<Page>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2001
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____ to _____
Commission file number 1-8038
KEY ENERGY SERVICES, INC.
(Exact name of registrant as specified in its charter)
MARYLAND 04-2648081
-------- ----------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
6 DESTA DRIVE, MIDLAND, TX 79705
-------------------------- -----
(Address of principal executive offices) (ZIP Code)
Registrant's telephone number including area code: (915) 620-0300
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes_X_ No
Common Shares outstanding at November 13, 2001: 102,363,880
1
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<Table>
KEY ENERGY SERVICES, INC.
INDEX
- -------------------------------------------------------------------------------
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets as of
September 30, 2001 (unaudited) and June 30, 2001..............3
Unaudited Consolidated Statements of
Operations for the Three Months Ended
September 30, 2001 and 2000...................................4
Unaudited Consolidated Statements of
Cash Flows for the Three Months Ended
September 30, 2001 and 2000 ..................................5
Unaudited Consolidated Statements of Comprehensive
Income for the Three Months Ended
September 30, 2001 and 2000...................................6
Notes to Consolidated Financial Statements....................7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations...................17
Item 3. Quantitative and Qualitative Disclosures about Market Risk......22
PART II. OTHER INFORMATION
Item 1. Legal Proceedings...............................................24
Item 2. Changes in Securities and Use of Proceeds.......................24
Item 3. Defaults Upon Senior Securities.................................24
Item 4. Submission of Matters to a Vote of Security Holders.............24
Item 5. Other Information...............................................24
Item 6. Exhibits and Reports on Form 8-K................................24
Signatures..................................................................25
</Table>
2
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<Table>
<Caption>
KEY ENERGY SERVICES, INC.
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 2001 JUNE 30, 2001
------------------ -------------
(UNAUDITED)
(THOUSANDS, EXCEPT PER SHARE DATA)
ASSETS
Current assets:
Cash and cash equivalents............................................................... $ 2,493 $ 2,098
Accounts receivable, net of allowance for doubtful accounts of $4,360 and $4,082 at
September 30, 2001 and June 30, 2001, respectively................................... 184,916 177,016
Inventories............................................................................. 16,534 16,547
Prepaid expenses and other current assets............................................... 10,672 10,489
-------------- --------------
Total current assets...................................................................... 214,615 206,150
-------------- --------------
Property and equipment:
Well servicing equipment................................................................ 744,805 723,724
Contract drilling equipment............................................................. 127,169 119,122
Motor vehicles.......................................................................... 66,895 64,907
Oil and gas properties and other related equipment, successful efforts method........... 44,266 44,245
Furniture and equipment................................................................. 27,229 24,865
Buildings and land...................................................................... 37,398 37,812
-------------- --------------
Total property and equipment.............................................................. 1,047,762 1,014,675
Accumulated depreciation and depletion.................................................... (237,164) (220,959)
-------------- --------------
Net property and equipment................................................................ 810,598 793,716
-------------- --------------
Goodwill, net of accumulated amortization of $28,168 at September 30, 2001 and
June 30, 2001......................................................................... 190,781 189,875
Deferred costs, net..................................................................... 15,621 17,624
Notes receivable - related parties...................................................... 50 6,050
Other assets............................................................................ 26,799 14,869
-------------- --------------
Total assets.............................................................................. $1,258,464 $1,228,284
============== ==============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable........................................................................ $ 47,911 $ 42,544
Other accrued liabilities............................................................... 51,751 48,923
Accrued interest........................................................................ 5,957 16,140
Current portion of long-term debt....................................................... 7,813 7,946
-------------- --------------
Total current liabilities................................................................. 113,432 115,553
-------------- --------------
Long-term debt, less current portion...................................................... 463,681 485,961
Deferred revenue.......................................................................... 13,042 14,104
Non-current accrued expenses.............................................................. 9,340 8,388
Deferred tax liability.................................................................... 142,217 127,400
Commitments and contingencies............................................................. - -
Stockholders' equity:
Common stock, $0.10 par value; 200,000,000 shares authorized, 102,722,714
and 101,440,166 shares issued at September 30, 2001 and June 30, 2001, respectively..... 10,272 10,144
Additional paid-in capital.............................................................. 455,212 444,768
Treasury stock, at cost; 416,666 shares at September 30, 2001 and June 30, 2001......... (9,682) (9,682)
Accumulated other comprehensive income.................................................. 182 62
Retained earnings (deficit)............................................................. 60,768 31,586
-------------- --------------
Total stockholders' equity................................................................ 516,752 476,878
-------------- --------------
Total liabilities and stockholders' equity................................................ $1,258,464 $1,228,284
============== ==============
SEE THE ACCOMPANYING NOTES WHICH ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
</Table>
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KEY ENERGY SERVICES, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS
<Table>
<Caption>
THREE MONTHS ENDED
SEPTEMBER 30,
---------------------
2001 2000
---- ----
(THOUSANDS, EXCEPT PER SHARE DATA)
REVENUES:
Well servicing.......................................................................... $212,501 $166,565
Contract drilling....................................................................... 33,636 22,145
Other................................................................................... 3,100 2,969
-------- --------
Total revenues............................................................................ 249,237 191,679
-------- --------
COSTS AND EXPENSES:
Well servicing.......................................................................... 132,780 111,686
Contract drilling....................................................................... 21,188 17,458
Depreciation, depletion and amortization................................................ 17,869 18,311
General and administrative.............................................................. 17,884 14,367
Bad debt expense........................................................................ 244 194
Interest................................................................................ 11,949 16,111
Other expenses.......................................................................... 1,185 1,323
-------- --------
Total costs and expenses.................................................................. 203,099 179,450
-------- --------
Income (loss) before income taxes......................................................... 46,138 12,229
Income tax benefit (expense).............................................................. (17,142) (4,719)
-------- --------
Income (loss) before extraordinary gain (loss)............................................ 28,996 7,510
Extraordinary gain (loss) on retirement of debt, less applicable income taxes of $107 -
2001 and $752 - 2000.................................................................... 180 1,197
-------- --------
NET INCOME (LOSS)......................................................................... $ 29,176 $ 8,707
======== ========
EARNINGS (LOSS) PER SHARE:
Basic - before extraordinary gain (loss)................................................ $ 0.29 $ 0.08
Extraordinary gain (loss), net of tax................................................... -- 0.01
-------- --------
Basic - after extraordinary gain (loss)................................................. $ 0.29 $ 0.09
