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EX-31.2 - CFO CERTIFICATION - TESCO CORPexh312cfocert201410-qq2.htm
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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 June 30, 2014
o 
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: 001-34090

Tesco Corporation
(Exact name of registrant as specified in its charter)

Alberta
76-0419312
(State or Other Jurisdiction of
Incorporation or Organization)
(I.R.S. Employer
Identification No.)
3993 West Sam Houston Parkway North
Suite 100
Houston, Texas
77043-1221
(Address of Principal Executive Offices)
(Zip Code)
713-359-7000
(Registrant’s telephone number, including area code)
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 (§232.405 of this chapter) 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 definition of “accelerated filer,” “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large Accelerated Filer   o
Accelerated Filer   x
Non-Accelerated Filer   o
Smaller Reporting Company   ¨
Indicate by check mark whether registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes  ¨     No x
Indicate the number of shares outstanding of each of the issuer’s classes of common stock as of the latest practicable date.
Number of shares of Common Stock outstanding as of July 31, 2014:   40,085,792



TABLE OF CONTENTS
 
 
 
 
 
 
Page
PART I—FINANCIAL INFORMATION
 
 
 
Item 1.
Item 2.
Item 3.
Item 4.
 
PART II—OTHER INFORMATION
 
 
 
Item 1.
Item 1A.
Item 2.
Use of Proceeds
Item 5.
Other Information
Item 6.
 

Below is a list of defined terms that are used throughout this document:

TESCO’s Casing Drive System
 
 = CDS™ or CDS
TESCO’s Multiple Control Line Running System
 
 = MCLRS™ or MCLRS


A list of our trademarks and the countries in which they are registered is presented below:

Trademark
 
Country of Registration
TESCO®
 
United States, Canada
Casing Drive System™
 
United States, Canada
CDS™
 
United States, Canada
Multiple Control Line Running System™
 
United States, Canada
MCLRS™
 
United States, Canada

When we refer to “TESCO”, “we”, “us”, “our”, “ours”, or “the Company”, we are describing Tesco Corporation and our subsidiaries.
 



Caution Regarding Forward-Looking Information; Risk Factors
 
This report for the quarter ended June 30, 2014 ("Quarterly Report on Form 10-Q") contains forward-looking statements within the meaning of Canadian and United States securities laws, including the United States Private Securities Litigation Reform Act of 1995.  From time to time, our public filings, press releases, and other communications (such as conference calls and presentations) will contain forward-looking statements.  Forward-looking information is often, but not always, identified by the use of words such as “anticipate,” “believe,” “expect,” “plan,” “intend,” “forecast,” “target,” “project,” “may,” “will,” “should,” “could,” “estimate,” “predict,” or similar words suggesting future outcomes or language suggesting an outlook.  Forward-looking statements in this Quarterly Report on Form 10-Q include, but are not limited to, statements with respect to expectations of our prospects, future revenue, earnings, activities, and technical results.
 
Forward-looking statements and information are based on current beliefs as well as assumptions made by, and information currently available to, management concerning anticipated financial performance, business prospects, strategies, and regulatory developments.  Although management considers these assumptions to be reasonable based on information currently available to it, they may prove to be incorrect.  The forward-looking statements in this Quarterly Report on Form 10-Q are made as of the date they were issued and we do not undertake any obligation to update publicly or to revise any of the included forward-looking statements, whether as a result of new information, future events, or otherwise, except as required by applicable law.
 
By their very nature, forward-looking statements involve inherent risks and uncertainties, both general and specific, and risks that outcomes implied by forward-looking statements will not be achieved.  We caution readers not to place undue reliance on these forward-looking statements as a number of important factors could cause the actual results to differ materially from the beliefs, plans, objectives, expectations, anticipations, estimates, and intentions expressed in such forward-looking statements.
 
These risks and uncertainties include, but are not limited to, the impact of: changes in oil and natural gas prices; worldwide and domestic economic conditions on drilling activity and demand for and pricing of our products and services; other risks inherent in the drilling services industry (e.g. operational risks, potential delays or changes in customers’ exploration or development projects or capital expenditures, the uncertainty of estimates and projections relating to levels of rental activities, uncertainty of estimates and projections of costs and expenses, risks in conducting foreign operations, the consolidation of our customers, and intense competition in our industry); and risks associated with our intellectual property and with the performance of our technology.  These risks and uncertainties may cause our actual results, levels of activity, performance or achievements to be materially different from those expressed or implied by any forward-looking statements.  When relying on our forward-looking statements to make decisions, investors and others should carefully consider the foregoing factors and other uncertainties and potential events.
 
Copies of our Canadian public filings are available through SEDAR at www.sedar.com.  Our U.S. public filings are available through www.tescocorp.com and on EDGAR at www.sec.gov.
 
Please see Part I, Item 1A—"Risk Factors" of our Annual Report on Form 10-K for the year ended December 31, 2013 (“2013 Annual Report on Form 10-K”) and Part II, Item 1A—"Risk Factors" of this Quarterly Report on Form 10-Q for further discussion regarding our exposure to risks.  Additionally, new risk factors emerge from time to time and it is not possible for us to predict all such risk factors, nor to assess the impact such risk factors might have on our business or the extent to which any factor or combination of risk factors may cause actual results to differ materially from those contained in any forward-looking statements.  Given these risks and uncertainties, investors should not place undue reliance on forward-looking statements as a prediction of actual results.





PART I—FINANCIAL INFORMATION

Item 1.     Financial Statements.

 TESCO CORPORATION
Condensed Consolidated Balance Sheets
(in thousands)
 
 
June 30,
2014
 
December 31,
2013
Assets
(unaudited)
 
 
Current assets
 
 
 
Cash and cash equivalents
$
99,957

 
$
97,277

Accounts receivable trade, net of allowance for doubtful accounts of $3,415 and $3,006, respectively
132,899

 
142,584

Inventories, net
114,150

 
97,363

Income taxes recoverable
9,140

 
7,343

Deferred income taxes
6,096

 
6,483

Prepaid and other current assets
26,251

 
30,388

Total current assets
388,493

 
381,438

Property, plant, and equipment, net
205,098

 
204,908

Goodwill
34,401

 
32,732

Deferred income taxes
10,899

 
11,823

Intangible and other assets, net
7,235

 
6,778

Total assets
$
646,126

 
$
637,679

Liabilities and Shareholders’ Equity
 

 
 

Current liabilities
 

 
 

Current portion of long term debt
$
75

 
$
385

Accounts payable
45,593

 
45,566

Deferred revenue
15,024

 
21,289

Warranty reserves
2,038

 
2,393

Income taxes payable
4,282

 
5,863

Accrued and other current liabilities
29,609

 
35,489

Total current liabilities
96,621

 
110,985

Long term debt

 
27

Other liabilities
855

 
199

Deferred income taxes
8,736

 
9,494

Total liabilities
106,212

 
120,705

Commitments and contingencies (Note 11)

 

Shareholders’ equity
 

 
 

Common shares; no par value; unlimited shares authorized; 40,323 and 39,680 shares issued and outstanding, respectively
233,860

 
224,666

Retained earnings
270,553

 
256,807

Accumulated other comprehensive income
35,501

 
35,501

Total shareholders’ equity
539,914

 
516,974

Total liabilities and shareholders’ equity
$
646,126

 
$
637,679

 
 
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
 

1


TESCO CORPORATION
Condensed Consolidated Statements of Income (Unaudited)
(in thousands, except per share information)
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2014
 
2013
 
2014
 
2013
Revenue
 
 
 
 
 
 
 
Products
$
65,147

 
$
48,359

 
$
107,977

 
$
96,952

Services
79,959

 
80,609

 
158,527

 
159,112

 
145,106

 
128,968

 
266,504

 
256,064

Operating expenses
 
 
 
 
 
 
 
