Introduction

National Oilwell Varco, Inc. (the "Company") is a worldwide leader in the design, manufacture and sale of equipment and components used in oil and gas drilling and production, the provision of oilfield services, and supply chain integration services to the upstream oil and gas industry.

Unless indicated otherwise, results of operations data are presented in accordance with accounting principles generally accepted in the United States ("GAAP"). In an effort to provide investors with additional information regarding our results of operations, certain non-GAAP financial measures, including operating profit excluding other costs, operating profit percentage excluding other costs and diluted earnings per share excluding other costs, are provided. See Non-GAAP Financial Measures and Reconciliations in Results of Operations for an explanation of our use of non-GAAP financial measures and reconciliations to their corresponding measures calculated in accordance with GAAP.

Rig Technology

Our Rig Technology segment designs, manufactures, sells and services complete systems for the drilling, completion, and servicing of oil and gas wells. The segment offers a comprehensive line of highly-engineered equipment that automates complex well construction and management operations, such as offshore and onshore drilling rigs; derricks; pipe lifting, racking, rotating and assembly systems; rig instrumentation systems; coiled tubing equipment and pressure pumping units; well workover rigs; wireline winches; wireline trucks; cranes; and turret mooring systems and other products for floating production, storage and offloading vessels ("FPSOs") and other offshore vessels and terminals. Demand for Rig Technology products is primarily dependent on capital spending plans by drilling contractors, oilfield service companies, and oil and gas companies; and secondarily on the overall level of oilfield drilling activity, which drives demand for spare parts for the segment's large installed base of equipment. We have made strategic acquisitions and other investments during the past several years in an effort to expand our product offering and our global manufacturing capabilities, including adding additional operations in the United States, Canada, Norway, Denmark, the United Kingdom, Brazil, China, Belarus, India, Russia, the Netherlands, Singapore, and South Korea.

Petroleum Services & Supplies

Our Petroleum Services & Supplies segment provides a variety of consumable goods and services used to drill, complete, remediate and workover oil and gas wells and service drill pipe, tubing, casing, flowlines and other oilfield tubular goods. The segment manufactures, rents and sells a variety of products and equipment used to perform drilling operations, including drill pipe, wired drill pipe, transfer pumps, solids control systems, drilling motors, drilling fluids, drill bits, reamers and other downhole tools, and mud pump consumables. Demand for these services and supplies is determined principally by the level of oilfield drilling and workover activity by drilling contractors, major and independent oil and gas companies, and national oil companies. Oilfield tubular services include the provision of inspection and internal coating services and equipment for drill pipe, line pipe, tubing, casing and pipelines; and the design, manufacture and sale of coiled tubing pipe and advanced fiberglass composite pipe for application in highly corrosive environments. The segment sells its tubular goods and services to oil and gas companies; drilling contractors; pipe distributors, processors and manufacturers; and pipeline operators. This segment has benefited from several strategic acquisitions and other investments completed during the past few years, including additional operations in the United States, Canada, the United Kingdom, Brazil, China, Kazakhstan, Mexico, Russia, Argentina, India, Bolivia, the Netherlands, Singapore, Malaysia, Vietnam, Oman, and the United Arab Emirates.

Our Distribution & Transmission segment provides maintenance, repair and operating supplies ("MRO") and spare parts to drill site and production locations worldwide. In addition to its comprehensive network of field locations supporting land drilling operations throughout North America, the segment supports major offshore operations for all the major oil and gas producing regions throughout the world. The segment employs advanced information technologies to provide complete procurement, inventory management and logistics services to its customers around the globe. The segment also has a global reach in oil and gas, waste water treatment, chemical, food and beverage, paper and pulp, mining, agriculture, and a variety of municipal markets and is a leading producer of water transmission pipe and fabricated steel products, such as specialized materials and products used in infrastructure projects. Demand for the segment's services is determined primarily by the level of drilling, servicing, and oil and gas production activities and is also influenced by the domestic economy in general, housing starts and government policies. This segment has benefited from several strategic acquisitions and other investments completed during the past few years, including additional operations in the United States, Canada, the United Kingdom, Kazakhstan, Singapore, Russia, and Malaysia.

