NABORS INDUSTRIES LTD - Quarter Report: 2010 March (Form 10-Q)

 

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

 

Form 10-Q

 

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

 

For the Quarterly Period Ended March 31, 2010

 

Commission File Number: 001-32657

 

 

NABORS INDUSTRIES LTD.

 

Incorporated in Bermuda

Mintflower Place

8 Par-La-Ville Road

Hamilton, HM08

Bermuda

(441) 292-1510

 

98-0363970

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

 

 

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 has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).   YES þ     NO o

 

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

 

(Do not check if a smaller reporting company)

 

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

 

The number of common shares, par value $.001 per share, outstanding as of April 28, 2010 was 285,210,719.

 

 

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

Index

 

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

CONSOLIDATED BALANCE SHEETS

(Unaudited)

 

 

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

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

 

 

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

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

 

 

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

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY

(Unaudited)

 

 

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

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY — (Continued)

(Unaudited)

 

 

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

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

 

Nabors is the largest land drilling contractor in the world and one of the largest land well-servicing and workover contractors in the United States and Canada:

 

 

We are also a leading provider of offshore platform workover and drilling rigs, and actively market 40 platform, 13 jack-up and 3 barge rigs in the United States and multiple international markets.

 

In addition to the foregoing services:

 

 

The majority of our business is conducted through our various Contract Drilling operating segments, which include our drilling, workover and well-servicing operations, on land and offshore. Our oil and gas exploration, development and production operations are included in our Oil and Gas operating segment. Our operating segments engaged in drilling technology and top drive manufacturing, directional drilling, rig instrumentation and software, and construction and logistics operations are aggregated in our Other Operating Segments.

 

As used in the Report, “we,” “us,” “our” and “Nabors” means Nabors Industries Ltd. and, where the context requires, includes its subsidiaries, and “Nabors Delaware” means Nabors Industries, Inc., a Delaware corporation and wholly owned indirect subsidiary of Nabors, and its subsidiaries.

 

 

Interim Financial Information

 

The unaudited consolidated financial statements of Nabors are prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”). Certain reclassifications have been made to the prior period to conform to the current period presentation, with no effect on our consolidated financial position, results of operations or cash flows. Pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”), certain information and footnote disclosures normally included in annual financial statements prepared in accordance with GAAP have been omitted. Therefore, these financial

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

statements should be read along with our annual report on Form 10-K for the year ended December 31, 2009 (“2009 Annual Report”). In management’s opinion, the consolidated financial statements contain all adjustments necessary to present fairly our financial position as of March 31, 2010 and the results of our operations, cash flows and changes in equity for the three months ended March 31, 2010 and 2009, in accordance with GAAP. Interim results for the three months ended March 31, 2010 may not be indicative of results that will be realized for the full year ending December 31, 2010.

 

Our independent registered public accounting firm has performed a review of, and issued a report on, these consolidated interim financial statements in accordance with standards established by the Public Company Accounting Oversight Board. Pursuant to Rule 436(c) under the Securities Act of 1933, as amended (the “Securities Act”), this report should not be considered a part of any registration statement prepared or certified within the meanings of Sections 7 and 11 of the Securities Act.

 

Principles of Consolidation

 

Our consolidated financial statements include the accounts of Nabors, as well as all majority owned and nonmajority owned subsidiaries required to be consolidated under GAAP. Our consolidated financial statements exclude majority owned entities for which we do not have either (1) the ability to control the operating and financial decisions and policies of that entity or (2) a controlling financial interest in a variable interest entity. All significant intercompany accounts and transactions are eliminated in consolidation.

 

Investments in operating entities where we have the ability to exert significant influence, but where we do not control operating and financial policies, are accounted for using the equity method. Our share of the net income (loss) of these entities is recorded as earnings (losses) from unconsolidated affiliates in our consolidated statements of income, and our investment in these entities is included as a single amount in our consolidated balance sheets. As of March 31, 2010 and December 31, 2009, investments in unconsolidated affiliates accounted for using the equity method totaled $305.1 million and $305.7 million, respectively, and investments in unconsolidated affiliates accounted for using the cost method totaled $1.9 million and $.9 million, respectively. Similarly, investments in certain offshore funds classified as long-term investments are accounted for using the equity method of accounting based on our ownership interest in each fund.

