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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
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Commission File Number 1-9397
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BAKER HUGHES INCORPORATED
(Exact Name of Registrant as Specified in its Charter)
DELAWARE 76-0207995
(State or Other Jurisdiction (IRS Employer Identification No.)
of Incorporation or Organization)
3900 ESSEX LANE, SUITE 1200, HOUSTON, TEXAS 77027-5177
(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, Including Area Code: (713) 439-8600
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Securities Registered Pursuant to Section 12(b) of the Act:
Name of Each Exchange
Title of Each Class On Which Registered
- ------------------------------------ ----------------------------
Common Stock, $1 Par Value Per Share New York Stock Exchange
Pacific Exchange
Swiss Exchange
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 [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in the Exchange Act Rule 12b-2). YES [X] NO [ ]
The aggregate market value of the Common Stock as of the last business day
of the registrant's most recently completed second fiscal quarter (based on the
closing price on June 28, 2002 reported by the New York Stock Exchange) held by
non-affiliates was approximately $11,216,304,824.
At February 28, 2003, the registrant has outstanding 336,896,319 shares of
Common Stock, $1 par value.
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DOCUMENTS INCORPORATED BY REFERENCE
Portions of Registrant's 2002 Proxy Statement for the Annual Meeting of
Stockholders to be held April 23, 2003 are incorporated by reference into Parts
II and III.
PART I
ITEM 1. BUSINESS
Baker Hughes Incorporated ("Baker Hughes" or the "Company") is a Delaware
corporation engaged primarily in the oilfield services industry. Baker Hughes is
a major supplier of wellbore related products, technology services and systems
to the oil and gas industry on a worldwide basis and provides products and
services for drilling, formation evaluation, completion and production of oil
and gas wells. Baker Hughes also participates in the continuous process industry
where it manufactures and markets a broad range of continuous and batch
centrifuges and specialty filters. The Company conducts certain of its
operations through subsidiaries, affiliates, ventures, partnerships or
alliances.
The Company was formed in April 1987 in connection with the combination of
Baker International Corporation and Hughes Tool Company. The Company acquired
Western Atlas Inc. in a merger completed on August 10, 1998.
As used herein, the Company may refer to Baker Hughes Incorporated or its
subsidiaries. The use of the terms Company and Baker Hughes are not intended to
connote any particular corporate status or relationships.
The Company's annual reports on Form 10-K, quarterly reports on Form 10-Q,
current reports on Form 8-K and amendments to those reports filed or furnished
pursuant to Section 13(a) or 15(d) of the Exchange Act of 1934 are made
available free of charge on the Company's internet website at
www.bakerhughes.com as soon as reasonably practicable after the Company has
electronically filed such material with, or furnished it to, the Securities and
Exchange Commission.
For additional industry segment information for the three years ended
December 31, 2002, see Note 13 of the Notes to Consolidated Financial Statements
in Item 8 herein.
OILFIELD
The Oilfield segment of the Company consists of six operating divisions:
Baker Atlas, Baker Oil Tools, Baker Petrolite, Centrilift, Hughes Christensen
and INTEQ. The Company, through its Oilfield segment, is a major supplier of
wellbore related products, technology services and systems to the oil and gas
industry on a worldwide basis and provides equipment, products and services for
drilling, formation evaluation, completion and production of oil and gas wells.
These divisions have been aggregated into one reportable segment because they
have similar economic characteristics and because the long-term financial
performance of these divisions is affected by similar economic conditions. The
principal markets for this segment include all major oil and gas producing
regions of the world, including North America, South America, Europe, Africa,
the Middle East and the Far East. The Oilfield segment also includes the
Company's investment in the WesternGeco venture.
Baker Atlas. The Company, through its Baker Atlas division, is a premier
provider of a complete range of downhole well logging technology and services,
including advanced formation evaluation, production and reservoir engineering,
downhole seismic and petrophysical and geophysical data acquisition services. In
addition, Baker Atlas provides perforation and completion technologies, pipe
recovery and data management, processing and analysis. This diverse range of
services covers the life cycle of a reservoir - initially, in support of the
drilling process, continuing through the prospect evaluation and appraisal phase
and finally, to production and reservoir management. In performing well logging
services, electronic instrumentation and sensor packages are placed into the
borehole by means of an electrical wireline, drill pipe, coiled tubing or well
tractor. The surface-controlled instrumentation gathers measurements, collects
samples and performs experiments downhole. The measurements are recorded
digitally and can be displayed on a continuous graph, or well log, against depth
or time. These well logs are processed, analyzed and interpreted to determine
physical attributes of the well, which can indicate the volume of hydrocarbons
present and the extent and producibility of the reservoir.
Perforating services are offered by both Baker Atlas and the Company's Baker
Oil Tools division and provide a pathway through the casing and cement sheath in
wells so that the hydrocarbon fluids (gas or oil) can enter the wellbore from
the formation. These services and the information that these divisions provide
allow oil and gas companies to define, reduce and manage their risk. Baker
Atlas' largest competitors in the downhole logging and perforating markets
include Halliburton Company ("Halliburton"), Schlumberger Limited
("Schlumberger") and Precision Drilling Corp.
Baker Oil Tools. The Company, through its Baker Oil Tools division, is a
premier provider of downhole completion, workover and fishing equipment and
services. Downhole completion product lines include packers, flow control
equipment, subsurface safety valves, liner hangers and sand control systems.
Packers are used in the wellbore to seal the space between the production tubing
and the casing, to protect the casing from reservoir pressures and corrosive
formation fluids and to maintain the separation of production
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zones. Casing is steel pipe used to line the wellbore to keep the wall of the
drilled hole from caving in, to prevent fluids from moving from one formation to
another and to improve the efficiency of extracting oil and gas from producing
wells. Production tubing is the pipe through which the oil and gas flow from the
producing zone under the ground to the surface of the well. Flow control
equipment provides additional means to control and adjust the flow of downhole
fluids from producing zones, whether done in the traditional mechanical way or
as Intelligent Completions(R), while subsurface safety valves shut off all flow
of fluids to the surface in the event of an emergency. Baker Oil Tools is a
major worldwide manufacturer and provider of packers, flow control and safety
valve equipment. Its principal competitors in this area are Halliburton,
Schlumberger and Weatherford International Ltd. ("Weatherford").
Baker Oil Tools also manufactures and sells liner hanger systems which its
customers use to suspend and set strings of casing pipe in wells. Baker Oil
Tools technology developments in this area include multi-lateral completion
systems, which allow multiple downhole casing pipes to be tied to one main
wellbore casing pipe while maintaining the pressure seal integrity. Baker Oil
Tools is a leading worldwide producer of liner hangers and multi-lateral
systems. Its primary competitors in this area are Halliburton and Weatherford.
Baker Oil Tools offers sand control equipment (gravel pack tools, screens,
fluids and pumping) and services that prevent sand from entering the wellbore
and reducing productivity. Baker Oil Tools has expanded its marine vessel, high
pressure, "frac-pack" service capabilities. The frac-pack service involves
injecting fluids and propants into the formation to expand the formation and
increase the rate of production. Propants are spherical-shaped particles
(generally made of a silicant) that, when forced into fissures in the formation,
expand the fissures and maintain the expansion. Baker Oil Tools technology
developments in this area include the expansion of tubulars such as sand
screens. By expanding pipe and screen downhole, the internal flow areas are
increased, which, in turn, allows for enhanced production. Baker Oil Tools is a
leading provider of sand control equipment and services. Its primary competitors
are BJ Services Company, Halliburton, Schlumberger and Weatherford.
For the workover segment of the market, Baker Oil Tools provides mechanical
service tools and inflatable packers. The inflatable products enable thru-tubing
remedial operations that utilize coiled tubing rigs. The inflatable packers are
also used in the open-hole environment for testing the potential of a well
during the drilling phase prior to the installation of casing. The inflatable
packers also become an integral part of the casing (external casing packer) to
provide zone separation. Baker Oil Tools' primary competitors for these product
lines are Halliburton, Schlumberger and Weatherford.
Baker Oil Tools is a leading provider of fishing services and furnishes
fishing equipment and services using specialized tools to locate, dislodge and
retrieve twisted off, dropped or damaged pipe, tools or other objects from
inside the wellbore, potentially thousands of feet below the surface. In
addition, milling, cutting and whipstock services are offered to clean out
wellbores or mill windows in the casing to drill a sidetrack or multi-lateral
well. Baker Oil Tools fishing services are also offered in a thru-tubing product
line, making it compatible with coiled tubing workover operations. Baker Oil
Tools technology in this area includes the Wellbore Custodian Cleanout System
which cleans the inside diameter of the well casing by collecting debris,
brushing the wellbore wall and filtering fluid all at one time. Its major
competitors are Smith International, Inc. ("Smith") and Weatherford.
Baker Oil Tools also provides other completion, remedial and production
products and services, including control systems for surface and subsurface
safety valves and surface flow lines and flow regulators and packers used in
secondary recovery waterflood projects. Baker Oil Tools' primary competitors are
Halliburton and Schlumberger.
Baker Petrolite. The Company, through its Baker Petrolite division, is a
premier provider of specialty chemicals to a number of industries, primarily oil
and gas production, but also including refining, pipeline operation and
maintenance, petrochemical, agriculture and iron and steel manufacturing. Baker
Petrolite also produces drilling fluid and stimulation additives that are
designed to enhance the functionality and the cost performance of oilfield
drilling fluids, oil and gas well oxidizing, fracturing and cementing
applications, and bioprocess production processes.
In oil and gas production, Baker Petrolite specialty chemicals include
inhibitors, corrosion control products, bactericides and microbiocides, emulsion
breakers and gas hydrate controllers. The Baker Petrolite FATHOM(TM) line of
products controls corrosion and prevents formation of scale, paraffin,
asphaltenes and hydrates that could interrupt production and require expensive
maintenance in deepwater operations. The corrosion control and prevention of
scale formation provide flow assurance for deepwater development wells,
facilities and flowlines.
In the refining industry, Baker Petrolite has developed various process
treatment, finished fuel additive and water treatment programs, including
problematic crude desalting strategies and environmentally friendly cleaners
that decontaminate refinery and petrochemical vessels at a lower cost than other
methods.
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For pipeline operation and maintenance, Baker Petrolite technology includes
pipeline boosters, pipeline cleaning programs, in-line inspection (tethered)
technology and internal corrosion assessment. The FLO(R) family of pipeline
boosters consists of high molecular weight polymers designed to reduce the
friction pressure loss in pipelines that transport crude oil, refined fuel and
water. The SurfSweep pipeline cleaning program is a systematic approach to
cleaning pipelines which starts with a solids screening and chemical analysis of
a pipeline in order to develop the chemical and mechanical design of the
specific cleaning application. The In-Line Inspection tool utilizes high
resolution Magnetic Flux Leakage ("MFL") technology to quantify the metal loss,
wall-thickness measurement and cracking associated with pipeline integrity
management programs. Internal Corrosion Direct Assessment utilizes flow-modeling
capabilities to identify high-risk segments of a pipeline to ensure proper
mitigation programs are in place.