Critical Accounting Estimates

In our annual report on Form 10-K for the year ended December 31, 2011, we identified our most critical accounting policies. In preparing the financial statements, we make assumptions, estimates and judgments that affect the amounts reported. We periodically evaluate our estimates and judgments that are most critical in nature which are related to revenue recognition under long-term construction contracts; allowance for doubtful accounts; inventory reserves; impairments of long-lived assets (excluding goodwill and other indefinite-lived intangible assets); goodwill and other indefinite-lived intangible assets; service and product warranties; and income taxes. Our estimates are based on historical experience and on our future expectations that we believe are reasonable. The combination of these factors forms the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results are likely to differ from our current estimates and those differences may be material.

For its third quarter ended September 30, 2012, the Company generated $612 million in net income attributable to Company, or $1.43 per fully diluted share, on $5.3 billion in revenue. Compared to the second quarter of 2012, revenue increased $585 million or 12 percent and net income attributable to Company increased $7 million. Compared to the third quarter of 2011, revenue increased $1.6 billion or 42 percent and net income attributable to Company increased $80 million or 15 percent.

The third quarter of 2012 included pre-tax transaction charges of $57 million, the second quarter of 2012 included pre-tax transaction charges of $28 million, and the third quarter of 2011 included pre-tax transaction charges of $6 million. Excluding transaction charges from all periods, third quarter 2012 earnings were $1.52 per fully diluted share, compared to $1.46 per fully diluted share in the second quarter of 2012 and $1.26 per fully diluted share in the third quarter of 2011.

Operating profit excluding transaction charges was $946 million or 17.8 percent of sales in the third quarter of 2012, compared to $907 million or 19.2 percent of sales in the second quarter of 2012, and $778 million or 20.8 percent of sales in the third quarter of 2011. Third quarter 2012 results include full or partial quarter results for several businesses acquired since the beginning of the year, including three lower-margin distribution businesses, which resulted in lower margins for the third quarter of 2012 both sequentially and year-over-year. Operating leverage or flow-through (the change in operating profit divided by the change in revenue) was seven percent on the sequential revenue increase, and 11 percent on the year-over-year third quarter sales increase.

Oil & Gas Equipment and Services Market

Worldwide developed economies turned down in late 2008 as looming housing-related asset write-downs at major financial institutions paralyzed credit markets and sparked a serious global banking crisis. Major central banks responded vigorously through 2009, but a credit-driven worldwide economic recession developed nonetheless. Developed economies struggled to recover throughout 2010 and 2011, facing additional economic weakness related to potential sovereign debt defaults in Europe. As a result, commodity prices, including oil and gas prices, have been volatile. After rising steadily for six years to peak at around $140 per barrel (West Texas Intermediate Crude Prices) earlier in 2008, oil prices collapsed back to average $43 per barrel during the first quarter of 2009, but have slowly recovered into the $100 per barrel range by mid-2011 where they held relatively steady since (the third quarter of 2012 dipped slightly to average $92 per barrel). After trading in the range of $6 to $9 an mmbtu from 2004 to 2008, North American gas prices declined to average $3.17 per mmbtu in the third quarter of 2009. Gas prices recovered modestly, trading up above $5 six months later, but then slowly settled into the $3 to $4 per mmbtu through 2011 before turning down sharply in early 2012 to the $2 range (third quarter 2012 recovered slightly to average $2.88 per mmbtu). The recent gas price collapse appears to be a direct result of rising gas supply out of unconventional shale reservoir developments across North America, including gas associated with liquids production from shales.

The steadily rising oil and gas prices seen between 2003 and 2008 led to high levels of exploration and development drilling in many oil and gas basins around the globe by 2008, but activity slowed sharply in 2009 with lower oil and gas prices and tightening credit availability. Strengthening oil prices since then have led to steadily rising oil-drilling activity over the past two years.

