Welcome to NorAm Drilling's second quarter results presentation and conference call. My name is Marius Furuly, and I'm the Director of Investor Relations and Strategy here at NorAm. We will do this presentation today through Teams, and I therefore ask everyone to stay on mute during the entire session. After we have concluded our presentation, we will do a Q&A, where everyone can ask a question by clicking the raise hand function in Teams. I will, I will explain this when we come to the Q&A, but the most important thing is that you stay on mute during the entire presentation. Before we begin, I ask you to pay proper attention to slide two, where we have the disclaimer section.
This forward-looking statements made during this presentation are based upon various assumptions, many of which are based, in turn, upon further assumptions, including NorAm management's examination of historical operating trends, data contained in the company's records, and other data available from third parties. Although NorAm believes that these assumptions were reasonable when made, because some assumptions are inherently subject to significant uncertainties and contingencies, which are difficult or impossible to predict and are beyond its control, NorAm cannot give assurances that it will achieve or accomplish these expectations, beliefs, or intentions. No presentations or warranty, express or implied, is made to any information contained herein, and no liability whatsoever is accepted as to any errors, omissions, or misstatements. The company does not accept any liability whatsoever arising directly or indirectly from the use of these materials.
With that done, I would like to welcome NorAm's CEO and CFO on the line from Houston, Texas, Marty L. Jimmerson.
Marius, thank you. We appreciate those who have joined us today to review the second quarter results for NorAm Drilling. We will highlight our strong second quarter financial results and also provide some commentary on the current market trends and our outlook. On page three, our revenue increased to a record $35 million, up 7% from the previous quarter. Our clean day rate increased by 6% to $31,500 per day, which more than offset a slight decline in utilization down to 98.9%.
Adjusted EBITDA, defined as earnings before interest, taxes, depreciation, and amortization, and adding back non-cash stock option expenses, increased to a record $14.4 million, up 6% from the previous quarter, excluding the $1.4 million Employee Retention Credit refund that we received in the previous quarter and reported as a reduction to payroll expense. We reported net income after tax of $9.5 million, or $0.22 per fully diluted share. Our current revenue backlog, as of today, is $18 million. Let's turn to recent events and our outlook on page four. As a result of WTI and natural gas volatility, the U.S. rig count has declined approximately 19% so far this year. The Permian rig counts have held up better and only declined 7% year-to-date, primarily due to less volatility in WTI.
During the second quarter, we started to see private operator activity decline in the Permian as a result of the lower WTI prices. Additionally, larger operators have been focused on maintaining budget and production discipline and have announced a few M&A transactions, which has resulted in some consolidation, and rig demand accordingly started to decline during the second quarter, which has started to impact day rates for renewals and any new opportunities to put rigs to work. Based on current customer discussions and improved WTI pricing, we remain encouraged that market fundamentals are intact, and we expect rig demand to improve later this year and into 2024. Natural gas prices have also stabilized and are moving back towards $3 per Mcf.
With WTI above $80, and most operators wanting to ensure that they have rigs contracted for their 2024 budget plans, we agree with public comments from analysts, and other contract drillers that the U.S. and Permian rig counts should bottom in the third quarter. If natural gas prices reach $3 per Mcf or move even higher, that would further increase demand, in our opinion. We do currently have three rigs hot stacked, and those are actively being marketed. We remain committed to pursuing opportunities that result in economics that justify operating our high-end super-spec rigs. We believe that most drillers are maintaining the same financial discipline as us on pricing, and this strategy will prove to pay off in the long run. Now, turning to the market fundamentals.
On the left, as you can see, the DUCs have continued to decline. We believe operators will need to increase drilling to maintain their production over time. Our high-end quality super-spec rigs continue to demonstrate our efficient results and superior operating performance. As you can see on the chart on the right, we continue to drill more wells per month versus the Permian average. Additionally, as verified by independent research providers such as Enverus, through their ranking of the most efficient drillers, NorAm was ranked third of the top 20 U.S. drillers in terms of average feet drilled per day in the first quarter of 2023. We continue to believe that our pure fleet of super-spec rigs will continue to be in high demand. With that, I'll turn it back to Marius.
