<PAGE> 1
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FORM 10-Q/A
(Amendment No. 1)
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
-----------------------------
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
--- OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 1999
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D)
--- OF THE SECURITIES EXCHANGE ACT OF 1934
-----------------------------
Commission file number 1-9397
-----------------------------
BAKER HUGHES INCORPORATED
(Exact name of registrant as specified in its charter)
Delaware 76-0207995
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
3900 Essex Lane, Houston, Texas 77027
(Address of principal executive offices) (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 X No
--- ---
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
Class Outstanding at July 2, 1999
----- ---------------------------
Common Stock, $1.00 par value per share 327,735,400 shares
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<PAGE> 2
BAKER HUGHES INCORPORATED
Baker Hughes Incorporated hereby amends Items 2 and 3 of Part I of its
Quarterly Report on Form 10-Q for the quarterly period ended March 31, 1999
(SEC File No. 1-9397) to read in their entirety as follows:
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<PAGE> 3
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 Company's
consolidated condensed financial statements and the related notes thereto.
FORWARD-LOOKING STATEMENTS
MD&A includes 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" and similar expressions are
intended to identify forward-looking statements. No assurance can be given that
actual results may not differ materially from those in the forward-looking
statements herein for reasons including the effects of competition, the level of
petroleum industry exploration and production expenditures, world economic
conditions, prices of, and the demand for, crude oil and natural gas, drilling
activity, weather, the legislative environment in the United States and other
countries, OPEC policy, conflict in the Middle East and other major petroleum
producing or consuming regions, the development of technology that lowers
overall finding and development costs and the condition of the capital and
equity markets.
Baker Hughes' expectations regarding its level of capital expenditures
described in "Investing Activities" 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 is primarily engaged in the oilfield service industry. Oilfield
operations generated more than 90 percent of the Company's consolidated revenues
in the three months ended March 31, 1999 and currently consists of eight
business units - Baker Atlas, Baker Hughes INTEQ, Baker Oil Tools, Baker
Petrolite, Centrilift, E&P Solutions, Hughes Christensen and Western Geophysical
- - that manufacture and sell equipment and provide related services used in the
drilling, completion, production and maintenance of oil and gas wells and in
reservoir measurement and evaluation. The business environment for the Company
and its corresponding operating results are affected significantly by the
petroleum industry exploration and production expenditures. These expenditures
are influenced strongly by oil company expectations about the supply and demand
for crude oil and natural gas, energy prices, and finding and development costs.
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<PAGE> 4
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
Petroleum supply and demand, pricing, and finding and development costs, in
turn, are influenced by numerous factors including, but not limited to, those
described above in "Forward-Looking Statements."
Four key factors which currently influence the worldwide crude oil market
and therefore current and future expenditures for exploration and development by
our customers are:
1) The degree to which certain large producing countries, in particular
Saudi Arabia, UAE, Kuwait, Iran, Venezuela and Mexico, are willing
and able to restrict production and exports of crude oil.
2) The increasing rate of depletion of known hydrocarbon reserves.
Technological advances are resulting in accelerated decline rates
and shorter well lives. In general, accelerated decline rates
require additional customer spending to hold production levels.
3) The level of economic growth in certain key areas of the world,
particularly Japan, China and South Korea, as well as developing
areas in Asia where the correlation between energy demand and
economic growth is particularly strong.
4) The amount of crude oil in storage relative to historic levels.
These four factors, together with oil and gas company projections for
future commodity price movement, influence overall levels of expenditures for
exploration and development by the Company's customers.
More specifically, two key factors influence the level of exploration and
development spending:
1) Technology: Advances in the design and application of more
technologically advanced products and services allow oil and gas
companies to drill fewer wells, place the wells they drill more
precisely in the higher yielding or more easily produced hydrocarbon
zones of the reservoir, and allow operators to drill, complete, and
operate wells at lower overall costs.
2) Price Volatility: Changes in hydrocarbon markets create uncertainty
in the future price of hydrocarbons and therefore create uncertainty
about the aggregate level of customer spending. Multi-year
projects, such as deep-water exploration and drilling, are the least
likely to be impacted by price volatility. Projects with relatively
short payback periods or low profit margins, such as workover
activity or the extraction of heavy oil, are more likely to be
impacted.
Crude oil and natural gas prices and the Baker Hughes rotary rig count are
summarized in the tables below as averages for the periods indicated and are
followed by the Company's outlook. While reading the Company's outlook set forth
below, caution is advised that the factors described above in "Forward-Looking
Statements" and "Business Environment" could negatively impact the Company's
expectations for oil demand, oil and gas prices, and drilling activity.
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<PAGE> 5
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
Oil and Gas Prices
<TABLE>
<S> <C> <C>
Three months ended March 31, 1999 1998
- ---------------------------------------------------------------------------
West Texas Intermediate Crude ($/bbl) 12.95 15.90
U. S. Spot Natural Gas ($/mcf) 1.71 2.06
</TABLE>
Crude oil prices averaged $12.95/bbl in the quarter. Prices varied between
$11-$13/bbl for most of the quarter before rising above $15/bbl at the end of
the quarter. The improvement in prices was primarily the result of an
announcement by OPEC and certain non-OPEC countries of an agreement for
additional production cuts. U.S. natural gas prices weakened in the first
quarter of 1999 compared to the same period in the prior year due to abnormally
warm winter weather.
Rotary Rig Count
<TABLE>
<S> <C> <C>
Three months ended March 31, 1999 1998
- ---------------------------------------------------------------------------
U.S. - Land 448 830
U.S. - Offshore 103 136
Canada 290 459
- ---------------------------------------------------------------------------
North America 841 1,425
- ---------------------------------------------------------------------------
Latin America 180 272
North Sea 45 60
Other Europe 42 49
Africa 53 82
Middle East 147 165
Asia Pacific 152 184
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International 619 812
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Worldwide 1,460 2,237
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U.S. Workover 718 1,298
</TABLE>
Generally, as oil prices decline, customer expectations about earnings from
oil and customer expenditures to explore for or produce oil and gas decline.
These expenditures include decreased spending on the use of oil and gas rigs.
Accordingly, large reductions in rig count generally correspond to reductions in
customer spending, which, in turn, correspond to decreased activity levels and
decreased revenues to the Company. The reverse is generally true for increases
in rig count. Marginal reductions or increases in rig count may or may not have
a significant impact on revenues. There is often a lag between increases or
decreases in rig count on customer activity levels and the impact on the
Company's revenues.
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<PAGE> 6
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
Outlook
In 1998, declining demand from developing Asia and a warmer than normal
winter coupled with increases in Iraqi exports and increases in non-OPEC and
OPEC supply resulted in historically high inventory levels and lower oil prices.
Oil prices that had ranged from $18-$26/barrel in 1997 fell to $15-$18/barrel in
the first part of 1998. At the end of 1998 oil was trading between
$10-$13/barrel. In response to lower oil prices and expectations for continued
low oil prices in 1999, oil companies cut upstream capital spending particularly
in the second half of 1998. In late March 1999, OPEC and certain non-OPEC
countries announced an agreement for additional production cuts. The level of
adherence to these agreed cuts will be a key determination of crude oil prices
in 1999 and 2000. If adherence is greater than approximately 70 percent, the
Company expects oil to trade between $15-$19/bbl for the balance of 1999. If
adherence falls significantly below 70 percent, oil could trade $4-$5/bbl lower.
As a result of recent low oil prices and concern over OPEC/non-OPEC quota
compliance, 1999 oil company capital spending is expected to decline
approximately 25 percent from 1998 spending levels. Cuts in upstream capital
spending were more significant in North and South America than in the Eastern
Hemisphere in 1998. The Company expects customer spending in the Eastern
Hemisphere to be reduced more significantly in 1999. Customer spending is
expected to decline sequentially during the first two quarters of 1999 before
stabilizing in the second half of the year.
RESULTS OF OPERATIONS
Revenues
Revenues for the three months ended March 31, 1999 were $1,325.2 million, a
decrease of 19.6 percent over revenues in the three months ended March 31, 1998
of $1,648.1 million. Geographically, revenues were down 18 percent in North
America and 21 percent outside North America. The revenue decline resulted from
lower activity levels as the worldwide rig count decreased 34.7 percent and from
lower prices for the Company's products and services, particularly in drilling
systems, wireline logging and drilling fluids.
Gross Margin
Gross margins for the three months ended March 31, 1999 and 1998 were 21.8
percent and 24.6 percent, respectively. The decrease is due primarily to cost
associated with excess manufacturing capacity and pricing pressure.
Selling, General and Administrative
Selling, general and administrative ("SG&A") expenses as a percent of
consolidated revenues for the three months ended March 31, 1999 and 1998 were
14.1 percent and 12.2 percent, respectively. While these costs are down on an
absolute basis, the increase as a percent of consolidated revenues is due
primarily to these costs being more fixed in nature producing a slower rate of
decline than consolidated revenues.
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<PAGE> 7
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
Interest Expense
Interest expense for the three months ended March 31, 1999 increased $10.1
million compared to the corresponding period in 1998. These increases were due
to higher debt levels that funded capital expenditures, acquisitions, and
working capital.
Income Taxes
The effective tax rate for the three months ended March 31, 1999 and 1998
was 35 percent.
Merger Related Charges
In connection with the merger with Western Atlas Inc. (the "Merger"), in
1998 the Company recorded Merger related costs of $219.1 million. Cash
provisions of the Merger related costs totaled $160.9 million. The categories of
costs incurred, the actual cash payments made and the accrued balances at March
31, 1999 are summarized below:
<TABLE>
<CAPTION>
Paid in the Accrued
Paid in March 1999 Balance at
Total 1998 Quarter March 31, 1999
------- ------- --------- --------------
<S> <C> <C> <C> <C>
Cash costs
Transaction costs $ 51.5 $ 46.9 $ 1.6 $ 3.0
Employee costs 87.7 66.7 5.8 15.2
Other Merger integration
costs 21.7 9.8 1.3 10.6
------- ------- -------- -----------
Total $ 160.9 $ 123.4 $ 8.7 $ 28.8
======= ======= ======== ===========
</TABLE>
The Company expects that, of the $28.8 million accrual at March 31, 1999,
$14.0 million will be spent by December 31, 1999 and $3.0 million will be spent
over a three-year period, with the remaining accrual being spent over the
remaining life of the related contractual obligations.
Unusual and Other Nonrecurring Charges
In 1998, as a result of a sharp decline in demand and to adjust to the
lower level of activity, the Company assessed its overall operations and
recorded charges of $589.5 million. Cash provisions of the charges totaled
$134.5 million. The categories of costs incurred, the actual cash payments and
the accrued balances at March 31, 1999 are summarized below:
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<PAGE> 8
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
<TABLE>
<CAPTION>
Paid in the Accrued
Paid in March 1999 Balance at
Total 1998 Quarter March 31, 1999
------- ------- --------- --------------
<S> <C> <C> <C> <C>
Cash costs
Severance for approximately
5,300 employees $ 64.3 $ 26.6 $ 17.7 $ 20.0
Integration costs, abandoned
leases and other contractual
obligations 40.0 14.7 7.2 18.1
Environmental reserves 8.8 4.3 4.5
Other cash costs (includes
litigation reserves) 21.4 4.7 4.1 12.6
------- ------- ------- -------
Total $ 134.5 $ 50.3 $ 29.0 $ 55.2
======= ======= ======= =======
</TABLE>
The Company expects that, of the $55.2 million accrual at March 31, 1999,
$33.5 million will be spent by December 31, 1999, with the remaining accrual
relating to contractual obligations, anticipated legal settlements and
environmental remediation.
CAPITAL RESOURCES AND LIQUIDITY
Operating Activities
Net cash inflows from operating activities were $148.1 million and $189.9
million for the three months ended March 31, 1999 and 1998, respectively. Lower
net income and increased payments on current liabilities resulted in a decline
in cash flow from operations.
Investing Activities
Net cash outflows from investing activities were $217.6 million and $333.2
million for the three months ended March 31, 1999 and 1998, respectively.
Property additions in 1999 decreased as the Company adjusted to softer
market conditions. The Company currently expects 1999 capital expenditures to be
approximately $600.0 million (excluding acquisitions), a significant reduction
from 1998 capital spending. Funds provided from operations and outstanding lines
of credit are expected to be adequate to meet future capital expenditure
requirements.
Proceeds from the disposal of assets generated $5.0 million during the
three months ended March 31, 1999 and $20.1 million during the three months
ended March 31, 1998.
The words "expected" and "expects" are intended to identify Forward-Looking
Statements in "Investing Activities." See "Forward-Looking Statements" and
"Business Environment" above for a description of risk factors related to these
Forward-Looking Statements.
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<PAGE> 9
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
Financing Activities
Net cash inflows from financing activities were $85.3 million and $126.0
million for the three months ended March 31, 1999 and 1998, respectively. Total
debt outstanding at March 31, 1999 was $2,892.1 million, compared to $2,770.7
million at December 31, 1998. The debt to equity ratio was 0.91 at March 31,
1999 compared to 0.87 at December 31, 1998.
During January and February 1999, the Company issued $400.0 million of
6.875 percent Notes due January 2029, $325.0 million of 6.25 percent Notes due
January 2009, $200.0 million of 6.0 percent Notes due February 2009 and $100.0
million of 5.8 percent Notes due 2003 with effective interest rates of 7.07
percent, 6.36 percent, 6.09 percent and 6.01 percent, respectively. The proceeds
were used to repay $150.0 million of the 7.625 percent Notes due February 1999,
commercial paper and other short-term borrowings.
Cash dividends in 1999 increased due to the increase in the number of
shares of common stock outstanding after the Merger. On an annualized basis the
cash dividend of $0.46 per share of common stock will require approximately
$150.0 million of cash which compares to an annual requirement of approximately
$80.0 million before the Merger.
At March 31, 1999, the Company had $1,595.2 million of credit facilities
with commercial banks, of which $1,000.0 million was committed.
These facilities are subject to normal banking terms and conditions that do
not significantly restrict the Company's activities.
ACCOUNTING STANDARDS
Derivative and Hedge Accounting
In June 1998, the FASB issued SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities. SFAS No. 133 establishes accounting and
reporting standards for derivative instruments and hedging activities that
require an entity to recognize all derivatives as an asset or liability measured
at fair value. Depending on the intended use of the derivative, changes in its
fair value will be reported in the period of change as either a component of
earnings or a component of other comprehensive income.
SFAS No. 133 is effective for all quarters of fiscal years beginning after
June 15, 1999. Retroactive application to periods prior to adoption is not
allowed. The Company will adopt the standard in the first quarter of 2000. The
Company has not quantified the impact of the adoption of SFAS No. 133 on its
consolidated financial statements.
QUANTITATIVE AND QUALITATIVE MARKET RISK DISCLOSURES
At March 31, 1999, the Company had Norwegian Krone denominated commitments
of $43.6 million to purchase a seismic vessel and Australian Dollar denominated
commitments of $22.7 million to purchase seismic vessel equipment at various
times through February 2000. The Company has entered into forward exchange
contracts to purchase the required amount of
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<PAGE> 10
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
Norwegian Krone and Australian Dollars for $43.6 million and $21.1 million,
respectively.
YEAR 2000 ISSUE
Forward-Looking Statements Regarding the Year 2000 Issue
The words "expect," "believe," "will," "estimate," "target" and similar
expressions are intended to identify Forward-Looking Statements in "Year 2000
Issue." Although the Company expects that it will complete various phases of its
Year 2000 Program Plan (the "Program Plan") as described below, including
(without limitation) the specific remedial and corrective aspects of the program
or the contingency plans described below, there can be no assurance that the
Company will be successful in completing each and every aspect of the Program
Plan and, if successful, within the expected schedules described below. Factors
that could affect the Company's implementation of its Program Plan include
unforeseen difficulties in remediating a specific problem due to the complexity
of hardware and software, the inability of third parties to adequately address
their own year 2000 issues, including vendors, contractors, financial
institutions, U.S. and foreign governments and customers, the delay in
completion of a phase of the Program Plan necessary to begin a latter phase, the
discovery of a greater number of hardware and software systems or technologies
with material year 2000 issues than the Company presently anticipates, and the
lack of alternatives that the Company previously believed existed.
Overview
Many computer hardware and software products have not been engineered with
internal calendars or date-processing logic capable of accommodating dates after
December 31, 1999. In most cases, the problem is due to the hardware or software
application storing the year as a two-digit field. In applications where this
year 2000 ("Y2K") problem exists, the year 2000 will appear as 00, and current
applications could interpret the year as 1900 or some date other than 2000. The
same error may exist for years later than 2000 because the application cannot
distinguish which century the date represents. These errors could negatively
affect the Company's business application systems, manufacturing, engineering
and process control systems, products sold to customers, equipment used in
providing services, facilities equipment and information technology ("IT")
infrastructure. Additionally, Y2K issues impacting suppliers and customers could
have an indirect negative impact on the Company.
A more detailed breakdown of the current status of the Baker Hughes
Incorporated Year 2000 Program Plan can be found below.
Year 2000 Program Plan
Baker Hughes has developed a Year 2000 Program Plan for identifying,
assessing and correcting its Y2K problems. This Program Plan strives to achieve
a consistent approach to the Y2K issue throughout the Company. The Program Plan
has the following aspects: program management, inventory and risk assessment,
remediation, testing and implementation, contingency planning, and quality
assurance.
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<PAGE> 11
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
The Company has completed an inventory of all hardware and software that
the Company incorporates in its products or utilizes to support its operations
or provide services to its customers. The Company is also determining whether
the inventoried items have Y2K problems. Approximately 35 percent of the
inventoried items in the Company's database have been assessed for Y2K
compliance as of March 31, 1999, of which approximately 6 percent is
non-compliant. If a Y2K problem exists, the Company will assess the risks
associated with the problem.
Baker Hughes has adopted the British Standards Institute Year 2000
Conformity Guidelines as a reasonable standard for determining whether software
and hardware are not materially affected by Y2K problems. When meeting these
guidelines, the Company has deemed that hardware or software are not materially
affected by Y2K problems and, thus, are "in Y2K compliance."
The Company's remediation efforts include the correction or replacement of
noncompliant hardware and software and are scheduled to be completed by mid to
late 1999 for all material noncompliant hardware and software that the Company
has identified to date. Both Company employees and outside vendors are
performing this work. The Company has established a target date of June 30, 1999
for the completion of the work on a majority of its material noncompliant
systems and technologies. The Company expects to complete its development of
contingency plans by August 31, 1999 for any material systems and technologies
not remediated by June 30, 1999.
The Company is unable to reasonably estimate the absolute dollar effect on
the Company's results of operation, liquidity or financial condition if its
remediation efforts are unsuccessful, although the Company believes the effect
would be material.
Baker Hughes has performed testing and validation of the compliance status
for all critical hardware and software as the Company has completed each
remediation project. Hardware and software that is not critical may not be
tested and validated. The Company is currently testing and validating, among
other hardware and software, its seismic data acquisition and analysis systems,
surface data acquisition and logging systems, wire-line logging systems,
certain filtration and separation equipment that has been customized with
program logic controllers, and certain motor controllers that include embedded
chips and internal clocks. The Company's employees and, in some cases, third
party contractors have performed the testing and validation work.
The Company has completed a review of its program management effort. This
review was performed by external resources who are engaged in the practice of
performing these reviews for other companies. Additional internal efforts may be
used to evaluate the adequacy and completeness of its risk assessment, testing,
and validation.
Year 2000 Program Costs
Baker Hughes has approximately 80 full time equivalent employees ("FTEs")
involved in the Y2K effort, which the Company estimates has an associated annual
cost of approximately $5.6 million. Generally, these
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<PAGE> 12
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
FTEs are full-time employees who are devoting some portion of their schedule to
the Y2K effort.
In addition to the payroll and payroll-related costs, Baker Hughes
estimates spending approximately $48.0 million in the Y2K compliance effort, of
which approximately $35.0 million would be capitalized as replacement hardware
and software equipment. Of the $48.0 million, the Company has spent
approximately $27.5 million through March 31, 1999. The Company has funded, and
expects to continue to fund, these expenditures from cash that it generates from
operating activities or existing credit facilities. These cost estimates could
change materially based upon the completion of the inventory and risk assessment
phase of the Program Plan.
Third Party Issues
The failure of third-parties, which have a material relationship with the
Company, to address their Y2K problems could negatively and materially impact
the Company. To address this risk, the Company is assessing the effect of Y2K on
key vendor and contractor relationships and has begun to do the same with
respect to key customer relationships. This assessment includes key
relationships with parties with which the Company interfaces electronically and
with which the Company has entered into strategic alliances.
The Company is evaluating vendors that the Company believes are material to
its operations and assessing the business risk of Y2K noncompliance on their
part. Based upon this assessment, the Company is seeking to obtain written
confirmation from key vendors and contractors that they are adequately
addressing their Y2K issues. Additionally, the Company seeks to review the Y2K
statements of these vendors and contractors to the extent they exist. Where the
Company cannot obtain satisfactory confirmation from these vendors, the
purchasing departments of each operating division of the Company intends to
identify alternate sources, if available, for vendors if those sources are
needed because of an inability to perform due to Y2K noncompliance. The Company
expects to complete the initial identification of high risk vendors by May 31,
1999. Additional analysis will be required to determine if alternative sourcing
is required. The Company has sent surveys to certain of its vendors, including
all of the vendors that the Company believes are critical to its success.
Approximately 31 percent of the vendors that have been surveyed have responded.
Based upon the responses and, in some cases, follow-up discussions with vendors,
the Company believes that approximately 20 percent of the vendors responding
appear to have a high risk of Y2K noncompliance. For these vendors, the Company
is identifying sourcing alternatives.
Assurances from vendors that have been obtained may take the form of
written or oral assurances or contractual assurances, depending on the vendor.
Depending upon the facts and circumstances of each case, the Company may or may
not have effective legal remedies if a vendor fails in its Y2K compliance
obligations to the Company. Factors that affect each case would include the
assurances received from each vendor, the vendor's ability to correct any Y2K
noncompliance, the vendor's wherewithal to pay any damages that are assessed
against the vendor in any legal proceeding or settlement of a claim, the extent
to which a vendor is insured for such damages, the existence of any contractual
provisions or laws that may be adopted that liquidate a vendor's damages or
limit its damages and other facts and
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<PAGE> 13
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
circumstances that affect the Company's ability to obtain redress from the
vendor's failure to perform its Y2K compliance obligations for the Company's
benefit.
Known Material Y2K Non-compliant Hardware and Software
INTEQ and Baker Oil Tools are implementing SAP R/3 for domestic operations
during 1999. INTEQ has delayed remediation of its existing payroll system, and
Baker Oil Tools has delayed remediation for certain other business applications,
in each case, pending the implementation of SAP R/3. Contingencies for these
operational areas are being evaluated, and the Company expects to implement a
contingency plan if the SAP implementation is not timely.
Older versions of INTEQ's PC-based surface data acquisition systems are not
Y2K compliant. The software is in the process of being remediated. The
noncompliant PC hardware cannot be economically remediated, and the purchase of
new, higher grade personal computers is required to replace the noncompliant
equipment. This remediation began in 1997 with the replacement of personal
computers being phased in and is expected to be completed by late 1999. The
Company estimates that as of March 31, 1999, it was approximately 65 percent
complete in the replacement of the noncompliant personal computer hardware and
software for the surface data acquisition systems.
Baker Atlas is rewriting the bonded inventory control module that tracks
assets that are used in international waters that may be exempt from import
duties. The upgrade is scheduled to be in place by June 1999.
The Company's Western Geophysical operating division relies heavily upon
Global Positioning System ("GPS") equipment that the U.S. Navy operates. The
noncompliance of this equipment is a known problem outside the control of the
Company that affects other businesses, the government, the military services and
individuals that rely upon GPS services, including most of the Company's
competitors. Based upon information obtained from the U.S. government, this
system was remediated during early 1999. The Company is not aware of any
contingency system that its GPS receivers can utilize if the government's GPS
remediation efforts were somehow unsuccessful. A failure to correct the Y2K
problems of this equipment could have a material adverse impact on the Company's
results of operations.
Western Geophysical uses a seismic acquisition synchronizer as part of its
marine seismic acquisition services. This product was not Y2K compliant, and its
noncompliance would have had a material impact on the Company's marine seismic
acquisition revenues if not corrected. The Company has completed an upgrade
remediation plan for this equipment.
Baker Process is implementing a new business application system to replace
its existing systems, which are not Y2K compliant. This system includes
financial, purchasing, inventory management, and manufacturing functionality.
The Company expects Baker Process to complete the implementation of the new
system by late 1999.
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<PAGE> 14
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
The Baker Process operating division provides mechanical equipment that, in
some cases, has been customized at the request of the customer to include
control panels and circuit boards. The Company obtained these control panels and
circuit boards from third-party vendors at the request of various customers. The
Company is researching the Y2K compliance status of these boards. This status is
often dependent upon the purchase date and serial number of the product. The
warranties from the Company or its subcontractors have, in many instances,
lapsed with respect to these panels and circuit boards. The Company expects to
have completed its investigation of these systems by mid 1999. Pending the
results of this evaluation, there could be a material noncompliance issue with
these products.
Baker Petrolite operates a MSDS authoring and label creation software
system that is not Y2K compliant. Baker Petrolite expects to replace this system
by August 1999 and has developed a contingency plan if the system is not
replaced.
Baker Petrolite operates a system that controls treater truck scheduling
and customer invoicing. This system is not Y2K compliant. Baker Petrolite
expects to complete remediation of this system by July 1999.
Based upon the status of the Company's Y2K compliance effort to date and
those facts and circumstances known to the Company, the Company believes that
the most reasonably likely worst case scenario as a result of Y2K non-compliance
would be as follows:
o the Company's INTEQ division (and to a lesser extent, its Baker Atlas
division) is unable to complete deployment of Y2K compliant data
acquisition systems by December 31, 1999;
o Baker Process is unable to complete implementation of Y2K compliant
business systems by the end of the fourth quarter of 1999;
o the infrastructure in certain international locations such as
countries in Latin America, the Middle and Far East and Africa, would
experience failures in utility service because the utility service
providers are not Y2K compliant; and
o critical vendors of the Company fail to perform because they are not
Y2K compliant.
The occurrence of any or all of these events could have a material adverse
effect on the Company's results of operations, liquidity or financial position.
Although the occurrence of these events is what the Company believes is the most
reasonably likely worst case scenario, these events may or may not occur, and
the Company cannot predict what will actually occur. Other events might occur
that also could have a material adverse effect on the Company's results of
operations, liquidity or financial position.
-13-
<PAGE> 15
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
EURO CONVERSION
A single European currency ("the Euro") was introduced on January 1, 1999,
at which time the conversion rates between the old, or legacy, currencies and
the Euro were set for 11 participating member countries. However, the legacy
currencies in those countries will continue to be used as legal tender through
January 1, 2002. Thereafter, the legacy currencies will be canceled, and Euro
bills and coins will be used in the 11 participating countries.
Most of the Company's products and services are essentially priced with
reference to U.S. dollar-denominated prices. Because of this, the Company does
not believe that it will be subject to a significant increase in pricing
transparency due to the introduction of the Euro. The Company's customers may
require billing in two or more currencies. Until the Company's financial
computer systems are modified or replaced to handle Euro-denominated
transactions, the Company will, in most cases, need to apply a methodology
whereby legacy currencies are first converted into Euros according to a legally
prescribed fixed exchange ratio and then, when the customer requires, converted
from Euros to a second national currency. The Company does not believe that this
conversion will materially affect its contracts. Most of the Company's contracts
are either bids in responses to requests for tenders or purchase orders. These
contracts are either priced in purchase and sales orders, which are short term
in nature, or in longer term contracts that are sufficiently flexible to permit
pricing in multiple currencies. The Euro conversion period is longer than most
of the pricing features of these contracts, thus permitting a pricing conversion
to the Euro as new orders are issued. The same is true with most of the
Company's contracts with vendors.
During the June 1997 quarter, the Company began a multi-year initiative
designed to develop and implement an enterprise-wide software system. The
initiative, named "Project Renaissance," will utilize SAP R/3 as its software
platform across the entire Company and is expected to cost in excess of $300
million over a four-year period. SAP R/3 is programmed to process in Euros for
most of the Company's accounting, financial and operational functions, and the
Company expects that the implementation of this system will address its Euro
issues in these areas. Because the Company has engaged in this implementation
for operational purposes and not solely to address Euro issues, the Company has
not separately determined the cost of converting these systems for use with the
Euro. These Euro conversion costs are embedded in the cost of Project
Renaissance and are not susceptible to separate quantification. The Company has
scheduled implementation of SAP R/3 in its major European operations prior to
January 1, 2002.
The Company may make certain modifications to its legacy computer systems
to address certain Euro conversion issues, pending full implementation of SAP
R/3. The Company is presently assessing these conversion modifications and their
costs.
In connection with an internal reorganization of the structure of the
Company's subsidiaries and cash management procedures, the Company has
instituted a new cash management system that the Company believes is able to
process transactions in Euros. The Company does not presently have any
-14-
<PAGE> 16
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
interest rate or currency swaps that are denominated in Euro legacy currencies.
The Company has appointed coordinators to address Euro conversion issues in
France, Germany, Italy, The Netherlands, Denmark, Norway and the United Kingdom,
the major centers of the Company's European operations that could be affected by
the Euro conversion. The Company continues to assess the impact of the Euro on
its operations and financial, accounting and operational systems. The Company
does not presently anticipate that the transition to the Euro will have a
significant impact on its results of operations, financial position or cash
flows.
The word "anticipate" is intended to identify a Forward-Looking Statement
in "Euro Conversion." Baker Hughes' anticipation regarding the lack of
significance of the Euro introduction on Baker Hughes' operations is only its
forecast regarding this matter. This forecast may be substantially different
from actual results, which are affected by factors substantially similar to
those described in "Year 2000 Issue - Forward-Looking Statements Regarding the
Year 2000 Issue" above.
-15-
<PAGE> 17
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.
BAKER HUGHES INCORPORATED
(Registrant)
Date: July 19, 1999 By /s/ G.S. FINLEY
-----------------------------------
G.S. Finley
Senior Vice President--
Finance and Administration
and Chief Financial Officer