The count of rigs actively drilling in the U.S. as measured by Baker Hughes (a good measure of the level of oilfield activity and spending) peaked at 2,031 rigs in September 2008, but decreased to a low of 876 in June, 2009. U.S. rig count increased steadily to 2,026 by late 2011, but began to decline with lower gas prices to average 1,906 rigs during the third quarter of 2012 (and had fallen to 1,826 by late October 2012). Many oil and gas operators reliant on external financing to fund their drilling programs significantly curtailed their drilling activity in 2009, but drilling recovered across North America as gas prices improved. Recently low gas prices have caused operators to trim drilling, driving the U.S. gas rig count down 42 percent to 505 in the past year. However, with high oil prices many redirected drilling efforts towards unconventional shale plays targeting oil, rather than gas. Oil drilling has risen to 74 percent of the total domestic drilling effort and with oil drilling above 1,400 rigs, it is at the highest levels in the U.S. since the early 1980's.

Most international activity is driven by oil exploration and production by national oil companies, which has historically been less susceptible to short-term commodity price swings, but the international rig count exhibited modest declines nonetheless, falling from its September 2008 peak of 1,108 to 947 in August 2009. Recently international drilling rebounded due to high oil prices, climbing back to 1,285 in June 2012 before falling back to 1,254 in September.

The recent economic decline beginning in late 2008 followed an extended period of high drilling activity which fueled strong demand for oilfield services between 2003 and 2008. Incremental drilling activity through the upswing shifted toward harsh environments, employing increasingly sophisticated technology to find and produce reserves. Higher utilization of drilling rigs tested the capability of the world's fleet of rigs, much of which is old and of limited capability. Technology has advanced significantly since most of the existing rig fleet was built. The industry invested little during the late 1980's and 1990's on new drilling equipment, but drilling technology progressed steadily nonetheless, as the Company and its competitors continued to invest in new and better ways of drilling. As a consequence, the safety, reliability, and efficiency of new, modern rigs surpass the performance of most of the older rigs at work today. Drilling rigs are now being pushed to drill deeper wells, more complex wells, highly deviated wells and horizontal wells, tasks which require larger rigs with more capabilities. The drilling process effectively consumes the mechanical components of a rig, which wear out and need periodic repair or replacement. This process was accelerated by very high rig utilization and wellbore complexity. Drilling consumes rigs; more complex and challenging drilling consumes rigs faster.

The industry responded by launching many new rig construction projects since 2005, to 1.) retool the existing fleet of jackup rigs (according to Offshore Data Services, nearly 70 percent of the existing 476 jackup rigs are more than 25 years old); 2.) replace older mechanical and DC electric land rigs with improved AC power, electronic controls, automatic pipe handling and rapid rigup and rigdown technology; and 3.) build out additional deepwater floating drilling rigs, including semisubmersibles and drillships, to employ recent advancements in deepwater drilling to exploit unexplored deepwater basins. We believe that the newer rigs offer considerably higher efficiency, safety, and capability, and that many will effectively replace a portion of the existing fleet.

As a result of these trends the Company's Rig Technology segment grew its backlog of capital equipment orders from $0.9 billion at June 30, 2005, to $11.8 billion at September 30, 2008. However, as a result of the credit crisis and slowing drilling activity, orders declined below amounts flowing out of backlog as revenue, causing the backlog to decline to $4.9 billion by June 30, 2010. The backlog increased steadily since as drillers began ordering more than the Company shipped out of backlog, and finished the third quarter of 2012 at $11.7 billion. Approximately $1.9 billion of these orders are scheduled to flow out as revenue during the remainder of 2012; $7.1 billion are scheduled to flow out as revenue during 2013; and the balance thereafter. The land rig backlog comprised 13 percent and equipment destined for offshore operations comprised 87 percent of the total backlog as of September 30, 2012. Equipment destined for international markets totaled 95 percent of the backlog.