Thank you. Thank you, Marty. Over to the P&L and operational metrics. The second quarter was a stable quarter in terms of utilization-based day rates and ordinary expenses, and day rates were up 6% quarter-on-quarter. All of our rigs were employed through the quarter, and we achieved the utilization rate of 98.9% in the quarter, down from 99.3% in the previous. Total operating income grew from $32.7 million to $35 million, primarily due to higher day rates, but also an increase in billable revenues relating to reimbursables. Ordinary operating expenses were in line with expectations, and going forward, we expect limited changes in daily operating costs of our active rigs.
We anticipate that the rigs that, that is being stacked from Q3 onwards will have a daily cost of about $10,000 per, per rig. Our payroll expenses were up quarter-on-quarter, but that's an effect of relating to Q1, which was positively affected by a $1.4 million reduction from the U.S. government's Employee Retention Credit refund received in the quarter. Over to the balance sheet, we had close to $12 million of cash at the end of the quarter, and the company is debt-free and has a stated policy to distribute all earnings exceeding our self-declared minimum liquidity level of $11 million. Those $11 million are including the RCF, which we have with the U.S. bank of $4.5 million.
At the end of this quarter, we had liquidity well above this, this threshold, and we had no drawn amounts under the revolving credit facility. With the potential reactivation of rigs, the company expects to use some of this excess liquidity to fund working capital requirements for putting the rigs back in the market without comprising, compromising our strategy of paying monthly dividends to our shareholders. Though, we may have temporary working capital effects, reducing free cash flow between months in case of simultaneous reactivation of all three rigs. Over to the cash flow statement, we had an increase of close to $3 million in accounts receivables due to higher day rates and timing effects, which we expect to reverse in the third quarter with lower day rates.
To summarize, NorAm is a pure drilling operator with 11 super-spec rigs solely focused on drilling in Permian, the basin with the by far largest energy reserves in the U.S., and where over 50% of active U.S. rigs are working today. The company has a lean management setup, and an industry-low break-even level. The company is also 100% debt-free and applies a full payout strategy with monthly distributions. Since December 2022, the company has distributed close to 9.5 NOKs per share, and the latest monthly distribution of $0.09 per share represent a 24% dividend yield if analyzed. We would now like to open up for questions, and I would like everyone that would like to ask a question to press the Raise Hand function to notify us that you would like to ask a question.
When your name is called out, please unmute yourself to ask the question. You can also use the chat function to ask questions, if you are sitting in a place where you can't use your microphone.
Okay.
We will have our first question from Eirik Aasbø of Carnegie.
Let me call you back. Let me call you back, okay?
Sorry about that, Eric. Please, unmute yourself.
Oh, okay. There we go. Hi, hi, hi, guys. Hi, Marius. Hi, hi, Marty. I have a question on the, on the three idle rigs. Do you have any firm, firm leads now? Also for the ones that have work now, what's your confidence on, on rolling over work, for those?
Yeah, good question, and good afternoon. We, we are in active conversations with multiple operators, to put the remaining three rigs back to work. All indications are that most operators are looking to pick up... if they are picking up rigs, that it'll be in the fourth quarter. Some are talking-
Yeah
... October, others are talking November, December, so that they'll ensure that they have rigs for their 2024 budget. We are having a couple conversations with operators who are trying to accelerate that timing into September. I would just encourage you to stay tuned. I wanna continue to reiterate that, you know, we are focused on the economic opportunity and not just the lowest rate possible to work our rigs.
Mm-hmm.
Regarding the current backlog of contracted rigs, we remain confident and encouraged that we'll continue to renew those rigs. By all indications, we believe that the renewal rates for incumbent working rigs are higher than the spot rate to try and put a rig back to work that's currently stacked.
Great. Thank you. Just one more. I think you might have touched on it during the presentation, Marty, but what, what kind of oil price do you think we need to, to, like, really, really kickstart activity and, and the rig count in, in, in the Permian again?
Yeah, great question, and kind of my sense is, and, and this kind of is backed by conversations that we're currently having. If WTI can stay at 80 and above.