Cost of sales and services
 
 
 
 
 
 
 
Products
47,605

 
36,661

 
82,299

 
74,849

Services
63,123

 
62,210

 
124,322

 
126,093

 
110,728

 
98,871

 
206,621

 
200,942

Selling, general and administrative
13,344

 
13,754

 
27,278

 
26,501

Gain on sale of Casing Drilling

 
20

 

 
(1,464
)
Research and engineering
2,500

 
2,492

 
4,966

 
4,521

Total operating expenses
126,572

 
115,137

 
238,865

 
230,500

Operating income
18,534

 
13,831

 
27,639

 
25,564

Other expense (income)
 
 
 
 
 
 
 
Interest expense
229

 
405

 
918

 
(64
)
Interest income
(23
)
 
(31
)
 
(84
)
 
(54
)
Foreign exchange (gain) loss
(976
)
 
1,635

 
2,363

 
2,064

Other expense (income)
1

 
(964
)
 
7

 
(1,791
)
Total other expense (income)
(769
)
 
1,045

 
3,204

 
155

Income before income taxes
19,303

 
12,786

 
24,435

 
25,409

Income tax provision
6,563

 
2,557

 
8,678

 
6,344

Net income
$
12,740

 
$
10,229

 
$
15,757

 
$
19,065

Earnings per share:
 
 
 
 
 
 
 
Basic
$
0.32

 
$
0.26

 
$
0.39

 
$
0.49

Diluted
$
0.31

 
$
0.26

 
$
0.39

 
$
0.48

Dividends per share:
 
 
 
 
 
 
 
Basic
$
0.05

 
$

 
$
0.05

 
$

Weighted average number of shares:
 
 
 
 
 
 
 
Basic
40,175

 
38,988

 
39,963

 
38,960

Diluted
40,798

 
39,520

 
40,648

 
39,472


The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.


2



TESCO CORPORATION
Condensed Consolidated Statements of Cash Flows (Unaudited)
(in thousands)
 
 
Six Months Ended June 30,
 
2014
 
2013
Operating Activities
 
 
 
Net income
$
15,757

 
$
19,065

Adjustments to reconcile net income to net cash provided by (used for) operating activities:
 
 
 
Depreciation and amortization
20,089

 
20,229

Stock compensation expense
2,789

 
3,309

Bad debt expense
3,517

 
572

Deferred income taxes
(831
)
 
(25
)
Amortization of financial items
76

 
152

Gain on sale of operating assets
(1,721
)
 
(5,126
)
Changes in operating assets and liabilities:
 
 
 
Accounts receivable trade, net
6,168

 
7,707

Inventories
(14,777
)
 
(507
)
Prepaid and other current assets
4,376

 
3,445

Accounts payable and accrued liabilities
(13,065
)
 
(8,131
)
Income taxes recoverable
(3,378
)
 
(9,536
)
Other noncurrent assets and liabilities, net
1,146

 
(2,206
)
Net cash provided by operating activities
20,146

 
28,948

Investing Activities
 
 
 
Additions to property, plant and equipment
(19,250
)
 
(16,912
)
Cash paid for acquisitions, net of cash acquired
(5,000
)
 

Proceeds on sale of operating assets
3,344

 
5,174

Proceeds on sale of Casing Drilling, net of transaction costs

 
6,067

Other, net
(237
)
 
830

Net cash used for investing activities
(21,143
)
 
(4,841
)
Financing Activities
 
 
 
Issuances of debt

 
9,000

Repayments of debt
(337
)
 
(9,157
)
Proceeds from exercise of stock options
6,025

 
151

Dividend distribution
(2,011
)
 

Net cash provided by (used for) financing activities
3,677

 
(6
)
Change in cash and cash equivalents
2,680

 
24,101

Net cash and cash equivalents, beginning of period
97,277

 
22,014

Net cash and cash equivalents, end of period
$
99,957

 
$
46,115

Supplemental cash flow information
 
 
 
Cash payments for interest
$
230

 
$
288

Cash payments for income taxes
12,831

 
16,578

Cash received for income tax refunds
138

 
888

Property, plant and equipment accrued in accounts payable
282

 
783


The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

3



TESCO CORPORATION
Condensed Consolidated Statements of Shareholders’ Equity (Unaudited)
(in thousands)


 
Common stock shares
 
Common shares
 
Retained earnings
 
Accumulated other comprehensive income
 
Total
 
For the six months ended June 30, 2014
 
 
 
 
 
 
 
 
 
Balances at January 1, 2014
39,680

 
$
224,666

 
$
256,807

 
$
35,501

 
$
516,974

Net income

 

 
15,757

 

 
15,757

Dividend distribution

 

 
(2,011
)
 

 
(2,011
)
Stock compensation related activity
643

 
9,194

 

 

 
9,194

Balances at June 30, 2014
40,323

 
$
233,860

 
$
270,553

 
$
35,501

 
$
539,914

 
 
 
 
 
 
 
 
 
 
 
For the six months ended June 30, 2013
 
 
 
 
 
 
 
 
 
Balances at January 1, 2013
38,928

 
$
213,460

 
$
220,547

 
$
35,501

 
$
469,508

Net income

 

 
19,065

 

 
19,065

Stock compensation related activity
98

 
2,874

 

 

 
2,874

Balances at June 30, 2013
39,026

 
$
216,334

 
$
239,612

 
$
35,501

 
$
491,447

 

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.


4


TESCO CORPORATION
 
Notes to Unaudited Condensed Consolidated Financial Statements

Note 1—Nature of Operations and Basis of Preparation
 
Nature of Operations

We are a global leader in the design, manufacture, and service delivery of technology-based solutions for the upstream energy industry.  We seek to change the way wells are drilled by delivering safer and more efficient solutions that add value by reducing the costs of drilling for, and producing, oil and natural gas.  Our product and service offerings consist mainly of equipment sales and services to drilling contractors and oil and natural gas operating companies throughout the world.

Basis of Presentation
 
We prepared this Quarterly Report on Form 10-Q pursuant to instructions for quarterly reports required to be filed with the Securities and Exchange Commission (“SEC”).  Because this is an interim period filing presented using a condensed format, it does not include all information and footnotes normally included in annual financial statements prepared in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”).  You should read this report along with our Annual Report on Form 10-K for the year ended December 31, 2013, which contains a summary of our significant accounting policies and other disclosures.  The condensed consolidated financial statements as of June 30, 2014 and for the quarters and six months ended June 30, 2014 and 2013 are unaudited.  We derived the unaudited condensed consolidated balance sheet as of December 31, 2013 from the audited consolidated balance sheet filed in our 2013 Annual Report on Form 10-K.  In our opinion, we have made adjustments, all of which were normal recurring adjustments unless otherwise disclosed herein, that we believe are necessary for a fair statement of the balance sheets, results of operations, and cash flows, as applicable.

These unaudited condensed consolidated financial statements include the accounts of all consolidated subsidiaries after the elimination of all significant intercompany accounts and transactions. All references to US$ or $ are to U.S. dollars and references to C$ are to Canadian dollars.

Fair Value of Financial Instruments
 
We classify and disclose assets and liabilities carried at fair value in one of the following three categories:

Level 1 — quoted prices in active markets for identical assets and liabilities;
Level 2 — observable market based inputs or unobservable inputs that are corroborated by market data
Level 3 — significant unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions.

The following table summarizes the fair values and levels within the fair value hierarchy in which the fair value measurements fall for assets and liabilities measured on a recurring basis as of June 30, 2014 (in thousands):

 
 
 
Fair Value Measurements at Reporting Date Using
 
Total
 
Quoted Prices In Active Markets for Identical Assets
(Level 1)
 
Significant Other Observable Inputs
(Level 2)
 
Significant Unobservable Inputs
(Level 3)
Cash and cash equivalents
99,957

 
$
99,957

 
$

 
$

Contingent earn-out obligations
$
1,382

 
$

 
$

 
$
1,382


Cash and cash equivalents approximated their fair value due to the short-term nature of the accounts.

