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Akita Drilling Third Quarter Results

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AKITA Drilling Ltd.'s net income for the three months ended September 30, 2014 was $3,854,000 ( $0.21 per share) on revenue of $36,556,000 compared to $3,540,000 ( $0.20 per share) on revenue of $33,096,000 for the corresponding period in 2013. Funds flow from operations for the quarter ended September 30, 2014 was $10,942,000 compared to $11,300,000 in the corresponding quarter in 2013.

Net income for the nine months ended September 30, 2014 was $16,085,000 ( $0.90 basic earnings per share / $0.89 diluted earnings per share) on revenue of $119,263,000 . Comparative figures for 2013 were net income of $18,793,000 ( $1.05 basic earnings per share / $1.04 diluted earnings per share) on revenue of $122,181,000 . Funds flow from operations for the January to September period in 2014 was $39,216,000 compared to $40,406,000 for the comparative period in 2013.

• Rig activity increased during the third quarter of 2014 to 1,519 operating days or 45.0% utilization compared to 1,347 operating days or 38.6% utilization during the third quarter of 2013. This increase was attributable to improved market conditions for conventional double and triple sized rigs. By contrast, AKITA's pad rigs were less active than during the corresponding period in 2013.
• During the quarter, the Company completed construction of and deployed its first slant pad drilling rig. Management anticipates that this rig will provide AKITA with access to new opportunities in heavy oil drilling. The Company expects to have three additional pad rigs in service prior to year-end: an ultra-deep new build, a new pad double rig purchased earlier this year that is being refitted for the Canadian market and an existing pad triple rig that is being upgraded.
• Although the recent decline in crude oil prices has not had a material impact on rig activity management anticipates that a prolonged decline may slow demand for rigs targeting oil prospects. While crude oil drilling potential is influenced by the price of crude oil, natural gas drilling potential continues to be tied to the establishment of FIDs (final investment decisions) by selected operators to invest in major west coast development for LNG (liquified natural gas) projects. AKITA remains well positioned with its fleet of pad rigs to be a significant supplier for any related drilling opportunities.

Third Quarter Comparatives – Lower Operating Margins Diminish the Impact of Increased Activity Levels

• During the third quarter of 2014, adjusted revenue increased to $50,338,000 from $45,071,000 during the third quarter of 2013 as a result of increased rig activity, particularly for AKITA's conventional doubles and triples.
• Although adjusted revenue for the three month period ended September 30, 2014 increased, adjusted revenue per operating day decreased to $33,139 during the third quarter of 2014 from $33,460 in the comparative quarter in 2013 due to an increased proportion of the Company's revenue being generated by its conventional drilling rigs versus pad rigs as well as due to lower day rates for certain of AKITA's pad rigs. Pad rigs, compared to conventional rigs, typically generate higher revenue on a "per day" basis.
• Adjusted operating and maintenance costs are tied to revenue and amounted to $34,494,000 ( $22,708 per operating day) during the third quarter of 2014 compared to $29,200,000 ( $21,678 per operating day) in the same period of the prior year. While conventional rigs figured more prominently in the drilling activities during the current quarter compared to the third quarter of 2013, the actual mix of rigs resulted in higher operating costs when taken on a "per operating day" basis.
• The adjusted operating margin for the Company decreased to $15,844,000 ( $10,431 per operating day) in the third quarter of 2014 from $15,871,000 ( $11,782 per operating day) during the corresponding quarter of 2013. During the third quarter of 2014, a higher proportion of conventional rigs worked compared to the third quarter of 2013 when more pad rigs operated. This change in rig mix resulted in both lower overall average day rates and lower operating margins than during the corresponding period in 2013. Higher activity levels in the third quarter of 2014 compared to the corresponding period in 2013 were not sufficient to offset these changes.