======== ========
Diluted - before extraordinary gain (loss).............................................. $ 0.28 $ 0.08
Extraordinary gain (loss), net of tax................................................... -- 0.01
-------- --------
Diluted - after extraordinary gain (loss)............................................... $ 0.28 $ 0.09
======== ========
WEIGHTED AVERAGE SHARES OUTSTANDING:
Basic................................................................................... 101,727 96,880
Diluted................................................................................. 103,829 100,472
SEE THE ACCOMPANYING NOTES WHICH ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
</Table>
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KEY ENERGY SERVICES, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
<Table>
<Caption>
THREE MONTHS ENDED
SEPTEMBER 30,
----------------------
2001 2000
---- ----
(THOUSANDS)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) ............................................................. $ 29,176 $ 8,707
ADJUSTMENTS TO RECONCILE INCOME FROM OPERATIONS TO NET CASH PROVIDED BY (USED
IN) OPERATIONS:
Depreciation, depletion and amortization..................................... 17,869 18,311
Amortization of deferred debt issuance costs and other deferred costs........ 591 1,408
Bad debt expense............................................................. 244 194
Deferred income taxes........................................................ 14,600 4,719
(Gain) loss on sale of assets................................................ (1,062) 1
Extraordinary (gain) loss, net of tax........................................ (180) (1,197)
CHANGE IN ASSETS AND LIABILITIES, NET OF EFFECTS FROM THE ACQUISITIONS:
(Increase) decrease in accounts receivable................................... (8,144) (15,451)
(Increase) decrease in other current assets.................................. (170) 4,386
Increase (decrease) in accounts payable, accrued interest and accrued
expenses................................................................... (1,988) (8,186)
Other assets and liabilities................................................. (5,705) (534)
--------- ----------
Net cash provided by (used in) operating activities.............................. 45,231 12,358
--------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures - well servicing.......................................... (11,894) (8,002)
Capital expenditures - contract drilling....................................... (8,154) (3,133)
Capital expenditures - other................................................... (3,127) (2,150)
Proceeds from sale of fixed assets............................................. 3,416 102
Acquisitions - well servicing.................................................. (2,673) -
--------- ----------
Net cash provided by (used in) investing activities............................ (22,432) (13,183)
--------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of long-term debt and capital lease obligations...................... (68,945) (110,575)
Borrowings under line-of-credit................................................ 46,000 4,000
Proceeds from exercise of stock options........................................ 541 333
Other.......................................................................... - (171)
--------- ----------
Net cash provided by (used in) financing activities............................ (22,404) (106,413)
--------- ----------
Net increase (decrease) in cash and cash equivalents........................... 395 (107,238)
Cash and cash equivalents at beginning of period............................... 2,098 109,873
--------- ----------
Cash and cash equivalents at end of period..................................... $ 2,493 $ 2,635
========= ==========
SEE THE ACCOMPANYING NOTES WHICH ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
</Table>
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KEY ENERGY SERVICES, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
<Table>
<Caption>
THREE MONTHS ENDED
SEPTEMBER 30,
---------------------
2001 2000
---- ----
(THOUSANDS)
NET INCOME (LOSS)....................................................................... $29,176 $8,707
OTHER COMPREHENSIVE INCOME, NET OF TAX:
Derivative transition adjustment (see Note 6)......................................... - (778)
Oil and natural gas derivatives adjustment (see Note 6)............................... 176 -
Amortization of oil and natural gas derivatives (see Note 6).......................... (33) 146
Foreign currency translation gain (loss), net of tax.................................. (23) 4
-------- -------
COMPREHENSIVE INCOME (LOSS), NET OF TAX................................................. $29,296 $8,079
======== =======
SEE THE ACCOMPANYING NOTES WHICH ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
</Table>
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KEY ENERGY SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2001 AND 2000
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The consolidated financial statements of Key Energy Services, Inc. (the
"Company") and its wholly-owned subsidiaries as of September 30, 2001 and for
the three month periods ended September 30, 2001 and 2000 are unaudited. Certain
information and footnote disclosures normally included in financial statements
prepared in accordance with generally accepted accounting principles have been
condensed or omitted in this Form 10-Q pursuant to the rules and regulations of
the Securities and Exchange Commission. However, in the opinion of management,
these interim financial statements include all the necessary adjustments to
fairly present the results of the interim periods presented. These unaudited
interim consolidated financial statements should be read in conjunction with the
audited financial statements included in the Company's Annual Report on Form
10-K for the fiscal year ended June 30, 2001. The results of operations for the
three month period ended September 30, 2001 are not necessarily indicative of
the results of operations for the full fiscal year ending June 30, 2002.
RECLASSIFICATIONS
Certain reclassifications have been made to the consolidated financial
statements for the three month period ended September 30, 2000 to conform to the
presentation for the three month period ended September 30, 2001. The
reclassifications consist primarily of reclassifying oil and natural gas
productions revenues and expenses. Oil and natural gas production revenues and
related expenses have been reclassified to other revenues and other expenses
because the Company does not believe this business segment is material to the
Company's consolidated financial statements.
2. EARNINGS PER SHARE
The Company accounts for earnings per share based upon Statement of Financial
Accounting Standards No. 128, "Earnings per Share" ("SFAS 128"). Under SFAS 128,
basic earnings per common share are determined by dividing net earnings
applicable to common stock by the weighted average number of common shares
actually outstanding during the period. Diluted earnings per common share is
based on the increased number of shares that would be outstanding assuming
conversion of dilutive outstanding convertible securities using the "as if
converted" method.
7
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<Table>
<Caption>
THREE MONTHS
ENDED SEPT. 30,
--------------
2001 2000
---- ----
(THOUSANDS, EXCEPT
PER SHARE DATA)
BASIC EPS COMPUTATION:
NUMERATOR
Net income (loss) before extraordinary gain (loss)........... $ 28,996 $ 7,510
Extraordinary gain (loss), net of tax........................ 180 1,197
-------- -------
Net income (loss)............................................ $ 29,176 $ 8,707
======== =======
DENOMINATOR
Weighted average common shares outstanding................... 101,727 96,880
-------- -------
BASIC EPS:
Before extraordinary gain (loss)............................. $ 0.29 $ 0.08
Extraordinary gain (loss), net of tax........................ - 0.01
-------- -------
After extraordinary gain (loss).............................. $ 0.29 $ 0.09
======== =======
DILUTED EPS COMPUTATION:
NUMERATOR
Net income (loss) before extraordinary gain (loss)........... $ 28,996 $ 7,510
Effect of dilutive convertible securities, tax effected...... - 5
Extraordinary gain (loss), net of tax........................ 180 1,197
-------- -------
Net income (loss)............................................ $ 29,176 $ 8,712
======== =======
DENOMINATOR
Weighted average common shares outstanding:.................. 101,727 96,880
Warrants..................................................... 577 75
Stock options................................................ 1,525 3,437
Convertible Debentures....................................... - 80
-------- -------
103,829 100,472
-------- -------
DILUTED EPS:
Before extraordinary gain (loss)............................. $ 0.28 $ 0.08
Extraordinary gain (loss), net of tax........................ - 0.01
-------- -------
After extraordinary gain (loss).............................. $ 0.28 $ 0.09
======== =======
</Table>
The diluted earnings per share calculations for the three months ended September
30, 2001 and 2000 excludes the exercise of 1,463,000 and 1,175,000 stock
options, respectively, and the conversion of the Company's 5% Convertible
Subordinated Notes because the effects of such instruments on earnings per share
would be anti-dilutive.
