UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Form 10–Q

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

OR

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

Commission File Number 1–9397

Baker Hughes Incorporated

3900 Essex Lane, Suite 1200, Houston, Texas
(Address of principal executive offices)
77027
(Zip Code)

Registrant’s telephone number, including area code: (713) 439–8600

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities
Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports),
and (2) has been subject to such filing requirements for the past 90 days. YES þ NO o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b–2 of the Exchange Act).

As of April 29, 2005, the registrant has outstanding 338,797,551 shares of Common Stock, $1 par value per share.

INDEX

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PART I – FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

Baker Hughes Incorporated

See accompanying notes to consolidated condensed financial statements.

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Baker Hughes Incorporated

See accompanying notes to consolidated condensed financial statements.

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Baker Hughes Incorporated

See accompanying notes to consolidated condensed financial statements.

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Baker Hughes Incorporated

NOTE 1. GENERAL

Nature of Operations

     Baker Hughes Incorporated (“we,” “our” or “us”) is engaged in the oilfield services industry. We are a major supplier of wellbore related products and technology services and systems to the worldwide oil and natural gas industry and provide products and services for drilling, formation evaluation, completion and production of oil and natural gas wells.

Basis of Presentation

     Our unaudited consolidated condensed financial statements included herein have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. Accordingly, certain information and disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted. We believe that the presentations and disclosures herein are adequate to make the information not misleading. The unaudited consolidated condensed financial statements reflect all adjustments (consisting of normal recurring adjustments) necessary for a fair presentation of the interim periods. These unaudited consolidated condensed financial statements should be read in conjunction with our audited consolidated financial statements included in our Annual Report on Form 10–K for the year ended December 31, 2004. The results of operations for the interim periods are not necessarily indicative of the results of operations to be expected for the full year.

     In the notes to the unaudited consolidated condensed financial statements, all dollar and share amounts in tabulations are in millions of dollars and shares, respectively, unless otherwise indicated.

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

NOTE 2. STOCK–BASED COMPENSATION

     As allowed under Statement of Financial Accounting Standards (“SFAS”) No. 123, Accounting for Stock–Based Compensation, we have elected to account for our stock–based compensation using the intrinsic value method of accounting in accordance with Accounting Principles Board Opinion No. 25 (“APB No. 25”), Accounting for Stock Issued to Employees. Under this method, compensation expense is to be recognized for the difference between the quoted market price of the stock at the measurement date less the amount, if any, the employee is required to pay for the stock. Our reported net income does not include any compensation expense associated with stock option awards because the exercise prices of our stock option awards equal the market prices of the underlying stock when granted. Our reported net income does include compensation expense associated with restricted stock awards.

     In December 2004, the Financial Accounting Standards Board (“FASB”) issued the revised SFAS No. 123, Share–Based Payment (“SFAS No. 123R”). SFAS No. 123R is a revision of SFAS No. 123 and supersedes APB No. 25. SFAS No. 123R requires a public entity to measure the cost of employee services received in exchange for an award of equity instruments based on the grant–date fair value of the award. That cost will be recognized over the period in which an employee is required to provide service in exchange for the award. SFAS No. 123R also requires a public entity to initially measure the cost of employee services rendered in exchange for an award of liability instruments at its current fair value. The fair value of that award is to be remeasured subsequently at each reporting date through the settlement date. Changes in the fair value during the required service period are to be recognized as compensation cost over that period.

     SFAS No. 123R also clarified the accounting related to estimating the service period for employees that are, or become, retirement eligible during the vesting period, requiring that the recognition of compensation expense for these employees be accelerated. This impacts the timing of pro forma expense recognition, but not the total expense to be recognized over the vesting period. The cumulative effect of this clarification is $11.8 million, net of tax, and relates only to stock option awards. This amount is included in our pro forma disclosure for stock–based compensation for the three months ended March 31, 2005.

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Baker Hughes Incorporated
Notes to Consolidated Condensed Financial Statements (continued)

     If we had recognized compensation expense as if the fair value based method had been applied to all awards as provided for under SFAS No. 123, our pro forma net income, earnings per share (“EPS”) and stock–based compensation cost would have been as follows:

     These pro forma calculations may not be indicative of future amounts since additional awards in future years are anticipated.

     In April 2005, the Securities and Exchange Commission (“SEC”) adopted a rule that defers the required effective date of SFAS No. 123R. The SEC rule provides that SFAS No. 123R is now effective for registrants as of the beginning of the first fiscal year beginning after June 15, 2005. We are currently in the process of evaluating different option pricing models and the impact of SFAS No. 123R on our consolidated condensed financial statements. We will adopt SFAS No. 123R on January 1, 2006.

NOTE 3. DISCONTINUED OPERATIONS

     In September 2004, we completed the sale of Baker Hughes Mining Tools (“BHMT”), a product line group within the Drilling and Evaluation segment that manufactured rotary drill bits used in the mining industry. In January 2004, we completed the sale of BIRD Machine (“BIRD”), the remaining division of the former Process segment, and received $5.6 million in proceeds, which were subject to post–closing adjustments to the purchase price, and retained certain accounts receivable, inventories and other assets.