The valuation of our contingent earn-out obligations (see further discussion in "Note 4") is determined using a probability weighted discounted cash flow method. This fair value measurement is based on significant unobservable inputs in the market and thus represents a Level 3 measurement within the fair value hierarchy. This analysis reflects the contractual terms of the purchase agreements and utilizes assumptions with regard to future cash flows, probabilities of achieving such future cash flows

5


and a discount rate. The contingent earn-out obligations are measured at fair value each reporting period and changes in estimates of fair value are recognized in earnings.

The table below presents a reconciliation of the fair value of our contingent earn-out obligations that use significant unobservable inputs (Level 3) (in thousands).

Balance at beginning of year
$

     Issuances
1,382

     Settlements

     Adjustments to fair value

Balance at end of period
$
1,382


We measure certain assets at fair value on a nonrecurring basis. These assets are recognized at fair value when they are deemed to be other-than-temporarily impaired. We did not recognize any impairments, in the current quarter, on those assets required to be measured at fair value on a nonrecurring basis.

Note 2—Summary of Significant Accounting Policies

Significant Accounting Policies

There have been no material changes to our accounting policies as described in the notes to our audited consolidated financial statements included in our 2013 Annual Report on Form 10-K.

Recent Accounting Pronouncements

In May 2014, the FASB issued Accounting Standards Update (ASU) No. 2014-09, "Revenue from Contracts with Customers (Topic 606)." ASU No. 2014-09 provides a single, contract-based revenue recognition model to help improve financial reporting by providing clearer guidance on when an entity should recognize revenue, and by reducing the number of standards to which entities have to refer. The amendment supersedes the revenue recognition requirements in Topic 605, Revenue Recognition, and most industry-specific guidance throughout the Industry Topics of the Codification. The updated accounting guidance will become effective for the Company’s annual and interim reporting periods beginning January 1, 2017. The adoption of this accounting pronouncement is not expected to have a material impact on our condensed consolidated financial statements.

Note 3—Sale of Casing Drilling

On June 4, 2012, the Company completed the sale of substantially all of the assets of the Casing Drilling segment to Schlumberger Oilfield Holdings Ltd. and Schlumberger Technology Corporation (together, the "Schlumberger Group") for a total cash consideration of approximately $46.6 million, including a working capital purchase price adjustment. During the three months ended March 31, 2013, the Company recognized a pre-tax gain of approximately $1.5 million primarily from the working capital purchase price adjustment, in addition to the $12.4 million pre-tax gain recognized in 2012. The total pre-tax gain from the sale was $13.8 million, net of transaction costs.

Note 4—Business Combinations

On May 7, 2014, we purchased substantially all of the operating assets of Tech Field Services, LLC (“TFS”) for total consideration of approximately $6.4 million, including $5.0 million of cash and $1.4 million of contingent earn-out obligations. TFS, established in 2006 in Magnolia, Texas, provides parts, maintenance, and repairs for multiple top drive manufacturers, including TESCO top drive units. In addition to its core AMSS business, TFS offers hydraulic top drive rental units to customers. The acquired assets include four top drive rental units, parts inventory, and various administrative assets. We allocated approximately $4.7 million of the purchase price to property, plant and equipment and intangible assets and approximately $1.7 million to goodwill.






6


Note 5—Details of Certain Accounts

At June 30, 2014 and December 31, 2013, prepaid and other current assets consisted of the following (in thousands):

 
June 30,
2014
 
December 31,
2013
Prepaid taxes other than income taxes
$
4,648

 
$
6,763

Deposits
6,446

 
3,910

Prepaid insurance
2,497

 
5,311

Other prepaid expenses
5,071

 
2,564

Restricted cash
2,946

 
2,708

Deferred job costs
3,258

 
2,284

Non-trade receivables
1,385

 
6,848

 
$
26,251

 
$
30,388

 
At June 30, 2014 and December 31, 2013, accrued and other current liabilities consisted of the following (in thousands):

 
June 30,
2014
 
December 31,
2013
Accrued payroll and benefits
$
17,648

 
$
19,317

Accrued taxes other than income taxes
4,526

 
7,331

Other current liabilities
7,435

 
8,841

 
$
29,609

 
$
35,489


Note 6—Inventories

At June 30, 2014 and December 31, 2013, inventories, net of reserves for excess and obsolete inventories of $2.3 million and $2.1 million, respectively, by major classification were as follows (in thousands):

 
June 30,
2014
 
December 31,
2013
Raw materials (1)
$
72,557

 
$
51,742

Work in progress
10,201

 
1,280

Finished goods (1)
31,392

 
44,341

 
$
114,150

 
$
97,363


(1) In the first quarter of 2014, our Houston headquarters for North America became our base for global business unit supply chain sourcing. As such, we reclassified approximately $9.1 million of inventory from "Finished goods" to "Raw materials" during the first quarter of 2014.















7


Note 7—Property, Plant and Equipment

At June 30, 2014 and December 31, 2013, property, plant, and equipment, at cost, by major classification were as follows (in thousands):

 
June 30,
2014
 
December 31,
2013
Land, buildings, and leaseholds
$
26,151

 
$
27,048

Drilling equipment
354,060

 
331,901

Manufacturing equipment
11,742

 
11,340

Office equipment and other
30,175

 
30,590

Capital work in progress
13,528

 
16,681

 
435,656

 
417,560

Less: Accumulated depreciation
(230,558
)
 
(212,652
)
 
$
205,098

 
$
204,908


Depreciation and amortization expense for the three and six months ended June 30, 2014 and 2013 are included on our unaudited condensed consolidated statements of income as follows (in thousands):
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2014
 
2013
 
2014
 
2013
Cost of sales and services
$
9,689

 
$
9,546

 
$
18,671

 
$
18,942

Selling, general and administrative expense 
688

 
654

 
1,418

 
1,287

 
$
10,377

 
$
10,200

 
$
20,089

 
$
20,229


Sale of Operating Assets

When top drive units from our rental fleet are sold, the sales proceeds are included in revenue and the net book value of the equipment sold is included in cost of sales and services.  Proceeds from the sale of used top drives are included in proceeds from the sale of operating assets and the difference between revenue and the cost of sales and services is included in gain on sale of operating assets in the accompanying unaudited condensed consolidated statement of cash flows. During the three and six months ended June 30, 2014, two and three used top drives were sold from our rental fleet, respectively. The net book value of these top drives, $1.4 million and $1.5 million, respectively, was included in cost of sales and services on our unaudited condensed consolidated statements of income for the three and six months ended June 30, 2014.

Note 8—Warranties

Changes in our warranty reserves during the six months ended June 30, 2014 were as follows (in thousands):
 
June 30, 2014
Balance as of January 1, 2014
$
2,393

Charged to expense, net
427

Deductions
$
(782
)
Balance as of June 30, 2014
$
2,038










8


Note 9—Earnings per Share

Weighted Average Shares

The following table reconciles basic and diluted weighted average shares (in thousands):

 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2014
 
2013
 
2014
 
2013
Basic weighted average number of shares outstanding 
40,175

 
38,988

 
39,963

 
38,960

Dilutive effect of stock-based compensation
623

 
532

 
685

 
512

Diluted weighted average number of shares outstanding
40,798

 
39,520

 
40,648

 
39,472

Anti-dilutive options excluded from calculation due to exercise prices
350

 
1,313

 
396

 
1,429


Note 10—Income Taxes
 
Tesco Corporation is an Alberta, Canada corporation.  We conduct business and are taxed on profits earned in a number of jurisdictions around the world.  Income taxes have been recorded based on the laws and rates in effect in the countries in which operations are conducted or in which we are considered a resident for income tax purposes.