 

Recent Accounting Pronouncements

 

In December 2008, the SEC issued a final rule, “Modernization of Oil and Gas Reporting.” This rule revised some of the oil and gas reporting disclosures in Regulation S-K and Regulation S-X under the Securities Act and the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as well as Industry Guide 2. Effective December 31, 2009, the Financial Accounting Standards Board (“FASB”) issued revised guidance that substantially aligned the oil and gas accounting disclosures with the SEC’s final rule. The amendments were designed to modernize and update oil and gas disclosure requirements to align them with current practices and changes in technology. Additionally, this new accounting standard requires that entities use 12-month average natural gas and oil prices when calculating the quantities of proved reserves and performing the full-cost ceiling test calculation. The new standard also clarified that an entity’s equity-method investments must be considered in determining whether it has significant oil and gas activities. The disclosure requirements were effective for registration statements filed on or after January 1, 2010 and for annual financial statements filed on or after December 31, 2009. The FASB provided a one-year deferral of the disclosure requirements if an entity became subject to the requirements because of a change to the definition of significant oil and gas activities. When operating results from our wholly owned oil and gas activities are considered with operating results from our unconsolidated oil and gas joint ventures, which we account for under the equity method of accounting, we have significant oil and gas activities under the new definition. In line with the one-year deferral, we will provide the oil and gas disclosures for annual financial statements for periods beginning after December 31, 2009 and registration statements filed on or after January 1, 2011.

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

Effective January 1, 2010, we adopted the revised provisions relating to consolidation of variable interest entities within the Consolidations Topic of the Accounting Standards Codification (“ASC”). The revised provisions replaced the quantitative approach to identify a variable interest entity with a qualitative approach that focuses on an entity’s control and ability to direct the variable interest entity’s activities. The application of these provisions did not have a material impact on our consolidated financial statements.

 

 

Our cash and cash equivalents, short-term and long-term investments and other receivables consisted of the following:

 

 

Certain information related to our cash and cash equivalents and short-term investments follows:

 

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

Certain information related to the gross unrealized losses of our cash and cash equivalents and short-term investments follows:

 

 

 

 

The estimated fair values of our corporate, mortgage-backed, mortgage-CMO and asset-backed debt securities at March 31, 2010, classified by time to contractual maturity, are shown below. Expected maturities differ from contractual maturities because the issuers of the securities may have the right to repay obligations without prepayment penalties and we may elect to sell the securities prior to the contractual maturity date.

 

 

Certain information regarding our debt and equity securities follows:

 

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

 

Fair value is the price that would be received upon sale of an asset or paid upon transfer of a liability in an orderly transaction between market participants at the measurement date (exit price). We utilize market data or assumptions that market participants would use in pricing the asset or liability, including assumptions about risk and the risks inherent in the inputs to the valuation technique. These inputs can be readily observable, market-corroborated, or generally unobservable. We primarily apply the market approach for recurring fair value measurements and endeavor to utilize the best information available. Accordingly, we employ valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs. The use of unobservable inputs is intended to allow for fair value determinations in situations where there is little, if any, market activity for the asset or liability at the measurement date. We are able to classify fair value balances utilizing a fair value hierarchy based on the observability of those inputs. Under the fair value hierarchy:

 

 

The following table sets forth, by level within the fair value hierarchy, our financial assets and liabilities that were accounted for at fair value on a recurring basis as of March 31, 2010. Our debt securities could transfer into or out of a Level 1 or 2 measure depending on the availability of independent and current pricing at the end of each quarter. During the three months ended March 31, 2010, there were no transfers of our financial assets and liabilities between Level 1 and 2 measures. Our financial assets and liabilities were classified in their entirety based on the lowest level of input that is significant to the fair value measurement.

