UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

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

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

Commission file number 1-02199

ALLIS-CHALMERS ENERGY INC.

(Exact name of registrant as specified in its charter)

DELAWARE		39-0126090
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

5075 WESTHEIMER, SUITE 890, HOUSTON, TEXAS		77056
(Address of principal executive offices)		(Zip Code)

(713) 369-0550

Registrant’s telephone number, including area code

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes 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 o    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:

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

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

At October 30, 2009 there were 71,382,780 shares of common stock, par value $0.01 per share, outstanding.

 

 

ALLIS-CHALMERS ENERGY INC.

FORM 10-Q

For the Quarterly Period Ended September 30, 2009

TABLE OF CONTENTS

				PAGE
PART I		FINANCIAL INFORMATION
Item 1.		Financial Statements
		Consolidated Condensed Balance Sheets as of September 30, 2009 and December 31, 2008		3
		Consolidated Condensed Statements of Operations for the three and nine months ended September 30, 2009 and 2008		4
		Consolidated Condensed Statements of Cash Flows for the nine months ended September 30, 2009 and 2008		5
		Notes to Consolidated Condensed Financial Statements		6
Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations		27
Item 3.		Quantitative and Qualitative Disclosures about Market Risk		40
Item 4.		Controls and Procedures		41
PART II		OTHER INFORMATION
Item 1A		Risk Factors		41
Item 6.		Exhibits		42
Signatures				42
Exhibit 31.1
Exhibit 31.2
Exhibit 32.1

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

ALLIS-CHALMERS ENERGY INC.
CONSOLIDATED CONDENSED BALANCE SHEETS
(in thousands, except for share and per share amounts)

		September 30,				December 31,
		2009				2008
		(unaudited)
Assets
Cash and cash equivalents		$	41,635			$	6,866
Trade receivables, net			94,335				157,871
Inventories			35,197				39,087
Deferred income tax asset			4,839				6,176
Prepaid expenses and other			15,137				15,238
Total current assets			191,143				225,238
Property and equipment, net			756,211				760,990
Goodwill			41,982				43,273
Other intangible assets, net			33,813				37,371
Debt issuance costs, net			10,071				12,664
Deferred income tax asset			16,284				3,993
Other assets			26,965				31,522
Total assets		$	1,076,469			$	1,115,051
Liabilities and Stockholders’ Equity
Current maturities of long-term debt		$	16,710			$	14,617
Trade accounts payable			33,392				62,078
Accrued salaries, benefits and payroll taxes			21,420				20,192
Accrued interest			6,144				18,623
Accrued expenses			16,264				26,642
Total current liabilities			93,930				142,152
Long-term debt, net of current maturities			478,739				579,044
Deferred income tax liability			8,113				8,253
Other long-term liabilities			1,357				2,193
Total liabilities			582,139				731,642
Commitments and contingencies
Stockholders’ Equity
Preferred stock, $0.01 par value; liquidation value $1,000 per share (25,000,000 shares authorized, 36,393 shares issued and outstanding at September 30, 2009 and no shares issued at December 31, 2008)			34,183				—
Common stock, $0.01 par value (100,000,000 shares authorized; 71,369,780 issued and outstanding at September 30, 2009 and 35,674,742 issued and outstanding at December 31, 2008)			714				357
Capital in excess of par value			424,024				334,633
Retained earnings			35,409				48,419
Total stockholders’ equity			494,330				383,409
Total liabilities and stockholders’ equity		$	1,076,469			$	1,115,051

The accompanying Notes are an integral part of the Consolidated Condensed Financial Statements.

ALLIS-CHALMERS ENERGY INC.
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
(unaudited)

		For the Three Months Ended								For the Nine Months Ended
		September 30,								September 30,
		2009				2008				2009				2008
Revenues		$	120,016			$	178,265			$	377,624			$	494,582
Operating costs and expenses
Direct costs			90,763				116,921				281,136				319,761
Selling, general and administrative			11,430				15,849				40,595				46,162
Loss on asset disposition			—				(166	)			1,916				(166	)
Depreciation and amortization			20,893				16,628				61,819				48,542
Total operating costs and expenses			123,086				149,232				385,466				414,299
Income (loss) from operations			(3,070	)			29,033				(7,842	)			80,283
Other income (expense):
Interest expense			(10,764	)			(12,166	)			(37,492	)			(36,243	)
Interest income			39				1,457				53				4,147
Gain on debt extinguishment			—				—				26,365				—
Other			37				115				(231	)			591
Total other income (expense)			(10,688	)			(10,594	)			(11,305	)			(31,505	)
Income (loss) before income taxes			(13,758	)			18,439				(19,147	)			48,778
Provision for income taxes			4,108				(6,127	)			6,802				(17,858	)
Net income (loss)			(9,650	)			12,312				(12,345	)			30,920
Preferred stock dividend			(630	)			—				(665	)			—
Net income (loss) attributed to common stockholders		$	(10,280	)		$	12,312			$	(13,010	)		$	30,920
Net income (loss) per common share:
Basic		$	(0.14	)		$	0.35			$	(0.27	)		$	0.88
Diluted		$	(0.14	)		$	0.35			$	(0.27	)		$	0.87
Weighted average shares outstanding:
Basic			70,945				35,156				47,834				35,004
Diluted			70,945				35,551				47,834				35,455

The accompanying Notes are an integral part of the Consolidated Condensed Financial Statements.

