UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

 

 

Form 10-Q

 

 

 

Commission file number 0-22664

 

Patterson-UTI Energy, Inc.

(Exact name of registrant as specified in its charter)

 

 

 

(325) 574-6300
(Registrant’s telephone number, including area code)

 

N/A
(Former name, former address and former fiscal year,
if changed since last report)

 

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 þ     No o

 

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

Large accelerated filer þ     Accelerated filer o     Non-accelerated filer o

 

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

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

157,190,147 shares of common stock, $0.01 par value, as of August 2, 2007

 

PATTERSON-UTI ENERGY, INC. AND SUBSIDIARIES

 

TABLE OF CONTENTS

 

 

The following unaudited consolidated financial statements include all adjustments which, in the opinion of management, are necessary in order to make such financial statements not misleading.

 

PATTERSON-UTI ENERGY, INC. AND SUBSIDIARIES

 

 

CONSOLIDATED BALANCE SHEETS

 

 

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

PATTERSON-UTI ENERGY, INC. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF INCOME

 

 

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

PATTERSON-UTI ENERGY, INC. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY

(unaudited, in thousands)

 

 

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

PATTERSON-UTI ENERGY, INC. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF CHANGES IN CASH FLOWS

(unaudited, in thousands)

 

 

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

PATTERSON-UTI ENERGY, INC. AND SUBSIDIARIES

 

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

 

 

The interim unaudited consolidated financial statements include the accounts of Patterson-UTI Energy, Inc. (the “Company”) and its wholly-owned subsidiaries. All significant intercompany accounts and transactions have been eliminated. The Company has no controlling financial interests in any entity that is not a wholly-owned subsidiary which would require consolidation.

 

The interim consolidated financial statements have been prepared by management of the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been omitted pursuant to such rules and regulations, although the Company believes the disclosures included herein are adequate to make the information presented not misleading. In the opinion of management, all adjustments which are of a normal recurring nature considered necessary for presentation of the information have been included. The Unaudited Consolidated Balance Sheet as of December 31, 2006, as presented herein, was derived from the audited balance sheet of the Company. These unaudited consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006.

 

The U.S. dollar is the functional currency for all of the Company’s operations except for its Canadian operations, which use the Canadian dollar as their functional currency. The effects of exchange rate changes are reflected in accumulated other comprehensive income, which is a separate component of stockholders’ equity (see Note 3 of these Notes to Unaudited Consolidated Financial Statements).

 

The Company provides a dual presentation of its net income per common share in its Unaudited Consolidated Statements of Income: Basic net income per common share (“Basic EPS”) and diluted net income per common share (“Diluted EPS”). Basic EPS excludes dilution and is computed by dividing net income by the weighted average number of unrestricted common shares outstanding during the period. Diluted EPS is based on the weighted-average number of common shares outstanding plus the impact of dilutive instruments, including stock options, warrants and restricted shares using the treasury stock method. The following table presents information necessary to calculate net income per share for the three and six months ended June 30, 2007 and 2006 as well as cash dividends per share paid and potentially dilutive securities excluded from the weighted average number of diluted common shares outstanding, as their inclusion would have been anti-dilutive during the three and six months ended June 30, 2007 and 2006 (in thousands, except per share amounts):

 

 

PATTERSON-UTI ENERGY, INC. AND SUBSIDIARIES

 

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

The results of operations for the six months ended June 30, 2007 are not necessarily indicative of the results to be expected for the full year.

 

 

The Company adopted Financial Accounting Standards Board (“FASB”) Statement No. 123 (revised 2004), Share-Based Payment (“FAS 123(R)”), on January 1, 2006 and recognizes the cost of share-based payments under the fair-value-based method. The Company uses share-based payments to compensate employees and non-employee directors. All awards have been equity instruments in the form of stock options or restricted stock awards. The Company issues shares of common stock when vested stock option awards are exercised and when restricted stock awards are granted. As a result of the initial adoption of FAS 123(R) in 2006, the Company recognized income due to the cumulative effect of this change in accounting principle of $687,000, net of taxes of $398,000, related to previously expensed amortization of unvested restricted stock grants.

