##### Table of Contents



UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q þ
    
    Quarterly Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
 For the quarterly period ended March 31, 2005
 or o
    
    Transition Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
 For the transition period from  to
 Commission File Number 1-8226 (GREY WOLF LOGO) Grey Wolf, Inc.  Texas
    
    74-2144774(State or jurisdiction of
    
    (I.R.S. Employerincorporation or organization)
    
    Identification No.)10370 Richmond Avenue, Suite 600Houston, Texas
    
    77042(Address of principal executive offices)
    
    (Zip Code)
 Registrants telephone number, including area code: (713) 435-6100 Indicate by check mark whether the registrant (1) has filed all reports required to be filed
by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or
for such shorter period that the Registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes þ No o Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule
12b-2 of the Exchange Act). Yes þ No o The
number of shares of the registrants common stock, par value $0.10 per share, outstanding
at April 29, 2005, was 190,858,524.




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GREY WOLF, INC. AND SUBSIDIARIES
Table of Contents  
 PagePart I.Financial InformationItem 1. Financial StatementsConsolidated Balance Sheets
    
    
    3Consolidated Statements of Operations
    
    
    4Consolidated Statements of Shareholders Equity
and Comprehensive Income
    
    
    5Consolidated Statements of Cash Flows
    
    
    6Notes to Consolidated Financial Statements
    
    
    7Item 2. Managements Discussion and Analysis of Financial
Condition and Results of Operations
    
    
    18Item 3. Quantitative and Qualitative Disclosure about Market Risk
    
    
    30Item 4. Controls and Procedures
    
    
    31Part II.Other InformationItem 1. Legal Proceedings
    
    
    31Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    31Item 3. Defaults Upon Senior Securities
    
    
    31Item 4. Submission of Matters to a Vote of Security Holders
    
    
    31Item 5. Other Information
    
    
    31Item 6. Exhibits
    
    
    32Signatures
    
    
    34Certification of CEO pursuant to Rule 13a-14aCertification of CFO pursuant to Rule 13a-14aCertification pursuant to Section 906
  -2-




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GREY WOLF, INC. AND SUBSIDIARIES 
 Consolidated Balance Sheets
 March 31,
    
    
    December 31,2005
    
    
    2004(Unaudited)ASSETSCurrent assets:Cash and cash equivalents
    
    $
    88,846
    
    
    $
    71,710Restricted cash
    
    
    758
    
    
    
    758Accounts receivable, net of allowance of
$2,424
    
    
    118,772
    
    
    
    98,065Prepaids and other current assets
    
    
    3,165
    
    
    
    5,097Deferred tax assets
    
    
    40,201
    
    
    
    3,050Total current assets
    
    
    251,742
    
    
    
    178,680Property and equipment:Land, buildings and improvements
    
    
    5,061
    
    
    
    5,061Drilling equipment
    
    
    848,968
    
    
    
    824,901Furniture and fixtures
    
    
    3,653
    
    
    
    3,578Total property and equipment
    
    
    857,682
    
    
    
    833,540Less: accumulated depreciation
    
    
    (410,050
    )
    
    
    (396,210
    )Net property and equipment
    
    
    447,632
    
    
    
    437,330Goodwill
    
    
    10,377
    
    
    
    10,377Other noncurrent assets, net
    
    
    9,019
    
    
    
    9,489$
    718,770
    
    
    $
    635,876LIABILITIES AND SHAREHOLDERS EQUITYCurrent liabilities:Accounts payable-trade
    
    $
    48,456
    
    
    $
    40,232Accrued workers compensation
    
    
    5,421
    
    
    
    4,303Payroll and related employee costs
    
    
    4,517
    
    
    
    8,699Accrued interest payable
    
    
    3,131
    
    
    
    1,516Other accrued liabilities
    
    
    8,348
    
    
    
    5,834Total current liabilities
    
    
    69,873
    
    
    
    60,584Contingent convertible senior debt
    
    
    275,000
    
    
    
    275,000Other long-term liabilities
    
    
    7,088
    
    
    
    7,509Deferred income taxes
    
    
    104,479
    
    
    
    55,301Commitments and contingent liabilities
    
    
    
    
    
    
    Shareholders equity:Series B Junior Participating Preferred stock,
$1 par value; 250,000 shares authorized;
none outstanding
    
    
    
    
    
    
    Common
stock, $0.10 par value; 300,000,000 shares
authorized; 190,757,597 and 190,136,471
issued and outstanding, respectively
    
    
    19,076
    
    
    
    19,014Additional paid-in capital
    
    
    365,973
    
    
    
    363,148Unearned restricted stock awards
    
    
    (1,083
    )
    
    
    Accumulated deficit
    
    
    (121,636
    )
    
    
    (144,680
    )Total shareholders equity
    
    
    262,330
    
    
    
    237,482$
    718,770
    
    
    $
    635,876
 See accompanying notes to consolidated financial statements -3-




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GREY WOLF, INC. AND SUBSIDIARIES 
 Consolidated Statements of Operations
 Three Months EndedMarch 31,2005
    
    
    2004Revenues:Contract drilling
    
    $
    149,992
    
    
    $
    75,200Costs and expenses:Drilling operations
    
    
    92,935
    
    
    
    62,537Depreciation and amortization
    
    
    14,302
    
    
    
    12,972General and administrative
    
    
    3,922
    
    
    
    3,140Gain on sale of assets
    
    
    (18
    )
    
    
    (11
    )Total costs and expenses
    
    
    111,141
    
    
    
    78,638Operating income (loss)
    
    
    38,851
    
    
    
    (3,438
    )Other income (expense):Interest income
    
    
    432
    
    
    
    166Interest expense
    
    
    (2,599
    )
    
    
    (6,166
    )Other expense, net
    
    
    (2,167
    )
    
    
    (6,000
    )Net income (loss) before income taxes
    
    
    36,684
    
    
    
    (9,438
    )Income tax expense (benefit):Current
    
    
    1,172
    
    
    
    Deferred
    
    
    12,468
    
    
    
    (3,007
    )Total income tax expense (benefit)
    
    
    13,640
    
    
    
    (3,007
    )Net income (loss)
    
    $
    23,044
    
    
    $
    (6,431
    )Net income (loss) per common share (Note 2):Basic
    
    $
    0.12
    
    
    $
    (0.04
    )Diluted
    
    $
    0.10
    
    
    $
    (0.04
    )Weighted average common shares outstanding:Basic
    
    
    190,273
    
    
    
    181,456Diluted
    
    
    234,344
    
    
    
    181,456
 See accompanying notes to consolidated financial statements -4-




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GREY WOLF, INC. AND SUBSIDIARIES 
 Consolidated Statements of Shareholders Equity and Comprehensive Income
 CommonStock,
    
    
    Additional
    
    
    UnearnedCommon
    
    
    $0.10 Par
    
    
    Paid-in
    
    
    Restricted
    
    
    AccumulatedShares
    
    
    Value
    
    
    Capital
    
    
    Stock Awards
    
    
    Deficit
    
    
    TotalBalance, December 31, 2003
    
    
    181,283
    
    
    $
    18,129
    
    
    $
    330,266
    
    
    $
    
    
    
    $
    (152,758
    )
    
    $
    195,637Exercise of stock options
    
    
    4,243
    
    
    
    424
    
    
    
    9,729
    
    
    
    
    
    
    
    
    
    
    
    10,153Tax benefit of stock
option exercises
    
    
    
    
    
    
    
    
    
    
    3,193
    
    
    
    
    
    
    
    
    
    
    
    3,193Non-cash compensation
expense
    
    
    
    
    
    
    
    
    
    
    77
    
    
    
    
    
    
    
    
    
    
    
    77Issuance of common stock
    
    
    4,610
    
    
    
    461
    
    
    
    19,883
    
    
    
    
    
    
    
    
    
    
    
    20,344Comprehensive net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    8,078
    
    
    
    8,078Balance, December 31, 2004
    
    
    190,136
    
    
    
    19,014
    
    
    
    363,148
    
    
    
    
    
    
    
    (144,680
    )
    
    
    237,482Exercise of stock options
    
    
    421
    
    
    
    42
    
    
    
    1,279
    
    
    
    
    
    
    
    
    
    
    
    1,321Tax benefit of stock
option exercises
    
    
    
    
    
    
    
    
    
    
    446
    
    
    
    
    
    
    
    
    
    
    
    446Issuance of restricted stock
    
    
    200
    
    
    
    20
    
    
    
    1,100
    
    
    
    (1,120
    )
    
    
    
    
    
    
    Amortization of restricted
stock awards
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    37
    
    
    
    
    
    
    
    37Comprehensive net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    23,044
    
    
    
    23,044Balance, March 31, 2005
(Unaudited)
    
    
    190,757
    
    
    $
    19,076
    
    
    $
    365,973
    
    
    $
    (1,083
    )
    
    $
    (121,636
    )
    
    $
    262,330
 See accompanying notes to consolidated financial statements -5-




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GREY WOLF, INC. AND SUBSIDIARIES 
 Consolidated Statements of Cash Flows
 Three Months EndedMarch 31,2005
    
    
    2004Cash flows from operating activities:Net income (loss)
    
    $
    23,044
    
    
    $
    (6,431
    )Adjustments to reconcile net income (loss) to net cashCash provided by (used in) operating activities:Depreciation and amortization
    
    
    14,302
    
    
    
    12,972Deferred income taxes
    
    
    12,027
    
    
    
    (3,357
    )Gain on sale of assets
    
    
    (18
    )
    
    
    (11
    )Amortization of restricted stock awards
    
    
    37
    
    
    
    Non-cash compensation expense
    
    
    
    
    
    
    77Accretion of debt discount
    
    
    
    
    
    
    7Tax benefit of stock option exercises
    
    
    446
    
    
    
    350Net effect of changes in assets and liabilities
related to operating accounts
    
    
    (9,704
    )
    
    
    (7,481
    )Cash provided by (used in) operating activities
    
    
    40,134
    
    
    
    (3,874
    )Cash flows from investing activities:Property and equipment additions
    
    
    (24,848
    )
    
    
    (4,496
    )Proceeds from sale of property and equipment
    
    
    529
    
    
    
    117Cash used in investing activities
    
    
    (24,319
    )
    
    
    (4,379
    )Cash flows from financing activities:Net proceeds from long-term debt
    
    
    
    
    
    
    97,750Repayments of long-term debt
    
    
    
    
    
    
    (85,000
    )Financing costs
    
    
    
    
    
    
    (323
    )Proceeds from exercise of stock options
    
    
    1,321
    
    
    
    626Cash provided by financing activities
    
    
    1,321
    
    
    
    13,053Net increase in cash and cash equivalents
    
    
    17,136
    
    
    
    4,800Cash and cash equivalents, beginning of period
    
    
    71,710
    
    
    