Mm
It's gonna drive the privates to pick up rigs. That's the real that's really where the decline has been when WTI declined. I would, I would also add and reiterate that if nat gas gets to $3, we start to have a cold winter, you know, this LNG facility in Freeport here in Texas gets back online. If nat gas goes back to $3 or above, you're gonna see a flood of rigs go back to the Haynesville. I, yeah, I think we're to answer your question, I think we're there on WTI, and we're within striking distance on natural gas prices of, of kind of seeing an increase, significant increase in demand for rigs.
Okay, okay. Gotcha. Thank you very much, Marty.
Thank you.
We also have a question from from the chat here. I will read it up. It's from from Aldon: "What is the normal tax rate for the company, and when will this be in effect?
Marius, I'll take a stab at it. The normal tax rate, I hope, is 0. The good news is that we, we do have some NOLs in Norway, not as much as we do here in the U.S. We think we are gonna be, our NOLs are gonna shelter any cash tax expense in the U.S. for, you know, hopefully a long time, more than a year. We do pay a small amount of state tax-
Mm
... in Norway. Once our NOLs run out, we are subject to a 22%-
Mm
... tax rate. while we may get there sooner than later-
Mm
We're, we do have other alternatives that we can consider to mitigate that risk. But to answer the question, a Norway tax would be sooner than later, but don't think it'll be significant.
All right. Thank you for that. We also have a question from, from Sam: "What's what's the cost to reactivate the three-
Mm
... hot rigs?
Yeah, so with the way we're maintaining the rigs today, and they're, they're essentially fully crewed, there, there is no real reactivation cost other than from the time that we sign the contract to the time that, that the rig will start to mobilize to location. Instead of operating at $10,000-$12,000, on a fully burdened basis in the current hot stack mode, we would probably go to about $15,000, for those days while we're, we're preparing to move, and then once we're on location, we're probably operating on a fully burdened basis.
Mm
... of about $17,000 a day. From, typically speaking, you know, again, we are talking about, for example, with the first question, let's say an operator wants to get the rig on location on October the 1st. Here we are at nearing the end of August, so call that five weeks. I would say we'd probably have, as a good example, we'd probably have operating costs of about $10,000-$12,000 for two weeks. $15,000 for the remaining three weeks until we get on location. We do not anticipate needing to spend a significant amount of money, for, for upgrades or anything like that, so it, it's pretty modest.
Thank you, Marty. We have a question from John. "Do you have an overview of the rigs contracted and not like you had in the earlier quarterly reports?" I can answer that. The reason why we have discontinued to show this is that in principle, the average is what matters for the investors, and there could be differences between rigs. I mean, you have rigs that are... We have three different design on the Aura3 rigs, and there are some even though they are all equipped with the same capabilities, there are some differences, and we would not like to to show the... we don't want to confuse necessarily the market by showing it on a rig-by-rig basis.
The utilization and the average is what matters. We also like to keep some confidentiality with regards to to our customers, too. Another question here comes from Eric. He asks, "You may have the market fundamentals are intact and expected to improve later this year and into 2024. Could you please elaborate on why improve? They are. The fundamentals are already good," is his question.
Sorry, can you repeat that, Marius?
Yeah, it's. I think the question is with regarding the wording in the presentation that fundamentals are expected to improve later this year and into 2024. I expect this question refers more to what indicators we see that helps us...
Yeah
... think that the rig market is expected to improve rather than the oil markets and gas markets. Marty touched a little bit on the gas markets, but you can, you probably, probably have some, some indicators of why the rig market is looking better from later this year and into 2024 than what it has been the past three months.
Yeah, let's go back to, you know, first of all, the drilling, but uncompleted, wells are continuing to decline. Operators are going to need to continue to drill to maintain their current production levels. They're absolutely committed to their own discipline, as we talked about earlier, of maintaining their production, but also returning excess cash flow to their shareholders. So it's, it's, I call it the treadmill. That's the key fundamental, that there's no easy DUCs to go after to maintain the production, and therefore, they're gonna have to drill. Given the pullback in the rig count, we do not believe that they can maintain, the operators as a whole can maintain their production at the current levels.
Then, then we can get in and have a cup of coffee and talk about the global macro environment. You know, when China starts kicking in, and OPEC+ holds to their supply cuts, if, if there, if there's a kickstart in the global economy, we're gonna be short on available oil.
