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FORM 10-Q
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
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Commission file number 1-9397
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BAKER HUGHES INCORPORATED
(Exact name of registrant as specified in its charter)
Delaware 76-0207995
(State or other jurisdiction (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 April 30, 1999
----- -------------------------------
Common Stock, $1.00 par value per share 327,411,500 shares
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BAKER HUGHES INCORPORATED
INDEX
Page
No.
----
Part I - Financial Information:
Consolidated Condensed Statements of Operations - Three months
ended March 31, 1999 and 1998 2
Consolidated Condensed Statements of Financial Position
- March 31, 1999 and December 31, 1998 3
Consolidated Condensed Statements of Cash Flows - Three months
ended March 31, 1999 and 1998 4
Notes to Consolidated Condensed Financial Statements 5
Management's Discussion and Analysis of Financial Condition and
Results of Operations 9
Part II - Other Information 21
-1-
PART I. FINANCIAL INFORMATION
BAKER HUGHES INCORPORATED
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(In millions, except per share amounts)
(Unaudited)
Three Months Ended
March 31,
1999 1998
--------- ---------
Revenues $ 1,325.2 $ 1,648.1
--------- ---------
Costs and expenses:
Costs of revenues 1,035.9 1,243.0
Selling, general and administrative 186.2 201.7
--------- ---------
Total costs and expenses 1,222.1 1,444.7
--------- ---------
Operating income 103.1 203.4
Interest expense (41.0) (30.9)
Interest income 3.6 1.6
--------- ---------
Income before income taxes 65.7 174.1
Income taxes (23.0) (61.2)
--------- ---------
Net income $ 42.7 $ 112.9
========= =========
Earnings Per Share of Common Stock:
Basic $ .13 $ .36
========= =========
Diluted $ .13 $ .35
========= =========
Cash dividends per share of common stock $ .115 $ .115
========= =========
See accompanying notes to consolidated condensed financial statements.
-2-
BAKER HUGHES INCORPORATED
CONSOLIDATED CONDENSED STATEMENTS OF FINANCIAL POSITION
(In millions)
(Unaudited)
ASSETS
March 31, December 31,
1999 1998
Current Assets: ---------- ----------
Cash and cash equivalents $ 29.1 $ 16.6
Accounts receivable, net 1,305.4 1,422.3
Inventories 1,005.2 1,065.7
Other current assets 199.9 219.9
---------- ----------
Total current assets 2,539.6 2,724.5
Property, net 2,264.9 2,292.3
Goodwill and other intangibles, net 1,885.4 1,898.4
Multiclient seismic data and other assets 962.6 895.6
---------- ----------
Total assets $ 7,652.5 $ 7,810.8
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Notes payable and current portion of
long-term debt $ 42.7 $ 44.4
Accounts payable 477.5 560.5
Payroll and related expenses 222.6 284.3
Other current liabilities 315.5 420.7
---------- ----------
Total current liabilities 1,058.3 1,309.9
---------- ----------
Long-term debt 2,849.4 2,726.3
---------- ----------
Deferred income taxes 155.5 156.5
---------- ----------
Deferred revenue and other long-term liabilities 397.1 418.7
---------- ----------
Stockholders' Equity:
Common stock 327.4 327.1
Capital in excess of par value 2,934.4 2,931.8
Retained earnings 105.5 100.4
Foreign currency translation adjustment (172.4) (155.4)
Unrealized gain(loss) on securities available
for sale 1.7 (0.1)
Pension liability adjustment (4.4) (4.4)
---------- ----------
Total stockholders' equity 3,192.2 3,199.4
---------- ----------
Total liabilities and stockholders' equity $ 7,652.5 $ 7,810.8
========== ==========
See accompanying notes to consolidated condensed financial statements.
-3-
BAKER HUGHES INCORPORATED
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(In millions)
(Unaudited)
Three Months Ended
March 31,
1999 1998
-------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 42.7 $ 112.9
Adjustments to reconcile net income to net cash
flows from operating activities:
Depreciation, depletion and amortization 203.3 159.9
Provision(benefit) for deferred income taxes 10.5 (8.6)
Loss(gain) on disposal of assets 13.2 (9.1)
Change in receivables 119.4 (30.8)
Change in inventories 61.6 (85.8)
Change in accounts payable (81.5) 30.5
Changes in other assets and liabilities (221.1) 20.9
-------- --------
Net cash flows from operating activities 148.1 189.9
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Expenditures for capital assets and multiclient
seismic data (222.6) (305.8)
Proceeds from disposal of assets 5.0 20.1
Acquisition of businesses, net of cash acquired (47.5)
-------- --------
Net cash flows from investing activities (217.6) (333.2)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net borrowings (payments) from commercial paper,
revolving credit facilities and short-term debt (740.6) 185.7
Repayment of matured indebtedness (150.0) (49.3)
Net proceeds from issuance of notes 1,010.7
Proceeds from issuance of common stock 2.8 9.0
Dividends (37.6) (19.4)
-------- --------
Net cash flows from financing activities 85.3 126.0
Effect of exchange rate changes on cash (3.3) 1.2
-------- --------
Increase(decrease) in cash and cash equivalents 12.5 (16.1)
Cash and cash equivalents, beginning of period 16.6 41.9
-------- --------
Cash and cash equivalents, end of period $ 29.1 $ 25.8
======== ========
Income taxes paid $ 35.5 $ 58.1
Interest paid $ 29.8 $ 22.7
See accompanying notes to consolidated condensed financial statements.
-4-
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 March 31, 1999, its consolidated results of operations for the three
months ended March 31, 1999 and 1998 and its consolidated cash flows for
the three months ended March 31, 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 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 months
ended March 31, 1999 are not necessarily indicative of the results to be
expected for the full year. 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:
Three Months Ended
March 31,
1999 1998
--------- ---------
Net income $ 42.7 $ 112.9
Other comprehensive income(loss) (15.2) (5.3)
--------- ---------
Total comprehensive income $ 27.5 $ 107.6
========= =========
-5-
BAKER HUGHES INCORPORATED
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS CONTINUED
Note 2. Inventories
Inventories are comprised of the following:
March 31, December 31,
1999 1998
----------- ------------
Finished goods $ 810.0 $ 855.2
Work in process 82.0 83.2
Raw materials 113.2 127.3
---------- -----------
Total $ 1,005.2 $ 1,065.7
========== ===========
Note 3. Earnings per Share ("EPS")
Reconciliation of the numerators and denominators of the basic and
diluted EPS computations is as follows:
Three Months Ended Three Months Ended
March 31, 1999 March 31, 1998
Income Shares Income Shares
------- ------ ------- ------
Basic $ 42.7 327.2 $ 112.9 317.2
Effect of dilutive securities:
Stock plans .3 4.9
Liquid Yield Option Notes 1.7 7.2
------ ------ ------- -----
Diluted $ 42.7 327.5 $ 114.6 329.3
====== ====== ======= =====
Securities excluded from the computation of diluted EPS for the three
months ended March 31, 1999 that could potentially dilute basic EPS in the
future were options to purchase 13.0 million shares, Liquid Yield Option
Notes convertible into 7.2 million shares and .7 million shares estimated
to be issued under the Company's employee stock purchase plan. Such
dilutive 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
-6-
BAKER HUGHES INCORPORATED
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS CONTINUED
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.
Oilfield Process Other Total
-------- -------- -------- --------
Revenues
- --------
Three months ended March 31, 1999 $1,214.5 $ 110.7 -- $1,325.2
Three months ended March 31, 1998 $1,517.2 $ 123.3 $ 7.6 $1,648.1
Segment profit(loss)
- --------------------
Three months ended March 31, 1999 $ 127.8 $ .2 $ (62.3) $ 65.7
Three months ended March 31, 1998 $ 223.1 $ 10.0 $ (59.0) $ 174.1
Total assets
- ------------
As of March 31, 1999 $6,814.0 $ 426.0 $ 412.5 $7,652.5
As of December 31, 1998 $6,969.2 $ 425.4 $ 416.2 $7,810.8
-7-
BAKER HUGHES INCORPORATED
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS CONTINUED
The following table presents the details of "Other" segment profit(loss):
Three Months Ended
March 31,
1999 1998
--------- ---------
Corporate expenses $ (24.9) $ (29.5)
Interest expense-net (37.4) (29.3)
Other (.2)
--------- ---------
Total $ (62.3) $ (59.0)
========= =========
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 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-
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.
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."
-9-
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
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.
-10-
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
Oil and Gas Prices
Three months ended March 31, 1999 1998
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West Texas Intermediate Crude ($/bbl) 12.95 15.90
U. S. Spot Natural Gas ($/mcf) 1.71 2.06
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
Three months ended March 31, 1999 1998
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U.S. - Land 448 830
U.S. - Offshore 103 136
Canada 290 459
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North America 841 1,425
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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
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.
-11-
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
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.
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.
-12-
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
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:
Paid in the Accrued
Paid in March 1999 Balance at
Total 1998 Quarter March 31, 1999
------- ------- --------- --------------
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
======= ======= ========= ==============
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:
Paid in the Accrued
Paid in March 1999 Balance at
Total 1998 Quarter March 31, 1999
------- ------- --------- --------------
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
======= ======= ========= ==============
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.
-13-
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
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.
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.
-14-
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
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
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.
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
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.
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.
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
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
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.
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
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.
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
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
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.
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.
EURO CONVERSION
A single European currency ("the Euro") was introduced on January 1,
1999, at which time the conversion rates between 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.
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTINUED
Transition to the Euro creates a number of issues for the Company.
Business issues that must be addressed include pricing policies and
ensuring the continuity of business and financial contracts. Finance and
accounting issues include the conversion of accounting systems, statutory
records, tax books and payroll systems to the Euro, as well as conversion
of bank accounts and other treasury and cash management activities.
The Company is assessing and addressing these transition issues. 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.
-20-
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
None.
Item 4. Submission of Matters to a Vote of Security Holders
None.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits:
(3)(ii) Bylaws as amended on April 28, 1999
(27) Financial Data Schedule
(b) Reports on Form 8-K:
None.
-21-
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: May 14, 1999 By /s/LAWRENCE O'DONNELL, III
------------------------------------
Vice President and General Counsel
Date: May 14, 1999 By /s/JAMES W. HARRIS
------------------------------------
Vice President, Tax and Controller
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