UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2005
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____ to ____
Commission file number
1-8514
SMITH INTERNATIONAL, INC.
(Exact name of Registrant as specified in its charter)
DELAWARE 95-3822631
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification
No.)
411 NORTH SAM HOUSTON PARKWAY, SUITE 600
HOUSTON, TEXAS 77060
(Address of principal executive offices) (Zip Code)
(281) 443-3370
(Registrant's telephone number, including area code)
NOT APPLICABLE
(Former name, former address and former fiscal year, if changed since last
report)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [X] No [ ]
The number of shares outstanding of the Registrant's common stock as of August
2, 2005 was 106,179,869.
INDEX
PAGE
NO.
----
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
For the Three Months and Six Months ended June 30, 2005 and 2004 .................................. 1
CONSOLIDATED CONDENSED BALANCE SHEETS
As of June 30, 2005 and December 31, 2004 ......................................................... 2
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
For the Six Months ended June 30, 2005 and 2004 ................................................... 3
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS .............................................. 4
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS ............. 13
ITEM 3. QUALITATIVE AND QUANTITATIVE MARKET RISK DISCLOSURES .............................................. 22
ITEM 4. CONTROLS AND PROCEDURES ........................................................................... 22
PART II - OTHER INFORMATION
ITEMS 1-5 .................................................................................................. 23
ITEM 6 ..................................................................................................... 24
SIGNATURES........................................................................................................... 25
EXHIBIT INDEX ....................................................................................................... 26
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SMITH INTERNATIONAL, INC.
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
(Unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
------------------------------ -----------------------------
2005 2004 2005 2004
------------- ------------- ------------- -------------
Revenues......................................... $ 1,350,203 $ 1,064,450 $ 2,638,401 $ 2,082,238
Costs and expenses:
Costs of revenues............................. 951,065 737,082 1,853,851 1,440,868
Selling expenses.............................. 191,320 167,983 375,194 328,542
General and administrative expenses........... 52,436 76,850 105,802 122,832
------------- ------------- ------------- -------------
Total costs and expenses.................... 1,194,821 981,915 2,334,847 1,892,242
------------- ------------- ------------- -------------
Operating income................................. 155,382 82,535 303,554 189,996
Interest expense................................. 10,992 9,399 21,332 18,838
Interest income.................................. (436) (289) (804) (654)
------------- ------------- ------------- -------------
Income before income taxes and
minority interests............................ 144,826 73,425 283,026 171,812
Income tax provision............................. 46,828 23,981 91,974 55,826
Minority interests............................... 29,938 21,967 56,840 43,659
------------- ------------- ------------- -------------
Net income....................................... $ 68,060 $ 27,477 $ 134,212 $ 72,327
============= ============= ============= =============
Earnings per share:
Basic......................................... $ 0.67 $ 0.27 $ 1.32 $ 0.71
Diluted....................................... $ 0.67 $ 0.27 $ 1.31 $ 0.70
Weighted average shares outstanding:
Basic......................................... 101,107 101,580 101,298 101,325
Diluted....................................... 102,013 102,662 102,318 102,592
The accompanying notes are an integral part of these consolidated
condensed financial statements.
1
SMITH INTERNATIONAL, INC.
CONSOLIDATED CONDENSED BALANCE SHEETS
(In thousands, except par value data)
(Unaudited)
June 30, December 31,
2005 2004
------------ ------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents............................................. $ 51,609 $ 53,596
Receivables, net...................................................... 1,063,909 963,622
Inventories, net...................................................... 985,474 890,462
Deferred tax assets, net.............................................. 43,644 47,083
Prepaid expenses and other............................................ 68,188 64,869
------------ ------------
Total current assets............................................... 2,212,824 2,019,632
------------ ------------
Property, Plant and Equipment, net....................................... 585,521 576,954
Goodwill, net............................................................ 716,781 713,353
Other Intangible Assets, net............................................. 64,117 68,597
Other Assets............................................................. 142,610 128,242
------------ ------------
Total Assets............................................................. $ 3,721,853 $ 3,506,778
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Short-term borrowings and current portion of long-term debt........... $ 119,020 $ 211,375
Accounts payable...................................................... 408,547 376,782
Accrued payroll costs................................................. 78,800 89,200
Income taxes payable.................................................. 81,215 91,587
Other................................................................. 132,170 118,413
------------ ------------
Total current liabilities.......................................... 819,752 887,357
------------ ------------
Long-Term Debt........................................................... 552,303 387,798
Deferred Tax Liabilities................................................. 95,920 93,777
Other Long-Term Liabilities.............................................. 86,227 82,352
Minority Interests....................................................... 706,776 654,683
Commitments and Contingencies (Note 14)
STOCKHOLDERS' EQUITY:
Preferred stock, $1 par value; 5,000 shares authorized; no shares
issued or outstanding in 2005 or 2004.............................. - -
Common stock, $1 par value; 250,000 shares authorized
(150,000 shares authorized in 2004); 106,166 shares
issued in 2005 (105,297 shares issued in 2004).................... 106,166 105,297
Additional paid-in capital........................................... 466,401 432,395
Retained earnings.................................................... 1,071,470 961,574
Accumulated other comprehensive income............................... 8,463 24,404
Less - Treasury securities, at cost; 5,409 common shares in 2005
(4,222 common shares in 2004)...................................... (191,625) (122,859)
------------ ------------
Total stockholders' equity......................................... 1,460,875 1,400,811
------------ ------------
Total Liabilities and Stockholders' Equity............................... $ 3,721,853 $ 3,506,778
============ ============
The accompanying notes are an integral part of these consolidated condensed
financial statements.
2
SMITH INTERNATIONAL, INC.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
Six Months Ended
June 30,
----------------------------
2005 2004
------------- ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income............................................................... $ 134,212 72,327
Adjustments to reconcile net income to net cash provided by operating
activities, excluding the net effects of acquisitions:
Litigation-related charge.............................................. - 31,439
Depreciation and amortization.......................................... 56,953 53,032
Minority interests..................................................... 56,840 43,659
Deferred income tax provision (benefit)................................ 7,908 (1,841)
Provision for losses on receivables.................................... 2,059 2,546
Gain on disposal of property, plant and equipment...................... (6,919) (5,518)
Foreign currency translation losses (gains)............................ (331) 1,895
Changes in operating assets and liabilities:
Receivables............................................................ (110,156) (73,235)
Inventories............................................................ (102,152) (52,044)
Accounts payable....................................................... 35,019 (319)
Other current assets and liabilities................................... (11,894) (19,627)
Other non-current assets and liabilities............................... (16,037) 1,460
----------- -----------
Net cash provided by operating activities............................ 45,502 53,774
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisitions, net of cash acquired..................................... (4,667) (26,022)
Purchases of property, plant and equipment............................. (71,323) (48,735)
Proceeds from disposal of property, plant and equipment................ 12,982 10,584
----------- -----------
Net cash used in investing activities................................ (63,008) (64,173)
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of long-term debt............................... 122,960 64,111
Principal payments of long-term debt................................... (46,400) (62,040)
Net change in short-term borrowings.................................... (5,054) 22,375
Purchases of treasury stock............................................ (68,766) (54,026)
Proceeds from employee stock option exercises.......................... 25,754 45,048
Payment of common stock dividends...................................... (12,227) -
----------- -----------
Net cash provided by financing activities............................ 16,267 15,468
----------- -----------
Effect of exchange rate changes on cash.................................. (748) (847)
----------- -----------
Increase (decrease) in cash and cash equivalents......................... (1,987) 4,222
Cash and cash equivalents at beginning of period......................... 53,596 51,286
----------- -----------
Cash and cash equivalents at end of period............................... $ 51,609 55,508
=========== ===========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for interest................................................... $ 21,242 18,810
Cash paid for income taxes............................................... 82,754 46,823
The accompanying notes are an integral part of these consolidated condensed
financial statements.
3
SMITH INTERNATIONAL, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Unaudited)
1. BASIS OF PRESENTATION OF INTERIM FINANCIAL STATEMENTS
The accompanying unaudited consolidated condensed financial statements of Smith
International, Inc. and subsidiaries (the "Company") were prepared in accordance
with U.S. generally accepted accounting principles and applicable rules and
regulations of the Securities and Exchange Commission (the "Commission")
pertaining to interim financial information. These interim financial statements
do not include all information or footnote disclosures required by generally
accepted accounting principles for complete financial statements and, therefore,
should be read in conjunction with the audited financial statements and
accompanying notes included in the Company's 2004 Annual Report on Form 10-K and
other current filings with the Commission. All adjustments which are, in the
opinion of management, of a normal and recurring nature and are necessary for a
fair presentation of the interim financial statements have been included.
Preparation of financial statements in conformity with U.S. generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities, the disclosed amounts of
contingent assets and liabilities and the reported amounts of revenues and
expenses. If the underlying estimates and assumptions, upon which the financial
statements are based, change in future periods, actual amounts may differ from
those included in the accompanying consolidated condensed financial statements.
Management believes the consolidated condensed financial statements present
fairly the financial position, results of operations and cash flows of the
Company as of the dates indicated. The results of operations for the interim
periods presented may not be indicative of results for the fiscal year.
2. RECENT ACCOUNTING PRONOUNCEMENTS
From time to time, new accounting pronouncements are issued by the Financial
Accounting Standards Board ("FASB") which are adopted by the Company as of the
specified effective date. The planned adoption of Statement of Financial
Accounting Standards ("SFAS") No. 123r, "Share-Based Payment," is more fully
disclosed in Note 9. Management believes the impact of other recently issued
standards, which are not yet effective, will not have a material impact on the
Company's consolidated condensed financial statements upon adoption.