    54,350Cash and cash equivalents, end of period
    
    $
    88,846
    
    
    $
    59,150Supplemental cash flow disclosure:Cash paid for interest
    
    $
    769
    
    
    $
    3,911Cash paid for taxes
    
    $
    170
    
    
    $
    
 See accompanying notes to consolidated financial statements -6-




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GREY WOLF, INC. AND SUBSIDIARIES 
 Notes to Consolidated Financial Statements
  (1) General Grey Wolf, Inc. (the Company or Grey Wolf) is a Texas corporation formed in 1980. Grey
Wolf is a holding company with no independent assets or operations, but through its subsidiaries is
engaged in the business of providing onshore contract drilling services to the oil and gas
industry. The accompanying unaudited consolidated financial statements have been prepared by the Company
in accordance with accounting principles generally accepted in the United States of America (U.S.
GAAP) and include the accounts of the Company and its subsidiaries. In the opinion of management,
the accompanying unaudited consolidated financial statements contain all adjustments, which are of
a normal recurring nature, necessary to present fairly the Companys financial position as of March
31, 2005 and the results of operations and cash flows for the periods indicated. All intercompany
transactions have been eliminated. The results of operations for the three month period ended
March 31, 2005 are not necessarily indicative of the results for any other period or for the year
as a whole. Additionally, pursuant to the rules and regulations of the Securities and Exchange
Commission, certain information and footnote disclosures normally included in annual financial
statements in accordance with U.S. GAAP have been omitted. Therefore, these consolidated financial
statements should be read in conjunction with the Companys audited consolidated financial
statements and notes thereto included in the Companys annual report on Form 10-K for the year
ended December 31, 2004. (2) Significant Accounting Policies Earnings Per Share Basic earnings per share (EPS) is based on the weighted average number of common shares
outstanding during the applicable period and excludes the nonvested portion of restricted stock.
The computation of diluted earnings per share is based on the weighted average number of common
shares outstanding during the period plus, when their effect is dilutive, incremental shares
consisting of shares subject to stock options, restricted stock and shares issuable upon conversion
of the Floating Rate Contingent Convertible Senior Notes due 2024 (the Floating Rate Notes) and
the 3.75% Contingent Convertible Senior Notes due 2023 (the 3.75% Notes) (collectively referred
to as the Contingent Convertible Senior Notes). Consistent with the provisions of Emerging Issues Task Force (EITF) Issue No. 04-08, The
Effect of Contingently Convertible Instruments on Diluted Earnings per Share, the Company accounts
for the Contingent Convertible Senior Notes using the if converted method set forth in the
Financial Accounting Standards Board (FASB) Statement of Financial Accounting Standards (SFAS)
No. 128 Earnings Per Share for calculating diluted earnings per share. Under the if converted
method, the after-tax effect of interest expense related to the Contingent Convertible Senior Notes
is added back to net income, and the convertible debt is assumed to have been converted to common
equity at the beginning of the period and is added to outstanding shares. -7-




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GREY WOLF, INC. AND SUBSIDIARIESNotes to Consolidated Financial Statements
(Unaudited) The following is a reconciliation of the components of the basic and diluted earnings per
share calculations for the applicable periods: Three Months EndedMarch 31,2005
    
    
    2004Numerator:Net income (loss)
    
    $
    23,044
    
    
    $
    (6,431
    )Add interest expense on contingent convertible
senior notes, net of related tax effects
    
    
    1,495
    
    
    
    Adjusted net income-diluted
    
    $
    24,539
    
    
    $
    (6,431
    )Denominator:Weighted average common shares outstanding
    
    
    190,273
    
    
    
    181,456Effect of dilutive securities:Options  treasury stock method
    
    
    1,614
    
    
    
    Contingent convertible senior notes
    
    
    42,457
    
    
    
    Weighted average common shares
outstanding-diluted
    
    
    234,344
    
    
    
    181,456Earnings per common share:Basic
    
    $
    0.12
    
    
    $
    (0.04
    )Diluted
    
    $
    0.10
    
    
    $
    (0.04
    )
 For the three months ended March 31, 2005, 199,950 shares of restricted stock were excluded
from the computation of basic EPS as the restricted stock vesting conditions had not been met.
Also, 904,160 stock options to purchase common shares and 124,413 shares of restricted stock, each
calculated on a weighted-average basis, were excluded from the computation of diluted EPS as the
effects of these securities were anti-dilutive. For the three months ended March 31, 2004, the
Company incurred a net loss and excluded 10.9 million options to purchase shares from the
computation of diluted EPS as the effect would have been anti-dilutive. If the Company had not
incurred a net loss, the number of shares included in the weighted average common shares
outstanding would have been based on the treasury stock method. Stock-Based Compensation The Company applies Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock
Issued to Employees, and related interpretations in accounting for its stock option plans. These
plans are more fully described in Note 7. Accordingly, no compensation expense has been recognized
for stock option grants as all options granted had an exercise price equal to the market value of
the underlying common stock on the date of grant. Had compensation expense for the stock option grants been determined on the fair value at the
grant dates consistent with the method of SFAS No. 123, Accounting for Stock-Based Compensation,
the Companys net income (loss) and net income (loss) per share would have been adjusted to the pro
forma amounts indicated below: -8-




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GREY WOLF, INC. AND SUBSIDIARIESNotes to Consolidated Financial Statements
(Unaudited) Three Months EndedMarch 31,2005
    
    
    2004Net income (loss), as reported
    
    $
    23,044
    
    
    $
    (6,431
    )Add: Stock-based employee
compensation expense included
in reported net loss, net of
related tax effects
    
    
    23
    
    
    
    52Deduct: Total stock-based employee
compensation expense determined
under fair value based method for
all awards, net of related tax effects
    
    
    (603
    )
    
    
    (581
    )Pro forma net income (loss)
    
    $
    22,464
    
    
    $
    (6,960
    )Basic earnings per shareAs reported
    
    $
    0.12
    
    
    $
    (0.04
    )Pro Forma
    
    $
    0.12
    
    
    $
    (0.04
    )Diluted earnings per shareAs reported
    
    $
    0.10
    
    
    $
    (0.04
    )Pro Forma
    
    $
    0.10
    
    
    $
    (0.04
    )
 For purposes of determining compensation expense using the provisions of SFAS No. 123, the
fair value of option grants was determined using the Black-Scholes option-valuation model. The key
input variables used in valuing the options granted in 2005 and 2004 were: risk-free interest rate
based on five-year Treasury strips of 3.86% in 2005 and 3.67% in 2004; dividend yield of zero in
each year; stock price volatility of 57% in 2005 and of 56% in 2004; and expected option lives of
five years for each year presented. Recent Accounting Pronouncements In October 2004, the FASB ratified the consensus reached in EITF Issue No. 04-08, The Effect
of Contingently Convertible Debt on Diluted Earnings per Share. The Issue states that
contingently convertible debt instruments should be included in diluted earnings per share
regardless of whether contingent features in such instruments have been met. The Issue was
effective for reporting periods ending after December 15, 2004. The Company adopted EITF No. 04-08
on December 31, 2004 (see Earnings per share above). In December 2004, the FASB issued SFAS No. 123 (Revised 2004), Share-Based Payment (SFAS
123R). This standard requires expensing of stock options and other share-based payments and
supersedes SFAS No. 123, which had allowed companies to choose between expensing stock options or
showing pro forma disclosure only. This standard is effective for the Company as of January 1, 2006
and will apply to all awards granted, modified, cancelled or repurchased after that date as well as
the unvested portion of prior awards. The Company will adopt the standard as of the effective
date. The Company is currently evaluating the total effect on the financial statements and the
method to use when valuing stock options. In December 2004, the FASB issued SFAS No. 153, Exchanges of Nonmonetary Assets, which
amends APB Opinion No. 29. The guidance in APB Opinion
No. 29, Accounting for Nonmonetary Transactions, is -9-




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GREY WOLF, INC. AND SUBSIDIARIESNotes to Consolidated Financial Statements
(Unaudited) based on the principle that exchanges of nonmonetary assets should be measured based on the
fair value of the assets exchanged. The amendment made by SFAS No. 153 eliminates the exception for
exchanges of similar productive assets and replaces it with a broader exception for exchanges of
nonmonetary assets that do not have commercial substance. The provisions of the statement are
effective for exchanges taking place in fiscal periods beginning after June 15, 2005. The Company
will adopt the standard as of the effective date and believes it will not have a material impact on
the financial statements. In March 2005, the FASB issued FASB Interpretation No. (FIN) 47, Accounting for Conditional
Asset Retirement Obligations. FIN 47 clarifies that the term conditional asset retirement
obligation, as used in SFAS No. 143, Accounting for Asset Retirement Obligations,
refers to a legal obligation to perform an asset retirement activity in which the timing and (or)
method of settlement are conditional on a future event that may or may not be within control of the
entity. The obligation to perform the asset retirement activity is unconditional even though
uncertainty exists about the timing and (or) method of settlement. Uncertainty about the timing
and (or) method of settlement of a conditional asset retirement obligation should be factored into
the measurement of the liability when sufficient information exists. FIN 47 also clarifies when an
entity would have sufficient information to reasonably estimate the fair value of an asset
retirement obligation. The Interpretation is effective for fiscal years ending after December 15,
2005. The Company will adopt the standard as of the effective date and does not expect the
adoption of FIN 47 to have a material effect on the Companys financial position or results of
operations for the year ended December 31, 2005. (3) Accounting for Income Taxes The Company records deferred taxes utilizing an asset and liability approach. This method
gives consideration to the future tax consequences associated with differences between the
financial accounting and tax basis of assets and liabilities. The effect on deferred tax assets
and liabilities of a change in tax rates is recognized in income in the period that includes the
enactment date. The Company and its domestic subsidiaries file a consolidated federal income tax
return. The Company currently believes that it is more likely than not that 2005 taxable income will
be sufficient to utilize the net operating loss carryforwards (NOLs) recorded at March 31, 2005.
As a result, these NOLs have been classified as current assets on the balance sheet. (4) Long-Term Debt Long-term debt consists of the following (amounts in thousands): March 31,
    
    
    December 31,2005
    
    
    2004(Unaudited)3.75% Contingent Convertible
Senior Notes due May 2023
    
    $
    150,000
    
    
    $
    150,000Floating Rate Contingent Convertible
Senior Notes due April 2024
    
    
    125,000
    
    
    
    125,000275,000
    
    
    
    275,000Less current maturities
    
    
    
    
    