 

Recurring Fair Value Measurements

 

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

Nonrecurring Fair Value Measurements

 

Fair value measurements are applied with respect to our nonfinancial assets and liabilities measured on a nonrecurring basis, which consist primarily of goodwill, oil and gas financing receivables, intangible assets and other long-lived assets, assets acquired and liabilities assumed in a business combination, and asset retirement obligations.

 

Fair Value of Financial Instruments

 

The fair value of our financial instruments has been estimated in accordance with GAAP. The fair value of our fixed rate long-term debt was estimated based on quoted market prices or prices quoted from third-party financial institutions. The carrying and fair values of our long-term debt, including the current portion, were as follows:

 

 

 

 

The fair values of our cash equivalents, trade receivables and trade payables approximated their carrying values due to the short-term nature of these instruments.

 

As of March 31, 2010, our short-term investments were carried at fair market value and included $138.9 million and $19.5 million in securities classified as available-for-sale and trading, respectively. The carrying values of our long-term investments accounted for using the equity method of accounting approximated fair value and totaled $7.8 million as of March 31, 2010. The carrying value of our oil and gas financing receivables included in long-term investments also approximated fair value and totaled $91.4 million as of March 31, 2010. Income and gains associated with our oil and gas financing receivables are recognized as operating revenues.

 

 

We have several share-based employee compensation plans, which are more fully described in Note 4 — Share-Based Compensation to the audited financial statements included in our 2009 Annual Report.

 

Total share-based compensation expense, which includes both stock options and restricted stock, totaled $3.5 million and $23.3 million for the three months ended March 31, 2010 and 2009, respectively, and is included in direct costs and general and administrative expenses in our consolidated statements of income. Share-based compensation expense has been allocated to our various operating segments. See Note 13 — Segment Information.

 

During the three months ended March 31, 2010, we awarded 390,998 shares of restricted stock to our employees, directors and executive officers. These awards had an aggregate value at their grant date of $9.0 million and vest over periods of up to four years. There were no stock options granted, and, accordingly, no fair value determinations made during the three months ended March 31, 2010.

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

During the three months ended March 31, 2009, we awarded options vesting over periods of up to four years to purchase 9,979,498 of our common shares to our employees, executive officers and directors. This included options to purchase 3.0 million and 1.7 million shares, with grant-date fair values of $8.8 million and $5.0 million, granted to our Chairman and Chief Executive Officer, Eugene M. Isenberg, and our Deputy Chairman, President and Chief Operating Officer, Anthony G. Petrello, respectively, in February 2009.

 

The fair value of stock options granted during the three months ended March 31, 2009 was calculated using the Black-Scholes option pricing model and the following weighted-average assumptions:

 

 

 

 

The total intrinsic value of options exercised during the three months ended March 31, 2010 and 2009 was $1.3 million and $.4 million, respectively. The total fair value of options that vested during the three months ended March 31, 2010 and 2009 was $5.4 million and $9.4 million, respectively.

 

 

We have several unconsolidated affiliates that are integral to our operations. For a full description, refer to Note 9 — Investments in Unconsolidated Affiliates to the audited financial statements in our 2009 Annual Report.

 

As of March 31, 2010 and December 31, 2009, our investments in unconsolidated affiliates accounted for using the equity method totaled $305.1 million and $305.7 million, respectively, and our investments in unconsolidated affiliates accounted for using the cost method totaled $1.9 million and $.9 million, respectively. During 2008, our unconsolidated U.S. oil and gas joint venture was deemed a significant subsidiary. Accordingly, summarized income statement information for this joint venture follows:

 

 

 

 

 

As of March 31, 2010, our long-term debt included $1.5 billion of Nabors Delaware’s 0.94% senior exchangeable notes that will mature in May 2011, all of which will be reclassified to current debt in the second quarter of 2010. These notes are exchangeable into cash and, if applicable, Nabors common shares based on an exchange rate equal to 21.8221 common shares per $1,000 principal amount of notes (equal to an

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

initial exchange price of approximately $45.83 per share), subject to adjustment during the 30 calendar days ending at the close of business on the business day immediately preceding the maturity date. Upon exchange, we would only be required to issue incremental shares above the principal amount of the notes, since we are required to pay cash up to the principal amount of the notes exchanged.