3. COMMITMENTS AND CONTINGENCIES
Various suits and claims arising in the ordinary course of business are pending
against the Company. Management does not believe that the disposition of any of
these items will result in a material adverse impact to the consolidated
financial position, results of operations or cash flows of the Company.
8
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4. INDUSTRY SEGMENT INFORMATION
The Company's reportable business segments are well servicing and contract
drilling. Oil and natural gas production operations were previously separately
presented as a reportable business segment and are now included in
"corporate/other."
WELL SERVICING: The Company's operations provide well servicing (ongoing
maintenance of existing oil and natural gas wells), completions, workover (major
repairs or modifications necessary to optimize the level of production from
existing oil and natural gas wells) and production services (fluid hauling and
fluid storage tank rental).
CONTRACT DRILLING: The Company provides contract drilling services for major and
independent oil companies onshore the continental United States, Argentina and
Ontario, Canada.
<Table>
<Caption>
WELL CONTRACT CORPORATE/
SERVICING DRILLING OTHER TOTAL
--------- -------- ----- -----
(IN THOUSANDS)
THREE MONTHS ENDED SEPTEMBER 30, 2001
Operating revenues............................. $212,501 $ 33,636 $ 3,100 $ 249,237
Operating profit .............................. 79,721 12,448 1,915 94,084
Depreciation, depletion and amortization....... 15,318 1,619 932 17,869
Interest expense............................... 548 - 11,401 11,949
Net income (loss) before extraordinary gain
(loss)*...................................... 33,784 6,069 (10,857) 28,996
Identifiable assets............................ 676,410 101,161 290,112 1,067,683
Capital expenditures (excluding acquisitions).. 11,894 8,154 3,127 23,175
THREE MONTHS ENDED SEPTEMBER 30, 2000
Operating revenues............................. $166,565 $ 22,145 $ 2,969 $ 191,679
Operating profit .............................. 54,879 4,687 1,646 61,212
Depreciation, depletion and amortization....... 15,689 1,806 816 18,311
Interest expense............................... 657 - 15,454 16,111
Net income (loss) before extraordinary gain
(loss)*...................................... 21,778 654 (14,922) 7,510
Identifiable assets............................ 634,123 87,850 226,607 948,580
Capital expenditures (excluding acquisitions).. 10,929 228 2,128 13,285
</Table>
- -----------------
*Net income (loss) for the contract drilling
segment includes a portion of well servicing
general and administrative expenses allocated
on a revenue percentage basis.
Operating revenues for the Company's foreign operations for the three months
ended September 30, 2001 and 2000 were $12.1 million and $13.2 million,
respectively. Operating profits for the Company's foreign operations for the
three months ended September 30, 2001 and 2000 were $2.6 million and $3.0
million, respectively. The Company had $82.6 million and $70.3 million of
identifiable assets as of September 30, 2001 and 2000, respectively, related to
foreign operations.
9
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5. VOLUMETRIC PRODUCTION PAYMENT
In March 2000, Key sold a portion of its future oil and natural gas production
from Odessa Exploration Incorporated, its wholly owned subsidiary, for gross
proceeds of $20 million pursuant to an agreement under which the purchaser is
entitled to receive a portion of the production from certain oil and natural gas
properties over the six year period ending February 28, 2006 in amounts starting
at 10,000 barrels of oil per month and declining to 3,500 barrels of oil per
month and starting at 122,100 Mmbtu of natural gas per month and declining to
58,800 Mmbtu of natural gas per month. The total volume of the forward sale is
approximately 486,000 barrels of oil and 6,135,000 Mmbtu of natural gas.
6. DERIVATIVE INSTRUMENTS
The Company utilizes derivative financial instruments to manage well-defined
commodity price risks. The Company is exposed to credit losses in the event of
nonperformance by the counter-parties to its commodity hedges. The Company only
deals with reputable financial institutions as counter-parties and anticipates
that such counter-parties will be able to fully satisfy their obligations under
the contracts. The Company does not obtain collateral or other security to
support financial instruments subject to credit risk but monitors the credit
standing of the counter-parties.
The Company periodically hedges a portion of its oil and natural gas production
through collar and option agreements. The purpose of the hedges is to provide a
measure of stability in the volatile environment of oil and natural gas prices
and to manage exposure to commodity price risk under existing sales commitments.
The Company's risk management objective is to lock in a range of pricing for
expected production volumes. This allows the Company to forecast future earnings
within a predictable range. The Company meets this objective by entering into
collar and option arrangements which allow for acceptable cap and floor prices.
The Company does not enter into derivative instruments for any purpose other
than for economic hedging. The Company does not speculate using derivative
instruments. The Company has identified the following derivative instruments:
FREESTANDING DERIVATIVES: On March 30, 2000 the Company entered into a collar
arrangement for a 22-month period whereby the Company will pay if the specified
price is above the cap index and the counter-party will pay if the price should
fall below the floor index. The hedge defines a range of cash flows bounded by
the cap and floor prices. On May 25, 2001 the Company entered into an option
arrangement for a 12-month period beginning March 2002 whereby the counter-party
will pay should the price fall below the floor index. The Company desires a
measure of stability to ensure that cash flows do not fall below a certain
level.
Prior to the adoption of Statement of Financial Accounting Standards No. 133,
"Accounting for Derivative Instruments and Hedging Activities," ("SFAS No.