Our income tax provision for the three and six months ended June 30, 2014 and 2013 was as follows (in thousands):

 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2014
 
2013
 
2014
 
2013
Current tax provision
$
6,892

 
$
2,268

 
$
9,509

 
$
6,369

Deferred tax provision
(329
)
 
289

 
(831
)
 
(25
)
Income tax provision
$
6,563

 
$
2,557

 
$
8,678

 
$
6,344

 
Our effective tax rate, which is income tax expense as a percentage of pre-tax earnings, was 34% and 36% for the three and six months ended June 30, 2014, respectively, compared to 20% and 25% for the same periods in 2013, respectively. The 14% and 11% increase for the three and six months ended June 30, 2014, as compared to the same periods in 2013, is primarily due to the fluctuating mix of pre-tax earnings in the various tax jurisdictions in which we operate around the world, the nondeductible nature of foreign exchange losses, and $1.4 million of favorable tax settlements in foreign jurisdictions in the three and six months ended June 30, 2013, compared to $0.4 million of unfavorable tax settlements in foreign jurisdictions in the six months ended June 30, 2014.

At December 31, 2013, we had an accrual for uncertain tax positions of $0.2 million.  There was no change to this accrual during the three and six months ended June 30, 2014. The accrual for uncertain tax positions is included in Accrued and other current liabilities or Other liabilities in our consolidated balance sheet based on whether we anticipate the uncertainties to be resolved within the next 12 months. At June 30, 2014, the entire $0.2 million is included in "Other liabilities" in our consolidated balance sheet.  The resolution of these uncertainties is not expected to have a material impact on our effective tax rate.
 
Certain state and foreign tax filings remain open to examination.  We believe that any assessment on these filings would not have a material impact on our financial position, results of operations, or cash flows.  We believe that appropriate provisions for all outstanding issues have been made for all jurisdictions and open years.  However, audit outcomes and the timing of audit settlements are subject to significant uncertainty.  Therefore, additional provisions on tax-related matters could be recorded in the future as revised estimates are made or the underlying matters are settled or otherwise resolved. We are currently under audit by the Internal Revenue Service in the United States for the years ended December 31, 2011 and 2012.








9


Note 11—Long Term Debt

At June 30, 2014 and December 31, 2013, long term debt consisted of the following (in thousands):
 
 
June 30, 2014
 
December 31, 2013
Capital leases
75

 
97

Other notes payable

 
315

Current portion of long term debt
(75
)
 
(385
)
Non-current portion of long term debt
$

 
$
27

 
As part of our acquisition of Premiere Casing Services - Egypt S.A.E ("Premiere") in 2011, we assumed $7.4 million of outstanding debt on the acquisition date of October 16, 2011. During 2013, we paid off substantially all of the outstanding balances related to Premiere's capital leases and all of the balances related to the notes payable. At June 30, 2014 the outstanding balance of Premiere's capital leases was $0.1 million.
 
We entered into a credit agreement on April 27, 2012, to provide a revolving line of credit of $125 million, including up to $20 million of swing line loans (collectively, the “Revolver”). The credit facility has a term of five years and all outstanding borrowings on the Revolver are due and payable on April 27, 2017.  The credit facility bears interest at a margin above LIBOR, federal funds rate, or the prime rate for U.S. dollar loans as determined by JPMorgan Chase Bank, N.A. in New York.  We are required to pay a commitment fee on available, but unused, amounts of the credit facility of 0.375-0.500 percent per annum and a letter of credit fee of 1.00-2.00 percent per annum on outstanding face amounts of letters of credit issued under the credit facility. Amounts available under the Revolver are reduced by letters of credit issued under our credit facility, not to exceed $50 million in aggregate.  Amounts available under the swing line loans may also be reduced by letters of credit or by means of a credit to a general deposit account of the applicable borrower.  The availability of future borrowings may also be limited in order to maintain certain financial ratios required under the covenants.  The credit facility contains covenants that we consider usual and customary for an agreement of this type, including a leverage ratio, a minimum net worth, limitations on allowable amounts for the disposal of obsolete assets and annual capital expenditures, and a fixed charge coverage ratio.  The credit facility prohibits incurring any additional indebtedness outside the existing credit facility in excess of $50 million and contains other restrictions, which are standard to the industry.  All of our direct and indirect material subsidiaries in the United States, Canada, Argentina, Mexico, and Indonesia as well as one of our Cyprus subsidiaries are guarantors of any borrowings under the credit facility.  

Under the Revolver at June 30, 2014, we had no outstanding borrowings, $3.3 million in letters of credit outstanding, and $121.7 million in available borrowing capacity. We were in compliance with our bank covenants at June 30, 2014.

Note 12—Commitments and Contingencies
 
Legal contingencies

In the normal course of our business, we are subject to legal proceedings brought by or against us and our subsidiaries.  None of these proceedings involves a claim for damages exceeding ten percent of our current assets on a consolidated basis. The estimates below represent our best estimates based on consultation with internal and external legal counsel.  There can be no assurance as to the eventual outcome or the amount of loss we may suffer as a result of these proceedings.

VARCO Litigation: Varco I/P, Inc. (“Varco”) filed suit against us in April 2005 in the U.S. District Court for the Western District of Louisiana, alleging that our CDS infringes certain of Varco’s U.S. patents.  Varco seeks monetary damages and an injunction against further infringement.  We filed a countersuit against Varco in June 2005 in the U.S. District Court for the Southern District of Texas, Houston Division seeking invalidation of the Varco patents in question.  In July 2006, the Louisiana case was transferred to the federal district court in Houston, and as a result, the issues raised by Varco have been consolidated into a single proceeding in which we are the plaintiff.  We also filed a request with the U.S. Patent and Trademark Office (“USPTO”) for reexamination of the patents on which Varco’s claim of infringement is based.  The USPTO accepted the Varco patents for reexamination, and the district court stayed the patent litigation pending the outcome of the USPTO reexamination.  In May 2009, the USPTO issued a final action rejecting all of the Varco patent claims that we had contested.  Varco has appealed this decision with the USPTO and that reexamination appeal is pending. The outcome and amount of any future financial impacts from this litigation are indeterminable at this time.


10


Weatherford Litigation: Weatherford International, Inc. and Weatherford/Lamb Inc. (together, “Weatherford”) filed suit against us in the U.S. District Court for the Eastern District of Texas, Marshall Division in December 2007 (the “Marshall Suit”), alleging that various of our technologies infringe 11 different patents held by Weatherford.  Weatherford sought monetary damages and an injunction against further infringement.  Our technologies referred to in the claim included the CDS, the Casing Drilling system and method, a float valve, and the locking mechanism for the controls of the tubular handling system.  We filed a general denial seeking a judicial determination that we did not infringe the patents in question and/or that the patents are invalid.

In August 2008, we filed suit against several competitors in the U.S. District Court for the Southern District of Texas – Houston Division, including Weatherford (the “Houston Suit”).  The Houston Suit claims infringement of two of our patents related to our CDS.  On October 26, 2010, we entered into a settlement with Weatherford (the “Settlement”) dismissing both the Marshall Suit and the Houston Suit (as it relates to Weatherford) with prejudice.  Among other provisions, the Settlement contains the following terms:

Non-exclusive irrevocable worldwide and royalty free cross licenses with respect to all the patents asserted by Weatherford in the Marshall Case and by us in the Houston Case, as well as certain other U.S. and foreign equivalents and counterparts; and
Weatherford has agreed to purchase for five years 67% of its worldwide top drive requirements from us, as long as we can meet production requirements, and to designate us as a preferred provider of after-market sales and service for top drives.  The prices we charge Weatherford will be equal to or lower than the prices we charge to any other customer of similar volume of purchases and/or services.