ALLIS-CHALMERS ENERGY INC.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)

		For the Nine Months Ended
		September 30,
		2009				2008
Cash Flows from Operating Activities:
Net income (loss)		$	(12,345	)		$	30,920
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation and amortization			61,819				48,542
Amortization and write-off of debt issuance costs			1,691				1,563
Stock-based compensation			3,580				6,212
Allowance for bad debts			4,065				1,505
Deferred taxes			(11,094	)			4,315
Gain on sale of property and equipment			(1,180	)			(1,206	)
Loss (gain) on asset disposition			1,916				(166	)
Gain on debt extinguishment			(26,365	)			—
Changes in operating assets and liabilities:
Decrease (increase) in trade receivable			59,471				(30,642	)
Decrease (increase) in inventories			3,890				(6,961	)
Decrease in prepaid expenses and other current assets			3,290				544
Decrease (increase) in other assets			1,535				(2,271	)
Increase (decrease) in trade accounts payable			(29,035	)			16,590
(Decrease) in accrued interest			(12,479	)			(10,843	)
Increase (decrease) in accrued expenses			(11,632	)			12,083
Increase in accrued salaries, benefits and payroll taxes			1,228				4,780
(Decrease) in other long-term liabilities			(836	)			(682	)
Net Cash Provided By Operating Activities			37,519				74,283
Cash Flows from Investing Activities:
Investment in note receivable			—				(40,000	)
Deposits on asset commitments			7,054				(9,219	)
Purchase of investment interests			(1,102	)			(5,763	)
Proceeds from sale of property and equipment			7,980				6,004
Proceeds from assets dispositions			3,916				3,000
Purchase of property and equipment			(67,266	)			(117,835	)
Net Cash Used In Investing Activities			(49,418	)			(163,813	)
Cash Flows from Financing Activities:
Proceeds from issuance of stock, net			120,337				—
Net proceeds from stock incentive plans			14				633
Proceeds from long-term debt			25,000				20,001
Net borrowings (repayments) under line of credit			(36,500	)			38,500
Payments on long-term debt			(61,539	)			(6,451	)
Tax benefits on stock-based compensation plans			—				73
Debt issuance costs			(644	)			(109	)
Net Cash Provided By Financing Activities			46,668				52,647
Net change in cash and cash equivalents			34,769				(36,883	)
Cash and cash equivalents at beginning of period			6,866				43,693
Cash and cash equivalents at end of period		$	41,635			$	6,810

The accompanying Notes are an integral part of the Consolidated Condensed Financial Statements.

ALLIS-CHALMERS ENERGY INC.
NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

NOTE 1 — NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Nature of Operations

Allis-Chalmers Energy Inc. and subsidiaries (“Allis-Chalmers”, “we”, “our” or “us”) is a multi-faceted oilfield service company that provides services and equipment to oil and natural gas exploration and production companies, throughout the United States including Texas, Louisiana, Arkansas, Pennsylvania, Oklahoma, New Mexico, offshore in the Gulf of Mexico, and internationally, primarily in Argentina, Brazil, Bolivia and Mexico. We operate in three sectors of the oil and natural gas service industry: Oilfield Services; Drilling and Completion and Rental Services.

We derive operating revenues from rates per day and rates per job that we charge for the labor and equipment required to provide a service and rates per day for equipment and tools that we rent to our customers. The price we charge for our services depends upon several factors, including the level of oil and natural gas drilling activity and the competitive environment in the particular geographic regions in which we operate. Contracts are awarded based on price, quality of service and equipment and general reputation and experience of our personnel. The principal operating costs are direct and indirect labor and benefits, repairs and maintenance of our equipment, insurance, equipment rentals, fuel, depreciation and general and administrative expenses.

Basis of Presentation

Our unaudited consolidated condensed financial statements included herein have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission, or SEC. Accordingly, certain information and disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted. We believe that the presentations and disclosures herein are adequate to make the information not misleading. The unaudited consolidated condensed financial statements reflect all adjustments (consisting of normal recurring adjustments) necessary for a fair presentation of the interim periods. These unaudited consolidated condensed financial statements should be read in conjunction with our audited consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2008. The results of operations for the interim periods are not necessarily indicative of the results of operations to be expected for the full year.

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Future events and their effects cannot be perceived with certainty. Accordingly, our accounting estimates require the exercise of judgment. While management believes that the estimates and assumptions used in the preparation of the consolidated financial statements are appropriate, actual results could differ from those estimates. Estimates are used for, but are not limited to, determining the following: allowance for doubtful accounts, recoverability of long-lived assets and intangibles, useful lives used in depreciation and amortization, income taxes and valuation allowances. The accounting estimates used in the preparation of the consolidated financial statements may change as new events occur, as more experience is acquired, as additional information is obtained and as our operating environment changes.

We have evaluated subsequent events through November 5, 2009, up to the time of filing this Form 10-Q with the SEC.

Financial Instruments

Financial instruments consist of cash and cash equivalents, accounts receivable and payable, and debt. The carrying value of cash and cash equivalents and accounts receivable and payable approximate fair value due to their short-term nature. We believe the fair values and the carrying value of our debt, excluding the senior notes, would not be materially different due to the instruments’ interest rates approximating market rates for similar borrowings at September 30, 2009. Our senior notes, in the approximate aggregate amount of $430.2 million, trade “over the counter” in limited amounts and on an infrequent basis. Based on those trades we estimate the fair value of our senior notes to be approximately $326.6 million at September 30, 2009. The price at which our senior notes trade is based on many factors such as the level of interest rates, the economic environment, the outlook for the oilfield services industry and the perceived credit risk.

ALLIS-CHALMERS ENERGY INC.
NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

NOTE 1 — NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

Reclassification

Certain reclassifications have been made to the prior year’s consolidated condensed financial statements to conform with the current period presentation.