    
    Long-term debt
    
    $
    275,000
    
    
    $
    275,000
 -10-




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GREY WOLF, INC. AND SUBSIDIARIESNotes to Consolidated Financial Statements
(Unaudited) Floating Rate Notes On March 31, 2004, the Company issued $100.0 million aggregate principal amount of Floating
Rate Notes in a private offering that yielded net proceeds of approximately $97.8 million. On
April 27, 2004, one of the initial purchasers in the Companys private offering of the Floating
Rate Notes exercised its option to purchase an additional $25.0 million aggregate principal amount
of the Floating Rate Notes with the same terms. This yielded net proceeds of $24.4 million. The
Floating Rate Notes bear interest at a per annum rate equal to 3-month LIBOR, adjusted quarterly,
minus a spread of 0.05%. The per annum interest rate will never be less than zero or more than
6.00%. The Floating Rate Notes mature on April 1, 2024. The Floating Rate Notes are convertible
into shares of the Companys common stock, upon the occurrence of certain events, at a conversion
price of $6.51 per share, which is equal to a conversion rate of approximately 153.6098 shares per
$1,000 principal amount of the Floating Rate Notes, subject to adjustment. The Floating Rate Notes
are general unsecured senior obligations of the Company and are fully and unconditionally
guaranteed, on a joint and several basis, by all domestic wholly-owned subsidiaries of the Company.
Non-guarantor subsidiaries are immaterial. The Floating Rate Notes and the guarantees rank
equally with all of the Companys other senior unsecured debt, including the Companys 3.75% Notes.
Fees and expenses of approximately $3.6 million incurred at the time of issuance are being
amortized through April 1, 2014, the first date the holders may require the Company to repurchase
the Floating Rate Notes. The Company may redeem some or all of the Floating Rate Notes at any time on or after April 1,
2014, at a redemption price equal to 100% of the principal amount of the Floating Rate Notes, plus
accrued but unpaid interest and liquidated damages, if any, to the date of repurchase, payable in
cash. Holders may require the Company to repurchase all or a portion of the Floating Rate Notes on
April 1, 2014 or April 1, 2019, and upon a change of control, as defined in the indenture governing
the Floating Rate Notes, at 100% of the principal amount of the Floating Rate Notes, plus accrued
but unpaid interest and liquidated damages, if any, to the date of repurchase, payable in cash. The Floating Rate Notes are convertible, at the holders option, prior to the maturity date
into shares of the Companys common stock under the following circumstances:  
    during any calendar quarter, if the closing sale price per share of the
Companys common stock for at least 20 trading days in the period of 30 consecutive
trading days ending on the last trading day of the calendar quarter preceding the
quarter in which the conversion occurs, is more than 120% of the conversion price per
share ($7.81 per share) on that 30th trading day;
    if the Company has called the Floating Rate Notes for redemption;
    during any period that the credit ratings assigned to the Companys 3.75%
Notes by both Moodys Investors Service (Moodys) and Standard & Poors Ratings Group
(S&P) are reduced below B1 and B+, respectively, or if neither rating agency is
rating the Companys senior unsecured debt;
    during the five trading day period immediately following any nine
consecutive trading day period in which the average trading price per $1,000 principal
amount of the Floating Rate Notes for each day of such period was less than 95% of the
product of the closing sale price per share of the Companys common stock on that day
multiplied by the number of shares of common stock issuable upon conversion of $1,000
principal amount of the Floating Rate Notes; or
    upon the occurrence of specified corporate transactions, including a change
of control. -11-




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GREY WOLF, INC. AND SUBSIDIARIESNotes to Consolidated Financial Statements
(Unaudited) The Floating Rate Notes did not meet the criteria for conversion into common stock at any time
during the quarter ended March 31, 2005. At March 31, 2005, the credit ratings assigned to the
Companys 3.75% Notes by Moodys Investor Service and Standard and Poors Ratings Group were B1 and
BB-, respectively. The indenture governing the Floating Rate Notes does not contain any
restriction on the payment of dividends, the incurrence of indebtedness or the repurchase of the
Companys securities, and does not contain any financial covenants. 3.75% Notes On May 7, 2003, the Company issued $150.0 million aggregate principal amount of 3.75% Notes
in a private offering that yielded net proceeds of $146.6 million. The 3.75% Notes bear interest
at 3.75% per annum and mature on May 7, 2023. The 3.75% Notes are convertible into shares of the
Companys common stock, upon the occurrence of certain events, at a conversion price of $6.45 per
share, which is equal to a conversion rate of approximately 155.0388 shares per $1,000 principal
amount of the 3.75% Notes, subject to adjustment. The Company will pay contingent interest at a
rate equal to 0.50% per annum during any six-month period, with the initial six-month period
commencing May 7, 2008, if the average trading price of the 3.75% Notes per $1,000 principal amount
for the five day trading period ending on the third day immediately preceding the first day of the
applicable six-month period equals $1,200 or more. The 3.75% Notes are general unsecured senior
obligations of the Company and are fully and unconditionally guaranteed, on a joint and several
basis, by all domestic wholly-owned subsidiaries of the Company. Non-guarantor subsidiaries are
immaterial. The 3.75% Notes and the guarantees rank equally with all of the Companys other senior
unsecured debt, including the Floating Rate Notes. Fees and expenses of $4.0 million incurred at
the time of issuance are being amortized through May 2013, the first date the holders may require
the Company to repurchase the 3.75% Notes. The Company may redeem some or all of the 3.75% Notes at any time on or after May 14, 2008, at
a redemption price shown below, payable in cash, plus accrued but unpaid interest, including
contingent interest, if any, to the date of redemption: RedemptionPeriod
    
    PriceMay 14, 2008 through May 6, 2009
    
    
    101.88
    %May 7, 2009 through May 6, 2010
    
    
    101.50
    %May 7, 2010 through May 6, 2011
    
    
    101.13
    %May 7, 2011 through May 6, 2012
    
    
    100.75
    %May 7, 2012 through May 6, 2013
    
    
    100.38
    %May 7, 2013 and thereafter
    
    
    100.00
    %
 Holders may require the Company to repurchase all or a portion of the 3.75% Notes on May 7,
2013 or May 7, 2018, and upon a change of control, as defined in the indenture governing the 3.75%
Notes, at 100% of the principal amount of the 3.75% Notes, plus accrued but unpaid interest,
including contingent interest, if any, to the date of repurchase, payable in cash. The 3.75% Notes are convertible, at the holders option, prior to the maturity date into
shares of the Companys common stock under the following circumstances: -12-




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GREY WOLF, INC. AND SUBSIDIARIESNotes to Consolidated Financial Statements
(Unaudited)  
    during any calendar quarter, if the closing sale price per share of the
Companys common stock for at least 20 trading days in the period of 30 consecutive
trading days ending on the last trading day of the calendar quarter preceding the
quarter in which the conversion occurs, is more than 110% of the conversion price per
share ($7.10 per share) on that 30th trading day;
    if the Company has called the 3.75% Notes for redemption;
    during any period that the credit ratings assigned to the 3.75% Notes by
both Moodys and S&P are reduced below B1 and B+, respectively, or if neither rating
agency is rating the 3.75% Notes;
    during the five trading day period immediately following any nine
consecutive trading day period in which the average trading price per $1,000 principal
amount of the 3.75% Notes for each day of such period was less than 95% of the product
of the closing sale price per share of the Companys common stock on that day
multiplied by the number of shares of common stock issuable upon conversion of $1,000
principal amount of the 3.75% Notes; or
    upon the occurrence of specified corporate transactions, including a change
of control. The 3.75% Notes did not meet the criteria for conversion into common stock at any time during
the quarter ended March 31, 2005. At March 31, 2005, the credit ratings assigned to the 3.75%
Notes by Moodys Investor Service and Standard and Poors Ratings Group were B1 and BB-,
respectively. The indenture governing the 3.75% Notes does not contain any restriction on the
payment of dividends, the incurrence of indebtedness or the repurchase of the Companys securities,
and does not contain any financial covenants. 8 7/8% Senior Notes due 2007 On March 31, 2004, $90.0 million of the $97.8 million of net proceeds received from the
issuance of the Floating Rate Notes was irrevocably deposited with
the trustee for the 8 7/8% Senior
Notes due 2007 (the 8 7/8% Notes) to redeem all outstanding notes at 102.9580%, plus accrued
interest. On April 30, 2004, the cash deposited with the trustee was used to redeem the $85.0
million aggregate principal amount of the 8 7/8% Notes. The redemption premium of $2.5 million is
included in interest expense during the quarter ended March 31, 2004 and the remaining $1.1 million
of deferred financing costs associated with the 8 7/8% Notes was accelerated and amortized through the
redemption date of April 30, 2004. CIT Facility The Companys subsidiary Grey Wolf Drilling Company L.P. has a $100.0 million credit facility
with the CIT Group/Business Credit, Inc. (the CIT Facility) which was amended in December 2004
and expires December 31, 2008. The CIT Facility provides the Company with the ability to borrow up
to the lesser of $100.0 million or 50% of the Orderly Liquidation Value (as defined in the
agreement) of certain drilling rig equipment located in the 48 contiguous states of the United
States of America. The CIT Facility is a revolving facility with automatic renewals after
expiration unless terminated by the lender on any subsequent anniversary date and then only upon 60
days prior notice. Periodic interest payments are due at a floating rate based upon the Companys
debt service coverage ratio within a range of either LIBOR plus 1.75% to 3.50% or prime plus 0.25%
to 1.50%. The CIT Facility provides up to $50.0 million available for letters of credit. The
Company is required to pay a quarterly commitment fee of 0.5% per annum on the unused portion of
the CIT Facility and letters of credit accrue a fee of 1.25% per annum. -13-




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GREY WOLF, INC. AND SUBSIDIARIESNotes to Consolidated Financial Statements
(Unaudited) The CIT Facility contains affirmative and negative covenants and the Company is in compliance
with these covenants. Substantially all of the Companys assets, including its drilling equipment,
are pledged as collateral under the CIT Facility which is also guaranteed by the Company and
certain of the Companys wholly-owned subsidiaries. The Company, however, retains the option,
subject to a minimum appraisal value, under the CIT Facility to extract $75.0 million of the
equipment out of the collateral pool in connection with the sale or exchange of such collateral or
relocation of equipment outside the contiguous 48 states of the United States of America. Among the various covenants that the Company must satisfy under the CIT Facility are the
following two covenants (as defined in the CIT Facility) which apply whenever the Companys
liquidity, defined as the sum of cash, cash equivalents and availability under the CIT Facility,
falls below $35.0 million:  
    1 to 1 EBITDA coverage of debt service, tested monthly on a trailing 12
month basis; and
    minimum tangible net worth (as defined in the CIT Facility) at the end of
each quarter will be at least the prior year tangible net worth less non-cash
write-downs since the prior year-end and less fixed amounts for each quarter end for
which the test is calculated. At March 31, 2005, the Companys liquidity as defined above was $167.5 million. Additionally,
if the total amount outstanding under the CIT Facility (including outstanding letters of credit)
exceeds 50% of the Orderly Liquidation Value of the Companys domestic rigs, the Company is required to make
a prepayment in the amount of the excess. Also, if the average rig utilization rate falls below
45% for two consecutive months, the lender will have the option to request one additional appraisal
per year to aid in determining the current orderly liquidation value of the drilling equipment.
Average rig utilization is defined as the total number of rigs owned which are operating under
drilling contracts in the 48 contiguous states of the United States of America divided by the total
number of rigs owned, excluding rigs not capable of working without substantial capital investment.
Events of default under the CIT Facility include, in addition to non-payment of amounts due,
misrepresentations and breach of loan covenants and certain other events including:  
    default with respect to other indebtedness in excess of $350,000;
    legal judgments in excess of $350,000; or
    a change in control which means that the Company ceases to
own 100% of its two
principal subsidiaries, some person or group that has either acquired beneficial
ownership of 30% or more of the Company or obtained the power to elect a majority of
the Companys board of directors, or the Companys board of directors ceases to consist of a majority of
continuing directors (as defined by the CIT Facility). The Company currently has no outstanding balance under the CIT Facility and had $21.3 million
of undrawn standby letters of credit at March 31, 2005. These standby letters of credit are for
the benefit of various insurance companies as collateral for premiums and retained losses which may
become payable under the terms of the underlying insurance contracts and for other purposes.
Outstanding letters of credit reduce the amount available for borrowing under the CIT Facility. (5) Segment Information The Company manages its business as one reportable segment. Although the Company provides
onshore contract drilling services in several markets domestically, these operations have been
aggregated -14-