We entered into a Final Settlement and License Agreement (the "Settlement Agreement") with Weatherford on January 11, 2011, effective as of October 26, 2010.  As an additional condition of the Settlement Agreement, neither we nor Weatherford will pursue any cause of action that might adversely affect the validity or enforceability of each other's patents as listed in the exhibits to the Settlement Agreement, including any causes of action that may arise from the requests for review (“patent re-examinations”) we and Weatherford filed with the USPTO. However, the patent re-examinations already initiated continue with only the respective patent owner corresponding with the USPTO. Ongoing re-examination procedures include the patents owned by us and asserted in the Houston Suit. An oral hearing with the Board of Patent Appeals and Interferences (“BPAI”) at the USPTO occurred August 1, 2012. On November 27, 2012, the BPAI issued a decision in which all of the claims asserted in the Houston Suit were found to be valid in view of the prior art of record in the re-examination proceedings.

On November 11, 2010, we won a jury verdict against National Oilwell Varco, L.P. ("NOV"), Frank's Casing Crew and Rental Tools, Inc. ("Frank's") and Offshore Energy Services, Inc. ("OES") for infringing our U.S. Patent Nos. 7,140,443 and 7,377,324.  In that verdict, the jury found that NOV's accused product, the CRT 350, infringes all valid patent claims in the asserted patents, and that NOV contributorily infringed all valid patent claims in the asserted patents.  The jury also found that Frank's accused products, the (i) SuperTAWG, (ii) FA-1, and (iii) CRT 350, and OES's accused product, the CRT 350, infringe all valid patent claims in the asserted patents.  Damages were stipulated by the parties and the verdict is subject to entry of judgment and appeal.

On December 6, 2012, the District Court ruled on summary judgment that all of the asserted patent claims were obvious in view of prior art based on pre-trial evidence. This ruling overturns the favorable jury verdict. The case remains with the District Court to determine whether there was any inequitable conduct with the USPTO or litigation misconduct in the case by TESCO. On March 10, 2014, the District Court determined that a bench trial on these remaining issues is not needed because a ruling can be made based on the evidence already presented. The timing of the ruling is not known at this time.
 
Other Contingencies
 
We are contingently liable under letters of credit and similar instruments that we enter into in connection with the importation of equipment to foreign countries and to secure our performance on certain contracts.  At June 30, 2014 and December 31, 2013, our total exposure under outstanding letters of credit was $6.7 million and $6.5 million, respectively.
 
Note 13—Segment Information
 
Business Segments
 
Prior to the sale of the Casing Drilling business during the second quarter of 2012, our four business segments were: Top Drive, Tubular Services, Casing Drilling, and Research and Engineering. On June 4, 2012, the Company completed the sale of substantially all of the assets of the Casing Drilling segment, which consisted of the proprietary Casing Drilling technology. Our Top Drive segment is comprised of top drive sales, top drive rental services, and after-market sales and service.  Our Tubular

11


Services segment includes both our proprietary and conventional tubular services.  Our Research and Engineering segment is comprised of our internal research and development activities related to our proprietary tubular services and top drive model development, as well as the Casing Drilling technology prior to the sale.

We measure the results of our business segments using, among other measures, each segment’s operating income, which includes certain corporate overhead allocations.  Overhead costs include field administration and operations support.  At a business segment level, we incur costs directly and indirectly associated with revenue.  Direct costs include expenditures specifically incurred for the generation of revenue, such as personnel costs on location or transportation, maintenance and repair, and depreciation of our revenue-generating equipment.

Certain sales and marketing activities, financing activities, corporate general and administrative expenses, other (income) expense, and income taxes are not allocated to our business segments.

Goodwill is allocated to the business segment to which it specifically relates.  Substantially all of our goodwill has been allocated to the Tubular Services segment, with a portion to the Top Drive segment for after-market sales and services.
 
Significant financial information relating to our business segments is presented below (in thousands):

 
Three Months Ended June 30, 2014
 
Top
Drive
 
Tubular
Services
 
Casing Drilling
 
Research &
Engineering
 
Corporate and
Other
 
Total
Revenue
$
86,279

 
$
58,795

 
$
32

 
$

 
$

 
$
145,106

Depreciation and amortization
2,688

 
6,526

 

 
17

 
1,146

 
10,377

Operating income (loss)
19,380

 
10,864

 
(37
)
 
(2,500
)
 
(9,173
)
 
18,534

Other expense
 

 
 

 
 

 
 

 
 

 
(769
)
Income before income taxes
 

 
 

 
 

 
 

 
 

 
$
19,303


 
Three Months Ended June 30, 2013
 
Top
Drive
 
Tubular
Services
 
Casing Drilling
 
Research &
Engineering
 
Corporate and
Other
 
Total
Revenue
$
76,040

 
$
52,735

 
$
193

 
$

 
$

 
$
128,968

Depreciation and amortization
2,953

 
6,105

 

 
24

 
1,118

 
10,200

Operating income (loss)
17,266

 
11,341

 
173

 
(2,492
)
 
(12,457
)
 
13,831

Other expense (income)
 

 
 

 
 

 
 

 
 

 
1,045

Income before income taxes
 

 
 

 
 

 
 

 
 

 
$
12,786


 
Six Months Ended June 30, 2014
 
Top
Drive
 
Tubular
Services
 
Casing Drilling
 
Research &
Engineering
 
Corporate and
Other
 
Total
Revenue
$
150,972

 
$
115,500

 
$
32

 
$

 
$

 
$
266,504

Depreciation and amortization
5,143

 
12,581

 

 
33

 
2,332

 
20,089

Operating income (loss)
30,113

 
21,729

 
(326
)
 
(4,966
)
 
(18,911
)
 
27,639

Other expense
 

 
 

 
 

 
 

 
 

 
3,204

Income before income taxes
 

 
 

 
 

 
 

 
 

 
$
24,435


12


 
Six Months Ended June 30, 2013
 
Top
Drive
 
Tubular
Services
 
Casing Drilling
 
Research &
Engineering
 
Corporate and
Other
 
Total
Revenue
$
151,609

 
$
103,831

 
$
624

 
$

 
$

 
$
256,064

Depreciation and amortization
5,760

 
12,214

 

 
48

 
2,207

 
20,229

Operating income (loss)
32,225

 
18,768

 
2,050

 
(4,521
)
 
(22,958
)
 
25,564

Other expense
 

 
 

 
 

 
 

 
 

 
155

Income before income taxes
 

 
 

 
 

 
 

 
 

 
$
25,409



Geographic Areas
 
We attribute revenue to geographic regions based on the location of the customer.  Generally, for service activities, this will be the region in which the service activity occurs.  For equipment sales, this will be the geographical region in which the product is initially employed.  Our revenue by geographic area for the three and six months ended June 30, 2014 and 2013 was as follows (in thousands):

 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2014
 
2013
 
2014
 
2013
Canada
$
17,039

 
$
8,940

 
$
28,294

 
$
19,999

United States
51,821

 
38,815

 
89,323

 
78,868

South America
24,086

 
19,165

 
46,003

 
35,711

Mexico
9,321

 
14,583

 
16,259

 
26,983

Asia Pacific
13,338

 
11,433

 
25,087

 
25,241

Europe, Africa, and Middle East
16,176

 
10,627

 
32,081

 
24,007

Russia
13,325

 
25,405

 
29,457

 
45,255

Total
$
145,106

 
$
128,968

 
$
266,504

 
$
256,064


The physical location of our net property, plant, and equipment by geographic area as of June 30, 2014 and December 31, 2013 was as follows (in thousands):