New Accounting Pronouncements

In September 2006, the Financial Accounting Standards Board, or FASB, issued new accounting guidance related to fair value measurements and related disclosures. This new guidance defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. Subsequently, the FASB provided for a one-year deferral of the provisions as it relates to fair value measurement requirements for non-financial assets and liabilities that are recognized or disclosed at fair value in the consolidated financial statements on a non-recurring basis. We adopted these provisions on January 1, 2008, except as they relate to nonfinancial assets and liabilities, which were adopted on January 1, 2009 and neither adoption had any impact on our financial position or results of operations.

In December 2007, the FASB issued new accounting guidance related to the accounting for business combinations and related disclosures. This guidance changes the requirements for an acquirer’s recognition and measurement of the assets acquired and the liabilities assumed in a business combination. Additionally, the guidance requires that acquisition-related costs, including restructuring costs, be recognized as expense separately from the acquisition. We adopted this guidance on January 1, 2009 and the guidance will be applied prospectively to all business combinations subsequent to the effective date.

In April 2009, the FASB further updated the fair value measurement standard to provide additional guidance for estimating fair value when the volume and level of activity for the asset or liability have significantly decreased. This update re-emphasizes that regardless of market conditions the fair value measurement is an exit price concept as defined in the original standard. It clarifies and includes additional factors to consider in determining whether there has been a significant decrease in market activity for an asset or liability and provides additional clarification on estimating fair value when the market activity for an asset or liability has declined significantly. We adopted this update on April 1, 2009 and there was no impact on our financial position or results of operations.

In April 2009, the FASB issued new accounting guidance related to interim disclosures on the fair value of financial instruments. This guidance requires disclosures about the fair value of financial instruments whenever a public company issues financial information for interim reporting periods. We adopted the additional disclosure requirements in our June 30, 2009 financial statements and there was no impact on our financial position or results of operations.

In May 2009, the FASB issued new accounting guidance that establishes general standards of accounting for and disclosures of events that occur after the balance sheet date but before the financial statements are issued or are available to be issued. It requires the disclosure of the date through which an entity has evaluated subsequent events. We adopted this guidance for the period ending June 30, 2009, which did not have an impact on our financial position or results of operations.

In June 2009, the FASB issued new accounting guidance related to variable interest entities and to provide more relevant and reliable information to users of financial statements. The guidance requires an analysis to determine whether an entity is a variable interest entity and requires an enterprise to perform an analysis to determine whether the enterprise’s variable interest or interests give it a controlling financial interest. The guidance also requires an ongoing reassessment and eliminates the quantitative approach previously required for determining whether an entity is the primary beneficiary. This guidance is effective for annual reporting periods beginning after November 15, 2009. We are currently evaluating the impact the adoption of this guidance will have on our financial position and operating results.

ALLIS-CHALMERS ENERGY INC.
NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

NOTE 1 — NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

In August 2009, FASB further updated the fair value measurement guidance to clarify how an entity should measure liabilities at fair value. The update reaffirms fair value is based on an orderly transaction between market participants, even though liabilities are infrequently transferred due to contractual or other legal restrictions. However, identical liabilities traded in the active market should be used when available. When quoted prices are not available, the quoted price of the identical liability traded as an asset, quoted prices for similar liabilities or similar liabilities traded as an asset, or another valuation approach should be used. This update also clarifies that restrictions preventing the transfer of a liability should not be considered as a separate input or adjustment in the measurement of fair value. This update is effective for our fourth quarter 2009 and we are currently evaluating the impact the adoption of this guidance will have on our financial position and operating results.

In October 2009, the FASB issued an update to existing guidance on revenue recognition for arrangements with multiple deliverables. This update will allow companies to allocate consideration received for qualified separate deliverables using estimated selling price for both delivered and undelivered items when vendor-specific objective evidence or third-party evidence is unavailable. This update requires expanded qualitative and quantitative disclosures and is effective for fiscal years beginning on or after June 15, 2010. However, companies may elect to adopt as early as interim periods ended September 30, 2009. This update may be applied either prospectively from the beginning of the fiscal year for new or materially modified arrangements or retrospectively. We are currently evaluating both the timing and impact of adopting this update on our consolidated financial statements.

NOTE 2 — STOCK-BASED COMPENSATION

Our net income (loss) for the three months ended September 30, 2009 and 2008 includes approximately $1.2 million and $1.8 million, respectively of compensation costs related to share-based payments. Our net income (loss) for the nine months ended September 30, 2009 and 2008 includes approximately $3.6 million and $6.2 million, respectively, of compensation costs related to share-based payments. As of September 30, 2009 there was $0.8 million of unrecognized compensation expense related to non-vested stock option grants. We expect approximately $228,000 to be recognized over the remainder of 2009 and approximately $539,000, $28,000 and $5,000 to be recognized during the years ended 2010, 2011 and 2012, respectively.

A summary of our stock option activity and related information is as follows:

						Weighted				Weighted
		Shares				Average				Average				Aggregate
		Under				Exercise				Contractual				Intrinsic Value
		Option				Price				Life (Years)				(millions)
Balance at December 31, 2008			901,732			$	10.95
Granted			125,000				1.23
Canceled			(305,000	)			18.18
Exercised			(7,000	)			2.75
Outstanding at September 30, 2009			714,732			$	6.25				6.33			$	0.52
Exercisable at September 30, 2009			589,732			$	7.31				5.68			$	0.12

The aggregate intrinsic value in the table above represents the total pre-tax intrinsic value (the difference between the closing price of our common stock on the last trading day of the third quarter of 2009 and the exercise price, multiplied by the number of in-the-money options) that would have been received by the option holders had all option holders exercised their options on September 30, 2009.