3. LITIGATION-RELATED CHARGE
During the second quarter of 2004, the Company recorded litigation-related
charges totaling $31.4 million, or $20.4 million on an after-tax basis. The 2004
charge, which consisted of an estimated loss provision, legal fees and other
directly related costs, resulted from a complaint which alleged that certain of
the Company's roller cone drill bit designs infringed several of the plaintiff's
U.S. patents. In the accompanying consolidated condensed statement of operations
for the three and six months ended June 30, 2004, $28.8 million of the charges
are included in general and administrative expenses and the remainder are
recorded in costs of revenues. The current status of this legal matter is
discussed in Note 14.
4. EARNINGS PER SHARE
Basic earnings per share ("EPS") is computed using the weighted average number
of common shares outstanding during the period. Diluted EPS gives effect to the
potential dilution of earnings which could have occurred if additional shares
were issued under the treasury stock method. The following schedule reconciles
the income and shares used in the basic and diluted EPS computations (in
thousands, except per share data):
Three Months Ended June 30, Six Months Ended June 30,
--------------------------- --------------------------
2005 2004 2005 2004
----------- ---------- ----------- -----------
BASIC EPS:
Net income.................................................... $ 68,060 $ 27,477 $ 134,212 $ 72,327
=========== =========== =========== ===========
Weighted average number of common shares outstanding......... 101,107 101,580 101,298 101,325
=========== =========== =========== ===========
Basic EPS..................................................... $ 0.67 $ 0.27 $ 1.32 $ 0.71
=========== =========== =========== ===========
DILUTED EPS:
Net income.................................................... $ 68,060 $ 27,477 $ 134,212 $ 72,327
=========== =========== =========== ===========
Weighted average number of common shares outstanding.......... 101,107 101,580 101,298 101,325
Dilutive effect of stock options and restricted stock units... 906 1,082 1,020 1,267
----------- ----------- ----------- -----------
102,013 102,662 102,318 102,592
=========== =========== =========== ===========
Diluted EPS................................................... $ 0.67 $ 0.27 $ 1.31 $ 0.70
=========== =========== =========== ===========
4
5. INVENTORIES
Inventories are stated at the lower of cost or market. Cost is determined using
the average cost method for the majority of the Company's inventories; however,
certain of the Company's U.S.-based inventories are valued utilizing the
last-in, first-out ("LIFO") method. Inventory costs, consisting of materials,
labor and factory overhead, are as follows (in thousands):
June 30, December 31,
2005 2004
---------------- ----------------
Raw materials............................................................ $ 85,276 $ 78,773
Work-in-process.......................................................... 97,455 81,002
Products purchased for resale............................................ 305,036 252,486
Finished goods........................................................... 572,374 530,657
--------------- ---------------
1,060,141 942,918
Reserves to state certain U.S. inventories (FIFO cost of $394,698 and
$337,080 in 2005 and 2004, respectively) on a LIFO basis............... (74,667) (52,456)
--------------- ---------------
$ 985,474 $ 890,462
=============== ===============
During the first six months of 2005, the Company recorded additional LIFO
reserves of $22.2 million, primarily reflecting the higher costs of steel and
alloy products purchased by the Distribution segment.
6. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consist of the following (in thousands):
June 30, December 31,
2005 2004
---------------- ---------------
Land.................................................................... $ 36,524 $ 35,954
Buildings............................................................... 145,416 147,442
Machinery and equipment................................................. 562,092 555,469
Rental tools............................................................ 400,290 376,043
--------------- --------------
1,144,322 1,114,908
Less-Accumulated depreciation........................................... (558,801) (537,954)
--------------- --------------
$ 585,521 $ 576,954
=============== ==============
7. GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill
The following table presents goodwill on a segment basis as of the dates
indicated, as well as changes in the account during the period shown. Beginning
and ending goodwill balances are presented net of accumulated amortization of
$53.6 million.
Oilfield Distribution
Segment Segment Consolidated
------------ -------------- -------------
(in thousands)
Balance as of December 31, 2004...................... $ 675,582 $ 37,771 $ 713,353
Goodwill acquired.................................... 2,943 - 2,943
Purchase price and other adjustments................. 350 135 485
------------ ------------- -------------
Balance as of June 30, 2005.......................... $ 678,875 $ 37,906 $ 716,781
============ ============= =============
5
Other Intangible Assets
The Company amortizes other identifiable intangible assets on a straight-line
basis over the periods expected to be benefited, ranging from three to 27 years.
The components of these other intangible assets in the accompanying consolidated
condensed balance sheets, are as follows (in thousands):
June 30, 2005 December 31, 2004
------------------------------------- ------------------------------------
Weighted
Gross Gross Average
Carrying Accumulated Carrying Accumulated Amortization
Amount Amortization Net Amount Amortization Net Period
-------- ------------ -------- -------- ------------ -------- ------------
(years)
Patents............. $ 42,433 $ 15,726 $ 26,707 $ 42,353 $ 14,532 $ 27,821 15.6
License
agreements........ 25,439 5,677 19,762 26,044 4,420 21,624 11.5
Non-compete
agreements and
trademarks........ 20,898 10,375 10,523 20,772 8,899 11,873 13.3
Customer lists
and contracts.... 9,711 2,586 7,125 9,232 1,953 7,279 16.9
-------- -------- -------- -------- -------- -------- ----
$ 98,481 $ 34,364 $ 64,117 $ 98,401 $ 29,804 $ 68,597 14.1
======== ======== ======== ======== ======== ======== ====
Amortization expense of other intangible assets was $2.3 million for each of the
three-month periods ended June 30, 2005 and 2004, respectively, and $4.6 million
and $4.4 million for the six-month periods ended June 30, 2005 and 2004,
respectively. Additionally, estimated future amortization expense is expected to
range between $5.0 million and $8.6 million per year for the next five fiscal
years.
8. DEBT
The following summarizes the Company's outstanding debt (in thousands):
June 30, December 31,
2005 2004
-------------- --------------
Current:
Short-term borrowings............................ $ 102,642 $ 107,204
Current portion of long-term debt................ 16,378 104,171
-------------- --------------
$ 119,020 $ 211,375
============== ==============
Long-Term:
Notes, net of unamortized discounts.............. $ 393,991 $ 397,213
Revolving credit facilities...................... 168,000 80,000
Term loans and other............................. 6,690 14,756
-------------- --------------
568,681 491,969
Less current portion of long-term debt........... (16,378) (104,171)
-------------- --------------
$ 552,303 $ 387,798
============== ==============
In May 2005, the Company finalized a new $400.0 million revolving credit
facility with a syndicate of nine financial institutions. The new facility
replaced a $400.0 million agreement, which was scheduled to expire in July 2005.
The revolving credit agreement (the "Agreement") allows for the election of
interest at a base rate, or a Eurodollar rate ranging from LIBOR plus 40 to 50
basis points depending on the borrowing levels drawn under the facility. The
Agreement also requires the payment of a quarterly commitment fee of 10 basis
points on the unutilized portion of the facility and compliance with certain
customary covenants, including a 40 percent debt-to-total capitalization
limitation.
6
Principal payments of long-term debt for the twelve-month periods ending June
30, are as follows (in thousands):
2007.................................... $ 7,359
2008.................................... 157,011
2009.................................... -
2010.................................... 168,058
Thereafter.............................. 219,875
-------------
$ 552,303
=============
9. STOCK-BASED COMPENSATION
Stock Options
The Company's Board of Directors and its stockholders have authorized a
long-term incentive plan, which includes stock options. As of June 30, 2005, 2.9
million shares were issued and outstanding under the stock option program.
Options are generally granted at the fair market value on the date of grant,
vest over a four-year period and expire ten years after the date of grant.
Approximately 134,100 options awarded in 2001 were granted at a strike price
more than five percent below the market value on the date of issuance and, thus,
do not meet the conditions necessary to qualify as a non-compensatory option
grant. Compensation expense related to these grants is being recognized over the
four-year vesting period and resulted in the inclusion of $0.1 million of
related expense in the accompanying consolidated condensed statements of
operations for each of the three-month periods ended June 30, 2005 and 2004, and
$0.2 million of related expense for each of the six-month periods ended June 30,
2005 and 2004.
Until the January 1, 2006 adoption of SFAS No. 123r, the Company will continue
to apply Accounting Principles Board Opinion No. 25, "Accounting for Stock
Issued to Employees," ("APB No. 25") and related interpretations in accounting
for its stock option program. Therefore, for all options other than those
mentioned above, the Company elects to make pro forma disclosures versus
recognizing the related compensation expense in the accompanying consolidated
condensed financial statements.
Had the Company elected to apply the accounting standards of SFAS No. 123,
"Accounting for Stock-Based Compensation," the Company's net income and earnings
per share would have approximated the pro forma amounts indicated below (in
thousands, except per share data):
Three Months Ended Six Months Ended
June 30, June 30,
---------------------------- -------------------------
2005 2004 2005 2004
---------- ------------ ------------ -----------
Net income as reported.................................... $ 68,060 $ 27,477 $ 134,212 $ 72,327
Add: Stock-based compensation expense included in
reported income, net of related tax effect.......... 68 68 136 136
Less: Total pro forma compensation expense related to
stock options determined under fair value methods,
net of related tax effect........................... (2,386) (2,943) (4,716) (5,887)
--------- ----------- ----------- ----------
Net income, pro forma..................................... $ 65,742 $ 24,602 $ 129,632 $ 66,576
========= =========== =========== ==========
Earnings per share:
As reported:
Basic............................................... $ 0.67 $ 0.27 $ 1.32 $ 0.71
Diluted............................................. 0.67 0.27 1.31 0.70
Pro forma:
Basic............................................... $ 0.65 $ 0.24 $ 1.28 $ 0.66
Diluted............................................. 0.64 0.24 1.27 0.65
7
Restricted Stock
In addition to stock option awards, the Company's Board of Directors and
stockholders have approved the issuance of restricted stock and restricted stock
units under the long-term incentive plan. Restricted stock units representing
40,504 shares were issued in December 2004 with a grant date market value of
$56.26 per share. Accordingly, compensation expense related to the restricted
stock unit awards, calculated as the difference between the market value on the
date of grant and the exercise price, is being recognized ratably over the
four-year vesting period and totaled $0.2 million and $0.3 million for the three
and six-month periods ending June 30, 2005, respectively.
On April 26, 2005, stockholders of the Company approved the issuance of
performance-based restricted stock units ("performance units"). Performance
units representing approximately 148,610 shares have been granted through June
30, 2005; however, the number of shares ultimately issued will be increased or
decreased dependent upon the return on equity levels achieved by the Company. In
accordance with APB No. 25, compensation expense for the performance units will
be determined during the first quarter of 2006 when the actual number of shares
issued to participants is known. Management estimates compensation expense,
based on the stock price and projected return on equity, and recognizes this
amount over the three-year vesting period. Based on the number of shares
expected to be awarded and the current stock price, compensation expense related
to these awards equaled $0.9 million for the three and six-month periods ending
June 30, 2005.
Recent Accounting Pronouncement Related to Stock-Based Compensation
In December 2004, the FASB issued SFAS No. 123r, which replaces SFAS No. 123 and
supersedes APB No. 25. This standard, which is effective beginning January 1,
2006, addresses the financial accounting and reporting of share-based payments
to employees, including stock options and restricted stock awards. SFAS No. 123r
requires the recognition of compensation expense, which is measured based on the
grant date fair value of equity awards, generally over the vesting period of the
related award.
The adoption of SFAS No. 123r will result in the recognition of compensation
expense related to all unvested stock options. The Company currently recognizes
compensation expense for its other share-based awards; therefore, the adoption
of SFAS No. 123r will not impact the accounting for these instruments.
Although the Company continues to evaluate the standard and related transition
matters, the adoption of SFAS No. 123r is currently expected to result in the
recognition of approximately $10 million of additional compensation expense
during the year ending December 31, 2006. On an after-tax basis, the adoption of
the new standard is expected to reduce earnings by approximately $7 million.
10. STOCKHOLDERS' EQUITY
Dividend Program
The Company's Board of Directors approved a quarterly cash dividend program for
stockholders during the first quarter of 2005. The accompanying consolidated
condensed statement of cash flows for the six-month period ended June 30, 2005
reflects dividend payments made during the corresponding period.
While the Company expects distributions under the program to continue at regular
intervals, the level of future dividend payments will be at the discretion of
the Board of Directors and will depend upon the Company's financial condition,
earnings and other factors.
Common Stock Repurchases
During 2001, the Company's Board of Directors authorized a share buyback program
which allows for the repurchase of up to 5.0 million shares of common stock,
subject to regulatory issues, market considerations and other relevant factors.
During the six-month period ended June 30, 2005, the Company repurchased 1.2
million shares of common stock at an aggregate cost of $68.8 million, bringing
the total number of shares acquired under the program to 4.1 million. The
acquired shares have been added to the Company's treasury stock holdings and may
be used in the future for acquisitions or other corporate purposes. Future
repurchases under the program may be executed from time to time in the open
market or in privately negotiated transactions.
8
11. EMPLOYEE BENEFIT PLANS
The Company maintains various noncontributory defined benefit pension plans
covering certain U.S. and non-U.S. employees. In addition, the Company and
certain subsidiaries have postretirement benefit plans which provide health care
benefits to a limited number of current, and in some cases, future retirees. Net
periodic benefit expense related to the pension and postretirement benefit
plans, on a combined basis, totaled $0.8 million for each of the three-month
periods ended June 30, 2005 and 2004, and $1.6 million for each of the six-month
periods ended June 30, 2005 and 2004, respectively. Company contributions to the
pension and postretirement benefit plans during 2005 are expected to total
approximately $4.0 million.
12. COMPREHENSIVE INCOME
Comprehensive income includes net income and changes in the components of
accumulated other comprehensive income during the periods presented. The
Company's comprehensive income is as follows (in thousands):
Three Months Ended Six Months Ended
June 30, June 30,
------------------------------- -------------------------------
2005 2004 2005 2004
------------ ------------- ------------ -------------
Net income.................................... $ 68,060 $ 27,477 $ 134,212 $ 72,327
Changes in unrealized fair value of
derivatives, net............................ (2,013) (889) (2,199) (2,038)
Pension liability adjustments................. - - (476) -
Currency translation adjustments.............. (7,149) (1,475) (13,266) (2,494)
----------- ------------ ----------- ------------
Comprehensive income.......................... $ 58,898 $ 25,113 $ 118,271 $ 67,795
=========== ============ =========== ============
Accumulated other comprehensive income in the accompanying consolidated
condensed balance sheet consists of the following (in thousands):
June 30, December 31,
2005 2004
------------ ------------
Currency translation adjustments....................... $ 14,517 $ 27,783
Unrealized fair value of derivatives................... (2,331) (132)
Pension liability adjustments.......................... (3,723) (3,247)
----------- -----------
Accumulated other comprehensive income................. $ 8,463 $ 24,404
=========== ===========
9
13. INDUSTRY SEGMENTS
The Company manufactures and markets premium products and services to the oil
and gas exploration and production industry, the petrochemical industry and
other industrial markets. The Company aggregates its operations into two
reportable segments: Oilfield Products and Services and Distribution. The
Oilfield Products and Services segment consists of three business units: M-I
SWACO, Smith Technologies and Smith Services. The Distribution segment includes
the Wilson business unit. The following table presents financial information for
each reportable segment and geographical revenues on a consolidated basis (in
thousands):
Three Months Ended Six Months Ended
June 30, June 30,
-------------------------------- ---------------------------------
2005 2004 2005 2004
-------------- -------------- -------------- --------------
Revenues:
Oilfield Products and Services............ $ 969,003 $ 787,825 $ 1,879,164 $ 1,543,315
Distribution.............................. 381,200 276,625 759,237 538,923
-------------- -------------- -------------- --------------
$ 1,350,203 $ 1,064,450 $ 2,638,401 $ 2,082,238
============== ============== ============== ==============
Revenues by Area:
United States............................. $ 631,174 $ 491,572 $ 1,202,136 $ 933,733
Canada.................................... 123,298 88,396 314,956 215,945
-------------- -------------- -------------- --------------
North America..................... 754,472 579,968 1,517,092 1,149,678
-------------- -------------- -------------- --------------
Latin America ............................ 115,039 98,633 229,273 191,106
Europe/Africa ............................ 296,682 245,497 555,347 469,473
Middle East .............................. 124,266 94,542 227,706 179,803
Far East ................................. 59,744 45,810 108,983 92,178
-------------- -------------- -------------- --------------
Non-North America................. 595,731 484,482 1,121,309 932,560
-------------- -------------- -------------- --------------
$ 1,350,203 $ 1,064,450 $ 2,638,401 $ 2,082,238
============== ============== ============== ==============
Operating Income:
Oilfield Products and Services............ $ 145,876 $ 78,102 $ 283,732 $ 184,514
Distribution.............................. 14,044 6,466 27,561 9,532
General corporate......................... (4,538) (2,033) (7,739) (4,050)
-------------- -------------- -------------- --------------
$ 155,382 $ 82,535 $ 303,554 $ 189,996
============== ============== ============== ==============
14. COMMITMENTS AND CONTINGENCIES
Standby Letters of Credit and Guarantees
In the normal course of business with customers, vendors and others, the Company
is contingently liable for performance under standby letters of credit and bid,
performance and surety bonds. Certain of these outstanding instruments guarantee
payment to insurance companies with respect to certain liability coverages of
the Company's insurance captive. Excluding the impact of these instruments, for
which $17.6 million of related liabilities are reflected in the accompanying
consolidated condensed balance sheet, the Company was contingently liable for
approximately $46.8 million of standby letters of credit and bid, performance
and surety bonds at June 30, 2005. Management does not expect any material
amounts to be drawn on these instruments.
During the fourth quarter of 2004, the Company obtained a surety bond in the
amount of $43.5 million in connection with its appeal of the patent infringement
litigation discussed below. After taking into consideration amounts reflected in
the accompanying consolidated condensed balance sheet, the Company has a
contingent liability of up to $17.7 million associated with this instrument,
which includes $1.6 million of interest related to periods subsequent to June
30, 2005. Management, however, does not expect any amounts to be drawn on this
instrument.
The Company has also provided loan guarantees related to certain joint ventures
accounted for under the equity method of accounting. As the net assets and cash
flows of these entities are available to satisfy obligations as they become due,
management believes the likelihood is remote that the Company will be required
to perform under these guarantees. The Company's estimated maximum exposure
under these loan guarantees approximated $17.3 million as of June 30, 2005.
10
Litigation
Halliburton Energy Services, Inc. v. Smith International, Inc.
In September 2002, the Company was served with a complaint in the U.S. District
Court for the Eastern District of Texas, Sherman Division entitled Halliburton
Energy Services, Inc. v. Smith International, Inc. This lawsuit is a patent
infringement claim alleging that certain roller cone drill bits made by the
Company infringe several U.S. patents owned by Halliburton.
This case was tried in the second quarter of 2004, and the plaintiff was
ultimately awarded $41.1 million, which includes the original jury assessment of
$24.0 million, a subsequent award enhancement, attorney's fees and prejudgment
interest. The Company filed a notice of appeal in the fourth quarter of 2004,
and a ruling from the appellate court is not anticipated until the first quarter
of 2006.
Although an appeal of this ruling is currently underway, the Company is
continuing to pursue other options, including possible settlement of related
claims outstanding. Based on the facts and circumstances and the opinion of
outside counsel, management believes that the amounts recognized by the Company
reflect the best estimate of its potential loss exposure. In the event the
appeal is unsuccessful on all grounds, which management currently believes is
unlikely, the Company would be required to record an additional $16.1 million of
litigation-related costs associated with this matter.
Prior to the trial of the U.S. case, various infringement actions and revocation
proceedings in the U.K. were consolidated in the Patents Court of the High Court
of Justice of England and Wales. This consolidated proceeding is essentially a
U.K. counterpart to the U.S. patent action mentioned above and, as such, the
Company defended the allegations and sought to invalidate the patents involved.
In July 2005, the Patents Court rendered its opinion in the U.K. action, ruling
in favor of Smith. The judge invalidated the plaintiff's patents and awarded
Smith a specified amount of attorney's fees which will be recovered from the
plaintiff in the third quarter of 2005.
Rose Dove Egle v. John M. Egle, et al.
In April 1997, the Company acquired all of the equity interests in Tri-Tech
Fishing Services, L.L.C. ("Tri-Tech") in exchange for cash consideration of
approximately $20.4 million (the "Transaction").
In August 1998, the Company was added as a defendant in a First Amended Petition
filed in the 15th Judicial District Court, Parish of Lafayette, Louisiana
entitled Rose Dove Egle v. John M. Egle, et al. In the amended petition, the
plaintiffs alleged that, due to an improper conveyance of ownership interest by
the Tri-Tech majority partner prior to the Transaction, Smith purchased a
portion of its equity interest from individuals who were not legally entitled to
their Tri-Tech shares. The suit was tried in the first quarter of 2004, and a
jury verdict of approximately $4.8 million was rendered in favor of the
plaintiffs. The Company has initiated the appeal process and does not anticipate
a ruling from the appellate court until the first quarter of 2006. Based upon
the facts and circumstances and the opinion of outside legal counsel, management
believes that an unfavorable outcome on this matter is not probable at this
time. Accordingly, the Company has not recognized a loss provision in the
accompanying consolidated condensed financial statements.
Other
The Company is a defendant in various other legal proceedings arising in the
ordinary course of business. In the opinion of management, these matters will
not have a material adverse effect on the Company's consolidated financial
position or results of operations.
Environmental
The Company routinely establishes and reviews the adequacy of reserves for
estimated future environmental clean-up costs for properties currently or
previously operated by the Company.
In connection with most business acquisitions, the Company obtains contractual
indemnifications from the seller related to environmental matters. These
indemnifications generally provide for the reimbursement of environmental
clean-up costs incurred by the Company for events occurring or circumstances
existing prior to the purchase date, whether the event or circumstance was known
or unknown at that time. A substantial portion of the Company's total
environmental exposure is associated with its M-I SWACO operations, which are
subject to various indemnifications from former owners.
As of June 30, 2005, the Company's environmental reserve totaled $9.3 million.
This amount reflects the future undiscounted estimated exposure related to
identified properties, without regard to indemnifications from former owners.
While actual future environmental costs may differ from estimated liabilities
recorded at June 30, 2005, the Company does
11
not believe that these differences will have a material impact on the Company's
financial position or results of operations, subject to the indemnifications in
place.
During 2003, the Company took legal action against M-I SWACO's former owners to
clarify certain contractual provisions of the environmental indemnification upon
which approximately $8.3 million of remediation costs properly incurred under
the indemnification remains unpaid. This matter is expected to go to trial
during the fourth quarter of 2005. In the event that (i) M-I SWACO's former
owners and other parties to indemnification agreements with the Company do not
fulfill their obligations, and (ii) costs incurred to remediate the identified
properties reach estimated maximum exposure limits, the Company would be
required to record an additional charge of up to $23.6 million, impacting
earnings and cash flows in future periods.
15. SUBSEQUENT EVENT
On July 20, 2005, the Company's Board of Directors approved a two-for-one stock
split, effected in the form of a stock dividend. Stockholders of record as of
August 5, 2005 are entitled to the dividend, which is to be distributed on or
about August 24, 2005.
12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
GENERAL
The following "Management's Discussion and Analysis of Financial Condition and
Results of Operations" is provided to assist readers in understanding the
Company's financial performance during the periods presented and significant
trends which may impact the future performance of the Company. This discussion
should be read in conjunction with the consolidated condensed financial
statements of the Company and the related notes thereto included elsewhere in
this Form 10-Q and the Company's 2004 Annual Report on Form 10-K.
COMPANY PRODUCTS AND OPERATIONS
The Company manufactures and markets premium products and services to the oil
and gas exploration and production industry, the petrochemical industry and
other industrial markets. The Company provides a comprehensive line of
technologically-advanced products and engineering services, including drilling
and completion fluid systems, solids-control and separation equipment,
waste-management services, oilfield production chemicals, three-cone and diamond
drill bits, turbine products, fishing services, drilling tools, underreamers,
casing exit and multilateral systems, packers and liner hangers. The Company
also offers supply chain management solutions through an extensive North
American branch network providing pipe, valves and fittings as well as mill,
safety and other maintenance products.
The Company's operations are largely driven by the level of exploration and
production ("E&P") spending in major energy-producing regions around the world
and the depth and complexity of these projects. Although E&P spending is
significantly influenced by the market price of oil and natural gas, it may also
be affected by supply and demand fundamentals, finding and development costs,
decline and depletion rates, political actions and uncertainties, environmental
concerns, the financial condition of independent E&P companies and the overall
level of global economic growth and activity. In addition, approximately 10
percent of the Company's consolidated revenues relate to the downstream energy
sector, including petrochemical plants and refineries, whose spending is largely
impacted by the general condition of the U.S. economy.
Capital investment by energy companies is largely divided into two markets which
vary greatly in terms of primary business drivers and associated volatility
levels. North American drilling activity is primarily influenced by natural gas
fundamentals, with approximately 85 percent of the current rig count focused on
natural gas finding and development activities. Conversely, drilling in areas
outside of North America is more dependent on crude oil fundamentals, which
influence over three-quarters of international drilling activity. Historically,
business in markets outside of North America has proved to be less volatile as
the high cost E&P programs in these regions are generally undertaken by major
oil companies, consortiums and national oil companies as part of a longer-term
strategic development plan. Although over half of the Company's consolidated
revenues were generated in North America during the second quarter of 2005,
Smith's profitability was largely dependent upon business levels in markets
outside of North America. The Distribution segment, which accounts for
approximately 30 percent of consolidated revenues and primarily supports a North
American customer base, serves to distort the geographic revenue mix of the
Company's Oilfield segment operations. Excluding the impact of the Distribution
operations, 59 percent of the Company's second quarter 2005 revenues were
generated in markets outside of North America.
BUSINESS OUTLOOK
Near-term drilling activity will largely be influenced by the seasonal recovery
in Canada, supported by a sharp rebound in the number of land-based drilling
projects from the levels experienced in the second quarter of 2005. And,
drilling activity in markets outside of Canada should increase modestly
throughout the remainder of the year as exploration and production companies
focus on higher-reserve projects in the U.S. Gulf of Mexico, Europe/Africa and
the Middle East markets. In addition to the anticipated increase in drilling
activity and the more favorable product mix which could result from increased
drilling in the U.S. deepwater market, recently announced price increases in our
Oilfield segment businesses could also influence near-term financial results.
Tropical weather disturbances are, however, typically experienced in the Gulf of
Mexico during the third calendar quarter which influences the level of planned
drilling programs and, in certain circumstances, may result in the curtailment
of some offshore drilling operations. Although a number of factors impact
drilling activity levels, our business is highly dependent on the general
economic environment in the United States and other major world economies -
which ultimately impact energy consumption and the resulting demand for our
products and services. A significant deterioration in the global economic
environment could adversely impact worldwide drilling activity and the future
financial results of the Company.
13
FORWARD-LOOKING STATEMENTS
This document contains forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995 concerning, among other things,
the Company's outlook, financial projections and business strategies, all of
which are subject to risks, uncertainties and assumptions. These forward-looking
statements are identified by their use of terms such as "anticipate," "believe,"
"could," "estimate," "expect," "project" and similar terms. These statements are
based on certain assumptions and analyses made by the Company that it believes
are appropriate under the circumstances. Such statements are subject to, among
other things, general economic and business conditions, the level of oil and
natural gas exploration and development activities, global economic growth and
activity, political stability of oil-producing countries, finding and
development costs of operations, decline and depletion rates for oil and natural
gas wells, industry conditions, changes in laws or regulations and other risk
factors outlined in the Company's Form 10-K for the fiscal year ended December
31, 2004, many of which are beyond the control of the Company. Should one or
more of these risks or uncertainties materialize, or should the assumptions
prove incorrect, actual results may vary materially from those expected,
estimated or projected. Our management believes these forward-looking statements
are reasonable. However, you should not place undue reliance on these
forward-looking statements, which are based only on our current expectations.
Forward-looking statements speak only as of the date they are made, and we
undertake no obligation to publicly update or revise any of them in light of new
information or future events.
14
RESULTS OF OPERATIONS
Segment Discussion
The Company markets its products and services throughout the world through four
business units which are aggregated into two reportable segments. The Oilfield
Products and Services segment consists of three business units: M-I SWACO, Smith
Technologies and Smith Services. The Distribution segment includes the Wilson
business unit. The revenue discussion below has been summarized by business unit
in order to provide additional information in analyzing the Company's
operations.
Three Months Ended June 30, Six Months Ended June 30,
-------------------------------------------- ---------------------------------------------
2005 2004 2005 2004
-------------------- ---------------------- --------------------- ----------------------
Amount % Amount % Amount % Amount %
--------------- ---- --------------- ----- --------------- ----- --------------- ----
FINANCIAL DATA: (dollars in thousands)
REVENUES:
M-I SWACO........................ $ 659,971 49 $ 550,257 52 $ 1,278,517 48 $ 1,069,342 51
Smith Technologies............... 137,681 10 121,184 11 279,905 11 246,525 12
Smith Services................... 171,351 13 116,384 11 320,742 12 227,448 11
-------------- --- -------------- --- ------------- --- ------------- ---
Oilfield Products and Services 969,003 72 787,825 74 1,879,164 71 1,543,315 74
Wilson........................... 381,200 28 276,625 26 759,237 29 538,923 26
-------------- --- -------------- --- ------------- --- ------------- ---
Total....................... $ 1,350,203 100 $ 1,064,450 100 $ 2,638,401 100 $ 2,082,238 100
============== === ============== === ============= === ============= ===
GEOGRAPHIC REVENUES:
United States:
Oilfield Products and Services... $ 344,965 26 $ 277,518 26 $ 662,020 25 $ 540,527 26
Distribution..................... 286,209 21 214,054 20 540,116 21 393,206 19
-------------- --- -------------- --- ------------- --- ------------- ---
Total United States......... 631,174 47 491,572 46 1,202,136 46 933,733 45
-------------- --- -------------- --- ------------- --- ------------- ---
Canada:
Oilfield Products and Services... 49,444 4 40,296 4 136,575 5 99,114 5
Distribution..................... 73,854 5 48,100 4 178,381 7 116,831 5
-------------- --- -------------- --- ------------- --- ------------- ---
Total Canada................ 123,298 9 88,396 8 314,956 12 215,945 10
-------------- --- -------------- --- ------------- --- ------------- ---
Non-North America:
Oilfield Products and Services... 574,594 42 470,011 44 1,080,569 41 903,674 44
Distribution..................... 21,137 2 14,471 2 40,740 1 28,886 1
-------------- --- -------------- --- ------------- --- ------------- ---
Total Non-North America..... 595,731 44 484,482 46 1,121,309 42 932,560 45
-------------- --- -------------- --- ------------- --- ------------- ---
Total Revenue............ $ 1,350,203 100 $ 1,064,450 100 $ 2,638,401 100 $ 2,082,238 100
============== === ============== === ============= === ============= ===
OPERATING INCOME:
Oilfield Products and Services... $ 145,876 15 $ 78,102 10 $ 283,732 15 $ 184,514 12
Distribution..................... 14,044 4 6,466 2 27,561 4 9,532 2
General Corporate................ (4,538) * (2,033) * (7,739) * (4,050) *
-------------- --- -------------- --- ------------- --- ------------- ---
Total.................... $ 155,382 12 $ 82,535 8 $ 303,554 12 $ 189,996 9
============== === ============== === ============= === ============= ===
MARKET DATA:
AVERAGE WORLDWIDE RIG COUNT: (1)
United States.................... 1,641 53 1,387 51 1,595 50 1,347 48
Canada........................... 211 7 198 7 352 11 336 12
Non-North America................ 1,264 40 1,120 42 1,240 39 1,114 40
-------------- --- -------------- --- ------------- --- ------------- ---
Total.................... 3,116 100 2,705 100 3,187 100 2,797 100
============== === ============== === ============= === ============= ===
Onshore.......................... 2,596 83 2,242 83 2,680 84 2,331 83
Offshore......................... 520 17 463 17 507 16 466 17
-------------- --- -------------- --- ------------- --- ------------- ---
Total.................... 3,116 100 2,705 100 3,187 100 2,797 100
============== === ============== === ============= === ============= ===
AVERAGE COMMODITY PRICES:
Crude Oil ($/Bbl) (2)............ $ 53.01 $ 38.12 $ 51.36 $ 36.63
Natural Gas ($/mcf) (3).......... $ 6.68 $ 5.91 $ 6.48 $ 5.66
(1) Source: M-I SWACO.
(2) Average weekly West Texas Intermediate ("WTI") spot closing prices.
(3) Average weekly composite spot U.S. wellhead prices.
* not meaningful
15
Oilfield Products and Services Segment
Revenues
M-I SWACO primarily provides drilling and completion fluid systems, engineering
and technical services to the oil and gas industry. Additionally, these
operations provide oilfield production chemicals and manufacture and market
equipment and services used for solids-control, particle separation, pressure
control, rig instrumentation and waste-management. M-I SWACO is significantly
influenced by spending in markets outside of North America, which contributes
approximately two-thirds of the unit's revenues, and by its exposure to the U.S.
offshore market, which constitutes approximately 10 percent of the revenue base.
U.S. offshore drilling programs, which account for approximately four percent of
the worldwide rig count, are generally more revenue-intensive than land-based
projects due to the complex nature of the related drilling environment. M-I
SWACO's revenues totaled $660.0 million for the second quarter of 2005, an
increase of 20 percent above the prior year period. The majority of the revenue
increase was generated in markets outside of North America, where revenues grew
20 percent largely due to the underlying activity level increase of 13 percent.
The year-over-year improvement in non-North American revenues also reflects the
impact of new contract awards and increased customer spending, primarily in
Europe/Africa and the Middle East markets. North American revenues, which
accounted for one-third of the improvement, were 20 percent above the prior year
level as increased exploration and production spending related to land-based
drilling programs more than offset a modest reduction in U.S. offshore revenues
attributable to an unfavorable shift in customer mix in the deepwater market.
For the six-month period, M-I SWACO reported revenues of approximately $1.3
billion, a 20 percent increase over the amount reported in the first six months
of 2004. The majority of the revenue growth was reported in markets outside
North America, primarily the Middle East, North Sea and West Africa regions,
reflecting higher activity levels and, to a lesser extent, new contract awards
and increased investment by major and international exploration and production
companies.
Smith Technologies designs, manufactures and sells three-cone drill bits,
diamond drill bits and turbines for use in the oil and gas industry. Due to the
nature of its product offerings, revenues for these operations typically
correlate more closely to the rig count than any of the Company's other
businesses. Moreover, Smith Technologies has the highest North American revenue
exposure of the Oilfield segment units driven, in part, by the significance of
its Canadian operations. Accordingly, the seasonal Canadian drilling decline,
which occurs in the second quarter, adversely impacts the unit's financial
performance. Smith Technologies reported revenues of $137.7 million for the
quarter ended June 30, 2005, an increase of 14 percent over the comparable prior
year period. The year-over-year comparison was impacted by the inclusion of
several large international export orders in the second quarter of 2005.
Excluding export orders, revenues were approximately 10 percent above the level
reported in the prior year quarter, influenced by the increase in worldwide
activity levels. Approximately two-thirds of the year-over-year growth in
non-export sales was reported in markets outside North America driven by
increased customer spending in the Middle East and Latin America. North American
business volumes improved six percent as increased customer demand for diamond
drill bit products specifically designed for the North American rental market
more than offset lower unit sales of three-cone drill bits. For the six-month
period, Smith Technologies reported revenues of $279.9 million, a 14 percent
improvement over the comparable period of 2004, influenced by the increase in
worldwide activity levels. The majority of the revenue growth was generated in
North America, again, driven by increased demand for diamond drill bits and, to
a lesser extent, improved pricing.
Smith Services manufactures and markets products and services used in the oil
and gas industry for drilling, work-over, well completion and well re-entry.
Revenues for Smith Services are evenly distributed between North America and the
international markets and are heavily influenced by the complexity of drilling
projects, which drive demand for a wider range of its product offerings. For the
quarter ended June 30, 2005, Smith Services' revenues totaled $171.4 million, 47
percent above the prior year period. The year-over-year revenue growth was
influenced by a higher level of tubular product orders in the current period and
incremental revenues from acquisitions, primarily the CanFish operations
acquired in July 2004. Excluding the impact of acquisitions and tubular sales,
which are not highly correlated to drilling activity, base business revenues
were approximately 27 percent above the prior year period driven by the increase
in worldwide E&P spending levels. Two-thirds of the core business growth was
generated in non-North American markets, primarily attributable to higher
customer demand for remedial product and service lines. For the first half of
2005, Smith Services reported revenues of $320.7 million, a 41 percent increase
from the comparable prior year period. Excluding the impact of increased tubular
sales volumes, revenues were 33 percent above the level reported in the first
six months of 2004. The revenue improvement reflects higher sales across all
core product lines, driven by the general increase in global exploration and
production spending levels. Two-thirds of the revenue growth was reported in
North America, influenced by strong demand for remedial product and service
lines and, to a lesser extent, incremental revenues from acquisitions.
16
Operating Income
Operating income for the Oilfield Products and Services segment was $145.9
million, or 15.1 percent of revenues, for the three months ended June 30, 2005.
The year-over-year comparison was impacted by recognition of a $31.4 million
litigation-related charge in the second quarter of 2004. Excluding the impact of
the charge, segment operating margins were 1.2 percentage points above the prior
year period reflecting reduced operating expenses as a percentage of revenues,
partially offset by a slight deterioration in gross profit margins. Gross
margins were impacted by a combination of rising commodity costs and an
unfavorable shift in business mix from higher-margin product lines and
geographic areas to products and regions with lower comparable margins. On an
absolute dollar basis, second quarter 2005 operating income increased $36.3
million, exclusive of the prior year charge. The operating income improvement
reflects the impact of higher revenue volumes on gross profit, partially offset
by growth in variable-based operating expenses, including additional field
engineering support personnel. For the six-month period, Oilfield operating
margins improved one percentage point, exclusive of the prior year
litigation-related charge, reflecting increased coverage of fixed sales and
administrative costs as gross margins were relatively comparable
period-to-period. On an absolute dollar basis, six-month operating income was
$67.8 million above the comparable prior year period, exclusive of the charge,
attributable to the impact of higher revenue volumes on the segment's reported
gross profit, partially offset by growth in variable-based operating expenses
associated with the expanding business base.