In 2002, the Company formed the Pipeline Management Group ("PMG"), an
internal organization, to provide integrated pipeline management by coordinating
the services of Baker Hughes' divisions. The integrated services provided by PMG
include hazard assessment, consequence analysis, integrity planning, mitigation
activities, verification and in-line inspection (utilizing the Baker Atlas
developed MFL technology), reassessment and evaluation. PMG has close
operational links to Baker Petrolite and uses some of the Baker Petrolite
products in the provision of its services.
Baker Petrolite also provides chemical technology solutions to other
industrial markets throughout the world including petrochemicals, fuel
additives, plastics, imaging, adhesives, steel and crop protection. Its primary
competitors are GE Betz and Ondeo Nalco Energy Services, L.P.
Centrilift. The Company, through its Centrilift division, is a market leader
for oilfield electric submersible pumping ("ESP") systems. ESP systems are a
form of artificial lift used to pump high quantities of water and oil from wells
which are unable to flow under their own pressure. Centrilift manufactures the
complete ESP system including the downhole components (centrifugal pump,
electric motor and gauges), the power cables that connect the downhole
components to the surface and the surface control systems. Centrilift also
manufactures and markets progressing cavity pump ("PCP") systems for use in
lower volume, sandier and/or more viscous applications. PCPs can be driven by
submersible electric motors or rods driven from a surface power source. Both
systems are installed in oil and gas wells near the production zone to lift
fluids to the surface. The major competitors for Centrilift are John Wood Group,
PLC, Schlumberger and Weatherford.
Hughes Christensen. The Company, through its Hughes Christensen division, is
a leading manufacturer and marketer of Tricone(R) rolling cone drill bits and
fixed cutter diamond drill bits for the worldwide oil, gas, mining and
geothermal industries. Tricone bits include milled steel tooth cutting
structures and tungsten carbide compact cutting structures. Tricone bits are
designed to drill a wide range of formations and applications in a wide range of
sizes. Fixed cutter diamond bits include polycrystalline diamond compact bits,
natural diamond bits and impregnated diamond bits. Genesis bits incorporate new
cutter technology, hydraulic technology, improved bit stability and a new design
process focused on the application to be drilled. Genesis bits can reduce
drilling costs through longer runs and high rates of penetration. Hughes
Christensen also manufactures and markets a complete line of ream-while-drilling
tools designed for hole-opening applications. Hughes Christensen's principal
competitors in the drill bit market are Halliburton, Grant Prideco, Inc. and
Smith for oil and gas applications, and Sandvik Smith AB and Varel
International, Inc. for other applications.
INTEQ. The Company, through its INTEQ division, is a major supplier of
real-time drilling and evaluation services to the oil and gas industry. These
services include directional and horizontal drilling technologies,
logging-while-drilling ("LWD"), measurement-while-drilling, coring and
subsurface surveying. INTEQ provides high-end technology solutions that oil and
gas companies require to drill complex wells in challenging reservoir
environments. INTEQ is an industry leader in the design and planning of wells
that incorporate complex trajectories that are set to intercept multiple
reservoir targets. As exploration and development is increasingly conducted in
the costlier offshore deepwater areas, there is an increased demand for INTEQ
drilling technology to reduce cost through optimized performance. In the upper
hole sections of an oil and gas well, INTEQ survey services and high performance
drilling motors can help to provide safe and efficient drilling of the
formations. In the directional portion of the well, INTEQ rotary steering
technology is combined with LWD technology to allow clients to drill
three-dimensional well trajectories while taking measurements to evaluate the
formations drilled. The measurements are transmitted to the surface through the
use of pulse telemetry, a system where differential pressure patterns are
transmitted through a fluid column to the surface for decoding. INTEQ
visualization technology at the surface allows this real-time data to be
overlaid on images of the reservoir, permitting engineers to steer the well
while watching graphical representation of the drilling assembly moving through
the reservoir. These technologies allow access to, and the efficient drilling
of, reservoirs that could not have been developed effectively five years ago.
INTEQ competes principally with Halliburton and Schlumberger in these products
and services.
The Company, through its INTEQ division, also produces and markets drilling
and completion fluids (muds/brines), mud logging and specialty chemicals and
provides technical services for the use of the muds/brines and chemicals in oil
and gas well drilling. Drilling fluids typically contain barite or bentonite and
may use a water or an oil base. The main purpose of the drilling fluid is to
provide stability within the wellbore by cleaning the bottom of a hole as it
removes cuttings and transports them to the surface, by
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cooling the bit and drill string, by controlling formation pressures and by
sealing porous well formations. To provide optimized stability and future oil
production, a fluid is often customized for a wellbore as the well-site engineer
monitors the interaction between the drilling fluid and the formation. INTEQ
also furnishes on-site laboratory analysis and examination of circulated and
drilling fluids and recovered drill cuttings to detect the presence of
hydrocarbons and identify the formations penetrated by the drill bit. INTEQ also
provides equipment and services to separate the drill cuttings from the drilling
fluids and re-inject the processed cuttings in a specially prepared well, or
transport and dispose of the cuttings by other means. INTEQ also provides
drilling and completion additives to non-oilfield applications. These
applications are generally referred to as industrial drilling applications. The
principal competitors for INTEQ's products and services are Halliburton and M-I
LLC.
WesternGeco. The Company owns a 30% interest in the WesternGeco venture,
which was formed in late 2000. Schlumberger owns the remaining 70%. WesternGeco
is a provider of seismic data acquisition and processing services to assist oil
and gas companies in evaluating the producing potential of sedimentary basins
and in locating productive hydrocarbon zones. Seismic data is acquired by
producing sound waves which move through the ground and are recorded by audio
instruments. The recordings are then analyzed to determine the characteristics
of the geologic formations through which the sound waves moved and the extent
that oil and gas may be trapped in or moving through those formations. This
analysis is known as a seismic survey. WesternGeco conducts seismic surveys on
land, in deep water and across shallow-water transition zones worldwide. These
seismic surveys encompass high-resolution, two-dimensional and three-dimensional
surveys for delineating exploration targets. WesternGeco also conducts
time-lapse, four-dimensional seismic surveys for monitoring reservoir fluid
movement over time. Seismic information can reduce field development and
production costs by reducing turnaround time, lowering drilling risks and
minimizing the number of wells necessary to explore and develop reservoirs.
WesternGeco's major competitors in providing these services are Compagnie
Generale de Geophysique, Veritas DGC, Inc. and Petroleum Geo-Services ASA.
PROCESS
The Process segment of the Company consists of one operating division, BIRD
Machine, and the Company's investment in the Petreco venture.
BIRD Machine. The Company, through its BIRD Machine division, manufactures a
broad range of continuous and batch centrifuges and specialty filters, which are
each widely used in the municipal, industrial, chemical, coatings, minerals and
pharmaceutical markets to separate, dewater or classify process and waste
streams. BIRD Machine also provides aftermarket parts, repairs and services for
its installed equipment base through a global network of personnel and service
centers. BIRD Machines' principal competitors in its continuous centrifuge
product line are Alfa-Laval/Sharples Tomoe, Westfalia, Andritz and Flottweg.
There are numerous small and large companies that compete in the batch
centrifuge and filter product lines.
Petreco. The Company has a 49% interest in the voting power of Petreco, an
entity created by the Company and Sequel Holdings, Inc. Petreco was formed in
October 2001, and the Company contributed $16.6 million of net assets of the
refining and production product line of its Process segment for the Petreco
formation. Petreco sells process equipment (including electrostatic de-salters
and hydrocyclones) used in oil and gas production and refining applications.
MARKETING, COMPETITION AND ECONOMIC CONDITIONS
The Company markets its products and services on a product line basis
primarily through the Company's own sales organizations, although certain of its
products and services are marketed through supply stores, independent
distributors or sales representatives. The Company ordinarily provides technical
and advisory services to assist in its customers' use of the Company's products
and services. Stock points and service centers for oilfield products and
services are located in areas of drilling and production activity throughout the
world. The Company markets process products and services worldwide. In certain
areas outside the United States, the Company utilizes licensees, sales
representatives and distributors.
The Company's products and services are sold in highly competitive markets,
and its revenues and earnings can be affected by changes in competitive prices,
fluctuations in the level of activity in major markets, general economic
conditions, foreign exchange fluctuations and governmental regulation. The
Company competes with the oil and gas industry's largest integrated oilfield
service providers as well as many small companies. The Company believes that the
principal competitive factors in the industries that it serves are product and
service quality; availability and reliability; health, safety and environmental
standards; technical proficiency and price.
Further information concerning marketing, competition and economic
conditions is contained under the caption "Business Environment" in "Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations".
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INTERNATIONAL OPERATIONS
The Company operates in over 70 countries worldwide, and its operations are
subject to the risks inherent in doing business in multiple countries with
various laws and differing political structures and situations. These risks
include, but are not limited to, war, boycotts, political and economic changes,
terrorism, expropriation, foreign currency controls, taxes and changes in
currency exchange rates. Although it is impossible to predict the likelihood of
such occurrences or their effect on the Company, management believes these risks
to be acceptable. However, there can be no assurance that an occurrence of any
one or more of these events would not have a material adverse effect on the
Company's operations.
RESEARCH AND DEVELOPMENT; PATENTS
The Company is engaged in research and development activities directed
primarily toward the improvement of existing products and services, the design
of specialized products to meet specific customer needs and the development of
new products, processes and services. For information regarding the amounts of
research and development expense in each of the three years ended December 31,
2002, see Note 17 of the Notes to Consolidated Financial Statements in Item 8
herein.
The Company has followed a policy of seeking patent and trademark protection
both inside and outside the United States for products and methods that appear
to have commercial significance. The Company believes its patents and trademarks
to be adequate for the conduct of its business, and the Company aggressively
pursues protection of its patents against patent infringement worldwide. While
it regards patent and trademark protection important to its business and future
prospects, it considers its established reputation, the reliability and quality
of its products and the technical skills of its personnel to be more important.
No single patent or trademark is considered to be of a critical nature to the
Company's business.
BUSINESS DEVELOPMENTS
OILFIELD
In December 2002, in the initial step of a two-part transaction, the Company
acquired certain assets and the intellectual property of the borehole seismic
data acquisition business of Compagnie Generale de Geophysique ("CGG"). The
second part to the transaction was completed in February of 2003 and consisted
of the transfer by CGG of employees and contracts to the Company and the
formation of a jointly owned venture entity to handle the processing and
interpretation of borehole seismic data. The Company holds a 51% interest in the
venture entity.
PROCESS
In November 2002, the Company sold its EIMCO Process Equipment ("EIMCO")
unit to Groupe Laperriere & Verreaul, Inc. of Montreal, Canada. The Company
received proceeds of $48.9 million, of which $4.9 million is held in escrow
until the completion of final adjustments to the purchase price are made.
EXPLORATION AND PRODUCTION ACTIVITIES
In December 2002, the Company entered into exclusive negotiations for the
sale of the Company's interest in its oil producing operations in West Africa
and received $10.0 million as a deposit. The sale is subject to the execution of
a definitive sale agreement and is expected to close in the first quarter of
2003.
EMPLOYEES
At December 31, 2002, the Company had approximately 26,500 employees, as
compared with approximately 26,800 employees at December 31, 2001, of which
approximately 700 employees were attributable to EIMCO. Approximately 1,870
employees at December 31, 2002, were represented under collective bargaining
agreements that terminate at various times through May 1, 2005. The Company
believes that its relations with its employees are satisfactory.
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EXECUTIVE OFFICERS
The following table shows as of March 5, 2003, the name of each executive
officer of the Company, together with his age and all offices presently held
with the Company.
NAME AGE
Michael E. Wiley 52 Chairman of the Board, President and Chief Executive Officer of the
Company since August 2000. Employed by Atlantic Richfield Company as
President and Chief Operating Officer from 1998 to 2000 and as Executive
Vice President from 1997 to 1998. Employed by Vastar Resources, Inc. as
President and Chief Executive Officer from 1994 to 1997 and served as
Chairman of the Board from 1997 to 2000. Employed by the Company in 2000.
Andrew J. Szescila 55 Senior Vice President and Chief Operating Officer of the Company since
2000. Employed as President of Baker Hughes Oilfield Operations from
January to October 2000. Served as Senior Vice President of the Company
since 1997 and Vice President of the Company from 1995 to 1997. Employed
as President of Hughes Christensen Company from 1989 to 1997 and President
of Baker Service Tools from 1988 to 1989. Served as President of BJ
Services International from 1987 to 1988. Employed by the Company in 1973.
G. Stephen Finley 52 Senior Vice President - Finance and Administration and Chief Financial
Officer of the Company since 1999. Employed as Senior Vice President and
Chief Administrative Officer of the Company from 1995 to 1999, Controller
from 1987 to 1993 and Vice President from 1990 to 1995. Served as Chief
Financial Officer of Baker Hughes Oilfield Operations from 1993 to 1995.
Employed by the Company in 1982.
Alan R. Crain, Jr. 51 Vice President and General Counsel of the Company since October 2000.
Executive Vice President, General Counsel and Secretary of Crown, Cork &
Seal Company, Inc. from 1999 to 2000. Vice President and General Counsel,
1996 to 1999, and Assistant General Counsel, 1988 to 1996, of Union Texas
Petroleum Holding, Inc. Employed by the Company in 2000.
Greg Nakanishi 51 Vice President, Human Resources of the Company since November 2000.
Employed as President of GN Resources from 1989 to 2000. Employed by the
Company in 2000.
Alan J. Keifer 48 Vice President and Controller of the Company since July 1999. Employed as
Western Hemisphere Controller of Baker Oil Tools from 1997 to 1999 and
Director of Corporate Audit for the Company from 1990 to 1996. Employed by
the Company in 1990.
John A. O'Donnell 54 Vice President of the Company since 2000. Employed as Vice President,
Business Process Development, of the Company from 1998 to 2002; Vice
President, Manufacturing, of Baker Oil Tools from 1990 to 1998 and Plant
Manager of Hughes Tool Company from 1975 to 1990. Employed by the Company
in 1975.
Ray Ballantyne 53 Vice President of the Company since 1998 and President, INTEQ since 1999.
Employed as Vice President, Marketing, Technology and Business
Development, of the Company from 1998 to 1999; Vice President, Worldwide
Marketing, of Baker Oil Tools from 1992 to 1998 and Vice President,
International Operations, of Baker Service Tools, from 1989 to 1992.
Employed by the Company in 1975.
David H. Barr 53 Vice President of the Company and President of Baker Atlas since 2000.
Employed as Vice President, Supply Chain Management, of Cooper Cameron
from 1999 to 2000. Mr. Barr also held the following positions with the
Company: Vice President, Business Process Development, from 1997 to 1998
and the following positions with Hughes Tool Company/Hughes Christensen:
Vice President, Production and Technology, from 1994 to 1997; Vice
President, Diamond Products, from 1993 to 1994; Vice President, Eastern
Hemisphere Operations, from 1990 to 1993 and Vice President, North
American Operations, from 1988 to 1990. Employed by the Company in 1972.
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James R. Clark 52 Vice President of the Company and President of Baker Petrolite Corporation
since 2001. President and Chief Executive Officer of Consolidated
Equipment Companies, Inc. from 2000 to 2001 and President of Sperry-Sun
from 1996 to 1999. Employed by the Company in 2001.
William P. Faubel 47 Vice President of the Company and President of Centrilift since 2001. Vice
President, Marketing, of Hughes Christensen from 1994 to 2001 and served
as Region Manager for various Hughes Christensen areas (both domestic and
international) from 1986 to 1994. Employed by a predecessor of the
Company, Hughes Tool Company, in 1977.
Edwin C. Howell 55 Vice President of the Company since 1995 and President of Baker Oil Tools
since 1992. Employed as President of Baker Service Tools from 1989 to 1992
and Vice President - General Manager of Baker Performance Chemicals (the
predecessor of Baker Petrolite) from 1984 to 1989. Employed by the Company
in 1975.
Douglas J. Wall 50 Vice President of the Company and President of Hughes Christensen since
1997. Served as President and Chief Executive Officer of Western Rock Bit
Company Limited, Hughes Christensen's former distributor in Canada, from
1991 to 1997. Previously employed as General Manager of Century Valve
Company from 1989 to 1991 and Vice President, Contracts and Marketing, of
Adeco Drilling & Engineering from 1980 to 1989. Employed by the Company in
1997.
There are no family relationships among the executive officers of the
Company.
ENVIRONMENTAL MATTERS
The Company's operations are subject to domestic (including U. S. federal,
state and local) and international regulations with regard to air and water
quality and other environmental matters. The Company believes that it is in
substantial compliance with these regulations. Regulation in this area continues
to evolve and changes in standards of enforcement of existing regulations, as
well as the enactment and enforcement of new legislation, may require the
Company and its customers to modify, supplement or replace equipment or
facilities or to change or discontinue present methods of operation.
Remediation costs are accrued based on estimates of known environmental
remediation exposure using currently available facts, existing environmental
permits and technology and presently enacted laws and regulations. For sites
where the Company is primarily responsible for the remediation, the Company's
estimates of costs are developed based on internal evaluations and are not
discounted. Such accruals are recorded when it is probable that the Company will
be obligated to pay amounts for environmental site evaluation, remediation or
related costs, and such amounts can be reasonably estimated. If the obligation
can only be estimated within a range, the Company accrues the minimum amount in
the range. Such accruals are recorded even if significant uncertainties exist
over the ultimate cost of the remediation. Ongoing environmental compliance
costs, such as obtaining environmental permits, installation of pollution
control equipment and waste disposal, are expensed as incurred. Where the
Company has been identified as a potentially responsible party in a United
States federal or state "Superfund" site, the Company accrues its share of the
estimated remediation costs of the site based on the ratio of the estimated
volume of waste contributed to the site by the Company to the total volume of
waste at the site.
During the year ended December 31, 2002, the Company spent approximately
$21.6 million to comply with domestic and international standards regulating the
discharge of materials into the environment or otherwise relating to the
protection of the environment (collectively, "Environmental Regulations"). In
2003, the Company expects to spend approximately $23.5 million to comply with
Environmental Regulations. Based upon current information, the Company believes
that its compliance with Environmental Regulations will not have a material
adverse effect upon the capital expenditures, earnings and competitive position
of the Company because the Company has either made adequate reserves for such
compliance expenditures or the cost to the Company for such compliance is
expected to be small in comparison with the Company's overall net worth.
The Company estimates that it will incur approximately $5.8 million and $5.0
million in capital expenditures for environmental control equipment during the
years ending December 31, 2003 and 2004, respectively. The Company believes that
capital expenditures for environmental control equipment for these years will
not have a material adverse effect upon the financial condition of the Company
because the aggregate amount of these expenditures is expected to be small in
comparison with the Company's overall net worth.
7
The Comprehensive Environmental Response, Compensation and Liability Act
(known as "Superfund" or "CERCLA") imposes liability for the release of a
"hazardous substance" into the environment. Superfund liability is imposed
without regard to fault and even if the waste disposal was in compliance with
the then current laws and regulations. With the joint and several liability
imposed under Superfund, a potentially responsible party ("PRP") may be required
to pay more than its proportional share of such costs. The Company and several
of its subsidiaries and divisions have been identified as PRPs at various sites
discussed below. The United States Environmental Protection Agency (the "EPA")
and appropriate state agencies are supervising investigative and cleanup
activities at these sites. For the sites detailed below, the Company estimates
total remediation costs of approximately $5.9 million, of which the Company has
expended $1.6 million as of December 31, 2002. When used in the descriptions of
the sites below, the word de minimis means less than a 1% contribution rate.
(a) Baker Petrolite, Hughes Christensen, an INTEQ predecessor entity, Baker
Oil Tools and a former subsidiary were named in April 1984 as PRPs at
the Sheridan Superfund Site located in Hempstead, Texas. The Texas
Commission on Environmental Quality ("TCEQ") is overseeing the remedial
work at this site. The Sheridan Site Trust was formed to manage the site
remediation and the Company participates as a member of the Sheridan
Site Trust. Sheridan Site Trust officials estimate the total remedial
and administrative costs to be approximately $30 million, of which the
Company's estimated contribution is approximately 2%.
(b) In December 1987, a former subsidiary of the Company was named a
respondent in an EPA Administrative Order for Remedial Design and
Remedial Action associated with the Middlefield-Ellis-Whisman (known as
"MEW") Study Area, an eight square mile soil and groundwater
contamination site located in Mountain View, California. Several PRPs
for the site have estimated the total cost of remediation to be
approximately $80 million. The conclusion of extensive investigations is
that the activities of the former subsidiary's operating facility in the
MEW Study Area could not have been the source of any contamination in
the soil or groundwater within the MEW Study Area. As a result of the
Company's environmental investigations and a resulting report delivered
to the EPA in September 1991, the EPA has informed the Company that no
further work needs to be performed on the former subsidiary's site, and
further, the EPA has indicated that it does not believe there is a
contaminant source on the property. Although the Company's former
subsidiary continues to be named in the EPA's Administrative Order, the
Company believes the Administrative Order is not valid with respect to
the Company's former subsidiary and is seeking the withdrawal of the
Administrative Order with respect to that subsidiary.
(c) In July 1997, Baker Petrolite was named by the EPA as a PRP at the Shore
Refinery Site, Kilgore, Texas. According to Baker Petrolite's records,
it did not arrange for the disposal, treatment or transportation of
hazardous substances or used oil in relation to the site, and to date,
the EPA has not produced any documentation linking the Company or any of
its subsidiaries or divisions to the environmental conditions at the
site. The Company does not believe that it has any liability for
contamination at this site.
(d) In 1997, Baker Hughes and Prudential Insurance Company ("Prudential")
entered into a settlement agreement regarding cost recovery for the San
Fernando Valley - Glendale Superfund. A Baker Hughes predecessor
operated on Prudential property in Glendale. Prudential was identified
as a PRP for the Glendale Superfund. Prudential instituted legal
proceedings against Baker Hughes for cost recovery under CERCLA. Without
any admission of liability, Baker Hughes agreed to pay 40% of the cost,
which is limited to $260,000 under the Company's agreement with
Prudential, attributed to the cleanup of the site. The first phase of
groundwater investigation and the interim remedy have been presented to
the EPA.
(e) In June 1999, the EPA named a Hughes Christensen predecessor as a PRP at
the Li Tungsten Site in Glen Cove, New York. The Company believes that
it has contributed a de minimis amount of hazardous substance to the
site and has responded to the EPA's inquiry. Investigative studies will
be conducted at the site to determine a suitable remedial action plan,
as well as the total estimated cost for remediation.
(f) In January 1999, Baker Oil Tools, Baker Petrolite and predecessor
entities of Baker Petrolite were named as PRPs by the State of
California's Department of Toxic Substances Control for the Gibson site
in Bakersfield, California. The cost estimate for remediation of the
site is approximately $14 million. The combined volume that Baker Hughes
companies contributed to the site is estimated to be less than 0.5%.
(g) In December 2000, the EPA named Baker Petrolite as a PRP at the Casmalia
Disposal Site, Santa Barbara County, California. The EPA has estimated
the total cost of remediation to range from $225 million to $290
million. Baker Petrolite is considered a de minimis contributor and is
negotiating a settlement.
(h) In 2001, a Hughes Christensen predecessor, Baker Oil Tools, INTEQ and a
former subsidiary of the Company were named as PRPs in the Force Road
State Superfund Site located in Brazoria County, Texas. The TCEQ is
overseeing the investigation
8
and remediation at the Force Road State Site. Although the investigation
of the site is incomplete, preliminary cost estimates for the closure of
the site are approximately $3 million, with the total contribution from
the Company estimated to be in the range of 50% to 60% of that cost.
(i) In 2002, Baker Petrolite predecessors, Hughes Christensen predecessors
and former Company subsidiaries, Western Geophysical and Baker Tubular
Services, were identified as PRPs for the Malone site located on
Campbell Bayou Road in Texas City, Texas. The EPA is overseeing the
investigation and remediation of the Malone site. The EPA has engaged in
some emergency removal actions at the site. A PRP group has been formed
and is evaluating the next steps for the site. Although the
investigation has not been completed, the initial estimate for cleanup
at the Malone site is $82 million. Total contribution from the Company
is estimated at approximately 1.8%.
(j) In August 2002, predecessor companies of Baker Oil Tools, Baker
Petrolite and INTEQ were identified as PRPs for the Environmental
Protection Corporation site in Bakersfield, California. The California
Department of Toxic Substances Control is overseeing the investigation
and subsequent environmental cleanup at this site. The Baker Hughes PRPs
have agreed with Chevron Corporation, the majority PRP, to settle their
liability for the amount of the Baker Hughes PRPs' contributions
(approximately $20,000). It is expected that the settlement will be paid
by the end of the first quarter of 2003.
(k) In November 2002, Baker Petrolite was identified as a PRP in a superfund
site located in Jackson, Mississippi. Baker Petrolite is considered a de
minimis contributor to this site. The EPA is managing this site and has
already removed wastes under an emergency order. The EPA is attempting
to recover the costs of the waste removal. The remedial investigation
has not been completed, and therefore, there is no available estimate of
cleanup costs.
(l) In January 2003, Western Atlas International, Inc. and predecessor
companies and Baker Hughes Oilfield Operations, Inc. were identified as
PRPs in the Gulf Nuclear Superfund site in Odessa, Texas. The EPA
conducted an emergency removal from the site in 2000. The EPA has
estimated total investigation and cleanup costs to be $15 million. At
this time, there is insufficient information to estimate the Company's
potential contribution to the investigation and cleanup costs at this
site.
There are three sites for which the remedial work has been completed and
which are in the groundwater recovery and monitoring phase. This phase of the
remediation is expected to continue for a period of 3 to 28 years, and the
Company's aggregate cost for these sites is estimated to be approximately
$100,000 over this period of time.
While PRPs in Superfund actions have joint and several liability for all
costs of remediation, it is not possible at this time to quantify the Company's
ultimate exposure because some of the projects are either in the investigative
or early remediation stage. Based upon current information, the Company does not
believe that probable or reasonably possible expenditures in connection with the
sites described above are likely to have a material adverse effect on the
Company's financial condition because:
(1) the Company has established adequate reserves to cover the estimate the
Company presently believes will be its ultimate liability with respect
to the matter,
(2) other PRPs involved in the sites have substantial assets and may
reasonably be expected to pay their share of the cost of remediation,
(3) the Company has adequate resources and, in some circumstances, insurance
coverage or contractual indemnities from third parties to cover the
ultimate liability, and
(4) the Company believes that its ultimate liability is small compared with
the Company's overall net worth.
The Company is subject to various other governmental proceedings and
regulations, including foreign regulations, relating to environmental matters,
but the Company does not believe that any of these matters is likely to have a
material adverse effect on its financial condition or results of operation.
"Environmental Matters" contains forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933, as amended, and Section
21E of the Securities Exchange Act of 1934, as amended. The words "will,"
"believe," "to be," "expects" and similar expressions are intended to identify
forward-looking statements. The Company's expectations regarding its compliance
with Environmental Regulations and its expenditures to comply with Environmental
Regulations, including (without limitation) its capital expenditures on
environmental control equipment, are only its forecasts regarding these matters.
These forecasts may be substantially different from actual results, which may be
affected by the following factors: changes in Environmental Regulations;
unexpected, adverse outcomes with respect to sites where the Company has been
named as a PRP, including (without limitation) the sites
9
described above; the discovery of new sites of which the Company is not aware
and where additional expenditures may be required to comply with Environmental
Regulations; an unexpected discharge of hazardous materials in the course of the
Company's business or operations; an acquisition of one or more new businesses;
a catastrophic event causing discharges into the environment of hydrocarbons;
and a material change in the allocation to the Company of the volume of
discharge and a resulting change in the Company's liability as a PRP with
respect to a site.
ITEM 2. PROPERTIES
The Company is headquartered in Houston, Texas and operates 44 principal
manufacturing plants, ranging in size from approximately 4,600 to 300,000 square
feet of manufacturing space. The total area of the plants is more than 3.6
million square feet, of which approximately 2.4 million square feet (66%) are
located in the United States, 0.3 million square feet (10%) are located in
Canada and South America, 0.9 million square feet (24%) are located in Europe
and a minimal amount of space is located in the Far East. These manufacturing
plants by industry segment and geographic area appear in the table below. The
Company's principal manufacturing plants are located as follows: United States -
Houston, Texas; Tulsa, Oklahoma; Lafayette, Louisiana; Europe - Aberdeen and
East Kilbride, Scotland; Kirkby, England; Celle, Germany; Belfast, Ireland;
South America - Venezuela, Argentina. The Company also owns or leases and
operates numerous customer service centers, shops and sales and administrative
offices throughout the geographic areas in which it operates.
CANADA
AND SOUTH
UNITED STATES AMERICA EUROPE FAR EAST TOTAL
- ------------------------------------------------------------------------
Oilfield 26 5 7 1 39
Process 3 1 1 - 5
The Company believes that its manufacturing facilities are well maintained
and suitable for their intended purposes. The Company also has a significant
investment in service vehicles, rental tools and manufacturing and other
equipment.
ITEM 3. LEGAL PROCEEDINGS
The Company and its subsidiaries are involved in litigation or proceedings
that have arisen in the Company's ordinary business activities. The Company
insures against these risks to the extent deemed prudent by its management, but
no assurance can be given that the nature and amount of such insurance will be
sufficient to fully indemnify the Company against liabilities arising out of
pending and future legal proceedings. Many of these insurance policies contain
deductibles or self-insured retentions in amounts the Company deems prudent. In
determining the amount of self-insurance, it is the Company's policy to
self-insure those losses that are predictable, measurable and recurring in
nature, such as automobile liability claims, general liability and workers
compensation claims. The Company records accruals for the uninsured portion of
losses related to these types of claims. The accruals for losses are calculated
by estimating losses for claims using historical claim data, specific loss
development factors and other information as necessary.
On September 12, 2001, the Company, without admitting or denying the factual
allegations contained in the Order, consented with the Securities and Exchange
Commission ("SEC") to the entry of an Order making Findings and Imposing a
Cease-and-Desist Order (the "Order") for violations of Section 13(b)(2)(A) and
Section 13(b)(2)(B) of the Exchange Act. Among the findings included in the
Order were the following: In 1999, the Company discovered that certain of its
officers had authorized an improper $75,000 payment to an Indonesian tax
official, after which the Company embarked on a corrective course of conduct,
including voluntarily and promptly disclosing the misconduct to the SEC and the
Department of Justice (the "DOJ"). In the course of the Company's investigation
of the Indonesia matter, the Company learned that it had made payments in the
amount of $15,000 and $10,000 in India and Brazil, respectively, to the
Company's agents, without taking adequate steps to ensure that none of the
payments would be passed on to foreign government officials. The Order found
that the foregoing payments violated Section 13(b)(2)(A). The Order also found
the Company in violation of Section 13(b)(2)(B) because it did not have a system
of internal controls to determine if payments violated the Foreign Corrupt
Practices Act ("FCPA"). The FCPA makes it unlawful for U.S. issuers, including
the Company, or anyone acting on their behalf, to make improper payments to any
foreign official in order to obtain or retain business. In addition, the FCPA
establishes accounting control requirements for issuers subject to either the
registration or reporting provisions of the Exchange Act. The Company cooperated
with the SEC's investigation.
By the Order, dated September 12, 2001 (previously disclosed by the Company
in its prior Quarterly Reports on Form 10-Q and a Current Report on Form 8-K),
the Company agreed to cease and desist from committing or causing any violation
and any future
10
violation of Section 13(b)(2)(A) and Section 13(b)(2)(B) of the Exchange Act.
Such Sections of the Exchange Act require issuers to (x) make and keep books,
records and accounts, which, in reasonable detail, accurately and fairly reflect
the transactions and dispositions of the assets of the issuer and (y) devise and
maintain a system of internal accounting controls sufficient to provide
reasonable assurances that: (i) transactions are executed in accordance with
management's general or specific authorization; and (ii) transactions are
recorded as necessary: (I) to permit preparation of financial statements in
conformity with generally accepted accounting principles or any other criteria
applicable to such statements, and (II) to maintain accountability for assets.
On March 25, 2002, a former employee alleging improper activities relating
to Nigeria filed a civil complaint against the Company in the 281st District
Court in Harris County, Texas, seeking back pay and damages, including future
lost wages. On August 2, 2002, the same former employee filed substantially the
same complaint against the Company in the federal district court for the
Southern District of Texas. The state court case has been stayed pending the
outcome of the federal suit. Discovery in the federal suit is in the preliminary
stages.
On March 29, 2002, the Company announced that it had been advised that the
SEC and the DOJ are conducting investigations into allegations of violations of
law relating to Nigeria and other related matters. The SEC has issued a formal
order of investigation into possible violations of provisions under the FCPA
regarding anti-bribery, books and records and internal controls, and the DOJ has
asked to interview current and former employees. Prior to the filing of the
former employee's complaint, the Company had independently initiated an
investigation regarding its operations in Nigeria, which is ongoing. The Company
is providing documents to and cooperating fully with the SEC and the DOJ.
The Company's ongoing internal investigation has identified apparent
deficiencies with respect to certain operations in Nigeria in its books and
records and internal controls, and potential liabilities to governmental
authorities in Nigeria. The investigation was substantially completed during the
first quarter of 2003. Based upon current information, the Company does not
expect that any such potential liabilities will have a material adverse effect
on the Company's results of operations or financial condition.
See also "Item 1. Business - Environmental Matters".
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Common Stock, $1.00 par value per share (the "Common Stock"), of the
Company is principally traded on The New York Stock Exchange. The Common Stock
is also traded on the Pacific Exchange and the Swiss Exchange. At March 5, 2003,
there were approximately 71,500 stockholders and approximately 23,516
stockholders of record.
For information regarding quarterly high and low sales prices on the New
York Stock Exchange for the Common Stock during the two years ended December 31,
2002 and information regarding dividends declared on the Common Stock during the
two years ended December 31, 2002, see Note 18 of the Notes to Consolidated
Financial Statements in Item 8 herein.
Information concerning securities authorized for issuance under equity
compensation plans is set forth in the section entitled "Equity Compensation
Plan Information" in the Proxy Statement of the Company for the Annual Meeting
of Stockholders to be held on April 23, 2003, which section is incorporated
herein by reference.
11
ITEM 6. SELECTED FINANCIAL DATA
The Selected Financial Data should be read in conjunction with "Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations" and with "Item 8. Financial Statements and Supplementary Data"
herein.
YEAR ENDED DECEMBER 31,
--------------------------------------------------------------
(In millions, except per share amounts) 2002 2001 2000 1999 1998
- ----------------------------------------------------------------------------------------------------------------
Revenues $ 5,020.4 $ 5,139.6 $ 4,942.1 $ 4,854.8 $ 6,310.6
Costs and expenses:
Cost of revenues 3,625.7 3,655.9 3,823.4 3,957.1 5,138.4
Selling, general and administrative 840.6 781.7 721.3 752.2 876.3
Merger related costs - - - (1.6) 219.1
Restructuring charges (1.9) 1.8 7.0 44.3 215.8
(Gain) loss on disposal of assets - (2.4) 67.9 (54.8) -
- ----------------------------------------------------------------------------------------------------------------
Total 4,464.4 4,437.0 4,619.6 4,697.2 6,449.6
- ----------------------------------------------------------------------------------------------------------------
Operating income (loss) 556.0 702.6 322.5 157.6 (139.0)
Equity in income (loss) of affiliates (69.7) 45.8 (4.6) 7.0 6.7
Interest expense (111.2) (126.4) (179.9) (167.0) (149.0)
Interest income 5.3 11.9 4.4 5.1 3.6
Gain on trading securities - - 14.1 31.5 -
- ----------------------------------------------------------------------------------------------------------------
Income (loss) from continuing operations
before income taxes 380.4 633.9 156.5 34.2 (277.7)
Income taxes (156.7) (215.8) (94.8) (9.4) (18.4)
- ----------------------------------------------------------------------------------------------------------------
Income (loss) from continuing operations 223.7 418.1 61.7 24.8 (296.1)
Income (loss) from discontinued operations,
net of tax (12.3) 20.6 40.6 8.5 -
- ----------------------------------------------------------------------------------------------------------------
Income (loss) before extraordinary loss and
cumulative effect of accounting change 211.4 438.7 102.3 33.3 (296.1)
Extraordinary loss, net of tax - (1.5) - - -
Cumulative effect of accounting change, net
of tax (42.5) 0.8 - - -
- ----------------------------------------------------------------------------------------------------------------
Net income (loss) $ 168.9 $ 438.0 $ 102.3 $ 33.3 $ (296.1)
================================================================================================================
Per share of common stock:
Income (loss) from continuing operations
Basic $ 0.66 $ 1.25 $ 0.19 $ 0.08 $ (0.92)
Diluted 0.66 1.24 0.19 0.08 (0.92)
Dividends 0.46 0.46 0.46 0.46 0.46
Financial Position:
Working capital $ 1,475.4 $ 1,588.1 $ 1,624.6 $ 1,280.4 $ 1,472.6
Total assets 6,400.8 6,676.2 6,489.1 7,182.1 7,788.3
Long-term debt 1,424.3 1,682.4 2,049.6 2,706.0 2,726.3
Stockholders' equity 3,397.2 3,327.8 3,046.7 3,071.1 3,165.1
NOTES TO SELECTED FINANCIAL DATA
(1) The selected financial data has been reclassified to reflect EIMCO Process
Equipment ("EIMCO") and the Company's oil producing operations in West
Africa as discontinued operations. The results of operations for EIMCO are
not reflected as discontinued operations for 1999 and 1998 as data is not
available for those years because EIMCO was a component of a larger
operating unit during those years. See Note 2 of the Notes to Consolidated
Financial Statements in Item 8 herein for additional information regarding
discontinued operations.
(2) See Note 8 of the Notes to Consolidated Financial Statements in Item 8
herein for a description of the WesternGeco venture formed by the Company in
November 2000.
(3) During 1998, the Company acquired WEDGE DIA-LOG, Inc. and 3-D Geophysical,
Inc. for $218.5 million in cash and $117.5 million in cash, respectively.
The Company also made several smaller acquisitions with an aggregate
purchase price of $121.6 million. The purchase method of accounting was used
to record these acquisitions.
12
(4) In August 1998, the Company completed a merger with Western Atlas Inc.
("Western Atlas") accounted for using the pooling of interests method. In
connection with the merger, the Company recorded merger related costs of
$219.1 million for transaction costs, employee related costs, integration
costs, the write-off of the carrying value of a product line and the
triggering of change in control rights contained in certain stock options
plans of Western Atlas and the Company.
(5) See Note 4 of the Notes to Consolidated Financial Statements in Item 8
herein for a description of the restructuring charges and (gain) loss on
disposal of assets in 2002, 2001 and 2000. During 1999, the Company recorded
a restructuring charge of $122.8 million primarily related to its seismic
operations, of which $72.1 million was recorded in cost of revenues. The
major actions included in this restructuring were a reduction in workforce,
terminating leases on certain vessels, the impairment of property and sale
or abandonment of certain vessels. The Company also recorded a reversal of
$11.4 million of restructuring charges recorded in prior years, of which
$5.0 million was recorded in selling, general and administrative expense.
The Company recorded gains on disposal of assets of $54.8 million relating
to the sale of two large excess real estate properties and the sale of
certain assets related to its previous divestiture of a joint venture. The
restructuring charge in 1998 consisted of charges for severance benefits,
charges to combine operations and consolidate facilities, environmental and
litigation reserves, charges for impairment of inventory and rental tools,
the write-down of a former consolidated joint venture, the write-off and
write-down of certain assets, a ceiling test charge for the Company's oil
and gas properties and a write-down of real estate held for sale. In 1998,
the charges reflected in cost of revenues, selling, general and
administrative expense and restructuring charges were $305.0 million, $68.7
million and $215.8 million, respectively.
(6) See Note 10 and Note 1 of the Notes to Consolidated Financial Statements in
Item 8 herein for descriptions of the cumulative effect of accounting change
in 2002 and 2001, respectively.
13
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Management's Discussion and Analysis of Financial Condition and Results of
Operations ("MD&A") should be read in conjunction with the consolidated
financial statements of the Company for the years ended December 31, 2002, 2001
and 2000 and the related Notes to Consolidated Financial Statements contained in
Item 8 herein.
FORWARD-LOOKING STATEMENTS
MD&A and certain statements in the Notes to Consolidated Financial
Statements include forward-looking statements within the meaning of Section 27A
of the Securities Act of 1933, as amended, and Section 21E of the Securities
Exchange Act of 1934, as amended, (each a "Forward-Looking Statement"). The
words "anticipate," "believe," "expect," "plan," "intend," "estimate,"
"project," "forecasts," "will," "could," "may," "suggest," "likely" and similar
expressions, and the negative thereof, are intended to identify forward-looking
statements. Baker Hughes' expectations regarding its business outlook, customer
spending, oil and gas prices and the business environment for the Company and
the industry in general are only its forecasts regarding these matters. These
forecasts may be substantially different from actual results, which are affected
by the following risk factors: the level of petroleum industry exploration and
production expenditures; drilling rig and oil and gas industry manpower and
equipment availability; the Company's ability to implement and effect price
increases for its products and services; the Company's ability to control its
costs; the availability of sufficient manufacturing capacity and subcontracting
capacity at forecasted costs to meet the Company's revenue goals; the ability of
the Company to introduce new technology on its forecasted schedule and at its
forecasted cost; the ability of the Company's competitors to capture market
share; the Company's ability to retain or increase its market share; the
Company's completion of its proposed West Africa disposition; world economic
conditions; the price of, and the demand for, crude oil and natural gas;
drilling activity; weather conditions that affect the demand for energy and
severe weather conditions that affect exploration and production activities; the
legislative and regulatory environment in the U.S. and other countries in which
the Company operates; Organization of Petroleum Exporting Countries ("OPEC")
policy and the adherence by OPEC nations to their OPEC production quotas; war or
extended period of international conflict involving the U.S., the Middle East
and other major petroleum-producing or consuming regions; acts of war or
terrorism; civil unrest or in-country security concerns where the Company
operates; the development of technology by Baker Hughes or its competitors that
lowers overall finding and development costs; new laws and regulations that
could have a significant impact on the future operations and conduct of all
businesses as a result of the financial deterioration and bankruptcies of large
U.S. entities; labor-related actions, including strikes, slowdowns and facility
occupations; the condition of the capital and equity markets in general; adverse
foreign exchange fluctuations and adverse changes in the capital markets in
international locations where the Company operates; and the timing of any of the
foregoing. See "Business Environment" for a more detailed discussion of certain
of these risk factors.
Baker Hughes' expectations regarding its level of capital expenditures
described in "Liquidity and Capital Resources" below are only its forecasts
regarding these matters. In addition to the factors described in the previous
paragraph and in "Business Environment," these forecasts may be substantially
different from actual results, which are affected by the following factors: the
accuracy of the Company's estimates regarding its spending requirements;
regulatory, legal and contractual impediments to spending reduction measures;
the occurrence of any unanticipated acquisition or research and development
opportunities; changes in the Company's strategic direction; and the need to
replace any unanticipated losses in capital assets.
BUSINESS ENVIRONMENT
The Company currently has seven operating divisions each with separate
management teams that are engaged in the oilfield services and continuous
process industries. The divisions have been aggregated into two reportable
segments - "Oilfield" and "Process".
The Oilfield segment consists of six operating divisions - Baker Atlas,
Baker Oil Tools, Baker Petrolite, Centrilift, Hughes Christensen and INTEQ -
that manufacture and sell products and provide services used in the oil and gas
exploration industry, including drilling, formation evaluation, completion and
production of oil and gas wells. The Oilfield segment also includes the
Company's investment in the WesternGeco venture. For the year ended December 31,
2002, revenues from the Oilfield segment accounted for 97.6% of total revenues.
The Process segment consists of one operating division, BIRD Machine, and
the Company's investment in the Petreco venture. BIRD Machine manufactures and
sells a broad range of continuous and batch centrifuges and specialty filters
for separating, dewatering or classifying process and waste streams.
14
The business environment for the Company's Oilfield segment and its
corresponding operating results can be significantly affected by the level of
energy industry capital expenditures for the exploration and production ("E&P")
of oil and gas reserves. These expenditures are influenced strongly by
expectations about the supply and demand for crude oil and natural gas products
and by the energy price environment.
The Company does business in approximately 70 countries. According to
Transparency International's annual Corruption Perceptions Index ("CPI") survey,
a high degree of corruption is perceived to exist in many of these countries.
For example, the Company does business in about one-half of the 30 countries
having the worst scores in Transparency International's CPI survey for 2002. The
Company devotes significant resources to the development, maintenance and
enforcement of its Business Code of Conduct policy, its Foreign Corrupt
Practices Act (the "FCPA") policy, its internal control processes and
procedures, as well as other compliance related policies. Notwithstanding the
devotion of such resources, and in part as a consequence thereof, the Company,
from time to time, discovers or receives information alleging potential
violations of the FCPA and the Company's policies, processes and procedures. The
Company conducts internal investigations of these potential violations. The
Company anticipates that the devotion of significant resources to compliance
related issues, including the necessity for such internal investigations, will
continue to be an aspect of doing business in a number of the countries in which
oil and gas exploration, development and production take place and the Company
is requested to conduct operations.
Key risk factors currently influencing the worldwide crude oil and gas
markets are:
Production control - the degree to which individual OPEC nations and other
large oil and gas producing countries, including, but not limited to, Mexico,
Norway and Russia, are willing and able to control production and exports of
crude oil to decrease or increase supply and support their targeted oil price
while meeting their market share objectives. Key measures of production control
include actual production levels compared with target or quota production
levels, oil price compared with targeted oil price and changes in each country's
market share.
Global economic growth - particularly the impact of the U.S. and Western
European economies and the economic activity in Japan, China, South Korea and
the developing areas of Asia where the correlation between energy demand and
economic growth is strong. An important factor in the global economic growth in
2003 will be the strength and timing of a U.S. economic recovery. Key measures
include U.S. and global economic activity, global energy demand and forecasts of
future demand by governments and private organizations.
Oil and gas storage inventory levels - a measure of the balance between
supply and demand. A key measure of U.S. natural gas inventories is the storage
level reported weekly by the U.S. Department of Energy compared with historic
levels. Key measures for oil inventories include U.S. inventory levels reported
by the U.S. Department of Energy and American Petroleum Institute and worldwide
estimates reported by the International Energy Agency, again compared with
historic levels.
Ability to produce natural gas - the amount of natural gas that can be
produced is a function of the number of new wells drilled, completed and
connected to pipelines as well as the rate of reservoir depletion and production
from existing wells. Advanced technologies, such as horizontal drilling, result
in improved total recovery, but also result in a more rapid production decline.
Technological progress - in the design and application of new products that
allow oil and gas companies to drill fewer wells and to drill, complete and
produce wells faster, recover more hydrocarbons and to do so at lower cost. Also
key are the overall levels of research and engineering spending and the pace at
which new technology is introduced commercially and accepted by customers.
Maturity of the resource base - of known hydrocarbon reserves in the North
Sea, U.S., Canada and Latin America.
Pace of new investment - access to capital and the reinvestment of available
cash flow into existing and emerging markets. Key measures of access to capital
include cash flow, interest rates, analysis of oil and gas company leverage and
equity offering activity. Access to capital is particularly important for
smaller independent oil and gas companies.
Energy prices and price volatility - the impact of widely fluctuating
commodity prices on the stability of the market and subsequent impact on
customer spending. Sustained higher energy prices can be an impediment to
economic growth. While current energy prices are important contributors to
positive cash flow at E&P companies, expectations for future prices are more
important for determining future E&P spending.
Possible supply disruptions - from key oil exporting countries, including
but not limited to, Iraq, Saudi Arabia and other Middle Eastern countries and
Venezuela, due to political instability or military activity. In addition,
adverse weather such as hurricanes could impact production facilities, causing
supply disruptions.
15
Weather - the impact of variations in temperatures as compared with normal
weather patterns and the related effect on demand for oil and natural gas. A key
measure of the impact of weather on energy demand is population-weighted heating
and cooling degree days as reported by the U.S. Department of Energy and
forecasts of warmer than normal or cooler than normal temperatures.
OIL AND GAS PRICES
Generally, customers' expectations about their prospects from oil and gas
sales and customers' expenditures to explore for or produce oil and gas rise or
fall with corresponding changes in the prices of oil or gas. Accordingly,
changes in these expenditures will normally result in increased or decreased
demand for the Company's products and services in its Oilfield segment. West
Texas Intermediate ("WTI") crude oil and natural gas prices are summarized in
the table below as averages of the daily closing prices during each of the
periods indicated.
2002 2001 2000
- ------------------------------------------------------------------------------
WTI crude oil ($/bbl) $ 26.17 $ 25.96 $ 30.37
U.S. Spot Natural Gas ($/MMBtu) 3.37 3.96 4.30
WTI crude oil prices averaged $26.17/bbl in 2002, rising from a low of
$17.97/bbl in January to a high of $32.72/bbl in December. Production cuts by
both OPEC and non-OPEC producers late in 2001 were carried into the beginning of
2002 and averted a substantial price decline driven by rising inventories early
in the year. Over the course of the year, however, oil prices rose above what
the historical relationship between prices and inventories would suggest was
appropriate, driven primarily by concerns of a possible supply disruption
resulting from a military campaign in Iraq. This "war premium" fluctuated in a
range estimated to be between $2/bbl to $6/bbl for the first three quarters of
2002. In the fourth quarter, prices softened briefly on concerns the market
would be oversupplied due to rising OPEC production rates before strengthening
again in December on renewed supply concerns amidst a general strike in
Venezuela and ongoing uncertainty regarding the possibility of a military
conflict in Iraq.
During 2002, natural gas prices averaged $3.37/MMBtu. While lower than the
2001 average of $3.96/MMBtu, prices generally rose over the course of 2002,
similar to oil prices. From a low of $1.98/MMBtu in January, prices rose as high
as $5.29/MMBtu in December. The rise in natural gas prices over the course of
the year was driven primarily by tightening supply. The year over year gas
storage surplus continued its decline from a December 2001 peak. The first week
of November 2002 marked the start of the withdrawal season, some five weeks
earlier than in 2001, as well as the first time storage levels showed a year
over year deficit since May 2001. This tightening of the gas market was driven
primarily by accelerating declines in gas production as North American drilling
activity in 2002 trended downward to be well below 2001 levels.
RIG COUNTS
The Company is engaged in the oilfield service industry providing products
and services that are used in exploring for, developing and producing oil and
gas reservoirs. When drilling or workover rigs are active, they consume many of
the products and services provided by the oilfield service industry. The rig
counts act as a leading indicator of consumption of products and services used
in drilling, completing, producing and processing hydrocarbons. Rig count trends
are governed by the exploration and development spending by oil and gas
companies, which in turn is influenced by current and future price expectations
for oil and natural gas. Rig counts therefore generally reflect the relative
strength and stability of energy prices.
The Company has been providing rig counts to the public since 1944. The
Company gathers all relevant data through its field service personnel worldwide
who routinely visit the various rigs operating in their areas. This data is then
compiled and distributed to various wire services and trade associations and is
published on the Company's website. Rig counts are compiled weekly for the U.S.
and Canada and monthly for all international and workover rigs. North American
rigs are counted as active if the well being drilled has been started and
drilling has not been completed on the day the count is taken. For an
international rig to be counted as active on a monthly basis, drilling
operations must comprise at least 15 days during the month. Published
international rig counts do not include rigs drilling in Russia or China because
this information is extremely difficult to obtain. The Company's rig counts are
summarized in the table below as averages for each of the periods indicated.
16
2002 2001 2000
- --------------------------------------------------------------------------
U.S. - Land 717 1,003 778
U.S. - Offshore 113 153 140
Canada 263 341 345
- --------------------------------------------------------------------------
North America 1,093 1,497 1,263
- --------------------------------------------------------------------------
Latin America 214 262 227
North Sea 52 56 45
Other Europe 36 39 38
Africa 58 53 46
Middle East 201 179 156
Asia Pacific 171 157 140
- --------------------------------------------------------------------------
Outside North America 732 746 652
- --------------------------------------------------------------------------
Worldwide 1,825 2,243 1,915
==========================================================================
U.S. Workover Rigs 1,010 1,211 1,056
==========================================================================
INDUSTRY OUTLOOK
Caution is advised that the factors described above in "Forward Looking
Statements" and "Business Environment" could negatively impact the Company's
expectations for oil and gas demand, oil and gas prices and drilling activity.
Oil - The balance between oil supply and oil demand is tight as 2003 begins.
The ongoing turmoil in Venezuela has disrupted supplies and resulted in
extremely low oil inventory levels in the U.S. OPEC has decided to increase
production to offset the loss of approximately 2 million barrels per day of
Venezuelan production; however, crude oil from the Middle East generally takes
over one month to arrive in the U.S. due to longer transit times. Complicating
the situation is the uncertainty associated with the possibility and timing of
military action in the Middle East and any additional disruptions in supply. As
a result, oil prices are expected to average between $30/bbl and $35/bbl in the
first quarter of 2003. In 2003, prices could trade in a much broader range
depending on the nature, duration and outcome of any potential military action
in Iraq, the duration and resolution of the strike in Venezuela, the willingness
and the ability of OPEC nations and other key nations to manage production
levels to stabilize prices and the pace of worldwide economic activity.
North America Natural Gas - In 2003, prices are expected to trade between
$3.50/MMBtu and $4.50/MMBtu. Natural gas could trade at the top of this range in
2003 if weather is colder than expected, if the U.S. economy, particularly the
industrial sector, exhibits growth and if continued levels of customer spending
result in further natural gas production declines. Prices could move to the
bottom of this range if the U.S. economic recovery is delayed or weaker than
expected or if weather is milder than expected.
Customer Spending - Based upon the Company's discussions with its major
customers, its review of published industry reports and the Company's outlook
for oil and gas prices described above, the anticipated customer spending trends
are as follows:
- North America - Spending in North America, primarily towards developing
natural gas supplies, is expected to increase approximately 10% to 15%
in 2003 compared with 2002.
- Outside North America - Customer spending, primarily directed at
developing oil supplies, is expected to be flat to up by 5% in 2003
compared with 2002.
- Total spending is expected to be up 4% to 6% in 2003 compared with 2002.
