s an addition to the flexible pipe sales composite pipe, Hose Reel Systems, Dryser Pull Systems, other components that we sell in FPSOs broadly.

So generally, I think we’re seeing that whole market start to pick up as we have expected, and I’m pleased to see the direction that it’s going.

James Crandell – Dahlman Rose & Co.

Okay, good. Thank you.

Clay C. Williams

Thanks, Jim.

Operator

Thank you. Our next question comes from Robin Shoemaker from Citi. Please go ahead.

Robin Shoemaker – Citigroup

Thanks. And I wanted to pursue that FPSO a little more. You’ve told us before, I think what you think your maximum dollar value of sales is per FPSO, and could you remind us of that. And are you seeing any opportunities where you might get that – you know total value?

Clay C. Williams

Yeah on the high end, first FPSO has been in broad range of sizes and capabilities, and as you know Robin. And so, you’re not – there is a lot of variability in the design of FPSOs. And actually more broadly let’s us say FS users, I think it’s technically aren’t FPSOs, and we also sell lots of equipment into as well. But on the high end, I would say probably a $150 million per very large FPSO is a sort of a reasonable number and technically speaking for – I think it’s possible for us to go beyond that, perhaps well beyond that depending on the capabilities of the FPSO but what’s probably more useful sort of an average number might be in the $80 million to $100 million kind of size range for us.

Robin Shoemaker – Citigroup

Okay. My other question had to do with these faster hull construction times and how you’ve had to speed up the process and incurred a lot of over time and expediting and all the things you mentioned there. It seems like in the past, the shorter the delivery time, the higher the price and higher the margin, just in terms of what you could charge for prompt delivery versus longer delivery. And it just seems like now the hurry up kind of process isn’t giving you the pricing leverage? Or am I misunderstanding that?

Merrill A. Miller Jr.

No, that’s partly true. I would say that for certain components for quick delivery, we clearly do get a premium, but the broad level of activity out there, the portfolio of projects that we have today are being built a year or more faster than they were in 2007, 2008 and have been awarded or bid let’s say more at our customers’ leisure, if you will. Back in 2007, 2008 there was a much higher level of urgency injected into the system. I think principally because the slots available in the shipyards were in short supply and once the customer secured a slot at a shipyard, even though the gestation period of the rig took much longer, they ended the signup pretty quickly with us on a DEP. This time around, the shipyards had a lot more capacity to not as much urgency around the availability of slots, and all of the slots are being bid at much faster construction schedule, but short of time it takes the build a rig.

So we’ve shrunk the number of months from probably 42 months, 45 months for a sophisticated drillship down to sub-30, this time around and once – but the process leading up to signing of contract for that 30 month drillship is a little more relaxed, and it gives, it means that there’s a much more sort of competitive fight for the work going into that rig.

Robin Shoemaker – Citigroup

Yeah. So it sounds like, this dynamic really isn’t going to change in any near term future, in other words the availability of shipyard slots that you mentioned China getting into the business. So it’s going to continue to be kind of…

Jeremy Thigpen

Yeah, what’s happened Robin is that, as the whole construction schedule has shortened, it’s pressed our plants and our factories to move components out much more quickly.

And so it’s that – that concept is little bit divorced from the process around bidding work and competing with our competitors to supply drilling equipment packages. But I would also add that as our backlog has filled up, and there’s lots of rigs out there, in particular in buying components that are in a little shorter supply, we are certainly pressing for some - few price increases here and there to cover these exploration costs that we’re seeing…

Robin Shoemaker – Citigroup

Right. Okay, thank you.

Jeremy Thigpen

Thanks, Robin.

Clay C. Williams

Thanks, Robin.

Operator

Thank you. Our next question comes from Kurt Hallead from RBC Capital Markets. Please go ahead.

Kurt Hallead – RBC Capital Markets

Great, thanks. Good morning.

Merrill A. Miller Jr.

Good morning.

Jeremy D. Thigpen

Good morning, Kurt.

Kurt Hallead – RBC Capital Markets

I want to try to get a sense on here is kind of recapping the general average for the FPSO per unit. Can you give us a rough update on floaters and jack-ups? Are we still around 200 million to 220 million for floaters and still in that kind of 50 million to 70 million range for jack-ups does that change at all?

Jeremy D. Thigpen

No, Kurt, that’s pretty accurate. I mean on some of the floaters depending on the complexity if you got a complete dual activity depending if you want one or two [stacks] things like that you could be as much as 250. I think on the jack-ups it did really is around a $50 million comp. We get the max on the floaters more so that many times on the jack up, but we really picked up on the jack-ups as well simply because of our jacking systems. We’re putting a lot more jacking systems out there.

So, I think that that $200 and $250 and the $50 number are still pretty accurate and then I will also remind you that as we take a look at land rigs and especially places like the Middle-East and some of the more complex land rigs and those will be up into the $30 million and $35 million and we’ve been very successful when that arena improves and we think that arena will do well over the last part of the year.

Kurt Hallead – RBC Capital Markets

Okay. In that context, we’ve heard recently the (inaudible) rig count starting to expected to increase the rig count from I think we’re counting something around the 140 today to something around 200 by the end of 2014. First, can you collaborate that and secondly if (inaudible) is looking for say another 60 range, are they all going to be new in your viewpoint and where else do you see kind of a similar size kind of increase coming from. I know you mentioned Russia that sounded like a five year process. If you give some color that would be great.