 

Since 2008 and through March 31, 2010, we purchased $1.2 billion par value of these notes in the open market. In connection with the issuance of these notes in 2006, Nabors Delaware entered into exchangeable note hedge transactions with respect to our common shares. Call options were purchased to offset potential dilution upon exchange and warrants were sold to effectively increase the exchange price. In the first quarter of 2010, we entered into an agreement to unwind and settle some of the exchangeable note hedge and warrant transactions and received $.4 million from one of the counterparties to the transactions. These transactions were recorded as capital in excess of par value in our consolidated statement of changes in equity as of March 31, 2010.

 

The balances of the liability and equity components of the 0.94% senior exchangeable notes as of March 31, 2010 and December 31, 2009 were as follows:

 

 

The remaining debt discount is amortized into interest expense over the expected remaining life of the convertible debt instrument using 5.9% as the effective interest rate. Interest expense related to the convertible debt instrument was recognized as follows:

 

 

 

We are subject to income taxes in the United States and numerous other jurisdictions. Significant judgment is required in determining our worldwide provision for income taxes. In the ordinary course of our business, there are many transactions and calculations where the ultimate tax determination is uncertain. A number of our non-U.S. income tax returns from 1995 through 2007 are currently under audit examination. We anticipate that several of these audits could be finalized within the next 12 months. It is possible that the benefit that relates to our unrecognized tax positions could significantly increase or decrease within the next 12 months. However, based on the current status of examinations, and the protocol for finalizing audits with the relevant tax authorities, which could include formal legal proceedings, it is not possible to estimate the future impact of the amount of changes, if any, to record uncertain tax positions at March 31, 2010.

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

 

During the three months ended March 31, 2010 and 2009, our employees exercised vested options to acquire .2 million and .1 million of our common shares, respectively, resulting in proceeds of $2.8 million and $.5 million, respectively.

 

During each of the three months ended March 31, 2010 and 2009, we withheld .1 million of our common shares with a fair value of $1.9 million and $.9 million, respectively, to satisfy certain tax withholding obligations due in connection with the grants of stock awards under our 2003 Employee Stock Plan.

 

During the three months ended March 31, 2010, our outstanding shares increased by 103,925 pursuant to stock option share settlements and exercises by Messrs. Isenberg and Petrello. As part of the transactions, unexercised vested stock options were surrendered to Nabors with a value of approximately $5.9 million to satisfy some of the option exercise price and related income taxes.

 

 

Commitments

 

Employment Contracts

 

Messrs. Isenberg and Petrello had employment agreements (“prior employment agreements”) in effect through the first quarter of 2009. Effective April 1, 2009, we entered into amended and restated employment agreements (“new employment agreements”) with them.

 

For the three months ended March 31, 2009, the prior employment agreements provided for annual cash bonuses of 6% and 2%, for Messrs. Isenberg and Petrello, respectively, of Nabors’ net cash flow (as defined in the respective employment agreements) in excess of 15% of the average shareholders’ equity for each fiscal year. Mr. Petrello’s bonus was subject to a minimum of $700,000 per year.

 

Effective April 1, 2009, the new employment agreements for Messrs. Isenberg and Petrello amended and restated the prior employment agreements. The new employment agreements provide for an extension of the employment term through March 30, 2013, with automatic one-year extensions beginning April 1, 2011, unless either party gives notice of nonrenewal. The base salaries for Messrs. Isenberg and Petrello were increased to $1.3 million and $1.1 million, respectively. Mr. Isenberg has agreed to donate the after-tax proceeds of his base salary to an educational fund intended to benefit Nabors’ employees or other worthy candidates.

 

On June 29, 2009, the new employment agreements for Messrs. Isenberg and Petrello were amended to provide for a reduction in the annual rate of base salary to $1.17 million per year and $990,000 per year, respectively, for the period from June 29, 2009 to December 27, 2009. On December 28, 2009, the agreements were further amended to extend through June 27, 2010 the previously agreed salary reduction.