Drilling Activity - Based upon the Company's outlooks for oil and natural
gas prices and customer spending described above, the Company's outlook for
drilling activity, as measured by the Baker Hughes rig count, is as follows:
- The North American rig count is expected to increase approximately 8% to
10% in 2003 compared with 2002. The U.S. rig count is expected to rise
throughout the year and end the year at approximately 950 to 1,100 rigs.
- Drilling activity outside of North America, excluding Venezuela, is
expected to remain steady in 2003 and is expected to increase as much as
3% to 5% compared with 2002.
17
COMPANY OUTLOOK
The Company expects that 2003 will be stronger than 2002, with revenues
expected to increase by approximately 4% to 6% as compared with 2002, with
related improvements in operating results, primarily in the second half of the
year. Activity is expected to improve in the second half of 2003 as a result of
increased drilling activity in the U.S., primarily due to relatively higher
commodity prices. Activity outside of the U.S. is also expected to increase as a
result of the relatively high crude oil prices. The Company expects the first
quarter of 2003 activity to be down compared with the fourth quarter of 2002 due
to the impact of reduced business activity levels in Venezuela, reduced export
sales and downward pricing pressures on the Company's products and services.
On December 2, 2002, PdVSA, the national oil company of Venezuela, initiated
a strike intended to force Venezuelan President Hugo Chavez to resign from
office and call new elections. The strike effectively shut down activity in the
Venezuelan energy industry and led to a general strike which had a severe impact
on the Venezuelan economy. By the end of December 2002, exploration and
development activity was at less than 25% of its pre-strike levels. The nature
and timing of a resolution is uncertain. Even if there is a quick resolution to
the crisis, it is expected to take several months for activity levels in
Venezuela to return to normal. The Company has implemented a cost reduction
effort in Venezuela and has reduced new investments of capital in the country.
The strike has significantly impacted the Company's Venezuelan operations and it
is expected to have a lingering impact after it is resolved until activity
returns to pre-strike levels. Revenues for Venezuela for the years ended
December 31, 2002, 2001 and 2000 totaled $143.7 million, $232.7 million and
$277.4 million, respectively. At December 31, 2002 and 2001, net property in
Venezuela totaled $26.6 million and $37.4 million, respectively.
In Argentina, the weakening peso and related economic issues did not
materially impact the Company's business during 2002. This impact did, however,
include devaluation losses, delays and losses associated with collecting
outstanding accounts receivable and reduced demand for the Company's products
and services. Although the economic environment had stabilized by the end of
2002, there could be additional losses if there were to be additional currency
devaluations or if the Company's customers encounter additional financial
difficulty, thereby impacting their ability to pay amounts due to the Company.
In addition, the economic environment in Argentina will likely continue to
negatively impact the exploration and production spending plans of the Company's
customers for 2003. The Company has responded to this situation in a number of
ways, including renegotiating with its customers for acceptable payment terms,
increasing the use of U.S. dollar based invoicing (or U.S. dollar equivalent
pricing and invoicing), adjusting pricing and contracts to reflect the changes
in Argentina's currency and shipping products to Argentina directly from outside
the country with payment made offshore in U.S. dollars or equivalent currency.
At December 31, 2002, net property in Argentina totaled $9.4 million. Revenues
for Argentina for the year ended December 31, 2002 totaled $69.7 million.
Aspects of the U.S.-Iraqi conflict and the war on terrorism are likely to
have an impact on 2003 results. Currently, expectations of military activity and
potential supply disruptions have resulted in a "war premium" for crude oil and
strong cash flows for our customers. Should military action take place and be
resolved quickly, resulting in an increase in oil production from Iraq, oil
prices could fall significantly. However, should military action not be resolved
quickly, resulting in extended supply disruptions, oil prices could be sustained
at higher prices. The Company cannot predict the extent of the impact that any
such events may have on the Company.
CRITICAL ACCOUNTING POLICIES
The Company's discussion and analysis of its financial condition and results
of operations is based upon its consolidated financial statements, which have
been prepared in accordance with accounting principles generally accepted in the
United States of America. The Company's significant accounting policies are
described in the Notes to Consolidated Financial Statements. The preparation of
the consolidated financial statements requires management to make estimates and
judgments that affect the reported amounts of assets, liabilities, revenues and
expenses and related disclosures about contingent assets and liabilities. The
Company bases its estimates and judgments on historical experience and on
various other assumptions and information that are believed to be reasonable
under the circumstances. Estimates and assumptions about future events and their
effects cannot be perceived with certainty and accordingly, these estimates may
change as new events occur, as more experience is acquired, as additional
information is obtained and as the Company's operating environment changes.
The Company has defined a critical accounting policy as one that is both
important to the understanding of the Company's financial condition and results
of operations and requires the management of the Company to make difficult,
subjective or complex judgments or estimates. The Company believes the following
are the critical accounting polices used in the preparation of the Company's
consolidated financial statements as well as the significant judgments and
uncertainties affecting the application of these policies.
18
REVENUE RECOGNITION
Inherent in the Company's revenue recognition policy is the determination of
the collectibility of amounts due from its customers, which requires the Company
to use estimates and exercise judgment. The Company routinely monitors its
customers' payment history and current credit worthiness to determine that
collectibility is reasonably assured. This requires the Company to make frequent
judgments and estimates in order to determine the appropriate period to
recognize a sale to a customer and the amount of valuation allowances required
for doubtful accounts. The Company records provisions for doubtful accounts when
it becomes evident that the customer will not be able to make the required
payments either at contractual due dates or in the future. Changes in the
financial condition of the Company's customers, either adverse or positive,
could impact the amount and timing of any additional provisions for doubtful
accounts that may be required.
INVENTORIES
The Company's inventory is a significant component of current assets and is
stated at the lower of cost or market. The Company regularly reviews inventory
quantities on hand and records provisions for excess or obsolete inventory based
primarily on its estimated forecast of product demand, market conditions,
production requirements and technological developments. Significant or
unanticipated changes to the Company's forecasts of these items, either adverse
or positive, could impact the amount and timing of any additional provisions for
excess or obsolete inventory that may be required.
IMPAIRMENT OF LONG-LIVED ASSETS
Long-lived assets, which include property, goodwill, intangible assets and
certain other assets, comprise a significant amount of the Company's total
assets. The Company makes judgments and estimates in conjunction with the
carrying value of these assets, including amounts to be capitalized,
depreciation and amortization methods and useful lives. Additionally, the
carrying values of these assets are periodically reviewed for impairment or
whenever events or changes in circumstances indicate that the carrying amounts
may not be recoverable. An impairment loss is recorded in the period in which it
is determined that the carrying amount is not recoverable. This requires the
Company to make long-term forecasts of its future revenues and costs related to
the assets subject to review. These forecasts require assumptions about demand
for the Company's products and services, future market conditions and
technological developments. Significant and unanticipated changes to these
assumptions could require a provision for impairment in a future period.
INCOME TAXES
The Company uses the liability method for determining income taxes, under
which current and deferred tax liabilities and assets are recorded in accordance
with enacted tax laws and rates. Under this method, the amounts of deferred tax
liabilities and assets at the end of each period are determined using the tax
rate expected to be in effect when taxes are actually paid or recovered.
Valuation allowances are established to reduce deferred tax assets when it is
more likely than not that some portion or all of the deferred tax assets will
not be realized. While the Company has considered estimated future taxable
income and ongoing prudent and feasible tax planning strategies in assessing the
need for the valuation allowances, changes in these estimates and assumptions
could require the Company to adjust the valuation allowances for its deferred
tax assets.
The Company operates in more than 70 countries under many legal forms. As a
result, the Company is subject to numerous domestic and foreign tax
jurisdictions and tax agreements and treaties among the various taxing
authorities. The Company's operations in these different jurisdictions are taxed
on various bases: income before taxes, deemed profits (which is generally
determined using a percentage of revenues rather than profits) and withholding
taxes based on revenue. Determination of taxable income in any jurisdiction
requires the interpretation of the related tax laws and regulations and the use
of estimates and assumptions regarding significant future events. Changes in tax
laws, regulations, agreements and treaties, foreign currency exchange
restrictions or the Company's level of operations or profitability in each
taxing jurisdiction could have an impact upon the amount of income taxes that
the Company provides during any given year.
The Company's and its subsidiaries' tax filings for various periods are
subjected to audit by tax authorities in most jurisdictions where they conduct
business. These audits may result in assessments of additional taxes that are
resolved with the authorities or potentially through the courts. The Company
believes that these assessments may occasionally be based on erroneous and even
arbitrary interpretations of local tax law. In these situations, the Company
provides only for the amounts the Company believes will ultimately result from
these proceedings.
19
WESTERNGECO
On November 30, 2000, the Company and Schlumberger and certain wholly owned
subsidiaries of Schlumberger created a venture by transferring the seismic
fleets, data processing assets, exclusive and nonexclusive multiclient surveys
and other assets of the Company's Western Geophysical division and
Schlumberger's Geco-Prakla business unit. The venture operates under the name of
WesternGeco. The Company and Schlumberger own 30% and 70% of the venture,
respectively. The Company accounts for this investment using the equity method
of accounting. In conjunction with the transaction, the Company received $493.4
million in cash from Schlumberger in exchange for the transfer of a portion of
the Company's ownership in WesternGeco. The Company also contributed $15.0
million in working capital to WesternGeco. The Company did not recognize any
gain or loss resulting from the initial formation of the venture due to the
Company's material continued involvement in the operations of WesternGeco. In
addition, as soon as practicable after November 30, 2004, the Company or
Schlumberger will make a cash true-up payment to the other party based on a
formula comparing the ratio of the net present value of sales revenue from each
party's contributed multiclient seismic libraries during the four-year period
ending November 30, 2004 and the ratio of the net book value of those libraries
as of November 30, 2000. The maximum payment that either party will be required
to make as a result of this adjustment is $100.0 million. In the event that
future sales from the contributed libraries continue in the same relative
percentages incurred through December 31, 2002, any payment made by either party
is not expected to be significant. Any payment to be received or paid by the
Company will be recorded as an adjustment to the carrying value of its
investment in WesternGeco.
Summarized financial information for Western Geophysical for the eleven
months ended November 30, 2000, the effective date of the close, included in the
Company's consolidated financial statements is as follows for the year ended
December 31 (in millions):
2000
- -----------------------------------------------------------------------------
Revenues $ 723.7
Income before income taxes(1) 56.9
Expenditures for capital assets and multiclient seismic data 309.6
(1) Includes restructuring charges and corporate allocations excluding interest.
DISCONTINUED OPERATIONS
In November 2002, the Company sold EIMCO Process Equipment ("EIMCO"), a
division of the Process segment, and received total proceeds of $48.9 million,
of which $4.9 million is held in escrow pending completion of final adjustments
of the purchase price. In December 2002, the Company entered into exclusive
negotiations for the sale of the Company's interest in its oil producing
operations in West Africa and received $10.0 million as a deposit. The sale is
subject to the execution of a definitive sale agreement and is expected to close
in the first quarter of 2003. In accordance with generally accepted accounting
principles, the Company has reclassified the consolidated financial statements
for all prior periods to present both of these operations as discontinued.