 

Stock Options.  The Company estimates grant date fair values of stock options using the Black-Scholes-Merton valuation model (“Black-Scholes”), except for stock options granted prior to 1996 that are not subject to FAS 123(R). Volatility assumptions are based on the historic volatility of the Company’s common stock over the most recent period equal to the expected term of the options as of the date the options were granted. The expected term assumptions are based on the Company’s experience with respect to employee stock option activity. Dividend yield assumptions are based on the expected dividends at the time the options were granted. The risk-free interest rate assumptions are determined by reference to United States Treasury yields. Weighted-average assumptions used to estimate grant date fair values for stock options granted in the three and six month periods ended June 30, 2007 and 2006 follow:

 

 

Stock option activity from January 1, 2007 to June 30, 2007 follows:

 

 

Restricted Stock.  Under all restricted stock awards to date, shares were issued when granted, nonvested shares are subject to forfeiture for failure to fulfill service conditions and nonforfeitable dividends are paid on

 

PATTERSON-UTI ENERGY, INC. AND SUBSIDIARIES

 

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

nonvested restricted shares. Additionally, certain restricted stock awards contain performance conditions related to the Company’s net income.

 

Restricted stock activity from January 1, 2007 to June 30, 2007 follows:

 

 

 

The following table illustrates the Company’s comprehensive income including the effects of foreign currency translation adjustments for the three and six months ended June 30, 2007 and 2006 (in thousands):

 

 

 

Property and equipment consisted of the following at June 30, 2007 and December 31, 2006 (in thousands):

 

 

PATTERSON-UTI ENERGY, INC. AND SUBSIDIARIES

 

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

The Company’s revenues, operating profits and identifiable assets are primarily attributable to four business segments: (i) contract drilling of oil and natural gas wells, (ii) pressure pumping services, (iii) drilling and completion fluid services to operators in the oil and natural gas industry, and (iv) the exploration, development, acquisition and production of oil and natural gas. Each of these segments represents a distinct type of business based upon the type and nature of services and products offered. These segments have separate management teams which report to the Company’s chief operating decision maker and have distinct and identifiable revenues and expenses. Separate financial data for each of our four business segments is provided below (in thousands):

 

 

PATTERSON-UTI ENERGY, INC. AND SUBSIDIARIES

 

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

 

 

PATTERSON-UTI ENERGY, INC. AND SUBSIDIARIES

 

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

 

Goodwill is evaluated at least annually to determine if the fair value of recorded goodwill has decreased below its carrying value. At December 31, 2006 the Company performed its annual goodwill evaluation and determined no adjustment to impair goodwill was necessary. Goodwill as of June 30, 2007 is as follows (in thousands):

 

 

In connection with the implementation of FIN 48 as of January 1, 2007 as discussed in Note 12 of these Unaudited Consolidated Financial Statements, the Company determined that a tax reserve which had been established in connection with a business acquisition should be reduced. This reserve had originally been established in connection with the allocation of the purchase price in the transaction and was reflected as an increase in goodwill. The $2.9 million reduction of this reserve was reflected as a reduction to goodwill upon the adoption of FIN 48.

 

 

Accrued expenses consisted of the following at June 30, 2007 and December 31, 2006 (in thousands):

 

 

PATTERSON-UTI ENERGY, INC. AND SUBSIDIARIES

 

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

Statement of Financial Accounting Standards No. 143, “Accounting for Asset Retirement Obligations,” requires that the Company record a liability for the estimated costs to be incurred in connection with the abandonment of oil and natural gas properties in the future. The following table describes the changes to the Company’s asset retirement obligations during the six months ended June 30, 2007 and 2006 (in thousands):

 

 

 

The Company entered into a five-year unsecured revolving line of credit (“LOC”) in December 2004. On August 2, 2006, the Company amended the LOC and increased the borrowing capacity to $375 million. Interest is paid on outstanding LOC balances at a floating rate ranging from LIBOR plus 0.625% to 1.0% or the prime rate. Any outstanding borrowings must be repaid at maturity on December 16, 2009. This arrangement includes various fees, including a commitment fee on the average daily unused amount (0.15% at June 30, 2007). There are customary restrictions and covenants associated with the LOC. Financial covenants provide for a maximum debt to capitalization ratio and a minimum interest coverage ratio. The Company does not expect that the restrictions and covenants will impact its ability to operate or react to opportunities that might arise. As of June 30, 2007, the Company had $15.0 million in borrowings outstanding under the LOC and $60.3 million in letters of credit were outstanding. As a result, the Company had available borrowing capacity of approximately $300 million at June 30, 2007. The weighted average interest rate on outstanding borrowings at June 30, 2007 was 8.25%.

