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Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2012

OR

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (D) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                    to                    

Commission File Number 000-51630

 

 

UNION DRILLING, INC.

(Exact name of registrant as specified in its charter)

 

 

 

DELAWARE   16-1537048
(State or other jurisdiction of
incorporation or organization)
  (I.R.S. Employer
Identification Number)

4055 International Plaza

Suite 610

Fort Worth, Texas

  76109
(Address of principal executive offices)   (Zip Code)

817-735-8793

(Registrant’s telephone number, including area code)

www.uniondrilling.com

(Registrant’s website)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer   ¨      Accelerated filer    x
Non-accelerated filer   ¨   (Do not check if a smaller reporting company)    Smaller reporting company    ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).    Yes  ¨    No  x

As of November 2, 2012, there were 25,228,816 shares of common stock, par value $0.01 per share, of the registrant issued and 21,398,534 shares outstanding.

 

 

 


Table of Contents

UNION DRILLING, INC.

FORM 10-Q

TABLE OF CONTENTS

 

          Page  

PART I. FINANCIAL INFORMATION

     1   
ITEM 1.    FINANCIAL STATEMENTS (UNAUDITED)      1   
   CONDENSED BALANCE SHEETS      1   
   CONDENSED STATEMENTS OF OPERATIONS      2   
   CONDENSED STATEMENTS OF CASH FLOWS      3   
   CONDENSED STATEMENT OF STOCKHOLDERS’ EQUITY      4   
   NOTES TO CONDENSED FINANCIAL STATEMENTS      5   
ITEM 2.    MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS      14   
ITEM 3.    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK      21   
ITEM 4.    CONTROLS AND PROCEDURES      21   

PART II. OTHER INFORMATION

     22   
ITEM 1.    LEGAL PROCEEDINGS      22   
ITEM 1A.    RISK FACTORS      22   
ITEM 6.    EXHIBITS      22   

SIGNATURE

     23   

INDEX TO EXHIBITS

     24   


Table of Contents

PART I. FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS

Union Drilling, Inc.

Condensed Balance Sheets

(in thousands, except share data)

 

     September 30,
2012
    December 31,
2011
 
     (unaudited)        

Assets:

    

Current assets:

    

Cash and cash equivalents

   $ 7      $ 7   

Accounts receivable (net of allowance for doubtful accounts of $538 and $1,409 at September 30, 2012 and December 31, 2011, respectively)

     38,883        45,387   

Inventories

     944        832   

Income tax recoverable

     302        368   

Prepaid expenses, deposits and other receivables

     1,379        3,027   

Deferred taxes

     1,137        1,239   
  

 

 

   

 

 

 

Total current assets

     42,652        50,860   

Intangible assets (net of accumulated amortization of $1,447 and $1,221 at September 30, 2012 and December 31, 2011, respectively)

     753        979   

Property, buildings and equipment (net of accumulated depreciation of $238,709 and $212,173 at September 30, 2012 and December 31, 2011, respectively)

     314,992        289,429   

Other assets

     572        743   
  

 

 

   

 

 

 

Total assets

   $ 358,969      $ 342,011   
  

 

 

   

 

 

 

Liabilities and Stockholders’ Equity:

    

Current liabilities:

    

Accounts payable

   $ 14,596      $ 21,513   

Current portion of notes payable for equipment

     267        120   

Financed insurance premiums

     192        1,057   

Customer advances

     36        —     

Accrued expenses and other liabilities

     11,612        10,811   
  

 

 

   

 

 

 

Total current liabilities

     26,703        33,501   

Revolving credit facility

     100,569        67,813   

Long-term notes payable for equipment

     —          70   

Deferred taxes

     43,371        42,972   
  

 

 

   

 

 

 

Total liabilities

     170,643        144,356   

Stockholders’ equity:

    

Common stock, par value $.01 per share; 75,000,000 shares authorized; 25,228,816 shares issued at both September 30, 2012 and December 31, 2011

     252        252   

Additional paid in capital

     173,437        172,465   

Retained earnings

     34,707        35,828   

Treasury stock; 3,830,282 and 2,080,700 shares at September 30, 2012 and December 31, 2011, respectively

     (20,070     (10,890
  

 

 

   

 

 

 

Total stockholders’ equity

     188,326        197,655   
  

 

 

   

 

 

 

Total liabilities and stockholders’ equity

   $ 358,969      $ 342,011   
  

 

 

   

 

 

 

See accompanying notes to condensed financial statements.

 

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Table of Contents

Union Drilling, Inc.

Condensed Statements of Operations

(Unaudited, in thousands, except share and per share data)

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2012     2011     2012     2011  

Revenues

        

Total revenues

   $ 63,963      $ 66,744      $ 196,678      $ 182,663   

Cost and expenses

        

Operating expenses

     42,040        45,463        137,816        131,956   

Depreciation and amortization

     11,830        13,328        35,812        38,740   

Impairment charge

     —          808        —          808   

General and administrative

     8,257        7,023        23,234        21,523   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total cost and expenses

     62,127        66,622        196,862        193,027   
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating income (loss)

     1,836        122        (184     (10,364

Interest expense, net

     (532     (392     (1,534     (1,059

(Loss) gain on disposal of assets

     (170     625        628        1,068   

Other income (loss)

     259        (138     620        16   
  

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) before income taxes

     1,393        217        (470     (10,339

Income tax expense (benefit)

     907        (400     651        (2,926
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss)

   $ 486      $ 617      $ (1,121   $ (7,413
  

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) per common share:

        

Basic

   $ 0.02      $ 0.03      $ (0.05   $ (0.32
  

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

   $ 0.02      $ 0.03      $ (0.05   $ (0.32
  

 

 

   

 

 

   

 

 

   

 

 

 

Weighted-average common shares outstanding:

        

Basic

     21,398,534        23,191,345        22,074,231        23,188,169   
  

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

     21,649,197        23,249,245        22,074,231        23,188,169   
  

 

 

   

 

 

   

 

 

   

 

 

 

See accompanying notes to condensed financial statements.

 

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Union Drilling, Inc.

Condensed Statements of Cash Flows

(Unaudited, in thousands)

 

     Nine Months Ended
September 30,
 
     2012     2011  

Operating activities:

    

Net loss

   $ (1,121   $ (7,413

Adjustments to reconcile net loss to cash flow provided by operating activities:

    

Depreciation and amortization

     35,812        38,740   

Impairment charge

     —          808   

Amortization of share-based compensation expense

     972        950   

Provision for doubtful accounts

     42        219   

Gain on disposal of assets

     (628     (1,068

Expense (benefit) for deferred taxes

     501        (2,493

Changes in operating assets and liabilities:

    

Accounts receivable

     6,462        (6,649

Inventories

     (112     185   

Income tax recoverable

     66        (448

Prepaid and other assets

     1,819        1   

Accounts payable

     (2,540     753   

Accrued expenses and other liabilities

     837        2,355   
  

 

 

   

 

 

 

Cash flow provided by operating activities

     42,110        25,940   

Investing activities:

    

Purchases of machinery and equipment

     (67,117     (66,971

Proceeds from sale of machinery and equipment

     2,089        1,551   
  

 

 

   

 

 

 

Cash flow used in investing activities

     (65,028     (65,420

Financing activities:

    

Borrowings on line of credit

     239,192        219,169   

Repayments on line of credit

     (206,436     (179,928

Cash overdrafts

     130        863   

Borrowings - other debt

     250        240   

Repayments - other debt

     (1,038     (918

Exercise of stock options

     —          57   

Purchases of treasury stock

     (9,180     —     
  

 

 

   

 

 

 

Cash flow provided by financing activities

     22,918        39,483   
  

 

 

   

 

 

 

Net increase in cash and cash equivalents

     —          3   

Cash and cash equivalents at beginning of period

     7        4   
  

 

 

   

 

 

 

Cash and cash equivalents at end of period

   $ 7      $ 7   
  

 

 

   

 

 

 

See accompanying notes to condensed financial statements.