133"), as amended by SFAS No. 137 and 138, these collars were accounted for as
cash flow type hedges. Accordingly, the July 1, 2000 transition adjustment
resulted in recording a $778,000 liability for the fair value of the collars to
accumulated other comprehensive income. Approximately $97,000 of the transition
adjustment was recognized in earnings during the three months ended September
30, 2001. The unamortized balance of the transition adjustment, approximately
$161,000, will be recognized in
10
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earnings over the next six months. As of July 1, 2001, the Company has
documented the May 25, 2001 options as cash flow hedges. During the quarter
ended September 30, 2001, the Company recorded an increase in net derivative
assets of $339,000, of which $52,000 represented ineffectiveness and was
credited to earnings.
EMBEDDED DERIVATIVES. The Company is party to a volumetric production payment
that meets the definition of an embedded derivative under SFAS No. 133.
Effective July 1, 2000, the Company determined and documented that the
production payment is excluded from the scope of SFAS No. 133 under the
normal purchases/sales exclusion as set forth in SFAS 138.
7. CONDENSED CONSOLIDATING FINANCIAL INFORMATION
The Company's senior notes are guaranteed by all of the Company's subsidiaries
(except for the foreign subsidiaries), all of which are wholly-owned. The
guarantees are joint and several, full, complete and unconditional. There are
currently no restrictions on the ability of the subsidiary guarantors to
transfer funds to the parent company.
The accompanying condensed consolidating financial information has been prepared
and presented pursuant to SEC Regulation S-X Rule 3-10 "Financial Statements of
Guarantors and Issuers of Guaranteed Securities Registered or Being Registered."
The information is not intended to present the financial position, results of
operations and cash flows of the individual companies or groups of companies in
accordance with generally accepted accounting principles.
11
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<Table>
<Caption>
CONDENSED CONSOLIDATING BALANCE SHEETS
SEPTEMBER 30, 2001
----------------------------------------------------------------------------
PARENT GUARANTOR NON-GUARANTOR
COMPANY SUBSIDIARIES SUBSIDIARIES ELIMINATIONS CONSOLIDATED
-------- ------------ ------------- ------------ ------------
(IN THOUSANDS)
Assets:
Current assets ................... $ 5,907 $ 179,778 $28,930 $ - $ 214,615
Net property and equipment ....... 23,649 733,029 53,920 - 810,598
Goodwill, net .................... 3,316 185,409 2,056 - 190,781
Deferred costs, net .............. 15,621 - - - 15,621
Intercompany receivables ......... 631,520 - - (631,520) -
Other assets ..................... 20,517 6,332 - - 26,849
-------- ---------- ------- --------- ----------
Total assets ......................... $700,530 $1,104,548 $84,906 $(631,520) $1,258,464
======== ========== ======= ========= ==========
Liabilities and equity:
Current liabilities .............. $ 33,781 $ 68,274 $11,377 $ $ 113,432
Long-term debt ................... 448,784 14,949 (52) 463,681
Intercompany payables ............ - 573,575 57,945 (631,520) -
Deferred tax liability ........... 142,217 - - - 142,217
Other long-term liabilities ...... 9,193 13,189 - - 22,382
Stockholders' equity ............. 66,555 434,561 15,636 - 516,752
-------- ---------- ------- --------- ----------
Total liabilities and
stockholders' equity ................. $700,530 $1,104,548 $84,906 $(631,520) $1,258,464
======== ========== ======= ========= ==========
<Caption>
JUNE 30, 2001
----------------------------------------------------------------------------
PARENT GUARANTOR NON-GUARANTOR
COMPANY SUBSIDIARIES SUBSIDIARIES ELIMINATIONS CONSOLIDATED
-------- ------------ ------------- ------------ ------------
(IN THOUSANDS)
Assets:
Current assets ................... $ 10,680 $ 165,653 $29,817 $ - $ 206,150
Net property and equipment ....... 21,418 717,989 54,309 - 793,716
Goodwill, net .................... 3,374 184,379 2,122 - 189,875
Deferred costs, net .............. 17,624 - - - 17,624
Intercompany receivables ......... 664,592 - - (664,592) -
Other assets ..................... 15,303 5,616 - - 20,919
-------- ---------- ------- --------- ----------
Total assets ......................... $732,991 $1,073,637 $86,248 $(664,592) $1,228,284
======== ========== ======= ========= ==========
Liabilities and equity:
Current liabilities .............. $ 35,671 $ 64,679 $15,203 $ $ 115,553
Long-term debt ................... 470,668 15,331 (38) 485,961
Intercompany payables ............ - 608,764 55,828 (664,592) -
Deferred tax liability ........... 127,400 - - - 127,400
Other long-term liabilities ...... 8,240 14,252 - - 22,492
Stockholders' equity ............. 91,012 370,611 15,255 - 476,878
-------- ---------- ------- --------- ----------
Total liabilities and
stockholders' equity ................. $732,991 $1,073,637 $86,248 $(664,592) $1,228,284
======== ========== ======= ========= ==========
</Table>
12
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<Table>
<Caption>
CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 2001
----------------------------------------------------------------------------
PARENT GUARANTOR NON-GUARANTOR
COMPANY SUBSIDIARIES SUBSIDIARIES ELIMINATIONS CONSOLIDATED
-------- ------------ ------------- ------------ ------------
(IN THOUSANDS)
Revenues ............................. $ 493 $236,641 $12,103 $ - $249,237
Costs and expenses:
Direct expenses .................. - 145,650 9,503 - 155,153
Depreciation, depletion and
amortization expense ............. 311 16,508 1,050 - 17,869
General and administrative
expense .......................... 5,328 11,752 804 - 17,884
Interest ......................... 11,401 205 343 - 11,949
Other ............................ - 244 - - 244
-------- -------- ------- ------- --------
Total costs and expenses ............. 17,040 174,359 11,700 - 203,099
-------- -------- ------- ------- --------
Income (loss) before income taxes .... (16,547) 62,282 403 - 46,138
Income tax (expense) benefit ......... 6,147 (23,138) (151) - (17,142)
-------- -------- ------- ------- --------
Net income (loss) before
extraordinary items .................. (10,400) 39,144 252 - 28,996
Extraordinary items, net of tax ...... 180 - - - 180
-------- -------- ------- ------- --------
Net income (loss) .................... $(10,220) $ 39,144 $ 252 $ - $ 29,176
======== ======== ======= ======= ========
<Caption>
THREE MONTHS ENDED SEPTEMBER 30, 2000
----------------------------------------------------------------------------
PARENT GUARANTOR NON-GUARANTOR
COMPANY SUBSIDIARIES SUBSIDIARIES ELIMINATIONS CONSOLIDATED
-------- ------------ ------------- ------------ ------------
(IN THOUSANDS)
Revenues ............................. $ 1,379 $177,073 $13,227 $ - $191,679
Costs and expenses:
Direct expenses .................. - 120,286 10,181 - 130,467
Depreciation, depletion and
amortization expense ............. 304 17,042 965 - 18,311
General and administrative
expense .......................... 3,755 9,780 832 - 14,367
Interest ......................... 15,454 404 253 - 16,111
Other ............................ - 194 - - 194