 

In addition to a base salary, the new employment agreements provide for annual cash bonuses of 2.25% and 1.5%, for Messrs. Isenberg and Petrello, respectively, of Nabors’ net cash flow (as defined in the respective employment agreements) in excess of 15% of the average shareholders’ equity for each fiscal year. The new employment agreements also provide a quarterly deferred bonus of $.6 million and $.25 million, respectively, to the accounts of Messrs. Isenberg and Petrello under Nabors’ executive deferred compensation plan for each quarter they are employed beginning June 30, 2009 and, in Mr. Petrello’s case, ending March 30, 2019.

 

For 2009, the annual cash bonuses for Messrs. Isenberg and Petrello pursuant to the formulas described above were $15.4 million and $4.9 million, respectively, for the first quarter of 2009 in accordance with the prior employment agreements and $4.5 million and $3.0 million, respectively, for the second through fourth quarter of 2009 in accordance with their new employment agreements.

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

Messrs. Isenberg and Petrello also are eligible for awards under Nabors’ equity plans, may participate in annual long-term incentive programs and pension and welfare plans on the same basis as other executives, and may receive special bonuses from time to time as determined by the Board of Directors. The new employment agreements effectively eliminated the risk of forfeiture of outstanding stock awards. Accordingly, we recognized compensation expense during the second quarter of 2009 with respect to all of their previously granted unvested awards. As a result, as of December 31, 2009, there was no unrecognized compensation expense related to restricted stock and stock option awards for either of the executives.

 

Termination in the event of death, disability, or termination without cause (including in the event of a Change in Control).  The new employment agreements provide for severance payments in the event that either Mr. Isenberg’s or Mr. Petrello’s employment agreement is terminated (i) upon death or disability, (ii) by Nabors prior to the expiration date of the employment agreement for any reason other than for Cause, or (iii) by either individual for Constructive Termination Without Cause, each as defined in the respective employment agreements. Termination in the event of a Change in Control (as defined in the respective employment agreement) is considered a Constructive Termination Without Cause. Mr. Isenberg or his estate would be entitled to receive within 30 days of any such triggering event a payment of $100 million. Mr. Petrello or his estate would be entitled to receive within 30 days of his death or disability a payment of $50 million or, in the event of Termination Without Cause or Constructive Termination Without Cause, a payment based on a formula of three times the average of his base salary and annual bonus (calculated as though the bonus formula under the new employment agreement had been in effect) paid during the three fiscal years preceding the termination. If, by way of example, Mr. Petrello were Terminated Without Cause subsequent to March 31, 2010, his payment would be approximately $45 million. The formula will be further reduced to two times the average stated above effective April 1, 2015.

 

We do not have insurance to cover our obligations in the event of death, disability, or Termination Without Cause for either Messrs. Isenberg or Petrello, and we have not recorded an expense or accrued a liability relating to these potential obligations.

 

In addition, under the new employment agreements, the affected individual would be entitled to receive (a) any unvested restricted stock or stock options outstanding, which would immediately and fully vest; (b) any amounts earned, accrued or owing to the executive but not yet paid (including executive benefits, life insurance, disability benefits and reimbursement of expenses and perquisites), which would be continued through the later of the expiration date or three years after the termination date; (c) continued participation in medical, dental and life insurance coverage until the executive received equivalent benefits or coverage through a subsequent employer or until the death of the executive or his spouse, whichever were later; and (d) any other or additional benefits in accordance with applicable plans and programs of Nabors. The vesting of unvested equity awards would not result in the recognition of any additional compensation expense, as all compensation expense related to Messrs. Isenberg’s and Petrello’s outstanding awards has been recognized. In addition, the new employment agreements eliminate all tax gross-ups, including tax gross-ups on golden parachute excise taxes, which applied under the prior employment agreements. Estimates of the cash value of Nabors’ obligations to Messrs. Isenberg and Petrello under (b), (c) and (d) above are included in the payment amounts above.