 

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Table of Contents

Union Drilling, Inc.

Condensed Statement of Stockholders’ Equity

(Unaudited, in thousands, except share data)

 

     Common Stock      Additional
Paid In

Capital
     Retained
Earnings
    Treasury
Stock
    Total  
     Shares     $                            

Balance at January 1, 2012

     23,148,116      $ 252       $ 172,465       $ 35,828      $ (10,890   $ 197,655   

Share-based compensation

     —          —           972         —          —          972   

Purchase of treasury stock

     (1,749,582     —           —           —          (9,180     (9,180

Net loss

     —          —           —           (1,121     —          (1,121
  

 

 

   

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Balance at September 30, 2012

     21,398,534      $ 252       $ 173,437       $ 34,707      $ (20,070   $ 188,326   
  

 

 

   

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

See accompanying notes to condensed financial statements.

 

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Table of Contents

UNION DRILLING, INC.

NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS

September 30, 2012

(Unaudited)

 

1. Business and Basis of Presentation

Union Drilling, Inc. (“Union Drilling,” “Company” or “we”) provides contract land drilling services and equipment to oil and natural gas producers in the United States. The accompanying unaudited condensed financial statements relate solely to the accounts of Union Drilling, Inc. The interim period condensed financial statements, including the notes thereto, have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring adjustments) necessary for a fair presentation have been included. The results for interim periods are not necessarily indicative of results for a full year. These interim period condensed financial statements should be read in conjunction with the financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2011.

To conform to the presentation of the September 30, 2012 statement of cash flows, certain balances have been reclassified on the comparative September 30, 2011 statement.

On September 24, 2012, we entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Sidewinder Drilling Inc. (“Sidewinder”) and Fastball Acquisition Inc. (“Fastball”), a wholly-owned subsidiary of Sidewinder, under which Sidewinder will acquire all of the Company’s outstanding shares of common stock for $6.50 per share. The merger is expected to be consummated during the fourth quarter of 2012. On October 5, 2012, a tender offer was filed with the Securities and Exchange Commission by Sidewinder, detailing the purchase of the Company. The tender offer is set to expire at 12:00 midnight (New York time) at the end of the day on November 2, 2012, unless the tender offer is extended.

The Merger Agreement contains representations and warranties and covenants customary for a transaction of this nature, including a covenant of the Company to conduct its business in the ordinary course and not to take certain specified actions prior to consummation of the merger. The Merger Agreement can also be terminated by us or Sidewinder under certain other circumstances. In connection with certain terminations, we will be required to pay Sidewinder a termination fee equal to $5.0 million, and in connection with certain other terminations, Sidewinder will be required to pay us a termination fee equal to $10.0 million. Additionally, the Company will be required to pay the reasonable expenses of Sidewinder in an amount not to exceed $2.0 million in connection with certain terminations.

Beginning on October 3, 2012, two putative class action lawsuits were filed in the District Court of Tarrant County, Texas against the Company, its board of directors, Sidewinder and Fastball challenging the proposed transaction. The two actions, which have been consolidated under the caption In re Union Drilling, Inc. Shareholder Litigation, Cause No. 342-262036-12 (the “Consolidated Action”), allege that the Company's board of directors breached their fiduciary duties to the public shareholders of the Company by approving the proposed transaction and by failing to take steps to maximize the value of the Company, and that the Company, Sidewinder, and Fastball aided and abetted such breaches. The actions also allege that the Schedule 14D-9 filed by the Company on October 5, 2012 omitted certain material information. On October 18, 2012, the parties to the Consolidated Action reached an agreement in principle providing for the settlement of the action on the terms and conditions set forth in a memorandum of understanding, dated October 18, 2012 (the “MOU”). Pursuant to the MOU, the defendants made and publicly filed certain supplemental disclosures in an amendment to the Schedule 14D-9 in exchange for dismissal of the Consolidated Action on the merits and a customary release of defendants. The proposed settlement is conditioned on, among other things, consummation of the proposed transaction, completion of certain confirmatory discovery, class certification, and final approval by the Court following notice to the Company’s shareholders.

 

5


Table of Contents

On October 19, 2012, another purported stockholder of the Company filed a lawsuit in the United States District Court for the Northern District of Texas, captioned Lewis. v. O'Neill, No: 3:12-cv-04213-G, against the same defendants who are named in the Consolidated Action. The lawsuit filed in federal court contains similar allegations as set forth in the Consolidated Action, and asserts individual and class action claims under state law and the Securities Exchange Act of 1934. On October 24, 2012, the parties to the federal action filed an agreed motion to stay that action pending the outcome of the final settlement hearing in the Consolidated Action. It is possible that other similar lawsuits may be filed, and following the consummation of the merger, would be the successor company’s liability.

During the three and nine months ended September 30, 2012, we incurred $1.4 million and $1.7 million of acquisition-related expenses that have been included in general and administrative expenses in the accompanying condensed statements of operations.

We periodically assess the need for an impairment of our property, buildings and equipment whenever events or changes in circumstances indicate that their carrying value may not be recoverable. We performed an impairment test at September 30, 2012, to determine whether our carrying value exceeds the estimated undiscounted future cash flows. Cash flows under a held and used methodology were estimated by management considering factors such as expectations of future industry trends and the impact on dayrates, utilization and operating expenses; historical performance of the asset; the remaining expected life of the asset; any cash investment required to make the asset more marketable; suitability, specification and size of the rig; and terminal value, as well as overall competitive dynamics. No impairment was required for the three and nine months ended September 30, 2012. Use of different assumptions could result in an impairment charge.

 

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Table of Contents
2. Recent Accounting Pronouncements

In June 2011, ASU No. 2011-05, Comprehensive Income (Topic 220); was issued. ASU No. 2011-05 is intended to create consistency between U.S. GAAP and International Financial Reporting Standards (“IFRS”) on the definition of comprehensive income, and how to present comprehensive income. Under ASU No. 2011-5, for companies that report items of other comprehensive income, there is a requirement to present comprehensive income along with net income in either a single continuous statement or two separate but consecutive statements. Effective January 1, 2012, we adopted ASU No. 2011-05 which did not have an impact to our financial position or results of operation. There were no differences between comprehensive income (loss) and reported net income (loss) in the periods presented.

 

3. Fair Value Measurement

The Fair Value Measurements and Disclosures Topic of the FASB Codification utilizes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three broad levels. The following is a brief description of those three levels:

 

Level 1:

   Observable inputs such as quoted prices for identical assets or liabilities in active markets;

Level 2:

   Other inputs that are observable directly or indirectly, such as quoted prices for similar assets or liabilities or market-corroborated inputs;

Level 3:

   Unobservable inputs for which there is little or no market data and which require us to develop our own assumptions about how market participants would price the assets or liabilities.

We use the following methods and assumptions in estimating our fair value disclosures for financial instruments. The carrying amount of cash and cash equivalents approximates fair value due to the short-term maturity of these instruments. For accounts and other receivables, accounts payable, financed insurance premiums and accrued liabilities, we believe that recorded amounts approximate fair value due to the relatively short maturity period. Further, the pricing mechanisms in our debt agreements combined with the short-term nature of the equipment financing arrangements result in the carrying values of these obligations approximating their respective fair values.