Segment Performance

The Rig Technology segment generated $2.5 billion in revenues and $598 million in operating profit (which included $12 million in other costs related to acquisitions) or 23.5 percent of sales during the third quarter of 2012. Compared to the prior quarter revenues increased $142 million or six percent, and operating profit increased $44 million. Operating leverage or flow-through was 31 percent from the second quarter to the third quarter. Compared to the third quarter of 2011 segment revenues grew $577 million or 29 percent, and operating profit increased $75 million. Year-over-year operating leverage or flow-through was 13 percent. Margins have moved down steadily since mid-2010 due to an adverse mix shift in the segment, as well as the addition of lower-margin acquisitions. The mix shift arises from offshore projects contracted at high prices in 2007 and 2008, which were subsequently manufactured in low cost environments in 2009 and 2010, resulting in high margins for the group which peaked in the third quarter of 2010. As these projects have been completed and replaced with lower priced projects, margins have gradually declined. Revenue out of backlog increased five percent sequentially and increased 36 percent year-over-year. Non-backlog revenue, which is predominantly aftermarket spares and services, increased eight percent sequentially and increased 13 percent from the third quarter of 2011. Orders for seven deepwater floating rig equipment packages, including five for Brazil, and one jackup rig package contributed to total order additions to backlog of $2.3 billion during the third quarter. Interest in offshore rig construction has remained strong as announced dayrates for deepwater offshore rigs are increasing, rig building costs have stabilized at attractive levels, and financing appears to be available for most established drillers. The Company continues to tender additional new offshore rig projects for Petrobras to shipyards and drilling contractors, which are to be built in Brazil. However, further potential bookings of any additional offshore rigs for Brazil may continue to be subject to delays. The segment's well intervention and stimulation product sales increased slightly sequentially, as the full-quarter contribution from an acquisition was more than offset by falling pressure pumping equipment demand.

The Petroleum Services & Supplies segment generated $1.7 billion in revenue and $383 million in operating profit, or 22.3 percent of sales, for the third quarter of 2012. Compared to the prior quarter revenue decreased $59 million or three percent, and operating leverage or flow-through was 12 percent. Sequentially lower sales of drill pipe accounted for most of the segment's third quarter revenue decrease. Additionally, though, lower sales of composite pipe, coiled tubing and conductor pipe connectors were partly offset

The Distribution & Transmission segment generated $1.3 billion in revenue and $42 million in operating profit (which included $36 million in other costs related to acquisitions) or 3.2 percent of sales during the third quarter of 2012. Revenues grew $535 million or 69 percent from the second quarter of 2012. Compared to the third quarter of 2011 revenues increased $835 million or 174 percent. Third quarter revenue growth in both comparisons is due primarily to the acquisitions of Wilson and C. E. Franklin, made during the second and third quarters of 2012, and Ameron's Water Transmission and Infrastructure Products, made during the fourth quarter of 2011. Approximately 84 percent of the group's third quarter sales were into North American markets and 16 percent into international markets.

Outlook

Following the credit market downturn, global recession, and lower commodity prices of 2009, we saw signs of stabilization and recovery in many of our markets in 2010 and into 2011, led by higher drilling activity in North America and slowly improving international drilling activity. Order levels for new deepwater drilling rigs have rebounded sharply, and the Rig Technology segment continues to experience a high level of interest as dayrates are improving for deepwater offshore rigs. While lower pricing led to declines in Rig Technology margins since mid-2010, we expect margins to stabilize in the mid-20 percent range. Recently won offshore rig construction orders at higher margins flowing in are likely to be offset by lower-margin contributions from recent subsea production equipment acquisitions, and a softening outlook for land drilling, workover and pressure pumping equipment markets in North America, in view of low gas and natural gas liquids prices.

Our outlook for the Company's Petroleum Services & Supplies segment and Distribution & Transmission segment remains closely tied to the rig count, particularly in North America. The third quarter saw domestic rig counts continue to decline, resulting in a U.S. rig count down 9 percent since the start of the year, and a very weak seasonal recovery in Canada. As a result, pricing and volumes are beginning to come under pressure as pressure pumpers, drilling contractors and oil companies reduce operating and capital expenditures. Additionally, economic weakness may pressure oil prices, which could lead to further activity declines, particularly among North American operators which may rely on cash flows from gas production and/or external financing to fund their drilling operations. In contrast, activity generally seems to be continuing to increase in most international markets outside North America, the modest third quarter international rig count decline notwithstanding.