 

 

Commitments — The Company maintains letters of credit in the aggregate amount of $60.3 million for the benefit of various insurance companies as collateral for retrospective premiums and retained losses which could become payable under the terms of the underlying insurance contracts. These letters of credit are typically renewed annually. No amounts have been drawn under the letters of credit.

 

As of June 30, 2007, the Company has signed non-cancelable commitments to purchase approximately $175 million of equipment. This amount excludes $4.7 million and $24.7 million at June 30, 2007 and December 31, 2006, respectively, related to deposits that have been paid pursuant to agreements that were entered into to purchase rig components to be used in the construction of 15 new land drilling rigs. These payments are presented as Deposits on equipment purchase contracts in the Company’s unaudited consolidated balance sheets.

 

Contingencies — A receiver was appointed to take control of and liquidate the assets of the Company’s former CFO in connection with his embezzlement of Company funds. In May 2007, the court approved a plan of distribution of the assets that had been recovered by the receiver. The Company expects to recover approximately $42.5 million pursuant to the approved plan and has recognized this recovery in the Company’s unaudited consolidated statement of income in the second quarter of 2007, net of additional professional fees associated with the embezzlement. Cash payments from the receiver of approximately $39.1 million were received in July 2007, with the remaining $3.4 million of the recovery consisting of notes receivable, investments and other assets that will be transferred to the Company.

 

PATTERSON-UTI ENERGY, INC. AND SUBSIDIARIES

 

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

The Company is party to various legal proceedings arising in the normal course of its business. The Company does not believe that the outcome of these proceedings, either individually or in the aggregate, will have a material adverse effect on its financial condition, results of operations or cash flows.

 

 

Cash Dividends — The Company has paid cash dividends during the six months ended June 30, 2007 as follows:

 

 

On August 1, 2007, the Company’s Board of Directors approved a cash dividend on its common stock in the amount of $0.12 per share to be paid on September 28, 2007 to holders of record as of September 12, 2007. The amount and timing of all future dividend payments is subject to the discretion of the Board of Directors and will depend upon business conditions, results of operations, financial condition, terms of the Company’s credit facilities and other factors.

 

The Company purchased 16,018 shares of treasury stock during the six months ended June 30, 2007. Shares were purchased from employees at fair market value upon the vesting of restricted stock to provide the respective employees with the funds necessary to satisfy their respective tax withholding obligations. The total purchase price for these shares was approximately $415,000.

 

On August 1, 2007, the Company’s Board of Directors approved a stock buyback program, authorizing purchases of up to $250 million of the Company’s common stock in open market or privately negotiated transactions.

 

 

The Company adopted FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes — an interpretation of FASB Statement No. 109 (“FIN 48”) on January 1, 2007. FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements and prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. As a result of the adoption of FIN 48 the Company reduced a reserve for an uncertain tax position with respect to a business combination that had originally been recorded as goodwill (see Note 6). The impact of adjustments to reserves with respect to other uncertain tax positions was not material. In connection with the adoption of FIN 48, the Company established a policy to account for interest and penalties with respect to income taxes as operating expenses. As of June 30, 2007, the years ended December 31, 2003 through 2006 are open for examination by U.S. taxing authorities. As of June 30, 2007, the years ended December 31, 2000 through 2006 are open for examination by Canadian taxing authorities.

 

 

In September 2006, the FASB issued Statement No. 157, Fair Value Measurements (“FAS 157”). FAS 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurement. FAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. FAS 157 will be effective for the Company beginning in the quarter ending March 31, 2008. The application of FAS 157 is not expected to have a material impact to the Company.