It's also fair to say that some of the drop in- the recent drops in rig count has been somewhat driven by large public M&A transactions, which has temporarily... Yeah, you can, you can elaborate, Marty, why, why public M&A has temporarily reduced the rig counts.
Yeah, yeah, that's a great question. There have been two. We were actually part of one of those, where Ovintiv acquired three different small E&Ps. We had a rig working for Black Swan. They consolidated, I believe there were five rigs that were part of the acquisition that were contracted. All five of those were released, we've subsequently put that rig to work for another operator. There was a recent announcement of PDC Energy being acquired by Chevron. I believe they had two rigs that are under contract, that the majors, when they make these acquisitions of these very small operators, they try and get synergies by working with fewer rigs.
That's, that's what has happened, and it, it, that is part of the decline.
Another question on the chat from Tore: "For the idle rigs, will you keep your rig crew, and for how long, if it takes longer to reactivate?
Yeah, Tore, as you know the business as, as well as we do, you know, we're optimistic that we're gonna put these rigs back to work. Can I tell you that the full crews on all three rigs are out there today? No. Could we have a couple guys either filling in or, or helping clean an active rig that you know, that's working today? Yeah, but you know, that's a benefit of having, having excess people. You know, we remain encouraged that these rigs are going to get back to work here in the fourth quarter, if not before.
I'm not gonna make any kind of claims as to when we would start releasing crews until we determine that we do not see a positive environment for us to put our rigs back to work.
All right. I'll, I'll, I'll... We have a, we have a question in from Truls. Please go ahead, Truls.
Hi, guys. Hi, Marty. Hi, Marius. Thank you for taking my question. Just on another topic, really, I mean, as, as you think about the industry and going back quite a few years, there's been a lot of improvements in drilling efficiency, time to, to drill a well, et cetera, et cetera. Not too long ago, Exxon came out with sort of an ambition of approaching this, call it more scientific or more industrialization in terms of improving, call it economics or efficiencies. Have you seen anything in terms of, let's call it improved efficiency or otherwise, worth noting over the last many months?
Yeah, Truls, great to catch up. You know, the answer is there, there probably are some efficiencies, but is it moving the needle, and is it the talk of the town? We're not hearing it. It's, it's really kind of business as usual. You know, what the operators are looking for are the efficient rigs that can do the multiple wells per pad without having to do a mini move. Their, their operators, and, and this is... We're very proud of this. We, we completed our, our, the, the construction of our first transformer, for one of our customers to connect to the grid. That's gaining traction. You know, that's more of a question of when the operator connects the power for later on.
Do they do it before they drill or after they drill? That's a key item. Then, you know, obviously, kind of when the market softens, then you get a bunch of, you know, the, the, the pendulum's on the other side of the, the, the bar, and, you know, everybody's gonna ask for extra equipment that they don't necessarily need. It's, it's just more about the kind of standard, how much equipment can they get and how efficient are you, that's helping them out right now.
Okay. Thank you, guys.
Thank you.
Thank you, Truls. We have some questions on the chat here, too, from Sam. "Could the current day rates incentivize new-build orders for rigs?" I'm not sure, Marty, but when was the last time there was new-build orders, true new-build orders in this industry?
Probably back when I had a lot more hair than I do today. It's, it's quite a while. Any kind of, quote, "new builds" that I'm aware of have been a kind of, a competitor, putting components together, from inventory that they have. We are aware that there's been two rigs that, that were, that tried to be auctioned off, that I believe that deal failed or that did not have any bidders. I believe there's been another competitor, or a private equity shop who's, who's trying to put some rigs together, but there's, there's no indication. What I would... To answer your question, A, there's not been any new builds. We do not think current day rates justify, or the, the...
I, I can't find any money to go build a new rig at the current day rates, and I'm not sure that the current day rates justify, my, my large competitive contract drillers, trying to put a rig back to work that requires any significant investment, primarily because they've already got rigs that are stacked that are, quote, "super-spec rigs." I, I think this is kind of building up to be potential positive momentum, once there's an increase in demand on rigs that will hopefully drive rates up.