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GREY WOLF, INC. AND SUBSIDIARIESNotes to Consolidated Financial Statements
(Unaudited) into one reportable segment based on the similarity of economic characteristics among all
markets, including the nature of the services provided and the type of customers of such services. (6) Contingencies The Company is involved in litigation incidental to the conduct of its business, none of which
management believes is, individually or in the aggregate, material to the Companys consolidated
financial condition or results of operations. (7) Capital Stock and Option Plans The 2003 Incentive Plan (the 2003 Plan) was approved by shareholders in May 2003. The 2003
Plan authorizes the grant of the following equity-based awards:  
    incentive stock options;
    non-statutory stock options;
    restricted shares; and
    other stock-based and cash awards. The 2003 Plan replaced the Companys 1996 Employee Stock Option Plan (the 1996 Plan);
provided, however, that outstanding options previously granted shall continue to be exercisable
subject to the terms and conditions of such grants. The 1996 Plan allowed for grants of
non-statutory options to purchase shares of the Companys common stock, but no further grants of
common stock will be made under the 1996 Plan. The 2003 Plan reserves a maximum of 17.0 million
shares of the Companys common stock underlying all equity-based awards, but is reduced by the
number of shares subject to previous grants under the 1996 Plan. At March 31, 2005, there were 5.6
million shares of the Companys common stock available for grant under the 2003 Plan until March
2013. Prior to 2003, the Company also granted options under stock option agreements with its chief
executive officer and directors that are outside of the 1996 Plan and the 2003 Plan. At March 31,
2005, these individuals had options outstanding to purchase an aggregate of 925,500 shares of the
Companys common stock. The exercise price of stock options approximates the fair market value of the stock at the
time the option is granted. A portion of the outstanding options became exercisable upon issuance
and the remaining become exercisable in varying increments over three to five year periods. The
options expire on the tenth anniversary of the date of grant. During the first quarter of 2005, the Company issued 199,950 shares of restricted common stock
under the 2003 Plan, which vest over a five year period. Each share of restricted common stock
entitles the holder to one vote and are only restricted due to vesting conditions. The Company
will record expense for the value of these shares on a straight-line basis over the five year
vesting period. The portion of the value of the restricted stock not yet expensed is shown as
unearned restricted stock awards within shareholders equity. (8) Concentrations Substantially all of the Companys contract drilling activities are conducted with independent
and major oil and gas companies in the United States. Historically, the Company has not required
collateral or other security to support the related receivables from such customers. However, the
Company has required certain customers to deposit funds in escrow prior to the commencement of
drilling. Actions -15-




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GREY WOLF, INC. AND SUBSIDIARIESNotes to Consolidated Financial Statements
(Unaudited) typically taken by the Company in the event of nonpayment include filing a lien on the
customers producing property and filing suit against the customer. For the three month period ended March 31, 2005, no customers represented 10% of revenue. The
Company had one customer which represented approximately 11% of revenue in the first quarter of
2004. (9) Acquisition and Intangible Assets On April 6, 2004, the Company acquired all of the outstanding capital stock and stock
equivalents of New Patriot Drilling Corp. (Patriot) through a merger. The Company recorded all revenue and
expenses since that date. Patriot had a fleet of ten drilling rigs and provided onshore contract
land drilling services to the oil and gas industry in the Rocky Mountain region. This acquisition
allowed the Company to expand its presence in this region with large natural gas reserves. The aggregate purchase price for Patriot was $49.5 million, including $14.2 million in cash,
$14.7 million in cash to retire the outstanding debt of Patriot and 4,610,480 shares of the
Companys common stock valued at $20.6 million. The value of the shares of the Companys common
stock issued was determined based upon the average market price of the Companys common stock over
the five day period beginning two days before and ending two days after the signing of the
agreement and plan of merger. The purchase price was allocated among assets acquired and liabilities assumed based on their
fair market value at the date of acquisition. The purchase price allocation is as follows (in
thousands): Current assets
    
    $
    3,992Property and equipment
    
    
    42,384Intangible assets
    
    
    3,200Goodwill
    
    
    10,377Total assets acquired
    
    
    59,953Current liabilities
    
    
    (4,490
    )Deferred tax liabilities
    
    
    (5,977
    )Total liabilities assumed
    
    
    (10,467
    )Net assets acquired
    
    $
    49,486
 The deferred tax liabilities recorded included an estimate of the book and tax depreciation
differences for asset additions during the period from January 1, 2004 to April 6, 2004. As a
result, the amount ultimately recorded could change based upon the final Patriot income tax return
to be filed for that period. Any adjustment would affect the amount of Goodwill recorded. None of the goodwill resulting from this acquisition is deductible for tax purposes. The
Company follows the provisions of SFAS No. 142, Goodwill and Other Intangible Assets. Pursuant to
SFAS No. 142, goodwill and intangible assets acquired in a purchase business combination and
determined to have an indefinite useful life are not amortized, but instead are tested for
impairment at least annually in accordance with the provisions of SFAS No. 142. SFAS No. 142 also
requires that intangible assets with estimable useful lives be amortized over their respective
estimated useful lives to their estimated residual values, and reviewed for impairment in
accordance with SFAS No. 144, Accounting for Impairment or -16-




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GREY WOLF, INC. AND SUBSIDIARIESNotes to Consolidated Financial Statements
(Unaudited) Disposal of Long-Lived Assets. The intangible assets represent customer contracts and
related relationships acquired and are being amortized over the useful life of three years.
Amortization expense related to these intangible assets was $267,000 during the first quarter of
2005 and accumulated amortization was $1.0 million at March 31, 2005. Amortization expense related
to these intangible assets over the next five fiscal years will be: 2005  $1.1 million; 2006 -
$1.1 million; 2007  $219,000; 2008  $0 and 2009  $0. The net balance of these intangible assets
was included in net other noncurrent assets on the consolidated balance sheet. -17-




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GREY WOLF, INC. AND SUBSIDIARIES 
 Managements Discussion and Analysis of Financial
 Condition and Results of Operations
 The following discussion should be read in conjunction with the consolidated financial
statements and notes thereto included elsewhere herein and with our audited consolidated financial
statements and accompanying notes included in our annual report on Form 10-K for the year ended
December 31, 2004. Overview We are a leading provider of contract oil and gas land drilling services in the United States
with a fleet of 127 rigs, of which 104 rigs are currently marketed. Our customers include
independent producers and major oil and gas companies. We conduct our operations through our
subsidiaries in what we believe to be the best natural gas producing regions in the United States. Our business is cyclical and our financial results depend upon several factors. These factors
include the overall demand for land drilling services, the level of demand for turnkey and footage
services, the demand for deep versus shallow drilling services, the dayrates we receive for our
services and our success drilling turnkey and footage wells. We make available free of charge through our website our annual reports on Form 10-K,
quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports as
soon as reasonably practicable after such material is electronically filed with the Securities and
Exchange Commission. Information on our website is not a part of this report. Our website address
is www.gwdrilling.com. Rig Activity The United States land rig count at April 29, 2005, per the Baker Hughes rotary rig count,
reached 1,206 rigs. The land rig count is at the highest level since the nineteen eighties. As a
result, we have also seen an increase in our average rigs working compared to prior years. For the
week ending April 21, 2005, we had an average of 102 rigs working, which was the highest in our
history. The table below shows the average number of land rigs working in the United States according
to the Baker Hughes rotary rig count and the average number of our rigs working. Domestic
    
    2003
    
    
    2004
    
    
    2005Land Rig
    
    Full
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Full
    
    
    
    
    
    
    4/1Count
    
    Year
    
    
    Q-1
    
    
    Q-2
    
    
    Q-3
    
    
    Q-4
    
    
    Year
    
    
    Q-1
    
    
    to 4/29Baker
    Hughes
    
    
    880
    
    
    
    1,002
    
    
    
    1,049
    
    
    
    1,115
    
    
    
    1,131
    
    
    
    1,074
    
    
    
    1,153
    
    
    
    1,214Grey Wolf
    
    
    61
    
    
    
    65
    
    
    
    86
    
    
    
    94
    
    
    
    96
    
    
    
    85
    
    
    
    98
    
    
    
    100
 Term Contracts We are signing an increasing number of term contracts to provide drilling services on a
daywork basis. We currently have 33 rigs working under term contracts. In addition, 11 more rigs
are scheduled to go to work under term contracts by the end of the third quarter 2005. We have a
total of approximately 9,900 and 3,800 days contracted for the remainder of 2005 and 2006,
respectively, under term contracts. -18-




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Five
of the 11 rigs scheduled to begin work under term contracts by the end of the third
quarter are currently being refurbished from our cold-stacked and inventory fleet. This includes
four cold-stacked rigs and one inventory rig. The work being performed on two of the cold-stacked
rigs is estimated to cost an average of approximately $2.1 million each and the rigs are projected
to begin work in June 2005. The other rigs are being upgraded from mechanical rigs to diesel
electric SCR rigs at an average cost of $6.4 million per rig. These three rigs are expected to go
to work by the end of the third quarter. We expect to recover substantially all of the incremental
capital expended in redeploying these five rigs during the term of the contracts. The term contracts range in length from six months to two years and include a per rig day
cancellation fee approximately equal to the dayrate under the contract less estimated contract
drilling operating expenses for the unexpired term of the contract. In addition, we are able to
pass the cost of labor increases on to our customers through our dayrates on all contracts,
including term contracts. Drilling and Contract Bid Rates Improvements in the level of land drilling in the United States during 2004 positively
impacted the dayrates we are currently receiving for our rigs. Our dayrates rose approximately
$1,800 per day for all rigs and across regions in the first quarter of 2005 from the fourth quarter
of 2004. This latest quarter-to-quarter increase is the largest we have experienced. As of April 29, 2005, our leading edge bid rates have risen to between $13,400 to $18,000 per
rig day, without fuel or top drives. We expect this upward trend in dayrates to continue during
2005; however, we cannot predict the rate of increase. In addition to our fleet of drilling rigs, we owned 17 top drives at April 29, 2005, for which
our bid rates are up to $2,500 per day, at that date. Bid rates for our top drives are in addition
to the above stated bid rates for our rigs. Turnkey and Footage Contract Activity Turnkey and footage work is an important part of our business and operating strategy. Our
engineering and operating expertise allow us to provide this service to our customers and has
historically provided higher revenues and earnings before interest expense, taxes, depreciation and
amortization (EBITDA) per rig day worked than under daywork contracts. A rig day is defined as a
twenty-four hour period in which a rig is under contract and should be earning revenue. However,
under turnkey and footage contracts we are typically required to bear additional operating costs
(such as drill bits) and risk (such as loss of hole) that would otherwise be assumed by the
customer under daywork contracts. Total quarterly turnkey and footage EBITDA of $9.6 million in
the first quarter of 2005 is the highest in our history. For the quarter ended March 31, 2005, our
turnkey and footage EBITDA was $11,433 per rig day compared to daywork EBITDA of $5,510 per rig
day. For the quarter ended March 31, 2005, turnkey and footage work represented 10% of total days
worked compared to 8% of total days worked during the last quarter of 2004 and 15% in the first
quarter of 2004. EBITDA generated on turnkey and footage contracts can vary widely based upon a number of
factors, including the location of the contracted work as well as the depth and level of complexity
of the wells drilled. The demand for drilling services under turnkey and footage contracts has
historically been lower during periods of overall higher rig demand. While overall rig demand has
been higher as evidenced by the increase in rig count, the demand for turnkey services has not
declined significantly. Financial Outlook We believe the outlook for oil and natural gas prices as well as the outlook for land drilling
contractors remains positive through 2005. The land rig count has reached a point that we believe -19-