We do not have any financial instruments for which estimates of fair value utilize Level 3 inputs.

 

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Table of Contents
4. Accounts Receivable

Accounts receivable consist of the following (in thousands):

 

     September 30,
2012
    December 31,
2011
 

Billed receivables

   $ 38,709      $ 45,320   

Unbilled receivables

     860        1,743   

Reserve for sales credits

     (148     (267
  

 

 

   

 

 

 

Total receivables

     39,421        46,796   

Allowance for doubtful accounts

     (538     (1,409
  

 

 

   

 

 

 

Net receivables

   $ 38,883      $ 45,387   
  

 

 

   

 

 

 

Unbilled receivables represent recorded revenue for contract drilling services performed that is billable by the Company at future dates based on contractual payment terms, and is anticipated to be billed and collected in the quarter following the balance sheet date.

 

5. Related Party Transactions

On March 9, 2012, we entered into a six month drilling contract with Jones Energy, Ltd. (“Jones”), an entity in which Metalmark Capital LLC has an equity ownership interest. Two managing directors of Metalmark Capital LLC are members of our Board of Directors and also serve on Jones’ Board of Directors. This drilling contract, which ended September 20, 2012, resulted in $958,000 and $2.7 million of revenue for the three and nine months ended September 30, 2012, respectively. The related accounts receivable balance with Jones at September 30, 2012, was $725,000.

 

6. Property, Buildings and Equipment

Major classes of property, buildings and equipment are as follows (in thousands):

 

     September 30,
2012
    December 31,
2011
 

Land

   $ 1,935      $ 1,935   

Buildings

     3,058        2,921   

Drilling and related equipment

     478,646        448,715   

Vehicles

     15,198        12,484   

Furniture and fixtures

     190        190   

Information systems\

     4,176        3,786   

Leasehold improvements

     126        126   

Construction in progress

     50,372        31,445   
  

 

 

   

 

 

 
     553,701        501,602   

Accumulated depreciation

     (238,709     (212,173
  

 

 

   

 

 

 
   $ 314,992      $ 289,429   
  

 

 

   

 

 

 

For the three months ended September 30, 2012, additions to drilling equipment included $5.9 million in payments toward three new electric rigs, the first of which was placed into service in September 2012, the second of which was mobilizing at September 30, 2012, and the remaining rig is under construction and is expected to be delivered in November 2012. Other capital additions for the three months ended September 30, 2012, included generators, hydraulic catwalks, and topdrives, as well as other rig upgrades and capital additions.

 

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During the nine months ended September 30, 2012, additions to drilling equipment included progress payments of $28.6 million toward the purchase and construction of four new rigs, two of which were completed and placed into service in the Fayetteville and Marcellus shales. Of the remaining two rigs, one was mobilizing as of September 30, 2012, and the remaining rig is under construction and expected to be delivered in November 2012. Other capital additions for the nine months ended September 30, 2012, included topdrives, mudpumps, generators and hydraulic catwalks, iron roughnecks and drillpipe and collars as well as other rig upgrades and capital additions.

During the nine months ended September 30, 2012, and 2011, we capitalized $889,000 and $402,000, respectively, of interest costs incurred during the construction periods of certain drilling equipment.

 

7. Accrued Expenses and Other Liabilities

A detail of accrued expenses and other liabilities is as follows (in thousands):

 

     September 30,
2012
     December 31,
2011
 

Payroll and bonus

   $ 3,655       $ 3,900   

Workers’ compensation

     2,145         2,373   

Medical claims

     1,628         1,099   

Deferrred revenue

     800         1,925   

Other taxes

     1,238         483   

Other

     2,146         1,031   
  

 

 

    

 

 

 
   $ 11,612       $ 10,811   
  

 

 

    

 

 

 

Other taxes include sales and use, franchise and property taxes.

 

8. Debt Obligations

On April 27, 2011, we entered into an Amended and Restated Revolving Credit and Security Agreement with PNC Bank, for itself and as agent for a group of lenders (“Credit Facility”). The Credit Facility matures April 27, 2016 and provides for a borrowing base equal to $150 million. Amounts outstanding bear interest, depending upon facility usage, at either (i) the higher of the Federal Funds Open Rate plus 50 to 100 basis points or PNC Bank’s base commercial lending rate (4.0% at September 30, 2012) or (ii) LIBOR plus 225 to 275 basis points (2.7% at September 30, 2012). Interest on outstanding loans is due monthly for domestic rate loans and at the end of the relevant interest period for LIBOR loans. Depending upon our facility usage, we are assessed an unused line fee of 25 to 50 basis points on the available borrowing capacity, which was $45.2 million at September 30, 2012. There is a $10.0 million sublimit for letters of credit issued under the Credit Facility. We will incur a prepayment penalty if the Credit Facility is terminated prior to April 2014 unless there is a change in control, such as the acquisition of the Company by Sidewinder, as more fully discussed in Note 1. As of September 30, 2012, we had a loan balance of $100.6 million under the Credit Facility, and an additional $4.2 million of the total capacity was utilized to support our letter of credit requirements.

In general, the Credit Facility is secured by substantially all of our assets. The forced liquidation value of our assets serving as collateral is determined at least annually by an independent appraisal, with adjustments for acquisitions and dispositions between appraisals. The Credit Facility contains affirmative and negative covenants and also provides for events of default typical for such an agreement. Among the affirmative covenants are requirements to maintain a specified tangible net worth. As of September 30, 2012, our actual tangible net worth was $187.6 million compared to the required minimum tangible net worth of $159.0 million. Among the negative covenants are restrictions on major corporate transactions, incurrence of indebtedness and amendments to our organizational documents. Events of default would include a change in control and any change in our operations or a condition which has a material adverse effect. As discussed in Note 1, the Company is expected to be acquired by Sidewinder during the fourth quarter of 2012, and at closing, Sidewinder intends to repay all borrowings under the credit facility. As of September 30, 2012, we were in compliance with all of our covenants.

 

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We use our Credit Facility to pay for rig acquisitions and for working capital requirements and it may also be used, subject to certain conditions, to repurchase our common stock and/or pay a cash dividend. See Note 10 for discussion of our share repurchase program.

In addition, the Company has entered into various equipment-specific financing agreements with various third-party financing institutions. The terms of these agreements have initial terms ranging from 18 to 24 months. As of September 30, 2012, and December 31, 2011, the total outstanding balance under these arrangements was approximately $267,000 and $190,000, respectively, and is classified, according to payment date, in current portion of notes payable for equipment and long-term notes payable for equipment in the accompanying balance sheets. At September 30, 2012, the stated interest rate on these borrowings is zero percent.

 

9. Commitments and Contingencies

From time to time, we are a party to claims, litigation or other legal or administrative proceedings that we consider to arise in the ordinary course of our business. While no assurances can be given regarding the outcome of these or any other pending proceedings, or the ultimate effect such outcomes may have, we do not believe we are a party to any legal or administrative proceedings which, if determined adversely to us, individually or in the aggregate, would have a material effect on our financial position, results of operations or cash flows.

As of September 30, 2012, we have agreements with Integrated Drilling Equipment Holdings, Inc. for the construction and completion of two new electric rigs and the remaining commitment associated with these rigs, and related equipment, along with a withhold payment for the first rig, is approximately $5.3 million.

 

10. Stockholders’ Equity

As of September 30, 2012, the number of authorized shares of common stock was 75,000,000 shares, of which 21,398,534 were outstanding, and 1,604,273 were reserved for future issuance through the Company’s equity based plans. The number of authorized shares of preferred stock was 100,000 shares at September 30, 2012. No shares of preferred stock were outstanding or reserved for future issuance.