 

In February 2007, the FASB issued Statement No. 159, The Fair Value Option for Financial Assets and Financial Liabilities Including an Amendment of FASB Statement No. 115 (“FAS 159”). FAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value. FAS 159 is effective as of the beginning of an entity’s first fiscal year that begins after November 15, 2007 and will be effective for the Company beginning in the quarter ending March 31, 2008. The application of FAS 159 is not expected to have a material impact to the Company.

 

Management Overview — We are a leading provider of contract services to the North American oil and natural gas industry. Our services primarily involve the drilling, on a contract basis, of land-based oil and natural gas wells and, to a lesser extent, we provide pressure pumping services and drilling and completion fluid services. In addition to the aforementioned contract services, we also engage in the development, exploration, acquisition and production of oil and natural gas. For the three and six months ended June 30, 2007 and 2006, our operating revenues consisted of the following (dollars in thousands):

 

 

We provide our contract services to oil and natural gas operators in many of the oil and natural gas producing regions of North America. Our contract drilling operations are focused in various regions of Texas, New Mexico, Oklahoma, Arkansas, Louisiana, Mississippi, Colorado, Utah, Wyoming, Montana, North Dakota, South Dakota, Pennsylvania and Western Canada, while our pressure pumping services are focused primarily in the Appalachian Basin. Our drilling and completion fluids services are provided to operators offshore in the Gulf of Mexico and on land in Texas, Southeastern New Mexico, Oklahoma and the Gulf Coast region of Louisiana. Our oil and natural gas operations are primarily focused in West and South Texas, Southeastern New Mexico, Utah and Mississippi.

 

The profitability of our business is most readily assessed by two primary indicators in our contract drilling segment: our average number of rigs operating and our average revenue per operating day. During the second quarter of 2007, our average number of rigs operating was 237 per day compared to 255 in the first quarter of 2007 and 295 in the second quarter of 2006. Our average revenue per operating day decreased to $19,410 in the second quarter of 2007 from $20,350 in the first quarter of 2007 and $19,780 in the second quarter of 2006. Our consolidated net income for the second quarter of 2007 decreased by $32.1 million or 19% as compared to the second quarter of 2006. Included in consolidated net income for the second quarter of 2007 was a pre-tax gain of approximately $41.9 million associated with the expected recovery of embezzled funds and approximately $16.4 million in net pre-tax gains from the sale of certain oil and natural gas properties and the disposal of certain other assets. Excluding the above-mentioned gains, our consolidated net income for the second quarter of 2007 would have been approximately $102 million, which is a decrease of approximately $70.1 million or 41% as compared to the second quarter of 2006. This decrease was primarily due to our contract drilling segment experiencing an increase in the average costs per operating day, a decrease in the average revenue per operating day and a decrease in the average number of rigs operating in the second quarter of 2007 as compared to the second quarter of 2006.

 

Our revenues, profitability and cash flows are highly dependent upon the market prices of oil and natural gas. During periods of improved commodity prices, the capital spending budgets of oil and natural gas operators tend to expand, which results in increased demand for our contract services. Conversely, in periods of time when these commodity prices deteriorate, the demand for our contract services generally weakens and we experience a decrease in the number of rigs operating and downward pressure on pricing for our services. In addition, our operations are highly impacted by competition, the availability of excess equipment, labor issues and various other factors which are more fully described as “Risk Factors” included as Item 1A in our Annual Report on Form 10-K for the year ended December 31, 2006.

 

We believe that the liquidity presented in our balance sheet as of June 30, 2007, which includes approximately $240 million in working capital (including $27.5 million in cash) and $300 million available under a $375 million line of credit, provides us with the ability to pursue acquisition opportunities, expand into new regions, make improvements to our assets, pay cash dividends and survive downturns in our industry.

Commitments and Contingencies — The Company maintains letters of credit in the aggregate amount of $60.3 million for the benefit of various insurance companies as collateral for retrospective premiums and retained losses which could become payable under the terms of the underlying insurance contracts. These letters of credit expire at various times during each calendar year. No amounts have been drawn under the letters of credit.

 

As of June 30, 2007, we have remaining non-cancelable commitments to purchase approximately $175 million of equipment.