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provides support for increasing dayrates and improved contractual terms. The current high oil
and natural gas commodity prices are providing our customers, we believe, with the cash flow to
pursue oil and natural gas prospects in the areas where we operate. As of April 29, 2005,
commodity prices remain relatively high with the NYMEX twelve-month strip for natural gas at $7.26
per Mmbtu and the NYMEX twelve-month strip for oil at $52.57 per barrel. We expect wages and costs to increase in 2005 as a result of this robust demand; however, we
have the ability to pass on labor increases to our customers through higher dayrates. We also
expect that the extended delivery times for drill pipe and newly manufactured rig components will
continue including, for example, delivery times for mud pumps and drawworks. These delivery times
could affect the timing of reactivation, if any, of our remaining cold-stacked and inventory rigs
after reactivation of the five rigs in progress. At April 29, 2005, we had the ability to return
each of our eight cold-stacked rigs to work at an estimated cost of $2.5 million to $3.5 million
per rig, excluding drill pipe. In addition, at April 29, 2005, we had 15 rigs held for future
refurbishment that could be returned to service for an estimated cost of approximately $5.0 million
to $8.0 million per rig, excluding drill pipe. We may also need to purchase drill pipe for these
rigs based upon inventory levels at the time of reactivation. The cost of drill pipe, at current
prices, could range from $0.6 million to $0.9 million for each rig. By the end of the third quarter of 2005, we expect to refurbish five rigs, which would bring
our marketed rig count to 109. After refurbishment of the five rigs for term contracts, we will
have four cold-stacked rigs and 14 inventory rigs. The actual number of rigs reactivated in 2005
and in the future will depend upon many factors, including our estimation of existing and
anticipated demand and dayrates, our success in bidding for contracts, including term contracts,
and the timing of the reactivations. The actual cost of reactivating these rigs would also depend
upon the specific customer requirements and to the extent that we choose to upgrade these rigs. We have prepared an estimate of results for the second quarter of 2005 based on currently
anticipated levels of activity and dayrates. We expect to average between seven and 10 rigs
working under turnkey and footage contracts during the second quarter of 2005; however, there can
be no assurance that we will be able to maintain the current level of activity or EBITDA derived
from turnkey and footage contracts. During the second quarter of 2005, we expect to average a
total of 101 rigs working and to generate EBITDA of approximately $57.3 million (see Results of
Operations for reconciliation). We expect depreciation expense of approximately $14.7 million and
interest expense of approximately $2.8 million in the second quarter of 2005. Net income per share
is expected to be approximately $0.11 on a diluted basis, using a tax rate of approximately 37%
based upon the expected level of net income. These projections are forward-looking statements and while we believe our estimates are
reasonable, we can give no assurance that such expectations or the assumptions that underlie such
assumptions will prove to be correct. Critical Accounting Policies Our consolidated financial statements and accompanying notes have been prepared in accordance
with accounting principles generally accepted in the United States of America. The preparation of
these financial statements require our management to make subjective estimates, judgments and
assumptions that affect the reported amounts of assets, liabilities, revenues and expenses.
However, these estimates, judgments and assumptions concern matters that are inherently uncertain.
Accordingly, actual amounts and results could differ from these estimates made by management,
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 accounting policies that we believe are critical are
property and equipment, impairment of long-lived assets, goodwill and other intangible assets,
revenue recognition, insurance accruals, and income taxes. -20-




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Property and Equipment Property and equipment, including betterments and improvements, are stated at cost with
depreciation calculated using the straight-line method over the estimated useful lives of the
assets. We make estimates with respect to the useful lives that we believe are reasonable.
However, the cyclical nature of our business or the introduction of new technology in the industry
could cause us to change our estimates, thus impacting the future calculation of depreciation.
When any asset is tested for recoverability, we also review the remaining useful life of the asset.
Any changes to the estimated useful life resulting from that review are made prospectively. We
expense our maintenance and repair costs as incurred. We estimate the useful lives of our assets
are between three and fifteen years. Impairment of Long-Lived Assets We
assess the impairment of our long-lived assets under the Financial
Accounting Standards Board (FASB) Statement of Financial Accounting
Standards (SFAS) No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets,
whenever events or changes in circumstances indicate that the carrying value may not be
recoverable. Such indicators include changes in our business plans, a change in the physical
condition of a long-lived asset or the extent or manner in which it is being used, or a severe or
sustained downturn in the oil and gas industry. If we determine that a triggering event, such as
those described previously, has occurred, we perform a review of our rigs and rig equipment. Our
review is performed by comparing the carrying value of each rig, plus the estimated cost to
refurbish or reactivate, to the estimated undiscounted future net cash flows for that rig. If the
carrying value plus estimated refurbishment and reactivation cost of any rig is more than the
estimated undiscounted future net cash flows expected to result from the use of the rig, a
write-down of the rig to estimated fair market value must be made. The estimated fair market value
is the amount at which an asset could be bought or sold in a current transaction between willing
parties. Quoted market prices in active markets are the best estimate of fair market value,
however, quoted market prices are generally not available. As a result, fair value must be
determined based upon other valuation techniques. This could include appraisals or present value
calculations. The calculation of undiscounted future net cash flows and fair market value is based
on our estimates and projections. The demand for land drilling services is cyclical and has historically resulted in
fluctuations in rig utilization. The severity and duration of the downturn during 1998 triggered a
pre-tax asset impairment charge of $93.2 million. We believe the contract drilling industry will
continue to be cyclical and rig utilization will fluctuate. The likelihood of an asset impairment
increases during extended periods of rig inactivity. Each year we evaluate our cold stacked and
inventory rigs and determine our intentions for their future use. This evaluation takes into
consideration, among other things, the physical condition and marketability of the rig, and
projected reactivation or refurbishment cost. To the extent that our estimates of refurbishment
and reactivation cost, undiscounted future net cash flows or fair market value change or there is a
deterioration in the physical condition of the inventory or cold stacked rigs, we could be required
under SFAS No. 144 to record an impairment charge. During the fourth quarter of 2002, we recorded
a pre-tax, non-cash asset impairment charge of $3.5 million after performing such a review. Due to
the deterioration of the physical condition of five of the inventory rigs and changes in market
conditions, it was determined that the rigs could no longer be returned to service at a reasonable
cost that would have provided an acceptable economic return and that the usable component parts
would be included in spare equipment and depreciated over five years. In the first three months of
2005, no impairment of our long-lived assets was recorded as no change in circumstances indicated
that the carrying value of the assets was not recoverable. Below is a summary of our rig fleet and
the estimated cost to refurbish and reactivate by category as of April 29, 2005: -21-




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EstimatedPer Rig RefurbishmentNumber
    
    
    and Reactivation CostRig Category
    
    Of Rigs
    
    
    (excluding drill pipe)Marketed
    
    
    104
    
    
    
    N/ACold Stacked
    
    
    8
    
    
    $2.5  $3.5 MillionInventory
    
    
    15
    
    
    $5.0  $8.0 Million
 We may also need to purchase drill pipe for these rigs based upon inventory levels at the time
of reactivation. The cost of drill pipe, at current prices, could range from $0.6 million to $0.9
million for each rig. The net book value of the inventory rigs at March 31, 2005 was $17.8
million. Goodwill and Other Intangible Assets During
the second quarter of 2004, we completed the acquisition of New
Patriot Drilling Corp. (Patriot),
which was accounted for as a business combination in accordance with
SFAS No. 141, Business
Combinations. In conjunction with the purchase price allocation of the Patriot acquisition we recorded goodwill of $10.4 million and intangible assets of $3.2 million. The
intangible assets represent customer contracts and related relationships acquired and are being
amortized over the useful life of three years. Goodwill represents the excess of costs over the fair value of assets of businesses acquired.
None of the goodwill resulting from this acquisition is deductible for tax purposes. We follow the
provisions of SFAS No. 142, Goodwill and Other Intangible Assets. Pursuant to SFAS No. 142,
goodwill and intangible assets acquired in a purchase business combination and determined to have
an indefinite useful life are not amortized, but instead are tested for impairment at least
annually in accordance with the provisions of SFAS No. 142. SFAS No. 142 also requires that
intangible assets with estimable useful lives be amortized over their respective estimated useful
lives to their estimated residual values, and reviewed for impairment in accordance with SFAS No.
144, Accounting for Impairment or Disposal of Long-Lived Assets. During the first three months
of 2005 no impairment of our goodwill and intangible assets was recorded. Revenue Recognition Revenues are earned under daywork, turnkey and footage contracts. Revenue from daywork and
footage contracts is recognized when it is realized or realizable and earned. On daywork
contracts, revenue is recognized based on the number of days completed at fixed rates stipulated by
the contract. On footage contracts revenue is recognized based on the number of feet that have
been drilled at fixed rates stipulated by the contract. Revenue from turnkey drilling contracts is
recognized using the percentage-of-completion method based upon costs incurred to date compared to
our estimate of the total contract costs. Under the percentage-of-completion method, we make
estimates of the total contract costs to be incurred, and to the extent these estimates change, the
amount of revenue recognized could be affected. The significance of the accrued turnkey revenue
varies from period to period depending on the overall level of demand for our services and the
portion of that demand that is for turnkey services. At March 31, 2005, there were nine turnkey
wells in progress versus seven wells at March 31, 2004, with accrued revenue of $13.8 million and
$4.6 million, respectively at such dates. Anticipated losses, if any, on uncompleted contracts are
recorded at the time our estimated costs exceed the contract revenue. Insurance Accruals We maintain insurance coverage related to workers compensation and general liability claims
up to $1.0 million per occurrence with an aggregate of $1.0 million for general liability claims.
These policies include deductibles of $500,000 per occurrence for workers compensation coverage
and -22-




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$250,000 per occurrence for general liability coverage. If losses should exceed the workers
compensation and general liability policy amounts, we have excess liability coverage up to a
maximum of $75.0 million. The amount accrued for the provision for losses incurred varies depending on the number and
nature of the claims outstanding at the balance sheet dates. In addition, the accrual includes
managements estimate of the future cost to settle each claim such as future changes in the
severity of the claim and increases in medical costs. We use third parties to assist us in
developing our estimate of the ultimate costs to settle each claim, which is based upon historical
experience associated with the type of each claim and specific information related to each claim.
The specific circumstances of each claim may change over time prior to settlement and as a result,
our estimates made as of the balance sheet dates may change. At March 31, 2005 and December 31,
2004, we had $12.5 million and $11.8 million, respectively, accrued for losses incurred within the
deductible amounts for workers compensation and general liability claims and for uninsured claims. Income Taxes Our deferred tax assets consist primarily of net operating loss carryforwards (NOLs).
Deferred tax assets must be assessed based upon the likelihood of recoverability from future
taxable income and to the extent that recovery is not likely, a valuation allowance is established.
At March 31, 2005, we do not have a valuation allowance as we believe that it is more likely than
not that our 2005 taxable income and reversal of deferred tax liabilities will be sufficient to
recover our deferred tax assets. Our business, however, is extremely cyclical and is highly
sensitive to changes in oil and natural gas prices and demand for our services and there can be no
assurances that future economic or financial developments will not impact our ability to recover
our deferred tax assets. In addition, we have $20.2 million in permanent differences which relate to differences
between the financial accounting and tax basis of assets that were purchased in capital stock
acquisitions. The permanent difference will be reduced as the assets are depreciated for financial
accounting purposes on a straight-line basis over the next eight years. As the amortization of
these permanent differences is a fixed amount, our effective tax rate can vary widely based upon
the current level of income or loss. Financial Condition and Liquidity The following table summarizes our financial position as of March 31, 2005 and December 31, 2004. March 31, 2005
    