On September 29, 2011, the Company’s Board of Directors approved the 2011 Union Drilling, Inc. Share Repurchase Program under which up to three million shares of the Company’s outstanding common stock may be repurchased. On June 8, 2012, we suspended this repurchase program; as such, no shares were repurchased during the three months ended September 30, 2012, and 1,749,582 shares were repurchased at an average price, including commission, of $5.25 for the nine months ended September 30, 2012.

 

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11. Earnings (Loss) Per Common Share

Basic earnings (loss) per share is based on the weighted-average number of common shares outstanding during the period. Diluted earnings (loss) per share includes the dilutive effect of stock options and restricted stock.

The following table presents a reconciliation of the numerators and denominators of basic earnings per share and diluted earnings per share computations for the three months ended September 30, 2012, and September 30, 2011 when the Company’s stock compensation awards were not antidilutive (in thousands, except share and per share data):

 

     Three Months Ended
September 30,
 
     2012      2011  

Net income

   $ 486       $ 617   
  

 

 

    

 

 

 

Weighted average shares outstanding

     21,398,534         23,191,345   

Incremental shares from assumed conversion of stock options and RSU’s

     250,663         57,900   
  

 

 

    

 

 

 

Weighted average and assumed incremental shares

     21,649,197         23,249,245   
  

 

 

    

 

 

 

Earnings per share:

     

Basic

   $ 0.02       $ 0.03   
  

 

 

    

 

 

 

Diluted

   $ 0.02       $ 0.03   
  

 

 

    

 

 

 

Basic earnings per share have been computed by dividing net income by weighted average shares outstanding.

Diluted earnings per share have been computed by dividing net income by weighted average and assumed incremental shares.

Approximately 1,198,000 and 630,000 weighted average options and restricted stock units to purchase shares of our common stock were excluded from the computation of diluted income per share for the three months ended September 30, 2012, and 2011, respectively, because the effect of including them would have been antidilutive.

Because we incurred a net loss in the nine months ended September 30, 2012, and September 30, 2011, basic and diluted loss per share for these periods were calculated as our net loss divided by the weighted average shares outstanding. Approximately 1,096,000 and 630,000 weighted average options and restricted stock units to purchase shares of our common stock were excluded from the computation of diluted loss per share for the nine months ended September 30, 2012, and 2011, respectively, because the effect of including them would have been antidilutive.

 

12. Management Compensation

Equity based plans

The Company has two equity based compensation plans, the Amended and Restated 2000 Stock Option Plan and the Amended and Restated 2005 Stock Incentive Plan. Given that more than 10 years have elapsed since the approval of the 2000 Stock Option Plan, no future stock option awards can be made under this plan. In addition to grants of incentive and non-qualified stock options to directors and employees, restricted stock and restricted stock units may also be granted under the Amended and Restated 2005 Stock Incentive Plan.

 

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For the three and nine months ended September 30, 2012, the Company recorded stock-based compensation expense of $328,000 ($209,000, net of tax) and $975,000 ($618,000, net of tax), respectively, which is included in general and administrative expense. For the three and nine months ended September 30, 2011, the Company recorded stock-based compensation expense of $318,000 ($207,000 net of tax) and $990,000 ($655,000 net of tax), respectively. Total unamortized stock-based compensation was $2.4 million at September 30, 2012, and will be recognized over a weighted average service period of 2.0 years.

Stock options. Stock options typically vest over a three or four year period and, unless earlier exercised or forfeited, expire on the tenth anniversary of the grant date. A summary of stock option activity for the nine months ended September 30, 2012 is as follows:

 

     Number
of

Shares
    Weighted
Average
Exercise
Price
     Weighted
Average
Remaining
Contractual
Term in Years
     Aggregate
Intrinsic
Value
 

Outstanding at January 1, 2012

     895,091      $ 9.80         

Granted

     25,000      $ 5.22         

Forfeited

     (4,500   $ 6.32         
  

 

 

   

 

 

       

Outstanding at September 30, 2012

     915,591      $ 9.70         5.3       $ 359,305   
  

 

 

   

 

 

    

 

 

    

 

 

 

Options exercisable at September 30, 2012

     749,735      $ 10.46         4.8       $ 293,125   
  

 

 

   

 

 

    

 

 

    

 

 

 

The weighted average fair value of options granted during the nine months ended September 30, 2012 was $3.47. The fair value of option grants is determined using the Black-Scholes option valuation model. The key input variables used in valuing these options were: risk free interest rate of 0.83%; stock price volatility of 84.97%; dividend yield of zero; and expected term of five years. No options were granted during the three months ended September 30, 2012 and no options were granted during the three and nine months ended September 30, 2011.

New shares of common stock are issued to satisfy options exercised. No stock options were exercised during the three and nine months ended September 30, 2012. During the three and nine months ended September 30, 2011, zero and 9,000 options, respectively, were exercised. Cash received from the exercise of options for the nine months ended September 30, 2011 was $57,000. The total intrinsic value of options exercised during the nine months ended September 30, 2011 was $29,000.

A summary of options outstanding as of September 30, 2012, is as follows:

 

     Options Outstanding      Options Exercisable  

Range of Exercise Prices

   Number
Outstanding
     Weighted
Average Years
of Remaining
Contractual
Life
     Weighted
Average
Exercise
Price
     Number
Outstanding
     Weighted
Average
Exercise
Price
 

$3.80 to $9.89

     457,936         6.5       $ 5.89         292,080       $ 5.71   

$12.75 to $14.62

     457,655         4.0       $ 13.50         457,655       $ 13.50   
  

 

 

          

 

 

    
     915,591               749,735      
  

 

 

          

 

 

    

Restricted stock awards. Restricted stock awards consist of restricted stock unit grants of our common stock and are time vested over three to seven years and for a certain award granted to our Chief Executive Officer (“CEO”) contain a performance requirement. We recognize compensation expense on a straight-line basis over the vesting period. The fair value of restricted stock unit awards is determined based on the closing price of our shares on the grant date. As of September 30, 2012, there was $2.0 million of total unrecognized compensation cost related to unvested restricted stock awards. The cost is expected to be recognized over a weighted average period of 2.2 years.

 

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As of September 30, 2012, 367,000 restricted stock units were outstanding, at a weighted average grant date fair value of $12.37 per unit. No restricted stock units were granted during the three and nine months ended September 30, 2012, and no restricted stock unit awards vested. During the nine months ended September 30, 2012, 3,000 restricted stock units were forfeited at a weighted average grand date fair value of $7.10.

Of the outstanding restricted stock unit awards, 200,000 restricted stock units are subject to both performance and service criteria, of which the performance criteria for 50,000 restricted stock units were vested as of September 30, 2012.

As part of the Merger Agreement, as more fully described in Note 1, all outstanding stock options and restricted stock units will be cancelled. In consideration for this cancellation, each option holder will receive an amount in cash, for each share of the Company’s common stock subject to an option outstanding at the time of the merger’s completion, equal to the product obtained by multiplying (x) the aggregate number of shares underlying each stock option held by an option holder and (y) $6.50, less the per share exercise price for such option; each restricted stock unit holder will receive $6.50 per outstanding restricted stock unit.

Employee retirement plan

The Company has a 401(k) plan available to all eligible employees. Company contributions to the plan are discretionary. The Company made matching cash contributions of $107,000 and $294,000 for the three and nine months ended September 30, 2012, respectively, and $105,000 and $279,000 during the three and nine months ended September 30, 2011, respectively.