-------- -------- ------- ------- --------
Total costs and expenses ............. 19,513 147,706 12,231 - 179,450
-------- -------- ------- ------- --------
Income (loss) before income taxes .... (18,134) 29,367 996 - 12,229
Income tax (expense) benefit ......... 6,998 (11,333) (384) - (4,719)
-------- -------- ------- ------- --------
Net income (loss) before
extraordinary items .................. (11,136) 18,034 612 - 7,510
Extraordinary items, net of tax ...... 1,197 - - - 1,197
-------- -------- ------- ------- --------
Net income (loss) .................... $ (9,939) $ 18,034 $ 612 $ - $ 8,707
======== ======== ======= ======= ========
</Table>
13
<Page>
<Table>
<Caption>
CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS
THREE MONTHS ENDED SEPTEMBER 30, 2001
---------------------------------------------------------------------------
PARENT GUARANTOR NON-GUARANTOR
COMPANY SUBSIDIARIES SUBSIDIARIES ELIMINATIONS CONSOLIDATED
------- ------------ ------------- ------------ ------------
(IN THOUSANDS)
Net cash provided by (used in)
operating activities ................. $ 20,612 $ 25,801 $(1,182) $ - $ 45,231
Net cash provided by (used in)
investing activities ................. (4,950) (17,366) (116) - (22,432)
Net cash provided by (used in)
financing activities ................. (19,957) (2,434) (13) - (22,404)
-------- -------- ------- ----- --------
Net increase (decrease) in cash ...... (4,295) 6,001 (1,311) - 395
Cash at beginning of period .......... 1,647 (2,005) 2,456 - 2,098
-------- -------- ------- ----- --------
Cash at end of period ................ $ (2,648) $ 3,996 $ 1,145 $ - $ 2,493
======== ======== ======= ===== ========
<Caption>
THREE MONTHS ENDED SEPTEMBER 30, 2000
---------------------------------------------------------------------------
PARENT GUARANTOR NON-GUARANTOR
COMPANY SUBSIDIARIES SUBSIDIARIES ELIMINATIONS CONSOLIDATED
------- ------------ ------------- ------------ ------------
(IN THOUSANDS)
Net cash provided by (used in)
operating activities ................. $ 509 $ 9,749 $ 2,100 $ - $ 12,358
Net cash provided by (used in)
investing activities ................. (1,973) (10,096) (1,114) - (13,183)
Net cash provided by (used in)
financing activities ................. (104,628) (1,771) (14) - (106,413)
-------- -------- ------- ----- ---------
Net increase (decrease) in cash ...... (106,092) (2,118) 972 - (107,238)
Cash at beginning of period .......... 111,166 (1,246) (47) - 109,873
-------- -------- ------- ----- ---------
Cash at end of period ................ $ 5,074 $ (3,364) $ 925 $ - $ 2,635
======== ======== ======= ===== =========
</Table>
8. GOODWILL AND OTHER INTANGIBLE ASSETS - ADOPTION OF SFAS 142
The Company elected early adoption of Statement of Financial Accounting
Standards No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142") SFAS
142 eliminates the amortization for goodwill and other intangible assets with
indefinite lives. Intangible assets with lives restricted by contractual,
legal, or other means will continue to be amortized over their useful lives.
Goodwill and other intangible assets not subject to amortization are tested
for impairment annually or more frequently if events or changes in
circumstances indicate that the asset might be impaired. SFAS 142 requires a
two-step process for testing impairment. First, the fair value of each
reporting unit is compared to its carrying value to determine whether an
indication of impairment exists. If an impairment is indicated, then the fair
value of the reporting unit's goodwill is determined by
14
<Page>
allocating the unit's fair value to its assets and liabilities (including any
unrecognized intangible assets) as if the reporting unit had been acquired in
a business combination. The amount of impairment for goodwill and other
intangible assets is measured as the excess of its carrying value over its
fair value. The Company will complete its assessment of goodwill impairment
by the end of fiscal 2002, as allowed by SFAS 142.
Intangible assets subject to amortization under SFAS 142 consist of noncompete
agreements. Amortization expense is calculated using the straight-line method
over the period of the agreement, ranging from 3 to 5 years.
The gross carrying amount of noncompete agreements subject to amortization
totaled approximately $8,599,000 and $8,099,000 at September 30, 2001 and June
30, 2001, respectively. Accumulated amortization related to these intangible
assets totaled approximately $5,353,000 and $4,953,000 at September 30, 2001
and June 30, 2001, respectively. Amortization expense for the three months
ended September 30, 2001 and 2000 was approximately $400,000 and $484,000
respectively. Amortization expense for the next 5 fiscal years is estimated
to be $1,535,000, $1,270,000, $512,000, $204,000, and $125,000.
The Company has identified its reporting segments to be well servicing and
contract drilling. The change in the carrying amount of goodwill for the
three months ended September 30, 2001, of 906,000 related solely to goodwill
from a well servicing business acquired during the period.
15
<Page>
The effects of the adoption of SFAS 142 on net income and earnings per share
is as follows:
<Table>
<Caption>
THREE MONTHS ENDED
SEPTEMBER 30,
----------------------------------
2001 2000
------------- -------------
(THOUSANDS, EXCEPT PER SHARE DATA)
Reported net income (loss) before extraordinary gain (loss)................. $ 28,996 $ 7,510
Add back: goodwill amortization............................................. - 2,451
------------- -------------
Adjusted net income (loss) before extraordinary gain (loss)................. 28,996 9,961
Extraordinary gain (loss), net of tax....................................... 180 1,197
------------- -------------
Adjusted net income (loss).............................................. $ 29,176 $ 11,158
============= =============
BASIC EARNINGS (LOSS) PER SHARE:
Reported net income (loss) before extraordinary gain (loss)............... $ 0.29 $ 0.08
Add back: goodwill amortization........................................... - .02
------------- -------------
Adjusted net income (loss) before extraordinary gain (loss)............... 0.29 0.10
Extraordinary gain (loss), net of tax..................................... - 0.01
------------- -------------
Adjusted net income (loss)................................................ $ 0.29 $ 0.11
============= =============
DILUTED EARNINGS (LOSS) PER SHARE:
Reported net income (loss) before extraordinary gain (loss)............. $ 0.28 $ 0.08
Add back: goodwill amortization......................................... - .02
------------- -------------
Adjusted net income (loss) before extraordinary gain (loss)............. 0.28 0.10
Extraordinary gain (loss), net of tax................................... - 0.01
------------- -------------
Adjusted net income (loss).............................................. $ 0.28 $ 0.11
============= =============
</Table>
16
<Page>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
NOTE REGARDING FORWARD-LOOKING STATEMENTS
The statements in this document that relate to matters that are not historical
facts are "forward-looking statements" within the meaning of Section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.