 
Top Drive
 
Tubular Services
 
Overhead, Corporate, and Other
 
June 30,
2014
United States
$
17,089

 
$
28,253

 
$
11,885

 
$
57,227

Mexico
28,529

 
5,089

 
420

 
34,038

Europe, Africa, and Middle East
7,522

 
22,788

 
3,299

 
33,609

Asia Pacific
7,613

 
19,132

 
562

 
27,307

Russia
18,261

 
744

 
23

 
19,028

South America
10,678

 
9,686

 
964

 
21,328

Canada
2,283

 
4,979

 
5,299

 
12,561

Total
$
91,975

 
$
90,671

 
$
22,452

 
$
205,098




13


 
Top Drive
 
Tubular Services
 
Overhead, Corporate, and Other
 
December 31,
2013
United States
$
18,103

 
$
17,779

 
$
14,885

 
$
50,767

Mexico
33,113

 
2,659

 
185

 
35,957

Europe, Africa, and Middle East
6,284

 
23,820

 
6,705

 
36,809

Asia Pacific
7,835

 
19,145

 
1,852

 
28,832

Russia
16,995

 
550

 
156

 
17,701

South America
11,584

 
7,995

 
1,042

 
20,621

Canada
10,015

 
2,305

 
1,901

 
14,221

Total
$
103,929

 
$
74,253

 
$
26,726

 
$
204,908


Major customers and credit risk
 
Our accounts receivable are principally with major international and national oil and natural gas service and exploration and production companies and are subject to normal industry credit risks.  We perform ongoing credit evaluations of customers and grant credit based upon past payment history, financial condition, and anticipated industry conditions.  Customer payments are regularly monitored and a provision for doubtful accounts is established based upon specific situations and overall industry conditions.  Many of our customers are located in international areas that are inherently subject to risks of economic, political, and civil instabilities, which may impact our ability to collect those accounts receivable.  The main factors in determining the allowance needed for accounts receivable are customer bankruptcies, delinquency, and management’s estimate of ability to collect outstanding receivables based on the number of days outstanding and risks of economic, political, and civil instabilities.  Bad debt expense is included in selling, general, and administrative expense in our consolidated statements of income.

In October 2013, we became aware that payments received by a third party agent in Malaysia on our behalf, for services we performed from November 2012 to January 2014, have not been made to us despite attempts to collect these payments. The net amount at issue was $6.1 million to be received by the agent from end customers for whom we performed services.   Based on our negotiations to resolve this matter in the first quarter of  2014, we provided a $1.4 million reserve. In June 2014, this dispute was settled for total consideration of $4.3 million, of which $3.2 million, net of withholding tax held by KST, in cash was received in the second quarter 2014. The remaining amount is to be collected by March 2015. The total uncollectible amount was $1.8 million, of which $0.3 million was due to Schlumberger from KST. The remaining balance of $1.5 million was written off against the previously established reserve.

As of June 30, 2014, our total net investment in Venezuela was approximately $6.8 million, including net monetary assets of $3.7 million denominated in bolivar fuerte. We continue to experience delays in collecting payment on our receivables from our primary customer in Venezuela. These receivables are not disputed, and we have not historically had material write-offs relating to this customer. Due to the significant aging of these receivables, we recorded a $0.6 million reserve for these balances at June 30, 2014.

In 2013, the Venezuelan government authorized certain companies that operate in designated industry sectors to exchange a limited volume of bolivar for dollars at a bid rate established via weekly auctions under the Complementary System of Foreign Currency Acquirement (SICAD). In February 2014, the Venezuelan government announced plans to significantly expanded the use of the SICAD through the introduction of a second program intended to more closely resemble a market driven exchange rate, SICAD 2. In addition, the Venezuelan government officials indicated that the official rate of 6.3 bolivar per U.S. dollar available for exchange through the Commission for the Administration of Foreign Exchange (CADIVI) will increasingly be reserved for the settlement of U.S. dollar denominated transactions related to purchases of essential goods and services. Prior to 2014 we had remeasured our bolivar denominated net monetary assets into U.S dollars for reporting purposes at the CADIVI rate, which was 6.3 bolivars per U.S. dollar.  As of March 30, 2014, we assessed the SICAD 1 exchange as being the legal mechanism most readily available to us to convert our bolivar denominated net monetary assets based on the goods and services we provide in-country. Consequently, we remeasured our bolivar denominated net monetary assets at March 30, 2014 into U.S. dollars at the SICAD 1 rate of 10.8 bolivars per U.S. dollar, which resulted in a $0.4 million foreign currency loss. During the three months ended June 30, 2014, we determined that the SICAD 2 more closely resembled the true market rate of exchange, and consequently, we remeasured our bolivar denominated net monetary assets as of June 30, 2014 into U.S. dollar at the SICAD 2 rate of 49.9 bolivar per U.S. dollar, which resulted in a $0.7 million foreign currency loss. Further devaluation of the bolivar fuerte in 2014 would negatively impact our financial results and operations in the remainder of the year.

14


Item 2.                      Management’s Discussion and Analysis of Financial Condition and Results of Operations.
 
The following discussion and analysis of financial condition and results of operations should be read in conjunction with the unaudited condensed consolidated financial statements and related notes thereto included elsewhere in this Quarterly Report on Form 10-Q.  This discussion contains forward-looking statements.  Please see “Caution Regarding Forward-Looking Information; Risk Factors” above and “Risk Factors” in Part II, Item 1A below and in our 2013 Annual Report on Form 10-K, for a discussion of the uncertainties, risks, and assumptions associated with these statements.

Overview and Outlook

We are a global leader in the design, manufacture, and service delivery of technology-based solutions for the upstream energy industry.  We seek to change the way wells are drilled by delivering safer and more efficient solutions that add value by reducing the costs of drilling for and producing oil and natural gas.
 
Prior to the sale of the Casing Drilling business during the second quarter of 2012, our business segments were:

Top Drive – top drive sales, top drive rental services, and after-market sales and services;
Tubular Services – proprietary and conventional tubular services;
Casing Drilling – proprietary Casing Drilling technology; and
Research and Engineering – internal research and development activities related to our proprietary tubular services and top drive model development, as well as the Casing Drilling technology prior to the sale.

On June 4, 2012, we completed the sale of substantially all of the assets of our Casing Drilling segment to the Schlumberger Group. For a detailed discussion of this matter, see Part I, Item 1—"Financial Statements", Note 3—Sale of Casing Drilling in this Quarterly Report on Form 10-Q.

Business Environment

One of the key indicators of our business is the number of active drilling rigs.  During the first six months of 2014, North America experienced an improving market based on rig activity. In addition, with the increase in drilling rig efficiencies, well counts have increased. Certain countries in Latin America experienced a decline in rig activity due to various geopolitical and economic reasons. Current global macro economic conditions make any projections difficult. Below is a table that shows average rig count by region for the three and six months ended June 30, 2014 and 2013.
 
 
Three Months Average Rig Count(1)
 
Increase / (Decrease)
 
Six Months Average Rig Count(1)
 
Increase / (Decrease)
 
June 30,
 
 
June 30,
 
 
2014
 
2013
 
2013 to 2014
 
2014
 
2013
 
2013 to 2014
U.S.
1,852

 
1,761

 
91

5
 %
 
1,816

 
1,760

 
56

3
 %
Canada
202

 
155

 
47

30
 %
 
364

 
345

 
19

6
 %
Latin America (includes Mexico)
402

 
425

 
(23
)
(5
)%
 
402

 
426

 
(24
)
(6
)%
Middle East (excludes Iran, Iraq and Sudan)
415

 
368

 
47

13
 %
 
408

 
362

 
46

13
 %
Asia Pacific (excludes China onshore)
249

 
252

 
(3
)
(1
)%
 
253

 
248

 
5

2
 %
Europe (excludes Russia)
149

 
133

 
16

12
 %
 
142

 
133

 
9

7
 %
Africa
133

 
127

 
6

5
 %
 
137

 
121

 
16

13
 %
Worldwide
3,402

 
3,221

 
181

6
 %
 
3,522

 
3,395

 
127

4
 %

(1)  Source: Baker Hughes Incorporated worldwide rig count; averages are monthly.