 

13. Income Taxes

Income tax expense for the three months ended September 30, 2012, was $907,000 at an effective tax rate of 65.1% of pre-tax book income. Income tax expense for the nine months ended September 30, 2012, was $651,000 at an effective rate of (138.5)% of pre-tax book loss. Income tax expense for the three months ended September 30, 2011, was $400,000, which represented an effective rate of (184.3)% of pre-tax book income. Income tax benefit for the nine months ended September 30, 2011, was $2.9 million which represented an effective rate of 28.3% of pre-tax book loss. These rates differ from the statutory rate of 35% primarily due to state income taxes, permanent book/tax differences such as those associated with the 50% deduction limitation on per diem payments for meals, and non-cash compensation.

At September 30, 2012, and December 31, 2011, we did not have any unrecognized tax benefits.

Interest and penalties related to uncertain tax positions are classified as interest expense and general and administrative expenses, respectively. There were no interest and penalties related to uncertain tax positions for the three or nine months ended September 30, 2012. During the three and nine months ended September 30, 2011, the Company recognized interest cost reversals of $22,500 and $17,500 in interest expense, respectively, related to unrecognized tax benefits.

The Company files U.S. federal income tax returns and income tax returns in various state jurisdictions. The tax years 2006 to 2011 remain open to examination by the major taxing jurisdictions to which we are subject. In addition, tax years 1999, 2000, 2002 and 2003 remain open due to utilized losses in some jurisdictions.

 

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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

This management’s discussion and analysis of financial condition and results of operations (“MD&A”) section of our Quarterly Report on Form 10-Q discusses our results of operations, liquidity and capital resources, and certain factors that may affect our future results, including economic and industry-wide factors. You should read this MD&A in conjunction with our condensed financial statements and accompanying notes included under Part I, Item 1, of this Quarterly Report, as well as with our Annual Report on Form 10-K for the fiscal year ended December 31, 2011.

Statements we make in the following MD&A discussion and in other parts of this report that express a belief, expectation or intention, as well as those which are not historical fact, are forward-looking statements within the meaning of the federal securities laws and are subject to risks, uncertainties and assumptions. These forward-looking statements may be identified by the use of words such as “expect,” “anticipate,” “believe,” “estimate,” “potential” or similar words. These matters include statements concerning management’s plans and objectives relating to our operations or economic performance and related assumptions, including general economic and business conditions and industry trends, the continued strength or weakness of the contract land drilling industry in the geographic areas in which we operate, decisions about onshore exploration and development projects to be made by oil and gas companies, the highly competitive nature of our business, our future financial performance, including availability, terms and deployment of capital, the continued availability of qualified personnel, and changes in, or our failure or inability to comply with, government regulations, including those relating to workplace safety and the environment. Although we believe that the expectations reflected in these forward-looking statements are reasonable, we can give no assurance that such expectations will prove to have been correct. Further, we specifically disclaim any duty to update any of the information set forth in this report, including any forward-looking statements. Forward-looking statements are made based on management’s current expectations and beliefs concerning future events and, therefore, involve a number of assumptions, risks and uncertainties, including the risk factors described in Part II. Item 1A, “Risk Factors,” below. Management cautions that forward-looking statements are not guarantees, and our actual results could differ materially from those expressed or implied in the forward-looking statements.

Company Overview

Union Drilling, Inc. (“Union Drilling,” “Company” or “we”) provides contract land drilling services and equipment, primarily to oil and natural gas producers in the United States. In addition to drilling rigs, we provide the drilling crews and most of the ancillary equipment needed to operate our drilling rigs.

On September 24, 2012, we entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Sidewinder Drilling Inc. (“Sidewinder”) and Fastball Acquisition Inc. (“Fastball”), a wholly-owned subsidiary of Sidewinder, under which Sidewinder will acquire all of the Company’s outstanding shares of common stock for $6.50 per share. See Note 1 “Business and Basis of Presentation” of the unaudited condensed financial statements for further information.

Key Indicators of Financial Performance for Management

Key performance measurements in our industry are rig utilization, revenue per revenue day and operating expenses per revenue day. Revenue days for each rig are days when the rig is earning revenues under a contract, which is usually a period from the date the rig begins moving to the drilling location until the rig is released from the contract. We compute rig utilization rates by dividing revenue days by total available days during a period. Total available days are the number of calendar days during the period that we have owned and marketed the drilling rig.

 

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The following table summarizes management’s key indicators of financial performance.

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2012     2011     2012     2011  

Revenue days

     3,335        3,868        10,429        10,847   

Average number of marketed rigs

     50.3        70.8        50.0        70.9   

Marketed rig utilization rates

     72.0     59.4     76.4     56.0

Revenue per revenue day

   $ 19,179      $ 17,255      $ 18,859      $ 16,840   

Operating expenses per revenue day

   $ 12,606      $ 11,754      $ 13,215      $ 12,165   

Drilling margin per revenue day

   $ 6,573      $ 5,501      $ 5,644      $ 4,675   

EBITDA (in thousands)

   $ 13,755      $ 14,745      $ 36,876      $ 30,268   

Our business is substantially dependent on and affected by the level of U.S. land-based oil and natural gas exploration and development activity. Since the global economic crisis in 2008, oil prices have rebounded while natural gas prices have not. Since that time, we experienced improvement in our marketed rig utilization rates as well as improvement in our revenue per revenue day due to upgrades in our drilling fleet, and a shift to oil drilling. Our operating expenses per revenue day have also increased due to more complex drilling required for unconventional and shale plays, higher wages across certain of our markets, an enhanced focus on retention and safety initiatives, and in 2012, as a result of certain relocation costs, as several of our rigs transitioned from primarily natural gas drilling to oil and liquids-rich areas.

Average number of marketed rigs represents the average number of rigs we owned and marketed during the period. On September 15, 2011, we sold a marketed rig in a private transaction. Additionally, during December 2011, we sold 20 of our marketed rigs in an auction, which decreased the number of our marketed rigs at December 31, 2011 to 50.

EBITDA is earnings before net interest, income taxes, depreciation and amortization and non-cash impairment. We believe EBITDA is a useful measure in evaluating financial performance because it is used by external users, such as investors, commercial banks, research analysts and others, to assess: (1) the financial performance of Union Drilling’s assets without regard to financing methods, capital structure or historical cost basis, (2) the ability of Union Drilling’s assets to generate cash sufficient to pay interest costs and support its indebtedness, and (3) Union Drilling’s operating performance and return on capital as compared to those of other entities in our industry, without regard to financing or capital structure. EBITDA is not a measure of financial performance under generally accepted accounting principles. However, EBITDA is a common alternative measure of operating performance used by investors, financial analysts and rating agencies. A reconciliation of EBITDA to net earnings is included below. EBITDA as presented may not be comparable to other similarly titled measures reported by other companies (in thousands).

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2012      2011     2012     2011  

Calculation of EBITDA:

         

Net income (loss)

   $ 486       $ 617      $ (1,121   $ (7,413

Impairment charge

     —           808        —          808   

Interest expense, net

     532         392        1,534        1,059   

Income tax expense (benefit)

     907         (400     651        (2,926

Depreciation and amortization

     11,830         13,328        35,812        38,740   
  

 

 

    

 

 

   

 

 

   

 

 

 

EBITDA

   $ 13,755       $ 14,745      $ 36,876      $ 30,268   
  

 

 

    

 

 

   

 

 

   

 

 

 

 

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Drilling margin represents contract drilling revenues less contract drilling costs. We believe that drilling margin is a useful measure for evaluating financial performance, although it is not a measure of financial performance under generally accepted accounting principles. However, drilling margin is a common measure of operating performance used by management, investors and financial analysts. A reconciliation of drilling margin to operating income is included below. Drilling margin as presented may not be comparable to other similarly titled measures reported by other companies (in thousands, except day and per day data).