Yeah. A somewhat related question from [Mr. Sjoeros, or Sjoeros Capital: "Could you please comment on your view of the rig supply side? Is NorAm or other drillers adding rigs?" We just, we just discussed it briefly, of course. But in terms of new-build orders, there are, there are no new rigs. In terms of adding rigs, putting rigs together into the market, for the time being, no. Last time there was a significant number of new rigs being taken out from the yards and into this market was probably at the end of last year, early this year. For the time being, the large drillers, Nabors, H&P, Patterson, has all seen a small decline in their active fleet.
For the time being, it's, it's no no additional supply to this market other than what has been dropped since, yeah, late, since early this year. Another question from Andrew, how much longer do you expect the monthly distributions to be classified as capital reductions? That's a, that's a good question. We will not go out with any round numbers on that, but we have ample capacity, according to our auditors, to continue to distribute our distributions as capital reductions for close to the current share price. From, from Sam, "What % of super-spec rigs are stacked?
Yeah, year- to- date, there's been a drop in total rig activity of 140 rigs. We do believe that the good portion of those are super-spec rigs. There may be kind of 70 or 80 rigs that have been dropped that are either super-spec or easily convertible to super-spec with some investment. That excludes the super-spec rigs that were sitting on the beach before that required even more significant activity. If you think about it, it's really been the rigs in the Haynesville and to a lesser extent, the other basins that have been dropped as a result of the natural gas prices.
Some of those rigs have been mobilized to the Permian, that are sitting there. That doesn't prevent other rigs from coming or going back, so. The key is the majority of any super-spec rigs that have been stacked are owned by the Big Four contract drillers, H&P, Patterson, Precision, Nabors. Again, as best I can tell, you know, they, they, they, they have the same approach that we believe makes sense, which is, you know, there's a certain day rate that makes sense to, to work your rigs, and justify operating and working your rigs. I don't think.
It doesn't feel like, they're gonna return to what happened, you know, in the past, which is chase, chase market share at the cost of, a, a lower day rate.
Another question from Magnus: "What could be some ripple effects on your industry and company if you get a crisis in China?" Feel free to shoot in Marty, but what's important to remember is that, of course, when you drill for oil in the Permian, you produce oil for not only the U.S., but for the whole global market. Permian has been one of the fastest growing production areas in the world since for the last 10 years. I think in terms of additional production, we see now the production curve is expecting to flat out because rig count has dropped. Activity has been lower lately, and that translates into lower production.
It's, it's more of on a supply and demand balance on the oil markets, rather than China having a crisis which is affecting the demand for rigs. However, China is, of course, a big, a big driver of global, global oil demand. It, it all, it's all about the equilibrium in the global oil markets. We don't watch particular nations, when we assess, assess our industry, we, assess the global oil market.
From Sam: "When might it make sense to scrap a super-spec rig?
Ooh, great question, Sam. Let me answer it this way. We don't think any of NorAm's rigs are gonna be candidates for scrapping anytime soon. I mean, they, we've completed our upgrades and very proud of our rigs. We do think that there are some super-spec rigs, or some rigs that are, quote, "upgradeable" to super-spec rigs that are probably starting to get to a point to where it's gonna cost more, and the economic return of the investment required to upgrade and either refurbish don't justify putting it back into operation. There has been some scrapping of rigs that I'm aware of. I think it's fairly small, but these are older mechanical SCR rigs that maybe could have been upgraded or not.
I think there'll come a point to where if, if a driller has to put a walking system on a rig, or put a significant upgrade into a third and fourth engine that they don't have, a high torque top drive, high, you know, high torque pipe, it may become economically unreasonable to do. We could start to see some of that, but I, I suspect that a lot of these candidates for scrapping will probably just sit on the beach, and our, our competitors will probably use as much of that equipment as spare inventory.
Yeah, in previous cycles, that has happened, and that's the reason for why some of the rigs that were being added back to the market were costed a lot of money because they lacked equipment that was taken off from the rigs to replace on the other, other defunct spares at other rigs previously. It's, it's, it's a market cycle where you draw down on your idle rigs to keep the running rigs working without having too much costs. Seems that there are no further questions this time. I will, we'll end the Q&A session there. If you have any further questions, please reach out to us, and we can take this, take questions also over email and, and, on separate calls.
I would like to thank you, thank you to everyone that dialed in, and thanks to the NorAm family of workers, employees, for their efforts done in the quarter. We look forward to the next earnings call in November.