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Baker Hughes Incorporated
Notes to Consolidated Condensed Financial Statements (continued)

     We have reclassified our consolidated condensed financial statements for all prior periods presented to reflect these operations as discontinued. Summarized financial information from discontinued operations is as follows:

NOTE 4. COMPREHENSIVE INCOME (LOSS)

     Comprehensive income (loss) includes all changes in equity during a period except those resulting from investments by and distributions to owners. The components of our comprehensive income (loss), net of related tax, are as follows:

     Total accumulated other comprehensive loss consisted of the following:

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Baker Hughes Incorporated
Notes to Consolidated Condensed Financial Statements (continued)

NOTE 5. EARNINGS PER SHARE

     A reconciliation of the number of shares used for the basic and diluted EPS calculation is as follows:

NOTE 6. INVENTORIES

     Inventories are comprised of the following:

NOTE 7. INVESTMENTS IN AFFILIATES

     We have investments in affiliates that are accounted for using the equity method of accounting. The most significant of these affiliates is WesternGeco, a seismic venture in which we own 30% and Schlumberger Limited (“Schlumberger”) owns 70%. Summarized unaudited operating results for WesternGeco are as follows:

     The summarized unaudited financial position of WesternGeco is as follows:

     In February 2004, we completed the sale of our minority interest in Petreco International, a venture we entered into in 2001, for $35.8 million, of which $7.4 million is held in escrow pending the outcome of potential indemnification obligations pursuant to the sales agreement. A portion of the escrow will be released in May 2005, with the remainder released in February 2006. We recognized a gain on the sale of $1.3 million, net of tax of $1.5 million.

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Baker Hughes Incorporated
Notes to Consolidated Condensed Financial Statements (continued)

     In conjunction with the formation of WesternGeco in November 2000, we entered into an agreement with Schlumberger whereby a cash true–up payment will be made by either of the parties based on a formula comparing the ratio of the net present value of sales revenue from each party’s contributed multiclient seismic data 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. We currently estimate that Schlumberger will make a payment to us in the range of $9.0 million to $11.5 million, pending final determination of the adjustment. When received, this payment will be recorded as a reduction to the carrying value of our investment in WesternGeco. This payment will be taxable when received and the tax effect will be recorded as current income tax expense.

     On or after December 1, 2005, either party to the WesternGeco Master Formation Agreement may offer to sell their entire interest in the venture to the other party at a cash purchase price per percentage interest specified in an offer notice. If the offer to sell is not accepted, the offering party will be obligated to purchase the entire interest of the other party at the same price per percentage interest as the price specified in the offer notice. We cannot predict when, or if, we or Schlumberger may exercise this right.

NOTE 8. PROPERTY

     Property is comprised of the following:

NOTE 9. GOODWILL AND INTANGIBLE ASSETS

     The changes in the carrying amount of goodwill are detailed below by segment:

     Intangible assets are comprised of the following:

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Baker Hughes Incorporated
Notes to Consolidated Condensed Financial Statements (continued)

     Intangible assets are amortized either on a straight–line basis with estimated useful lives ranging from 1 to 20 years, or on a basis that reflects the pattern in which the economic benefits of the intangible assets are consumed, which range from 15 to 30 years.

     Amortization expense for intangible assets for the three months ended March 31, 2005 was $3.8 million and is estimated to be $14.8 million for 2005. Estimated amortization expense for each of the subsequent five fiscal years is expected to be within the range of $8.3 million to $14.5 million.

NOTE 10. FINANCIAL INSTRUMENTS

Interest Rate Swap Agreement

     In April 2004, we entered into an interest rate swap agreement for a notional amount of $325.0 million associated with our 6.25% Notes due January 2009. Under this agreement, we receive interest at a fixed rate of 6.25% and pay interest at a floating rate of six–month LIBOR plus a spread of 2.741%. The interest rate swap agreement has been designated and qualifies as a fair value hedging instrument. The interest rate swap agreement is fully effective, resulting in no gain or loss recorded in the consolidated condensed statement of operations. At March 31, 2005, we recorded the fair value of the interest rate swap agreement, which was a $10.2 million liability and is reported in other liabilities in the consolidated condensed balance sheet. The fair value was based on quoted market prices for contracts with similar terms and maturity dates. The offset of this liability is reported in long-term debt in the consolidated condensed balance sheet and had the effect of reducing the carrying amount of the 6.25% Notes due January 2009 by $10.2 million.

Foreign Currency Forward Contracts

     At March 31, 2005, we had entered into several foreign currency forward contracts with notional amounts aggregating $73.0 million to hedge exposure to currency fluctuations in various foreign currencies, including the British Pound Sterling, the Norwegian Krone, the Euro and the Brazilian Real. These contracts are designated and qualify as fair value hedging instruments. Based on quoted market prices as of March 31, 2005 for contracts with similar terms and maturity dates, we recorded a loss of $0.3 million to adjust these foreign currency forward contracts to their fair market value. This loss offsets designated foreign exchange gains resulting from the underlying exposures and is included in selling, general and administrative expense in our consolidated condensed statement of operations.

     At March 31, 2005, we had also entered into several foreign currency forward contracts with notional amounts aggregating $238.6 million to hedge exposure to currency fluctuations in various foreign currencies, including the British Pound Sterling, the Euro and the Canadian Dollar. These exposures arise when local currency operating expenses are not in balance with local currency revenue co