 

     Three Months Ended
September 30,
     Nine Months Ended
September 30,
 
     2012      2011      2012     2011  

Calculation of drilling margin:

          

Operating income (loss)

   $ 1,836       $ 122       $ (184   $ (10,364

Depreciation and amortization

     11,830         13,328         35,812        38,740   

Impairment charge

     —           808         —          808   

General and administrative

     8,257         7,023         23,234        21,523   
  

 

 

    

 

 

    

 

 

   

 

 

 

Drilling margin

   $ 21,923       $ 21,281       $ 58,862      $ 50,707   

Revenue days

     3,335         3,868         10,429        10,847   

Drilling margin per revenue day

   $ 6,573       $ 5,501       $ 5,644      $ 4,675   

Critical Accounting Policies and Estimates

Our accounting policies that are critical or the most important to understand our financial condition and results of operations and that require management to make the most difficult judgments are described in our 2011 Annual Report on Form 10-K. There have been no material changes in these critical accounting policies.

Results of Operations

Our operations primarily consist of drilling oil or natural gas wells for our customers under either daywork contracts and, to a much lesser extent, footage contracts. The contract terms we offer generally depend on the location, depth and complexity of the well to be drilled; the on-site drilling conditions; the type of equipment used; the duration of the work to be performed; and the competitive forces of the market. In most instances, our contracts provide for additional payments related to rig mobilization and demobilization, as well as reimbursement of certain out-of-pocket costs.

Statements of Operations Analysis

The following table provides selected information about our operations (in thousands).

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2012      2011     2012      2011  

Revenues

   $ 63,963       $ 66,744      $ 196,678       $ 182,663   

Operating expenses

     42,040         45,463        137,816         131,956   

Depreciation and amortization

     11,830         13,328        35,812         38,740   

Impairment

     —           808        —           808   

General and administrative expenses

     8,257         7,023        23,234         21,523   

Interest expense, net

     532         392        1,534         1,059   

Other income (loss) and gain (loss) on disposal of assets

     89         487        1,248         1,084   

Income tax expense (benefit)

     907         (400     651         (2,926

 

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Revenues. Our revenues decreased by $2.8 million, or 4%, during the three months ended September 30, 2012, compared to the same period in 2011. This decrease was primarily due decreased utilization, given the decline in natural gas prices, as revenue days decreased to 3,335 during the three months ended September 30, 2012 from 3,868 during the same period in 2011. This decrease was offset by an increase in revenue per revenue day to $19,179 during the three months ended September 30, 2012, from $17,255 for the same period in 2011, primarily due to the addition of three new rigs in 2011 and two new rigs in 2012. These rigs had a higher average dayrate than certain operating rigs in 2011.

The $14.0 million, or 8%, increase in revenues for the nine months ended September 30, 2012, compared to the nine months ended September 30, 2011, was due to the increase in dayrates. Dayrates increased to $18,859 during the nine months ended September 30, 2012, from $16,840 during the same period in 2011. Revenue per revenue day increased due to the addition of three new rigs in 2011 and two new rigs in 2012. These rigs had a higher average dayrate than certain operating rigs in 2011; additionally, we sold certain smaller rigs in an auction held in December 2011. This increase was partially offset by a decrease in utilization as revenue days decreased to 10,429 from 10,847 during the nine months ended September 30, 2012, compared to the same period in 2011, respectively.

Operating expenses. Our operating expenses decreased by $3.4 million or 8%, during the three months ended September 30, 2012, compared to the same period in 2011, due to the decrease in utilization, as described above. This decrease was offset by an increase in operating costs per day to $12,606 for the three months ended September 30, 2012, from $11,754 for the three months ended September 30, 2011. The increase was due to higher employment costs, safety initiatives, retention and training costs.

Our operating expenses increased $5.9 million or 4% during nine months ended September 30, 2012, compared to the same periods in 2011, due to the increase in operating costs per day. Operating costs per day increased to $13,215 for the nine months ended September 30, 2012, compared to $12,165 during the nine months ended September 30, 2011. The increase was primarily due to higher employment costs, increased costs related to safety initiatives, retention efforts and training costs, and as a result of certain relocation costs as several of our rigs transitioned to oil and liquids rich areas.

Depreciation and amortization. The decrease in depreciation and amortization expense during the three and nine months ended September 30, 2012, compared to the same periods in 2011, was due to the disposition of assets in an auction held in December 2011.

Impairment. There was no impairment during the three and nine months ended September 30, 2012. The impairment during the three and nine months ended September 30, 2011, was due to the decision in 2011 to auction certain of our older, smaller rigs.

General and administrative expenses. Our general and administrative expenses during the three and nine months ended September 30, 2012, compared to the same periods in 2011, increased $1.2 million, or 17%, and $1.7 million, or 8%, respectively. These increases were primarily attributable to legal and advisory costs related to the acquisition of Union Drilling by Sidewinder, as more fully described in “Company Overview.” Additionally, increases to general and administrative expenses include higher employment costs due to increased wages and increased property tax expense.

Interest expense, net. The increase in interest expense for the three and nine months ended September 30, 2012, compared to the same periods in 2011, was primarily attributable to the increase in the average outstanding balance of our revolving credit facility primarily in support of our rig building program.

Other income and gain (loss) on disposal of assets. Other income (loss) and gain (loss) on disposal of assets decreased by $398,000 for the three months ended September 30, 2012, compared to the same period in 2011, due to the sale of a marketed rig in a private transaction during the three months ended September 30, 2011. There were no such sales during the three months ended September 30, 2012.

Other income (loss) and gain (loss) on disposal of assets increased by $164,000 during the nine months ended September 30, 2012, compared to the same period in 2011, due to various sales of equipment.

 

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Table of Contents

Income tax expense (benefit). The increase in income tax expense during the three months ended September 30, 2012, and the decrease in income tax benefit for the nine months ended September 30, 2012, as compared to the same periods in 2011, was primarily due to a change in the effective tax rate, and the decrease in pre-tax loss for the nine months ended September 30, 2012. Our effective income tax rate of 65.1% and (138.5)% for the three and nine months ended September 30, 2012, respectively, differs from the federal statutory rate of 35% due to state income taxes and permanent book/tax differences such as those associated with the 50% deduction limitation on per diem meals expense and stock-based compensation.

Liquidity and Capital Resources

Our operations have historically generated sufficient cash flow to meet our requirements for debt service and equipment expenditures (excluding major business and asset acquisitions). Cash flow provided by operating activities during the first nine months of 2012 was $42.1 million compared to $25.9 million during the first nine months of 2011. This increase in cash flow from operating activities was primarily due to the decrease in net loss and the timing collections of accounts receivables.

Our cash flow from operations was primarily used to invest in new equipment.

During the first nine months of 2012 and 2011, cash used in investing activities totaled $65.0 million and $65.4 million, respectively. During the nine months ended September 30, 2012, additions to drilling equipment included progress payments of $28.6 million toward the purchase and construction of four new rigs, of which two were completed and placed into service in the Fayetteville and Marcellus shales. Of the remaining two rigs, one was mobilizing as of September 30, 2012 and the remaining rig is under construction and expected to be delivered in November 2012. Other capital additions for the nine months ended September 30, 2012, included topdrives, mudpumps, generators and hydraulic catwalks, iron roughnecks and drillpipe and collars as well as other rig upgrades and capital additions.