ALLIS-CHALMERS ENERGY INC.
NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

NOTE 2 — STOCK-BASED COMPENSATION (Continued)

We utilize the Black-Scholes model to determine fair value, which incorporates assumptions to value stock-based awards. The dividend yield on our common stock is assumed to be zero as we have historically not paid dividends and have no current plans to do so in the future. The expected volatility is based on historical volatility of our common stock. The risk-free interest rate is the related United States Treasury yield curve for periods within the expected term of the option at the time of grant. We estimate forfeiture rates based on our historical experience. The following summarizes the assumptions used for the options granted in the nine months ended September 30, 2009 Black-Scholes model:

		For the Nine Months Ended
		September 30, 2009
Expected dividend yield			—
Expected price volatility			77.32	%
Risk free interest rate			1.37	%
Expected life of options		5		years
Weighted average fair value of options granted at market value		$	0.77

No options were granted during the three months ended September 30, 2009 or for the nine months ended September 30, 2008.

Restricted stock awards, or RSAs, activity during the nine months ended September 30, 2009 were as follows:

						Weighted Average
		Number of				Grant-Date Fair Value
		Shares				Per Share
Nonvested at December 31, 2008			953,102			$	15.34
Granted			17,000				1.23
Vested			(60,373	)			14.94
Forfeited			(10,200	)			12.05
Nonvested at September 30, 2009			899,529			$	15.14

We determine the fair value of RSAs based on the market price of our common stock on the date of grant. Compensation cost for RSAs is primarily recognized on a straight-line basis over the vesting or service period and is net of forfeitures. As of September 30, 2009, there was $5.8 million of total unrecognized compensation cost related to nonvested RSAs. We expect approximately $1.0 million to be recognized over the remainder of 2009 and approximately $3.4 million, $1.2 million and $195,000 to be recognized during the years ended 2010, 2011 and 2012, respectively.

NOTE 3 — INVENTORIES

Inventories consisted of the following (in thousands):

		September 30,				December 31,
		2009				2008
Manufactured
Finished goods		$	3,306			$	2,821
Work in process			2,048				1,654
Raw materials			1,277				2,499
Total manufactured			6,631				6,974
Rig parts and related inventory			10,490				13,097
Shop supplies and related inventory			7,676				7,778
Chemicals and drilling fluids			4,861				3,698
Rental supplies			2,344				3,023
Hammers			2,023				2,257
Coiled tubing and related inventory			937				1,817
Drive pipe			235				443
Total inventories		$	35,197			$	39,087

ALLIS-CHALMERS ENERGY INC.
NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

NOTE 4 — GOODWILL AND INTANGIBLE ASSETS

In accordance with generally accepted accounting principles in the United States, goodwill and indefinite-lived intangible assets are not permitted to be amortized. Goodwill and indefinite-lived intangible assets remain on the balance sheet and are tested for impairment on an annual basis, or when there is reason to suspect that their values may have been diminished or impaired. Goodwill and indefinite-lived intangible assets listed on the balance sheet totaled $42.0 million and $43.3 million at September 30, 2009 and December 31, 2008, respectively. Based on impairment testing performed during 2008 these assets were impaired to their current carrying values.

Intangible assets with definite lives continue to be amortized over their estimated useful lives. Definite-lived intangible assets that continue to be amortized relate to our purchase of customer-related and marketing-related intangibles. These intangibles have useful lives ranging from five to twenty years. Amortization of intangible assets for the three and nine months ended September 30, 2009 were $1.2 million and $3.6 million, respectively, compared to $1.0 million and $3.2 million for the same periods in the prior year. At September 30, 2009, intangible assets totaled $33.8 million, net of $12.8 million of accumulated amortization.

NOTE 5 — DEBT

Our long-term debt consisted of the following (in thousands):

		September 30,				December 31,
		2009				2008
Senior notes		$	430,238			$	505,000
Term loans			62,838				49,609
Revolving line of credit			—				36,500
Seller notes			—				750
Notes payable to former directors			—				32
Insurance premium financing			1,982				991
Capital lease obligations			391				779
Total debt			495,449				593,661
Less: current maturities			16,710				14,617
Long-term debt, net of current maturities		$	478,739			$	579,044

Senior notes, bank loans and line of credit agreements

On January 18, 2006 and August 14, 2006, we closed on private offerings, to qualified institutional buyers pursuant to Rule 144A under the Securities Act of 1933, of $160.0 and $95.0 million aggregate principal amount of our senior notes, respectively. The senior notes are due January 15, 2014 and bear interest at 9.0%. The proceeds were used to fund the acquisitions of Specialty Rental Tools, Inc. and DLS Drilling, Logistics & Services Company, or DLS, to repay existing debt and for general corporate purposes. On June 29, 2009, we closed on a tender offer in which we purchased $30.6 million aggregate principal of our 9.0% senior notes for a total consideration of $650 per $1,000 principal amount.

In January 2007, we closed on a private offering, to qualified institutional buyers pursuant to Rule 144A under the Securities Act, of $250.0 million principal amount of 8.5% senior notes due 2017. The proceeds of the senior notes offering, together with a portion of the proceeds of our concurrent common stock offering, were used to repay the debt outstanding under our $300.0 million bridge loan facility which we incurred to finance our acquisition of substantially all the assets of Oil & Gas Rental Services, Inc. On June 29, 2009, we closed on a tender offer in which we purchased $44.2 million aggregate principal of our 8.5% senior notes for a total consideration of $600 per $1,000 principal amount.