Summary of the Quarter Ended June 30, 2014 and Operational Performance

During the second quarter of 2014, our Top Drive segment had 35 top drive units sold compared to 24 units sold during the same period in 2013. Our Tubular Services segment revenue improved significantly in the second quarter of 2014 as compared to the second quarter of 2013. Our automated tubular services offering continues to gain market acceptance, and we remain committed to growing this segment as we believe that every rig with a top drive will eventually convert to running casing with

15


an automated system, such as our CDS™ system.  We also invested in new and enhanced product and service offerings in our Research and Engineering segment.  

 Outlook for 2014

The current outlook for the global economy varies widely, but we believe that most indicators point towards a general improvement during the remainder of 2014. Current global macro-economic conditions make any projections difficult and uncertain; however, in each of our revenue generating segments, we anticipate moderately improved activity for the remainder of 2014, as follows:

Top Drive - Based upon existing drilling and bidding levels and our product sales backlog, we expect our top drive order rate and rental activity to moderately improve for the remainder of 2014.  Our Top Drive sales backlog was 51 units at June 30, 2014, compared to 10 units at June 30, 2013 and 32 units at December 31, 2013.  We expect our international top drive sales, rental activity, and after-market sales and services to hold steady for the remainder of 2014.
 
Tubular Services - We expect our CDS™ automated and conventional casing running business to strengthen in our domestic and international markets for the remainder of 2014.  We will continue to expand our automated casing service offerings, particularly in the major unconventional shale regions in North America, offshore in the Gulf of Mexico and select international locations.

Operating Results

Below is a summary of our operating results for the three and six months ended June 30, 2014 and 2013 (in thousands, except percentages):

 
Three Months Ended June 30,
 
Increase / (Decrease)
 
Six Months Ended June 30,
 
Increase/(Decrease)
 
2014
 
2013
 
2013 to 2014
 
2014
 
2013
 
2013 to 2014
Segment revenue
 
 
 
 
 
 
 
 
 
 
 
 
 
Top Drive
$
86,279

 
$
76,040

 
$
10,239

13%
 
$
150,972

 
$
151,609

 
$
(637
)
—%
Tubular Services
58,795

 
52,735

 
6,060

11%
 
115,500

 
103,831

 
11,669

11%
Casing Drilling
32

 
193

 
(161
)
(83)%
 
32

 
624

 
(592
)
(95)%
Consolidated revenue
$
145,106

 
$
128,968

 
$
16,138

13%
 
$
266,504

 
$
256,064

 
$
10,440

4%
Segment operating income (loss)
 
 
 
 
 
 
 
 
 
 
 
 
 
Top Drive
$
19,380

 
$
17,266

 
$
2,114

12%
 
$
30,113

 
$
32,225

 
$
(2,112
)
(7)%
Tubular Services
10,864

 
11,341

 
(477
)
(4)%
 
21,729

 
18,768

 
2,961

16%
Casing Drilling
(37
)
 
173

 
(210
)
(121)%
 
(326
)
 
2,050

 
(2,376
)
(116)%
Research & engineering
(2,500
)
 
(2,492
)
 
(8
)
—%
 
(4,966
)
 
(4,521
)
 
(445
)
(10)%
Corporate and other
(9,173
)
 
(12,457
)
 
3,284

26%
 
(18,911
)
 
(22,958
)
 
4,047

18%
Consolidated operating income
18,534

 
13,831

 
4,703

34%
 
27,639

 
25,564

 
2,075

8%
Other expense (income)
(769
)
 
1,045

 
(1,814
)
(174)%
 
3,204

 
155

 
3,049

1,967%
Income tax provision
6,563

 
2,557

 
4,006

157%
 
8,678

 
6,344

 
2,334

37%
Net income
$
12,740

 
$
10,229

 
$
2,511

25%
 
$
15,757

 
$
19,065

 
$
(3,308
)
(17)%
 









16


Top Drive Segment

Our Top Drive business segment sells equipment and provides services to drilling contractors and oil and natural gas operating companies throughout the world.  We primarily manufacture top drives that are used in drilling operations to rotate the drill string while suspended from the derrick above the rig floor.  We also provide top drive rental services on a day-rate basis for land and offshore drilling rigs, and we provide after-market sales and support for our customers.

The following is a summary of our Top Drive operating results and metrics for the three and six months ended June 30, 2014 and 2013 (in thousands, except percentages, units, days, and rate):
 
 
Three Months Ended June 30,
 
Increase / (Decrease)
 
Six Months Ended June 30,
 
Increase/(Decrease)
 
2014
 
2013
 
2013 to 2014
 
2014
 
2013
 
2013 to 2014
Top Drive revenue
 
 
 
 
 
 
 
 
 
 
 
 
 
Sales
$
40,536

 
$
29,196

 
$
11,340

39%
 
$
65,860

 
$
61,963

 
$
3,897

6%
Rental services
26,726

 
30,748

 
(4,022
)
(13)%
 
51,426

 
60,484

 
(9,058
)
(15)%
After-market sales and services
19,017

 
16,096

 
2,921

18%
 
33,686

 
29,162

 
4,524

16%
 
86,279

 
76,040

 
10,239

13%
 
150,972

 
$
151,609

 
$
(637
)
—%
Top Drive operating income
$
19,380

 
$
17,266

 
$
2,114

12%
 
$
30,113

 
$
32,225

 
$
(2,112
)
(7)%
Number of top drive sales:
 
 
 
 
 
 
 
 
 
 
 
 
 
New
33

 
21

 
12

57%
 
52

 
43

 
9

21%
Used or consignment
2

 
3

 
(1
)
(33)%
 
3

 
5

 
(2
)
(40)%
 
35

 
24

 
11

46%
 
55

 
48

 
7

15%
End of period number of top drives in rental fleet
135

 
133

 
2

2%
 
135

 
133

 
2

2%
Rental operating days(a)
5,389

 
6,164

 
(775
)
(13)%
 
10,473

 
11,991

 
(1,518
)
(13)%
Average daily operating rate
$
4,959

 
$
4,988

 
$
(29
)
(1)%
 
$
4,910

 
$
5,044

 
$
(134
)
(3)%
__________________________________
(a)  Defined as a day that a unit in our rental fleet is under contract and operating; does not include stand-by days.

Top Drive operating results were largely driven by oil and natural gas drilling activity and new rig build activity. The average active rig count increased for the second quarter of 2014 and year-to-date by 6% and 4%, respectively, from the same periods in 2013.

Top Drive Sales Revenue — The increase in revenue for the three and six months ended June 30, 2014 compared to the same periods in 2013 is due primarily to an increase in the number of units sold in North America and Russia. The selling price per unit varies significantly depending on the model, whether the unit was previously operated in our rental fleet, and whether a power unit was included in the sale.  Revenue related to the sale of used or consignment top drive units is $2.3 million and $2.7 million for the three months ended June 30, 2014 and 2013, respectively, and $3.1 million and $4.4 million for the six months ended June 30, 2014 and 2013, respectively.

Top Drive Rental Revenue — The decrease in revenue for the three and six months ended June 30, 2014 compared to the same periods in 2013 is due to decreased operating days, primarily in Russia, Indonesia, and Mexico.

Top Drive After-Market Sales and Services Revenue — The increase in revenue for the three and six months ended June 30, 2014 as compared to the same period in 2013 is due to increased demand in North America.

Top Drive Operating Income — The increase in operating income for the three months ended June 30, 2014 as compared to the same period in 2013 is primarily due to an increase in the number of top drives sold in North America and Russia. The decrease in operating income for the six months ended June 30, 2014 as compared to the same period in 2013 is due to decreased rental activity in Russia, Indonesia, and Mexico.




