UNITED STATES


SECURITIES AND EXCHANGE COMMISSION


Washington, D.C. 20549













FORM 10-Q




















(Mark One)


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





For the quarterly period ended September 30, 2009





OR





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





For the transition period from to









Commission File Number 000-51471




















BRONCO DRILLING COMPANY, INC.


(Exact name of registrant as specified in its charter)





















Delaware

20-2902156(State or other jurisdiction of
incorporation or organization)

(I.R.S. Employer
Identification No.)







16217 North May Avenue


Edmond, OK 73013


(Address of principal executive offices) (Zip Code)







(405) 242-4444


(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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such
files).   Yes  ̈     No x


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





Large Accelerated Filer  ̈
Accelerated Filer  x
Non-Accelerated Filer   ̈
Smaller Reporting Company   ̈





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





As of October 31, 2009, 27,217,459 shares of common stock were outstanding.





Table of Contents








BRONCO DRILLING COMPANY, INC.





INDEX





PagePART I—FINANCIAL INFORMATIONItem 1.

Financial Statements

3Bronco Drilling Company, Inc.:Consolidated Balance Sheets as of September 30, 2009 (unaudited) and December 31, 2008

3Consolidated Statements of Operations for the three and nine months ended September 30, 2009 and 2008 (unaudited)

4Consolidated Statement of Stockholders’ Equity for the nine months ended September 30,  2009 (unaudited)

5Consolidated Statements of Cash Flows for the nine months ended September 30, 2009 and 2008 (unaudited)

6Notes to Consolidated Financial Statements (unaudited)

7Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

13Item 3.

Quantitative and Qualitative Disclosures about Market Risks

20Item 4.

Controls and Procedures

20PART II—OTHER INFORMATION

20Item 1.

Legal Proceedings

20Item 1A.

Risk Factors

20Item 2.

Unregistered Sale of Equity Securities and Use of Proceeds

21Item 3.

Defaults Upon Senior Securities

21Item 4.

Submission of Matters to Vote of Security Holders

21Item 5.

Other Information

21Item 6.

Exhibits

21Signatures

22


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Bronco Drilling Company, Inc. and SubsidiariesCONSOLIDATED BALANCE SHEETS(Amounts in thousands, except share par value)September 30,


December 31,2009


2008ASSETS

(Unaudited)CURRENT ASSETSCash and cash equivalents

$
18,118


$
26,676ReceivablesTrade and other, net of allowance for doubtful accounts of$3,229 and $3,830 in 2009 and 2008, respectively
17,918



65,817Unbilled receivables
596



2,940Income tax receivable


3,614



2,072Current deferred income taxes


981



2,844Current maturities of note receivable from affiliate


2,501



6,900Prepaid expenses


1,069



572Other current assets


1,660



-Total current assets


46,457



107,821PROPERTY AND EQUIPMENT - AT COSTDrilling rigs and related equipment


436,753



512,158Transportation, office and other equipment


42,219



43,912478,972



556,070Less accumulated depreciation


137,066



123,915341,906



432,155OTHER ASSETSNote receivable from affiliate, less current maturities


1,024



3,451Investment in Challenger


39,800



62,875Investment in Bronco MX


21,495



-Intangibles, net, and other


3,217



6,05265,536



72,378$
453,899


$
612,354LIABILITIES AND STOCKHOLDERS' EQUITYCURRENT LIABILITIESAccounts payable

$
8,109


$
18,473Accrued liabilities


6,678



16,249Current maturities of long-term debt


88



1,464Total current liabilities


14,875



36,186LONG-TERM DEBT,  less current maturities and discount


51,613



116,083WARRANT


6,257



-DEFERRED INCOME TAXES


36,125



66,074COMMITMENTS AND CONTINGENCIES (Note 6)STOCKHOLDERS' EQUITYCommon stock, $.01 par value, 100,000shares authorized; 26,668 and 26,346 sharesissued and outstanding at September 30, 2009 and December 31, 2008


269



267Additional paid-in capital


306,552



304,015Retained earnings


38,208



89,729Total stockholders' equity


345,029



394,011$
453,899


$
612,354The accompanying notes are an integral part of these statements.


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Bronco Drilling Company, Inc. and SubsidiariesCONSOLIDATED STATEMENTS OF OPERATIONS(Amounts in thousands, except per share amounts)Three Months Ended September 30,


Nine Months Ended September 30,2009


2008


2009


2008(Unaudited)


(Unaudited)REVENUESContract drilling revenues, including 0%, 1%, 0%, and 1% to related parties$
16,233


$
63,509


$
90,556


$
178,076Well service, including 0%, 5%, 0%, and 2% to related parties-



9,474



3,799



27,01716,233



72,983



94,355



205,093EXPENSESContract drilling


14,031



39,190



62,109



109,099Well service


443



8,201



4,015



19,222Depreciation and amortization


11,664



12,939



36,152



37,321General and administrative


5,379



13,199



15,497



24,353Loss on Bronco MX transaction


23,964



-



23,964



-Loss (gain) on Challenger transactions


-



63



-



(3,138
)55,481



73,592



141,737



186,857Income (loss) from operations


(39,248
)


(609
)


(47,382
)


18,236OTHER INCOME (EXPENSE)Interest expense


(1,494
)


(969
)


(5,648
)


(3,356
)Loss from early extinguishment of debt


(2,859
)


-



(2,859
)


-Interest income


73



43



237



1,052Equity in income (loss) of Challenger


(1,271
)


1,078



(1,828
)


2,854Impairment of investment in Challenger


(21,247
)


-



(21,247
)


-Other


(145
)


(520
)


(451
)


(67
)Change in fair value of warrant


(1,578
)


-



(1,578
)


-(28,521
)


(368
)


(33,374
)


483Income (loss) before income taxes


(67,769
)


(977
)


(80,756
)


18,719Income tax expense (benefit)


(25,115
)


(60
)


(29,235
)


7,148NET INCOME (LOSS)

$
(42,654
)

$
(917
)

$
(51,521
)

$
11,571Income (loss) per common share-Basic

$
(1.60
)

$
(0.03
)

$
(1.93
)

$
0.44Income (loss) per common share-Diluted

$
(1.60
)

$
(0.03
)

$
(1.93
)

$
0.44Weighted average number of shares outstanding-Basic


26,663



26,290



26,637



26,275Weighted average number of shares outstanding-Diluted


26,663



26,290



26,637



26,363The accompanying notes are an integral part of these statements.


-4-
 Table of Contents


Bronco Drilling Company Inc. and SubsidiariesCONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY(Amounts in thousands)For the nine months ended September 30, 2009(Unaudited)Additional





TotalCommon


Common


Paid In


Retained


Stockholders'Shares


Amount


Capital


Earnings


EquityBalance as of January 1, 2009


26,346


$
267


$
304,015


$
89,729


$
394,011Net loss


-



-



-



(51,521
)


(51,521
)Stock compensation


322



2



2,537



-



2,539Balance as of September 30, 2009


26,668


$
269


$
306,552


$
38,208


$
345,029The accompanying notes are an integral part of this statement.


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Bronco Drilling Company, Inc. and SubsidiariesCONSOLIDATED STATEMENTS OF CASH FLOWS(Amounts in thousands)Nine Months Ended September 30,2009


2008(Unaudited)Cash flows from operating activities:Net income (loss)

$
(51,521
)

$
11,571Adjustments to reconcile net income (loss) to net cashprovided by operating activities:Depreciation and amortization


36,722



37,759Bad debt expense


1,443



135Loss on sale of assets


477



1Write off of debt issue costs


2,859



-Impairment of investment in Challenger


21,247



-Gain on Challenger transactions


-



(3,138
)Change in fair value of warrant


1,578



-Loss on Bronco MX transaction


23,964



-Equity in loss (income) of Challenger


1,828



(2,854
)Stock compensation


2,539



4,543Provision for deferred income taxes


(28,086
)


7,148Changes in current assets and liabilities:Receivables


42,871



2,234Unbilled receivables


2,344



(890
)Prepaid expenses


(497
)


(683
)Other assets


(1,305
)


586Accounts payable


(12,995
)


(5,430
)Accrued expenses


(9,571
)


(4,145
)Income taxes receivable


(1,542
)


(493
)Net cash provided by operating activities


32,355



46,344Cash flows from investing activities:Restricted cash account


-



70Business acquisitions, net of cash acquired


-



(5,063
)Principal payments on note receivable


2,142



-Proceeds from sale of 60% of outstanding membershipinterests in Bronco MX


31,735



-Proceeds from sale of assets


769



4,679Purchase of property and equipment


(12,788
)


(64,880
)Net cash provided by (used in) investing activities


21,858



(65,194
)Cash flows from financing activities:Proceeds from borrowings and warrant


55,000



21,100Payments of debt


(116,167
)


(2,413
)Debt issue costs


(1,604
)


(3,501
)Net cash (used in) provided by financing activities


(62,771
)


15,186Net (decrease) in cash and cash equivalents


(8,558
)


(3,664
)Beginning cash and cash equivalents


26,676



5,721Ending cash and cash equivalents

$
18,118


$
2,057Supplementary disclosure of cash flow information:Interest paid, net of amount capitalized

$
6,616


$
2,838Income taxes paid


393



493Supplementary disclosure of non-cash investing and financing:Assets exchanged/sold for equity interest and note receivable


-



72,503Note issued for acquisition of property and equipment


-



1,277Purchase of property and equipment in accounts payable


2,631



12,480Common stock received for payment of receivable


-



1,900Reduction of receivable for property and equipment


5,040



-Assets contributed to Bronco MX


77,194



-The accompanying notes are an integral part of these statements.


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Bronco Drilling Company, Inc. and Subsidiaries


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


(Unaudited)


($ Amounts in thousands, except per share amounts)




Unless the context requires otherwise, a reference in this quarterly report to “Bronco,” the “Company,” “we,” “us,” and “our” are to Bronco Drilling Company, Inc., a Delaware corporation, and its consolidated subsidiaries.




1. Organization and Summary of Significant Accounting Policies




Business and Principles of Consolidation





Bronco Drilling Company, Inc. (the “Company”) provides contract land drilling and workover services to oil and natural gas exploration and production companies. The accompanying consolidated financial statements include the Company’s accounts
and the accounts of its wholly owned subsidiaries.  All intercompany accounts and transactions have been eliminated in consolidation.





The Company has prepared the accompanying unaudited consolidated financial statements and related notes in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions of Form
10-Q and Regulation S-X. In preparing the financial statements, the Company made various estimates and assumptions that affect the amounts of assets and liabilities the Company reports as of the dates of the balance sheets and amounts the Company reports for the periods shown in the consolidated statements of operations, stockholders’ equity and cash flows. The Company’s actual results could differ significantly from those estimates. Material estimates that are particularly susceptible to significant
changes in the near term relate to the Company’s recognition of revenues and accrued expenses, estimate of the allowance for doubtful accounts, estimate of asset impairments, estimate of deferred taxes and determination of depreciation and amortization expense.





In management’s opinion, the accompanying unaudited consolidated financial statements contain all adjustments (consisting of normal recurring accruals) necessary to present fairly the financial position of the Company as of September 30, 2009, the related results of operations for the three
and nine months ended September 30, 2009 and 2008 and the cash flows for the nine months ended September 30, 2009 and 2008.  The information included in this Quarterly Report on Form 10-Q should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2008.  In preparing the accompanying unaudited consolidated financial statements, we have reviewed, as we have determined necessary, events that have occurred after September 30, 2009 through
the filing of this Form 10-Q on November 9, 2009.





The results of operations for the three and nine months ended September 30, 2009 are not necessarily an indication of the results expected for the full year.





A summary of the significant accounting policies consistently applied in the preparation of the accompanying consolidated financial statements follows.




Cash and Cash Equivalents





The Company considers all highly liquid debt instruments purchased with a maturity of three months or less and money market mutual funds to be cash equivalents.





The Company maintains its cash and cash equivalents in accounts and instruments which may not be federally insured beyond certain limits. The Company has not experienced any losses in such accounts and believes it is not exposed to any significant credit risks
on cash and cash equivalents.




Property and Equipment




Property and equipment, including renewals and betterments, are capitalized and stated at cost, while maintenance and repairs are expensed currently. Assets are depreciated on a straight-line basis. The depreciable lives of drilling and workover rigs and related equipment are three to 15 years. The depreciable life of other equipment
is three years. Depreciation is not commenced until acquired rigs are placed in service. Once placed in service, depreciation continues when rigs are being repaired, refurbished or between periods of deployment. Assets not placed in service and not being depreciated were $28,155 and $34,293 as of September 30, 2009 and December 31, 2008, respectively.  Due to immateriality, gains and losses on dispositions are included in contract drilling and well service revenues.




The Company capitalizes interest as a component of the cost of drilling and workover rigs constructed for its own use. For the nine months ended September 30, 2009 and 2008, the Company capitalized $0 and $663, respectively, and for the three months ended September 30, 2009 and 2008, the Company capitalized $0 and $205, respectively,
of interest costs incurred during the construction periods of certain drilling and workover rigs.




The Company reviews long-lived assets to be held and used for impairment whenever events or changes in circumstances indicate that the carrying amount of the assets may not be recoverable. If the sum of the undiscounted expected future cash flows is less than the carrying amount of the assets, the Company recognizes an impairment loss
based upon fair value of the asset.




Income Taxes





Pursuant to ASC Topic 740, Income Taxes(guidance formerly reflected in SFAS 109, Accounting for Income Taxes)the Company followsthe
asset and liability method of accounting for income taxes, under which the Company recognizes deferred tax assets and liabilities for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases.  Deferred tax assets and liabilities were measured using enacted tax rates expected to apply to taxable income in the years in which the Company expects to recover or settle those temporary differences.  A
statutory Federal tax rate of 35% and effective state tax rate of 3.7% (net of Federal income tax effects) were used for the enacted tax rates for all periods.  The Company’s effective income tax rate during the three and nine months ended September 30, 2009 is higher than what would be expected if the federal statutory rate were applied to income before income taxes primarily because of certain stock compensation expenses recorded for financial reporting purposes that are not deductible for tax
purposes.