The Company believes it is well positioned, and should benefit from its strong balance sheet and capitalization, access to credit, and a high level of contracted orders. The Company has a long history of cost-control and downsizing in response to slowing market conditions, and of executing strategic acquisitions during difficult periods. Such a period may present opportunities to the Company to effect new organic growth and acquisition initiatives, and we remain hopeful that a downturn will generate new opportunities.

Still the recovery of the world economy continues to move forward with a great deal of uncertainty as the world watches the sovereign debt crises in several European countries unfold, market turbulence and general global economic worries. If such global economic uncertainties develop adversely, world oil and gas prices could be impacted, which in turn could negatively impact the worldwide rig count and the Company's future financial results.

The Company's results are dependent on, among other things, the level of worldwide oil and gas drilling, well remediation activity, the prices of crude oil and natural gas, capital spending by other oilfield service companies and drilling contractors, and worldwide oil and gas inventory levels. Key industry indicators for the third quarter of 2012 and 2011, and the second quarter of 2012 include the following:

                                                                          %             %
                                                                       3Q12 v        3Q12 v
                                    3Q12*       3Q11*       2Q12*       3Q11          2Q12
    Active Drilling Rigs:
    U.S.                             1,906       1,945       1,970        (2.0 %)       (3.2 %)
    Canada                             326         443         173       (26.4 %)       88.4 %
    International                    1,259       1,169       1,229         7.7 %         2.4 %

    Worldwide                        3,491       3,557       3,372        (1.9 %)        3.5 %

    West Texas Intermediate
    Crude Prices (per barrel)      $ 92.18     $ 89.82     $ 93.42         2.6 %        (1.3 %)
    Natural Gas Prices ($/mmbtu)   $  2.88     $  4.12     $  2.28       (30.1 %)       26.3 %

* Averages for the quarters indicated. See sources below.

The following table details the U.S., Canadian, and international rig activity and West Texas Intermediate Oil prices for the past nine quarters ended September 30, 2012 on a quarterly basis:

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Source: Rig count: Baker Hughes, Inc. (www.bakerhughes.com); West Texas Intermediate Crude and Natural Gas Prices: Department of Energy, Energy Information Administration (www.eia.doe.gov).

U.S. rig activity at October 26, 2012 was 1,826 rigs compared to the third quarter average of 1,906 rigs, decreasing 4%. The price for West Texas Intermediate Crude was at $86.28 per barrel at October 26, 2012, decreasing 6% from the third quarter average. The price for natural gas was at $3.40 per mmbtu at October 26, 2012, increasing 18% from the third quarter average.

Results of Operations

Operating results by segment are as follows (in millions):



                                           Three Months Ended           Nine Months Ended
                                              September 30,               September 30,
                                           2012           2011          2012          2011
 Revenue:
 Rig Technology                          $   2,547       $ 1,970      $  7,211      $  5,472
 Petroleum Services & Supplies               1,717         1,460         5,197         4,084
 Distribution & Transmission                 1,315           480         2,659         1,313
 Eliminations                                 (260 )        (170 )        (711 )        (470 )

 Total Revenue                           $   5,319       $ 3,740      $ 14,356      $ 10,399

 Operating Profit:
 Rig Technology                          $     598       $   523      $  1,699      $  1,456
 Petroleum Services & Supplies                 383           298         1,161           777
 Distribution & Transmission                    42            37           131            90
 Unallocated expenses and eliminations        (125 )         (86 )        (337 )        (234 )

 Total Operating Profit                  $     898       $   772      $  2,654      $  2,089

 Operating Profit %:
 Rig Technology                               23.5 %        26.5 %        23.6 %        26.6 %
 Petroleum Services & Supplies                22.3 %        20.4 %        22.3 %        19.0 %
 Distribution & Transmission                   3.2 %         7.7 %         4.9 %         6.9 %
 Total Operating Profit %                     16.9 %        20.6 %        18.5 %        20.1 %

Rig Technology

Three and Nine Months Ended September 30, 2012 and 2011. Revenue from Rig Technology was $2,547 million for the three months ended September 30, 2012, compared to $1,970 million for the three months ended September 30, 2011, an increase of $577 million (29.3%). For the nine months ended September 30, 2012, . . .