During the nine months ended September 30, 2011, additions to drilling equipment included progress payments of $23.6 million for four new rigs and payments of $5.3 million for the purchase of a 1,000 hp mechanical rig which deployed during June 2011. Other capital additions for the nine months ended September 30, 2011 included topdrives, mudpumps, iron roughnecks and drillpipe and collars, as well as other rig upgrades and capital additions. Additionally, during the nine months ended September 30, 2011, the Company also purchased office buildings, rig yards and surrounding land in West Texas and Arkansas for $800,000 and $1.2 million, respectively.

Cash flow provided by financing activities was $22.9 million in the first nine months of 2012, compared to $39.5 million of cash flow provided by financing activities for the first nine months of 2011. During the nine months ended September 30, 2012, we purchased 1,749,582 shares of our common stock for $9.2 million under a share repurchase program. On June 8, 2012, we suspended this program.

We believe cash generated by our operations and our ability to borrow the currently unused portion of our revolving credit facility of $45.2 million at September 30, 2012, after reductions for approximately $4.2 million outstanding letters of credit, should allow us to meet our routine financial obligations for the foreseeable future.

Sources of Capital Resources

Our rig fleet has grown from 12 rigs in 1997 to 51 marketed rigs at September 30, 2012. We have financed this growth with a combination of debt and equity financing, as well as operating cash flows. At September 30, 2012, our total debt to total capital was 35%.

See Note 8 “Debt Obligations” of the unaudited condensed financial statements for information on the Company’s debt agreements as sources of capital resources, such information being incorporated herein by reference.

 

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Uses of Capital Resources

For the three and nine months ended September 30, 2012, and 2011, the additions to our property and equipment consisted of the following (in thousands):

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2012     2011     2012     2011  

Land and buildings

   $ 200      $ 157      $ 371      $ 2,224   

Drilling and related equipment

     12,271        28,555        61,449        65,817   

Vehicles

     445        487        1,883        1,933   

Furniture and fixtures

     13        —          40        —     

Information systems

     12        336        145        481   
  

 

 

   

 

 

   

 

 

   

 

 

 

Property and equipment additions

     12,941        29,535        63,888        70,455   

Plus adjustments for non-cash transactions:

        

Cash paid in current period for prior period accruals

     5,815        2,869        6,006        2,616   

Current period accruals

     (2,777     (6,100     (2,777     (6,100
  

 

 

   

 

 

   

 

 

   

 

 

 

Cash used for purchases of machinery and equipment

   $ 15,979      $ 26,304      $ 67,117      $ 66,971   
  

 

 

   

 

 

   

 

 

   

 

 

 

For the three months ended September 30, 2012, additions to drilling equipment included $5.9 million in progress payments for rigs under construction. Other capital additions for the three months ended September 30, 2012, included generators and hydraulic catwalks, as well as other rig upgrades and capital additions.

During the nine months ended September 30, 2012, additions to drilling equipment included payments of $28.6 for rigs under construction. Other capital additions for the nine months ended September 30, 2012, included top drives, mudpumps, iron roughnecks, generators, hydraulic catwalks and drillpipe and collars, as well as other rig upgrades and capital additions.

For the three months ended September 30, 2011, additions to drilling equipment included payments of $19.0 million for rigs under construction. Other capital additions for the three months ended September 30, 2011, included rig enhancements, such as top drives, mud pumps and drawworks, as well as drillpipe as well as other rig upgrades and capital additions.

During the nine months ended September 30, 2011, additions to drilling equipment included progress payments of $23.6 million for rigs under construction. Other capital additions for the nine months ended September 30, 2011 included topdrives, mudpumps, iron roughnecks and drillpipe and collars, as well as other rig upgrades and capital additions. Additionally, during the nine months ended September 30, 2011, the Company also purchased office buildings, rig yards and surrounding land in West Texas and Arkansas for $800,000 and $1.2 million, respectively.

Working Capital

Our working capital was $15.9 million and $17.4 million at September 30, 2012, and December 31, 2011, respectively. Our current ratio, which we calculate by dividing our current assets by our current liabilities, was 1.6 at September 30, 2012, compared to 1.5 at December 31, 2011.

 

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The changes in the components of our working capital were as follows (in thousands):

 

     September 30,
2012
     December 31,
2011
     Change  

Cash and cash equivalents

   $ 7       $ 7       $ —     

Accounts receivable

     38,883         45,387         (6,504

Inventories

     944         832         112   

Income tax recoverable

     302         368         (66

Prepaid expenses, deposits and other receivables

     1,379         3,027         (1,648

Deferred taxes

     1,137         1,239         (102
  

 

 

    

 

 

    

 

 

 

Current assets

     42,652         50,860         (8,208

Accounts payable

     14,596         21,513         (6,917

Current portion of notes payable for equipment

     267         120         147   

Financed insurance premiums

     192         1,057         (865

Customer advances

     36         —           36   

Accrued expenses and other liabilities

     11,612         10,811         801   
  

 

 

    

 

 

    

 

 

 

Current liabilities

     26,703         33,501         (6,798
  

 

 

    

 

 

    

 

 

 

Working capital

   $ 15,949       $ 17,359       $ (1,410
  

 

 

    

 

 

    

 

 

 

The $6.5 million decrease in accounts receivable at September 30, 2012, compared to December 31, 2011, was primarily due to timing of customer receipts as well as decreased revenues for the three months ended September 30, 2012, compared to the three months ended December 31, 2011.

The $1.6 million decrease in prepaid expenses, deposits and other receivables at September 30, 2012, from December 31, 2011, was primarily due to collections received related to the auction held in December 2011, vendor rebates and an insurance claim, as well as scheduled amortization of prepaid insurance.

The $6.9 million decrease in accounts payable at September 30, 2012, from December 31, 2011, was primarily due to a decrease in operating expenses due to decreased utilization as well as timing of vendor payments.

The $865,000 decrease in financed insurance premiums at September 30, 2012, from December 31, 2011, was primarily due scheduled payments of our financed insurance premiums for the nine months ended September 30, 2012.

The $801,000 increase in accrued expenses and other liabilities at September 30, 2012, from December 31, 2011, is primarily due to accrued legal fees relating to the Company’s acquisition by Sidewinder, as more fully described in “Company Overview”.

Long-term Debt

Our long-term debt consisted of $100.6 million and $67.8 million of outstanding borrowings under our revolving credit facility at September 30, 2012, and December 31, 2011, respectively, as well as zero and $70,000 of outstanding borrowings related to long-term borrowing for equipment at September 30, 2012, and December 31, 2011, respectively.

 

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Contractual Obligations

On September 24, 2012, we entered into a definitive agreement and plan of merger, as more fully described in “Company Overview”.

Inflation

Inflation did not have a significant effect on our results of operations in any of the periods reported.

Off Balance Sheet Arrangements

We do not currently have any off balance sheet arrangements.

Recently Issued Accounting Standards

See Note 2 “Recent Accounting Pronouncements” of the unaudited condensed financial statements for recently issued accounting standards, such information being incorporated herein by reference.

 

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We are subject to market risk exposure related to changes in interest rates on our revolving credit facility, which provides for interest on borrowings at a floating rate. At September 30, 2012, we had $100.6 million outstanding debt on our revolving credit facility. Assuming no change in the net principal balance, a hypothetical increase or decrease of 100 basis points in the interest rate would have a corresponding increase or decrease in our interest expense of approximately $1.0 million.