    
    December 31, 2004(Unaudited)(Dollars in thousands)Amount
    
    
    %
    
    
    Amount
    
    
    %Working capital
    
    $
    181,869
    
    
    
    28
    
    
    $
    118,096
    
    
    
    20Property and equipment, net
    
    
    447,632
    
    
    
    69
    
    
    
    437,330
    
    
    
    76Goodwill
    
    
    10,377
    
    
    
    2
    
    
    
    10,377
    
    
    
    2Other noncurrent assets
    
    
    9,019
    
    
    
    1
    
    
    
    9,489
    
    
    
    2Total
    
    $
    648,897
    
    
    
    100
    
    
    $
    575,292
    
    
    
    100Long-term debt
    
    $
    275,000
    
    
    
    42
    
    
    $
    275,000
    
    
    
    48Other long-term liabilities
    
    
    111,567
    
    
    
    17
    
    
    
    62,810
    
    
    
    11Shareholders equity
    
    
    262,330
    
    
    
    41
    
    
    
    237,482
    
    
    
    41Total
    
    $
    648,897
    
    
    
    100
    
    
    $
    575,292
    
    
    
    100
 -23-




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Significant Changes in Financial Condition The significant changes in our financial position from December 31, 2004 to March 31, 2005 are
an increase in working capital of $63.8 million, an increase in net property and equipment of $10.3
million, an increase in other long-term liabilities of $48.8 million, and an increase in
shareholders equity of $24.8 million. The increase in working capital is primarily the result of
higher balances in cash and cash equivalents, accounts receivable and deferred tax assets,
partially offset by higher account payable balances. The deferred tax assets have increased due to
the estimated realization of NOLs during 2005. Previously, the NOLs were included in the long-term
deferred income tax liability line item. The other working capital increases are due to a higher
rig count and increased dayrates during the period. The increase in property and equipment, net,
is due to capital expenditures during the period, being partially offset by depreciation. The
increase in shareholders equity is primarily due to the net income for the period. Floating Rate Notes The Floating Rate Contingent Convertible Senior Notes due 2024 (the Floating Rate Notes)
bear interest at a per annum rate equal to 3-month LIBOR, adjusted quarterly, minus a spread of
0.05% but will never be less than zero or more than 6.00%. These notes mature on April 1, 2024.
The Floating Rate Notes are convertible into shares of our common stock, upon the occurrence of
certain events, at a conversion price of $6.51 per share, which is equal to a conversion rate of
approximately 153.6098 shares per $1,000 principal amount of the Floating Rate Notes, subject to
adjustment. The Floating Rate Notes are general unsecured senior obligations and are fully and
unconditionally guaranteed, on a joint and several basis, by all our domestic wholly-owned
subsidiaries. Non-guarantor subsidiaries are immaterial. The Floating Rate Notes and the
guarantees rank equally with all of our other senior unsecured debt, including our 3.75% Contingent
Convertible Senior Notes due 2023 (the 3.75% Notes). Fees and expenses of $3.6 million incurred
at the time of issuance are being amortized through April 1, 2014, the first date the holders may
require us to repurchase the Floating Rate Notes. We may redeem some or all of the Floating Rate Notes at any time on or after April 1, 2014, at
a redemption price equal to 100% of the principal amount of the Floating Rate Notes, plus accrued
but unpaid interest and liquidated damages, if any, to the date of repurchase, payable in cash.
Holders may require us to repurchase all or a portion of the Floating Rate Notes on April 1, 2014
or April 1, 2019, and upon a change of control, as defined in the indenture governing the Floating
Rate Notes, at 100% of the principal amount of the Floating Rate Notes, plus accrued but unpaid
interest and liquidated damages, if any, to the date of repurchase, payable in cash. The Floating Rate Notes are convertible, at the holders option, prior to the maturity date
into shares of our common stock under the following circumstances:  
    during any calendar quarter, if the closing sale price per share of our
common stock for at least 20 trading days in the period of 30 consecutive trading days
ending on the last trading day of the calendar quarter preceding the quarter in which
the conversion occurs, is more than 120% of the conversion price per share ($7.81 per
share) on that 30th trading day;
    if we have called the Floating Rate Notes for redemption;
    during any period that the credit ratings assigned to the 3.75% Notes by
both Moodys Investors Service (Moodys) and Standard & Poors Ratings Group (S&P)
are reduced below B1 and B+, respectively, or if neither rating agency is rating our
senior unsecured debt;
    during the five trading day period immediately following any nine
consecutive trading day period in which the average trading price per $1,000 principal
amount of the Floating Rate Notes for each day of such period was less than 95% of the
product of the closing sale price per share of our common stock on that day multiplied
by the number of shares -24-




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of common stock issuable upon conversion of $1,000 principal amount of the Floating
Rate Notes; or
    upon the occurrence of specified corporate transactions, including a change
of control. As of the date of this report, none of the conditions enabling the holders of the Floating
Rate Notes to convert them into shares of our common stock have occurred. At April 29, 2005, the
credit ratings assigned to the Companys 3.75% Notes by Moodys and S&P were B1 and BB-,
respectively. The indenture governing the Floating Rate Notes does not contain any restriction on
the payment of dividends, the incurrence of indebtedness or the repurchase of our securities, and
does not contain any financial covenants. 3.75% Notes The 3.75% Notes bear interest at 3.75% per annum and mature on May 7, 2023. The 3.75% Notes
are convertible into shares of our common stock, upon the occurrence of certain events, at a
conversion price of $6.45 per share, which is equal to a conversion rate of approximately 155.0388
shares per $1,000 principal amount of 3.75% Notes, subject to adjustment. We will pay contingent
interest at a rate equal to 0.5% per annum during any six-month period, with the initial six-month
period commencing May 7, 2008, if the average trading price of the 3.75% Notes per $1,000 principal
amount for the five day trading period ending on the third day immediately preceding the first day
of the applicable six-month period equals $1,200 or more. The 3.75% Notes are general
unsecured senior obligations and are fully and unconditionally guaranteed, on a joint and several
basis, by all of our domestic wholly-owned subsidiaries. Non-guarantor subsidiaries are
immaterial. The 3.75% Notes and the guarantees rank equally with all of our other senior unsecured
debt, including our Floating Rate Notes. Fees and expenses of approximately $4.0 million incurred
at the time of issuance are being amortized through May 2013, the first date the holders may
require us to repurchase the 3.75% Notes. We may redeem some or all of the 3.75% Notes at any time
on or after May 14, 2008, payable in cash, plus accrued but unpaid interest, including contingent
interest, if any, to the date of redemption at various redemption prices shown in Note 4 to our
consolidated financial statements. Holders may require us to repurchase all or a portion of their 3.75% Notes on May 7, 2013 or
May 7, 2018, and upon a change of control, as defined in the indenture governing the 3.75% Notes,
at 100% of the principal amount of the 3.75% Notes, plus accrued but unpaid interest, including
contingent interest, if any, to the date of repurchase, payable in cash. The 3.75% Notes are convertible, at the holders option, prior to the maturity date into
shares of our common stock in the following circumstances:  
    during any calendar quarter, if the closing sale price per share of our
common stock for at least 20 trading days in the period of 30 consecutive trading days
ending on the last trading day of the calendar quarter preceding the quarter in which
the conversion occurs, is more than 110% of the conversion price per share ($7.10 per
share) on that 30th trading day;
    if we have called the 3.75% Notes for redemption;
    during any period that the credit ratings assigned to the 3.75% Notes by
both Moodys and S&P are reduced below B1 and B+, respectively, or if neither rating
agency is rating the 3.75% Notes;
    during the five trading day period immediately following any nine
consecutive trading day period in which the average trading price per $1,000 principal
amount of the 3.75% Notes for each day of such period was less than 95% of the product
of the closing sale price per share of our common stock on that day multiplied by the
number of shares of common stock issuable upon conversion of $1,000 principal amount of
the 3.75% Notes; or
    upon the occurrence of specified corporate transactions, including a change
of control. -25-




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The 3.75% Notes did not meet the criteria for conversion into common stock at any time during
the quarter ended March 31, 2005 or to the date of this report. At April 29, 2005, the credit
ratings assigned to the 3.75% Notes by Moodys and S&P were B1 and BB-, respectively. The
indenture governing the 3.75% Notes does not contain any restriction on the payment of dividends,
the incurrence of indebtedness or the repurchase of our securities, and does not contain any
financial covenants. CIT Facility Our subsidiary Grey Wolf Drilling Company L.P. has a $100.0 million credit facility with the
CIT Group/Business Credit, Inc. (the CIT Facility) which was amended in December 2004 and expires
December 31, 2008. The CIT Facility provides us with the ability to borrow up to the lesser of
$100.0 million or 50% of the Orderly Liquidation Value (as defined in the agreement) of certain
drilling rig equipment located in the 48 contiguous states of the United States of America. The
CIT Facility is a revolving facility with automatic renewals after expiration unless terminated by
the lender on any subsequent anniversary date and then only upon 60 days prior notice. Periodic
interest payments are due at a floating rate based upon our debt service coverage ratio within a
range of either LIBOR plus 1.75% to 3.50% or prime plus 0.25% to 1.50%. The CIT Facility provides
up to $50.0 million available for letters of credit. We are required to pay a quarterly commitment
fee of 0.5% per annum on the unused portion of the CIT Facility and letters of credit accrue a fee
of 1.25% per annum. The CIT Facility contains affirmative and negative covenants and the Company is in compliance
with these covenants. Substantially all of our assets, including our drilling equipment, are
pledged as collateral under the CIT Facility which is also secured by a guarantee of Grey Wolf,
Inc. and guarantees of certain of the Companys wholly-owned subsidiaries. The Company, however,
retains the option, subject to a minimum appraisal value, under the CIT Facility to extract $75.0
million of the equipment out of the collateral pool in connection with the sale or exchange of such
collateral or relocation of equipment outside the contiguous 48 states of the United States of
America. Among the various covenants that we must satisfy under the CIT Facility are the following two
covenants (as defined in the CIT Facility) which apply whenever the Companys liquidity, defined as
the sum of cash, cash equivalents and availability under the CIT Facility, falls below $35.0
million:  
    1 to 1 EBITDA coverage of debt service, tested monthly on a trailing 12
month basis; and
    minimum tangible net worth (as defined in the CIT Facility) at the end of
each quarter will be at least the prior year tangible net worth less non-cash
write-downs since the prior year-end and less fixed amounts for each quarter end for
which the test is calculated. At March 31, 2005, our liquidity as defined above was $167.5 million. Additionally, if the
total amount outstanding under the CIT Facility (including outstanding letters of credit) exceeds
50% of the Orderly Liquidation Value of our domestic rigs, we are required to make a prepayment in
the amount of the excess. Also, if the average rig utilization rate falls below 45% for two
consecutive months, the lender will have the option to request one additional appraisal per year to
aid in determining the current orderly liquidation value of the drilling equipment. Average rig
utilization is defined as the total number of rigs owned which are operating under drilling
contracts in the 48 contiguous states of the United States of America divided by the total number
of rigs owned, excluding rigs not capable of working without substantial capital investment.
Events of default under the CIT Facility include, in addition to non-payment of amounts due,
misrepresentations and breach of loan covenants and certain other events including:  
    default with respect to other indebtedness in excess of $350,000;
    legal judgments in excess of $350,000; or
    a change in control which means that we cease to own 100% of our two
principal subsidiaries, some person or group has either acquired beneficial ownership
of 30% or -26-