Year-to-Date Comparatives – Improvements in the Second and Third Quarters Partially Offset Weakness Encountered in First Quarter

• During the first nine months of 2014, adjusted revenue increased to $167,153,000 from $158,424,000 during the comparative nine month period of 2013 as a result of strengthening market conditions for conventional double and triple sized rigs. Pad rig activity had a number of program delays which were most pronounced during the third quarter.
• Although adjusted revenue for the year-to-date period ended September 30, 2014 increased, adjusted revenue per operating day decreased to $34,457 during the first nine months of 2014 from $35,158 in the comparative period in 2013 due to the same factors that affected third quarter adjusted revenue per operating day.
• Adjusted operating and maintenance costs are tied to revenue and amounted to $109,352,000 ( $22,542 per operating day) during the first nine months of 2014 compared to $99,554,000 ( $22,094 per operating day) in the same period of the prior year.
• The adjusted operating margin for the Company decreased to $57,801,000 in the first nine months of 2014 from $58,870,000 during the corresponding period of 2013. This reduction occurred during the first quarter of 2014 due to a reduction in standby revenue as well as the change in rig mix (i.e. there was a higher percentage of activity generated by conventional rigs during the first quarter of 2014 compared to the corresponding quarter in 2013). During the second and third quarters of 2014, this decline in adjusted operating margin was partially offset by stronger market conditions.

Other Comments

From time to time, the Company requires customers to make pre-payments prior to the provision of drilling services. In addition, from time to time, the Company records cost recoveries related to capital enhancements for specific customer related projects. At September 30, 2014 , deferred revenue related to these activities totalled $364,000 ( September 30, 2013 - $498,000 ).

Fleet and Rig Utilization

At September 30, 2014 , AKITA had 36 drilling rigs, including 10 that operated under joint ventures, (32.725 net to AKITA) compared to 38 rigs (35.725 net to AKITA) in the corresponding period of 2013. At September 30, 2014 , the Company had three additional rigs under construction (3 net to AKITA). During the third quarter of 2014, the Company disposed of one of its underutilized pad rigs.

Liquidity and Capital Resources

Cash used for capital expenditures totalled $71,285,000 during the first nine months of 2014 (2013 - $27,892,000 ).

The most significant expenditures related to the following projects:

• Ongoing construction of a new ultra-deep pad rig (scheduled to commence its multi-year contract in the fourth quarter of 2014);
• completion of the conversion of a conventional rig into the Company's first slant pad rig (this rig commenced operations during the third quarter of 2014);
• purchasing and refitting of a new pad rig to enable it to operate in Canada (completion of the refit is scheduled for the fourth quarter of 2014 at which time the rig will operate under a one-year initial contract);
• upgrading a pad triple to make it more suitable for drilling natural gas targets in the Duvernay or Montney formations (the rig is scheduled to commence operations during the fourth quarter of 2014); and
• continued construction of a pad rig announced in the first quarter of 2014 (the rig is anticipated to meet demand for proposed liquified natural gas ("LNG") related drilling projects and is scheduled to be completed in the first half of 2015).
• At September 30, 2014 , AKITA's Statement of Financial Position included working capital (current assets minus current liabilities) of $11,061,000 compared to working capital of $33,749,000 at September 30, 2013 and working capital of $40,645,000 at December 31, 2013 . Readers should be aware of the significant capital expenditure program undertaken by the Company as well as the seasonal nature of AKITA's business and its impact on non-cash working capital balances. Typically, non-cash working capital balances reach annual maximum levels at the end of the first quarter or during the second quarter as a result of break-up and decline thereafter as a result of increased drilling activity. Non-cash working capital amounted to $8,127,000 at September 30, 2014 compared to $26,647,000 at December 31, 2013 .
• During the nine month period ended September 30, 2014 , the Company purchased 27,600 Class A Non-Voting Shares at an average price of $15.49 pursuant to a normal course issuer bid. The Company did not purchase any shares pursuant to a normal course issuer bid during the first nine months of 2013.
• During 2013, the Company was awarded a contract to construct and operate an ultra deep capacity pad rig under a multi-year contract. During the first quarter of 2014, the Company commenced construction of a second pad rig. AKITA sourced approximately $26 Million of materials for these rigs from non-Canadian suppliers. In order to minimize the risk of currency translation adjustments, AKITA purchased forward currency contracts totalling $18 Million , of which $4.25 Million was outstanding at September 30, 2014 . These contracts expire during the fourth quarter of 2014 and the first quarter of 2015.
• The Company had six rigs under multi-year contracts at September 30, 2014 . Of these contracts, two are anticipated to expire in 2014, one in 2015, one in 2016, one in 2018 and one in 2019.
• From time to time, the Company may provide guarantees for bank loans to joint venture partners in respect of sales to joint venture interests. At September 30, 2014 , AKITA provided $9,381,000 in deposits with the bank for those guarantees. These funds have been classified as "restricted cash" on the Statement of Financial Position.