ALLIS-CHALMERS ENERGY INC.
NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

NOTE 5 — DEBT (Continued)

On January 18, 2006, we also executed an amended and restated credit agreement which provided for a $25.0 million revolving line of credit with a maturity of January 2010. On April 26, 2007, we entered into a Second Amended and Restated Credit Agreement, which increased our revolving line of credit to $62.0 million, and had a final maturity date of April 26, 2012. On December 3, 2007, we entered into a First Amendment to Second Amended and Restated Credit Agreement, which increased our revolving line of credit to $90.0 million. The amended and restated credit agreement contains customary events of default and financial covenants and limits our ability to incur additional indebtedness, make capital expenditures, pay dividends or make other distributions, create liens and sell assets. Our obligations under the amended and restated credit agreement are secured by substantially all of our assets located in the United States. On April 9, 2009, we entered into a Third Amendment to our existing Second Amended and Restated Credit Agreement dated as of April 26, 2007 which modified the leverage ratio and interest coverage ratio covenants of the Credit Agreement. In addition, permitted maximum capital expenditures were reduced to $85.0 million for 2009 compared to the previous limit of $120.0 million, which is consistent with our previously announced plans to limit capital expenditures for the year. We were in compliance with all debt covenants as of September 30, 2009 and December 31, 2008. As of September 30, 2009, we had no borrowings under the facility and at December 31, 2008 we had $36.5 million of borrowings outstanding. Availability under the facility was reduced by outstanding letters of credit of $4.3 million and $5.8 million at September 30, 2009 and December 31, 2008, respectively. The credit agreement loan rates are based on prime or LIBOR plus a margin. The weighted average interest rate was 4.6% at December 31, 2008.

As part of our acquisition of DLS, we assumed various bank loans with floating interest rates based on LIBOR plus a margin and terms ranging from 2 to 5 years. The weighted average interest rate on these loans was 2.2% and 5.1% as of September 30, 2009 and December 31, 2008, respectively. The outstanding amount due as of September 30, 2009 and December 31, 2008 was $1.2 million and $2.5 million, respectively.

On February 15, 2008, through our DLS subsidiary in Argentina, we entered into a $25.0 million import finance facility with a bank. Borrowings under this facility were used to fund a portion of the purchase price of the new drilling and service rigs ordered for our Drilling and Completion segment. The loan is repayable over four years in equal semi-annual installments beginning one year after each disbursement with the final principal payment due not later than March 15, 2013. The import finance facility is unsecured and contains customary events of default and financial covenants and limits DLS’ ability to incur additional indebtedness, make capital expenditures, create liens and sell assets. We were in compliance with all debt covenants as of September 30, 2009 and December 31, 2008. The bank loan interest rates are based on LIBOR plus a margin. The weighted average interest rate was 4.8% and 6.9% at September 30, 2009 and December 31, 2008, respectively. The outstanding amount as of September 30, 2009 and December 31, 2008 was $21.3 million and $25.0 million, respectively.

As part of our acquisition of BCH Ltd, or BCH, we assumed a $23.6 million term loan credit facility with a bank. The credit agreement is dated June 2007 and contains customary events of default and financial covenants. Obligations under the facility are secured by substantially all of the BCH assets. The facility is repayable in quarterly principal installments plus interest with the final payment due not later than August 2012. We were in compliance with all debt covenants as of September 30, 2009 and December 31, 2008. The credit facility loan interest rates are based on LIBOR plus a margin. At September 30, 2009 and December 31, 2008, the outstanding amount of the loan was $16.2 million and $22.1 million and the interest rate was 3.8% and 6.0%, respectively.

On May 22, 2009, we drew down $25.0 million on a new term loan credit facility with a lending institution. The facility was utilized to fund a portion of the purchase price of two new drilling rigs. The loan is secured by the equipment. The facility is repayable in quarterly installments of approximately $1.4 million of principal and interest and matures in May 2015. The loan bears interest at a fixed rate of 9.0%. At September 30, 2009, the outstanding amount of the loan was $24.2 million.

Notes payable

In connection with the acquisition of Rogers Oil Tools, Inc., we issued to the seller a note in the amount of $750,000. The note bore interest at 5.0% and was paid in full in April 2009 in accordance with its terms.

In 2000, we compensated directors, who served on the board of directors from 1989 to June 30, 1999 without compensation, by issuing promissory notes totaling $325,000. The notes bore interest at the rate of 5.0%. As of September 30, 2009 and December 31, 2008, the principal and accrued interest on these notes totaled approximately $0 and $32,000, respectively.

ALLIS-CHALMERS ENERGY INC.
NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

NOTE 5 — DEBT (Continued)

In April 2008 and August 2008, we obtained insurance premium financings in the aggregate amount of $3.0 million with a fixed average weighted interest rate of 4.9%. Under terms of the agreements, amounts outstanding are paid over 10 and 11 month repayment schedules. The outstanding balance of these notes was approximately $0 and $991,000 at September 30, 2009 and December 31, 2008, respectively. In 2009, we obtained insurance premium financings in the aggregate amount of $3.2 million with a fixed average weighted interest rate of 4.8%. Under terms of the agreements, the amount outstanding is paid over 10 and 11 month repayment schedules. The outstanding balance of these notes was approximately $2.0 million as of September 30, 2009.

Other debt

As part of our acquisition of BCH, we assumed various capital leases with terms of two to three years. The outstanding balance under these capital leases was $391,000 at September 30, 2009 and $779,000 at December 31, 2008.

NOTE 6 — STOCKHOLDERS’ EQUITY

We recognized approximately $3.6 million of compensation expense related to share-based payments in the first nine months of 2009 that was recorded as capital in excess of par value (see Note 2).

In June 2009, we closed our backstopped rights offering and private placement of convertible preferred stock and received proceeds of approximately $120.3 million net of $5.3 million offering expenses. Pursuant to an Investment Agreement, Lime Rock Partners V, L.P., or Lime Rock, agreed to backstop the rights offering by purchasing, at the subscription price, shares of common stock not purchased by our existing stockholders. We sold 15,794,644 shares of our common stock to existing stockholders who exercised their rights through the rights offering and 19,889,044 shares of common stock to Lime Rock, at a price of $2.50 per share. We issued 36,393 shares of 7.0% convertible perpetual preferred stock to Lime Rock and received proceeds of approximately $34.2 million net of $2.2 million offering expenses.