17


Tubular Services Segment

Our Tubular Services business segment includes both automated and conventional services, which are typically offered as a “call out” service on a well-by-well basis.  Our automated service offerings, in particular the CDS™, provide a safer and more automated method for running casing and, if required, reaming the casing into the hole, as compared to traditional methods. Our conventional Tubular Service business provides equipment and personnel for the installation of tubing and casing, including power tongs, pick-up/lay-down units, torque monitoring services, and connection testing services for new well construction and in work-over and re-entry operations.  The following is a summary of our Tubular Services operating results and metrics for the three and six months ended June 30, 2014 and 2013 (in thousands, except percentages and number of jobs):
 
 
Three Months Ended June 30,
 
Increase/ (Decrease)
 
Six Months Ended June 30,
 
Increase/(Decrease)
 
2014
 
2013
 
2013 to 2014
 
2014
 
2013
 
2013 to 2014
Tubular Services revenue
 
 
 
 
 
 
 
 
 
 
 
 
 
Automated
$
48,588

 
$
43,115

 
$
5,473

13%
 
$
93,578

 
$
83,291

 
$
10,287

12%
Conventional
10,207

 
9,620

 
587

6%
 
21,922

 
20,540

 
1,382

7%
 
$
58,795

 
$
52,735

 
$
6,060

11%
 
$
115,500

 
$
103,831

 
$
11,669

11%
Tubular Services operating income
$
10,864

 
$
11,341

 
$
(477
)
(4)%
 
$
21,729

 
$
18,768

 
$
2,961

16%
Number of automated jobs
1,075

 
975

 
100

10%
 
2,083

 
1,931

 
152

8%
 
The increase in Tubular Services revenue for the three and six months ended June 30, 2014 compared to the same periods in 2013 is due to increased demand in the Latin America region for our automated offerings, and in the Middle East for our conventional offerings. A significant amount of current U.S. drilling activity in shale formations requires directional and horizontal drilling techniques, which we believe are good applications for our automated service offerings. In addition, increased domestic and international demand for our tubular services, both automated and conventional, resulted in new jobs at more favorable pricing terms. The Tubular Services automated revenue during the three and six months ended June 30, 2014 also includes $5.6 million and $8.4 million, respectively, of revenue for CDS™ equipment sales, compared to $3.1 million and $5.8 million during the same periods in 2013.

The decrease in Tubular Services operating income for the three months ended June 30, 2014 as compared to the same period in 2013 is due to a $1.9 million reduction in operating expense based on a favorable determination received in June 2013 related to a customer dispute over contract term interpretations in a foreign jurisdiction in 2013 that was not repeated in 2014. The increase in operating income for the six months ended June 30, 2014 compared to the same period in 2013 is due primarily to higher revenue discussed above and related flow through to operating income in the Latin America and Middle East regions.

Casing Drilling Segment

On June 4, 2012, we completed the sale of substantially all of the assets of our Casing Drilling segment to the Schlumberger Group. The Casing Drilling business was based on the proprietary Casing Drilling technology, which used patented equipment and processes to allow an oil or gas well to be drilled using standard well casing pipe.  

Below is a summary of the operating results of the segment for the three and six months ended June 30, 2014 and 2013 (in thousands, except percentages):
 
 
Three Months Ended June 30,
 
Increase / (Decrease)
 
Six Months Ended June 30,
 
Increase/(Decrease)
 
2014
 
2013
 
2013 to 2014
 
2014
 
2013
 
2013 to 2014
Casing Drilling revenue
$
32

 
$
193

 
$
(161
)
(83)%
 
$
32

 
$
624

 
$
(592
)
(95)%
Casing Drilling operating income (loss)
$
(37
)
 
$
173

 
$
(210
)
(121)%
 
$
(326
)
 
$
2,050

 
$
(2,376
)
(116)%
  
Casing Drilling operating income for the six months ended June 30, 2013 is primarily attributed to a working capital adjustment gain of approximately $1.5 million from the sale. For a detailed discussion of this matter, see Part I, Item 1—"Financial Statements", Note 3—Sale of Casing Drilling in this Quarterly Report on Form 10-Q.

18


Research and Engineering Segment

Our Research and Engineering segment is comprised of our internal research and development activities related to our automated tubular services and top drive model development.  The following is a summary of our research and engineering expense for the three and six months ended June 30, 2014 and 2013 (in thousands, except percentages):

 
Three Months Ended June 30,
 
Increase / (Decrease)
 
Six Months Ended June 30,
 
Increase/(Decrease)
 
2014
 
2013
 
2013 to 2014
 
2014
 
2013
 
2013 to 2014
Research and engineering expense
$
2,500

 
$
2,492

 
$
8

—%
 
$
4,966

 
$
4,521

 
$
445

10%
 
Research and engineering expenses increased during the three and six months ended June 30, 2014 as compared to the same periods in 2013 due to increased spending on automation and compact projects. We continue to invest in the development, commercialization, and enhancements of our proprietary technologies relating to our Top Drive and Tubular Services segments.

Corporate and Other Segment

Corporate and other expenses primarily consist of the corporate level general and administrative expenses and certain selling and marketing expenses.  Below is a summary of our corporate and other expenses for the three and six months ended June 30, 2014 and 2013 (in thousands, except percentages):
 
 
Three Months Ended June 30,
 
Increase / (Decrease)
 
Six Months Ended June 30,
 
Increase / (Decrease)
 
2014
 
2013
 
2013 to 2014
 
2014
 
2013
 
2013 to 2014
Corporate and other expenses
$
9,173

 
$
12,457

 
$
(3,284
)
(26)%
 
$
18,911

 
$
22,958

 
$
(4,047
)
(18)%
Corporate and other expenses as a % of revenue
6%
 
10%
 
(4) pts
 
7%
 
9%
 
(2) pts

Corporate and other expenses were lower during the three and six months ended June 30, 2014, as compared to the same periods in 2013 due primarily to decreased legal fees.

Other Expense (Income)

Below is a summary of our other expense (income) for the three and six months ended June 30, 2014 and 2013 (in thousands, except percentages):
 
 
Three Months Ended June 30,
 
Increase / (Decrease)
 
Six Months Ended June 30,
 
Increase/(Decrease)
 
2014
 
2013
 
2013 to 2014
 
2014
 
2013
 
2013 to 2014
Other expense (income)
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest expense
$
229

 
$
405

 
$
(176
)
(43
)%
 
$
918

 
$
(64
)
 
$
982

1,534
 %
Interest income
(23
)
 
(31
)
 
8

26
 %
 
(84
)
 
(54
)
 
(30
)
(56
)%
Foreign exchange loss (gain)
(976
)
 
1,635

 
(2,611
)
(160
)%
 
2,363

 
2,064

 
299

14
 %
Other expense (income)
1

 
(964
)
 
965

(100
)%
 
7

 
(1,791
)
 
1,798

100
 %
Total other expense (income)
$
(769
)
 
$
1,045

 
$
(1,814
)
(174
)%
 
$
3,204

 
$
155

 
$
3,049

1,967
 %

Interest expense decreased in the three months ended June 30, 2014 primarily due to interest expense adjustments totaling $0.1 million in a North American jurisdiction in 2013, while the same period in 2014 had no adjustments. Interest expense increased in the six months ended June 30, 2014 primarily due to interest adjustments totaling $0.4 million in two Latin American jurisdictions in 2014, while the same period in 2013 includes a $0.7 million credit for an interest adjustment in one Latin American jurisdiction.


19


Foreign exchange losses decreased during the three months ended June 30, 2014 as compared to the same period in 2013 due to fluctuations in the valuation of the U.S. dollar compared to the Venezuelan bolivar fuerte and Argentine peso, resulting in a gain of $0.7 million and $0.6 million, respectively, and partially offset by losses in the Canadian dollar and Mexican peso of $0.3 million and $0.1 million, respectively. Foreign exchange losses increased during the six months ended June 30, 2014 as compared to the same period in 2013 due to fluctuati