When used in this document and the documents incorporated by reference, words
such as "anticipate," "believe," "expect," "plan," "intend," "estimate,"
"project," "will," "could," "may," "predict" and similar expressions are
intended to identify forward-looking statements. Further events and actual
results may differ materially from the results set forth in or implied in the
forward-looking statements. Factors that might cause such a difference include:
- fluctuations in world-wide prices and demand for oil and natural gas;
- fluctuations in the level of oil and natural gas exploration and
development activities;
- fluctuations in the demand for well servicing, contract drilling and
ancillary oilfield services;
- the existence of competitors, technological changes and developments
in the industry;
- the existence of operating risks inherent in well servicing, contract
drilling and ancillary oilfield services; and
- general economic conditions, the existence of regulatory
uncertainties, the possibility of political instability in any of the
countries in which the Company does business, in addition to the other
matters discussed herein.
The following discussion provides information to assist in the understanding of
the Company's financial condition and results of operations. It should be read
in conjunction with the consolidated financial statements and related notes
appearing elsewhere in this report.
RESULTS OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 2001 VERSUS THREE MONTHS ENDED SEPTEMBER 30,
2000
The Company's revenue for the first quarter of fiscal 2002 increased
$57,558,000, or 30.0%, to $249,237,000 from $191,679,000 in the first quarter
of fiscal 2001. The increase in the current period reflects higher activity
levels and improved rates. The Company's net income for the first quarter of
fiscal 2002 totaled $29,176,000, or $0.28 per dilutive share, versus a net
income of $8,707,000, or $0.09 per dilutive share, for the prior year period.
17
<Page>
OPERATING REVENUES
WELL SERVICING. Well servicing revenues for the quarter ended September 30, 2001
increased $45,936,000, or 27.6%, to $212,501,000 from $166,565,000 for the three
months ended September 30, 2000. The increase in revenues was primarily due to
improved equipment utilization and higher rig, fluid hauling and ancillary
equipment rates.
CONTRACT DRILLING. Contract drilling revenues for the quarter ended September
30, 2001 increased $11,491,000, or 51.9%, to $33,636,000 from $22,145,000 for
the three months ended September 30, 2000. The increase in revenues was
primarily due to improved equipment utilization and higher rig rates.
OPERATING EXPENSES
WELL SERVICING. Well servicing expenses for the quarter ended September 30,
2001 increased $21,094,000, or 18.9%, to $132,780,000 from $111,686,000 for
the three months ended September 30, 2000. The increase was primarily due to
a higher level of activity and increased wages. Well servicing expenses as a
percentage of well servicing revenue decreased to 62.5% for the three months
ended September 30, 2001 from 67.1% for the three months ended September 30,
2000.
CONTRACT DRILLING. Contract drilling expenses for the quarter ended September
30, 2001 increased $3,730,000, or 21.4%, to $21,188,000 from $17,458,000 for
the three months ended September 30, 2000. The increase was primarily due to
higher costs associated with increased operating activity. Contract drilling
expenses as a percentage of contract drilling revenues decreased to 63.0% for
the three months ended September 30, 2001 from 78.8% for the three months ended
September 30, 2000.
DEPRECIATION, DEPLETION AND AMORTIZATION EXPENSE
The Company's depreciation, depletion and amortization expense for the
quarter ended September 30, 2001 decreased $442,000, or 2.4%, to $17,869,000
from $18,311,000 for the three months ended September 30, 2000. The decrease
is primarily due to the adoption of SFAS 142 (See Note 8 to Financial
Statements) partially offset by increased depreciation due to capital
expenditures during the past twelve months.
GENERAL AND ADMINISTRATIVE EXPENSES
The Company's general and administrative expenses for the quarter ended
September 30, 2001 increased $3,517,000, or 24.5%, to $17,884,000 from
$14,367,000 for the three months ended September 30, 2000. The increase was due
to slightly higher administrative costs related to growth of the Company's
operations. Despite the increased costs, general and administrative expenses as
a percentage of revenues decreased to 7.2% for the three months ended September
30, 2001 from 7.5% for the three months ended September 30, 2000.
INTEREST EXPENSE
The Company's interest expense for the quarter ended September 30, 2001
decreased $4,162,000, or 25.8%, to $11,949,000 from $16,111,000 for the three
months ended September 30, 2000. The
18
<Page>
decrease was primarily due to a significant reduction in the Company's
long-term debt using operating cash flow and, to a lesser extent, lower
interest rates. Included in the interest expense was the amortization of debt
issuance costs of $739,000 and $1,222,000 for the three months ended
September 30, 2001 and 2000, respectively.
BAD DEBT EXPENSE
The Company's bad debt expense for the quarter ended September 30, 2001
increased $50,000, or 25.8%, to $244,000 from $194,000 for the three months
ended September 30, 2000. The increase was largely due to growth in the
Company's accounts receivable in the preceding twelve months.
EXTRAORDINARY GAIN (LOSS)
During the three months ended September 30, 2001, the Company repurchased
$53,277,000 of its long-term debt at various discounts and premiums to par
value and expensed related unamortized debt issuance costs, all of which
resulted in an after-tax extraordinary gain of $180,000. During the three
months ended September 30, 2000, the Company repurchased $10,996,000 of its
long term debt which resulted in an after-tax gain of $1,197,000.
INCOME TAXES
The Company's income tax expense for the quarter ended September 30, 2001
increased $12,423,000 to $17,142,000 from $4,719,000 for the three months
ended September 30, 2000. The increase in income tax expense is due to the
increase in pretax income. The Company's effective tax rate for the three
months ended September 30, 2001 and 2000 was 37.2% and 38.6%, respectively.
