<PAGE> 1
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FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
-----------------------------
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
-----------------------------
Commission file number 1-9397
-----------------------------
BAKER HUGHES INCORPORATED
(Exact name of registrant as specified in its charter)
Delaware 76-0207995
(State or other jurisdiction (IRS 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 31, 1999
------- -------------------------------
Common Stock, $1.00 par value per share 328,850,000 shares
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<PAGE> 2
BAKER HUGHES INCORPORATED
INDEX
<TABLE>
<CAPTION>
Page
No.
----
<S> <C>
Part I - Financial Information:
Consolidated Condensed Statements of Operations - Three months
and six months ended June 30, 1999 and 1998 2
Consolidated Condensed Statements of Financial Position
- June 30, 1999 and December 31, 1998 3
Consolidated Condensed Statements of Cash Flows - Six months
ended June 30, 1999 and 1998 4
Notes to Consolidated Condensed Financial Statements 5
Management's Discussion and Analysis of Financial Condition and
Results of Operations 10
Part II - Other Information 25
</TABLE>
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<PAGE> 3
PART I. FINANCIAL INFORMATION
BAKER HUGHES INCORPORATED
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(In millions, except per share amounts)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
1999 1998 1999 1998
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Revenues $ 1,211.0 $ 1,659.7 $ 2,536.2 $ 3,307.8
--------- --------- --------- ---------
Costs and expenses:
Costs of revenues 964.0 1,264.9 1,999.9 2,507.9
Selling, general and
administrative 164.3 177.7 350.5 379.4
Unusual credit (33.4) (33.4)
--------- --------- --------- ---------
Total costs and expenses 1,094.9 1,442.6 2,317.0 2,887.3
--------- --------- --------- ---------
Operating income 116.1 217.1 219.2 420.5
Interest expense (41.9) (37.0) (82.9) (67.9)
Interest income 2.7 .4 6.3 2.0
--------- --------- --------- ---------
Income before income taxes 76.9 180.5 142.6 354.6
Income taxes (9.9) (62.4) (32.9) (123.6)
--------- --------- --------- ---------
Net income $ 67.0 $ 118.1 $ 109.7 $ 231.0
========= ========= ========= =========
Earnings Per Share of Common
Stock:
Basic $ .20 $ .37 $ .33 $ .73
========= ========= ========= =========
Diluted $ .20 $ .36 $ .33 $ .71
========= ========= ========= =========
Cash dividends per share of
common stock $ .115 $ .115 $ .23 $ .23
========= ========= ========= =========
</TABLE>
See accompanying notes to consolidated condensed financial statements.
-2-
<PAGE> 4
BAKER HUGHES INCORPORATED
CONSOLIDATED CONDENSED STATEMENTS OF FINANCIAL POSITION
(In millions)
(Unaudited)
ASSETS
<TABLE>
<CAPTION>
June 30, December 31,
1999 1998
--------- ------------
<S> <C> <C>
Current Assets:
Cash and cash equivalents $ 23.8 $ 16.6
Accounts receivable, net 1,223.3 1,422.3
Inventories 943.6 1,065.7
Other current assets 207.9 219.9
--------- ---------
Total current assets 2,398.6 2,724.5
Property, net 2,224.1 2,292.3
Goodwill and other intangibles, net 1,879.8 1,898.4
Multiclient seismic data and other assets 996.6 895.6
--------- ---------
Total assets $ 7,499.1 $ 7,810.8
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Notes payable and current portion of
long-term debt $ 32.1 $ 44.4
Accounts payable 434.2 560.5
Payroll and related expenses 210.9 284.3
Other current liabilities 290.0 420.7
--------- ---------
Total current liabilities 967.2 1,309.9
--------- ---------
Long-term debt 2,850.7 2,726.3
--------- ---------
Deferred income taxes 112.5 156.5
--------- ---------
Deferred revenue and other long-term liabilities 323.9 418.7
--------- ---------
Stockholders' Equity:
Common stock 327.7 327.1
Capital in excess of par value 2,940.5 2,931.8
Retained earnings 134.8 100.4
Foreign currency translation adjustment (173.2) (155.4)
Unrealized gain(loss) on securities available
for sale 19.4 (0.1)
Pension liability adjustment (4.4) (4.4)
--------- ---------
Total stockholders' equity 3,244.8 3,199.4
--------- ---------
Total liabilities and stockholders' equity $ 7,499.1 $ 7,810.8
========= =========
</TABLE>
See accompanying notes to consolidated condensed financial statements.
-3-
<PAGE> 5
BAKER HUGHES INCORPORATED
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(In millions)
(Unaudited)
<TABLE>
<CAPTION>
Six Months Ended
June 30,
1999 1998
--------- ---------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 109.7 $ 231.0
Adjustments to reconcile net income to net cash
flows from operating activities:
Depreciation, depletion and amortization 403.8 351.6
Provision(benefit) for deferred income taxes (13.3) 27.9
Noncash portion of nonrecurring items 3.2
Gain on disposal of assets (42.7) (24.9)
Change in receivables 197.7 21.0
Change in inventories 120.0 (82.6)
Change in accounts payable (125.0) (31.3)
Changes in other assets and liabilities (380.7) (23.3)
--------- ---------
Net cash flows from operating activities 272.7 469.4
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Expenditures for capital assets and multiclient
seismic data (386.6) (660.6)
Proceeds from disposal of assets 79.9 49.4
Acquisition of businesses, net of cash acquired (461.3)
--------- ---------
Net cash flows from investing activities (306.7) (1,072.5)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net borrowings (payments) from commercial paper,
revolving credit facilities and short-term debt (751.9) 685.3
Repayment of matured indebtedness (150.0) (65.4)
Net proceeds from issuance of notes 1,010.7
Proceeds from issuance of common stock 9.3 19.0
Dividends (75.3) (39.1)
--------- ---------
Net cash flows from financing activities 42.8 599.8
Effect of exchange rate changes on cash (1.6) 1.3
--------- ---------
Increase(decrease) in cash and cash equivalents 7.2 (2.0)
Cash and cash equivalents, beginning of period 16.6 41.9
--------- ---------
Cash and cash equivalents, end of period $ 23.8 $ 39.9
========= =========
Income taxes paid $ 86.0 $ 77.6
Interest paid $ 74.7 $ 60.3
</TABLE>
See accompanying notes to consolidated condensed financial statements.
-4-
<PAGE> 6
BAKER HUGHES INCORPORATED
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
Note 1. Basis of Presentation
General
In the opinion of Baker Hughes Incorporated ("Baker Hughes" or the
"Company"), the unaudited consolidated condensed financial statements include
all adjustments consisting of normal recurring accruals necessary for a fair
presentation of the Company's consolidated financial position as of June 30,
1999, its consolidated results of operations for the three and six months ended
June 30, 1999 and 1998, and its consolidated cash flows for the six months ended
June 30, 1999 and 1998. Although the Company believes that the disclosures in
these financial statements are adequate to make the information presented not
misleading, certain information and footnote disclosures normally included in
annual financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to the rules and
regulations of the Securities and Exchange Commission (see the Company's Annual
Report on Form 10-K/A, as amended, for the year ended December 31, 1998 for the
most recent annual financial statements prepared in accordance with generally
accepted accounting principles). The results of operations for the three and six
months ended June 30, 1999 are not necessarily indicative of the results to be
expected for the full year. On August 10, 1998, Baker Hughes merged with Western
Atlas, Inc. Certain amounts have been reclassified to conform the reporting
practices of Baker Hughes and Western Atlas Inc.
In the notes to consolidated condensed financial statements, all dollar and
share amounts in tabulations are in millions of dollars and shares,
respectively, unless otherwise indicated.
Comprehensive Income
Comprehensive income includes all changes in equity during a period except
those resulting from investments by and distributions to owners.
The Company's total comprehensive income is as follows:
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
1999 1998 1999 1998
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Net income $ 67.0 $ 118.1 $ 109.7 $ 231.0
Other comprehensive income(loss) 16.9 3.6 1.7 (1.7)
--------- --------- --------- ---------
Total comprehensive income $ 83.9 $ 121.7 $ 111.4 $ 229.3
========= ========= ========= =========
</TABLE>
-5-
<PAGE> 7
BAKER HUGHES INCORPORATED
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS CONTINUED
Note 2. Inventories
Inventories are comprised of the following:
<TABLE>
<CAPTION>
June 30, December 31,
1999 1998
--------- -----------
<S> <C> <C>
Finished goods $ 767.9 $ 855.2
Work in process 69.5 83.2
Raw materials 106.2 127.3
--------- ---------
Total $ 943.6 $ 1,065.7
========= =========
</TABLE>
Note 3. Earnings per Share ("EPS")
Reconciliation of the numerators and denominators of the basic and diluted
EPS computations is as follows:
<TABLE>
<CAPTION>
For the Three Months Ended For the Three Months Ended
June 30, 1999 June 30, 1998
Income Shares Income Shares
(Numerator) (Denominator) (Numerator) (Denominator)
--------- ----------- --------- -----------
<S> <C> <C> <C> <C>
Basic EPS $ 67.0 327.5 $118.1 317.9
Effect of dilutive
securities:
Stock plans 2.1 5.3
Liquid Yield
Option Notes 1.6 7.2
------ ----- ------ -----
Diluted EPS $ 67.0 329.6 $119.7 330.4
====== ===== ====== =====
<CAPTION>
For the Six Months Ended For the Six Months Ended
June 30, 1999 June 30, 1998
Income Shares Income Shares
(Numerator) (Denominator) (Numerator) (Denominator)
--------- ----------- --------- -----------
<S> <C> <C> <C> <C>
Basic EPS $109.7 327.4 $231.0 317.4
Effect of dilutive
securities:
Stock plans 1.2 5.0
Liquid Yield
Option Notes 3.2 7.2
----- ----- ----- -----
Diluted EPS $109.7 328.6 $234.2 329.6
===== ===== ===== =====
</TABLE>
Securities excluded from the computation of diluted EPS for the three months
ended June 30, 1999 that could potentially dilute basic EPS in the future were
options to purchase 3.8 million shares and Liquid Yield Option
-6-
<PAGE> 8
BAKER HUGHES INCORPORATED
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS CONTINUED
Notes convertible into 7.2 million shares. Such securities were excluded as they
would be anti-dilutive to basic EPS.
Note 4. Segment and Related Information
The Company's nine business units have separate management teams and
infrastructures that offer different products and services. The business units
have been aggregated into two reportable segments - oilfield and process.
Oilfield: This segment 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 services used in the drilling, completion, production and
maintenance of oil and gas wells and in reservoir measurement and evaluation.
The principal markets for this segment include all major oil and gas producing
regions of the world including North America, Latin America, Europe, Africa, the
Middle East and the Far East. Customers include major multi-national,
independent and national or state-owned oil companies.
Process: This segment consists of one business unit - Baker Process - that
manufactures and sells process equipment for separating solids from liquids and
liquids from liquids through filtration, sedimentation, centrifugation and
floatation processes. The principal markets for this segment include all regions
of the world where there are significant industrial and municipal wastewater
applications and base metals activity. Customers include municipalities,
contractors, engineering companies and pulp and paper, minerals, industrial and
oil and gas producers.
Segment profit(loss) is based on income before income taxes, accounting
changes, nonrecurring items and interest income and expense. Intersegment sales
and transfers are not significant.
Summarized financial information concerning the Company's reportable
segments is shown in the following table. The "Other" column includes
corporate-related items, results of insignificant operations and, as it relates
to segment profit(loss), income and expense not allocated to reportable
segments.
<TABLE>
<CAPTION>
Oilfield Process Other Total
-------- -------- -------- --------
Revenues
- --------
<S> <C> <C> <C> <C>
Three months ended June 30, 1999 $1,110.8 $ 100.2 $1,211.0
Three months ended June 30, 1998 $1,526.0 $ 127.5 $ 6.2 $1,659.7
Six months ended June 30, 1999 $2,325.3 $ 210.9 $2,536.2
Six months ended June 30, 1998 $3,043.2 $ 250.8 $ 13.8 $3,307.8
</TABLE>
-7-
<PAGE> 9
BAKER HUGHES INCORPORATED
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS CONTINUED
<TABLE>
<CAPTION>
Oilfield Process Other Total
-------- -------- -------- --------
Segment profit(loss)
- --------------------
<S> <C> <C> <C> <C>
Three months ended June 30, 1999 $ 95.8 $ (2.0) $ (16.9) $ 76.9
Three months ended June 30, 1998 $ 224.1 $ 9.5 $ (53.1) $ 180.5
Six months ended June 30, 1999 $ 223.6 $ (1.8) $ (79.2) $ 142.6
Six months ended June 30, 1998 $ 447.2 $ 19.5 $ (112.1) $ 354.6
Total assets
- ------------
As of June 30, 1999 $6,666.4 $ 424.4 $ 408.3 $7,499.1
As of December 31, 1998 $6,969.2 $ 425.4 $ 416.2 $7,810.8
</TABLE>
The following table presents the details of "Other" segment profit(loss):
<TABLE>
<CAPTION>
Three Months Ended Three Months Ended
June 30, 1999 June 30, 1998
------------------ ------------------
<S> <C> <C>
Corporate expenses $ (26.4) $ (16.5)
Interest expense-net (39.2) (36.6)
Unusual credit 33.4
Nonrecurring item reflected in SG&A 15.3
--------- ---------
Total $ (16.9) $ (53.1)
========= =========
<CAPTION>
Six Months Ended Six Months Ended
June 30, 1999 June 30, 1998
---------------- ----------------
<S> <C> <C>
Corporate expenses $ (51.3) $ (46.0)
Interest expense-net (76.6) (65.9)
Unusual credit 33.4
Nonrecurring item reflected in SG&A 15.3
Other (.2)
--------- ---------
Total $ (79.2) $ (112.1)
========= =========
</TABLE>
Note 5. Debt
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 February 2003 with effective interest rates of 7.07
percent, 6.36 percent, 6.09 percent and 6.01 percent, respectively. The net
proceeds of $1,010.7 million were used to repay $150.0 million of the 7.625
percent Notes due February 1999, commercial paper and other short-term
borrowings.
-8-
<PAGE> 10
BAKER HUGHES INCORPORATED
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS CONTINUED
Note 6. Unusual and Other Nonrecurring Items
In June 1999, the Company completed the sale of a property in Houston,
Texas and recognized a net gain of $33.4 million recorded as an unusual credit
in the statement of operations. Such property was considered a duplicate
facility after the merger with Western Atlas Inc. The Company received net
proceeds of $48.2 million that were used to repay outstanding indebtedness.
During 1998, the Company sold its interest in a joint venture and recorded
a write-down to the estimated fair value of the assets received which was
reflected in selling, general and administrative ("SG&A") expenses. During the
quarter ended June 30, 1999, certain assets obtained as part of the
consideration from the sale were sold. The proceeds from the sale were $18.9
million and were received in July 1999. Certain other assets relating to these
operations were written-off and will be scrapped. The net gain from these items
totaled $15.3 million and is reflected in SG&A expenses.
-9-
<PAGE> 11
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 six months ended June 30, 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
oil and gas 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.
Oil and gas 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."
-10-
<PAGE> 12
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
Four key factors that currently influence the worldwide crude oil market and
therefore current and future expenditures for exploration and development by the
Company's 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 maintain 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.
-11-
<PAGE> 13
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
<TABLE>
<CAPTION>
Oil and Gas Prices
Three Months Ended Six Months Ended
June 30, June 30,
1999 1998 1999 1998
- ---------------------------------------------------------------------------
<S> <C> <C> <C> <C>
West Texas Intermediate Crude ($/bbl) 17.56 14.51 15.20 15.33
U.S. Spot Natural Gas ($/mcf) 2.12 2.10 1.92 2.13
</TABLE>
WTI crude oil price averaged $17.56/bbl in the June 1999 quarter, with
prices ranging from $15.83/bbl to $19.28/bbl. The improvement in prices was
attributable to improved sentiment regarding OPEC's ability and willingness to
control production, improvements in the outlook for the world economy and
declining inventories driven largely by market expectations that an Asian
economic recovery could occur earlier than previously anticipated. U.S. natural
gas prices averaged $2.12/mcf in the June 1999 quarter, with prices ranging from
$1.75/mcf to $2.27/mcf. The increase in U.S. natural gas prices compared to the
same quarter of 1998 were due to the impact of a warmer summer on consumption
and storage injections as well as concern for the industry's ability to meet
storage targets by the end of the injection season, which is typically
November 1st.
<TABLE>
<CAPTION>
Rotary Rig Count
Three Months Ended Six Months Ended
June 30, June 30,
1999 1998 1999 1998
- ---------------------------------------------------------------------------
<S> <C> <C> <C> <C>
U.S. - Land 421 732 437 782
U.S. - Offshore 100 132 102 134
Canada 101 175 194 317
- ---------------------------------------------------------------------------
North America 622 1,039 733 1,233
- ---------------------------------------------------------------------------
Latin America 185 261 183 267
North Sea 42 59 44 58
Other Europe 45 45 43 48
Africa 40 83 46 82
Middle East 140 167 144 166
Asia Pacific 145 183 149 184
- ---------------------------------------------------------------------------
International 597 798 609 805
- ---------------------------------------------------------------------------
Worldwide 1,219 1,837 1,342 2,038
- ---------------------------------------------------------------------------
U.S. Workover 785 1,122 752 1,210
</TABLE>
Generally, as oil and gas prices decline, expectations of the Company's
customers about their prospects from oil and gas sales decline. Consequently,
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
-12-
<PAGE> 14
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
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.
Outlook
Oil prices improved in the June 1999 quarter, trading above $20/bbl.
Sustaining prices at this level will require continuing adherence by OPEC
members to quotas and continued movement towards economic recovery in Asia.
Prices are expected to trade between $17/bbl and $21/bbl for the remainder of
the year. The Company believes that if OPEC quota adherence falls below 70% then
oil could trade below this range. North American natural gas is expected to
remain strong for the remainder of the year, trading above $2.25/mcf.
In response to the improving commodity prices, customer spending in North
America is expected to improve sequentially through the end of the year. The
strength of the recovery in 2000 will depend on improved customer cash flow,
long-term forecasts of commodity prices and weather.
Outside North America, customer spending is expected to continue its decline
into the third quarter. The Company expects customer spending in areas outside
of North America to increase modestly in the fourth quarter. Customer spending
is expected to increase in 2000 following the customers' annual budget cycle.
RESULTS OF OPERATIONS
Revenues
Revenues for the three months ended June 30, 1999 were $1,211.0 million, a
decrease of 27.0 percent over revenues in the three months ended June 30, 1998
of $1,659.7 million. Geographically, revenues for the three months ended June
30, 1999 were down 24.7 percent in North America and 28.6 percent outside North
America compared to the three months ended June 30, 1998. Revenues for the six
months ended June 30, 1999 were $2,536.2 million, a decrease of 23.3 percent
over the same period in 1998. Oilfield revenues accounted for 91.7% of total
consolidated revenues for the three and six months ended June 30, 1999.
Oilfield revenues decreased 27.2 percent to $1,110.8 million for the three
months ended June 30, 1999 from $1,526.0 million in the three months ended June
30, 1998. Oilfield revenues decreased 23.6 percent to $2,325.3 million for the
six months ended June 30, 1999 from $3,043.2 million in the six months ended
June 30, 1998. Revenues were impacted by lower activity due to reduced customer
spending, as evidenced by a 33.6 percent decline in the worldwide rig count, and
by lower prices for the Company's products and services, particularly in seismic
services, drilling systems, wireline logging, drilling fluids and drill bits.
Revenues from production of oil and gas wells increased over 1998 as certain
projects previously in development stage began production during 1999. Oil and
gas revenues for the three months ended June 30, 1999 and 1998 were $13.2
million and $1.5 million, respectively, and for the six months ended June 30,
1999 and 1998 were $14.9 million and $2.5 million, respectively.
-13-
<PAGE> 15
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
Gross Margin
Gross margins for the three months ended June 30, 1999 and 1998 were 20.4
percent and 23.8 percent, respectively. The decrease is due primarily to costs
associated with excess manufacturing capacity, low utilization of seismic assets
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 June 30, 1999 and 1998 were
13.6 percent and 10.7 percent, respectively. In June 1999, a nonrecurring credit
of $15.3 million was recorded in SG&A expenses. 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.
Unusual and Other Nonrecurring Items
In June 1999, the Company completed the sale of a property in Houston, Texas
and recognized a net gain of $33.4 million recorded as an unusual credit in the
statement of operations. Such property was considered a duplicate facility after
the merger with Western Atlas Inc. The Company received net proceeds of $48.2
million that were used to repay outstanding indebtedness.
During 1998, the Company sold its interest in a joint venture and recorded a
write-down to the estimated fair value of the assets received which was
reflected in SG&A expenses. During the quarter ended June 30, 1999, certain
assets obtained as part of the consideration from the sale were sold. The
proceeds from the sale were $18.9 million and were received in July 1999.
Certain other assets relating to these operations were written-off and
will be scrapped. The net gain from these items totaled $15.3 million and is
reflected in SG&A expenses.
Interest Expense
Interest expense for the three and six months ended June 30, 1999 increased
$4.9 million and $15.0 million, respectively, compared to the corresponding
periods in 1998. These increases were due to higher debt levels that funded
capital expenditures, acquisitions, and working capital.
Income Taxes
During the quarter ended June 30, 1999, the Company reached an agreement
with the Internal Revenue Service ("IRS") regarding the audit of its 1994 and
1995 U.S. consolidated income tax returns. As a result of the agreement, the
Company recognized a tax benefit through the reversal of deferred income taxes
previously provided of $19.9 million, less related interest expense of $1.8
million, for a net benefit of $18.1 million.
The effective tax rate for the three months ended June 30, 1999 was 12.9
percent. The effective tax rate before the tax benefit of $18.1 million, as
described above, for the three months ended June 30, 1999 was 36.4 percent,
compared to 34.6 percent for the three months ended June 30, 1998.
-14
<PAGE> 16
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
Merger Related Charges - 1998
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 June
30, 1999 are summarized below:
<TABLE>
<CAPTION>
Accrued
Paid in Paid in Balance at
Total 1998 1999 June 30, 1999
------- ------- --------- --------------
<S> <C> <C> <C> <C>
Cash costs
Transaction costs $ 51.5 $ 46.9 $ 2.5 $ 2.1
Employee costs 87.7 66.7 8.4 12.6
Other Merger integration
costs 21.7 9.8 6.1 5.8
------- ------- --------- --------------
Total $ 160.9 $ 123.4 $ 17.0 $ 20.5
======= ======= ========= ==============
</TABLE>
The Company expects that, of the $20.5 million accrual at June 30, 1999,
$5.9 million will be spent by December 31, 1999 and $2.7 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 - 1998
In 1998, as a result of a sharp decline in the demand for the Company's
products and services, 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 June 30, 1999 are
summarized below:
<TABLE>
Accrued
Paid in Paid in Balance at
Total 1998 1999 June 30, 1999
------- ------- --------- --------------
<S> <C> <C> <C> <C>
Cash costs
Severance for approximately
5,300 employees $ 64.3 $ 26.6 $ 28.0 $ 9.7
Integration costs, abandoned
leases and other contractual
obligations 40.0 14.7 10.2 15.1
Environmental reserves 8.8 4.3 .7 3.8
Other cash costs (includes
litigation reserves) 21.4 4.7 5.3 11.4
------- ------- --------- --------------
Total $ 134.5 $ 50.3 $ 44.2 $ 40.0
======= ======= ========= ==============
</TABLE>
The Company expects that, of the $40.0 million accrual at June 30, 1999,
$20.3 million will be spent by December 31, 1999, with the remaining accrual
relating to contractual obligations, anticipated legal settlements and
environmental remediation to be spent during 2000 and after.
-15-
<PAGE> 17
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
CAPITAL RESOURCES AND LIQUIDITY
Operating Activities
Net cash inflows from operating activities were $272.7 million and $469.4
million for the six months ended June 30, 1999 and 1998, respectively. Lower net
income, increased payments on current liabilities and payments made for merger
and unusual charge related accruals of $61.2 million offset by reductions in
receivables and inventory due to activity declines and management focus resulted
in a decrease in cash flow from operations.
Investing Activities
Net cash outflows from investing activities were $306.7 million and $1,072.5
million for the six months ended June 30, 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 $650.0 million (excluding acquisitions), a significant reduction
from 1998 capital spending levels. 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 $60.1 million during the six
months ended June 30, 1999 and $49.4 million during the six months ended June
30, 1998.
During the six months ended June 30, 1998, the Company used short-term
borrowings to purchase various businesses including WEDGE DIA-Log, Inc. for
$218.5 million, net of cash acquired; 3-D Geophysical, Inc. for $117.5 million;
and Western Rock Bit Company Limited for $31.4 million.
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.
Financing Activities
Net cash inflows from financing activities were $42.8 million and $599.8
million for the six months ended June 30, 1999 and 1998, respectively. Total
debt outstanding at June 30, 1999 was $2,882.8 million, compared to $2,770.7
million at December 31, 1998. The debt to equity ratio was .89 at June 30, 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 February 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.
-16-
<PAGE> 18
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
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 June 30, 1999, the Company had $1,571.2 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.
In June 1999, the FASB issued SFAS No. 137, that defers the effective date
of SFAS No. 133 to fiscal years beginning after June 15, 2000. Retroactive
application to periods prior to adoption is not allowed. The Company will adopt
the standard in the first quarter of 2001. 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 June 30, 1999, the Company had Norwegian Krone denominated commitments of
$43.6 million to purchase a seismic vessel and Australian Dollar denominated
commitments of $17.0 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 Norwegian Krone and Australian
Dollars for $43.6 million and $14.8 million, respectively. The Company has also
entered into forward exchange contracts to sell $12.0 million of Indonesian
Rupiah and to purchase $5.0 million of Singapore Dollars as a hedge to certain
Indonesian Rupiah denominated assets and certain Singapore Dollar denominated
commitments, 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
-17-
<PAGE> 19
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
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
later 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.
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.
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. Most of the inventoried items in the
Company's database have been assessed for Y2K compliance, of which approximately
15 percent are noncompliant. 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."
-18-
<PAGE> 20
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
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 established a target date of June 30, 1999 for
the completion of the work on a majority of its material noncompliant systems
and technologies. For those systems and technologies that have not yet been
remediated, the Company expects to complete its development of contingency plans
by August 31, 1999.
The Company is unable to reasonably estimate the absolute dollar effect on
the Company's results of operations, liquidity or financial condition if its
remediation efforts are unsuccessful, although the Company believes the effect
would be material.
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 the Company's risk assessment,
testing, and validation.
Year 2000 Program Costs
Baker Hughes has approximately 100 full time equivalent employees ("FTEs")
involved in the Y2K effort, which the Company estimates has an associated annual
cost of approximately $7.0 million. Generally, these 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 $42.0 million in the Y2K compliance effort, of which, the
Company has spent approximately $32.0 million through June 30, 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.
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 is doing 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
-19-
<PAGE> 21
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
confirmation from these vendors, the purchasing departments of each operating
division of the Company are identifying alternate sources, if available, for
vendors if those sources are needed because of an inability to perform due to
Y2K noncompliance. The Company has completed its initial identification of high
risk vendors. 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 45 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 and vendors
who have not responded, 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 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
The following are certain hardware and software that are material to the
Company's business that the Company knows is or was not in Y2K compliance. The
failure to remediate any of this hardware or software or develop an appropriate
contingency plan could have a material adverse effect on the Company's business.
INTEQ and the Polymers division of Baker Petrolite are implementing SAP R/3
for domestic operations during 1999. INTEQ has delayed remediation of its
existing payroll system, and the Polymers division of Baker Petrolite has
delayed implementation of its business applications systems that SAP R/3 will
replace, 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. INTEQ
has released for distribution Y2K compliant products for its well planning and
surface logging products. INTEQ has also released a Y2K compliant version of its
MSS Surface software that supports its measurement while drilling, surface
logging system and RigLink
-20-
<PAGE> 22
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
products and services. Finally, INTEQ has released a Y2K compliant version of
its survey product line (SSP).
Baker Atlas' bonded inventory control module was not Y2K compliant. Baker
Atlas rewrote this module that tracks assets that are used in international
waters that may be exempt from import duties.
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 data acquisition services. This product was not Y2K compliant.
The Company has completed an upgrade remediation plan for this equipment.
Western Geophysical has discovered two seismic data acquisition systems used
on its marine vessels that have components that are not Y2K compliant. One
system is used on nine vessels, and the other system is used on eight vessels. A
single third party manufacturer makes both systems. The manufacturer has created
a Y2K compliant version of the first of these systems, which Western Geophysical
expects to obtain and install in August 1999. The manufacturer has advised
Western Geophysical that it will not bring the second of these two systems into
Y2K compliance. Western Geophysical is negotiating with the manufacturer to
license the source code to this second system for Western Geophysical to
remediate this system itself by late 1999. Additionally, contingency plans for
both of these systems are being developed.
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.
Baker Process' North American operations are now utilizing this new system. The
Company expects Baker Process to complete the implementation of the new system
outside of North America by late 1999.
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 researches the Y2K compliance status of these boards when its customers
requests it to do so. The Y2K status of these boards 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.
-21-
<PAGE> 23
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
Baker Petrolite operates a system that controls treater truck scheduling and
customer invoicing. This system was not Y2K compliant. Baker Petrolite has now
completed remediation of this system.
Baker Petrolite has been unable to obtain assurances from its payroll
service provider that certain custom processing services will be Y2K compliant.
The Company is performing testing services with this vendor to determine whether
the vendor's services as applicable to the Company will be Y2K compliant. The
Company expects that this testing and any resulting remediation will be
completed by September 30, 1999.
E&P Services' oil and gas accounting system is not Y2K compliant. E&P
Services expects to obtain an upgrade to this system from its third party vendor
to bring this system into compliance by September 30, 1999.
E&P Services obtains oil and gas interpretation systems from third party
vendors. E&P Services is testing these systems to determine whether they are Y2K
compliant.
The Company's customers ordinarily contract for helicopter and fixed-wing
air transport services to transport Company personnel and equipment to customer
oil and gas operations sites. Often these services are provided by smaller
aircraft operators. The Company believes that many of these operators have not
yet adequately addressed their Y2K compliance needs. If a material number of
these operators experience flight disruptions because of Y2K non-compliance, the
Company's customers could have difficulties in obtaining transport services,
which in turn, could delay the Company in providing its products and services to
its customers. The Company is developing contingency plans for this problem and
contacting these air transport service providers to enhance their awareness of
Y2K issues and promote their Y2K compliance.
Certain of the Company's divisions and corporate operations are in the
process of upgrading their network and personal computer based hardware and
software, including hardware and software of general application, to be Y2K
compliant. Likewise, certain of the Company's divisions and corporate operations
are in the process of upgrading hardware and software that operate facilities,
particularly foreign facilities, to be Y2K compliant. While the Company does not
believe that the failure of any one of these systems alone would materially and
adversely affect the Company's operations, a failure to upgrade a substantial
number of these systems would have a material adverse effect on the Company. The
Company expects that it will have upgraded a substantial number of these systems
by the end of 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 noncompliance
would be as follows:
-22-
<PAGE> 24
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
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.
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 response 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.
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<PAGE> 25
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
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 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.
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<PAGE> 26
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
None.
Item 4. Submission of Matters to a Vote of Security Holders
The Company's Annual Meeting of Stockholders was held on April 28, 1999,
(1) to elect four Class II members of the Board of Directors, (2) to approve an
amendment to the Restated Certificate of Incorporation to increase the number of
authorized shares of Common Stock of the Company from 400,000,000 to
750,000,000, (3) to approve an amendment to the 1987 Employee Stock Purchase
Plan to increase the number of authorized shares purchasable under the Plan from
5,500,000 to 9,500,000, (4) to consider a stockholder proposal to implement or
increase activity on the MacBride Principles with respect to the Company's
operations in Northern Ireland and (5) to consider a stockholder proposal to
review and develop guidelines for country selection.
The four Class II directors who were so elected are: Lester M.
Alberthal, Jr., Joseph T. Casey, Joe B. Foster and Richard D. Kinder. The
directors whose term of office continued after the Annual Meeting are: Victor G.
Beghini, Alton J. Brann, Eunice M. Filter, Claire W. Gargalli, Max L. Lukens,
James F. McCall, H. John Riley, Jr., John R. Russell, Charles L. Watson and Max
P. Watson, Jr. The number of affirmative votes and the number of votes withheld
for the four Class II directors so elected were:
<TABLE>
<CAPTION>
Number of Number of
Affirmative Votes
Votes Withheld
----------- ---------
<S> <C> <C>
Lester M. Alberthal, Jr. 287,188,303 2,237,324
Joseph T. Casey 287,163,649 2,261,978
Joe B. Foster 287,268,548 2,157,079
Richard D. Kinder 287,299,032 2,126,595
</TABLE>
The number of affirmative votes, the number of negative votes, the
number of abstentions and the number of broker nonvotes with respect to the
approval of the amendment to the Restated Certificate of Incorporation, the
amendment to the 1987 Employee Stock Purchase Plan and the stockholder proposals
were as follows:
<TABLE>
<CAPTION>
Number of Number of
Affirmative Negative Broker
Votes Votes Abstentions Non-Votes
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Approval of Amendment to
Restated Certificate
of Incorporation 233,072,401 55,785,437 567,789 0
Approval of Amendment to
1987 Employee Stock
Purchase Plan 284,236,002 4,326,986 860,188 2,451
Proposal Regarding
Northern Ireland 56,579,637 190,106,059 14,747,116 27,992,815
Proposal Regarding
Country Selection 12,388,992 232,000,280 17,043,538 27,992,817
</TABLE>
-25-
<PAGE> 27
PART II. OTHER INFORMATION CONTINUED
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits:
(27) Financial Data Schedule
(b) Reports on Form 8-K:
None.
-26-
<PAGE> 28
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: August 13, 1999 By /s/ G. STEPHEN FINLEY
------------------------------------
Sr. Vice President - Finance and
Administration and Chief
Financial Officer
Date: August 13, 1999 By /s/ ALAN J. KEIFER
------------------------------------
Vice President and Controller
-27-
<PAGE> 29
Index to Exhibits
<TABLE>
<CAPTION>
EXHIBIT
NO. DESCRIPTION
- ------- -----------
<S> <C>
27 Financial Data Schedule, filed herewith
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> JUN-30-1999
<CASH> 23,800
<SECURITIES> 0
<RECEIVABLES> 1,223,300
<ALLOWANCES> 54,400
<INVENTORY> 943,600
<CURRENT-ASSETS> 2,398,600
<PP&E> 2,224,100
<DEPRECIATION> 1,896,500
<TOTAL-ASSETS> 7,499,100
<CURRENT-LIABILITIES> 967,200
<BONDS> 2,850,700
0
0
<COMMON> 327,700
<OTHER-SE> 2,940,500
<TOTAL-LIABILITY-AND-EQUITY> 7,499,100
<SALES> 2,536,200
<TOTAL-REVENUES> 2,536,200
<CGS> 1,999,900
<TOTAL-COSTS> 1,999,900
<OTHER-EXPENSES> 317,100
<LOSS-PROVISION> 2,000
<INTEREST-EXPENSE> 82,900
<INCOME-PRETAX> 142,600
<INCOME-TAX> 32,900
<INCOME-CONTINUING> 109,700
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 109,700
<EPS-BASIC> 0.33
<EPS-DILUTED> 0.33
</TABLE>