 

Other Obligations.  In addition to salary and bonus, each of Messrs. Isenberg and Petrello receive group life insurance at an amount at least equal to three times their respective base salaries, various split-dollar life insurance policies, reimbursement of expenses, various perquisites and a personal umbrella insurance policy in the amount of $5 million. Premiums payable under the split-dollar life insurance policies were suspended as a result of the adoption of the Sarbanes-Oxley Act of 2002.

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

Contingencies

 

Income Tax Contingencies

 

We are subject to income taxes in the United States and numerous other jurisdictions. Significant judgment is required in determining our worldwide provision for income taxes. In the ordinary course of our business, there are many transactions and calculations where the ultimate tax determination is uncertain. We are regularly under audit by tax authorities. Although we believe our tax estimates are reasonable, the final determination of tax audits and any related litigation could be materially different than what is reflected in our income tax provisions and accruals. The results of an audit or litigation could materially affect our financial position, income tax provision, net income, or cash flows in the period or periods challenged.

 

It is possible that future changes to tax laws (including tax treaties) could impact our ability to realize the tax savings recorded to date as well as future tax savings, resulting from our 2002 corporate reorganization. See Note 12 — Income Taxes to the audited financial statements in our 2009 Annual Report for additional discussion.

 

On September 14, 2006, Nabors Drilling International Limited, one of our wholly owned Bermuda subsidiaries (“NDIL”), received a Notice of Assessment (the “Notice”) from Mexico’s federal tax authorities in connection with the audit of NDIL’s Mexican branch for 2003. The Notice proposes to deny depreciation expense deductions relating to drilling rigs operating in Mexico in 2003. The Notice also proposes to deny a deduction for payments made to an affiliated company for the procurement of labor services in Mexico. The amount assessed was approximately $19.8 million (including interest and penalties). Nabors and its tax advisors previously concluded that the deductions were appropriate and more recently that the position of the tax authorities lacks merit. NDIL’s Mexican branch took similar deductions for depreciation and labor expenses from 2004 to 2008. On June 30, 2009, the tax authorities proposed similar assessments against the Mexican branch of another wholly owned Bermuda subsidiary, Nabors Drilling International II Ltd. (“NDIL II”) for 2006. We anticipate that a similar assessment will eventually be proposed against NDIL for 2004 through 2008 and against NDIL II for 2007 to 2010. We believe that the potential assessments will range from $6 million to $26 million per year for the period from 2004 to 2010, and in the aggregate, would be approximately $90 million to $95 million. Although we believe that any assessments relating to the 2004 to 2010 years would also lack merit, a reserve has been recorded in accordance with GAAP. If these additional assessments were made and we ultimately did not prevail, we would be required to recognize additional tax for the amount of the aggregate over the current reserve.

 

Self-Insurance

 

We self-insure for certain losses relating to workers’ compensation, employers’ liability, general liability, automobile liability and property damage. Effective April 1, 2010 with our insurance renewal, our deductible for offshore rigs was reduced from $10.0 million to $5.0 million. Our self-insured retentions for all other types of claims for 2010 remain the same as 2009 and are more fully described in Note 16 — Commitments and Contingencies to the audited financial statements in our 2009 Annual Report.

 

Litigation

 

Nabors and its subsidiaries are defendants or otherwise involved in a number of lawsuits in the ordinary course of business. We estimate the range of our liability related to pending litigation when we believe the amount and range of loss can be estimated. We record our best estimate of a loss when the loss is considered probable. When a liability is probable and there is a range of estimated loss with no best estimate in the range, we record the minimum estimated liability related to the lawsuits or claims. As additional information becomes available, we assess the potential liability related to our pending litigation and claims and revise our estimates. Due to uncertainties related to the resolution of lawsuits and claims, the ultimate outcome may

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

differ from our estimates. In the opinion of management and based on liability accruals provided, our ultimate exposure with respect to these pending lawsuits and claims is not expected to have a material adverse effect on our consolidated financial position or cash flows, although they could have a material adverse effect on our results of operations for a particular reporting period.