 

A receiver has been appointed to take control of and liquidate the assets of our former CFO in connection with his embezzlement of Company funds. In May 2007, the court approved a plan of distribution of the assets that had been recovered by the receiver. We expect to recover approximately $42.5 million pursuant to the approved plan and have recognized this recovery in our unaudited consolidated statement of income in the second quarter of 2007, net of additional professional fees associated with the embezzlement. Cash payments from the receiver of approximately $39.1 million were received in July 2007, with the remaining $3.4 million of the recovery consisting of notes receivable, investments and other assets that are expected to be transferred to us.

 

Trading and Investing — We have not engaged in trading activities that include high-risk securities, such as derivatives and non-exchange traded contracts. We invest cash primarily in highly liquid, short-term investments such as overnight deposits, money markets, and highly rated municipal and commercial bonds.

 

Description of Business — We conduct our contract drilling operations in Texas, New Mexico, Oklahoma, Arkansas, Louisiana, Mississippi, Colorado, Utah, Wyoming, Montana, North Dakota, South Dakota, Pennsylvania and Western Canada. We have approximately 345 currently marketable land-based drilling rigs. We provide pressure pumping services to oil and natural gas operators primarily in the Appalachian Basin. These services consist primarily of well stimulation and cementing for completion of new wells and remedial work on existing wells. We provide drilling fluids, completion fluids and related services to oil and natural gas operators offshore in the Gulf of Mexico and on land in Texas, Southeastern New Mexico, Oklahoma and the Gulf Coast region of Louisiana. Drilling and completion fluids are used by oil and natural gas operators during the drilling process to control pressure when drilling oil and natural gas wells. We are also engaged in the development, exploration, acquisition and production of oil and natural gas. Our oil and natural gas operations are focused primarily in producing regions in West and South Texas, Southeastern New Mexico, Utah and Mississippi.

 

The North American land drilling industry has experienced periods of downturn in demand over the last decade. During these periods, there have been substantially more drilling rigs available than necessary to meet demand. As a result, drilling contractors have had difficulty sustaining profit margins during the downturn periods.

 

In addition to adverse effects that future declines in demand could have on us, ongoing factors which could adversely affect utilization rates and pricing, even in an environment of high oil and natural gas prices and increased drilling activity, include:

 

 

We cannot predict either the future level of demand for our contract drilling services or future conditions in the oil and natural gas contract drilling business.

 

Critical Accounting Policies

 

In addition to established accounting policies, our consolidated financial statements are impacted by certain estimates and assumptions made by management. No changes in our critical accounting policies have occurred since the filing of the Company’s Annual Report on Form 10-K for the period ended December 31, 2006.

Liquidity and Capital Resources

 

As of June 30, 2007, we had working capital of approximately $240 million including cash and cash equivalents of $27.5 million. For the six months ended June 30, 2007, our significant sources of cash flow included:

 

 

We used $31.4 million to pay dividends on the Company’s common stock, $105 million to repay borrowings under our line of credit and $326 million:

 

 

As of June 30, 2007, we had $15.0 million in borrowings outstanding under our $375 million revolving line of credit and $60.3 million in letters of credit were outstanding such that we had available borrowing capacity of approximately $300 million at June 30, 2007.

 

We paid cash dividends during the six months ended June 30, 2007 as follows:

 

 

On August 1, 2007, our Board of Directors approved a cash dividend on our common stock in the amount of $0.12 per share to be paid on September 28, 2007 to holders of record as of September 12, 2007. The amount and timing of all future dividend payments is subject to the discretion of the Board of Directors and will depend upon business conditions, results of operations, financial condition, terms of our credit facilities and other factors.

 

On August 1, 2007, our Board of Directors approved a stock buyback program, authorizing purchases of up to $250 million of our common stock in open market or privately negotiated transactions.

 

We believe that the current level of cash and short-term investments, together with cash generated from operations, should be sufficient to meet our capital needs. From time to time, acquisition opportunities are evaluated. The timing, size or success of any acquisition and the associated capital commitments are unpredictable. Should opportunities for growth requiring capital arise, we believe we would be able to satisfy these needs through a combination of working capital, cash generated from operations, our existing credit facility and additional debt or equity financing. However, there can be no assurance that such capital would be available.