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more of the Company or obtained the power to elect a majority of our board of
directors, or our board of directors ceases to consist of a majority of continuing
directors (as defined by the CIT Facility). As of the date of this report, we did not have an outstanding balance under the CIT Facility
and had $21.3 million of undrawn standby letters of credit. These standby letters of credit are for
the benefit of various insurance companies as collateral for premiums and retained losses which may
become payable under the terms of the underlying insurance contracts and for other purposes.
Outstanding letters of credit reduce the amount available for borrowing under the CIT facility. Cash Flow The net cash provided by or used in our operating, investing and financing activities is
summarized below: Three Months EndedMarch 31,2005
    
    
    2004(In thousands)(Unaudited)Net cash provided by (used in):Operating activities
    
    $
    40,134
    
    
    $
    (3,874
    )Investing activities
    
    
    (24,319
    )
    
    
    (4,379
    )Financing activities
    
    
    1,321
    
    
    
    13,053Net increase in cash
    
    $
    17,136
    
    
    $
    4,800
 Our cash flows from operating activities are affected by a number of factors including the
number of rigs working under contract, whether the contracts are daywork, footage, or turnkey, and
the rate received for these services. Our cash flow from operating activities provided $40.1
million and used $3.9 million during the first three months of 2005 and 2004, respectively. The
increase in cash flow from operating activities from the first quarter of 2004 compared to the
first quarter of 2005 is due primarily to an increase in net income as a result of higher dayrates
and rig activity. Cash flow used in investing activities for the three months ended March 31, 2005 primarily
consisted of $24.8 million of capital expenditures. For the three months ended March 31, 2004,
cash flow used consisted of $4.5 million of capital expenditures. Capital expenditures in 2005
included costs for the reactivation of four cold-stacked rigs. Capital expenditures in 2005 and
2004 also included betterments and improvements to our rigs, the acquisition of drill pipe and
collars, and other capital items. Cash flow provided by financing activities for the three months ended March 31, 2005 consisted
of proceeds of $1.3 million from the exercise of stock options. Cash flow provided by financing
activities for the three months ended March 31, 2004 primarily consisted of the net proceeds of
$97.8 million from the issuance of $100.0 million of Floating Rate Notes on March 31, 2004, offset
by $85.0 million irrevocably deposited with the trustee of the 8
7/8% Senior Notes due 2007 (the 8 7/8%
Notes) for redemption on April 30, 2004. Projected Cash Sources and Uses We expect to use cash generated from operations to cover cash requirements, including debt
service on the Floating Rate Notes and 3.75% Notes and capital expenditures in 2005. Total capital
expenditures for 2005 are projected to be between $95.0 million and $105.0 million, subject to the
activity level of rig activity and ultimate number of rig reactivations. We will make quarterly
interest payments on the Floating Rate Notes on January 1, April 1, July 1, and October 1 of each
year and semi- -27-




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annual interest payments of $2.8 million on the 3.75% Notes on May 7 and November 7 of each
year through the dates of maturity. To the extent that we are unable to generate sufficient cash
from operations, we would be required to use cash on hand or draw on our CIT Facility. From time to time we also review possible acquisition opportunities. While we currently have
no agreements to acquire additional businesses or equipment, we may enter into such agreements in
the future. Our ability to consummate any such transaction will be dependent in large part on our
ability to fund such a transaction. We cannot give assurance that adequate funding will be
available on satisfactory terms. Inflation and Changing Prices Contract drilling revenues do not necessarily track the changes in general inflation as they
tend to respond to the level of activity on the part of the oil and gas industry in combination
with the supply of equipment and the number of competing companies. Capital and operating costs
are influenced to a larger extent by specific price changes in the oil and gas industry and to a
lesser extent by changes in general inflation. Other We have not paid any cash dividends on our common stock and do not anticipate paying dividends
on the common stock at any time in the foreseeable future. Furthermore, the CIT Facility prohibits
the payment of cash dividends without the consent of the participating lenders. Results of Operations Our drilling contracts generally provide compensation on either a daywork, turnkey or footage
basis. Successfully completed turnkey and footage contracts generally result in higher revenues
per rig day worked than under daywork contracts. EBITDA per rig day worked on successful turnkey
and footage jobs are also generally greater than under daywork contracts, although we are typically
required to bear additional operating costs (such as drill bits) that would typically be paid by
the customer under daywork contracts. Contract drilling revenues and EBITDA on turnkey and footage
contracts are affected by a number of variables, which include the depth of the well, geological
complexities and the actual difficulties encountered in drilling the well. Reconciliation of Non-GAAP Financial Measures In the following discussion of the results of our operations and elsewhere in this filing, we
use EBITDA and EBITDA per rig day. EBITDA is a non-GAAP financial measure under the rules and
regulations of the Securities and Exchange Commission (SEC). We believe that our disclosure of
EBITDA per rig day as a measure of rig operating performance allows investors to make a direct
comparison between us and our competitors, without regard to differences in capital structure or to
differences in the cost basis of our rigs and those of our competitors. Investors should be aware,
however, that there are limitations inherent in using this performance measure as a measure of
overall company profitability because it excludes significant expense items such as depreciation
expense and interest expense. An improving trend in EBITDA per rig day may not be indicative of an
improvement in our overall profitability. To compensate for the limitations in utilizing EBITDA
per rig day as an operating measure, our management also uses GAAP measures of performance
including operating income (loss) and net income (loss) to evaluate performance but only with
respect to the company as a whole and not on a per rig basis. In accordance with SEC rules, we
have included below a reconciliation of EBITDA to net income (loss), which is the nearest
comparable GAAP financial measure. -28-




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ProjectedThreeMonthsThree Months Ended
    
    
    EndingMarch 31,
    
    
    June 30,2005
    
    
    2004
    
    
    2005(Unaudited)Earnings before interest expense,
taxes, depreciation and
amortization
    
    $
    53,585
    
    
    $
    9,700
    
    
    $
    57,323Depreciation and amortization
    
    
    (14,302
    )
    
    
    (12,972
    )
    
    
    (14,746
    )Interest expense
    
    
    (2,599
    )
    
    
    (6,166
    )
    
    
    (2,775
    )Total income
tax (expense) benefit
    
    
    (13,640
    )
    
    
    3,007
    
    
    
    (14,926
    )Net income (loss) applicable to
common shares
    
    $
    23,044
    
    
    $
    (6,431
    )
    
    $
    24,876
 Comparison of the Three Months Ended March 31, 2005 and 2004 The following table highlights rig days worked, contract drilling revenue, and EBITDA for our
daywork and turnkey operations for the three months ended March 31, 2005 and 2004. Three Months Ended
    
    
    Three Months EndedMarch 31, 2005
    
    
    March 31, 2004Daywork
    
    
    Turnkey
    
    
    
    
    
    
    Daywork
    
    
    TurnkeyOperations
    
    
    Operations(1)
    
    
    Total
    
    
    Operations
    
    
    Operations(1)
    
    
    Total(Dollars in thousands except averages per rig day worked)(Unaudited)Rig days worked
    
    
    7,990
    
    
    
    836
    
    
    
    8,826
    
    
    
    5,042
    
    
    
    904
    
    
    
    5,946Contract drilling revenues
    
    $
    113,624
    
    
    $
    36,368
    
    
    $
    149,992
    
    
    $
    50,634
    
    
    $
    24,566
    
    
    $
    75,200Drilling operations
expenses
    
    
    (66,446
    )
    
    
    (26,489
    )
    
    
    (92,935
    )
    
    
    (42,072
    )
    
    
    (20,465
    )
    
    
    (62,537
    )General and administrative
expenses
    
    
    (3,562
    )
    
    
    (360
    )
    
    
    (3,922
    )
    
    
    (2,758
    )
    
    
    (382
    )
    
    
    (3,140
    )Interest income
    
    
    395
    
    
    
    37
    
    
    
    432
    
    
    
    141
    
    
    
    25
    
    
    
    166Gain on sale of assets
    
    
    16
    
    
    
    2
    
    
    
    18
    
    
    
    9
    
    
    
    2
    
    
    
    11EBITDA
    
    $
    44,027
    
    
    $
    9,558
    
    
    $
    53,585
    
    
    $
    5,954
    
    
    $
    3,746
    
    
    $
    9,700Average per rig day
worked:Contract drilling
revenues
    
    $
    14,221
    
    
    $
    43,502
    
    
    $
    16,994
    
    
    $
    10,042
    
    
    $
    27,175
    
    
    $
    12,647EBITDA
    
    $
    5,510
    
    
    $
    11,433
    
    
    $
    6,071
    
    
    $
    1,181
    
    
    $
    4,144
    
    
    $
    1,631
   (1)
    
    Turnkey operations include the results from turnkey and footage contracts. Our EBITDA increased by $43.9 million, or 452%, to $53.6 million for the quarter ended
March 31, 2005 from $9.7 million for the quarter ended March 31, 2004. The increase resulted from
a $38.1 million increase in EBITDA from daywork operations and a $5.8 million increase in EBITDA
from turnkey operations. On a per rig day basis, our EBITDA increased by $4,440 per rig day, or
272%, to $6,071 in the first quarter of 2005 from $1,631 for the same period in 2004. This increase
included a $4,329 per rig day increase from daywork operations and a $7,289 per rig day increase
from turnkey operations. Total general and administrative expenses increased by $782 due to
higher payroll costs, professional fees, and costs associated with being a public company. -29-