The decrease in the effective rate is primarily due to the elimination of
goodwill amortization in accordance with SFAS 142. The effective tax rates
vary from the statutory rate of 35% because of the disallowance of certain
goodwill amortization (for the three months ended September 30, 2000), other
non-deductible expenses and state and local taxes.
LIQUIDITY AND CAPITAL RESOURCES
The Company has historically funded its operations, acquisitions, capital
expenditures and working capital requirements using cash flow from
operations, bank borrowings and the issuance of equity and long-term debt.
The Company believes that the current reserves of cash and cash equivalents,
access to our existing credit lines, access to capital markets and internally
generated cash flow from operations are sufficient to finance the cash
requirements of its current and future operations.
As of September 30, 2001, the Company had working capital (excluding the
current portion of long-term debt) of approximately $108,996,000, which
includes cash and cash equivalents of approximately $2,493,000, as compared
to working capital (excluding the current portion of long-term debt) of
approximately $98,543,000, which includes and cash and cash equivalents of
approximately $2,098,000, as of June 30, 2001. The increase in working
capital is primarily due to continuing improvement in operating results and
timing differences related to cash receipts and disbursements partially
offset by the use of cash to repay long-term debt during the three month
period ended September 30, 2001.
19
<Page>
CAPITAL EXPENDITURES
Capital expenditures for fiscal 2002 will be directed toward selectively
refurbishing our assets as business conditions warrant. The Company will
continue to evaluate opportunities to acquire or divest assets or businesses
to enhance the Company's primary operations. Such capital expenditures,
acquisitions and divestitures are at the discretion of the Company and will
depend on management's view of market conditions as well as other factors.
LONG-TERM DEBT
SENIOR CREDIT FACILITY
As of September 30, 2001, the Company had a senior credit facility (the "Senior
Credit Facility") with a syndicate of banks led by PNC Bank, N.A. which
consisted of a $100,000,000 revolving loan facility. In addition, up to
$20,000,000 of letters of credit can be issued under the Senior Credit Facility,
but any outstanding letters of credit reduce the borrowing availability under
the revolving loan facility. The commitment to make revolving loans will reduce
to $75,000,000 on September 14, 2002. The revolving loan commitment will
terminate on September 14, 2003, and all revolving loans must be paid on or
before that date. As of September 30, 2001, approximately $33,000,000 was drawn
under the revolving loan facility and approximately $12,000,000 of letters of
credit related to workman's compensation insurance were outstanding.
The revolving loan bears interest based upon, at the Company's option, the prime
rate plus a variable margin of 0.75% to 2.00% or a Eurodollar rate plus a
variable margin of 2.25% to 3.50%. The Senior Credit Facility has customary
affirmative and negative covenants including a maximum debt to capitalization
ratio, a minimum interest coverage ratio, a maximum senior leverage ratio, a
minimum net worth and minimum EBITDA as well as restrictions on capital
expenditures, acquisitions and dispositions.
8 3/8% SENIOR NOTES
On March 6, 2001, the Company completed a private placement of $175,000,000 of
8 3/8% Senior Notes due 2008 (the "8 3/8% Senior Notes"). The cash proceeds from
the private placement, net of fees and expenses, were used to repay all of the
remaining balance of the Tranche B term loan under the Senior Credit Facility,
and a portion of the revolving loan facility under the Senior Credit Facility.
The 8 3/8% Senior Notes are subordinate to the Company's senior indebtedness
which includes borrowings under the Senior Credit Facility and the Dawson 9 3/8%
Senior Notes.
14% SENIOR SUBORDINATED NOTES
On January 22, 1999, the Company completed the private placement of 150,000
units (the "Units") consisting of $150,000,000 of 14% Senior Subordinated Notes
due 2009 (the "14% Senior Subordinated Notes") and 150,000 warrants to purchase
(as subsequently adjusted) 2,173,433 shares of the Company's Common Stock at an
exercise price of $4.88125 per share (the "Unit Warrants"). The net cash
proceeds from the private placement were used to repay substantially all of the
remaining $148,600,000 principal amount (plus accrued interest) owed under the
Company's bridge loan facility arranged in connection with the acquisition of
Dawson
20
<Page>
Production Services, Inc. ("Dawson"). The 14% Senior Subordinated Notes are
subordinate to the Company's senior indebtedness which includes borrowings
under the Senior Credit Facility, the Dawson 9 3/8% Senior Notes and the 8 3/8%
Senior Notes. The Unit Warrants have separated from the 14% Senior Subordinated
Notes and became exercisable on January 25, 2000. At September 30, 2001,
$132,903,000 principal amount of the 14% Senior Subordinated Notes remained
outstanding. As of September 30, 2001, 63,500 Unit Warrants had been exercised
leaving 86,500 Unit Warrants outstanding.
5% CONVERTIBLE SUBORDINATED NOTES
In late September and early October 1997, the Company completed a private
placement of $216,000,000 of 5% Convertible Subordinated Notes due 2004 (the "5%
Convertible Subordinated Notes"). The 5% Convertible Subordinated Notes are
subordinate to the Company's senior indebtedness which includes borrowings under
the Senior Credit Facility, the 14% Senior Subordinated Notes, the Dawson 9 3/8%
Senior Notes, and the 8 3/8% Senior Notes. The 5% Convertible Subordinated Notes
are convertible, at the holder's option, into shares of the Company's common
stock at a conversion price of $38.50 per share, subject to certain adjustments.
During the quarter ended September 30, 2001, the Company repurchased (and
canceled) $46,493,000 principal amount of the 5% Convertible Subordinated Notes,
leaving $111,933,000 principal amount of the 5% Convertible Subordinated Notes
outstanding at September 30, 2001.
DAWSON 9 3/8% SENIOR NOTES
In February 1997, Dawson issued $140,000,000 9 3/8% Senior Notes due 2007 (the
"Dawson 9 3/8% Senior Notes"). As a result of the Dawson acquisition, the
Company assumed Dawson's obligations under the Dawson 9 3/8% Senior Notes which
were equally and ratably secured with the obligations under the Senior Credit
Facility. As a result of mandatory tender offer made in connection with the
Dawson acquisition, and subsequent repurchases (and cancellations) by the
Company, as of September 30, 2001, $246,000 principal amount of the Dawson
9 3/8% Senior Notes remained outstanding.
Recently the Financial Accounting Standards Board, ("FASB") issued Statement of
Financial Accounting Standards No. 143, "Accounting for Asset Retirement
Obligations" ("SFAS 143"), and Statement of Financial Accounting Standards No.