Results of Operations

 

The following tables summarize operations by business segment for the three months ended June 30, 2007 and 2006:

 

 

Demand for our contract drilling services is dependent upon the prevailing prices for natural gas. The average market price of natural gas fell from $8.98 per Mcf in 2005 to $6.94 per Mcf in 2006. This decrease resulted in our customers reducing their drilling activities beginning in the fourth quarter of 2006 and continuing into 2007. As a result of the decrease in drilling activities by our customers, our average rigs operating declined to 237 in the second quarter of 2007 compared to 255 in the first quarter of 2007 and 295 in the second quarter of 2006.

 

Revenues in the second quarter of 2007 decreased as compared to the second quarter of 2006 as a result of the decreased number of operating days in 2007 and a decrease of approximately $370 in the average revenue per operating day. The increase in average direct operating costs per day of approximately $1,770 resulted primarily from increased compensation costs and an increase in the cost of maintenance for our drilling rigs, partially caused by costs relating to the deactivating of drilling rigs. Selling, general and administrative expense decreased primarily as a result of the transfer of administrative staff to our corporate segment. Significant capital expenditures have been incurred to activate additional drilling rigs, to modify and upgrade our drilling rigs and to acquire additional related equipment such as drill pipe, drill collars, engines, fluid circulating systems, rig hoisting systems and safety enhancement equipment. The increase in depreciation expense was a result of the capital expenditures discussed above.

 

 

Revenues and direct operating costs increased as a result of the increased number of jobs, as well as an increase in the average revenue and average direct operating costs per job. The increase in jobs was attributable to increased demand for our services and increased operating capacity. Increased average revenue per job was due to increased pricing for our services and an increase in the number of larger jobs. Average direct operating costs per job increased as a result of increases in compensation and the cost of materials used in our operations, as well as an increase in the number of larger jobs. Selling, general and administrative expense increased primarily as a result of additional expenses to support the expanding operations of the pressure pumping segment. Significant capital expenditures

have been incurred to add capacity, expand our areas of operation and modify and upgrade existing equipment. The increase in depreciation expense was a result of the capital expenditures discussed above.

 

 

Revenues and direct operating costs decreased primarily as a result of decreases in the average revenue and direct operating costs per job and in the number of total jobs. Average revenue and direct operating costs per job decreased primarily as a result of a decrease in the number of large jobs offshore in the Gulf of Mexico.

 

 

Revenues increased primarily due to an increase in the net daily production of natural gas and an increase in the average sales price of natural gas. Average net daily oil and natural gas production increased primarily due to the completion of wells subsequent to the second quarter of 2006, partially offset by production declines in existing wells and by the sale of certain properties in 2007. The decrease in direct operating costs is primarily due to a decrease of approximately $3.0 million in costs associated with the abandonment of exploratory wells. Depreciation, depletion and impairment expense in the second quarter of 2007 includes approximately $534,000 incurred to impair certain oil and natural gas properties compared to approximately $1.3 million incurred to impair certain oil and natural gas properties in the second quarter of 2006.

 

Selling, general and administrative expense increased primarily as a result of compensation expense related to transfers of administrative staff to our corporate segment as well as increases in stock-based compensation expense and professional fees. In the second quarter of 2007 we sold certain oil and natural gas properties resulting in a gain of $20.3 million. This gain was reduced by approximately $3.8 million in losses associated with the disposal of other assets. Gains and losses on the disposal of assets are considered as part of our corporate activities due to the fact that such transactions relate to decisions of the executive management group regarding corporate strategy. Embezzlement costs (recoveries) in the second quarter of 2007 includes an expected recovery of $42.5 million, reduced by approximately $600,000 in additional professional and other costs incurred as a result of the embezzlement. Embezzlement costs (recoveries) in the second quarter of 2006 include professional and other costs incurred as a result of the embezzlement. Interest income decreased due to the decrease in cash available to invest. During 2006, we repurchased $450 million of our common stock. Interest expense in 2007 increased primarily due to higher average borrowings that were outstanding under our line of credit during the second quarter of 2007.

 

The following tables summarize operations by business segment for the six months ended June 30, 2007 and 2006: