<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
-------- ---------
Commission File Number
1-8514
Smith International, Inc.
(Exact name of Registrant as specified in its charter)
DELAWARE 95-3822631
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification
Number)
16740 HARDY STREET
HOUSTON, TEXAS 77032
(Address of principal executive offices) (Zip Code)
(281) 443-3370
(Registrant's telephone number, including area code)
NOT APPLICABLE
(Former name, former address and former fiscal year,
if changed since last report)
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
----- -----
The number of shares outstanding of the Registrant's common stock as of
August 12, 1999 was 49,455,420.
<PAGE> 2
INDEX
<TABLE>
<CAPTION>
Page No.
--------
<S> <C> <C>
PART I: FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)
Consolidated Statements of Operations -
For the Three and Six Months Ended June 30, 1999 and 1998.......... 1
Consolidated Balance Sheets -
As of June 30, 1999 and December 31, 1998.......................... 2
Consolidated Statements of Cash Flows -
For the Six Months Ended June 30, 1999 and 1998.................... 3
Notes to Consolidated Financial Statements............................. 4
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS............................... 8
PART II: OTHER INFORMATION
ITEMS 1 - 6......................................................................... 15
SIGNATURES............................................................................... 16
</TABLE>
<PAGE> 3
SMITH INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
---------------------------- ----------------------------
1999 1998 1999 1998
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
REVENUES ................................... $ 389,695 $ 557,749 $ 786,717 $ 1,136,682
COSTS AND EXPENSES:
Costs of Revenues ........................ 291,010 384,873 576,693 781,960
Selling Expenses ......................... 70,791 86,480 140,698 173,030
General and Administrative Expenses ...... 21,479 20,397 42,422 42,601
Gain on Sale ............................. -- -- (10,520) --
Merger, Restructuring and Other
Non-Recurring Costs .................... -- 55,000 7,899 55,000
----------- ----------- ----------- -----------
Total Costs and Expenses ............ 383,280 546,750 757,192 1,052,591
----------- ----------- ----------- -----------
INCOME BEFORE INTEREST AND TAXES ........... 6,415 10,999 29,525 84,091
INTEREST EXPENSE, NET ...................... 11,297 9,813 23,372 18,926
----------- ----------- ----------- -----------
INCOME (LOSS) BEFORE INCOME TAXES AND
MINORITY INTERESTS ....................... (4,882) 1,186 6,153 65,165
INCOME TAX PROVISION (BENEFIT) ............. (1,455) 2,322 3,495 21,636
----------- ----------- ----------- -----------
INCOME (LOSS) BEFORE MINORITY INTERESTS .... (3,427) (1,136) 2,658 43,529
MINORITY INTERESTS ......................... (406) 6,356 (927) 17,444
----------- ----------- ----------- -----------
NET INCOME (LOSS) .......................... $ (3,021) $ (7,492) $ 3,585 $ 26,085
=========== =========== =========== ===========
EARNINGS (LOSS) PER SHARE:
Basic .................................... $ (0.06) $ (0.16) $ 0.07 $ 0.55
=========== =========== =========== ===========
Diluted .................................. $ (0.06) $ (0.16) $ 0.07 $ 0.54
=========== =========== =========== ===========
WEIGHTED AVERAGE SHARES OUTSTANDING:
Basic .................................... 48,421 47,793 48,291 47,683
Diluted .................................. 48,421 47,793 48,852 48,155
</TABLE>
The accompanying notes are an integral part of these financial statements.
1
<PAGE> 4
SMITH INTERNATIONAL, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT PAR VALUE DATA)
(UNAUDITED)
<TABLE>
<CAPTION>
June 30, December 31,
1999 1998
------------ ------------
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents.............................................. $ 24,804 $ 22,717
Receivables, net....................................................... 389,419 424,054
Inventories, net....................................................... 456,771 465,705
Deferred tax assets, net............................................... 56,452 48,509
Prepaid expenses and other............................................. 29,217 36,170
------------ -----------
Total current assets................................................. 956,663 997,155
------------ -----------
PROPERTY, PLANT AND EQUIPMENT, NET....................................... 377,656 375,236
GOODWILL, NET............................................................ 304,934 289,242
OTHER ASSETS............................................................. 108,012 97,355
------------ -----------
TOTAL ASSETS............................................................. $ 1,747,265 $ 1,758,988
============ ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Short-term borrowings and current portion of long-term debt............ $ 253,922 $ 345,253
Accounts payable....................................................... 162,723 145,338
Accrued payroll costs.................................................. 47,120 46,296
Income taxes payable................................................... 19,228 32,402
Accrued merger and restructuring costs................................. -- 36,299
Other.................................................................. 94,009 87,712
------------ -----------
Total current liabilities.......................................... 577,002 693,300
------------ -----------
LONG-TERM DEBT........................................................... 429,532 368,823
DEFERRED TAX LIABILITIES................................................. 32,038 29,421
OTHER LONG-TERM LIABILITIES.............................................. 23,446 23,903
MINORITY INTERESTS....................................................... 23,602 9,507
SHAREHOLDERS' EQUITY:
Preferred Stock, $1 par value; 5,000 shares authorized; no shares
issued or outstanding in 1999 or 1998................................ -- --
Common Stock, $1 par value; 60,000 shares authorized; 49,442 shares
issued and outstanding in 1999 (48,793 in 1998)...................... 49,442 48,793
Additional paid-in capital............................................. 348,164 323,056
Retained earnings...................................................... 284,370 280,785
Cumulative translation adjustments..................................... (12,629) (10,898)
Less - treasury securities, at cost; 656 common shares in 1999 and 1998. (7,702) (7,702)
----------- ----------
Total shareholders' equity......................................... 661,645 634,034
----------- ----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY............................... $ 1,747,265 $1,758,988
=========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
2
<PAGE> 5
SMITH INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
For the Six Months Ended
June 30,
------------------------
1999 1998
--------- ---------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income ................................................................ $ 3,585 $ 26,085
Adjustments to reconcile net income to net cash provided by operating
activities, excluding the net effects of acquisitions:
Depreciation and amortization .......................................... 37,257 34,020
Minority interests ..................................................... (927) 17,444
Provision for losses on receivables .................................... 643 1,326
Gain on disposal of property, plant and equipment ...................... (3,578) (4,130)
Foreign currency translation losses .................................... 737 253
Reserve for merger and restructuring costs, net of tax benefit ......... -- 37,217
Changes in operating assets and liabilities:
Receivables ............................................................ 78,190 7,966
Inventories, net ....................................................... 54,170 (48,937)
Accounts payable ....................................................... (30,833) (16,747)
Accrued merger and restructuring costs ................................. (33,285) --
Other current assets and liabilities ................................... (23,681) (21,983)
Other non-current assets and liabilities ............................... (8,478) (19,470)
--------- ---------
Net cash provided by operating activities .................................. 73,800 13,044
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from disposal of operations ....................................... 44,218 --
Acquisition of businesses, net of cash acquired ............................ (285,093) (19,313)
Purchases of property, plant and equipment ................................. (26,591) (67,382)
Proceeds from disposal of property, plant and equipment .................... 8,016 7,893
--------- ---------
Net cash used in investing activities ...................................... (259,450) (78,802)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of long-term debt ................................... 49,855 84,263
Principal payments of long-term debt ....................................... (20,966) (20,008)
Net increase (decrease) in short-term borrowings ........................... 157,232 (4,210)
Proceeds from exercise of stock options .................................... 1,171 378
Contributions from minority interest partner, net .......................... -- 2,712
--------- ---------
Net cash provided by financing activities .................................. 187,292 63,135
--------- ---------
Effect of exchange rate changes on cash .................................... 445 (83)
--------- ---------
Increase (decrease) in cash and cash equivalents ........................... 2,087 (2,706)
Cash and cash equivalents at beginning of period ........................... 22,717 37,109
--------- ---------
Cash and cash equivalents at end of period ................................. $ 24,804 $ 34,403
========= =========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for interest ..................................................... $ 18,841 $ 20,286
Cash paid for income taxes ................................................. $ 13,766 $ 21,636
</TABLE>
The accompanying notes are an integral part of these financial statements.
3
<PAGE> 6
SMITH INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1) BASIS OF PRESENTATION OF INTERIM FINANCIAL STATEMENTS
The accompanying unaudited consolidated financial statements of Smith
International, Inc. and subsidiaries (the "Company") have been prepared pursuant
to the rules and regulations of the Securities and Exchange Commission (the
"Commission"). Accordingly, certain information and footnote disclosures
normally included in financial statements prepared in accordance with generally
accepted accounting principles have been condensed or omitted. These financial
statements should be read in conjunction with the audited financial statements
and accompanying notes included in the Company's 1998 Annual Report on Form 10-K
and other current filings with the Commission.
The unaudited consolidated financial statements reflect all adjustments
(consisting of normal recurring adjustments) which the Company considers
necessary for a fair presentation of the interim periods. All significant
intercompany balances and transactions have been eliminated in the accompanying
financial statements. Results for the interim periods are not necessarily
indicative of results for the year.
2) ACQUISITIONS
On May 28, 1999, the Company acquired certain operations of ConEmsco, Inc.
("CE") and CE's majority ownership interest in CE Franklin, Ltd., businesses
primarily engaged in oilfield supply and distribution in the U.S. and Canada. In
connection with the acquisition, the Company issued 548,527 shares of common
stock and a $30.0 million note payable to the seller. The acquisition has been
recorded using the purchase method of accounting and, accordingly, the acquired
operations have been included in the results of operations since the acquisition
date. The purchase price was allocated to the net assets acquired based upon
their estimated fair market values at the date of acquisition. The excess of the
purchase price over the estimated fair value of the net assets acquired amounted
to approximately $20.7 million, which has been recorded as goodwill.
The balances included in the Consolidated Balance Sheets related to the
acquisition are based upon preliminary information and are subject to change
when additional information concerning final asset and liability valuations is
obtained. Material changes in the preliminary allocations are not anticipated by
management.
The unaudited pro forma supplemental information for the six months
ended June 30, 1999 and 1998 is presented below (in thousands, except per share
amounts):
<TABLE>
<CAPTION>
For the Six Months
Ended June 30,
------------------------------
1999 1998
------------- -------------
<S> <C> <C>
Revenues......................................................... $ 893,870 $ 1,384,122
Net income (loss)................................................ $ (5,011) $ 29,810
Earnings (loss) per share:
Basic.......................................................... $ (0.10) $ 0.61
Diluted........................................................ $ (0.10) $ 0.61
</TABLE>
The unaudited pro forma supplemental information is based on historical
information and does not include estimated cost savings; therefore, it does not
purport to be indicative of the results of operations had the combination been
in effect at the date indicated or of future results for the combined entities.
4
<PAGE> 7
The following schedule summarizes investing activities related to the
business acquisition amount included in the Consolidated Statements of Cash
Flows for the six months ended June 30, 1999 (in thousands):
<TABLE>
<S> <C>
Fair value of assets, net of cash acquired...................... $ 139,560
Goodwill recorded............................................... 20,691
Note payment related to 1998 acquisition........................ 265,000
Less: Total liabilities assumed................................ 116,434
Less: Common stock issued for consideration.................... 23,724
-----------
Acquisition of businesses, net of cash acquired................. $ 285,093
===========
</TABLE>
3) NON-RECURRING ITEMS
The Company recorded two non-recurring items in the first quarter of
1999 reflected in total costs and expenses in the accompanying Consolidated
Statements of Operations. The Company disposed of its industrial bentonite
mining operations located in Greece in exchange for cash consideration of $29.7
million and recognized a pretax gain of $10.5 million related to the
disposition. Additionally, the Company recorded charges of $7.9 million
associated with the write-off of certain assets and the settlement of a customer
receivable during the first quarter of 1999.
4) EARNINGS PER SHARE
Basic earnings per share ("EPS") is computed using the weighted average
number of common shares outstanding during the period. Diluted EPS gives effect
to the potential dilution of earnings which could have occurred if additional
shares were issued for stock option exercises under the treasury stock method.
The following schedule reconciles the income and shares used in the basic and
diluted EPS computations (in thousands, except per share data):
<TABLE>
<CAPTION>
For the Three Months For the Six Months
Ended June 30, Ended June 30,
--------------------- ---------------------
1999 1998 1999 1998
-------- -------- -------- --------
<S> <C> <C> <C> <C>
BASIC EPS
Net income (loss) .......................................... $ (3,021) $ (7,492) $ 3,585 $ 26,085
======== ========= ======== ========
Weighted average number of common
shares outstanding ....................................... 48,421 47,793 48,291 47,683
-------- --------- -------- --------
Basic earnings (loss) per share ............................ $ (0.06) $ (0.16) $ 0.07 $ 0.55
======== ========= ======== ========
DILUTED EPS
Net income (loss) .......................................... $ (3,021) $ (7,492) $ 3,585 $ 26,085
======== ========= ======== ========
Weighted average number of common
shares outstanding ....................................... 48,421 47,793 48,291 47,683
Dilutive effect of stock options ........................... -- -- 561 472
-------- --------- -------- --------
48,421 47,793 48,852 48,155
-------- --------- -------- --------
Diluted earnings (loss) per share .......................... $ (0.06) $ (0.16) $ 0.07 $ 0.54
======== ========= ======== ========
</TABLE>
5
<PAGE> 8
5) COMPREHENSIVE INCOME
The Company's comprehensive income (loss), which encompasses net
operating results and currency translation adjustments, is as follows (in
thousands):
<TABLE>
<CAPTION>
For the Three Months For the Six Months
Ended June 30, Ended June 30,
---------------------- ----------------------
1999 1998 1999 1998
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Net income (loss) ................... $ (3,021) $ (7,492) $ 3,585 $ 26,085
Currency translation adjustments .... (1,485) 380 (1,731) (653)
-------- -------- -------- --------
Comprehensive income (loss) ......... $ (4,506) $ (7,112) $ 1,854 $ 25,432
======== ======== ======== ========
</TABLE>
6) INVENTORIES
Inventories are stated at the lower of cost or market. Cost is
determined by the first-in, first-out ("FIFO") method for the majority of the
Company's inventories. The remaining inventories are costed under the last-in,
first-out ("LIFO") or average cost methods. Inventory costs, consisting of
materials, labor and factory overhead, are as follows (in thousands):
<TABLE>
<CAPTION>
June 30, December 31,
1999 1998
--------- ------------
<S> <C> <C>
Raw materials ..................................... $ 42,736 $ 43,612
Work-in-process ................................... 46,473 57,913
Products purchased for resale ..................... 109,427 72,444
Finished goods .................................... 282,006 313,597
--------- ------------
480,642 487,566
Reserves to state certain domestic inventories
($209,265 and $221,653 in 1999 and 1998,
respectively) on a LIFO basis ................. (23,871) (21,861)
--------- ------------
Inventories, net .................................. $ 456,771 $ 465,705
========= ============
</TABLE>
7) DEBT
The following summarizes the Company's outstanding debt (in thousands):
<TABLE>
<CAPTION>
June 30, December 31,
1999 1998
--------- ------------
<S> <C> <C>
Current:
Short-term notes payable .................... $ 180,500 $ 259,922
Short-term bank borrowings .................. 50,952 63,036
Current portion of long-term debt ........... 22,470 22,295
--------- ------------
$ 253,922 $ 345,253
--------- ------------
Long-term:
Notes, net of unamortized discount ........ $ 274,707 $ 279,750
Bank revolvers payable .................... 147,471 75,600
Term loans ................................ 29,824 35,768
--------- ------------
452,002 391,118
Less current portion of long-term debt .... (22,470) (22,295)
--------- ------------
Long-term debt ............................ $ 429,532 $ 368,823
========= ============
</TABLE>
6
<PAGE> 9
At December 31, 1998, the Company's short term borrowings included the
discounted value of a note payable to Halliburton Company issued in connection
with the acquisition of the remaining 36 percent interest in M-I L.L.C. ("M-I").
The note matured and was repaid on April 28, 1999 utilizing borrowings under
existing credit facilities and a new promissory note with a bank. Loans under
the new promissory note have maturities less than six months and carry an
interest rate of LIBOR + 30 basis points. The Company also negotiated a
committed $165.0 million revolving credit facility with a bank group for use in
the event loans can not be funded under the promissory note. No amounts have
been borrowed under the facility, which expires no later than December 31, 1999
and includes an annual commitment fee of 0.15 percent of the unutilized
facility.
Short-term borrowings also include a $15.5 million note payable issued
in connection with the CE acquisition. The note matures no later than December
31, 1999 and carries interest at prime+ 0.5 percent.
8) LITIGATION
On October 29, 1996, the Company was served with a complaint in the
U.S. District Court entitled Rock Bit International, Inc. v. Smith
International, Inc. This lawsuit is a patent infringement dispute alleging that
drill bits made by the Company infringe a U.S. patent owned by Rock Bit
International ("RBI") which was issued on September 8, 1992. RBI alleges that
the Company infringes its patent by making and selling certain three-cone rock
bits having cutting structures covered by the claims of RBI's patent. The
Company commenced discovery in late 1997 and continued through late 1998. The
Company is vigorously contesting this lawsuit and believes that it does not
infringe the RBI patent and that the patent is invalid.
9) SUBSEQUENT EVENTS
On July 14, 1999, the Company announced the completion of a transaction
with Schlumberger Limited ("Schlumberger") related to the combination of certain
M-I and Dowell Drilling Fluids operations under a joint venture arrangement.
Schlumberger contributed their non-U.S. Dowell drilling fluid operations,
including an asset equalization payment of approximately $40 million, and paid
cash consideration of $280 million to the Company in exchange for a 40 percent
minority ownership interest in the combined operations. Proceeds from the
transaction have been utilized to reduce outstanding borrowings of the Company.
On July 27, 1999, the United States Department of Justice filed petitions
with the United States District Court in Washington, D.C. alleging civil and
criminal contempt in connection with the formation of the Company's drilling
fluids joint venture. The petitions allege that the Company and Schlumberger
violated a Consent Decree and Final Order issued in 1994 in United States v.
Baroid Corporation. The Company agreed to be bound by the Consent Decree in
connection with the purchase of the majority ownership interest in M-I which was
acquired in April 1994. The Justice Department's petitions request that the
Court rescind the transaction, fine the Company $100,000 per day for violations
under the Consent Decree and levy an appropriate fine against the Company under
the criminal pleading. The Company has been advised that it has a strongly
defensible position as the transaction did not involve any of Schlumberger's
U.S. drilling fluids assets or businesses, had no significant impact on U.S.
business and, therefore, was not subject to the terms of the Consent Decree. The
Company does not anticipate that the outcome of a hearing on this matter, which
is expected to be scheduled in the third or early fourth quarter of 1999, will
have a material adverse impact on the Company's consolidated financial position
or results of operations.
7
<PAGE> 10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
GENERAL
The following "Management's Discussion and Analysis of Financial
Condition and Results of Operations" is provided to assist readers in
understanding the Company's financial performance during the periods presented
and significant trends which may impact the future performance of the Company.
The following discussion should be read in conjunction with the Consolidated
Financial Statements of the Company and the related notes thereto.
The Company's primary business is the manufacture and sale of premium
products and services to the oil and gas industry's exploration and production
sectors. The Company provides a comprehensive line of technologically-advanced
products and engineering services, including drilling and completion fluid
systems, solids-control equipment, waste-management services, three-cone drill
bits, diamond drill bits, fishing services, drilling tools, underreamers,
sidetracking systems, packers and liner hangers. The Company also operates an
extensive network of supply branches through which it markets pipe, valves,
fittings and other capital and expendable maintenance products.
The Company's worldwide operations are largely driven by the level of
exploration and production activity in major energy producing areas and the
depth and drilling conditions of these projects. Drilling activity levels are
primarily influenced by energy prices but may also be affected by expectations
related to the worldwide supply for crude oil and natural gas, finding and
development costs, decline and depletion rates, political actions and
uncertainties, environmental concerns, capital expenditure plans of exploration
and production companies and the overall level of global economic growth and
activity.
The Company's reported results continue to be impacted by the decline
in worldwide drilling activity which reached historically low levels in the
second quarter of 1999. To date, recovery in oil prices, which are currently 45
percent higher that the prior year average, has not contributed to a significant
increase in worldwide drilling activity levels. Although the long-term outlook
for exploration and production activity is favorable based upon expected growth
in worldwide energy consumption, several factors have, and may continue to,
impact activity levels on a short-term basis. OPEC production cuts have served
to address the worldwide supply imbalance, however the recent improvement in
commodity prices may result in higher production levels and create increased
supply in the market. Additionally, major and independent oil companies, on
which the Company relies for a large portion of its revenues, have reduced
capital spending levels in response to commodity prices experienced in the last
half of 1998. The recent recovery in oil and natural gas prices is not expected
to significantly increase near-term spending by these customers and may not
influence long-term spending decisions unless prices are sustained within the
range experienced in the second quarter of 1999.
8
<PAGE> 11
RESULTS OF OPERATIONS
REVENUES
Although the Company provides products to the petrochemical industry
and certain industrial markets, the majority of the Company's revenues are
derived from sales to the oil and gas exploration and production industry. The
Company operates through five business units which market the Company's products
and services throughout the world. The following table presents revenue and
average rig count information for the periods shown (in thousands, except rig
count and percentage information).
<TABLE>
<CAPTION>
For the Three Months For the Six Months
Ended June 30, Ended June 30,
---------------------------------- --------------------------------------
1999 1998 1999 1998
---------------------------------- --------------------------------------
Amount % Amount % Amount % Amount %
-------------- -------------- ----------------- -----------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues by Business Unit:
M-I - Fluids......................... $ 161,682 41 $ 225,241 40 $ 339,552 43 $ 455,469 40
M-I - SWACO.......................... 22,210 6 36,496 7 50,241 6 73,189 7
Wilson Supply........................ 97,093 25 127,620 23 170,636 22 264,223 23
Smith Bits........................... 54,298 14 80,292 14 114,719 15 171,179 15
Smith Services....................... 54,412 14 88,100 16 111,569 14 172,622 15
--------- --- --------- --- ----------- --- ----------- ---
Total........................ $ 389,695 100 $ 557,749 100 $ 786,717 100 $ 1,136,682 100
========= === ========= === =========== === =========== ===
Revenues by Area:
U.S.................................. $ 186,819 48 $ 272,785 49 $ 368,053 47 $ 565,214 50
Export............................... 22,857 6 46,946 8 48,445 6 91,424 8
Non-U.S.............................. 180,019 46 238,018 43 370,219 47 480,044 42
--------- --- --------- --- ----------- --- ----------- ---
Total........................ $ 389,695 100 $ 557,749 100 $ 786,717 100 $ 1,136,682 100
========= === ========= === =========== === =========== ===
Average Active Rig Count:
U.S.................................. 523 864 538 913
Canada............................... 104 173 197 314
Non-North America.................... 597 797 607 805
--------- --------- ----------- -----------
Total........................ 1,224 1,834 1,342 2,032
========= ========= =========== ===========
</TABLE>
M-I-FLUIDS
M-I-Fluids, a division of M-I L.L.C. ("M-I"), provides drilling fluid
and completion fluid systems, engineering and technical services to the oil and
gas industry. M-I-Fluids revenues decreased $63.6 million, or 28 percent, from
the second quarter of 1998 and $115.9 million, or 25 percent, from the first six
months of 1998. The majority of the revenue decline from the prior year periods
related to reduced customer spending outside of North America, primarily Latin
America and Europe/Africa, which was associated with the significant decline in
drilling activity.
M-I-SWACO
M-I-SWACO, a division of M-I, manufactures and markets equipment and
services for solids control, pressure control, rig instrumentation and waste
management. M-I-SWACO revenues decreased $14.3 million and $22.9 million from
the second quarter and first six months of 1998, respectively. The revenue
decline from the comparable periods of 1998 primarily related to lower demand
for fluid processing equipment and services. On a geographic basis, the largest
portion of the decline was reported in the U.S. and Latin America which related
to a combination of decreased activity levels and, to a lesser extent, the
completion of several projects during the first half of 1999.
9
<PAGE> 12
WILSON SUPPLY
Wilson Supply markets pipe, valves and other capital and expendable
maintenance products to the petroleum and petrochemical industries primarily
through an extensive network of North American supply branches. Wilson Supply's
revenues decreased $30.5 million, or 24 percent, from the second quarter of 1998
and $93.6 million, or 35 percent, from the first six months of 1998. The
variance from the second quarter of 1998 was associated with decreased drilling
activity which impacted demand for tubular goods. For the six month period,
lower activity levels resulted in decreased branch and, to a lesser extent,
tubular sales. Incremental revenues from operations acquired in the second
quarter of 1999 partially offset the reported decline.
SMITH BITS
Smith Bits manufactures and sells three-cone and diamond bits primarily
for use in the oil and gas industry. The unit's MegaDiamond and Supradiamant
subsidiaries manufacture polycrystalline diamond and cubic boron nitride
materials which are used in drill bits and in other specialized cutting tools.
Smith Bits revenues decreased $26.0 million, or 32 percent, from the second
quarter of 1998 and $56.5 million, or 33 percent, from the first six months of
1998. The majority of the decline from the prior year periods related to lower
sales of petroleum three-cone bits associated with the decrease in North
American activity levels.
SMITH SERVICES
Smith Services manufactures and markets products and services used in
the oil and gas industry for drilling, workover, well completion and well
re-entry. Smith Drilling & Completions was renamed Smith Services in July 1999
to more accurately reflect the wide array of services provided by the unit.
Smith Services' revenues decreased $33.7 million, or 38 percent, over the second
quarter of 1998 and $61.1 million, or 35 percent, from the first six months of
1998. The revenue decline from the prior year periods primarily related to lower
tubular sales and decreased demand for remedial products and services in the
U.S. and Europe/Africa.
10
<PAGE> 13
\
For the periods indicated, the following table summarizes the results
of the Company and presents these results as a percentage of total revenues
(in thousands except percentage data):
<TABLE>
<CAPTION>
For the Three Months For the Six Months
Ended June 30, Ended June 30,
---------------------------------- -------------------------------------
1999 1998 1999 1998
---------------------------------- -------------------------------------
Amount % Amount % Amount % Amount %
-------------- -------------- ----------------- -----------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues............................ $389,695 100 $ 557,749 100 $ 786,717 100 $ 1,136,682 100
-------- --------- ---------- -----------
Gross profit........................ 98,685 25 172,876 31 210,024 27 354,722 31
Operating expenses.................. 92,270 23 161,877 29 180,499 23 270,631 24
-------- --- --------- --- ---------- --- ----------- ---
Income before interest and taxes.... 6,415 2 10,999 2 29,525 4 84,091 7
Interest expense, net............... 11,297 3 9,813 2 23,372 3 18,926 1
-------- --- --------- --- ---------- --- ----------- ---
Income (loss) before income taxes
and minority interests.............. (4,882) (1) 1,186 -- 6,153 1 65,165 6
Income tax provision (benefit)...... (1,455) N/A 2,322 N/A 3,495 1 21,636 2
-------- --- --------- --- ---------- --- ----------- ---
Income (loss) before minority
interests........................... (3,427) N/A (1,136) N/A 2,658 -- 43,529 4
Minority interests.................. (406) N/A 6,356 N/A (927) N/A 17,444 2
-------- --- --------- --- ---------- --- ----------- ---
Net income (loss)................... $ (3,021) N/A $ (7,492) N/A $ 3,585 N/A $ 26,085 2
======== === ========= === ========== === =========== ===
</TABLE>
Total revenues decreased $168.1 million, or 30 percent, from the prior
year quarter and $350.0 million, or 31 percent, over the first six months of
1998. Lower oil prices experienced in the last half of 1998 impacted activity
levels across all geographic areas, contributing to reduced demand for the
Company's products and services. Although crude oil prices posted a significant
recovery in the second quarter, activity levels have been slow to respond as the
majority of operators continue to delay drilling programs until prices are
sustained for an extended period of time. Over half of the revenue variance from
the prior year periods was reported in the U.S. and related to the effects of
lower land-based drilling activity, which was 40 percent below the average count
for 1998. Lower activity levels outside the U.S., particularly Latin America and
Europe/Africa, also contributed to the reported decline from the comparable
periods of the prior year.
Gross profit as a percentage of revenues decreased from 31 percent in
the second quarter and first six months of the prior year to 25 percent and 27
percent in the second quarter and first six months of 1999, respectively. The
variance in gross profit margins related to the impact of the lower revenues on
fixed cost coverage, with decreased manufacturing volumes and rental equipment
utilization contributing to the majority of the overall margin decline. To a
lesser extent, industry conditions have created increased pricing pressures in
the markets in which the Company participates and contributed to the lower
reported margins. If industry conditions persist, gross profit margins may
continue to be impacted in future periods.
Operating expenses, consisting of selling expenses, general and
administrative expenses and merger, restructuring and other non-recurring costs,
decreased $69.6 million from the second quarter of 1998 and $90.1 million from
the first half of 1998. The majority of the variance over the prior year periods
is associated with the recognition of $55.0 million of merger and restructuring
costs in 1998 related to the Wilson transaction. Decreased variable costs
associated the lower volumes, including reduced headcount levels and related
costs to respond to the activity level declines experienced in the last half of
1998, also contributed to the reported variance.
Net interest expense, which represents interest expense less interest
income, increased $1.5 from the second quarter of 1998 and $4.4 million over the
reported amounts for the first half of 1998. Higher interest expense amounts
associated with the prior year purchase of the minority ownership interest in
M-I accounted for the increase. The interest amounts associated with minority
interest purchase were partially offset by increased repayments of borrowings
under revolving credit facilities.
11
<PAGE> 14
The effective tax rate for the first six months of 1999 approximated 57
percent, which is an increase from the 33 percent rate reported in the
comparable period of the prior year and higher than the U.S. statutory rate. The
rate exceeded both the prior year effective rate and the statutory rate due
primarily to the inclusion of non-deductible costs associated with the sale of
one of the Company's mining operations. Additionally, the impact of acquiring
the minority interest ownership in M-I also contributed to the increase from the
prior year. Prior to acquiring the minority interest ownership in M-I, the
Company properly consolidated the pretax income related to the former minority
interest partner's share of U.S. partnership earnings but excluded the related
taxes.
Minority interests reflect the portion of the results of majority-owned
operations which are applicable to the minority interest partners. For the prior
year period, minority interests amounts primarily represent the share of M-I
profits associated with the former minority partner's interest in those
operations. Minority interests decreased $6.8 million and $18.4 million from the
second quarter and first half of 1998, respectively. The decrease relates to the
impact of purchasing Halliburton's ownership interest in M-I which was acquired
in August 1998.
LIQUIDITY AND CAPITAL RESOURCES
General
Cash and cash equivalents increased $2.1 million during the six month
period and equaled $24.8 million at June 30, 1999. The Company's operations
generated $73.8 million of cash flows in the first six months of 1999 which is a
$60.8 million increase over the amounts reported in the comparable period of the
prior year. The effect of the decline in drilling activity on operations
favorably impacted working capital levels, with decreased inventory and
receivables accounting for the increased operating cash flow from the first half
of 1998. Cash flows from operations were not sufficient to fund acquisition
requirements resulting in increased borrowings under available facilities and
new debt agreements.
The Company's primary internal source of liquidity is cash flow
generated from operations. External sources of liquidity include debt and, if
needed, equity financing. Various revolving line of credit facilities, which are
available for operating and financing needs, had additional borrowing capacity
of $ 122.6 million at June 30, 1999. Subsequent to quarter-end, the Company
received certain cash proceeds related to the Schlumberger transaction which
were utilized to repay outstanding borrowings. After considering the impact of
the Schlumberger transaction, the Company had available borrowing capacity of
approximately $223 million at June 30, 1999. The Company believes funds
generated from operations, amounts available under existing credit facilities
and external sources of liquidity, will be sufficient to finance capital
expenditures and working capital needs of the existing operations for the
foreseeable future.
On July 14, 1999, the Company announced the completion of a transaction
with Schlumberger Limited ("Schlumberger") related to the combination of certain
M-I and Dowell Drilling Fluids operations under a joint venture arrangement.
Schlumberger contributed their non-U.S. Dowell drilling fluid operations,
including an asset equalization payment of approximately $40 million, and paid
cash consideration of $280 million to the Company in exchange for a 40 percent
minority ownership interest in the combined operations. Future cash outlays,
which will be funded with cash flows from operations, will be required to
combine and consolidate the previously separate drilling fluid businesses. Aside
from the transaction discussed above, management continues to evaluate
opportunities to acquire products or businesses complimentary to the Company's
operations. These acquisitions, if they arise, may involve the use of cash or,
depending upon the size and terms of the acquisition, may require debt or equity
financing.
On October 29, 1996, the Company was served with a complaint in the
U.S. District Court entitled Rock Bit International, Inc. v. Smith
International, Inc. This lawsuit is a patent infringement dispute alleging that
drill bits made by the Company infringe a U.S. patent owned by Rock Bit
International ("RBI") which was issued on September 8, 1992. RBI alleges that
the Company infringes its patent by making and selling certain three-cone rock
bits having cutting structures covered by the claims of RBI's patent. The
Company commenced discovery in late 1997 and continued through late 1998. The
Company is vigorously contesting this lawsuit and believes that it does not
infringe the RBI patent and that the patent is invalid.
12
<PAGE> 15
NEW ACCOUNTING AND REGULATORY PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 133 ("SFAS 133"), "Accounting for
Derivative Instruments and Hedging Activities", effective for fiscal periods
beginning after June 15, 2000. This standard establishes accounting and
reporting standards requiring that every derivative instrument be recorded and
measured at its fair value. The Statement requires that changes in fair value be
recognized currently in earnings unless specific hedge accounting criteria are
met. The impact of adopting SFAS 133 has not yet been quantified but is not
expected to have a material impact upon the Company's financial position or
results of operations.
In the first quarter of 1999, the Company adopted Statement of Position
98-5 ("SOP 98-5"), "Reporting on the Costs of Start-Up Activities". The
statement requires costs of start-up activities and organization costs to be
expensed as incurred. The adoption did not have a material adverse impact on the
Company's financial position or results of operations.
YEAR 2000
The Company believes it has achieved its objective of Year 2000
compliance for critical business systems and continues to test and certify
system readiness and implement modifications to its non-critical business
systems in order to achieve Year 2000 date conversion compliance without an
effect on customers or business operations.
The Company's business systems are comprised of a mix of off-the-shelf
and internally-developed systems that vary greatly in size, complexity and
technical architecture. The Company's Year 2000 task force has performed a
complete review of all systems and has finalized the identification of the
critical and non-critical components within five defined groups. The necessary
changes in computer instructional code have and continue to be made by upgrading
the off-the-shelf software in which the application was created. Year 2000
compliance for the majority of the Company's enterprise applications was
achieved with the Oracle 10.7 implementation in 1998 and subsequent product
upgrades. As of June 30, 1999, all of the Company's critical systems were Year
2000 compliant and the Company expects the majority of its non-critical systems
will be compliant by the third quarter of 1999. Although, the Company continues
to install new applications and upgrade existing ones in order to bring
non-critical applications for international locations into compliance, migration
or replacement plans are currently in place for these systems. Additionally, if
certain of these non-critical systems are not addressed until early 2000,
non-compliance would not have a material impact on the Company's operations. As
of June 30, 1999, the Company estimates that the implementation and testing
process for both Information Technology ("IT") and non-IT systems was over 90
percent complete. Although the Company continues to address non-critical
systems, the remainder of the year will be primarily focused on ensuring
critical business continuity plans are adequate and ready to implement if
necessary.
The Company has communicated with major suppliers, financial
institutions and others with whom it does business to address their compliance
efforts and the Company's exposure in the event of the failure of these efforts.
The Company has validated the responses received, and is in the final stage of
collecting additional vendor information as warranted. The Company has
determined that its key suppliers and financial institutions are Year 2000
compliant.
13
<PAGE> 16
However, in the event of non-compliance of any of these suppliers or financial
institutions, a written contingency program has been developed. Management
continues to believe that non-compliance by the Company's suppliers is
insignificant but failure of its financial institutions could have a material
effect on the Company's financial position or results of operations.
The estimated costs related to achieving Year 2000 compliance are not
expected to have a material impact on the Company's financial condition or
results of operations. All expenditures related to the Year 2000 initiative will
be funded with cash flows from operations.
ITEM 3. QUALITATIVE AND QUANTITATIVE MARKET RISK DISCLOSURES
The Company is exposed to certain market risks arising from transactions
that are entered into in the normal course of business. These risks, which are
primarily related to interest rate changes and fluctuations in foreign exchange
rates, are not considered to be material to the Company. During the reporting
period, no events or transactions have occurred which would materially change
the information disclosed in the Company's Annual Report on Form 10-K.
14
<PAGE> 17
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On July 27, 1999, the United States Department of Justice filed
petitions with the United States District Court in Washington, D.C. alleging
civil and criminal contempt in connection with the formation of the Company's
drilling fluids joint venture. The petitions allege that the Company and
Schlumberger violated a Consent Decree and Final Order issued in 1994 in United
States v. Baroid Corporation. The Company agreed to be bound by the Consent
Decree in connection with the purchase of the majority ownership interest in M-I
which was acquired in April 1994. The Justice Department's petitions request
that the Court rescind the transaction, fine the Company $100,000 per day for
violations under the Consent Decree and levy an appropriate fine against the
Company under the criminal pleading. The Company has been advised that it has a
strongly defensible position as the transaction did not involve any of
Schlumberger's U.S. drilling fluids assets or businesses, had no significant
impact on U.S. business and, therefore, was not subject to the terms of the
Consent Decree. The Company does not anticipate that the outcome of a hearing on
this matter, which is expected to be scheduled in the third or early fourth
quarter of 1999, will have a material adverse impact on the Company's
consolidated financial position or results of operations.
ITEM 2. CHANGES IN SECURITIES
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
At the Annual Meeting of Shareholders on April 28, 1999, shareholders
of the Company elected directors and ratified the Company's auditors by the
votes shown below.
<TABLE>
<CAPTION>
Agenda Item For Withheld Abstain
------------ ------------- -----------
<S> <C> <C> <C> <C>
Election of directors:
G. Clyde Buck.................................. 41,589,210 92,901 --
Loren K. Carroll............................... 41,566,282 115,829 --
Wallace S. Wilson.............................. 41,595,091 87,020 --
<CAPTION>
Agenda Item For Against Abstain Non-Vote
------------- ------------- ----------- -------------
Ratification of auditors............................ 41,623,844 19,290 38,977 --
</TABLE>
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
(27) Financial Data Schedules.
27.1 Financial Data Schedule for the six month period ended
June 30, 1999.
(b) Reports on Form 8-K
The Registrant filed a Form 8-K dated April 28, 1999,
reporting under "Item 5. Other Events", related to a press release
announcing the Company's results for the first quarter of 1999.
The Registrant filed a Form 8-K dated June 18, 1999, reporting
under "Item 5. Other Events", related to a press release
announcing the acquisition of certain oilfield supply and
distribution operations of ConEmsco, Inc. and the appointment of
new management positions.
15
<PAGE> 18
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SMITH INTERNATIONAL, INC.
Registrant
Date: August 16, 1999 By: /s/ Douglas L. Rock
---------------------------- ----------------------------------------
Douglas L. Rock
Chairman of the Board, Chief Executive
Officer, President and Chief Operating
Officer
Date: August 16, 1999 By: /s/ Margaret K. Dorman
---------------------------- ----------------------------------------
Margaret K. Dorman
Senior Vice President and
Chief Financial Officer
(Principal Accounting Officer)
16
<PAGE> 19
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- ------- -----------
<S> <C>
27.1 Financial Data Schedule for the six month period ended June 30, 1999.
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<CURRENCY> U.S. DOLLARS
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> JUN-30-1999
<EXCHANGE-RATE> 1
<CASH> 24,804
<SECURITIES> 0
<RECEIVABLES> 400,749
<ALLOWANCES> 11,330
<INVENTORY> 456,771
<CURRENT-ASSETS> 956,663
<PP&E> 672,897
<DEPRECIATION> 295,241
<TOTAL-ASSETS> 1,747,265
<CURRENT-LIABILITIES> 577,002
<BONDS> 253,922
0
0
<COMMON> 49,442
<OTHER-SE> 612,203
<TOTAL-LIABILITY-AND-EQUITY> 1,747,265
<SALES> 786,717
<TOTAL-REVENUES> 786,717
<CGS> 576,693
<TOTAL-COSTS> 576,693
<OTHER-EXPENSES> 180,499
<LOSS-PROVISION> 643
<INTEREST-EXPENSE> 23,372
<INCOME-PRETAX> 6,153
<INCOME-TAX> 3,495
<INCOME-CONTINUING> 3,585
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 3,585
<EPS-BASIC> 0.07
<EPS-DILUTED> 0.07
</TABLE>