144, "Accounting for the Impairment of Disposal of Long-Lived Assets" ("SFAS
144"). SFAS 143 establishes requirements for the accounting for removal costs
associated with asset retirements and SFAS 144 addresses financial accounting
and reporting for the impairment or disposal of long-lived assets. SFAS 143 is
effective for fiscal years beginning after June 15, 2002, with earlier adoption
encouraged, and SFAS 144 is effective for fiscal years beginning after December
15, 2001 and interim periods within those fiscal years. The Company is currently
assessing the impact of these standards on its consolidated financial
statements.
21
<Page>
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Special Note: Certain statements set forth below under this caption constitute
"forward-looking statements". See "Special Note Regarding Forward-Looking
Statements" for additional factors relating to such statements.
The primary objective of the following information is to provide forward-looking
quantitative and qualitative information about the Company's potential exposure
to market risk. The term "market risk" refers to the risk of loss arising from
adverse changes in foreign currency exchange, interest rates and oil and natural
gas prices. The disclosures are not meant to be precise indicators of expected
future losses, but rather indicators of reasonably possible losses. This
forward-looking information provides indicators of how the Company views and
manages its ongoing market risk exposures.
INTEREST RATE RISK
At September 30, 2001, Key had long-term debt outstanding of $471,494,000. Of
this amount $416,067,000, or 88.2%, bears interest at fixed rates as follows:
<Table>
<Caption>
Balance at
9/30/01
-----------
(in thousands)
8 3/8% Senior Notes Due 2008............................ $175,000
5% Convertible Subordinated Notes Due 2004.............. 111,933
14% Senior Subordinated Notes Due 2009.................. 128,099
Dawson 9 3/8% Senior Notes Due 2007..................... 246
Other (rates generally ranging from 8.0% to 8.5%)....... 789
-----------
$416,067
===========
</Table>
The remaining $55,427,000 of debt outstanding as of September 30, 2001 bears
interest at floating rates which averaged approximately 7.65% at September 30,
2001. A 10% increase in short-term interest rates on the floating-rate debt
outstanding at September 30, 2001 would equal approximately 77 basis points.
Such an increase in interest rates would increase Key's fiscal 2002 interest
expense by approximately $400,000 assuming borrowed amounts remain outstanding.
The above sensitivity analysis for interest rate risk excludes accounts
receivable, accounts payable and accrued liabilities because of the short-term
maturity of such instruments.
FOREIGN CURRENCY RISK
Key's net assets, net earnings and cash flows from its Argentina subsidiaries
are currently not exposed to foreign currency risk, as Argentina's currency is
tied to the U.S. dollar. Key's net assets, net earnings and cash flows from its
Canadian subsidiary are based on the U.S. dollar equivalent of such amounts
measured in Canadian dollars. Assets and liabilities of the Canadian operations
are translated to U.S. dollars using the applicable exchange rate as of the end
of a reporting period. Revenues, expenses and cash flow are translated using the
average exchange rate during the reporting period.
22
<Page>
A 10% change in the Canadian-to-U.S. Dollar exchange rate would not be material
to the net assets, net earnings or cash flows of Key.
COMMODITY PRICE RISK
Key's major market risk exposure for its oil and natural gas production
operations is in the pricing applicable to its oil and natural gas sales.
Realized pricing is primarily driven by the prevailing worldwide price for
crude oil and spot market prices for natural gas. Pricing for oil and natural
gas production has been volatile and unpredictable for several years.
The Company periodically hedges a portion of its oil and natural gas production
through collar and option agreements. The purpose of the hedges is to provide a
measure of stability in the volatile environment of oil and natural gas prices
and to manage exposure to commodity price risk under existing sales commitments.
The Company's risk management objective is to lock in a range of pricing for
expected production volumes. This allows the Company to forecast future earnings
within a predictable range. The Company meets this objective by entering into
collar and option arrangements which allow for acceptable cap and floor prices.
As of September 30, 2001, Key had oil and natural gas price collars and put
options in place, as detailed in the following table. The total fiscal 2002
hedged oil and natural gas volumes represent 36% and 29%, respectively, of
expected 2001 calendar year total production. A 10% variation in the market
price of oil or natural gas from their levels at September 30, 2001 would
have no material impact on the Company's net assets, net earnings or cash
flows (as derived from the commodity option contracts).
The following table sets forth the future volumes hedged by year and the
weighted-average strike price of the option contracts at September 30, 2001:
<Table>
<Caption>
MONTHLY VOLUMES STRIKE PRICE
--------------- PER BBL/MMBTU
OIL NATURAL GAS -------------
(BBLS) (MMBTUS) TERM FLOOR CAP FAIR VALUE
------ -------- ---- ----- --- ----------
At September 30,2001
Oil Collar............. 5,000 Mar 2001-Feb 2002 $19.70 $23.70 $(25,000)
Oil Put................ 5,000 Mar 2002-Feb 2003 22.00 - 107,000
Natural Gas Collar..... 40,000 Mar 2001-Feb 2002 2.40 2.91 5,000
Natural Gas Put........ 75,000 Mar 2002-Feb 2003 3.00 - 942,000
</Table>
(The strike prices for the oil collar and put are based on the NYMEX spot
price for West Texas Intermediate; the strike prices for the natural gas
collar are based on the Inside FERC-West Texas Waha spot price; the strike
price for the natural gas put is based on the Inside FERC-El Paso Permian
spot price.)
23
<Page>
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
*10.1 Ninth Amendment to the Second Amended and Restated Credit
Agreement, dated as of June 6, 1997, as amended and restated through
September 14, 1998 and as further amended, among Key Energy Group, Inc.
(now known as Key Energy Services, Inc.), the several Lenders from time
to time parties thereto, PNC Bank, National Association, as
Administrative Agent, Norwest Bank Texas, N.A., as Collateral Agent and
PNC Capital Markets, Inc., as Arranger.
(b) No reports on Form 8-K were filed during the quarter ended
September 30, 2001.
------------------
* filed herewith.
24
<Page>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
KEY ENERGY SERVICES, INC.
Dated: November 14, 2001 By: /s/ FRANCIS D. JOHN
-------------------------------------
Francis D. John
PRESIDENT AND CHIEF EXECUTIVE OFFICER
Dated: November 14, 2001 By: /s/ THOMAS K. GRUNDMAN
-------------------------------------
Thomas K. Grundman
CHIEF FINANCIAL OFFICER AND
CHIEF ACCOUNTING OFFICER
25