20
Summarized financial information from discontinued operations is as follows
for the years ended December 31 (in millions):
2002 2001 2000
- -------------------------------------------------------------------------------
Revenues:
EIMCO $ 138.0 $ 181.1 $ 165.4
Oil producing operations 49.1 61.5 126.3
- -------------------------------------------------------------------------------
Total $ 187.1 $ 242.6 $ 291.7
===============================================================================
Income (loss) before income taxes:
EIMCO $ (1.5) $ - $ 8.7
Oil producing operations 19.7 27.8 70.8
- -------------------------------------------------------------------------------
Total 18.2 27.8 79.5
- -------------------------------------------------------------------------------
Income taxes:
EIMCO 0.5 - (3.0)
Oil producing operations (8.7) (7.2) (35.9)
- -------------------------------------------------------------------------------
Total (8.2) (7.2) (38.9)
- -------------------------------------------------------------------------------
Income (loss) before loss
on disposal:
EIMCO (1.0) - 5.7
Oil producing operations 11.0 20.6 34.9
- -------------------------------------------------------------------------------
Total 10.0 20.6 40.6
Loss on disposal of EIMCO:
Loss on write-down to fair value,
net of tax of $1.2 (2.3) - -
Recognition of cumulative foreign
currency translation adjustments
in earnings (20.0) - -
- -------------------------------------------------------------------------------
Income (loss) from discontinued
operations $ (12.3) $ 20.6 $ 40.6
===============================================================================
RESULTS OF OPERATIONS
The Company is engaged primarily in the oilfield service industry, which
accounted for 97.6%, 97.3% and 96.8% of total revenues in 2002, 2001 and 2000,
respectively. As a result, the discussion regarding the consolidated results of
operations is primarily focused on the Company's Oilfield segment.
REVENUES
Revenues for 2002 were $5,020.4 million, a decrease of 2.3% compared with
2001. Oilfield revenues were $4,901.5 million, a decrease of 2.0% compared with
2001. Oilfield revenues in North America, which accounted for 40.1% of total
Oilfield revenues, decreased 12.9% compared with 2001. This decrease reflects
lower activity in the U.S. land and offshore operations and Canada, as evidenced
by a 27.0% decrease in the North American rig count. Inclement weather in the
Gulf of Mexico, including Tropical Storm Isidore and Hurricane Lili, also
contributed to the decline. Outside North America, Oilfield revenues increased
6.9% compared with 2001. This increase reflects the improvement in international
drilling activity, particularly in the Middle East and Asia Pacific, partially
offset by weaker revenues in Latin America due to the political and economic
environments in Argentina and Venezuela and the impact of a labor strike in
Norway.
Revenues for 2001 were $5,139.6 million, an increase of 4.0% compared with
2000. Oilfield revenues were $5,001.9 million, an increase of 4.5% compared with
2000. Oilfield revenues in North America, which accounted for 45.1% of total
Oilfield revenues, increased 4.4% compared with 2000. This increase reflects the
increased drilling activity in this area, as evidenced by a 18.5% increase in
the North American rig count, and improved pricing for the Company's products
and services. Outside North America, Oilfield revenues increased 4.7% compared
with 2000. This increase reflects the improvement in international drilling
activity, particularly in the North Sea, Latin America and the Middle East.
GROSS MARGIN
Gross margin was 27.8%, 28.9% and 21.3% for 2002, 2001 and 2000,
respectively. The decrease in gross margin for 2002 compared with 2001 is the
result of the Company's current strategy not to significantly reduce its work
force to match current activity levels, pricing pressures and a change in the
geographic and product mix from the sale of the Company's products and services.
The increase in gross margin for 2001 compared with 2000 was primarily the
result of pricing improvements for the Company's products and services,
primarily in North America, higher utilization of the Company's assets and
continued cost management measures throughout the Company.
21
SELLING, GENERAL AND ADMINISTRATIVE
Selling, general and administrative ("SG&A") expenses for 2002 were $840.6
million, an increase of 7.5% compared with 2001. SG&A expenses as a percentage
of revenues for 2002 and 2001 were 16.7% and 15.2%, respectively. These
increases were primarily due to the impact of the weakening U.S. dollar and the
resulting foreign exchange losses; increased depreciation of the cost associated
with the now substantially completed implementation of SAP R/3, an
enterprise-wide accounting and business application software system; and the
Company's current strategy not to significantly reduce its work force to match
current market activity levels.
SG&A expenses for 2001 were $781.7 million, an increase of 8.4% compared
with 2000. SG&A expenses as a percentage of consolidated revenues for 2001 and
2000 were 15.2% and 14.6%, respectively. These increases were primarily due to
increased costs to support the higher revenue level, increased employee
incentive costs and decreased foreign exchange gains.
RESTRUCTURING CHARGES
Restructuring charges are comprised of the following for the years ended
December 31 (in millions):
2002 2001 2000
- -------------------------------------------------------------------------------
German operations of BIRD Machine $ (1.9) $ 6.0 $ -
Oil and gas exploration business - (4.2) 29.5
WesternGeco formation - - 6.0
Seismic operations and other - - (28.5)
- -------------------------------------------------------------------------------
Restructuring charges $ (1.9) $ 1.8 $ 7.0
===============================================================================
GERMAN OPERATIONS OF BIRD MACHINE
In 2001, the Company initiated a restructuring of its German operations of
BIRD Machine, a division of the Process segment. The restructuring consisted of
downsizing its German operations from a full manufacturing facility to an
assembly and repair facility. As a result, the Company recorded a charge of $6.0
million relating to severance for approximately 100 employees. The Company
terminated 67 employees and paid $4.1 million of accrued severance. The
remaining accrual of $1.9 million was reversed during the second quarter of 2002
due to unanticipated voluntary terminations and more favorable separation
payments than had been originally estimated.
OIL AND GAS EXPLORATION BUSINESS
In October 2000, the Company's Board of Directors approved the Company's
plan to substantially exit the oil and gas exploration business. The Company's
oil and gas exploration business included various small producing working
interests and undeveloped properties around the world and a working interest in
West Africa that accounted for substantially all of the Company's revenue from
oil and gas operations, which interest is now reflected as a discontinued
operation. The Company had determined that future capital requirements were more
than the Company was willing to commit and that this business was not consistent
with its long-term plans. As a result, the Company recorded restructuring
charges of $29.5 million, consisting of $5.5 million of severance, $7.8 million
for costs to settle contractual obligations and a $16.2 million loss for the
write-off of the Company's undeveloped exploration properties in certain foreign
jurisdictions.
The severance charges were for approximately 50 employees, of which 24
employees have been terminated as of December 31, 2002. The Company has paid
$2.6 million of this accrued severance through 2002. Based on current estimates,
the Company expects that the remainder of the accrued severance will be paid
during 2003 or as the employees leave the Company.
Included in the costs to settle contractual obligations was $4.5 million for
the minimum amount of the Company's share of project costs relating to the
Company's interest in an oil and gas property in Colombia. After unsuccessful
attempts to negotiate a settlement with its joint venture partner, the Company
decided to abandon further involvement in this project. Subsequently, in 2001, a
third party approached the Company and agreed to assume the remaining
obligations in exchange for the Company's interest in the project. Accordingly,
the Company reversed $4.2 million related to this obligation. The Company has
paid $2.7 million of accrued contractual obligations through 2002. The remaining
contractual obligations will be paid as the Company settles with the various
counterparties.
WESTERNGECO FORMATION
In 2000, the Company recorded an expense of $6.0 million in connection with
the restructuring of its seismic operations through the formation of
WesternGeco. This consisted of compensation cost of $3.0 million for stock
options retained by certain employees
22
who became employees of WesternGeco and $3.0 million for vacation costs accrued
as part of its agreement with the Company's venture partner. The compensation
cost of the options was measured using the intrinsic value method.
SEISMIC OPERATIONS AND OTHER
In October 1999, the Company recorded a restructuring charge of $115.0
million related to the downsizing of its seismic operations. During the ensuing
six months, the seismic industry continued to deteriorate, resulting in further
consolidations in the industry. In May 2000, the Company announced the formation
of WesternGeco. As a result of this venture formation, the original
restructuring plan was modified, which resulted in a $17.6 million reversal of
the original charge. Such reversal included $7.5 million from the retention by
the venture of approximately 400 employees that had been identified for
termination and lower than expected moving and derigging costs of certain marine
vessels. The reversal also included $9.0 million related to the Company's
successful negotiation of more favorable terms related to the final termination
of 10 marine vessel leases during May and June 2000.
The reversals in 2000 also included $10.9 million, which primarily related
to a $4.0 million recovery from a receivable written off as a restructuring
charge in 1998 and $4.2 million from favorable settlements related to litigation
originally accrued for as restructuring charges in 1998 and 1997.
(GAIN) LOSS ON DISPOSAL OF ASSETS
During 2001, the Company recognized a gain of $3.4 million on the
disposition of its interest in a joint venture within the Oilfield segment and
received net proceeds of $6.0 million from this transaction. The Company also
recognized a loss of $1.0 million on the sale of a product line within the
Oilfield segment.
During 2000, in conjunction with the Company's plan to substantially exit
the oil and gas exploration business, the Company sold its interests in its
China, Gulf of Mexico and Gabon oil and gas properties and recorded a loss of
$75.5 million on the sale of these properties. Net proceeds from these sales
were $53.4 million and were used to repay outstanding indebtedness. In addition,
the Company recognized gains of $7.6 million on the sale of various product
lines within the Oilfield segment.
EQUITY IN INCOME (LOSS) OF AFFILIATES
Equity in income (loss) of affiliates relates to the Company's share of the
income (loss) of affiliates accounted for using the equity method of accounting.
Included in equity in income (loss) of affiliates for the year ended December
31, 2001 and 2000 is $7.9 million and $1.9 million, respectively, related to the
amortization of goodwill associated with equity method investments. In
conjunction with the adoption of Statement of Financial Accounting Standards
("SFAS") No. 142, Goodwill and Other Intangible Assets, the Company discontinued
the amortization of goodwill associated with equity method investments effective
January 1, 2002.
Equity in income (loss) of affiliates for 2002 was $(69.7) million, a
decrease of $115.5 million compared with 2001. The Company's most significant
equity method investment is its 30% interest in WesternGeco. The operating
results of WesternGeco have been adversely affected by the continuing overall
weakness in the seismic industry. As a result of this weakness, WesternGeco
recorded a restructuring charge of $300.7 million for impairment of its
multiclient library, reductions in workforce, closing land-based seismic
operations in the U.S. lower 48 states and Canada and reducing its marine
seismic fleet. The Company's portion of the charge was $90.2 million and is
recorded in equity in income (loss) of affiliates.
Equity in income (loss) of affiliates for 2001 was $45.8 million, an
increase of $50.4 million compared with 2000. The increase in equity in income
(loss) of affiliates for 2001 compared with 2000 is primarily due to the
inclusion of a full year of the Company's share of the net income of
WesternGeco, offset by a $10.3 million charge related to the write-off of
certain assets associated with WesternGeco.
INTEREST EXPENSE
Interest expense for 2002 decreased $15.2 million compared with 2001. The
decrease was primarily due to lower total debt levels r