Jeremy D. Thigpen

I think Kurt we agree that the Saudi’s are going to pick up and I think it will be combination of existing rigs that will be moving in and also new rigs and we are uniquely positioned because we can actually we manufacture our land rigs in Dubai, in Jebel Ali Free Zone there. And so we are able to respond much more quickly that’s been one of the reasons we done that because of the Saudi’s want to rig and we have to make it any place, any other part of the world to be in China or even in the U.S. you know you have to add 60 to 90 days just for transportation charges whereas that we can do it in Dubai which is what we do once we are done, it moves cross broader near in the Saudi Arabia in three days.

And so we think that’s going to be a very attractive market over the next year or so I think Russia is a more long-term market but I think its probably also a more sustainable market. And its one I think that’s going keep on giving for period of time. I think Latin America on land rigs is going to be a little bit more exciting then the people realize I think PEMEX for sure is going to be doing some things towards the end of the year, I think that will be both on and offshore I think you are seeing some things in Columbia and even the [Venice] make noise that maybe something could happen there but – but we are prior little bit more bullish on Latin America right now then have been and I think that something its probably in the second half of the year phenomenon as well.

Kurt Hallead – RBC Capital Markets

Thanks Pete and if I can just one more here just on the FPSO as indicated obviously initially that’s going to be margin diluted to historical rig tech average margins and as you get more volume that will improve. So what’s the crossover point in terms of volumes and how close do you think the FPSO margins can get to historical Rig Tech averages.

Merrill A. Miller Jr.

It’s a mix a little bit we have product within that offering that are accretive to the mix overall, but others are diluted, right now the – the sum of the business is still dilutive, but we’re still at least a few quarters away from having that – this would be accretive to FPSOs, and I would add, I mean it would take us much larger volume through that business to turn that corner, so that’s still ways off, but again very excited about the prospects out there. Pete mentioned this is sort of a go-to solution for producing out of the deepwater, and we have a great offering of equipment and technologies into that trend. So over the long haul very, very excited about what lay ahead.

Kurt Hallead – RBC Capital Markets

That’s great. I appreciate your color. Thanks.

Jeremy Thigpen

Okay, Kurt thank you.

Clay C. Williams

Thank you

Operator

Thank you. Our last question comes from Bill Sanchez from Howard Weil. Please go ahead.

William D. Sanchez – Howard Weil Inc.

Thanks. Good morning.

Jeremy Thigpen

Hey, Bill

Clay C. Williams

Good morning

William D. Sanchez – Howard Weil Inc.

Jeremy, if I – I perhaps missed it in the prepared comments, but I think you gave as far as the revenue recognition backlog Rig Tech, $2 billion in 2Q, and I think you said $3.7 million in the back half of the year, I miss the ‘14 expectation. Do you have that number?

Jeremy Thigpen

Let me check, I didn’t say that on the call. I don’t think it’s…

William D. Sanchez – Howard Weil Inc.

Or else simply you can do offline, but I know Clay, you’ve typically given it in the past.

Clay C. Williams

We’re actually (inaudible) in a minute, aren’t we Bill? I’ll have it.

William D. Sanchez – Howard Weil Inc.

Yeah. We are…

Clay C. Williams

$2.3 billion.

William D. Sanchez – Howard Weil Inc.

$2.3 billion do, I’m sorry that’s the 2014 total?

Clay C. Williams

No, no. I’ll get back…

William D. Sanchez – Howard Weil Inc.

Okay.

Clay C. Williams

I got it right here. It is $4.9 billion.

William D. Sanchez – Howard Weil Inc.

$4.9 billion. Okay, great. Thank you for that. And then I guess, just one thing, just so I can just understand in terms of the margin progression here on the Rig Tech, Clay, it’s like from your comment, I think it was confirmed in the early Q&A that margins in Rig Tech in the next couple of quarters going to be relatively flat, I believe with 1Q level, but yet, I think Jeremy you…

Jeremy D. Thigpen

No, no, sorry Bill, flat with Q4.

William D. Sanchez – Howard Weil Inc.

Flat with Q4, okay.

Jeremy D. Thigpen

It’s a 20% to 23% range.

William D. Sanchez – Howard Weil Inc.

Okay, right. Okay, and that in the [ducktails] and because I was, it seems like if because of the 22% to 23% range certainly on average for the year, you have to see a step-up in 2Q so that makes sense. If not, you are going to have to have a pretty significant increase in 4Q margins, so. Okay, so 4Q 2012 is 2Q, is basically good proxy for 2Q 2013 in Rig Tech?

Jeremy D. Thigpen

Yeah.

William D. Sanchez – Howard Weil Inc.

Okay. And one question just on PSS, is it too early to say given the mix of the product lines, yeah, I know there is a backlog component to that business that perhaps your lag rig count recover here to some extent, but this 2Q likely represent the trough from the margin expectation?

Jeremy D. Thigpen

At this point time we think so, I mean, it’s, we’re certainly get positive comments from our customers, the service companies and the drilling contractors and typically we lag their positive comments by about a quarter. So, our expectation is that the rig activity does start to pickup at some point this quarter, even if it’s not a lot that our customers are start working to their inventories and start placing orders for our consumable products again in services.

William D. Sanchez – Howard Weil Inc.

Okay, great. I appreciate your time. Thank you.

Jeremy D. Thigpen

Thank you.

Merrill A. Miller Jr.

Bill, thank you.

Operator

Thank you. I will now turn the call back to Pete Miller for closing comments.

Merrill A. Miller Jr.

Thank you, Don. And we appreciate everybody calling in today and we look forward to talking to you when we announce our second quarter earnings and I hope all of you can get an opportunity to come to the Offshore Technology Conference. Thank you very much.

Operator

Thank you ladies and gentlemen. Additional replay of today’s call will be available on www.nov.com for 30 days. This concludes today’s conference, thank you for participating you may now disconnect.



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