The preferred stock has an initial liquidation preference of $1,000 per share and is adjusted to $3,000 per share solely upon ordinary liquidation events. Dividends on the preferred stock are declared quarterly if approved by our Board of Directors and dividends accumulate if not paid. The preferred stock is, with respect to dividend rights and rights upon liquidation, winding-up, or dissolution: (1) senior to common stock; (2) on a parity with any class of capital stock established after the original issue date when the terms of which provide that it will rank on a parity with the preferred stock; (3) junior to each class of capital stock or series of preferred stock established after the original issue date when the terms of such issuance expressly provide that it will rank senior to the preferred stock; and (4) junior to all our existing and future debt obligations and other liabilities, including claims of trade creditors.

Each share of the preferred stock is convertible at the holder’s option, at any time into 390.2439 shares of our common stock under certain conditions, subject to specified adjustments. This conversion rate represents an equivalent conversion price of approximately $2.56 per share. Conversion is limited to the earlier of June 26, 2012 or the date on which the transfer restrictions included in the Investment Agreement expire, unless immediately after giving effect to such conversion, such person or group would not beneficially own a number of shares of our common stock exceeding 35% of the total number of issued and outstanding shares of common stock, unless we have given prior written consent to such conversion. In addition, we will be able to cause the preferred stock to be converted into common stock five years after issuance if our common stock is trading at a premium of 300% to the conversion price for 30 consecutive trading days prior to our issuance of a press release announcing the mandatory conversion. Generally, the preferred stock vote together with the common stock on an as-converted basis, however, the preferred stock voting rights held by any person or group when aggregated with common stock would be limited to 35% of all the votes to be cast by all stockholders, including holders of common stock.

NOTE 7 — ASSET DISPOSITIONS

During the nine months ended September 30, 2009, we recorded a $1.9 million loss on asset disposition in our Drilling and Completion segment. The insurance proceeds related to damages incurred on a blow-out which destroyed one of our drilling rigs were not sufficient to cover the book value of the rig and related assets.

ALLIS-CHALMERS ENERGY INC.
NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

NOTE 7 — ASSET DISPOSITIONS (Continued)

Effective August 1, 2008, we sold our drill pipe tong manufacturing assets for approximately $7.5 million. We received cash of approximately $2.0 million at the time of the sale, a 90-day note for $1.0 million and a 10 year non-interest bearing note for $4.5 million. Repayment on the 10 year note is tied to various performance targets and we have assigned a fair value of approximately $3.1 million to this note. We reported a gain of approximately $166,000 on this transaction. The assets sold represented a small portion of our Oilfield Services segment.

NOTE 8 — GAIN ON DEBT EXTINGUISHMENT

We recorded a gain of $26.4 million as a result of a tender offer that we completed on June 29, 2009. We purchased $30.6 million aggregate principal of our 9.0% senior notes and $44.2 million aggregate principal of our 8.5% senior notes for approximately $46.4 million. We also wrote-off $1.5 million of debt issuance costs related to the retired notes and we incurred approximately $466,000 in expenses related to the transactions.

NOTE 9 — INCOME (LOSS) PER COMMON SHARE

Basic earnings per share are computed on the basis of the weighted average number of shares of common stock outstanding during the period. Diluted earnings per share is similar to basic earnings per share, but presents the dilutive effect on a per share basis of potential common shares (e.g., convertible preferred stock, stock options, etc.) as if they had been converted. The components of basic and diluted earnings per share are as follows (in thousands, except per share amounts):

		For the Three Months Ended								For the Nine Months Ended
		September 30,								September 30,
		2009				2008				2009				2008
Numerator:
Net income (loss)		$	(9,650	)		$	12,312			$	(12,345	)		$	30,920
Preferred stock dividend			(630	)			—				(665	)			—
Net income (loss) attributed to common stockholders		$	(10,280	)		$	12,312			$	(13,010	)		$	30,920
Denominator:
Weighted average common shares outstanding excluding nonvested restricted stock			70,945				35,156				47,834				35,004
Effect of potentially dilutive common shares:
Warrants and employee and director stock options and restricted shares			—				395				—				451
Weighted average common shares outstanding and assumed conversions			70,945				35,551				47,834				35,455
Net income (loss) per common share
Basic		$	(0.14	)		$	0.35			$	(0.27	)		$	0.88
Diluted		$	(0.14	)		$	0.35			$	(0.27	)		$	0.87
Potentially dilutive securities excluded as anti-dilutive			15,016				786				15,557				776

Convertible preferred stock and share based compensation shares of approximately 14.5 million and 5.1 million were excluded in the computation of diluted earnings per share for the three and nine months ended September 30, 2009, respectively as the effect would have been anti-dilutive (e.g., those that increase income per share) due to the net loss for the period.

ALLIS-CHALMERS ENERGY INC.
NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

NOTE 10 — SUPPLEMENTAL CASH FLOW INFORMATION

		For the Nine Months Ended
		September 30,
		2009				2008
Cash paid for interest and income taxes:
Interest		$	48,631			$	45,904
Income taxes			3,963				16,564
Non-cash activities:
Insurance premium financed		$	3,204			$	2,995
Assets transferred to joint venture investment			1,639				—
Preferred stock dividend			665				—
Non-cash transaction in connection with asset disposition:
Value on goodwill and other intangibles disposed		$	—			$	2,246
Value of inventory financed			—				509
Value of property and equipment disposed			—				337
Accrued expenses			—				10
Fair value of note receivable		$	—			$	3,102

NOTE 11 — CONDENSED CONSOLIDATING FINANCIAL INFORMATION

Set forth on the following pages are the condensed consolidating financial statements of (i) Allis-Chalmers Energy Inc., (ii) its subsidiaries that are guarantors of the senior notes and revolving credit facility and (iii) the subsidiaries that are not guarantors of the senior notes and revolving credit facility (in thousands, except for share and per share amounts).

ALLIS-CHALMERS ENERGY INC.
NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

NOTE 11 — CONDENSED CONSOLIDATING FINANCIAL INFORMATION (Continued)

CONDENSED CONSOLIDATING BALANCE SHEETS
September 30, 2009 (unaudited)

		Allis-Chalmers
		(Parent/				Subsidiary				Subsidiary				Consolidating				Consolidated
		Guarantor)				Guarantors				Non-Guarantors				Adjustments				Total
Assets
Cash and cash equivalents		$	—			$	29,181			$	12,454			$	—			$	41,635
Trade receivables, net			—				44,002				52,690				(2,357	)			94,335
Inventories			—				16,761				18,436				—				35,197
Intercompany receivables			—				71,314				—				(71,314	)			—
Note receivable from affiliate			24,209				—				—				(24,209	)			—
Prepaid expenses and other			701				8,790				10,485				—				19,976
Total current assets			24,910				170,048				94,065				(97,880	)			191,143
Property and equipment, net			—				502,293				253,918				—				756,211
Goodwill			—				23,251				18,731				—				41,982
Other intangible assets, net			471				26,202				7,140				—				33,813
Debt issuance costs, net			9,927				144				—				—				10,071
Note receivable from affiliates			5,823				—				—				(5,823	)			—
Investments in affiliates			940,226				—				—				(940,226	)			—
Other assets			20,160				20,851				2,238				—				43,249
Total assets		$	1,001,517			$	742,789			$	376,092			$	(1,043,929	)		$	1,076,469
Liabilities and Stockholders’ Equity
Current maturities of long-term debt		$	—			$	5,353			$	11,357			$	—			$	16,710
Trade accounts payable			—				11,615				24,134				(2,357	)			33,392
Accrued salaries, benefits and payroll taxes			—				1,883				19,537				—				21,420
Accrued interest			5,684				236				224				—				6,144
Accrued expenses			1,112				8,918				6,234				—				16,264
Intercompany payables			70,153				—				1,161				(71,314	)			—
Note payable to affiliate			—				—				24,209				(24,209	)			—
Total current liabilities			76,949				28,005				86,856				(97,880	)			93,930
Long-term debt, net of current maturities			430,238				20,832				27,669				—				478,739
Note payable to affiliate			—				—				5,823				(5,823	)			—
Deferred income tax liability			—				—				8,113				—				8,113
Other long-term liabilities			—				7				1,350				—				1,357
Total liabilities			507,187				48,844				129,811				(103,703	)			582,139
Commitments and contingencies
Stockholders’ Equity
Preferred Stock			34,183				—				—				—				34,183
Common stock			714				3,526				42,963				(46,489	)			714
Capital in excess of par value			424,024				570,512				137,439				(707,951	)			424,024
Retained earnings			35,409				119,907				65,879				(185,786	)			35,409
Total stockholders’ equity			494,330				693,945				246,281				(940,226	)			494,330
Total liabilities and stockholders equity		$	1,001,517			$	742,789			$	376,092			$	(1,043,929	)		$	1,076,469

ALLIS-CHALMERS ENERGY INC.
NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

NOTE 11 — CONDENSED CONSOLIDATING FINANCIAL INFORMATION (Continued)

CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS
For the Nine Months Ended September 30, 2009 (unaudited)

		Allis-Chalmers
		(Parent/				Subsidiary				Subsidiary				Consolidating				Consolidated
		Guarantor)				Guarantors				Non-Guarantors				Adjustments				Total
Revenues		$	—			$	154,502			$	225,013			$	(1,891	)		$	377,624
Operating costs and expenses
Direct costs			—				101,284				181,743				(1,891	)			281,136
Selling, general and administrative			3,029				27,199				10,367				—				40,595
Loss on asset disposition			—				—				1,916				—				1,916
Depreciation and amortization			35				45,629				16,155				—				61,819
Total operating costs and expenses			3,064				174,112				210,181				(1,891	)			385,466
Income (loss) from operations			(3,064	)			(19,610	)			14,832				—				(7,842	)
Other income (expense):
Equity earnings in affiliates, net of tax			(1,101	)			—				—				1,101				—
Interest, net			(34,595	)			24				(2,868	)			—				(37,439	)
Gain on debt extinguishment			26,365				—				—				—				26,365
Other			50				(103	)			(178	)			—				(231	)
Total other income (expense)			(9,281	)			(79	)			(3,046	)			1,101				(11,305	)
Net income (loss)before income taxes			(12,345	)			(19,689	)			11,786				1,101				(19,147	)
Provision for income taxes			—				10,517				(3,715	)			—				6,802
Net income (loss)			(12,345	)			(9,172	)			8,071				1,101				(12,345	)
Preferred stock dividend			(665	)			—				—				—				(665	)
Net income (loss) attributed to common stockholders		$	(13,010	)		$	(9,172	)		$	8,071			$	1,101			$	(13,010	)

ALLIS-CHALMERS ENERGY INC.
NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

NOTE 11 — CONDENSED CONSOLIDATING FINANCIAL INFORMATION (Continued)

CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS
For the Three Months Ended September 30, 2009 (unaudited)

		Allis-Chalmers
		(Parent/				Subsidiary				Subsidiary				Consolidating				Consolidated
		Guarantor)				Guarantors				Non-Guarantors				Adjustments				Total
Revenues		$	—			$	43,797			$	76,840			$	(621	)		$	120,016
Operating costs and expenses
Direct costs			—				29,041				62,343				(621	)			90,763
Selling, general and administrative			1,043				7,243				3,144				—				11,430
Depreciation and amortization			12				15,446				5,435				—				20,893
Total operating costs and expenses			1,055				51,730				70,922				(621	)			123,086
Income (loss) from operations			(1,055	)			(7,933	)			5,918				—				(3,070	)
Other income (expense):
Equity earnings in affiliates, net of tax			1,499				—				—				(1,499	)			—
Interest, net			(10,109	)			45				(661	)			—				(10,725	)
Other			15				3				19				—				37
Total other income (expense)			(8,595	)			48				(642	)			(1,499	)			(10,688	)
Net income (loss)before income taxes			(9,650	)			(7,885	)			5,276				(1,499	)			(13,758	)
Provision for income taxes			—				6,471				(2,363	)			—				4,108
Net income (loss)			(9,650	)			(1,414	)			2,913				(1,499	)			(9,650	)
Preferred stock dividend			(630	)			—				—				—				(630	)
Net income (loss) attributed to common stockholders		$	(10,280	)		$	(1,414	)		$	2,913			$	(1,499	)		$	(10,280	)

ALLIS-CHALMERS ENERGY INC.
NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

NOTE 11 — CONDENSED CONSOLIDATING FINANCIAL INFORMATION (Continued)

CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOW
For the Nine Months Ended September 30, 2009 (unaudited)

		Allis-Chalmers
		(Parent/				Subsidiary				Other Subsidiaries				Consolidating				Consolidated
		Guarantor)				Guarantors				(Non-Guarantors)				Adjustments				Total
Cash Flows from Operating Activities:
Net income (loss)		$	(12,345	)		$	(9,172	)		$	8,071			$	1,101			$	(12,345	)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation and amortization			35				45,629				16,155				—				61,819
Amortization and write-off of debt issuance costs			1,682				9				—				—				1,691
Stock based compensation			3,580				—				—				—				3,580
Allowance for bad debts			—				4,065				—				—				4,065
Equity earnings in affiliates			1,101				—				—				(1,101	)			—
Deferred taxes			(11,490	)			—				396				—				(11,094	)
(Gain) on sale of equipment			—				(1,059	)			(121	)			—				(1,180	)
Loss on asset disposition			—				—				1,916				—				1,916
Gain on debt extinguishment			(26,365	)			—				—				—				(26,365	)
Changes in operating assets and liabilities, net of acquisitions:
Decrease in trade receivables			—				41,296				18,175				—				59,471
Decrease in inventories			—				2,621				1,269				—				3,890
(Increase) decrease in prepaid expenses and other current assets			7,296				2,488				(6,494	)			—				3,290
(Increase) decrease in other assets			—				(798	)			2,333				—				1,535
(Decrease) in trade accounts payable			—				(16,979	)			(12,056	)			—				(29,035	)
(Decrease) increase in accrued interest			(12,248	)			236				(467	)			—				(12,479	)
(Decrease) in accrued expenses			(300	)			(4,923	)			(6,409	)			—				(11,632	)
(Decrease) increase in accrued salaries, benefits and payroll taxes			—				(2,050	)			3,278				—				1,228
(Decrease) in other long- term liabilities			—				(57	)			(779	)			—				(836	)
Net Cash Provided By (Used In) Operating Activities			(49,054	)			61,306				25,267				—				37,519
Cash Flows from Investing Activities:
Investment in affiliates			(4,100	)			—				—				4,100				—
Notes receivable from affiliates			693				—				—				(693	)			—
Deposits on asset commitments			—				7,610				(556	)			—				7,054
Purchase of investment interests			(2,393	)			—				1,291				—				(1,102	)
Proceeds from sale of property and equipment			—				7,859				121				—				7,980
Proceeds from assets dispositions			—				—				3,916				—				3,916
Purchase of property and equipment			—				(53,716	)			(13,550	)			—				(67,266	)
Net Cash Used in Investing Activities			(5,800	)			(38,247	)			(8,778	)			3,407				(49,418	)

ALLIS-CHALMERS ENERGY INC.
NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

NOTE 11 — CONDENSED CONSOLIDATING FINANCIAL INFORMATION (Continued)

CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOW
For the Nine Months Ended September 30, 2009 (unaudited)

		Allis-								Other
		Chalmers								Subsidiaries
		(Parent/				Subsidiary				(Non-				Consolidating				Consolidated
		Guarantor)				Guarantors				Guarantors)				Adjustments				Total
Cash Flows from Financing Activities:
Accounts receivable from affiliates			—				(18,637	)			—				18,637				—
Accounts payable to affiliates			18,661				—				(24	)			(18,637	)			—
Notes payable to affiliates			—				—				(693	)			693				—
Proceeds from parent contributions			—				—				4,100				(4,100	)			—
Proceeds from issuance of stock, net			120,337				—				—				—				120,337
Net proceeds from stock incentive plans			14				—				—				—				14
Proceeds from long-term debt			—				25,000				—				—				25,000
Net repayment under line of credit			(36,500	)			—				—				—				(36,500	)
Payments on long-term debt			(47,167	)			(3,011	)			(11,361	)			—				(61,539	)
Debt issuance costs			(491	)			(153	)			—				—				(644	)
Net Cash Provided By (Used In) Financing Activities			54,854				3,199				(7,978	)			(3,407	)			46,668
Net change in cash and cash equivalents			—				26,258				8,511				—				34,769
Cash and cash equivalents at beginning of period			—				2,923				3,943				—				6,866
Cash and cash equivalents at end of period		$	—			$	29,181			$	12,454			$	—			$	41,635