As changes in tax laws or rates are enacted, deferred income tax assets and liabilities are adjusted through the provision for income taxes.  Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than
not that some portion or all of the deferred tax assets will not be realized.  The classification of current and noncurrent deferred tax assets and liabilities is based primarily on the classification of the assets and liabilities generating the difference.





The Company applies the provisions of ASC Topic 740 which addresses 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. The Company recognizes interest and/or penalties related to income tax matters as income tax expense. As of September 30, 2009, the tax years ended December 31, 2005 through December 31, 2008 are open for examination by U.S. taxing authorities.




Net Income (Loss) Per Common Share





The Company computes and presents net income (loss) per common share in accordance with ASC Topic 260, Earnings per Share(guidance formerly reflected in SFAS 128, Earnings
per Share). This standard requires dual presentation of basic and diluted net income (loss) per share on the face of the Company’s statement of operations. Basic net income (loss) per common share is computed by dividing net income or loss attributable to common stock by the weighted average number of common shares outstanding for the period. Diluted net income (loss) per common share reflects the potential dilution that could occur if options or other contracts to issue common stock were exercised
or converted into common stock.




Stock-based Compensation





The Company accounts for stock-based compensation in accordance with ASC Topic 718, Stock Compensation(guidance formerly reflected in SFAS 123(R), Share-Based
Payment).  ASC Topic 718 requires a public entity to measure the costs of employee services received in exchange for an award of equity or liability instruments based on the grant-date fair value of the award. That cost will be recognized over the periods during which an employee is required to provide service in exchange for the award.


-7-
 Table of Contents





Recent Accounting Pronouncements





The FASB Accounting Standards Codification.FASB Accounting Standards Codification (ASC) became effective for this quarterly report.  ASC Topic 105, Generally Accepted Accounting
Principles, (guidance formerly reflected in SFAS 168) establishes the ASC as the single source of authoritative U.S. generally accepted accounting principles (U.S. GAAP) recognized by the FASB to be applied by nongovernmental entities.  Rules and interpretive releases of the SEC under authority of federal securities laws are also sources of authoritative U.S. GAAP for SEC registrants.  The ASC supersedes all existing non-SEC accounting and reporting standards.  All other nongrandfathered
non-SEC accounting literature not included in the ASC will become nonauthoritative.  Following ASC Topic 105, the FASB will not issue new standards in the form of Statements, FASB Staff Positions, or Emerging Issues Task Force Abstracts.  Instead, the FASB will issue Accounting Standards Updates, which will serve only to: (a) update the ASC, (b) provide background information about the guidance and (c) provide the basis for conclusions on the change(s) in the ASC.  The adoption of
this standard has changed how we reference various elements of U.S. GAAP in the Company’s financial statement disclosures, but has no impact on the Company’s financial position, results of operation or cash flows.





In September 2006, the FASB issued an accounting standard that defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles (“GAAP”), and expands disclosures about fair value measurements. The initial
application of this standard was limited to financial assets and liabilities and became effective on January 1, 2008 for the Company.  On January 1, 2009 the Company adopted this standard on a prospective basis for non-financial assets and liabilities not measured at fair value on a recurring basis.  The application of this standard to the Company’s non-financial assets and liabilities is primarily limited to assets acquired and liabilities assumed in a business combination, asset retirement
obligations and asset impairments, including goodwill and long lived assets and has not had a material impact on the Company’s consolidated financial statements.





In December 2007, the FASB issued a new accounting standard that calls for significant changes from then current practice in accounting for business combinations.  The standard establishes principles and requirements for how the acquirer of a business
recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any noncontrolling interest in the acquiree. The standard also provides guidance for recognizing and measuring the goodwill acquired in the business combination and determines what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination. The standard applies prospectively to business combinations for which the acquisition
date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. The adoption of this standard did not have an immediate impact on the Company’s consolidated financial statements.





In December 2007, the FASB issued a new accounting standard which establishes accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. It clarifies that a noncontrolling interest in a subsidiary
is an ownership interest in the consolidated entity that should be reported as equity in the consolidated financial statements. The standard requires retroactive adoption of the presentation and disclosure requirements for existing minority interests. All other requirements of this standard shall be applied prospectively. The standard is effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2008.  The provisions of this standard were applied to
the Company’s accounting for its sale of 60% of its membership interests in Bronco Drilling MX, S. de R.L. de C.V. ("Bronco MX"). See Note 2, Equity Method Investments, regarding the $23,964 loss on the Bronco MX transaction.





In June 2008, the FASB issued a new accounting standard which provides that unvested share-based payment awards that contain nonforfeitable rights to dividends are participating securities and shall be included in the computation of earnings per share pursuant
to the two class method.  This standard is effective for financial statements issued for fiscal years beginning after December 15, 2008 and interim periods within those years.  The adoption of this standard did not have a material impact on the Company’s consolidated financial statements.





In April 2009, the FASB issued a staff position which increases the frequency of fair value disclosures for financial instruments from annual only to quarterly reporting periods.  The provisions of this staff position are effective for financial
statements issued for interim and annual periods ending after June 15, 2009 and became effective for the Company in the quarter ended June 30, 2009.  The adoption of this staff position did not have a material impact on the Company’s consolidated financial statements. The carrying amount of our cash and cash equivalents, trade receivables, payables and debt approximate their fair values.





In June 2009, the FASB issued a new accounting standard which requires entities to disclose the date through which they have evaluated subsequent events and whether the date corresponds with the release of their financial statements. The requirements of the
standard are effective for interim and annual periods ending after June 15, 2009.  The standard did not have a material impact on the Company’s consolidated financial statements.




2. Equity Method Investments





On January 4, 2008, we acquired a 25% equity interest in Challenger Limited (“Challenger”), in exchange for six drilling rigs valued at $72,937 and $5,063 in cash.  The Company’s 25% interest at September 30, 2009 was based on 64,957,265
shares outstanding.  The Company recorded equity in income (loss) of investment of ($1,271) and ($1,828) for the three and nine months ended September 30, 2009, respectively, and $1,078 and $2,854 for the three and nine months ended September 30, 2008, respectively, related to its equity investment in Challenger.  Challenger is an international provider of contract land drilling and workover services to oil and natural gas companies with its principal operations in Libya.  Five of
the contributed drilling rigs were from our existing marketed fleet and one was a newly constructed rig.  The general specifications of the contributed rigs are as follows:


ApproximateDrillingRig

Design
Depth (ft)
Type
Horsepower3

Cabot 900
10,000
Mechanical
95018

Gardner Denver 1500E
25,000
Electric
2,00019

Mid Continent U-1220 EB
25,000
Electric
2,00038

National 1320
25,000
Electric
2,00093

National T-32
8,000
Mechanical
50096

Ideco H-35
8,000
Mechanical
400


The Company also sold to Challenger four drilling rigs and ancillary equipment.  The sales price of $12,990 consisted of $1,950 in cash, installment receivable of $1,500 and a term note of $9,540.  During the second quarter of 2009, the Company and Challenger agreed to reduce the installment receivable
and term note by approximately $5,040 and the Company assumed ownership of two drilling rigs that were originally sold to Challenger.  The term note bears interest at 8.5%.  Interest and principal payments of $529 on the note are due quarterly until maturity at February 2, 2011.  The note receivable is collateralized by the assets sold to Challenger.  The note receivable from Challenger at September 30, 2009 was $3,525, of which $2,501 was classified as current and $1,024
was classified as long-term.





The Company recorded a net gain of $3,200 for the nine months ended September 30, 2008 relating to the exchange and sale of rigs and equipment to Challenger.  The transactions were completed on January 4, 2008.  Prior to these transactions,
Challenger owned a fleet of 23 rigs.





On February 20, 2008, the Company entered into a Management Services Agreement and Master Services Agreement with Challenger.  The Company agreed to make available to Challenger certain employees of the Company for the purpose of providing land drilling
services, certain business consulting services and managerial support to Challenger.  The Company invoices Challenger monthly for the services provided.  The Company had accounts receivable from Challenger of $2,347 and $3,387 at September 30, 2009 and December 31, 2008, respectively, related to these services provided.





At September 30, 2009, the book value of the Company’s ordinary equity investment in Challenger was $39,800.  The Company’s 25% interest of the net assets of Challenger was estimated to be $36,174.  The basis difference between the
Company’s ordinary equity investment in Challenger and the Company’s 25% interest of the net assets of Challenger primarily relates to certain property, plant and equipment in the amount of $3,626.  These amounts are being amortized against the Company’s 25% interest of Challenger’s net income over the estimated useful lives of 15 years for the property, plant and equipment.  Amortization recorded during the three and nine months ended
September 30, 2009 was $321 and $965, respectively.





The Company reviewed its investment in Challenger at September 30, 2009 for impairment based on the guidance of ASC Topic 323, Investments-Equity Method and Joint Venture,which states that a loss in value of an investment which is other than
a temporary decline should be recognized. Evidence of a loss in value might include the absence of an ability to recover the carrying amount of the investment or inability of the investee to sustain an earnings capacity which would justify the carrying amount of the investment. A current fair value of an investment that is less than its carrying amount may indicate a loss in value of the investment. Due to the recent volatility and decline in oil and natural gas prices, the deterioration of the global economic
environment and the anticipated future earnings of Challenger, the Company deemed it necessary to test the investment for impairment. Fair value of the investment was estimated using a combination of income, or discounted cash flows approach, and the market approach, which utilizes comparable companies’ data. The analysis resulted in a fair value of $39,800 related to our investment in Challenger, which was below the carrying amount of the investment and resulted in a non-cash impairment charge in
the amount of $21,247.


-8-
 Table of Contents





Summarized financial information of Challenger is presented below:


Three Months Ended September 30,


Nine Months Ended September 30,2009


2008


2009


2008Condensed statement of operations:Revenues

$
13,371


$
19,225


$
45,021


$
52,665Gross margin

$
3,458


$
9,666


$
15,796


$
26,537Net Income (loss)

$
(3,798
)

$
2,620


$
(3,451
)

$
8,218September 30,


December 31,2009



2008Condensed balance sheet:Current assets

$
65,708


$
50,837Noncurrent assets


130,203



141,558Total assets

$
195,911


$
192,395Current liabilities

$
26,625


$
26,944Noncurrent liabilities


24,590



17,304Equity


144,696



148,147Total liabilities and equity

$
195,911


$
192,395


On September 18, 2009, the Company and Saddleback Properties LLC, a wholly-owned subsidiary of the Company, entered into a Membership Interest Purchase Agreement (the “Purchase Agreement”) with Carso Infraestructura y Construccion, S.A.B. de C.V. (“CICSA”),
pursuant to which CICSA purchased 60% of the outstanding membership interests of Bronco MX.  After giving effect to the transactions contemplated by the Purchase Agreement, the Company owns the remaining 40% of the outstanding membership interests of Bronco MX.  Immediately prior to the sale of the membership interests in Bronco MX to CICSA, the Company contributed six drilling rigs (Nos. 4, 43, 53, 58, 60 and 72), and the future net profit from rig leases relating to three additional
drilling rigs (Nos. 55, 76 and 78), which the Company has also agreed to contribute to Bronco MX upon the expiration or earlier termination of the leases relating to such rigs.





The Company received $31,735 from CICSA in exchange for the 60% membership interest in Bronco MX, including reimbursement for 60% of value added taxes previously paid by, or on behalf of, Bronco MX as a result of the importation of six drilling rigs
that were contributed by the Company to Bronco MX to Mexico.  Upon completion of the transaction, the Company treated Bronco MX as a deconsolidated subsidiary in order to compute a loss in accordance with ASC Topic 810, Consolidation(guidance formerly under SFAS160 Noncontrolling Interests in Consolidated Financial Statements-an amendment of ARB51),due to the Company not retaining a controlling
financial interest in Bronco MX subsequent to the sale.  The Company recorded a net loss of $23,964 for the three and nine months ended September 30, 2009 relating to the transactions.  The loss was computed based on the proceeds received from CICSA of $31,735 and the value of the Company’s 40% retained interest in Bronco MX of $21,495 less the book value of the net assets of Bronco MX, including rigs contributed to Bronco MX, of $77,194.  Fair value of the Company’s
40% investment in Bronco MX was estimated using a combination of income, or discounted cash flows approach, the market approach, which utilizes pricing of third-party transactions of comparable businesses or assets and the cost approach which considers replacement cost as the primary indicator of value. The analysis resulted in a fair value of $21,495 related to the Company’s 40% retained interest in Bronco MX.  The Company is in the process of gathering additional information in order to finalize
the accounting related to these transactions, including the allocation of the difference, if any, between the amount of the Company’s investment and the amount of the underlying equity in the net assets of Bronco MX.





Bronco MX is jointly managed, with CICSA having three representatives on its board of managers and the Company having two representatives on its board of managers.  The Company and CICSA, and their respective affiliates, have agreed to
conduct all future land drilling and workover rig services, rental, construction, refurbishment, transportation, trucking and mobilization in Mexico and Latin America exclusively through Bronco MX, subject to Bronco MX’s ability to perform.




3. Long-term Debt and Warrant





Long-term debt consists of the following:




September 30,


December 31,2009


2008Notes payable to De Lage Landen Financial Services, collateralized by cranes,payable in ninety-six monthly principal and interest installments of $61Interest on the notes ranges from 6.74% - 7.07%, repaid in March, 2009. (1)

$
-


$
3,234Revolving credit facility with Fortis Bank SA/NV, New York Branch, collateralized by the Company'sassets, and was to mature on September 29, 2013.  Loans under the revolving credit facilitybore interest at variable rates as defined in the credit agreement, repaid September, 2009. (2)


-



111,100Revolving credit facility with Banco Inbursa, S.A., collateralized by the Company's assets,and matures on September 17, 2014.  Loans under the revolving credit facilitybear interest at variable rates as defined in the credit agreement. (3)


50,321



-Note payable to Ameritas Life Insurance Corp., collateralized by a building, payable in
principal and interest installments of $14, interest on the note is 6.0%, maturity date of
January 1, 2021. (4)


1,380



1,442Notes payable to General Motors Acceptance Corporation, collateralized by trucks, payable in
monthly principal and interest installments of $65, repaid in March, 2009. (5)


-



1,623Note payable to John Deere Construction & Forestry Company, collaterized by forklifts,
payable in thirty-six monthly installments of $11, repaid in March, 2009 (6)


-



124Note payable to Ford Motor Credit, collateralized by a truck, payable in principal and interestinstallments of $1.  Interest on the note is 2.9%, repaid in March, 2009. (7)


-



2451,701



117,547Less current installments


88



1,46451,613



116,083




(1)
On December 7, 2005, January 4, 2006, and June 12, 2006, the Company entered into Term Loan and Security Agreements with De Lage Landen Financial Services, Inc. The loans provide for term installments in an aggregate amount not to exceed $4,512. The proceeds of the term loans were used to purchase four cranes.  The term loans were repaid in full on March 30, 2009.




-9-
 Table of Contents




(2)
On January 13, 2006, the Company entered into a $150,000 revolving credit facility with Fortis Capital Corp., as administrative agent, lead arranger and sole book runner, and a syndicate of lenders.  On September 29, 2008, the Company amended and restated this revolving credit facility.  This $150,000 amended and restated credit facility was with Fortis Bank SA/NV, New York Branch, as administrative
agent, joint lead arranger and sole bookrunner, and a syndicate of lenders, which included The Royal Bank of Scotland plc, The CIT Group/Business Credit, Inc., The Prudential Insurance Company of America, Legacy Bank, Natixis and Caterpillar Financial Services Corporation.  Loans under the revolving credit facility bore interest at LIBOR plus a 4.0% margin or, at our option, the prime rate plus a 3.0% margin.   The Company incurred $3,501 in debt issue costs related to the amended and
restated credit facility.

The revolving credit facility also provided for a quarterly commitment fee of 0.5% per annum of the unused portion of the revolving credit facility, and fees for each letter of credit issued under the facility. Commitment fees expense for the three and nine months ended September 30, 2009 were $136 and $441, respectively, and for the three and nine months ended September 30, 2008 were $106 and $221, respectively.
The revolving credit facility was repaid in full on September 18, 2009.  The Company incurred a loss from early extinguishment of debt of approximately $2,859.




(3)
On September 18, 2009, the Company entered into a new senior secured revolving credit facility (the “Credit Facility”) with Banco Inbursa, S.A., Institución de Banca Múltiple, Grupo Financiero Inbursa, as lender and as the issuing bank ("Banco Inbursa").  The Company utilized (i) borrowings under the Credit Facility, (ii) proceeds from the sale of the membership interests of Bronco MX
and (iii) cash-on-hand to repay all amounts outstanding under the Company’s prior revolving credit agreement with Fortis Bank SA/NV, New York Branch, which has been replaced by the Credit Facility.

The Credit Facility provides for revolving advances of up to $75,000 and matures on September 17, 2014.  The borrowing base under the Credit Facility has been initially set at $75,000, subject to borrowing base limitations.  Outstanding borrowings under the Credit Facility bear interest at the Eurodollar rate plus 5.80% per annum, subject to adjustment under certain circumstances.  The
Company incurred $1,604 in debt issue costs related to the revolving credit facility.

The Company will pay a quarterly commitment fee of 0.5% per annum on the unused portion of the Credit Facility and a fee of 1.50% for each letter of credit issued under the facility. In addition, an upfront fee equal to 1.50% of the aggregate commitments under the Credit Facility was paid by the Company at closing. The Company’s domestic subsidiaries have guaranteed the loans and other obligations under the Credit
Facility. The obligations under the Credit Facility and the related guarantees are secured by a first priority security interest in substantially all of the assets of the Company and its domestic subsidiaries, including the equity interests of the Company’s direct and indirect subsidiaries.

The Credit Facility contains customary representations and warranties and various affirmative and negative covenants, including, but not limited to, covenants that restrict the Company’s ability to make capital expenditures, incur indebtedness, incur liens, dispose of property, repay debt, pay dividends, repurchase shares and make certain acquisitions, and a financial covenant requiring that the Company maintain
a ratio of consolidated debt to consolidated earnings before interest, taxes, depreciation and amortization for any four consecutive fiscal quarters of not more than 3.5 to 1.0.  A violation of these covenants or any other covenant in the Credit Facility could result in a default under the Credit Facility which would permit the lender to restrict the Company’s ability to access the Credit Facility and require the immediate repayment of any outstanding advances under the Credit Facility. The
Credit Facility also provides for mandatory prepayments in certain circumstances.

In conjunction with its entry into the Credit Facility, the Company entered into a Warrant Agreement with Banco Inbursa and, pursuant thereto, issued a three-year warrant (the "Warrant") to Banco Inbursa evidencing the right to purchase up to 5,440,770 shares of the Company’s common stock, $0.01 par value per share (the "Common Stock") subject to the terms and conditions set forth in the
Warrant, including the limitations on exercise set forth below, at an exercise price of $6.50 per share of Common Stock from the date of issuance of the Warrant (the "Issue Date") through the first anniversary of the Issue Date, $7.00 per share following the first anniversary of the Issue Date through the second anniversary of the Issue Date, and $7.50 per share following the second anniversary of the Issue Date through the third anniversary of the Issue Date. The Warrant may be exercised by
the payment of the exercise price in cash or through a cashless exercise whereby the Company withholds shares issuable under the Warrant having a value equal to the aggregate exercise price.

The exercise price per share and the number of shares of Common Stock for which the Warrant may be exercised are subject to adjustment in the event of any split, subdivision, reclassification, combination or similar transactions affecting the Common Stock.  Additionally, in the event that the Warrant is sold and the proceeds per share received by the holder are less than the positive difference of the current
market price per share of the Common Stock less the exercise price then in effect, the Company will be required to pay the seller of the Warrant a make-whole payment equal to such difference.  However, the obligations of the Company in respect of the make-whole payment only inure to the benefit of Banco Inbursa and other members of the Investor Group (as defined in the Warrant), and not other holders of the Warrant.

The Warrant contains limitations on the number of shares of Common Stock that may be acquired by the holder of the Warrant upon any exercise of the Warrant.  Pursuant to the terms of the Warrant, the holder of the Warrant may not exercise the Warrant for a number of shares of Common Stock which will exceed 19.99% of the shares of the Common Stock that are issued and outstanding on the Issue Date (subject to
adjustment for stock splits, combinations and similar events).  In addition, the number of shares that may be acquired by the holder of the Warrant and its Affiliates (as defined in the Warrant) and any other Person (as defined in the Warrant) whose ownership of Common Stock would be aggregated with the ownership of the holder of the Warrant for purposes of Section 13(d) of the Securities Exchange Act of 1934, as amended, does not exceed 19.99% of the total number of shares
of Common Stock that are outstanding immediately after giving effect to such exercise of the Warrant.

In accordance with accounting standards, the proceeds from the Credit Facility were allocated to the Credit Facility and Warrant based on their respective fair values.  Based on this allocation, $50,321 and $4,679 of the net proceeds were allocated to the Credit Facility and Warrant, respectively.  The Warrant has been classified as a liability on the consolidated balance sheet due to the Company’s
obligation to pay the seller of the Warrant a make-whole payment, in cash, under certain circumstances.  The fair value of the Warrant was determined using a pricing model based on a version of the Black Scholes model, which is adjusted to account for the dilution resulting from the additional shares issued for the Warrant.  The valuation was determined by computing the value of the Warrant if exercised in year 1 – 3 with the values weighted by the probability that the warrant would
actually be exercised in that year.  Some of the assumptions used in the model were a volatility of 45% and a risk free interest rate that ranged from 0.41% to 1.57%.

The resulting discount to the Credit Facility will be amortized to interest expense over the term of the Credit Facility such that the carrying value of the Credit Facility at maturity would be equal to $55,000.  Accordingly, the Company will recognize annual interest expense on the debt at an effective interest rate of Eurodollar rate plus 7.58% (interest rate at September 30, 2009 was 7.87%).

In accordance with accounting standards, the Company revalued the Warrant as of September 30, 2009 and recorded the change in the fair value of the Warrant on the consolidated statement of operations.  The fair value of the Warrant was determined using a pricing model based on a version of the Black Scholes model, which is adjusted to account for the dilution resulting from the additional shares issued for
the Warrant.  The valuation was determined by computing the value of the Warrant if exercised in year 1 – 3 with the values weighted by the probability that the Warrant would actually be exercised in that year.  Some of the assumptions used in the model were a volatility of 45% and a risk free interest rate that ranged from 0.40% to 1.45%.  The fair value of the warrant was $6,257 at September 30, 2009.  The Company recorded a change in the fair value of the warrant
on the consolidated statement of operations in the amount of $1,578 for the three and nine months ended September 30, 2009.

In conjunction with the issuance of the Warrant, the Company entered into a Registration Rights Agreement for the benefit of Banco Inbursa and its permitted assignees and transferees.  The Registration Rights Agreement provides for up to three demand registration rights and unlimited piggyback registration rights covering the Warrant, the shares of Common Stock for which the Warrant is exercisable and
all other shares of Common Stock held by Banco Inbursa and its permitted assignees and transferees.  The Registration Rights Agreement provides that the Company shall pay all fees and expenses incident to the performance of its obligations under the Registration Rights Agreement, including the payment of all filing, registration and qualification fees, printers’ and accounting fees, and expenses and disbursements of counsel and contains other customary terms, provisions and covenants for agreements
of this type, including, without limitation, provisions requiring the Company to provide indemnification arising out of or relating to any untrue or alleged untrue statement of a material fact, or relating to any omission or alleged omission of a material fact required to be stated therein to make the statements therein not misleading, contained in a registration statement, prospectus, free writing prospectus or certain other documents.




(4)
On January 2, 2007, the Company assumed a term loan agreement with Ameritas Life Insurance Corp. related to the acquisition of a building.  The loan provides for term installments in an aggregate not to exceed $1,590.





(5)
On various dates during 2007 and 2008, the Company entered into term loan agreements with General Motors Acceptance Corporation.  The loans provide for term installments in an aggregate not to exceed $2,282.  The proceeds of the term loans were used to purchase 57 trucks.  The term loans were repaid in full on March 16, 2009.


-10-
 Table of Contents




(6)
On November 21, 2006, the Company entered into term loan agreements with John Deere Credit.  The loans provide for term installments in an aggregate not to exceed $403.  The proceeds of the term loans were used to purchase two forklifts.  The term loans were repaid in full on March 19, 2009.





(7)
On November 9, 2007, the Company entered into a term loan agreement with Ford Credit.  The loan provides for a term installment in an aggregate not to exceed $36.  The proceeds of the term loan were used to purchase a truck.  The term loan was repaid in full on March 24, 2009.





Long-term debt maturing each year subsequent to September 30, 2009 is as follows:


2010

$
882011


932012


992013


1052014


50,4322015 and thereafter


884$
51,701





4. Workers’ Compensation and Health Insurance





The Company is insured under a large deductible workers’ compensation insurance policy. The policy generally provides for a $1,000 deductible per covered accident. The Company maintains letters of credit in the aggregate amount of $11,460 for the benefit of
various insurance companies as collateral for retrospective premiums and retained losses which may become payable under the terms of the underlying insurance contracts.  The letters of credit are typically renewed annually.  The Company had certificates of deposits in the amount of $11,460 at September 30, 2009 collateralizing the letters of credit.  No amounts have been drawn under the letters of credit. Accrued expenses at September 30, 2009 and December 31, 2008 included approximately
$2,547 and $4,288, respectively, for estimated incurred but not reported costs and premium accruals related to our workers’ compensation insurance.





On November 1, 2005, the Company initiated a self-insurance program for major medical, hospitalization and dental coverage for employees and their dependents, which is partially funded by payroll deductions. The Company provided for both reported and incurred
but not reported medical costs in the accompanying consolidated balance sheets. We have a maximum liability of $125 per employee/dependent per year. Amounts in excess of the stated maximum are covered under a separate policy provided by an insurance company. Accrued expenses at September 30, 2009 and December 31, 2008 included approximately $245 and $1,773, respectively, for our estimate of incurred but not reported costs related to the self-insurance portion of our health insurance.





5. Transactions with Affiliates





The Company has six operating leases with affiliated entities.  Related rent expense was approximately $130 and $416 for the three and nine months ended September 30, 2009, respectively, and $185 and $340 for the three and nine months ended September
30, 2008, respectively.





The Company provided drilling and workover services totaling $880 and $2,242 to affiliated entities during the three and nine months ended September 30, 2008, respectively.  The Company provided $0 in drilling and workover services to affiliated entities
during the three and nine months ended September 30, 2009.





The Company had receivables from affiliates of $2,347 and $3,387 at September 30, 2009 and December 31, 2008, respectively.





Additional information about our transactions with affiliates is included in Note 2, Equity Method Investments.




6. Commitments and Contingencies





Various claims and lawsuits, incidental to the ordinary course of business, are pending against the Company. In the opinion of management, all matters are adequately covered by insurance or, if not covered, are not expected to have a material effect on the Company’s
consolidated financial position, results of operations or cash flows.




7. Business Segments





The Company’s reportable business segments are contract land drilling and well servicing.  The contract land drilling segment utilizes a fleet of land drilling rigs to provide contract drilling services to oil and natural gas exploration and
production companies.  During the nine months ended September 30, 2009, our drilling rigs operated in Oklahoma, Texas, Colorado, Utah, North Dakota, Louisiana, Pennsylvania, and Mexico.  The Company had revenues of $2,516 and $9,390 from rigs operating in Mexico for the three months and nine months ended September 30, 2009, respectively.  The well servicing segment encompasses a full range of services performed with a mobile well servicing rig, including the installation and removal
of downhole equipment and elimination of obstructions in the well bore to facilitate the flow of oil and gas. During the nine months ended September 30, 2009, our workover rigs operated in Oklahoma, Texas, Kansas, Colorado, Arkansas, and New Mexico.  During the second quarter of 2009, the Company temporarily suspended its well servicing operations.  The Company intends to restructure this business unit in anticipation of more favorable market conditions.  The accounting policies
of the segments are the same as those described in the summary of significant accounting policies.  The Company’s reportable segments are strategic business units that offer different products and services.


-11-
 Table of Contents





The following table sets forth certain financial information with respect to the Company’s reportable segments:


Contract land drilling


Well servicing


TotalThree Months Ended September 30, 2009Operating Revenues

$
16,233


$
-


$
16,233Direct operating costs


(14,031
)


(443
)

$
(14,474
)Segment profits (loss)

$
2,202


$
(443
)

$
1,759Depreciation and amortization

$
10,038


$
1,626


$
11,664Capital expenditures

$
5,384


$
251


$
5,635Identifiable assets

$
401,861


$
52,038


$
453,899Three Months Ended September 30, 2008Operating Revenues

$
63,509


$
9,474


$
72,983Direct operating costs


(39,190
)


(8,201
)

$
(47,391
)Segment profits

$
24,319


$
1,273


$
25,592Depreciation and amortization

$
11,360


$
1,579


$
12,939Capital expenditures

$
22,456


$
2,265


$
24,721Identifiable assets

$
548,183


$
66,571


$
614,754Contract land drilling


Well servicing


TotalNine Months Ended September 30, 2009Operating Revenues

$
90,556


$
3,799


$
94,355Direct operating costs


(62,109
)


(4,015
)

$
(66,124
)Segment profits (loss)

$
28,447


$
(216
)

$
28,231Depreciation and amortization

$
31,165


$
4,987


$
36,152Capital expenditures

$
11,810


$
978


$
12,788Identifiable assets

$
401,861


$
52,038


$
453,899Nine Months Ended September 30, 2008Operating Revenues

$
178,076


$
27,017


$
205,093Direct operating costs


(109,099
)


(19,222
)

$
(128,321
)Segment profits

$
68,977


$
7,795


$
76,772Depreciation and amortization

$
33,009


$
4,312


$
37,321Capital expenditures

$
54,926


$
9,954


$
64,880Identifiable assets

$
548,183


$
66,571


$
614,754


The following table reconciles the segment profits above to the operating income as reported in the consolidated statements of operations:


Three Months Ended


Three Months EndedSeptember 30, 2009


September 30, 2008Segment profits

$
1,759


$
25,592General and administrative expenses


(5,379
)


(13,199
)Depreciation and amortization


(11,664
)


(12,939
)Loss on Challenger transaction


-



(63
)Loss on Bronco MX transaction


(23,964
)


-Operating income (loss)

$
(39,248
)

$
(609
)Nine Months Ended


Nine Months EndedSeptember 30, 2009


September 30, 2008Segment profits

$
28,231


$
76,772General and administrative expenses


(15,497
)


(24,353
)Depreciation and amortization


(36,152
)


(37,321
)Gain on Challenger transaction


-



3,138Loss on Bronco MX transaction


(23,964
)


-Operating income (loss)

$
(47,382
)

$
18,236


8. Net Income Per Common Share





The following table presents a reconciliation of the numerators and denominators of the basic and diluted earnings per share (“EPS”) and diluted EPS comparisons as required by ASC Topic 260:


Three Months Ended


Nine Months EndedSeptember 30,


September 30,2009


2008


2009


2008Basic:Net income (loss)

$
(42,654
)

$
(917
)

$
(51,521
)

$
11,571Weighted average shares


26,663



26,290



26,637



26,275Earnings (loss) per share

$
(1.60
)

$
(0.03
)

$
(1.93
)

$
0.44Diluted:Net income (loss)

$
(42,654
)

$
(917
)

$
(51,521
)

$
11,571Weighted average shares:Outstanding (thousands)


26,663



26,290



26,637



26,275Restricted Stock and Options (thousands)


-



-



-



8826,663



26,290



26,637



26,363Income (loss) per share

$
(1.60
)

$
(0.03
)

$
(1.93
)

$
0.44


The weighted average number of diluted shares excludes 98,084 and 199 shares for the three months ended September 30, 2009 and 2008, respectively, and 96,763 and 7,405 for the nine months ended September 30, 2009 and 2008, respectively, subject to restricted stock awards
due to their antidilutive effects. The Company issued a three-year Warrant to Banco Inbursa with the right to purchase up to 5,440,770 shares, none of which are included in our weighted average number of diluted shares due to their antidilutive effects.


-12-
 Table of Contents





9. Fair Value Measurements




As defined in ASC 820, Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (referred to as an "exit price"). Authoritative guidance on fair value measurements and disclosures
clarifies that a fair value measurement for a liability should reflect the entity's non-performance risk. In addition, a fair value hierarchy is established that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted market prices in active markets for identical assets and liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy are:




Level 1:Unadjusted
quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities.




Level 2:Quoted
prices in markets that are not active, or inputs which are observable, either directly or indirectly, for substantially the full term of the asset or liability. This category includes quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in markets that are not active; inputs other than quoted prices that are observable for the asset or liability; and inputs that are derived principally from or corroborated by observable market data by
correlation or other means.




Level 3:Measured
based on prices or valuation models that require inputs that are both significant to the fair value measurement and less observable from objective sources.





Fair Value on Recurring Basis





The Company issued a Warrant in conjunction with its Credit Facility.  In accordance with accounting standards, the Company revalued the Warrant as of September 30, 2009 and recorded the change in the fair value of the Warrant on the consolidated statement of operations.  The
fair value of the Warrant was determined using level 3 inputs.  The Company used a pricing model based on a version of the Black Scholes model, which is adjusted to account for the dilution resulting from the additional shares issued for the Warrant.  The valuation was determined by computing the value of the Warrant if exercised in year 1 – 3 with the values weighted by the probability that the Warrant would actually be exercised in that year.  Some of the assumptions used
in the model were a volatility of 45% and a risk free interest rate that ranged from 0.40% to 1.45%.  The fair value of the warrant was $6,257 at September 30, 2009.  The Company recorded a change in the fair value of the warrant on the consolidated statement of operations in the amount of $1,578 for the three and nine months ended September 30, 2009.





Fair Value on Non-Recurring Basis





On January 1, 2009, the Company adopted the provisions of ASC 820 for nonfinancial assets and liabilities measured at fair value on a non-recurring basis.  Certain assets and liabilities are reported at fair value on a nonrecurring basis in the Company’s consolidated balance sheets. The
Company reviews its long-lived assets to be held and used, including property plant and equipment and its investments in Challenger and Bronco MX, whenever events or circumstances indicate that the carrying value of those assets may not be recoverable.




Due to the recent volatility and decline in oil and natural gas prices, the deterioration in the global economic environment and the anticipated future earnings of Challenger, the Company deemed it necessary to test the investment for impairment. Fair value of the investment was estimated using
level three inputs based on a combination of income, or discounted cash flows approach, and the market approach, which utilizes comparable companies’ data. The analysis resulted in a fair value of $39,800 related to our investment in Challenger as stated in other assets on the Company’s consolidated balance sheet, which was below the carrying value of the investment and resulted in a non-cash impairment charge in the amount of $21,247.




The fair value of the Company’s 40% investment in Bronco MX as of September 18, 2009, was estimated using level three inputs based upon a combination of income, or discounted cash flows approach, the market approach, which utilizes pricing of third-party transactions of comparable businesses or
assets and the cost approach which considers replacement cost as the primary indicator of value. The analysis resulted in a fair value of $21,495 related to the Company’s 40% retained interest in Bronco MX as stated in other assets on the Company’s consolidated balance sheet.





10. Restricted Stock





Under all restricted stock awards to date, shares were issued when granted and nonvested shares are subject to forfeiture for failure to fulfill service conditions.  Restricted stock awards are valued at the grant date market value of the underlying common
stock and are being amortized to operations over the respective vesting period.  Compensation expense for the three and nine months ended September 30, 2009, related to shares of restricted stock was $931 and $2,539, respectively, and for the three and nine months ended September 30, 2008 was $1,954 and $4,543, respectively.  Restricted stock activity for the nine months ended September 30, 2009 was as follows:


Weighted AverageGrant DateShares


Fair ValueOutstanding at December 31, 2008


463,680


$
15.22Granted


415,955



5.28Vested


(330,077
)


15.74Forfeited/expired


-



-Outstanding at September 30, 2009


549,558


$
7.48





There was $1,973 of total unrecognized compensation cost related to nonvested restricted stock awards to be recognized over a weighted-average period of 1.17 years as of September 30, 2009.




11. Employee Benefit Plans





Under the Company’s 401(k) retirement plan, the Company matches 100% of eligible employees’ contributions up to 5% of eligible compensation. Employee and employer contributions vest immediately. The Company’s contributions for the three and nine
months ended September 30, 2009 were $149 and $528, respectively, and for the three and nine months ended September 30, 2008 were $299 and $839, respectively.




ITEM 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations





The following discussion and analysis should be read in conjunction with the “Management’s Discussion and Analysis of Financial Condition and Results of Operations” section and audited consolidated financial statements and related notes thereto
included in our Annual Report on Form 10-K, filed with the Securities and Exchange Commission, or SEC, on March 16, 2009 and with the unaudited consolidated financial statements and related notes thereto presented in this Quarterly Report on Form 10-Q.




Disclosure Regarding Forward-Looking Statements





Our disclosure and analysis in this Form 10-Q may include forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, or the Securities Act, Section 21E of the Securities Exchange Act of 1934, as amended, or
the Exchange Act, and the Private Securities Litigation Reform Act of 1995, that are subject to risks and uncertainties. Forward-looking statements give our current expectations and projections relating to our financial condition, results of operations, plans, objectives, future performance and business. You can identify these statements by the fact that they do not relate strictly to historical or current facts. These statements may include words such as “anticipate,” “estimate,” “expect,”
“project,” “intend,” “plan,” “believe” and other words and terms of similar meaning in connection with any discussion of the timing or nature of future operating or financial performance or other events. All statements other than statements of historical facts included in this Form 10-Q that address activities, events or developments that we expect, believe or anticipate will or may occur in the future are forward-looking statements.





These forward-looking statements are largely based on our expectations and beliefs concerning future events, which reflect estimates and assumptions made by our management. These estimates and assumptions reflect our best judgment based on currently known market
conditions and other factors relating to our operations and business environment, all of which are difficult to predict and many of which are beyond our control.


-13-
 Table of Contents





Although we believe our estimates and assumptions to be reasonable, they are inherently uncertain and involve a number of risks and uncertainties that are beyond our control. In addition, management’s assumptions about future events may prove to be inaccurate.
Management cautions all readers that the forward-looking statements contained in this Form 10-Q are not guarantees of future performance, and we cannot assure any reader that those statements will be realized or the forward-looking events and circumstances will occur. Actual results may differ materially from those anticipated or implied in the forward-looking statements due to the factors listed in the “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and
“Risk Factors” sections of this Quarterly Report on Form 10-Q and our most recent Annual Report on Form 10-K. All forward-looking statements speak only as of the date of this Form 10-Q. We do not intend to publicly update or revise any forward-looking statements as a result of new information, future events or otherwise, except as required by law. These cautionary statements qualify all forward-looking statements attributable to us or persons acting on our behalf.





Overview





We provide contract land drilling and workover services to independent and major oil and natural gas exploration and production companies throughout the United States and internationally in Mexico. As of October 31, 2009, we owned a fleet of 47 land drilling rigs,
of which 37 were marketed and 10 were held in inventory. We also owned a fleet of 61 workover rigs, of which 0 were marketed and 61 were held in inventory. As of October 31, 2009, we also owned a fleet of 60 trucks used to transport our rigs.





We commenced operations in 2001 with the purchase of one stacked 650-horsepower drilling rig that we refurbished and deployed. We subsequently made selective acquisitions of both operational and inventoried drilling rigs, as well as ancillary equipment. Our management
team has significant experience not only with acquiring rigs, but also with refurbishing and deploying inventoried rigs. We have successfully refurbished and brought into operation 25 inventoried drilling rigs during the period from November 2003 through December 2008. In addition, we have a 41,000 square foot machine shop in Oklahoma City, which allows us to refurbish and repair our rigs and equipment in-house. This facility, which complements our three drilling rig refurbishment yards, significantly reduces
our reliance on outside machine shops and the attendant risk of third-party delays in our rig refurbishment program.




Business Segments





We currently conduct our operations through two operating segments: our Contract Land Drilling segment and our Well Servicing segment.  The following is a description of these two operating segments.  Financial information about our operating
segments is included in Note 7, Business Segments, of the Notes to Consolidated Financial Statements.





Contract Land Drilling -We obtain our contracts for drilling oil and natural gas wells either through competitive bidding or through direct negotiations with customers. Our drilling contracts generally provide
for compensation on either a daywork or footage basis. We have not historically entered into turnkey contracts and do not intend to enter into any turnkey contracts, subject to changes in market conditions, although it is possible that we may acquire such contracts in connection with future acquisitions. Contract terms we offer generally depend on the complexity and risk of operations, the on-site drilling conditions, the type of equipment used and the anticipated duration of the work to be performed. Although,
we currently have four of our drilling rigs operating under agreements with initial terms ranging from one to two years, our contracts generally provide for the drilling of a single well and typically permit the customer to terminate on short notice.





A significant performance measurement that we use to evaluate this segment is operating rig utilization. We compute operating drilling rig utilization rates by dividing revenue days by total available days during a period. Total available days are the number of
calendar days during the period that we have owned the operating rig. Revenue days for each operating rig are days when the rig is earning revenues under a contract, i.e. when the rig begins moving to the drilling location until the rig is released from the contract. On daywork contracts, during the mobilization period we typically receive a fixed amount of revenue based on the mobilization rate stated in the contract. We begin earning our contracted daywork rate and mobilization revenue when we begin drilling
the well. Generally, we will receive a percentage of the contracted dayrate during the mobilization period. We account for these revenues as mobilization fees.


For the three and nine months ended September 30, 2009 and 2008 and years ended December 31, 2008, 2007 and 2006, our rig utilization rates, revenue days and average number of marketed rigs were as follows:


Three Months Ended


Nine Months EndedSeptember 30,


September 30,


Years Ended December 31,2009


2008


2009


2008


2008


2007


2006Average number of marketed rigs


47



42



46



44



44



51



45Revenue days


980



3,208



4,653



9,412



12,712



14,245



15,202Utilization Rates


23
%


84
%


37
%


78
%


79
%


76
%


93
%





The decrease in the number of revenue days in the three and nine month periods ended September 30, 2009 as compared to the same periods in 2008 is attributable to a decrease in our rig utilization rate.


Well Servicing –Our well servicing segment provides a broad range of well services to oil and gas drilling and producing companies, including maintenance, workover, new well completion and plugging and abandonment.  We provide maintenance-related services as part of the normal, periodic
upkeep of producing oil and gas wells. Maintenance-related services represent a relatively consistent component of our business. Workover and completion services generate more revenue per hour than maintenance work due to the use of auxiliary equipment, but demand for workover and completion services fluctuates more with the overall activity level in the industry.





The Company earns well servicing revenue based on purchase orders, contracts or other persuasive evidence of an arrangement with the customer, such as a master service agreement, that include fixed or determinable prices.  We generally charge our customers
an hourly rate for these services, which varies based on a number of considerations including market conditions in each region, the type of rig and ancillary equipment required, and the necessary personnel.





Our well servicing rig fleet has increased from a weighted average number of 24 rigs in the first quarter of 2007 to 61 in the fourth quarter of 2008 due to newbuild purchases.  We gauge activity levels in our well servicing rig operations based on rig
utilization rate.  We compute operating workover rig utilization rates by dividing revenue hours by total available hours during a period. Total available hours are the number of hours during the period that we have owned the operating workover rig based on a 50-hour work week per rig.




For the three and nine months ended September 30, 2009 and 2008 and years ended December 31, 2008 and 2007, our workover rig utilization rates, revenue hours and average number of marketed workover rigs were as follows:


Three Months Ended


Nine Months EndedSeptember 30,


September 30,


Years Ended December 31,2009


2008


2009


2008


2008


2007Average number of marketed workover rigs


-



54



52



52



52



33Revenue hours


-



25,401



11,386



74,798



91,591



63,746Utilization Rates


0
%


73
%


17
%


75
%


68
%


78
%


Due to the continued deterioration in the well servicing business, the Company has temporarily suspended operations in this segment.  The Company intends to restructure this business unit in anticipation of more favorable market conditions.




Market Conditions in Our Industry





The United States contract land drilling and well servicing industry is highly cyclical. Volatility in oil and natural gas prices can produce wide swings in the levels of overall drilling and well servicing activity in the markets we serve and affect the demand
for our drilling and workover services and the revenue rates we can charge for our drilling and workover rigs. The availability of financing sources, past trends in oil and natural gas prices and the outlook for future oil and natural gas prices strongly influence the capital expenditure budgets of exploration and production companies.





Our business environment has been adversely affected by the recent volatility and decline in oil and, in particular, natural gas prices and the deterioration of the global economic environment.  As part of this deterioration, there has been significant
uncertainty in the capital markets and access to financing has been reduced.  As a result of these conditions, our customers have curtailed their exploration budgets, which is resulting in a significant decrease in demand for our services, a reduction in revenue rates and utilization.  During the three and nine months ended September 30, 2009, the Company recorded $1.7 million and $7.9 million, respectively, of contract drilling revenue related to terminated contracts.  Due to the
current economic environment, certain customers may not be able to pay suppliers, including us, if they are not able to access capital to fund their business operations.


-14-
 Table of Contents





The following table depicts the prices for near month delivery contracts for crude oil and natural gas as traded on the NYMEX, as well as the most recent Baker Hughes domestic land rig count, on the dates indicated:


At September 30,


At December 31,2009


2008


2007


2006Crude oil (Bbl)

$
70.61


$
44.60


$
95.98


$
61.05Natural gas (Mmbtu)

$
4.84


$
5.62


$
7.48


$
6.30U.S. Land Rig Count


992



1,653



1,719



1,626





Increased expenditures for exploration and production activities generally leads to increased demand for our services. Over the past several years, rising oil and natural gas prices and the corresponding increase in onshore oil and natural gas exploration and production spending led to expanded drilling and well service
activity as reflected by the increases in the U.S. land rig counts and U.S. workover rig counts over the previous five years. Falling commodity prices and the oversupply of rigs, similar to what we are currently experiencing, generally leads to lower demand for our services.





The recent decline in oil and, in particular, natural gas prices and the deterioration of the global economic environment has led to reductions in our rig utilization and revenue rates in 2009.  Our near-term strategy is to maintain a strong
balance sheet and ample liquidity. Management has initiated certain cost reduction measures including workforce and wage rate reductions that reduce operating expenses during the downturn in the industry. Budgeted capital expenditures for 2009 represent a substantial reduction from historical levels and consist of routine capital expenditures necessary to maintain our equipment in safe and efficient working order and limited discretionary capital expenditures for new equipment or upgrades of existing equipment.




Critical Accounting Policies and Estimates





Our discussion and analysis of our financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with accounting policies that are described in the notes to our consolidated financial statements.
The preparation of the consolidated financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. We continually evaluate our judgments and estimates in determining our financial condition and operating results. Estimates are based upon information available as of the date of the financial statements and, accordingly, actual results could differ from these estimates,
sometimes materially. Critical accounting policies and estimates are defined as those that are both most important to the portrayal of our financial condition and operating results and require management’s most subjective judgments. The most critical accounting policies and estimates are described below.





Revenue and Cost Recognition—Our Contract Land Drilling segment earns revenues by drilling oil and natural gas wells for our customers under daywork or footage contracts, which usually
provide for the drilling of a single well. We recognize revenues on daywork contracts for the days completed based on the dayrate each contract specifies. Mobilization revenues and costs are deferred and recognized over the drilling days of the related drilling contract. Individual contracts are usually completed in less than 120 days. We follow the percentage-of-completion method of accounting for footage contract drilling arrangements. Under this method, drilling revenues and costs related to a well in progress
are recognized proportionately over the time it takes to drill the well. Percentage of completion is determined based upon the amount of expenses incurred through the measurement date as compared to total estimated expenses to be incurred drilling the well. Mobilization costs are not included in costs incurred for percentage-of-completion calculations. Mobilization costs on footage contracts and daywork contracts are deferred and recognized over the days of actual drilling. Under the percentage-of-completion
method, management estimates are relied upon in the determination of the total estimated expenses to be incurred drilling the well. When estimates of revenues and expenses indicate a loss on a contract, the total estimated loss is accrued.





Our management has determined that it is appropriate to use the percentage-of-completion method to recognize revenue on our footage contracts, which is the predominant practice in the industry. Although our footage contracts do not have express terms that provide
us with rights to receive payment for the work that we perform prior to drilling wells to the agreed upon depth, we use this method because, as provided in applicable accounting literature, we believe we achieve a continuous sale for our work-in-progress and we believe, under applicable state law, we ultimately could recover the fair value of our work-in-progress even in the event we were unable to drill to the agreed upon depth in breach of the applicable contract. However, ultimate recovery of that value, in
the event we were unable to drill to the agreed upon depth in breach of the contract, would be subject to negotiations with the customer and the possibility of litigation.





We are entitled to receive payment under footage contracts when we deliver to our customer a well completed to the depth specified in the contract, unless the customer authorizes us to drill to a shallower depth. Since inception, we have completed all our footage
contracts. Although our initial cost estimates for footage contracts do not include cost estimates for risks such as stuck drill pipe or loss of circulation, we believe that our experienced management team, our knowledge of geologic formations in our areas of operations, the condition of our drilling equipment and our experienced crews enable us to make reasonably dependable cost estimates and complete contracts according to our drilling plan. While we do bear the risk of loss for cost overruns and other events
that are not specifically provided for in our initial cost estimates, our pricing of footage contracts takes such risks into consideration. When we encounter, during the course of our drilling operations, conditions unforeseen in the preparation of our original cost estimate, we immediately adjust our cost estimate for the additional costs to complete the contracts. If we anticipate a loss on a contract in progress at the end of a reporting period due to a change in our cost estimate, we immediately accrue the
entire amount of the estimated loss, including all costs that are included in our revised estimated cost to complete that contract, in our consolidated statement of operations for that reporting period.  We are more likely to encounter losses on footage contracts in years in which revenue rates are lower for all types of contracts.





Revenues and costs during a reporting period could be affected by contracts in progress at the end of a reporting period that have not been completed before our financial statements for that period are released. We had no footage contracts in progress at September
30, 2009 and December 31, 2008.  At September 30, 2009 and December 31, 2008, our unbilled receivables totaled $596,000 and $2.9 million, respectively, all of which relates to the revenue recognized but not yet billed or costs deferred on daywork contracts in progress.





We accrue estimated contract costs on footage contracts for each day of work completed based on our estimate of the total costs to complete the contract divided by our estimate of the number of days to complete the contract. Contract costs include labor, materials,
supplies, repairs and maintenance and operating overhead allocations. In addition, the occurrence of uninsured or under-insured losses or operating cost overruns on our footage contracts could have a material adverse effect on our financial position and results of operations. Therefore, our actual results could differ significantly if our cost estimates are later revised from our original estimates for contracts in progress at the end of a reporting period that were not completed prior to the release of our financial
statements.





Accounts Receivable—We evaluate the creditworthiness of our customers based on their financial information, if available, information obtained from major industry suppliers, current
prices of oil and natural gas and any past experience we have with the customer. Consequently, an adverse change in those factors could affect our estimate of our allowance for doubtful accounts. In some instances, we require new customers to establish escrow accounts or make prepayments. We typically invoice our customers at 30-day intervals during the performance of daywork contracts and upon completion of the daywork contract. Footage contracts are invoiced upon completion of the contract. Our typical contract
provides for payment of invoices in 10 to 30 days. We generally do not extend payment terms beyond 30 days. We are currently involved in legal actions to collect various overdue accounts receivable.  Our allowance for doubtful accounts was $3.2 million and $3.8 million at September 30, 2009 and December 31, 2008, respectively. Any allowance established is subject to judgment and estimates made by management. We determine our allowance by considering a number of factors, including the length of
time trade accounts receivable are past due, our previous loss history, our customer’s current ability to pay its obligation to us and the condition of the general economy and the industry as a whole. We write off specific accounts receivable when they become uncollectible and payments subsequently received on such receivables reduce the allowance for doubtful accounts.





If a customer defaults on its payment obligation to us under a footage contract, we would need to rely on applicable law to enforce our lien rights, because our footage contracts do not expressly grant to us a security interest in the work we have completed under
the contract and we have no ownership rights in the work-in-progress or completed drilling work, except any rights arising under the applicable lien statute on foreclosure. If we were unable to drill to the agreed on depth in breach of the contract, we might also need to rely on equitable remedies outside of the contract, including quantum meruit, available in applicable courts to recover the fair value of our work-in-progress under a footage contract.





Asset Impairment and Depreciation—We review long-lived assets to be held and used for impairment whenever events or changes in circumstances indicate that the
carrying amount of the assets may not be recoverable.  Factors that we consider important and could trigger an impairment review would be our customers’ financial condition and any significant negative industry or economic trends. More specifically, among other things, we consider our contract revenue rates, our rig utilization rates, cash flows from our drilling rigs, current oil and natural gas prices, industry analysts’ outlook for the industry and their view of our customers’ access
to debt or equity and the trends in the price of used drilling equipment observed by our management. If a review of our drilling rigs and intangible assets indicate that our carrying value exceeds the estimated undiscounted future cash flows, we are required under applicable accounting standards to write down the drilling equipment and intangible assets to its fair market value.  A one percent write-down in the cost of our drilling equipment and intangible assets as of September 30, 2009, would have
resulted in a corresponding increase in our net loss by approximately $2.1 million.


-15-
 Table of Contents





During the first nine months of 2009, demand for our services continued to decline and general economic conditions worsened.  We considered this a triggering event that required us to perform an assessment with respect to impairment of long-lived assets, including property and equipment
and intangible assets, in our contract land drilling and well servicing segments.  Management believes that the contract drilling industry will continue to be cyclical and rig utilization will fluctuate. Based on management’s expectations of future trends, we estimate future cash flows over the life of the respective assets in our assessment of impairment.  These estimates of cash flows are based on historical cyclical trends in the industry as well as management’s expectations
regarding the continuation of these trends in the future.  We estimated future undiscounted cash flows over the expected life of the long-lived assets and determined that expected cash flows exceeded the carrying value of the long-lived assets.  Based on the analysis performed, no impairment was indicated.





We reviewed our investment in Challenger at September 30, 2009 for impairment based on the guidance of ASC Topic 323, Investments-Equity Method and Joint Venture,which states that a loss in value of an investment which is other than a temporary
decline should be recognized. Evidence of a loss in value might include the absence of an ability to recover the carrying amount of the investment or inability of the investee to sustain an earnings capacity which would justify the carrying amount of the investment. A current fair value of an investment that is less than its carrying amount may indicate a loss in value of the investment. Due to the recent volatility and decline in oil and natural gas prices, the deterioration of the global economic
environment and the anticipated future earnings of Challenger, we deemed it necessary to test the investment for impairment. Fair value of the investment was estimated using a combination of income, or discounted cash flows approach, and the market approach, which utilizes comparable companies’ data. The analysis resulted in a fair value of $39.8 million related to our investment in Challenger, which was below the carrying value of the investment and resulted in a non-cash impairment charge in the amount
of $21.2 million.





Our determination of the estimated useful lives of our depreciable assets, directly affects our determination of depreciation expense and deferred taxes. A decrease in the useful life of our drilling equipment would increase depreciation expense and reduce deferred taxes. We provide for depreciation
of our drilling rigs, transportation and other equipment on a straight-line method over useful lives that we have estimated and that range from three to fifteen years after the rig was placed into service. We record the same depreciation expense whether an operating rig is idle or working. Depreciation is not recorded on an inventoried rig until placed in service. Our estimates of the useful lives of our drilling, transportation and other equipment are based on our experience in the drilling industry with similar
equipment.





We capitalize interest cost as a component of drilling and workover rigs refurbished for our own use. During the three and nine months ended September 30, 2008, we capitalized approximately $205,000 and $663,000, respectively.  During the three and nine
months ended September 30, 2009 we did not capitalize any interest.





Stock Based Compensation—We have adopted ASC Topic 718, Stock Compensation(guidance
formerly reflected in SFAS123(R), Share-Based Payment) which requires a public entity to measure the costs of employee services received in exchange for an award of equity or liability instruments based on the grant-date fair value of the award. That cost will be recognized over the periods during which an employee is required to provide service in exchange for the award.  Stock compensation expense was $931,000 and $2.5 million for the three
and nine months ended September 30, 2009, respectively, and $2.0 million and $4.5 million for the three and nine months ended September 30, 2008, respectively.





Deferred Income Taxes—We provide deferred income taxes for the basis difference in our property and equipment, stock compensation expense and other items between financial reporting
and tax reporting purposes. For property and equipment, basis differences arise from differences in depreciation periods and methods and the value of assets acquired in a business acquisition where we acquire the stock in an entity rather than just its assets. For financial reporting purposes, we depreciate the various components of our drilling rigs and refurbishments over fifteen years, while federal income tax rules require that we depreciate drilling rigs and refurbishments over five years. Therefore, in
the first five years of our ownership of a drilling rig, our tax depreciation exceeds our financial reporting depreciation, resulting in our providing deferred taxes on this depreciation difference. After five years, financial reporting depreciation exceeds tax depreciation, and the deferred tax liability begins to reverse.


Other Accounting Estimates—Our other accrued expenses as of September 30, 2009 and December 31, 2008 included accruals of approximately $2.5 million and $4.3 million, respectively, for costs under our workers’ compensation insurance. We have a deductible of $1.0 million per
covered accident under our workers’ compensation insurance. We maintain letters of credit in the aggregate amount of $11.5 million for the benefit of various insurance companies as collateral for retrospective premiums and retained losses which may become payable under the terms of the underlying insurance contracts.  The letters of credit are typically renewed annually.  We had certificates of deposits in the amount of $11.5 million at September 30, 2009 collateralizing the letters
of credit.  No amounts have been drawn under the letters of credit. We accrue for these costs as claims are incurred based on cost estimates established for each claim by the insurance companies providing the administrative services for processing the claims, including an estimate for incurred but not reported claims, estimates for claims paid directly by us, our estimate of the administrative costs associated with these claims and our historical experience with these types of claims.  We
also have a self-insurance program for major medical, hospitalization and dental coverage for employees and their dependents.  We recognize both reported and incurred but not reported costs related to the self-insurance portion of our health insurance.  Since the accrual is based on estimates of expenses for claims, the ultimate amount paid may differ from accrued amounts.





Recent Accounting Pronouncements— The FASB Accounting Standards Codification.FASB Accounting Standards Codification (ASC) became effective for this
quarterly report.  ASC Topic 105, Generally Accepted Accounting Principles, (guidance formerly reflected in FAS168) establishes the ASC as the single source of authoritative U.S. generally accepted accounting principles (U.S. GAAP) recognized by the FASB to be applied by nongovernmental entities.  Rules and interpretive releases of the SEC under authority of federal securities laws are also sources of authoritative U.S. GAAP for SEC
registrants.  The ASC supersedes all existing non-SEC accounting and reporting standards.  All other nongrandfathered non-SEC accounting literature not included in the ASC will become nonauthoritative.  Following ASC Topic 105, the FASB will not issue new standards in the form of Statements, FASB Staff Positions, or Emerging Issues Task Force Abstracts.  Instead, the FASB will issue Accounting Standards Updates, which will serve only to: (a) update the ASC, (b) provide
background information about the guidance and (c) provide the basis for conclusions on the change(s) in the ASC.  The adoption of this standard has changed how we reference various elements of U.S. GAAP in our financial statement disclosures, but has no impact on our financial position, results of operation or cash flows.





In September 2006, the FASB issued an accounting standard that defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles (“GAAP”), and expands disclosures about fair value measurements. The initial
application of this standard was limited to financial assets and liabilities and became effective on January 1, 2008.  On January 1, 2009 the we adopted this standard on a prospective basis for non-financial assets and liabilities not measured at fair value on a recurring basis.  The application of this standard to our non-financial assets and liabilities is primarily limited to assets acquired and liabilities assumed in a business combination, asset retirement obligations and asset impairments,
including goodwill and long lived assets and has not had a material impact on our financial position, results of operations or cash flows.





In December 2007, the FASB issued a new accounting standard that calls for significant changes from then current practice in accounting for business combinations.  The standard establishes principles and requirements for how the acquirer of a business recognizes and measures in its financial
statements the identifiable assets acquired, the liabilities assumed, and any noncontrolling interest in the acquiree. The standard also provides guidance for recognizing and measuring the goodwill acquired in the business combination and determines what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination. The standard applies prospectively to business combinations for which the acquisition date is on or after the beginning
of the first annual reporting period beginning on or after December 15, 2008. The adoption of this standard did not have an immediate impact on our financial position, results of operations or cash flows.





In December 2007, the FASB issued a new accounting standard which establishes accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. It clarifies that a noncontrolling interest in a subsidiary
is an ownership interest in the consolidated entity that should be reported as equity in the consolidated financial statements. The standard requires retroactive adoption of the presentation and disclosure requirements for existing minority interests. All other requirements of this standard shall be applied prospectively. The standard is effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2008.  The provisions of this standard were applied to
the Company’s accounting for the sale of 60% of the membership interests in Bronco MX.  See Note 2, Equity Method Investments, regarding the $24.0 million loss on the Bronco MX transaction.





In June 2008, the FASB issued a new accounting standard which provides that unvested share-based payment awards that contain nonforfeitable rights to dividends are participating securities and shall be included in the computation of earnings per share pursuant
to the two class method.  This standard is effective for financial statements issued for fiscal years beginning after December 15, 2008 and interim periods within those years.  The adoption of this standard did not have a material impact on our consolidated financial statements s.





In April 2009, the FASB issued a staff position which increases the frequency of fair value disclosures for financial instruments from annual only to quarterly reporting periods.  The provisions of this staff position are effective for financial
statements issued for interim and annual periods ending after June 15, 2009 and became effective for us in the quarter ended June 30, 2009.  The adoption of this staff position did not have a material impact on our consolidated financial statements. The carrying amount of our cash and cash equivalents, trade receivables, payables and debt approximate their fair values.





In June 2009 the FASB issued a new accounting standard which requires entities to disclose the date through which they have evaluated subsequent events and whether the date corresponds with the release of their financial statements. The requirements of the
standard are effective for interim and annual periods ending after June 15, 2009.  The standard did not have a material impact on our consolidated financial statements.


-16-
 Table of Contents





Recent Highlights





Recent events, both within the United States and the world, have brought about significant and immediate changes in the global financial markets which in turn are affecting the United States economy, our industry and us.  In the United States, these events
and others have had a significant impact on the prices for oil and natural gas as reflected in the following table


Natural Gas Priceper Mcf


Oil Price per BblQuarter


High


Low


High


Low2009:Third

$
4.88


$
2.51


$
74.37


$
59.52Second

$
4.45


$
3.25


$
72.68


$
45.88First

$
6.07


$
3.63


$
54.34


$
33.982008:Fourth

$
7.73


$
5.29


$
98.53


$
33.87Third

$
13.58


$
7.22


$
145.29


$
95.71Second

$
13.35


$
9.32


$
140.21


$
100.98First

$
10.23


$
7.62


$
110.33


$
86.992007:Fourth

$
6.45


$
5.84


$
91.96


$
83.13Third

$
6.07


$
5.21


$
76.09


$
69.88Second

$
7.02


$
6.44


$
65.23


$
60.73First

$
6.88


$
5.80


$
58.69


$
50.792006:Fourth

$
6.72


$
4.50


$
58.23


$
56.15Third

$
6.74


$
5.55


$
72.49


$
61.56Second

$
6.06


$
5.46


$
69.67


$
67.26First

$
7.99


$
6.13


$
62.39


$
57.58





When drilling activity and spending decline for any sustained period of time our dayrates and utilization rates also tend to decline.  In addition, lower commodity prices for any sustained period of time could impact the liquidity condition of some of our customers, which, in turn, might limit their ability to meet their
financial obligations to us.





The impact on our business and financial results as a consequence of the recent volatility in oil and natural gas prices and the global economic crisis is uncertain in the long term, but in the short term, it has had a number of consequences for us, including the
following:




·
In December 2008, we incurred goodwill impairment of our contract land drilling and well servicing segments of $24.3 million due to the fair value of the segments being less than their carrying value.




·
In December 2008 and September 2009, we incurred an impairment charges to our investment in Challenger of $14.4 million and $21.2 million, respectively, due to the fair value of the investment being less than its carrying value.




·
We have significantly reduced our total 2009 estimated capital expenditures for our business segments compared to 2008, excluding acquisitions, in an effort to maintain our capital expenditures within anticipated internally generated cash flow.




·
Several of our customers have significantly reduced their drilling budgets for 2009, resulting in a significant reduction in the average utilization of our drilling and workover rig fleet.  Our average contract land drilling utilization was approximately 83% for the three months ended December 31, 2008, 58% for the first quarter of 2009, 32%
for the second quarter of 2009 and 23% for the third quarter of 2009.




·
We have temporarily suspended operations in our well servicing segment.  We intend to restructure this business unit in anticipation of more favorable market conditions.





Results of Operations




Three Months Ended September 30, 2009 Compared to Three Months Ended September 30, 2008





Contract Drilling Revenue. For the three months ended September 30, 2009, we reported contract drilling revenues of $16.2 million, a 74% decrease from revenues of $63.5 million for the same period in
2008. The decrease is primarily due to a decrease in average dayrates and total revenue days for the three months ended September 30, 2009 as compared to the same period in 2008. Average dayrates for our drilling services decreased $2,756, or 15%, to $15,113 for the three months ended September 30, 2009 from $17,869 in the same period in 2008. Revenue days decreased 69% to 980 days for the three months ended September 30, 2009 from 3,208 days during the same period in 2008. The decrease in the number of revenue
days for the three months ended September 30, 2009 as compared to the same period in 2008 is primarily due to a decrease in the utilization rate for the same period.  Utilization decreased to 23% for the three months ended September 30, 2009 from 84% for the same period in 2008.  During the third quarter of 2009, the Company recorded $1.7 million of contract drilling revenue related to terminated contracts.





Well Service Revenue.For the three months ended September 30, 2009, we did not report any well service revenues, compared to $9.5 million for the same period in 2008.  The decrease is
due to the Company temporarily suspending the operations of this segment.  The Company intends to restructure this business unit in anticipation of more favorable market conditions.





Equity in Income (Loss) of Challenger.Equity in loss of Challenger was $1.3 million for the three months ended September 30, 2009 related to our investment in Challenger compared to income of $1.1 million for the three months
ended September 30, 2008.  The equity in loss of Challenger represents our 25% share of Challenger’s loss.  For the three months ended September 30, 2009, Challenger had operating revenues of $13.4 million and operating costs of $9.9 million compared to $19.2 million and $9.6 million for the three months ended September 30, 2008. We reviewed our investment in Challenger at September 30, 2009 for impairment based on the guidance of ASC Topic 323, Investments-Equity
Method and Joint Venture,which states that a loss in value of an investment which is other than a temporary decline should be recognized. Evidence of a loss in value might include the absence of an ability to recover the carrying amount of the investment or inability of the investee to sustain an earnings capacity which would justify the carrying amount of the investment. A current fair value of an investment that is less than its carrying amount may indicate a loss in value of the investment. Due to
the recent volatility and decline in oil and natural gas prices, a deteriorating global economic environment and the anticipated future earnings of Challenger, we deemed it necessary to test the investment for impairment. Fair value of the investment was estimated using a combination of income, or discounted cash flows approach, and the market approach, which utilizes comparable companies’ data. The analysis resulted in a fair value of $39.8 million related to our investment in Challenger, which was below
the carrying value of the investment and resulted in a non-cash impairment charge in the amount of $21.2 million.





Contract Drilling Expense. Direct rig cost decreased $25.2 million to $14.0 million for the three months ended September 30, 2009 from $39.2 million for the same period in 2008. This 64% decrease is
primarily due to the decrease in revenue days for the three months ended September 30, 2009 as compared to the same period in 2008.





Well Service Expense. Well service expense decreased $7.8 million to $443,000 for the three months ended September 30, 2009 from $8.2 million for the same period in 2008.  This decrease is due to
the temporary shutdown of the well service segment.





Depreciation and Amortization Expense.Depreciation expense decreased $1.2 million to $11.7 million for the three months ended September 30, 2009 from $12.9 million for the same period in 2008. The decrease
is primarily due to assets that are fully depreciated.





General and Administrative Expense. General and administrative expense decreased $7.8 million to $5.4 million for the three months ended September 30, 2009 from $13.2 million for the same period in 2008.
The majority of the decrease is a result of the $4.5 million termination fee paid to Allis-Chalmers Energy, Inc. in the third quarter of 2008.  The remainder of the decrease is the result of a decrease in professional fees of $1.1 million, a decrease in payroll costs of $1.1 million, and a decrease in stock compensation expense of $1.0 million. The decrease in stock compensation expense is primarily due to stock grants with higher grant date fair values becoming fully amortized.


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Interest Expense. Interest expense increased $524,000 to $1.5 million for the three months ended September 30, 2009 from $969,000 for the same period in 2008. The increase is due to an increase in the
average outstanding balance under our revolving credit facility that was repaid in September 2009, and a decrease in the capitalization of interest expense related to our rig refurbishment program.  We capitalized $0 of interest for the three months ended September 30, 2009 compared to $203,000 of interest for the same period in 2008.





Income Tax Expense. We recorded an income tax benefit of $25.1 million for the three months ended September 30, 2009. This compares to an income
tax benefit of $60,000 for the three months ended September 30, 2008.  This decrease is primarily due to a $66.8 million decrease in pre-tax income to a pre-tax loss of $67.8 million for the three months ended September 30, 2009 from a pre-tax loss of $977,000 for the three months ended September 30, 2008.




Nine months Ended September 30, 2009 Compared to Nine months Ended September 30, 2008





Contract Drilling Revenue. For the nine months ended September 30, 2009, we reported contract drilling revenues of $90.6 million, a 49% decrease from revenues of $178.1 million for the same period in
2008. The decrease is primarily due to a decrease in average dayrates and total revenue days for the nine months ended September 30, 2009 as compared to the same period in 2008. Average dayrates for our drilling services decreased $967, or 6%, to $16,236 for the nine months ended September 30, 2009 from $17,202 in the same period in 2008. Revenue days decreased 51% to 4,653 days for the nine months ended September 30, 2009 from 9,412 days during the same period in 2008. The decrease in the number of revenue days
for the nine months ended September 30, 2009 as compared to the same period in 2008 is primarily due to a decrease in the utilization rate for the same period.  Utilization decreased to 37% for the nine months ended September 30, 2009 from 78% for the same period in 2008.  During the first nine months of 2009, the Company recorded $7.9 million of contract drilling revenue related to terminated contracts.





Well Service Revenue.For the nine months ended September 30, 2009, we reported well service revenues of approximately $3.8 million, an 86% decrease from revenues of $27.0 million for the same
period in 2008.  The decrease is primarily due to a decrease in revenue hours.  Revenue hours decreased 85% to 11,386 hours for the nine months ended September 30, 2009 from 74,798 hours during the same period in 2008.  The decrease in revenue hours for the nine months ended September 30, 2009 compared to the same period in 2008 is due to the temporary suspension of our workover rig segment as well as a decrease in the utilization rate for the same time period.  Utilization
decreased to 17% for the nine months ended September 30, 2009 from 75% for the same period in 2008.





Equity in Income (Loss) of Challenger.Equity in loss of Challenger was $1.8 million for the nine months ended September 30, 2009 related to our investment in Challenger compared to equity in income of $2.9 million for the nine months
ended September 30, 2008.  The equity in loss of Challenger represents our 25% interest of Challenger’s income.  For the nine months ended September 30, 2009, Challenger had operatingrevenues of $45.0 million and operating costs of $29.2 million compared to $52.7 million and $26.1 million for the nine months ended September 30, 2008. We reviewed our investment in Challenger at September
30, 2009 for impairment based on the guidance of ASC Topic 323, Investments-Equity Method and Joint Venture,which states that a loss in value of an investment which is other than a temporary decline should be recognized. Evidence of a loss in value might include the absence of an ability to recover the carrying amount of the investment or inability of the investee to sustain an earnings capacity which would justify the carrying amount of the investment.
A current fair value of an investment that is less than its carrying amount may indicate a loss in value of the investment. Due to the recent volatility and decline in oil and natural gas prices, the deterioration of the global economic environment and the anticipated future earnings of Challenger, we deemed it necessary to test the investment for impairment. Fair value of the investment was estimated using a combination of income, or discounted cash flows approach, and the market approach, which utilizes
comparable companies’ data. The analysis resulted in a fair value of $39.8 million related to our investment in Challenger, which was below the carrying value of the investment and resulted in a non-cash impairment charge in the amount of $21.2 million.





Contract Drilling Expense. Direct rig cost decreased $47.0 million to $62.1 million for the nine months ended September 30, 2009 from $109.1 million for the same period in 2008. This 43% decrease is
primarily due to the decrease in revenue days for the nine months ended September 30, 2009 as compared to the same period in 2008.





Well Service Expense. Well service expense decreased $15.2 million to $4.0 million for the nine months ended September 30, 2009 from $19.2 million for the same period in 2008.  This 79% decrease
is primarily due to the decrease in revenue hours for the nine months ended September 30, 2009 as compared to the same period in 2008.


Depreciation and Amortization Expense.Depreciation expense decreased $1.2 million to $36.2 million for the nine months ended September 30, 2009 from $37.3 million for the same period in 2008. The decrease is primarily due to assets that are fully depreciated.





General and Administrative Expense. General and administrative expense decreased $8.9 million to $15.5 million for the nine months ended September 30, 2009 from $24.4 million for the same period in 2008.
The majority of the decrease is a result of the $4.5 million termination fee paid to Allis-Chalmers Energy, Inc. in the third quarter of 2008.  The remainder of the decrease is the result of a decrease in stock compensation expense of $2.0 million, a decrease in payroll costs of $1.3 million, and a decrease in professional fees of $1.1 million. The decrease in stock compensation expense is primarily due to stock grants with higher grant date fair values becoming fully amortized.





Interest Expense. Interest expense increased $2.2 million to $5.6 million for the nine months ended September 30, 2009 from $3.4 million for the same period in 2008. The increase is due to an increase
in the average outstanding balance under our revolving credit facility and a decrease in the capitalization of interest expense related to our rig refurbishment program.  We capitalized $0 of interest for the nine months ended September 30, 2009 compared to $661,000 of interest for the same period in 2008.





Income Tax Expense. We recorded an income tax benefit of $29.2 million for the nine months ended September 30, 2009. This compares to an income
tax expense of $7.1 million for the nine months ended September 30, 2008.  This decrease is primarily due to a $99.5 million decrease in pre-tax income to a pre-tax loss of $80.8 million for the nine months ended September 30, 2009 from pre-tax income of $18.7 million for the nine months ended September 30, 2008.  The Company’s effective income tax rate is higher than what would be expected if the federal statutory rate were applied to income before income taxes primarily because of
certain stock compensation expenses recorded for financial reporting purposes that are not deductible for tax purposes.




Liquidity and Capital Resources





Operating Activities. Net
cash provided by operating activities was $32.4 million for the nine months ended September 30, 2009 as compared to $46.3 million in 2008. The decrease of $13.9 million from 2008 to 2009 was primarily due to a decrease in cash receipts from customers, partially offset by a decrease in cash payments to suppliers.





Investing Activities. We use a significant portion of our cash flows from operations and financing activities for acquisitions
and the refurbishment of our rigs. Cash provided by investing activities was $21.9 million for the nine months ended September 30, 2009 as compared to cash flows used of $65.2 million for the same period in 2008.   For the nine months ended September 30, 2009, we received $31.7 million from the sale of 60% of the outstanding membership interests in Bronco MX, proceeds of $769,000 from the sale of assets and principal payments on note receivable of $2.1 million, partially offset by $12.8 million
to purchase fixed assets.  For the nine months ended September 30, 2008, we used $64.9 million to purchase fixed assets and $5.1 million to purchase an equity interest in Challenger.  These amounts were partially offset by $4.7 million of proceeds received from the sale of assets.




Financing Activities. Our cash flows used in financing activities were $62.8 million for the nine months ended September 30,
2009 as compared to $15.2 million provided by financing activities for the same period in 2008.  For the nine months ended September 30, 2009 our net cash used in financing activities related to principal payments of $116.2 million to various lenders including $111.1 million paid to Fortis Bank SA/NV, New York Branch, and debt issue costs of $1.6 million, partially offset by borrowings of $55.0 million under our new revolving credit facility with Banco Inbursa.  For the nine
months ended September 30, 2008, our net cash provided by financing activities related to borrowings of $21.1 million under our credit facility with Fortis Bank SA/NV, New York Branch, partially offset by principal payments of $2.4 million to various lenders and debt issue costs of $3.5 million.





Sources of Liquidity. Our primary sources of liquidity are cash from operations, debt and equity financing.





Debt Financing.  On September 18, 2009, we entered into a new senior secured revolving credit facility (the “Credit Facility”) with Banco Inbursa S.A., Institución de Banca Múltiple,
Grupo Financiero Inbursa, as lender and as the issuing bank ("Banco Inbursa").  We utilized (i) borrowings under the Credit Facility, (ii) proceeds from the sale of the membership interests of Bronco MX, and (iii) cash-on-hand to repay all amounts outstanding under our prior revolving credit agreement with Fortis Bank SA/NV, New York Branch, which has been replaced by the Credit Facility.




The Credit Facility provides for revolving advances of up to $75.0 million and matures on September 17, 2014.  The borrowing base under the Credit Facility has been initially set at $75.0 million, subject to borrowing base limitations.  Outstanding
borrowings under the Credit Facility bear interest at the Eurodollar rate plus 5.80% per annum, subject to adjustment under certain circumstances.




We will pay a quarterly commitment fee of 0.5% per annum on the unused portion of the Credit Facility and a fee of 1.50% for each letter of credit issued under the facility. In addition, an upfront fee equal to 1.50% of the aggregate commitments under the Credit
Facility was paid by us at closing. Our domestic subsidiaries have guaranteed the loans and other obligations under the Credit Facility. The obligations under the Credit Facility and the related guarantees are secured by a first priority security interest in substantially all of our assets and our domestic subsidiaries, including the equity interests of our direct and indirect subsidiaries.


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The Credit Facility contains customary representations and warranties and various affirmative and negative covenants, including, but not limited to, covenants that restrict our ability to make capital expenditures, incur indebtedness, incur liens, dispose of property,
repay debt, pay dividends, repurchase shares and make certain acquisitions, and a financial covenant requiring that we maintain a ratio of consolidated debt to consolidated earnings before interest, taxes, depreciation and amortization for any four consecutive fiscal quarters of not more than 3.5 to 1.0.  A violation of these covenants or any other covenant in the Credit Facility could result in a default under the Credit Facility which would permit the lender to restrict our ability to access
the Credit Facility and require the immediate repayment of any outstanding advances under the Credit Facility. The Credit Facility also provides for mandatory prepayments in certain circumstances.




In conjunction with our entry into the Credit Facility, we entered into a Warrant Agreement pursuant to which we issued a three-year warrant (the "Warrant") to Banco Inbursa evidencing the right to purchase up to 5,440,770 shares of our common
stock, $0.01 par value per share (the "Common Stock"), subject to the terms and conditions set forth in the Warrant, including the limitations on exercise set forth below, at an exercise price of $6.50 per share of Common Stock from the date of issuance of the Warrant (the "Issue Date") through the first anniversary of the Issue Date, $7.00 per share following the first anniversary of the Issue Date through the second anniversary of the Issue Date, and $7.50 per share following the second
anniversary of the Issue Date through the third anniversary of the Issue Date. The Warrant may be exercised by the payment of the exercise price in cash or through a cashless exercise whereby we withhold shares issuable under the Warrant having a value equal to the aggregate exercise price.




The exercise price per share and the number of shares of Common Stock for which the Warrant may be exercised are subject to adjustment in the event of any split, subdivision, reclassification, combination or similar transactions affecting the Common Stock.  Additionally,
in the event that the Warrant is sold and the proceeds per share received by the holder are less than the positive difference of the current market price per share of the Common Stock less the exercise price then in effect, we will be required to pay the seller of the Warrant a make-whole payment equal to such difference.  However, our obligations in respect of the make-whole payment only inure to the benefit of Banco Inbursa and other members of the Investor Group (as defined in the Warrant), and not other
holders of the Warrant.





The Warrant contains limitations on the number of shares of Common Stock that may be acquired by the holder of the Warrant upon any exercise of the Warrant.  Pursuant to the terms of the Warrant, the holder of the Warrant may not exercise the Warrant for a
number of shares of Common Stock which will exceed 19.99% of the shares of the Common Stock that are issued and outstanding on the Issue Date (subject to adjustment for stock splits, combinations and similar events).  In addition, the number of shares that may be acquired by the holder of the Warrant and its Affiliates (as defined in the Warrant) and any other Person (as defined in the Warrant) whose ownership of Common Stock would be aggregated with the ownership of the holder of the
Warrant for purposes of Section 13(d) of the Securities Exchange Act of 1934, as amended, may not exceed 19.99% of the total number of shares of Common Stock that are outstanding immediately after giving effect to such exercise of the Warrant.





In accordance with accounting standards, the proceeds from the Credit Facility were allocated to the Credit Facility and Warrant based on their respective fair values.  Based on this allocation, $50.3 million and $4.7 million of the net proceeds were allocated to the Credit Facility and
Warrant, respectively.  The Warrant has been classified as a liability on the consolidated balance sheet due to our obligation to pay the seller of the Warrant a make-whole payment, in cash, under certain circumstances.  The fair value of the Warrant was determined using a pricing model based on a version of the Black Scholes model, which is adjusted to account for the dilution resulting from the additional shares issued for the Warrant.  The valuation was determined by computing
the value of the Warrant if exercised in year 1 – 3 with the values weighted by the probability that the Warrant would actually be exercised in that year.  Some of the assumptions used in the model were a volatility of 45% and a risk free interest rate that ranged from 0.41% to 1.57%.





The resulting discount to the Credit Facility will be amortized to interest expense over the term of the Credit Facility such that the carrying value of the Credit Facility at maturity would be equal to $55.0 million.  Accordingly, we will recognize annual interest expense on the debt at
an effective interest rate of Eurodollar rate plus 7.58% (interest rate at September 30, 2009 was 7.87%).





In accordance with accounting standards, we revalued the Warrant as of September 30, 2009 and recorded the change in the fair value of the Warrant on the consolidated statement of operations.  The fair value of the Warrant was determined using a pricing model based on a version of the Black
Scholes model, which is adjusted to account for the dilution resulting from the additional shares issued for the Warrant.  The valuation was determined by computing the value of the Warrant if exercised in year 1 – 3 with the values weighted by the probability that the warrant would actually be exercised in that year.  Some of the assumptions used in the model were a volatility of 45% and a risk free interest rate that ranged from 0.40% to 1.45%.  The fair value of the Warrant
was $6.3 million at September 30, 2009.  We recorded a change in the fair value of the Warrant on the consolidated statement of operations in the amount of $1.6 million for the three and nine months ended September 30, 2009.





The Warrant contains limitations on the number of shares of Common Stock that may be acquired by the holder of the Warrant upon any exercise of the Warrant.  Pursuant to the terms of the Warrant, the holder of the Warrant may not exercise the Warrant for a number of shares of Common Stock which
will exceed 19.99% of the shares of the Common Stock that are issued and outstanding on the Issue Date (subject to adjustment for stock splits, combinations and similar events).  In addition, the number of shares that may be acquired by the holder of the Warrant and its Affiliates (as defined in the Warrant) and any other Person (as defined in the Warrant) whose ownership of Common Stock would be aggregated with the ownership of the holder of the Warrant for purposes of Section 13(d)
of the Securities Exchange Act of 1934, as amended, may not exceed 19.99% of the total number of shares of Common Stock that are outstanding immediately after giving effect to such exercise of the Warrant.




In conjunction with the issuance of the Warrant, we entered into a Registration Rights Agreement for the benefit of Banco Inbursa and its permitted assignees and transferees.  The Registration Rights Agreement provides for up to three demand registration rights and unlimited piggyback
registration rights covering the Warrant, the shares of Common Stock for which the Warrant is exercisable and all other shares of Common Stock held by Banco Inbursa and its permitted assignees and transferees.  The Registration Rights Agreement provides that we shall pay all fees and expenses incident to the performance of our obligations under the Registration Rights Agreement, including the payment of all filing, registration and qualification fees, printers’ and accounting fees, and expenses
and disbursements of counsel and contains other customary terms, provisions and covenants for agreements of this type, including, without limitation, provisions requiring us to provide indemnification arising out of or relating to any untrue or alleged untrue statement of a material fact, or relating to any omission or alleged omission of a material fact required to be stated therein to make the statements therein not misleading, contained in a registration statement, prospectus, free writing prospectus or certain
other documents.





On January 13, 2006, we entered into our prior $150.0 million revolving credit facility with Fortis Capital Corp., as administrative agent, lead arranger and sole book runner, and a syndicate of lenders. Loans under the revolving credit facility bore interest at LIBOR plus a 4.0% margin
or, at our option, the prime rate plus a 3.0% margin. On September 29, 2008, the Company amended and restated this revolving credit facility. We incurred $3.5 million in debt issue costs related to the amended and restated credit facility.





The revolving credit facility provided for a quarterly commitment fee of 0.5% per annum of the unused portion of the revolving credit facility, and fees for each letter of credit issued under the facility. Commitment fees expense for the three and nine months ended September 30, 2009 were $136,000
and $441,000, respectively, and for the three and nine months ended September 30, 2008 were $106,000 and $221,000, respectively.





The revolving credit facility was repaid in full on September 18, 2009.  We incurred a loss from early extinguishment of debt of approximately $2.9 million.





At December 31, 2008 we were party to term installment loans for an aggregate principal amount of approximately $4.5 million. These term loans are payable in 96 monthly installments, mature in 2013 and 2015 and have a weighted average annual interest rate of 6.93%. The proceeds from these term loans
were used to purchase cranes.  These loans were paid in full in March of 2009.





We are party to a term loan agreement with Ameritas Life Insurance Corp. for an aggregate principal amount of approximately $1.4 million related to the acquisition of a building. This term loan is payable in 166 monthly installments, matures in 2021 and has an
interest rate of 6%.





Working Capital.Our working capital was $31.3 million at September 30, 2009 compared to $71.6 million at December 31, 2008.  Our current ratio, which we calculate by dividing our current
assets by our current liabilities, was 3.1 at September 30, 2009 compared to 3.0 at December 31, 2008.


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We believe that the liquidity shown on our balance sheet as of September 30, 2009, which includes approximately $31.6 million in working capital (including $18.1 million in cash) and availability under our $75.0 million credit facility with $55.0 million outstanding
at September 30, 2009, together with cash expected to be generated from operations, provides us with sufficient ability to fund our operations for at least the next twelve months.  However, additional capital may be required for future rig acquisitions.  While we would expect to fund such acquisitions with additional borrowings and/or the issuance of debt or equity securities, we cannot assure that such funding will be available or, if available, that it will be on terms acceptable to
us.  The changes in the components of our working capital were as follows (amounts in thousands):


September 30,


December 31,2009


2008


ChangeCash and cash equivalents

$
18,118


$
26,676


$
(8,558
)Trade and other receivables


17,918



65,817



(47,899
)Unbilled receivables


596



2,940



(2,344
)Income tax receivable


3,614



2,072



1,542Current deferred income taxes


981



2,844



(1,863
)Current maturities of note receivable


2,501



6,900



(4,399
)Prepaid expenses


1,069



572



497Other current assets


1,660



-



1,660Current assets


46,457



107,821



(61,364
)Current debt


88



1,464



(1,376
)Accounts Payable


8,109



18,473



(10,364
)Accrued liabilities and deferred revenues


6,678



16,249



(9,571
)Current liabilities


14,875



36,186



(21,311
)Working capital

$
31,582


$
71,635


$
(40,053
)


The decrease in cash and cash equivalents was primarily due to the repayment of our revolving credit facility with Fortis Bank SA/NV, New York Branch, in the amount of $111.1 million and the reduction in current debt and accounts payable of $1.4 million and $10.4 million, respectively, partially offset by the reduction
in trade and other receivables of $47.9 million, the receipt of $31.7 million in proceeds from CICSA related to the sale of a 60% membership interest in Bronco MX and a $55.0 million draw on our new revolving credit facility with Banco Inbursa.





The decrease in trade receivables and other receivables as well as accounts payable at September 30, 2009 as compared to December 31, 2008 was due to a continued reduction in revenue days and utilization rates during the first nine months of 2009 compared to 2008.  Utilization
for the nine months ended September 30, 2009 was 37% compared to 78% for 2008.





The decrease in accrued liabilities was due to a $4.8 million decrease in accrued salaries and related, a decrease in deferred revenue of approximately $2.2 million due to the reduction in the deferral of mobilization revenue and a $1.5 million reduction in accrued
interest and a $1.2 million reduction in our workers compensation accrual.  The decrease in our deferral of mobilization revenue is due to the reduction in revenue days and utilization rates during the third quarter of 2009.




Item 3. Quantitative and Qualitative Disclosures About Market Risks





We are subject to market risk exposure related to changes in interest rates on our outstanding floating rate debt. Borrowings under our revolving credit facility bear interest at a floating rate equal to LIBOR plus a margin of 5.80%. An increase or decrease of
1% in the interest rate would have a corresponding decrease or increase in our net income (loss) of approximately $337,000 annually, based on the $55.0 million outstanding in the aggregate under our credit facility as of September 30, 2009.





Item 4. Controls and Procedures





Evaluation of Disclosure Control and Procedures.





As of the end of the period covered by this Quarterly Report on Form 10−Q, our management, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of the design and operation of
our disclosure controls and procedures (as defined in Rules 13a−15(e) or 15d−15(e) under the Securities Exchange Act of 1934, as amended). Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that as of September 30, 2009 our disclosure controls and procedures are effective.





Disclosure controls and procedures are controls and procedures designed to ensure that information required to be disclosed in our reports filed or submitted under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time
periods specified in the SEC's rules and forms; and include controls and procedures designed to ensure that information is accumulated and communicated to our management, and made known to our Chief Executive Officer and Chief Financial Officer, particularly during the period when this Quarterly Report on Form 10−Q was prepared, as appropriate to allow timely decision regarding the required disclosure.





Changes in Internal Control over Financial Reporting.





There were no changes in our internal control over financial reporting that occurred during the first nine months of 2009 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.




PART II: OTHER INFORMATION




Item 1. Legal Proceedings





Various claims and lawsuits, incidental to the ordinary course of business, are pending against the Company. In the opinion of management, all matters are adequately covered by insurance or, if not covered, are not expected to have a material effect on the Company’s
consolidated financial position, results of operations or cash flows.




Item 1A. Risk Factors





There have been no material changes to the Risk Factors previously disclosed in our Annual Report on Form 10-K for the year ended December 31, 2008 filed with the SEC on March 16, 2009, except as provided below.


Carlos Slim Helú, members of his family and affiliated entities may exercise significant influence in our affairs and their interests may differ from the interests of our other stockholders.
 
 According to a Schedule 13D filed with the U.S. Securities and Exchange Commission by Carlos Slim Helú, certain members of his family and affiliated entities (the “Slim Affiliates”) onSeptember
18, 2009, collectively these individuals and entities owned approximately 15% of our common stock. Additionally, in connection with the Credit Facility we entered into with Banco Inbursa (which is also a Slim Affiliate) on September 18, 2009, we issued a warrant to Banco Inbursa to purchase up to  5,440,770 shares of our common stock (the “Warrant”). The Warrant, if exercised by Banco Inbursa, would permit the Slim Affiliates to acquire up to 19.99% of our outstanding common stock.  As
a consequence of the significant ownership of our common stock held by the Slim Affiliates, collectively, they may exercise significant influence over the outcome of matters involving a vote of our stockholders, including the election of our directors, a merger or other business combination or a sale of a substantial amount of our assets.
 
 Banco Inbursa is the lender under our Credit Facility, and is currently our largest creditor.  Carso Infraestructura y Construcción S.A.B. de C.V., also a Slim Affiliate, owns 60% of the equity of Bronco Drilling MX, a joint venture in Mexico in which
we own the other 40%.  Because of the contractual and business relationships we have with the Slim Affiliates, the interests of the Slim Affiliates may differ from the interests of our other stockholders, and the Credit Facility, the joint venture documentation relating to Bronco MX and the Warrant contain provisions that may tend to increase the influence the Slim Affiliates may exercise in our affairs.
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 For instance, the joint venture represents a significant investment by us that will be controlled by the Slim Affiliates, who, among other things, will be able to influence the amount and timing of any distributions of cash or property by Bronco MX to its equity holders,
including us.  The Credit Facility contains a variety of customary affirmative and negative covenants that limit our ability to engage in certain actions unless we obtain a waiver or consent from Banco Inbursa.  If we are unable to satisfy our obligations to make mandatory payments of principal and/or interest under the Credit Facility  our failure to do so could lead to an event of default under the Credit Facility, which would permit Banco Inbursa to exercise various contractual
remedies under the Credit Facility, including accelerating the maturity of our obligations and foreclosing upon our assets securing the Credit Facility.  The Warrant includes a covenant that restricts our ability to issue shares of common stock (or rights or warrants or other securities exercisable or convertible into or exchangeable for shares of common stock) at a consideration per share that is less than 95% of the market price of our common stock, subject to certain exceptions.  If it
became necessary for us to raise capital and we were unable to sell shares of common stock in a manner that complied with the Warrant, we would be required to obtain a waiver of this requirement or risk liability for breach of contract. If we were unable to obtain a waiver, it could have a material adverse affect on our business, financial condition and results of operation.


Item 2. Unregistered Sales of Equity Securities and Use of Proceeds





Previously disclosed on Current Report on Form 8-K, File No. 000-51471, filed with the SEC on September 23, 2009.




Item 3. Defaults Upon Senior Securities





None.




Item 4. Submissionof Matters to a Vote of Security Holders





None.




Item 5. Other Information





None.





Item 6. Exhibits




Exhibits:




Exhibit
No.
Description2.1
Merger Agreement, dated as of August 11, 2005, by and among Bronco Drilling Holdings, L.L.C, Bronco Drilling Company, L.L.C. and Bronco Drilling Company, Inc. (incorporated by reference to Exhibit 2.1 to the Registration Statement on Form S-1, File No. 333-128861, filed by the Company with the SEC on October 6, 2005).2.2
Membership Interest Purchase Agreement, dated September 18, 2009, by and among Bronco Drilling Company, Inc., Saddleback Properties L.L.C. and Carso Infrastructura y Construccion, S.A.B. de C.V. (incorporated by reference to Exhibit 2.1 to the Current Report on Form 8-K, File No, 000-51471, filed with the SEC on September 23, 2009).3.1
Amended and Restated Certificate of Incorporation of the Company, dated August 11, 2005 (incorporated by reference to Exhibit 2.1 to the Registration Statement on Form S-1, File No. 333-128861, filed by the Company with the SEC on October 6, 2005).3.2
Bylaws of the Company (incorporated by reference to Exhibit 3.2 to Amendment No. 1 to the Registration Statement on Form S-1, File No. 333-125405, filed by the Company with the SEC on July 14, 2005).4.1
Form of Common Stock certificate (incorporated by reference to Exhibit 4.1 to Amendment No. 2 to the Registration Statement on Form S-1, File No. 333-125405, filed by the Company with the SEC on August 2, 2005).10.1
Credit Agreement, dated September 18, 2009, by and among Bronco Drilling Company, Inc. and certain subsidiaries thereof, as guarantors, and Banco Inbursa, S.A., Institucion de Banca Multiple, Grupo Financiero Inbursa, as lender and issuing bank (incorporated by reference to Exhibit 10.1 to the Current Report on Form 8-K, File No. 000-51471, filed with the SEC on September 23, 2009).10.2
Warrant Agreement, dated September 18, 2009, by and among Bronco Drilling Company, Inc. and Banco Inbursa, S.A., Institución de Banca Múltiple, Grupo Financiero Inbursa (incorporated by reference to Exhibit 10.2 to the Current Report on Form 8-K, file No. 000-51471, filed with the SEC on September 23, 2009).10.3
Warrant, dated September 18, 2009, by and among Bronco Drilling Company, Inc. and Banco Inbursa, S.A., Institución de Banca Múltiple, Grupo Financiero Inbursa (incorpated by refererence to Exhbit 10.3 to the Current Report on Form 8-K, File No. 000-51471, filed with the SEC on September 23, 2009).10.4
Registration Rights Agreement, dated September 18, 2009, by and among Bronco Drilling Company, Inc. and Banco Inbursa, S.A., Institución de Banca Múltiple, Grupo Financiero Inbursa (incorporated by reference to Exhibit 10.4 on Form 8-K, File No. 000-51471, filed with the SEC on September 23, 2009).*31.1
Certification of Chief Executive Officer of Bronco Drilling Company, Inc. pursuant to Rule 13a-14(a) promulgated under the Securities Exchange Act of 1934, as amended.*31.2
Certification of Chief Financial Officer of Bronco Drilling Company, Inc. pursuant to Rule 13a-14(a) promulgated under the Securities Exchange Act of 1934, as amended*32.1
Certification of Chief Executive Officer of Bronco Drilling Company, Inc. pursuant to Rule 13a-14(b) promulgated under the Securities Exchange Act of 1934, as amended, and Section 1350 of Chapter 63 of Title 18 of the United States Code.*32.2
Certification of Chief Financial Officer of Bronco Drilling Company, Inc. pursuant to Rule 13a-14(b) promulgated under the Securities Exchange Act of 1934, as amended, and Section 1350 of Chapter 63 of Title 18 of the United States Code.





*
Filed herewith.





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SIGNATURE




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





Dated: November 9, 2009

BRONCO DRILLING COMPANY, INC.By:

/s/ Zachary M. GravesZachary M. GravesChief Financial Officer(Principal Accounting and Financial Officer)Dated: November 9, 2009

By:

/s/ D. Frank HarrisonD. Frank HarrisonChief Executive Officer(Authorized Officer and Principal Executive Officer)





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