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##### Table of Contents



Daywork Operations The increase in EBITDA discussed above was due in part to an increase of 2,948 rig days worked
on daywork contracts in the first quarter of 2005 when compared with the first quarter of 2004.
This 58% increase in days was due to overall higher demand for our services. Higher dayrates in
the first quarter of 2005 versus the same period in 2004 also contributed significantly to the
increase. Contract drilling revenue per rig day increased $4,179, or 42%, the bulk of the increase
falling straight through to EBITDA per rig day. Overall, expenses increased as a result of the
increase in activity but were relatively flat on a per rig day basis period over period. Turnkey Operations Turnkey EBITDA was higher in the first quarter of 2005 primarily due to higher revenue in
total and on a per day basis. Increasing daywork dayrates are considered in our turnkey bid
process and resulted in price increases for our turnkey operations. These price increases resulted
in the higher revenue. Also, differences in the complexity and success of the wells drilled
between the two periods contributed to the increased EBITDA. Other Depreciation and amortization expense increased by $1.3 million, or 10%, to $14.3 million for
the three months ended March 31, 2005, compared to $13.0 million for the three months ended March
31, 2004. Depreciation and amortization expense is higher due to the acquisition of Patriot in
April 2004 and capital expenditures made during 2004 and the first quarter of 2005. Interest
expense decreased by $3.6 million, or 58%, to $2.6 million in the first quarter of
2005 from $6.2 million in the first quarter of 2004. This decrease is due to the issuance of the
Floating Rate Notes and subsequent redemption of our 8 7/8% Notes. This refinancing resulted in
substantial interest savings given the lower interest rate debt outstanding. In addition, the
first quarter of 2004 included a $2.5 million redemption premium
on the 8 7/8% Notes. Our income taxes increased by $16.6 million to $13.6 million of expense for the three months
ended March 31, 2005 from a tax benefit of $3.0 million for the same period in 2004. The increase
is due to the level of income and is also affected by the annual amortization of $2.8 million in
permanent differences related to differences between the financial accounting and tax basis of
assets that were purchased in capital stock acquisitions. The permanent difference will be reduced
as these assets are depreciated for financial accounting purposes on a straight-line basis over
their remaining useful lives of approximately eight years. As the amortization of these permanent
differences is a fixed amount, our book effective tax rate can vary widely based upon the current
and projected levels of income or loss. 
 Item 3. Quantitative and qualitative disclosure about market risk Interest Rate Risk.We are subject to market risk exposure related to changes in interest
rates on the Floating Rate Notes and the CIT Facility. The Floating Rate Notes bear interest at a
per annum rate which is equal to 3-month LIBOR, adjusted quarterly, minus a spread of 0.05%. We
had $125.0 million of the Floating Rate Notes outstanding at March 31, 2005. A 1% change in the
interest rate on the Floating Rate Notes would change our interest expense by $1.3 million on an
annual basis. However, the annual interest on the Floating Rate Notes will never be below zero or
more than 6.00%, which could yield interest expense ranging from zero to $7.5 million on an annual
basis. Interest on borrowings under the CIT Facility accrues at a variable rate, using either the
prime rate plus 0.25% to 1.50% or LIBOR plus 1.75% to 3.50%, depending upon our debt service
coverage ratio for the trailing 12 month period. We have no outstanding balance under the CIT
Facility at April 29, 2005 and as such have no exposure under this facility to a change in interest
rates. -30-




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##### Table of Contents



Item 4. Controls and Procedures Evaluation of Disclosure Controls and Procedures As of March 31, 2005, we carried out an evaluation, under the supervision and with the
participation of management, including our Chief Executive Officer and Chief Financial Officer, of
the effectiveness of the design and operation of our disclosure controls and procedures pursuant to
the Exchange Act Rules 13a15(e) and 15(d)15(e). Based upon that evaluation, our Chief Executive
Officer and Chief Financial Officer concluded that our disclosure controls and procedures are
effective. Disclosure controls and procedures are controls and procedures that are designed to
ensure that information required to be disclosed in our reports filed or submitted under the
Exchange Act is recorded, processed, summarized and reported within the time periods specified in
the Securities and Exchange Commissions rules and forms. Changes in Internal Control over Financial Reporting There have been no significant changes in our internal control over financial reporting 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 We are involved in litigation incidental to the conduct of our business, none of which
management believes is, individually or in the aggregate, material to our consolidated financial
condition or results of operations. See Note 6  Contingencies in Notes to Consolidated Financial
Statements. 
 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds None 
 Item 3. Defaults Upon Senior Securities None 
 Item 4. Submission of Matters to a Vote of Security Holders None 
 Item 5. Other Information This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange
Act of 1934, as amended (the Exchange Act). All statements other than statements of historical
facts included in this report are forward-looking statements, including statements regarding the
following:  
    business strategy;
    demand for our services;
    2005 rig activity and financial results;
    projected depreciation expense and interest expense;
    rigs expected to be engaged in turnkey and footage operations;
    reactivation, timing and cost of reactivation of non-marketed rigs;
    projected dayrates; -31-




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##### Table of Contents




    the availability of term contracts;
    projected tax rate;
    wage rates and retention of employees;
    sufficiency of our capital resources and liquidity; and
    depreciation and capital expenditures in 2005. Although we believe the forward-looking statements are reasonable, we cannot assure you that
these statements will prove to be correct. We have based these statements on assumptions and
analyses in light of our experience and perception of historical trends, current conditions,
expected future developments and other factors we believe are appropriate when the statements are
made. Important factors that could cause actual results to differ materially from our expectations
include:  
    fluctuations in prices and demand for oil and natural gas;
    fluctuations in levels of oil and natural gas exploration and development activities;
    fluctuations in demand for contract land drilling services;
    fluctuations in interest rates;
    the existence and competitive responses of our competitors;
    uninsured or underinsured casualty losses;
    technological changes and developments in the industry;
    the existence of operating risks inherent in the contract land drilling industry;
    U.S. and global economic conditions;
    the availability and terms of insurance coverage;
    the ability to attract and retain qualified personnel;
    unforeseen operating costs such as cost for environmental remediation and
turnkey cost overruns; and
    weather conditions. Our forward-looking statements speak only as of the date specified in such statements or, if
no date is stated, as of the date of this report. Grey Wolf, Inc. expressly disclaims any
obligation or undertaking to release publicly any updates or revisions to any forward-looking
statement contained in this report to reflect any change in our expectations or with regard to any
change in events, conditions or circumstances on which our forward-looking statements are based.
Please refer to our Annual Report on Form 10-K for the year ended December 31, 2004 filed with the
Securities and Exchange Commission for additional information concerning risk factors that could
cause actual results to differ from the forward-looking statements. 
 Item 6. Exhibits  3.1
    Articles of Incorporation of Grey Wolf, Inc., as amended (incorporated herein
by reference to Exhibit 3.1 to Form 10-Q dated May 12, 1999).3.2
    By-Laws of Grey Wolf, Inc., as amended (incorporated herein by reference to
Exhibit 99.1 to Form 8-K dated March 23, 1999).4.1
    Rights Agreement dated as of September 21, 1998 by and between the Company and
American Stock Transfer and Trust Company as Rights Agent (incorporated herein by
reference to Exhibit 4.1 to Form 8-K filed September 22, 1998).4.2
    Indenture, dated as of May 7, 2003, relating to the 3.75% Contingent
Convertible Senior Notes due 2023 between the Company, the Guarantors, and JPMorgan
Chase Bank, a New York Banking Corporation, as Trustee (incorporated herein by
reference to Exhibit 4.2 to the Companys Registration Statement on Form S-3 No.
333-106997 filed July 14, 2003). -32-




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##### Table of Contents



4.3
    Supplemental Indenture, dated as of May 22, 2003, relating to the 3.75%
Contingent Convertible Senior Notes due 2023 between the Company, the Guarantors, and
JPMorgan Chase Bank, a New York Banking Corporation, as Trustee (incorporated herein by
reference to Exhibit 4.3 to the Companys Registration Statement on Form S-3 No.
333-106997 filed July 14, 2003).4.4
    Indenture, dated as of March 31, 2004, relating to the Floating Rate Contingent
Convertible Senior Notes Due 2024 between the Company, the Guarantors, and J.P. Morgan
Chase Bank, a New York banking corporation, as Trustee (incorporated by reference to
Exhibit 4.1 to Form 10-Q dated May 5, 2004).4.5
    Registration Rights Agreement as of March 31, 2004 by and between Grey Wolf,
Inc., the Guarantors, and the Initial Purchasers of the Floating Rate Contingent
Convertible Senior Notes due 2024 (incorporated by reference to Exhibit 4.2 to the
Quarterly Report on Form 10-Q filed May 5, 2004).4.6
    Second Supplemental Indenture, dated as of March 31, 2004, relating to the
3.75% Contingent Convertible Senior Notes due 2023 between the Company, the Guarantors,
and JP Morgan Chase Bank, a New York Banking Corporation, as Trustee (incorporated by
reference to Exhibit 4.3 to the Quarterly Report on Form 10-Q filed May 5, 2004).31.1
    Certification of Chief Executive Officer pursuant to Rule 13a-14(a)31.2
    Certification of Chief Financial Officer pursuant to Rule 13a-14(a)32.1
    Certification pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section
906 of the Sarbanes-Oxley Act of 2002 of Thomas P. Richards, Chairman, President and
Chief Executive Officer and David W. Wehlmann, Executive Vice President and Chief
Financial Officer. -33-




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##### Table of Contents



SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly
caused this report to be signed on its behalf by the undersigned thereunto duly authorized. GREY WOLF, INC.Date: May 5, 2005
    
    
    
    By:
    
    /s/ David W. WehlmannDavid W. WehlmannExecutive Vice President and
Chief Financial OfficerDate: May 5, 2005
    
    
    
    By:
    
    /s/ Kent D. CauleyKent D. CauleyVice President and Controller
 -34-




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##### Table of Contents



Index to Exhibits Exhibits  3.1
    Articles of Incorporation of Grey Wolf, Inc., as amended (incorporated herein
by reference to Exhibit 3.1 to Form 10-Q dated May 12, 1999).3.2
    By-Laws of Grey Wolf, Inc., as amended (incorporated herein by reference to
Exhibit 99.1 to Form 8-K dated March 23, 1999).4.1
    Rights Agreement dated as of September 21, 1998 by and between the Company and
American Stock Transfer and Trust Company as Rights Agent (incorporated herein by
reference to Exhibit 4.1 to Form 8-K filed September 22, 1998).4.2
    Indenture, dated as of May 7, 2003, relating to the 3.75% Contingent
Convertible Senior Notes due 2023 between the Company, the Guarantors, and JPMorgan
Chase Bank, a New York Banking Corporation, as Trustee (incorporated herein by
reference to Exhibit 4.2 to the Companys Registration Statement on Form S-3 No.
333-106997 filed July 14, 2003).4.3
    Supplemental Indenture, dated as of May 22, 2003, relating to the 3.75%
Contingent Convertible Senior Notes due 2023 between the Company, the Guarantors, and
JPMorgan Chase Bank, a New York Banking Corporation, as Trustee (incorporated herein by
reference to Exhibit 4.3 to the Companys Registration Statement on Form S-3 No.
333-106997 filed July 14, 2003).4.4
    Indenture, dated as of March 31, 2004, relating to the Floating Rate Contingent
Convertible Senior Notes Due 2024 between the Company, the Guarantors, and J.P. Morgan
Chase Bank, a New York banking corporation, as Trustee (incorporated by reference to
Exhibit 4.1 to Form 10-Q dated May 5, 2004).4.5
    Registration Rights Agreement as of March 31, 2004 by and between Grey Wolf,
Inc., the Guarantors, and the Initial Purchasers of the Floating Rate Contingent
Convertible Senior Notes due 2024 (incorporated by reference to Exhibit 4.2 to the
Quarterly Report on Form 10-Q filed May 5, 2004).4.6
    Second Supplemental Indenture, dated as of March 31, 2004, relating to the
3.75% Contingent Convertible Senior Notes due 2023 between the Company, the Guarantors,
and JP Morgan Chase Bank, a New York Banking Corporation, as Trustee (incorporated by
reference to Exhibit 4.3 to the Quarterly Report on Form 10-Q filed May 5, 2004).31.1
    Certification of Chief Executive Officer pursuant to Rule 13a-14(a)31.2
    Certification of Chief Financial Officer pursuant to Rule 13a-14(a)32.1
    Certification pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section
906 of the Sarbanes-Oxley Act of 2002 of Thomas P. Richards, Chairman, President and
Chief Executive Officer and David W. Wehlmann, Executive Vice President and Chief
Financial Officer.