 

On July 5, 2007, we received an inquiry from the U.S. Department of Justice relating to its investigation of one of our vendors and compliance with the Foreign Corrupt Practices Act. The inquiry relates to transactions with and involving Panalpina, which provides freight forwarding and customs clearance services to some of our affiliates. To date, the inquiry has focused on transactions in Kazakhstan, Saudi Arabia, Algeria and Nigeria. The Audit Committee of our Board of Directors engaged outside counsel to review some of our transactions with this vendor, has received periodic updates at its regularly scheduled meetings, and the Chairman of the Audit Committee has received updates between meetings as circumstances warrant. The investigation includes a review of certain amounts paid to and by Panalpina in connection with obtaining permits for the temporary importation of equipment and clearance of goods and materials through customs. Both the SEC and the Department of Justice have been advised of our investigation. The ultimate outcome of this investigation or the effect of implementing any further measures that may be necessary to ensure full compliance with applicable laws cannot be determined at this time.

 

A court in Algeria entered a judgment of approximately $19.7 million against us related to alleged customs infractions in 2009. We believe we did not receive proper notice of the judicial proceedings and that the amount of the judgment is excessive. We have asserted the lack of legally required notice as a basis for challenging the judgment on appeal to the Algeria Supreme Court. Based upon our understanding of applicable law and precedent, we believe that this challenge will be successful. We do not believe that a loss is probable and have not accrued any amounts related to this matter. However, the ultimate resolution and the timing thereof are uncertain. If we are ultimately required to pay a fine or judgment related to this matter, the amount of the loss could range from approximately $140,000 to $19.7 million.

 

Off-Balance Sheet Arrangements (Including Guarantees)

 

We are a party to some transactions, agreements or other contractual arrangements defined as “off-balance sheet arrangements” that could have a material future effect on our financial position, results of operations, liquidity and capital resources. The most significant of these off-balance sheet arrangements involve agreements and obligations under which we provide financial or performance assurance to third parties. Certain of these agreements serve as guarantees, including standby letters of credit issued on behalf of insurance carriers in conjunction with our workers’ compensation insurance program and other financial surety instruments such as bonds. We have also guaranteed payment of contingent consideration in conjunction with an acquisition in 2005. Potential contingent consideration is based on future operating results of the acquired business. In addition, we have provided indemnifications, which serve as guarantees, to some third parties. These guarantees include indemnification provided by Nabors to our share transfer agent and our insurance carriers. We are not able to estimate the potential future maximum payments that might be due under our indemnification guarantees.

 

Management believes the likelihood that we would be required to perform or otherwise incur any material losses associated with any of these guarantees is remote. The following table summarizes the total maximum

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

amount of financial guarantees issued by Nabors and guarantees representing contingent consideration in connection with a business combination:

 

 

 

A reconciliation of the numerators and denominators of the basic and diluted earnings per share computations follows:

 

 

 

NABORS INDUSTRIES LTD. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

 

 

For all periods presented, the computation of diluted earnings per share excluded outstanding stock options and warrants with exercise prices greater than the average market price of Nabors’ common shares, because their inclusion would have been anti-dilutive and because they were not considered participating securities. The average number of options and warrants that were excluded from diluted earnings per share that would have potentially diluted earnings per share in the future were 10,055,869 and 31,023,161 shares during the three months ended March 31, 2010 and 2009, respectively. In any period during which the average market price of Nabors’ common shares exceeds the exercise prices of these stock options and warrants, such stock options and warrants are included in our diluted earnings per share computation using the if-converted method of accounting. Restricted stock is included in our basic and diluted earnings per share computation using the two-class method of accounting in all periods because it is considered a participating security.

 

 

At March 31, 2010, other long-term assets included a deposit of $40 million of restricted funds held at a financial institution to assure future credit availability for an unconsolidated affiliate. This cash is excluded from cash and cash equivalents in the Consolidated Balance Sheets and Statements of Cash Flows.

 

Accrued liabilities included the following: