Last quarter, I mentioned the gloom hovering over Grey Wolf (AMEX:GW) in the face of record results for the land driller. Well, the skeptics got the pullback in dayrates that they expected from an oversupply of rigs in the North American market. Now it's time to assess the damage and see whether Grey Wolf investors should run off with their tails between their legs.
Grey Wolf's fleetwide dayrates slipped about 2%, which doesn't look like the end of the world. Still, the company's EBITDA per rig day metric showed more strain, tumbling 15% lower than last year's Q2, and 18% sequentially. A large hit came from the smaller turnkey drilling segment, which takes on more operating risk than standard daywork. One well had operating difficulties, and that was enough to decimate the segment's profitability.
Lower capacity utilization also contributed to the firm's weaker results. Rigs working dropped 4% over last year and 5% from the prior quarter. Because of a fleet expansion, that was enough to take utilization down from 96% to 87%. So was Grey Wolf foolish to expand at a time like this? Not at all, because land rigs aren't homogeneous, and Grey Wolf is adding the right kind of rigs.
The overcrowded part of the market is in old, lower-horsepower mechanical rigs. Newer high-tech rigs, which are built by the likes of Helmerich & Payne (NYSE:HP), National Oilwell Varco (NYSE:NOV), and Nabors Industries (NYSE:NBR) are more useful in deep, directional, and horizontal drilling applications. These rigs are less commoditized and command better rates. On its recent call, Devon Energy (NYSE:DVN) noted that newer rigs reduced drilling time by 10% in the Barnett Shale and helped keep costs under control. With more and more activity focused on horizontal shale plays, I see Grey Wolf's purchases of newer rigs as a wise use of shareholder capital.
Not only is Grey Wolf buying the right sort of rig, but it's also locking in very long-term contracts for them. The company announced that it purchased two rigs under contract for three years each. On the call, management noted that these contracts provide "full payout," meaning that the contracts will pay back the purchase price. Considering that the rigs are about a year old, and were purchased at roughly an 80% discount to the cost of a newbuild, this looks like a great deal.
The more the market softens, and the more pain that is inflicted on overleveraged, small-time players that get shaken out, the better for an acquisitive, well-financed operator like Grey Wolf. These slightly lower rates are nothing to howl about, in my view.
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Fool contributor Toby Shute doesn't own shares in any company mentioned. The Motley Fool has a Technicolor disclosure policy.