 

ITEM 4. CONTROLS AND PROCEDURES

 

(a) Evaluation of Disclosure Controls and Procedures

Our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”)), which we refer to as disclosure controls, are controls and procedures designed with the objective of ensuring that information required to be disclosed in our reports filed under the Exchange Act, such as this quarterly report, is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms. Disclosure controls are also designed with the objective of ensuring that such information is accumulated and communicated to our management, including our CEO and CFO, as appropriate to allow timely decisions regarding required disclosure. There are inherent limitations to the effectiveness of any control system. A control system, no matter how well conceived and operated, can provide only reasonable assurance that its objectives are met. No evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected.

As of September 30, 2012, an evaluation was carried out under the supervision and with the participation of our management, including the CEO and the CFO, of the effectiveness of the design and operation of our disclosure controls. Based upon that evaluation, the CEO and the CFO concluded that, as of such date, the design and operation of these disclosure controls were effective to accomplish their objectives at the reasonable assurance level.

 

(b) Changes in Internal Control over Financial Reporting

No change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the fiscal quarter ended September 30, 2012 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

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PART II. OTHER INFORMATION

 

ITEM 1. LEGAL PROCEEDINGS

Refer to Note 9 “Commitments and Contingencies” of the unaudited condensed financial statements for information on legal proceedings, such information being incorporated herein by reference.

 

ITEM 1A. RISK FACTORS

There have been no material changes during the quarter ended September 30, 2012, in our “Risk Factors” as discussed in detail in our 2011 Annual Report on Form 10-K, except as described below. The risks described in our Form 10-K are not the only risks facing us. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may, especially in a volatile economic environment, materially adversely affect our business, financial condition and/or operating results.

Failure To Complete the Merger with Sidewinder Could Negatively Affect Us.

On September 24, 2012, we entered into the Merger Agreement with Sidewinder and Fastball as more fully described in Note 1 of the unaudited condensed financial statements included herein. There is no assurance that the conditions to the completion of the tender offer or consummation of the merger will be satisfied. In connection with the proposed merger with Sidewinder, we and our stockholders will be subject to several risks, including the following:

 

   

the current market price of our common stock reflects a market assumption that the tender offer will be consummated and the merger will occur, and a failure to consummate the tender offer or complete the merger could result in a decline in the market price of our common stock;

 

   

certain costs relating to the merger and the tender offer, such as legal and accounting fees, are payable by us whether or not the merger is completed, and we could incur unexpected additional costs in connection with the merger;

 

   

upon termination of the Merger Agreement under certain circumstances, the Company would be required to pay Sidewinder a termination fee equal to $5 million and upon certain other circumstances, the Company would be required to reimburse certain expenses of Sidewinder and Fastball in an amount not to exceed $2 million, which could adversely affect our financial results;

 

   

there may be substantial disruption to our business and a distraction of our management and employees from day-to-day operations because matters related to the merger may require substantial commitments of their time and resources, which could adversely affect our operations and financial results;

 

   

pending the closing of the merger, the Merger Agreement restricts the Company from engaging in certain actions without Sidewinder’s consent, which could prevent us from pursuing business opportunities that may arise prior to the closing of the merger, and the Company will be subject to business uncertainties that could adversely affect our operations and financial results;

 

   

if the Merger Agreement is required to be adopted by our stockholders and our stockholders do not vote to adopt the Merger Agreement, or if the merger is not consummated for any other reason, there can be no assurance that any other transaction acceptable to us will be offered or that our business, prospects, or results of operations will not be adversely affected;

 

   

the length of time necessary to consummate the merger may be longer than anticipated;

 

   

uncertainty about the effect of the merger may adversely affect our relationships with our employees, customers, suppliers, and other persons with whom we have business relationships; and

 

   

we are aware of a number of lawsuits that have been filed against us as a result of the announcement of the Merger Agreement and there may be additional lawsuits filed against us relating to the merger, and an adverse judgment in such lawsuits may increase the costs relating to the merger or prevent the merger from becoming effective or from becoming effective within the expected timeframe.

Items 2, 3, 4 and 5 are not applicable and have been omitted.

 

ITEM 6. EXHIBITS

A list of the exhibits required by Item 601 of Regulation S-K to be filed as a part of this report is set forth in the Index to Exhibits on page 25, which immediately precedes such exhibits.

 

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SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

    UNION DRILLING, INC.

Dated: November 2, 2012

   

/s/ Tina L. Castillo        

    Tina L. Castillo
   

Senior Vice President, Chief Financial Officer and Treasurer

(Principal Financial and Accounting Officer)

 

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UNION DRILLING, INC.

INDEX TO EXHIBITS

 

Exhibit
Number

         

Description

2.1            Agreement and Plan of Merger, dated as of September 24, 2012, by and among Union Drilling, Inc., Sidewinder Drilling Inc. and Fastball Acquisition Inc. (incorporated by reference to Exhibit 2.1 to our Current Report on Form 8-K filed on September 28, 2012)
2.2            Tender and Voting Agreement, dated as of September 24, 2012, by and between Sidewinder Drilling Inc. and Union Drilling Company LLC. (incorporated by reference to Exhibit 2.2 to our Current Report on Form 8-K filed on September 28, 2012)
2.3            Tender and Voting Agreement, dated as of September 24, 2012, by and between Sidewinder Drilling Inc. and each of Christopher D. Strong, Tina L. Castillo and David S. Goldberg. (incorporated by reference to Exhibit 2.3 to our Current Report on Form 8-K filed on September 28, 2012)
2.4            Contribution, Non-Tender and Support Agreement, dated as of September 24, 2012 by and between Sidewinder Drilling Inc., Wolf Marine S.A. and Lucky Star Ltd. (incorporated by reference to Exhibit 2.4 to our Current Report on Form 8-K filed on September 28, 2012)
2.5            Contribution, Non-Tender and Support Agreement, dated as of September 24, 2012 by and between Sidewinder Drilling Inc. and Steven A. Webster. (incorporated by reference to Exhibit 2.5 to our Current Report on Form 8-K filed on September 28, 2012)
3.1            Form of Amended and Restated Certificate of Incorporation of Union Drilling (incorporated by reference to Exhibit 3.1 to our Registration Statement on Form S-1 (File No. 333-127525) filed on August 15, 2005).
3.2            Form of Amended and Restated Bylaws of Union Drilling (incorporated by reference to Exhibit 3.1 to our Form 8-K (File No. 000-51630) filed on August 9, 2007).
31.1*            Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 filed herewith.**
31.2*            Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 filed herewith.**
32.1*            Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 filed herewith.**
32.2*            Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 filed herewith.**
101            Financial statements from the quarterly report on Form 10-Q of Union Drilling, Inc. for the quarter ended September 30, 2012, filed November 2, 2012, formatted in XBRL; (i) the Condensed Statements of Operations, (ii) Condensed Balance Sheets, (iii) Condensed Statement of Stockholders’ Equity, (iv) the Condensed Statements of Cash Flows and (v) the Notes to Condensed Financial Statements.***

 

* Filed with this Report.
** This Certification shall not be deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to the liability of that section. This Certification shall not be deemed to be incorporated by reference into any filing of the Company under the Securities Act of 1933 or the Securities Exchange Act of 1934, each as amended, whether made before or after the date hereof, except to the extent that the Company specifically incorporates it by reference.
*** The XBRL-related information in Exhibit 101 shall not be deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to liability under that section and shall not be incorporated by reference into any filing or other document pursuant to the Securities Act of 1933, as amended, except as shall be expressly set forth by specific reference in such filing or document.
   Schedules and exhibits have been omitted pursuant to Item 601(b)(2) of regulation S-K. The Company agrees to furnish supplementally to the Securities and Exchange Commission a copy of any omitted schedule upon request.

 

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