Distribution Segment
Revenues
Wilson markets pipe, valves, fittings and mill, safety and other maintenance
products to energy and industrial markets, primarily through an extensive
network of supply branches in the United States and Canada. The segment has the
most significant North American revenue exposure of any of the Company's
operations with approximately 95 percent of Wilson's second quarter 2005
revenues generated in those markets. Moreover, approximately one-third of
Wilson's revenues relate to sales to the industrial and downstream energy
sector, including petrochemical plants and refineries, whose spending is largely
influenced by the general state of the U.S. economic environment. Additionally,
certain customers in this sector utilize petroleum products as a base material
and, accordingly, are adversely impacted by increases in crude oil and natural
gas prices. Distribution revenues were $381.2 million for the second quarter of
2005, 38 percent above the comparable prior year period. The revenue improvement
was impacted by increased demand for tubular products, sales of which were
approximately 45 percent above the amount reported in the prior year quarter.
Over two-thirds of the year-over-year revenue growth was reported by the energy
sector operations, influenced by increased North American activity levels and
new contract awards. Industrial and downstream revenues grew 28 percent above
the prior year level, benefiting from additional line pipe projects in the
engineering and construction market. In the first six months of 2005, Wilson
reported revenues totaling $759.2 million, an increase of 41 percent from the
first six months of 2004. The majority of the revenue variance from the prior
year period was generated by the upstream energy operations, reflecting higher
North American activity levels, the impact of new contract awards and, to a
lesser extent, strong demand for tubular products.
Operating Income
Operating income for the Distribution segment was $14.0 million, or 3.7 percent
of revenues, for the quarter ended June 30, 2005. Segment operating income
increased $7.6 million above the amount reported in the prior year period,
equating to incremental operating margins of seven percent. Incremental
operating income was driven by year-over-year improvement reported in the energy
sector operations attributable to increased coverage of fixed sales and
administrative costs. The lower expense ratio more than offset deterioration in
gross profit margins associated with higher tubular product costs and an
increased proportion of lower-margin project business. On a year-to-date basis,
Distribution operating margins improved 1.8 percentage points, again, reflecting
the impact of lower operating expenses as a percentage of revenues. On an
absolute dollar basis, segment operating income was $18.0 million above the
amount reported in the first half of 2004. The operating income variance
reflects the impact of higher revenue volumes on the segment's reported gross
profit, partially offset by growth in variable-based operating expenses.
17
Consolidated Results
For the periods indicated, the following table summarizes the results of
operations of the Company and presents these results as a percentage of total
revenues (dollars in thousands):
Three Months Ended June 30, Six Months Ended June 30,
------------------------------------------- --------------------------------------------
2005 2004 2005 2004
-------------------- -------------------- ---------------------- --------------------
Amount % Amount % Amount % Amount %
-------------- ----- -------------- ---- --------------- ---- --------------- ----
Revenues........................ $ 1,350,203 100 $ 1,064,450 100 $ 2,638,401 100 $ 2,082,238 100
Gross profit.................... 399,138 30 327,368 31 784,550 30 641,370 31
Operating expenses.............. 243,756 18 244,833 23 480,996 18 451,374 22
------------- --- ------------- --- ------------- --- ------------- ---
Operating income................ 155,382 12 82,535 8 303,554 12 189,996 9
Interest expense................ 10,992 1 9,399 1 21,332 1 18,838 1
Interest income................. (436) - (289) - (804) - (654) -
------------- --- ------------- --- ------------- --- ------------- ---
Income before income taxes and
minority interests........... 144,826 11 73,425 7 283,026 11 171,812 8
Income tax provision............ 46,828 4 23,981 2 91,974 4 55,826 3
Minority interests.............. 29,938 2 21,967 2 56,840 2 43,659 2
------------- --- ------------- --- ------------- --- ------------- ---
Net income...................... $ 68,060 5 $ 27,477 3 $ 134,212 5 $ 72,327 3
============= === ============= === ============= === ============= ===
Consolidated revenues were $1.4 billion for the second quarter of 2005, 27
percent above the prior year period, primarily attributable to increased demand
for Oilfield segment product offerings. Oilfield segment revenues grew 23
percent year-over-year with the majority of the increase generated in markets
outside North America, reflecting higher activity levels and, to a lesser
extent, the impact of new contract awards and additional customer spending
primarily in Europe/Africa and the Middle East regions. The Distribution
operations, influenced by a combination of strong demand for tubular products,
increased North American drilling and completion activity and new contract
awards, reported a 38 percent increase from the prior year quarter and also
contributed to the consolidated revenue improvement. For the first half of 2005,
consolidated revenues were $2.6 billion, 27 percent above the comparable 2004
period, with Oilfield segment business volumes contributing the majority of the
revenue growth. Oilfield segment revenues rose 22 percent over amounts reported
in the prior year period with the increase balanced between North American and
non-North American markets. The revenue improvement reflects higher global
activity levels and increased customer spending.
Gross profit totaled $399.1 million for the second quarter 22 percent above the
prior year period. Gross profit increased $71.8 million over the prior year
quarter, primarily reflecting higher sales volumes in the Oilfield operations
associated with improved worldwide activity levels. Gross profit margins for the
second quarter of 2005 were 30 percent of revenues, one percentage point below
the margins reported in the comparable prior year period. The gross margin
deterioration reflects an unfavorable shift in product mix, largely within the
Distribution operations, as revenues from higher-margin products and services
were replaced with increased tubular and project-related sales volumes which
carry lower comparable margins. Additionally, an increased proportion of
Distribution segment sales, which historically generate lower margins than the
Oilfield operations, also contributed to the deterioration in consolidated gross
profit margins. For the six-month period, gross profit totaled $784.6 million,
or 30 percent of revenues, one percentage point below the gross profit margins
reported in the comparable prior year period. Gross margins were, again,
impacted by an unfavorable shift in business mix. On an absolute dollar basis,
gross profit was $143.2 million above the six-month period ended June 30, 2004,
largely attributable to higher sales volumes in the Oilfield operations.
Operating expenses, consisting of selling, general and administrative expenses,
decreased $1.1 million from the prior year quarter. Operating expenses in the
prior year quarter included a $28.8 million charge consisting of an estimated
loss provision, legal fees and other costs directly associated with a patent
infringement case. Excluding the charge, operating expenses increased on an
absolute dollar basis; however, as a percentage of revenues, decreased 2.2
percentage points from the prior year quarter. Improved fixed cost coverage in
the sales and administrative functions accounted for the operating expense
percentage decline. The majority of the absolute dollar increase was
attributable to variable-related costs associated with the improved business
volumes, including investment in personnel and infrastructure to support the
expanding business operations. Compared to the first six-months of 2004,
operating expenses increased $58.4 million, exclusive of the prior year charge,
due to variable-related costs associated with the improved business volumes and,
to a lesser extent, legal fees associated with defending the patent litigation
case.
18
Net interest expense, which represents interest expense less interest income,
equaled $10.6 million in the second quarter of 2005. Net interest expense
increased $1.4 million and $2.3 million from the prior year quarter and first
six months of 2004, respectively. The variance in both periods reflects higher
average debt levels and, to a lesser extent, an increase in variable interest
rates.
The effective tax rate for the second quarter approximated 32 percent, which was
below the 33 percent effective rate reported in the prior year period and the
U.S. statutory rate. The effective tax rate was lower than the U.S. statutory
rate due to the impact of M-I SWACO's U.S. partnership earnings for which the
minority partner is directly responsible for its related income taxes. The
Company properly consolidates the pretax income related to the minority
partner's share of U.S. partnership earnings but excludes the related tax
provision. The effective rate declined from the level reported in the prior year
period, primarily attributable to a higher proportion of M-I SWACO's U.S.
partnership earnings. On a year-to-date basis, the effective tax rate of 32
percent was comparable to the rate reported in the first half of 2004.
Minority interests reflect the portion of the results of majority-owned
operations which are applicable to the minority interest partners. Minority
interests was $8.0 million and $13.2 million above amounts reported in the prior
year quarter and first half of 2005, respectively, due to the higher
profitability of the M-I SWACO joint venture and, to a lesser extent, improved
earnings reported by CE Franklin Ltd.
LIQUIDITY AND CAPITAL RESOURCES
General
At June 30, 2005, cash and cash equivalents equaled $51.6 million. During the
first six months of 2005, the Company generated $45.5 million of cash flows from
operations as compared to the $53.8 million generated in the comparable prior
year period. The continued improvement in worldwide drilling activity has
resulted in higher working capital levels, particularly the required investment
in accounts receivable and inventories, which more than offset the impact of
increased profitability levels in the first half of 2005.
During the first six months of 2005, cash flows used in investing activities
totaled $63.0 million, consisting of amounts required to fund capital
expenditures and, to a lesser extent, acquisitions. The Company invested $58.3
million in property, plant and equipment, net of cash proceeds arising from
certain asset disposals. Cash used for investing activities during the first
half of 2005 was comparable with amounts reported in the prior year period as
the higher level of capital spending in the current period, reflecting
additional investment in rental tool equipment associated with increased
drilling activity, was offset by lower acquisition funding period-to-period.
Cash flows provided by financing activities totaled $16.3 million for the first
half of 2005. Due to the higher business volumes, which impacted the required
investment in working capital, cash flows from operations were not sufficient to
fully fund non-operating activities. As a result, the Company was required to
borrow $71.5 million under existing credit facilities to fund dividend payments
and share purchases under a stock buyback program.
The Company's primary internal source of liquidity is cash flow generated from
operations. Cash flow generated by operations is primarily influenced by the
level of worldwide drilling activity, which affects profitability levels and
working capital requirements. Capacity under revolving credit agreements is also
available, if necessary, to fund operating or investing activities. As of June
30, 2005, the Company had $168.0 million drawn and $4.5 million of letters of
credit issued under the facility, resulting in $227.5 million of capacity
available under its U.S revolving credit facilities for future operating or
investing needs. The Company also has revolving credit facilities in place
outside of the United States, which are generally used to finance local
operating needs. At June 30, 2005, the Company had available borrowing capacity
of $67.5 million under the non-U.S. borrowing facilities.
The Company's external sources of liquidity include debt and equity financing in
the public capital markets, if needed. The Company carries an investment-grade
credit rating with recognized rating agencies, generally providing the Company
with access to debt markets. The Company's overall borrowing capacity is, in
part, dependent on maintaining compliance with financial covenants under the
various credit agreements. As of June 30, 2005, the Company was well within the
covenant compliance thresholds under its various loan indentures, as amended,
providing the ability to access available borrowing capacity. Management
believes funds generated by operations, amounts available under existing credit
facilities and external sources of liquidity will be sufficient to finance
capital expenditures and working capital needs of the existing operations for
the foreseeable future.
19
During the first quarter of 2005, the Company's Board of Directors initiated a
cash dividend program for stockholders. The projected annual payout of
approximately $49 million is expected to be funded with cash flows from
operations and, if necessary, amounts available under existing credit
facilities. The level of future dividend payments will be at the discretion of
the Company's Board of Directors and will depend upon the Company's financial
condition, earnings, cash flows, compliance with certain debt covenants and
other relevant factors.
The Company also has approximately 0.9 million shares remaining under an
authorized share buyback program. The purchase of the remaining shares under the
authorization would result in a cash outflow of approximately $65 million if
these shares were acquired as of the filing date of this Form 10-Q. This amount,
if necessary, would be funded with cash flows from operations or amounts
available under existing credit facilities.
Management continues to evaluate opportunities to acquire products or businesses
complementary to the Company's operations. Additional acquisitions, if they
arise, may involve the use of cash or, depending upon the size and terms of the
acquisition, may require debt or equity financing.
COMMITMENTS AND CONTINGENCIES
Standby Letters of Credit and Guarantees
In the normal course of business with customers, vendors and others, the Company
is contingently liable for performance under standby letters of credit and bid,
performance and surety bonds. Certain of these outstanding instruments guarantee
payment to insurance companies with respect to certain liability coverages of
the Company's insurance captive. Excluding the impact of these instruments, for
which $17.6 million of related liabilities are reflected in the accompanying
consolidated condensed balance sheet, the Company was contingently liable for
approximately $46.8 million of standby letters of credit and bid, performance
and surety bonds at June 30, 2005. Management does not expect any material
amounts to be drawn on these instruments.
During the fourth quarter of 2004, the Company obtained a surety bond in the
amount of $43.5 million in connection with its appeal of the patent infringement
litigation discussed below. After taking into consideration amounts reflected in
the accompanying consolidated condensed balance sheet, the Company has a
contingent liability of up to $17.7 million associated with this instrument,
which includes $1.6 million of interest related to periods subsequent to June
30, 2005. Management, however, does not expect any amounts to be drawn on this
instrument.
The Company has also provided loan guarantees related to certain joint ventures
accounted for under the equity method of accounting. As the net assets and cash
flows of these entities are available to satisfy obligations as they become due,
management believes the likelihood is remote that the Company will be required
to perform under these guarantees. The Company's estimated maximum exposure
under these loan guarantees approximated $17.3 million as of June 30, 2005.
Litigation
Halliburton Energy Services, Inc. v. Smith International, Inc.
In September 2002, the Company was served with a complaint in the U.S. District
Court for the Eastern District of Texas, Sherman Division entitled Halliburton
Energy Services, Inc. v. Smith International, Inc. This lawsuit is a patent
infringement claim alleging that certain roller cone drill bits made by the
Company infringe several U.S. patents owned by Halliburton.
This case was tried in the second quarter of 2004, and the plaintiff was
ultimately awarded $41.1 million, which includes the original jury assessment of
$24.0 million, a subsequent award enhancement, attorney's fees and prejudgment
interest. The Company filed a notice of appeal in the fourth quarter of 2004,
and a ruling from the appellate court is not anticipated until the first quarter
of 2006.
Although an appeal of this ruling is currently underway, the Company is
continuing to pursue other options, including possible settlement of related
claims outstanding. Based on the facts and circumstances and the opinion of
outside counsel, management believes that the amounts recognized by the Company
reflect the best estimate of its potential loss exposure. In the event the
appeal is unsuccessful on all grounds, which management currently believes is
unlikely, the Company would be required to record an additional $16.1 million of
litigation-related costs associated with this matter.
20
Prior to the trial of the U.S. case, various infringement actions and revocation
proceedings in the U.K. were consolidated in the Patents Court of the High Court
of Justice of England and Wales. This consolidated proceeding is essentially a
U.K. counterpart to the U.S. patent action mentioned above and, as such, the
Company defended the allegations and sought to invalidate the patents involved.
In July 2005, the Patents Court rendered its opinion in the U.K. action, ruling
in favor of Smith. The judge invalidated the plaintiff's patents and awarded
Smith a specified amount of attorney's fees which will be recovered from the
plaintiff in the third quarter of 2005.
Rose Dove Egle v. John M. Egle, et al.
In April 1997, the Company acquired all of the equity interests in Tri-Tech
Fishing Services, L.L.C. ("Tri-Tech") in exchange for cash consideration of
approximately $20.4 million (the "Transaction").
In August 1998, the Company was added as a defendant in a First Amended Petition
filed in the 15th Judicial District Court, Parish of Lafayette, Louisiana
entitled Rose Dove Egle v. John M. Egle, et al. In the amended petition, the
plaintiffs alleged that, due to an improper conveyance of ownership interest by
the Tri-Tech majority partner prior to the Transaction, Smith purchased a
portion of its equity interest from individuals who were not legally entitled to
their Tri-Tech shares. The suit was tried in the first quarter of 2004, and a
jury verdict of approximately $4.8 million was rendered in favor of the
plaintiffs. The Company has initiated the appeal process and does not anticipate
a ruling from the appellate court until the first quarter of 2006. Based upon
the facts and circumstances and the opinion of outside legal counsel, management
believes that an unfavorable outcome on this matter is not probable at this
time. Accordingly, the Company has not recognized a loss provision in the
accompanying consolidated condensed financial statements.
Other
The Company is a defendant in various other legal proceedings arising in the
ordinary course of business. In the opinion of management, these matters will
not have a material adverse effect on the Company's consolidated financial
position or results of operations.
Environmental
The Company routinely establishes and reviews the adequacy of reserves for
estimated future environmental clean-up costs for properties currently or
previously operated by the Company.
In connection with most business acquisitions, the Company obtains contractual
indemnifications from the seller related to environmental matters. These
indemnifications generally provide for the reimbursement of environmental
clean-up costs incurred by the Company for events occurring or circumstances
existing prior to the purchase date, whether the event or circumstance was known
or unknown at that time. A substantial portion of the Company's total
environmental exposure is associated with its M-I SWACO operations, which are
subject to various indemnifications from former owners.
As of June 30, 2005, the Company's environmental reserve totaled $9.3 million.
This amount reflects the future undiscounted estimated exposure related to
identified properties, without regard to indemnifications from former owners.
While actual future environmental costs may differ from estimated liabilities
recorded at June 30, 2005, the Company does not believe that these differences
will have a material impact on the Company's financial position or results of
operations, subject to the indemnifications in place.
During 2003, the Company took legal action against M-I SWACO's former owners to
clarify certain contractual provisions of the environmental indemnification upon
which approximately $8.3 million of remediation costs properly incurred under
the indemnification remains unpaid. This matter is expected to go to trial
during the fourth quarter of 2005. In the event that (i) M-I SWACO's former
owners and other parties to indemnification agreements with the Company do not
fulfill their obligations, and (ii) costs incurred to remediate the identified
properties reach estimated maximum exposure limits, the Company would be
required to record an additional charge of up to $23.6 million, impacting
earnings and cash flows in future periods.
21
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The discussion and analysis of financial condition and results of operations are
based upon the Company's consolidated condensed financial statements, which have
been prepared in accordance with accounting principles generally accepted in the
United States. The preparation of these financial statements requires the
Company to make estimates and judgments that affect the reported amounts of
assets, liabilities, revenues and expenses, and related disclosure of contingent
assets and liabilities. The Company evaluates its estimates on an ongoing basis,
based on historical experience and on various other assumptions that are
believed to be reasonable under the circumstances. Actual results may differ
from these estimates under different assumptions or conditions. In its 2004
Annual Report on Form 10-K, the Company has described the critical accounting
policies that require management's most significant judgments and estimates.
There have been no material changes in these critical accounting policies.
RECENT ACCOUNTING PRONOUNCEMENTS
In December 2004, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 123r, "Share-Based
Payment" ("SFAS No. 123r"), which replaces SFAS No. 123 "Accounting for
Stock-Based Compensation," and supersedes Accounting Principles Board Opinion
No. 25 "Accounting for Stock Issued to Employees." This standard, which is
effective beginning January 1, 2006, addresses the financial accounting and
reporting of share-based payments to employees, including stock options and
restricted stock awards. SFAS No. 123r requires the recognition of compensation
expense, which is measured based on the grant date fair value of equity awards,
generally over the vesting period of the related award.
The adoption of SFAS No. 123r will result in the recognition of compensation
expense related to all unvested stock options. The Company currently recognizes
compensation expense for its other share-based awards; therefore, the adoption
of SFAS No. 123r will not impact the accounting for these instruments.
Although the Company continues to evaluate the standard and related transition
matters, the adoption of SFAS No. 123r is currently expected to result in the
recognition of approximately $10 million of additional compensation expense
during the year ending December 31, 2006. On an after-tax basis, the adoption of
the new standard is expected to reduce earnings by approximately $7 million.
From time to time, new accounting pronouncements are issued by the FASB which
are adopted by the Company as of the specified effective date. Unless otherwise
discussed, management believes the impact of recently issued standards, which
are not yet effective, will not have a material impact on the Company's
consolidated condensed financial statements upon adoption.
ITEM 3. QUALITATIVE AND QUANTITATIVE MARKET RISK DISCLOSURES
The Company is exposed to certain market risks arising from transactions that
are entered into in the normal course of business which are primarily related to
interest rate changes and fluctuations in foreign exchange rates. During the
reporting period, no events or transactions have occurred which would materially
change the information disclosed in the Company's 2004 Annual Report on Form
10-K.
ITEM 4. CONTROLS AND PROCEDURES
The Company maintains disclosure controls and procedures designed to provide
reasonable assurances that information required to be disclosed in our filings
under the Securities Exchange Act of 1934 is recorded, processed, summarized and
reported within the time frame specified in the Commission's rules and
regulations. Our principal executive and financial officers have evaluated our
disclosure controls and procedures and have determined that such disclosure
controls and procedures are effective as of the end of the period covered by
this report.
There has been no change in the Company's internal control over financial
reporting during the quarter ended June 30, 2005 that has materially affected,
or is reasonably likely to materially affect, the Company's internal control
over financial reporting.
22
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
During 2001, the Company's Board of Directors authorized a share buyback
program which allows for the repurchase of up to five million shares of common
stock, subject to regulatory issues, market considerations and other relevant
factors. During the second quarter of 2005, the Company repurchased 0.8 million
shares of common stock under the program at an aggregate cost of $47.7 million
bringing the total number of shares acquired under the program to 4.1 million.
The acquired shares have been added to the Company's treasury stock holdings and
may be used in the future for acquisitions or other corporate purposes.
A summary of the Company's repurchase activity for the three months ended
June 30, 2005 is as follows:
Total Total Number of
Number of Average Shares Purchased as Number of Shares that
Shares Price Paid Part of Publicly May Yet Be Purchased
Period Purchased per Share Announced Program Under the Program
------------------ ----------- ------------ ------------------- ---------------------
April 1 - April 30 127,600 $ 58.34 127,600 1,646,300
May 1 - May 31 712,700 56.51 712,700 933,600
June 1 - June 30 - - - 933,600
------- ------------ ------- ---------
2nd Quarter 2005 840,300 $ 56.79 840,300 933,600
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
At the Annual Meeting of Stockholders on April 26, 2005, stockholders of
the Company elected all nominated directors, approved an amendment to the
Company's Restated Certificate of Incorporation, approved the Smith
International, Inc. Long-Term Incentive Compensation Plan as amended and
restated, and ratified Deloitte & Touche LLP as auditors for 2005 by the votes
shown below.
For Withheld
---------- ----------
Election of Directors:
G. Clyde Buck................................. 87,724,825 6,225,967
Loren K. Carroll.............................. 89,844,096 4,106,696
Dod A. Fraser................................. 91,162,868 2,787,924
For Against Abstain
---------- ---------- -------
Approval of an amendment to the Smith International,
Inc. Restated Certificate of Incorporation to
increase the number of authorized shares of
common stock to 250,000,000................... 88,667,491 5,249,099 34,202
Approval of the Smith International, Inc.
Long-Term Incentive Compensation Plan......... 83,166,856 4,251,939 50,068
Ratification of Deloitte & Touche LLP as
auditors for the Company for 2005............. 93,818,469 102,089 30,234
ITEM 5. OTHER INFORMATION
None.
23
ITEM 6. EXHIBITS
Exhibits designated with an "*" are filed, and with an "**" furnished, as an
exhibit to this Quarterly Report on Form 10-Q. Exhibits designated with a "+"
are identified as management contracts or compensatory plans or arrangements.
Exhibits previously filed, as indicated below, are incorporated by reference.
3.1 Restated Certificate of Incorporation of the Company as amended
by Certificate of Amendment of Articles of Incorporation of the
Company, dated as of July 8, 1987, and Certificate of Amendment
to Restated Certificate of Incorporation of the Company, dated
November 17, 1987. Filed as Exhibit 3.1 to the Company's report
on Form 10-K for the year ended December 31, 1993 and
incorporated herein by reference.
3.2 Certificate of Amendment to Restated Certificate of Incorporation
of the Company, dated May 23, 2001. Filed as Exhibit 3.2 to the
Company's Registration Statement on Form S-8 dated July 26, 2001
and incorporated herein by reference.
3.3* Certificate of Amendment to Restated Certificate of Incorporation
of the Company, dated April 27, 2005.
3.4* Restated Certificate of Incorporation of the Company, dated July
26, 2005.
3.5 Restated Bylaws of the Company. Filed as Exhibit 3.3 to the
Company's report on Form 10-K for the year ended December 31,
2004 and incorporated herein by reference.
10.1+ Change-of-Control Employment Agreement dated May 15, 2005 between
the Company and Michael Pearce. Filed as Exhibit 10.1 to the
Company's report on Form 8-K dated May 15, 2005 and incorporated
herein by reference.
10.2+ Smith International, Inc. 1989 Long-Term Incentive Compensation
Plan as amended and restated effective January 1, 2005. Filed as
Exhibit 10.1 to the Company's report on Form 8-K dated April 26,
2005 and incorporated herein by reference.
10.3*+ First Amendment to the Smith International, Inc. 1989 Long-Term
Incentive Compensation Plan as amended and restated effective
January 1, 2005, dated June 16, 2005.
10.4+ 1989 Long-Term Incentive Compensation Plan Form of
Performance-Based Restricted Stock Agreement. Filed as Exhibit
10.2 to the Company's report on Form 8-K dated April 26, 2005 and
incorporated herein by reference.
10.5+ Director Compensation Summary of Smith International, Inc. Filed
as Exhibit 10.1 to the Company's report on Form 8-K dated April
20, 2005 and incorporated herein by reference.
10.6+ Smith International, Inc. Stock Plan for Outside Directors, as
amended and restated effective January 1, 2005. Filed as Exhibit
10.2 to the Company report on Form 8-K dated April 20, 2005 and
incorporated herein by reference.
31.1* Certification of Chief Executive Officer pursuant to Rule 13a-14
or 15d-14 of the Securities Exchange Act of 1934, as adopted
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2* Certification of Chief Financial Officer pursuant to Rule 13a-14
or 15d-14 of the Securities Exchange Act of 1934, as adopted
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1** Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
24
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SMITH INTERNATIONAL, INC.
Registrant
Date: August 9, 2005 By: /s/ Doug Rock
---------------------------------------
Doug Rock
Chairman of the Board, Chief Executive
Officer,
President and Chief Operating Officer
(principal executive officer)
Date: August 9, 2005 By: /s/ Margaret K. Dorman
---------------------------------------
Margaret K. Dorman
Senior Vice President,
Chief Financial Officer and Treasurer
(principal financial and accounting
officer)
25
EXHIBIT INDEX
Exhibits designated with an "*" are filed, and with an "**" furnished, as an
exhibit to this Quarterly Report on Form 10-Q. Exhibits designated with a "+"
are identified as management contracts or compensatory plans or arrangements.
Exhibits previously filed, as indicated below, are incorporated by reference.
Exhibit
Number Description
3.1 Restated Certificate of Incorporation of the Company as amended by
Certificate of Amendment of Articles of Incorporation of the
Company, dated as of July 8, 1987, and Certificate of Amendment to
Restated Certificate of Incorporation of the Company, dated November
17, 1987. Filed as Exhibit 3.1 to the Company's report on Form 10-K
for the year ended December 31, 1993 and incorporated herein by
reference.
3.2 Certificate of Amendment to Restated Certificate of Incorporation of
the Company, dated May 23, 2001. Filed as Exhibit 3.2 to the
Company's Registration Statement on Form S-8 dated July 26, 2001 and
incorporated herein by reference.
3.3* Certificate of Amendment to Restated Certificate of Incorporation of
the Company, dated April 27, 2005.
3.4* Restated Certificate of Incorporation of the Company, dated July 26,
2005.
3.5 Restated Bylaws of the Company. Filed as Exhibit 3.3 to the
Company's report on Form 10-K for the year ended December 31, 2004
and incorporated herein by reference.
10.1+ Change-of-Control Employment Agreement dated May 15, 2005 between
the Company and Michael Pearce. Filed as Exhibit 10.1 to the
Company's report on Form 8-K dated May 15, 2005 and incorporated
herein by reference.
10.2+ Smith International, Inc. 1989 Long-Term Incentive Compensation Plan
as amended and restated effective January 1, 2005. Filed as Exhibit
10.1 to the Company's report on Form 8-K dated April 26, 2005 and
incorporated herein by reference.
10.3*+ First Amendment to the Smith International, Inc. 1989 Long-Term
Incentive Compensation Plan as amended and restated effective
January 1, 2005, dated June 16, 2005.
10.4+ 1989 Long-Term Incentive Compensation Plan Form of Performance-Based
Restricted Stock Agreement. Filed as Exhibit 10.2 to the Company's
report on Form 8-K dated April 26, 2005 and incorporated herein by
reference.
10.5+ Director Compensation Summary of Smith International, Inc. Filed as
Exhibit 10.1 to the Company's report on Form 8-K dated April 20,
2005 and incorporated herein by reference.
10.6+ Smith International, Inc. Stock Plan for Outside Directors, as
amended and restated effective January 1, 2005. Filed as Exhibit
10.2 to the Company report on Form 8-K dated April 20, 2005 and
incorporated herein by reference.
31.1* Certification of Chief Executive Officer pursuant to Rule 13a-14 or
15d-14 of the Securities Exchange Act of 1934, as adopted pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2* Certification of Chief Financial Officer pursuant to Rule 13a-14 or
15d-14 of the Securities Exchange Act of 1934, as adopted pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1** Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
26